Wiley IAS 2003: interpretation and application of International Accounting Standards 9780471227366, 0-471-22736-6

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W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

Ba ck Cove r W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I nternational Account dsAccou ( I AS—with I ning t er Standar n at ion al n t in gfutur St anedpr aronou ds ncem ent s to be k nown as Int er nat ion al Financial Report ing Standar ds, or IFRS) ar e r eceiv ing m ore at tention than ev er , hav ing now been endor sed by the ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali I nternational Or ganizat ion of Securit ies Com m issions ( IOSCO) and, m ost r ecently , by the European Union. The Mir za EU will r equir e th at listed com panies thr oughout th e Eur opean Union apply IAS, inst ead of previously John Wi ley standar & Sons ds, © 2003 (952 pages) employed nat ional accounting by 20 05, for consol idated fin ancial r epor ting purposes ( and since com parativ e financials e r equir ally need o -begin this ex er cise in 2003, as a pr act ical Thisarcom pact ed, andusers t ruly will comgener pr ehensive qui tck refer ence m at ter ) . These two pr evesent ents—coupled with with th e growing of nations eit her for m ally adopting IAS or basing s account ants a guide list to depend on for national standar ds on them , and withprepar the evaterion - expanding oup of maj or inter nat ional com pani es choosing t o assistance in the and undergrstanding of financial r eport on t hat basi sstatements of account ing—will likely pr ovide t hewith im pet us necessar y t o catapult IAS into tr uly global present ed in accordance I AS. use and acceptance. T ab le of Con t en t s Wiley is t heercompact, uly com prehensiv e quick- r efer ence ing guide that accountants can depend WileyI IAS AS20 2003 03—Int pretation yet andtrApplication of I nternational Account on to assist Standar ds in t he pr eparation and understanding of financial statem ents presented in accor dan ce with I AS. This new edit ion includes com plete cov er age of all the st andards issues or revised by the Int er nat ional Preface Accounting St andards Com m ittee un der t he I OSCO’s “ core set of st andards” progr am , as well as ot her ex tant 1 - IIn ntraddit oduction nter national Accounting Standar r Chapter equir em ents. ion, tto heI book offer s indept h cov er age ofds th e latest changes proposed by the newly con st ituted er nat ion Sheet al Accounting St andards Board’s “ im prov em ent s pr oject,” some of which will likely Chapter 2 Int - Balance becom e effectiv e by t he end of 2003. I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of Recognized Gains and Losses Mor e than ev er befor e, every accountant or cor porate financial official inv olv ed in—or Chapter 4 - Cash Flow St atinem ent con tem plating—r egistr at ion foreign secur ities m ar k ets now needs t he guidance offered i n t his book. Wr itten by a team5 of -prFinancial acticing CPAs wit h in- depth int er Receiv nat ional ex per ience in apply ing IAS, this guide includes Chapter I nstr uments—Cash and ables mChapter eaningful wor ld ex 6 real- I nventor y am ples an d int er pretiv e insights into the requirem ent s of all cur rent, and pr oposed, I AS. Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s Chapter 8 date - Property Plant , and Equipment This up- t oedition , covers im por tant, com plex r equir em ents addr essed by r ecent I AS, i ncluding: Chapter 9 - I ntangi ble Asset s nterests in Financial InstrSheet um entDate s, Associat es, Joint Ventur es, and I AS10 10,- IEv ents After t he Balance Chapter I nvestm ent Pr oper ty I AS11 33,- Business Ear nings Combinations Per Shar e Chapter and Consolidat ed Fin ancial Statements Liabilit ies,Repor Prov isions, Cont ingencies, and Ev ents after t he I AS12 34,- Curr I nterent im Financial ting Chapter Balance Sheet Date I AS13 35,- Financial Discont inuing Operations Chapter I nstr uments—LongTer m Debt Chapter I AS14 36,Chapter 15 I AS 37, Chapter 16 I AS17 38,Chapter

Leases I m pair m ent of Asset s I ncom e Taxes Pr ovisions, Contingent Liabilit ies, and Contingent Asset s Em ploy ee Benefit s I ntangible Stock holderAssets s' Equit y

Chapter I AS18 40,Chapter 19 I AS 41, Chapter 20 I AS21 32,Chapter

Earnings PerProper Sharety I nv estm ent I nterim Financial Repor ting Agri cult ure Segm ent Repor ting Finan cial Inst rum en ts: Disclosur e and Accounting Changes and Cor rection of Pr Eresentation ror s

Chapter eign I AS22 39,- For Finan cialCurr Instency rum en ts: Recognition and Measurement Chapter 23 - Related- Part y Disclosures I AS 39 I m plem entat ion Guidance: Questions and Answers Chapter 24 - Specialized I ndustr ies Chapter 25 - I ex nflation and New for 2003: panded ex Hyperinflation am ples of financial statements prepar ed under I AS, with extensive infor m at ive disclosur a er com e compari son of I AS to bot h U.S. GAAP and U.K. GAAP r equirem ents. Also Chapter es, 26 and - Gov nmprehensiv ent Gr an ts included ehensive, updated disclosure checkl ist . Appendixis Aa -compr Di sclosure Checklist Appendix B - I llustrativ e Financial St atem entAbo s Pr esent Under I AS u t t h ed e Au t h or s Appendix C - Com parison of I AS, US GAAP, and UK GAAP Bar ry J. Espstein, Ph.D., CPA, is a Par tner at Gleeson, Sk lar, Sawy er s & Cum pata LLP, Chicago, I llinois. I ndex List of Tables Abbas Ali Mir za, ACA, AI CWA, CPA, is a Part ner at Deloit te & Touche, Dubai, United Ar ab Em ir ates. List of Ex hibits and Ex am ples List of Sidebar s

y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Wiley IASWI nile 2003—Interpretation and Application of t er n at ion al Accou n t in g St an d ar ds ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali International Accounting Standards Mir za

Barry J. EpsteinJohn Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence

Abbas Ali Mirza pr esent s account ants with a guide to depend on for

assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation JOHN WILEY & SONS, INC. and Application of I nternational Account ing Standar ds Preface Portions of this book have their origins in copyrighted materials from the International Accounting Chapter 1 -Board. I ntr oduction I nter national Accounting Standar ds pronouncements, except for certain of Standards Thesetoare noted by reference to the specific Chapter the definitions 2 - Balance introduced Sheet in bold type, which appear in a separate section at the beginning of each

chapter. Complete of theStat international standards are available from ent the IASB. Copyright © I ncom ecopies Statement, em ent of Chan ges in Equit y, and Statem RecognizedStandards Gains and Board, Losses 30 Cannon Street, London EC4M 6XH, United Kingdom. InternationalofAccounting

Chapter 3 Chapter 4

- Cash Flow St at em ent Copyright 2003 by IJohn Wiley & Sons,and Inc.Receiv Hoboken, Chapter 5 © - Financial nstr uments—Cash ables New Jersey. Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s All rights reserved.

Chapter 8

- Property , Plant , and Equipment

Chapter Published 9 -simultaneously I ntangi ble Asset insCanada. I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter No part10 of -this publication maytybe reproduced, stored in a retrieval system, or transmitted in any form or I nvestm ent Pr oper

by any 11 means, electronic, mechanical, recording, scanning, or otherwise, except as Chapter - Business Combinations and photocopying, Consolidat ed Fin ancial Statements permitted under Section 107 108isions, of theCont 1976 United States Curr ent Liabilit ies,orProv ingencies, and EvCopyright ents after Act, t he without either the prior written permission the Publisher, or authorization through payment of the appropriate per-copy fee to BalanceofSheet Date the Copyright Clearance 222 Rosewood Drive, Danvers, MA 01923, (978)750-8400, fax Chapter 13 - Financial I nstrCenter, uments—LongTer m Debt (978)750-4470. Requests to the Publisher for permission should be addressed to the Permissions Chapter 14 - Leases Department, John eWiley Chapter 15 - I ncom Taxes& Sons, Inc. Chapter 12 -

Chapter 16 - Em ploy ee Benefit s

Limit of Liability/Disclaimer of Warranty: While the publisher and author have used their best efforts in preparing this book, they make no representations or warranties with respect to the accuracy or Chapter 18 - Earnings Per Shareof this book and specifically disclaim any implies warranties of completeness of the contents Chapter 19 - I nterim Financial Repor ting purpose. No warranty may be created or extended by sales merchantability or fitness for a particular Chapter 20 - Segm Reporsales ting materials. The advice and strategies contained herein may not be representatives orent written Chapter Accounting Changes and Cor rectionwith of Eraror s suitable21for- your situation. You should consult professional where appropriate. Neither the Chapter 22 nor - For eign Curr ency publisher author shall be liable for any loss of profit or any other commercial damages, including but Chapter not limited 23 -toRelatedspecial,Part incidental, y Disclosures consequential, or other damages. Chapter 17 - Stock holder s' Equit y

Chapter 24 - Specialized I ndustr ies

For general information on our other products and services, please contact our Customer Care Department within the US at 800-762-2974, outside the US at 317-572- 3993 or fax 317-572-4002.

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Appendix A -publishes Di sclosureitsChecklist Wiley also books in a variety of electronic formats. Some content that appears in print may Appendix B I llustrativ e Financial St atem ent s Pr esent ed Under I AS not be available in electronic books. Appendix C - Com parison of I AS, US GAAP, and UK GAAP ISBN 0-471-22736-6 I ndex

Printed in the United States of America List of Tables List of Ex hibits and Ex am ples

10 9 8 7 6 5 4 3 2 1

List of Sidebar s

ABOUT THE AUTHORS Barry J. Epstein, PhD, CPA, has served in senior technical positions with several regional and national CPA firms over the past twenty-seven years, after earlier stints as a corporate finance officer and a college professor. He is currently a partner with Chicago-based Gleeson, Sklar, Sawyers & Cumpata, LLP, where he specializes in accounting and auditing technical consultation and corporate governance advisory and litigation consulting services. His work in the litigation field often involves accountants' malpractice defense, as well as contractual dispute resolution, and other matters in which the

application of professional standards plays a significant role. Dr. Epstein has authored or coauthored six books, including Wiley GAAP 2003, and professional W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f articles, and previously wrote a regular business column for a major newspaper. He has served on I n t er n at ion al Accou n t in g St an d ar ds numerous state and local professional and technical committees, was a member of the AICPA Board of ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Examiners for fiveMiryears, has lectured throughout the US, as well as in several other nations, and has za been regularly involved technical forpages) CPA firms and for attorneys, bankers other John Wiinley & Sons ©training 2003 (952 professionals. HisThis professional memberships include the American Institute of CPAs, Illinois CPA com pact and t ruly com pr ehensive qui ck - refer ence Society, and the American Accounting Association. pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial

Abbas Ali Mirza,statements CPA, ACA,present AICWA, been affiliated ed has in accordance with with I AS. major international accounting firms in the US, India, and the Middle East, and is currently a partner with Deloitte & Touche, based in the T ab le of Con t en t s United Arab Emirates, where he is responsible for major audit clients and, as a member of the firm's Wiley I AS Assurance 20 03—Int er& pretation and ApplicationheofisI nternational Account regional Advisory Committee, also responsible foring training and technical support to Standar ds the firm's offices in the region. Mr. Mirza provides international accounting, auditing, finance, and Preface taxation services to a wide range of industries and businesses. Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2 -principal Balance speaker Sheet A frequent and a workshop leader at global conferences on international accounting standards and I ncom on e US Statement, GAAP, Mr. Stat Mirza em ent hasofalso Chanauthored ges in Equit regular y, and columns Statem ent and features for EnglishChapter 3 of Recognized Gains and East Losses language publications in the Middle and India. Mr. Mirza is a member of the Accounting Standards Chapter 4 - of Cash St at em&ent Committee the Flow Securities Exchange Board of India (SEBI); is the Chairman of the Managing Chapter 5 - of Financial I nstr uments—Cash and Receiv ables Committee the Institute of Chartered Accountants of India, Dubai Chapter; serves on the Standards

and Ethics Chapter 6 - Committee I nventor y of the UAE's official Accountants' and Auditors' Association (AAA); and chairs the International Accounting Standards Steering ofact the Chapter 7 - Rev enue Recogni tion, I ncluding ConstrCommittee uction Contr s AAA. Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

ACKNOWLEDGEMENTS

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and The authors Chapter 10 - are grateful to the many individuals who encouraged them to undertake this project and I nvestm ent Pr oper ty

who have assisted them in bringing the original book, and all subsequent editions, to completion—particularly Sir Bryan Carsberg, former Secretary General of the IASC.

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balance Date thanks to Mr. Omar Fahoum, Chairman, Middle East Deloitte & Touche, Mr. Abbas Ali Mirza Sheet expresses Chapter 13 Financial I nstr uments—Longm Debt for his encouragement and guidance; hisTer father Mr. Ali Mirza, and his brother Dr. Hume Mirza for their Chapter 14 Leases editorial assistance; to Bahadur Chacha for inspiration and moral support; and to the other members of Chapter 15 for - I ncom Taxes his family their eunderstanding and patience. Chapter 16 - Em ploy ee Benefit s

The authors express gratitude Chapter 17 - Stock holder s' Equit yto Mr. Magnus Orrell, who served as project manager for the development of IAS 39, for his valuable insights and suggestions.

Chapter 18 - Earnings Per Share

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

Preface

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

IAS: InterpretationMirand za Application of International Accounting Standards provides analytical explanations andJohn copious illustrations of all current accounting principles promulgated by the IASB (and Wi ley & Sons © 2003 (952 pages) its predecessor, the IASC). The book integrates principles promulgated by the Board—international This com pact and t ruly com pr ehensive qui ck - refer ence financial reportingprstandards (IFRS) and thea earlier international accounting standards (IAS)—and by esent s account ants with guide to depend on for the Board's body assistance for responding moreatnarrowly issues—the International Financial Reporting in thetoprepar ion and focused under standing of financial statements presentwhich ed in accordance I AS. Interpretations Committee (IFRIC), succeeded with the Standing Interpretations Committee (SIC). These materials have been synthesized into a user-oriented topical format, eliminating the need for T ab le of Con t en t s readers to first be knowledgeable about the names or numbers of the salient professional standards. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

The focus of the book is the practitioner and the myriad practical problems faced in applying IAS. Accordingly, the paramount goal has been to incorporate meaningful, real-world-type examples in Chapter - I ntr to I nterof national Standar ds guiding1users inoduction the application IAS toAccounting complex fact situations that must be dealt with in the actual Chapter 2 Balance Sheet practice of accounting. In addition to this emphasis, a major strength of the book is that it does explain I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent the theory Chapter 3 -of IAS in sufficient detail to serve as a valuable adjunct to, or substitute for, accounting of Recognized Gains and Losses textbooks. Not merely a reiteration of currently promulgated IAS, it provides the user with the underlying Chapter 4 Cash Flow St at em ent conceptual basis for the rules, to enable the reasoning by analogy that is so necessary in dealing with a Chapter 5 Financial I nstr uments—Cash and Receiv ables complex, fast-changing world of commercial arrangements and structures. It is based on the author's Chapter 6 I nventor y belief that proper application of IAS demands an understanding of the logical underpinnings of its Chapter 7 requirements. - Rev enue Recogni I ncluding Constr technical This tion, is perhaps more trueuction of IASContr thanact of svarious national GAAP sets of Chapter 8 - since Property Plant and Equipment standards, IAS, is by ,design more "principles based" and hence less prescriptive, leaving Chapter practitioners 9 - I ntangi with a ble proportionately Asset s greater challenge in actually applying the rules. Preface

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - of this book, or major section thereof, provides an overview discussion of the perspective Each chapter I nvestm ent Pr oper ty

and key11issues associated with the and topics covered; listing the professional pronouncements that Chapter - Business Combinations Consolidat edaFin ancialofStatements guide practice; detailed of the conceptsand andEvthe accompanying examples. A Currand ent a Liabilit ies, discussion Prov isions, Cont ingencies, ents after t he comprehensive checklist the main text offers practical guidance to preparing financial Balance Sheetfollowing Date statements accordance with IAS. NewTer to m theDebt current edition is a detailed, tabular comparison Chapter 13 - in Financial I nstr uments—Longbetween and both US and UK national GAAP, keyed to the chapters of this book. Also new this Chapter 14IAS - Leases year is 15 a set of three comprehensive financial statements that illustrate application of financial reporting Chapter - I ncom e Taxes standards different Chapter 16 -toEm ploy ee types Benefitof s enterprises. Chapter 12 -

Chapter 17 - Stock holder s' Equit y

The authors' wish is that this book will serve practitioners, faculty, and students as a reliable reference

Chapter - Earnings Share tool, to 18 facilitate their Per understanding of, and ability to apply, the complexities of the authoritative Chapter 19 Comments - I nterim Financial Repor ting literature. from readers, both as to errors and omissions and as to proposed improvements Chapter 20 editions, - Segm ent Reporbe ting for future should addressed to Barry J. Epstein, c/o John Wiley & Sons, Inc., 155 N. 3rd Chapter - Accounting Changes andtoCor rection of Er ror s consideration for the 2004 edition. Street, 21 DeKalb, Illinois 60115, prior May 15, 2003, for Chapter 22 - For eign Curr ency

Barry J.23Epstein Chapter - Related- Part y Disclosures Abbas Ali Chapter 24 Mirza - Specialized I ndustr ies November 2002

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Chapter 1: Introduction to International Accounting I n t er n at ion al Accou n t in g St an d ar ds ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Standards Mir za John Wi ley & Sons © 2003 (952 pages) This com pact andStandards t ruly com pr ehensive qui ck - refer ence Need for Accounting pr esent s account ants with a guide to depend on for

in the prepar at ion and under standing of financial Developmentassistance of accounting and financial reporting. statements present ed in accordance with I AS.

Accounting T ab le of Con twas en t screated as a means of measuring and reporting upon economic activity. Renaissanceera monk LucaerPacioli is normally creditedof with the invention of double-entry bookkeeping, Wiley I AS 20Fra 03—Int pretation and Application I nternational Account ing Standar designed ds for use of traders operating in fourteenth and fifteenth century Italian city-states. From there, the use of double entry bookkeeping largely followed evolving trading patterns. Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Thus, double entry bookkeeping has been traced to Germany and France, and then to Great Britain, - Balance Sheet where it became widely proliferated via the commercial activities in the seventeenth and eighteenth I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter century3of -the Empire. The industrialization of North America and the Commonwealth countries, of British Recognized Gains and Losses partially in response to British investments in the insurance and railroad industries, led to the further Chapter 4 - Cash Flow St at em ent spread of double entry bookkeeping. Contemporaneously, Dutch accounting followed the discoveries Chapter 5 - Financial I nstr uments—Cash and Receiv ables and settlements made in Indonesia and South Africa. Other patterns of influence can be traced from Chapter 6 - I nventor y their European origins throughout the world, as from Spain to Latin American nations. Later, with its Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s economic ascendancy, the United States became the prime developer of accounting theory and Chapter 8 - Property , Plant , and Equipment exported its favored financial reporting model around the globe. Chapter 2

Chapter 9

- I ntangi ble Asset s

Different practices I nterests and in regulations Financial Instr tended um enttos,evolve Associat toes, meet Joint local Ventur needs es, and economic characteristics. Chapter 10 Pr operthese ty Some of theI nvestm factors ent affecting variations include the degree of centralization in the economy, Chapter - Business Combinations and Consolidat ed Fin ancial Statements ranging11 from state control to unfettered free enterprise; the nature of economic activity, from simple Curr enttoLiabilit ies, sophisticated Prov isions, Cont ingencies, and Ev ents enterprises; after t he agrarian societies the most and complex business the stage of economic Chapter 12 Balance Sheet Date development, from emerging economies to fully matured postindustrial ones; the pattern and pace of Chapter 13 growth, - Financial I nstr uments—LongTerof m the Debt economic ranging from stagnation former Communist economies to the explosive growth Chapter 14 Leases of certain Asian economies in the 1990s; and the history of price stability or inflationary experience of Chapter 15 - Ieconomy. ncom e Taxes the nation's In addition, the nature of the nation's legal system has profoundly impacted its Chapter approach 16 to - Em accounting ploy ee Benefit and financial s reporting. Chapter 17 - Stock holder s' Equit y

Accounting andPer reporting Chapter 18 - Earnings Share

models.

Chapter 19 - I nterim Financial Repor ting

To serve the needs of (primarily) business entities reporting on their economic activities, an accounting profession developed. This gained momentum when absentee ownership and professional Chapter 21 - Accounting Changes and Cor rection of Er ror s management became the model for larger business enterprises. Once the era of laissez faire had Chapter 22 - For eign Curr ency passed into history, virtually every nation, having every variant of economic and legal systems, imposed Chapter 23 -of RelatedPart yover Disclosures some type regulation the accounting profession. This was done either by means of direct Chapter 24 Specialized I ndustr ies via professional self-regulation (often under implied threat of direct government regulation, or indirectly Chapter 25 I nflation and Hyperinflation supervision should that prove unsatisfactory). Chapter 20 - Segm ent Repor ting

Chapter 26 - Gov er nm ent Gr an ts

Accounting reporting practices, despite real variations among the nations, have nonetheless been Appendix A - and Di sclosure Checklist rather remarkably consistent. This is perhaps Appendix B - I llustrativ e Financial St atem ent s Pr logical, esent ed given Underthat I AS all these practices were intended to accomplish same time, the diversity that once existed has become much Appendix C - the Comvery parison of Igoals. AS, USOver GAAP, andeven UK GAAP

diminished, as the systems of the more dominant economic powers (particularly the US and the UK) became the preferred sets of practices for enterprises hoping to one day engage in significant activity in List of Tables those nations or those (e.g., Commonwealth members) aligned with them. I ndex

List of Ex hibits and Ex am ples

List of Sidebarthe s major dichotomy of accounting standards was between those that evolved in nations Historically,

adhering to a common law tradition and those that had code law. Those that had codified rules of behavior tended to formally prescribe accounting and financial reporting matters as well, and most often the role of financial reporting was made subservient to the nation's system of taxation. Under such systems, actions (e.g., financial reporting) can only be taken if specifically allowed under the law. The Napoleonic Code is the prototype of code law, and indeed most of the nations that were dominated by France during that era have subscribed to this approach. Before the very recent rise of IAS, both France and Germany had highly prescriptive financial reporting systems, for example.

Nations having a common law tradition, on the other hand, have more permissive systems, generally only setting rules governing those actions (e.g., fraudulent financial reporting) that cannot be taken. Financial reporting not defined W requirements ile y I AS 2 0 03tend : I n tto erp re tbe at ion an d in Apnational p licat iolaws n o f of common law countries; instead, rules have developed largely through the efforts of the private sector. These are often the I n t er n at ion al Accou n t in g St an d ar ds product of the professional societies, assisted by the work of academicians. ISBN:0471227366In common law countries, by Bar r y J. Epstein and Abbas Ali Mir zareporting are often at variance with those of national tax policy. the goals of financial John Wi ley & Sons © 2003 (952 pages)

By the middle of the twentieth century, there were a relative handful of distinct accounting models in This com pact and t ruly com pr ehensive qui ck - refer ence broad use. Thus, pr Latin to rely on regular adjustments for the effect esentAmerican s account nations' ants withsystems a guide tended to depend on for of changing prices, made necessary by those nations' problems persistent and often virulent assistance in the prepar at ion and under standing with of financial edUS in accordance I AS. (albeit with intermittent bouts of serious inflation. Nations statements such as thepresent UK and having pricewith stability inflation, particularly in the 1970s) evolved very similar sets of accounting rules. Other countries, T ab le of Con t en t s typically from the code law tradition, had tightly circumscribed financial reporting practices oriented to Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing the twin Standar dsgoals of protecting the interests of creditors and ensuring the effectiveness of taxation. Preface

More recently, international accounting standards (established by the International Accounting I ntr oduction to I nter national Accounting Standar ds Standards -Board, formerly the International Accounting Standards Committee) have been gaining many Chapter 2 Balance Sheet adherents. In the past few years, certain watershed events, such as the European Union's decision to I ncom e Statement, Stat em ent of standards Chan ges in(which Equit y,will andbeStatem ent to hereinafter as IAS) by mandate the use of international accounting referred Chapter 3 of Recognized Gains and Losses 2005, have greatly enhanced the stature of this set of accounting standards and improved the Chapter 4 - Cash Flow St at em ent likelihood of its becoming the global norm. Chapter 1

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6 accounting - I nventor y Setting Chapter 7

standards.

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

The accounting standard-setting process has proceeded somewhat differently in the major nations of Chapter 8 - Property , Plant , and Equipment the developed world. the sUnited States and the United Kingdom—having experienced similar Chapter 9 - I ntangi bleInAsset traditions of Icommon law, capitalism, highly educated andJoint professional large and nterests in Financial Instr um ent s, Associat es, Ventur es,workforces, and sophisticated companies equity capital in the public markets, and a belief in the responsibility I nvestm ent Prthat operraise ty of managements to report on their stewardship toed theFinowners of the respective Chapter 11 - Business Combinations and Consolidat ancial Statements businesses—independent accounting professions have largely controlled the setting of accounting Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 Sheet Date standards. InBalance both nations, the principle of full disclosure has been of central importance: financial statements expected be transparent, soDebt that users, generally assumed to be investors and Chapter 13 - are Financial I nstrto uments—LongTer m creditors, able to understand fully the nature of the reporting enterprise's operations and finances. Chapter 14 are - Leases Tax reporting is a edistinct Chapter 15 - I ncom Taxes and separate matter, which does not drive financial reporting. Chapter 10 -

Chapter 16 - Em ploy ee Benefit s

In the US, reporting by publicly held enterprises has been subject to oversight by the Securities and Exchange Commission, which has the statutory right to set accounting principles, which it has virtually Chapter 18 - Earnings Per Share never exercised. In the UK, there is no equivalent to the US SEC, but the autonomous Financial Chapter 19 Review - I nterimPanel Financial Repor ting examine financial statements in order to determine whether Reporting (FRRP) does Chapter 20 been - Segm Repor ting there has a ent failure to provide a "true and fair view" as a result of a departure from an accounting Chapter 21 and - Accounting Changes to and Cor rection of Er s standard, has the authority seek revisions, byror court order if necessary, when failures are found Chapter to exist.22 - For eign Curr ency Chapter 17 - Stock holder s' Equit y

Chapter 23 - Related- Part y Disclosures

Despite24the- Specialized vast similarities, there Chapter I ndustr ies are notable differences between the UK and US accounting systems. For example, there are legal and institutional regulations that apply only to public companies in Chapter 25 - I nflation andmany Hyperinflation

the UK, while in the United States the only accounting rules that are limited to public companies under current generally accepted accounting principles (GAAP) are those related to segment reporting and Appendix A - Di sclosure Checklist earnings per share disclosures. Chapter 26 - Gov er nm ent Gr an ts

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Appendix C - to Com I AS, US and UK GAAP the nations of Europe and Japan, which also In contrast theparison United ofStates andGAAP, the United Kingdom, I ndex have capitalist economic systems, historically have relied far less on public equity markets and much List of Tables more on bank financing—a distinction that is now fading as the move to global equity markets has List of Ex momentum. hibits and Ex When am plescreditors held sway over corporate accounting, practices such as the use of gained

"hidden reserves" that protected their interests at the possible expense of shareholders' interests were List of Sidebar s common. The acceptance of IAS in Japan and most recently in the EC effectively means that this bias will no longer be tolerated. Even under the former regimes, financial reporting in the code law nations was similar to that in the common law ones. Thus, for example, basic underlying concepts such as accrual basis accounting and the going concern assumption were fundamental to both systems. However, in some important areas, there were substantial distinctions; for example, companies in France and Germany rarely displayed deferred income tax liabilities even though the concept was accepted, since most tax deductions were

conditioned on the item being expensed currently for financial reporting purposes. Also, consistent with the conservative reporting bias of those reporting models, reserves were required to be set aside (e.g., as a set percentage ofy annual sometimes subject a cap), were not based on actual, W ile I AS 2 0earnings, 03 : I n t erp re t at ion an d Ap pto licat io n o which f estimated obligations of any sort—a practice that was long clearly banned under UK and US GAAP. I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

In the late 1990s Mir there za was a short-lived reaction in Europe against the growing dominance of UK, US, and IAS financialJohn reporting A plan Wi leystandards. & Sons © 2003 (952 was pages)proposed to sponsor the development of a set of continental European or EU accounting standards, which presumably would have retained the creditorThis com pact and t ruly com pr ehensive qui ck - refer ence oriented bias thatprpreviously had served to make European esent s account ants with a guide to dependfinancial on for reporting more conservative than in Anglophone nations. However, idea was quickly and the EU has now endorsed IAS, assistance in the this prepar at ion and underdropped, standing of financial statements ed in accordance with I AS. in preparing consolidated financial with a mandate that it be fullypresent implemented by listed companies statements by January 1, 2005. T ab le of Con t en t s Wiley I AS 20these 03—Int er pretation and Application of Ireal nternational Account ing role of de facto world Arguably, recent developments leave the competition for the Standar ds

accounting standards between US GAAP and the IAS. While the US standard setter has certainly not conceded the fight, there have been important signs that momentum has shifted to the IAS.

Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2 -contains Balance by Sheet US GAAP far the largest number of specific rules, currently comprising several stilleffective Accounting Research Bulletins, 146 FASB Statements, and scores of I ncom e Statement, Stat em ent31 of APB Chan Opinions, ges in Equit y, and Statem ent Chapter 3 of Recognized Gains and Losses Interpretations and Technical Bulletins, and Statements of Position and Accounting Guides issued by Chapter 4 - as Cash Flow at emrelevant ent the AICPA, well as St other professional literature. Many of these were prescribed in reaction Chapter 5 - to Financial nstrspirit uments—Cash and Receiv ablesexample, the basic standard on lease to attempts evade Ithe of earlier standards—for Chapter accounting 6 - was I nventor supplemented y by dozens of interpretations, amendments and lesser forms of guidance,

as companies to avoid capitalization of obligations under Chapter 7 - Revsought enue Recogni tion, I ncluding Constr uction Contr act sfinance leases. In many cases, efforts to block8 evasive maneuvers were frustrated, as the ever more specific rules suggested new Chapter - Property , Plant , and Equipment opportunities to create further Chapter 9 - I ntangi ble Asset s evasions. Over the decades, US GAAP has become largely "rules based," whereas it was once far more "principles based." I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty

The International Accounting Standards Committee (the IASC), originally, and now its successor, the International Accounting Standards Board (the IASB), has made clear the intention to not duplicate this Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter body of12 guidance, to adhere Balanceand Sheet Date to a philosophy of providing general guidance rather than detailed standards addressing every nuance of business practice. While this is undoubtedly sincerely based on Chapter 13 - Financial I nstr uments—LongTer m Debt a belief in such an approach, it is also true that (until the restructuring that created the IASB) the IASC Chapter 14 - Leases lacked the financial resources to create a US GAAP-like set of detailed standards. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 15 - I ncom e Taxes

Chapter 16 - Em ploy ee Benefit The distinction between theses two philosophies may have become exaggerated in popular perception, Chapter 17 - Stock holder s' Equit y in any event. Thus, in the aftermath of recent accounting debacles at companies such as Enron and Chapter 18 - claims Earnings Per made Share that these scandals would not have occurred had IAS-type "principlesWorldCom, were Chapter - I nterimbeen Financial Repor ting based" 19 standards in place. However, the malefactors in those cases had violated, not complied

with, US is not clear at all that violations would not have occurred equally under an Chapter 20GAAP, - Segmand ent thus Reporitting IAS reporting regime. InChanges fact, audit and management fraud were probably more important Chapter 21 - Accounting andfailure Cor rection of Er ror s explanations than Chapter 22 - For eignwere Currchoice ency of accounting standards. In any event, IAS have probably not yet been put to a23 similar test, Part so ity isDisclosures far from certain that Enronesque accounting catastrophes would not occur Chapter - Relatedunder that system. Chapter 24 -reporting Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation

Notwithstanding the mixed evidence, the recently enacted Sarbanes-Oxley Act of 2002, which was rushed through Congress in reaction to these outrages, requires the US SEC "to conduct a study on Appendix A - Diby sclosure Checklist the adoption the United States financial reporting system of a principles-based accounting system." Appendix B I llustrativ e Financial St atem ent Pr esent Under I AS be very surprising indeed if US While the ultimate outcome is unknown at sthis earlyeddate, it would Appendix C Com parison of I AS, US GAAP, and UK GAAP GAAP as currently codified were to be stripped of its detailed guidance to a significant degree. More I ndex likely, perhaps, would be for new standards, as they developed, to veer somewhat more toward the List of Tables "principles-based" end of the spectrum than has been the case over most of the FASB's thirty-year List of Ex hibits and Ex am ples history. Chapter 26 - Gov er nm ent Gr an ts

List of Sidebar s

Need for International Accounting Standards Although historically differing national traditions and circumstances such as price instability contributed to the development of varying sets of financial reporting standards, with the greatly magnified emphasis on international commerce and capital flows over the past thirty years, the need for global accounting standards has been increasingly recognized. Multinational companies (MNC) have grown dramatically in both size and importance over this period,

assuming dominant roles in many market segments and affecting almost every country, every government, and every person. From a financial reporting perspective, the complexity of conducting international business a fdifferent set of business W ile yoperations I AS 2 0 03 :across I n t erpnational re t at ionborders, an d Apeach p licatwith io n o regulations and often different accounting methods, presents a daunting challenge for both individual I n t er n at ion al Accou n t in g St an d ar ds accountants and by for Bar ther yprofessional bodies that establish accounting and auditing standards. A ISBN:0471227366 J. Epstein and Abbas Ali Mir za accounting, auditing, and tax standards and regulations may negatively impact diversity of applicable such enterprises'John abilities to &prepare information necessary for both reporting to their Wi ley Sons © reliable 2003 (952financial pages) stakeholders andThis for the analysis of investment opportunities vital to their further growth. As the comcareful pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants withso a too guide depend on for number of countries of activity increases, dotothe potential complications. assistance in the prepar at ion and under standing of financial statements ed in accordance with I AS. practices among nations have declined As noted above, over recent present years the disparities of accounting markedly. The European adoption of IAS beginning in 2005 will eliminate a large fraction of remaining T ab le of Con t en t s variations, essentially leaving US GAAP, UK GAAP, and IAS as the "big three" comprehensive sets of Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing standards—with UK-IAS convergence likely to occur as well. The hope is to eliminate the final set of Standar ds disparities, between US GAAP and IAS, over the next ten years or so, and both standard setters are Preface seriously committed to such convergence. Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Chapter 2 large - Balance Sheet has been the US SEC's refusal to recognize the validity of IAS as a basis One very impediment I ncom e Statement, ent of Chan gesunder in Equit y, securities and Statem ent other than when for filing3 registration statementsStat andem periodic reports US laws, Chapter of Recognized Gains and Losses

accompanied by a reconciliation to US GAAP for major captions in the income statement and balance Cash Flow St at em ent sheet. The- SEC solicited comments on a possible rule relaxation, but has not indicated the nature of Chapter 5 Financialor I nstr and Receiv ables responses received its uments—Cash inclination to actually move forward with changes to filing requirements. Chapter 6 I nventor y Conditional acceptance of IAS by the international body of national securities regulatory authorities was Chapter 7 development - Rev enue Recogni tion, I ncluding Constr uction Contr s a positive but did leave open the possibility that act continued reconciliations could still be Chapter 8 Property , Plant , and Equipment required, which would prevent the rapid move toward IAS as an "Esperanto" for worldwide financial Chapter 9 These - I ntangi ble Asset s reporting. developments are discussed further below. Chapter 4

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

The International Accounting Standards Committee (predecessor of the current International Accounting Board) Curr ent Liabilit ies, Prov isions, Cont ingencies, and EvStandards ents after t he Chapter 12 Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Balance Sheet Date The International Accounting Standards Committee Chapter 13 - Financial I nstr uments—LongTer m Debt was founded in 1973 by representatives of

professional bodies in Australia, Canada, France, Germany, Japan, Mexico, the Netherlands, the Chapter 14 - Leases United 15 Kingdom, Chapter - I ncomIreland, e Taxes and the United States, and grew to include representatives from ninety-one countries. 1983 December 2000, the IASC's members had included all the professional Chapter 16 From - Em ploy ee until Benefit s

accountancy bodies that are members of the International Federation of Accountants (IFAC); as of January 2000, these comprised 143 member bodies in 104 countries, representing over two million Chapter 18 - Earnings Per Share accountants. Chapter 17 - Stock holder s' Equit y

Chapter 19 - I nterim Financial Repor ting

Chapter - Segm entthe Repor ting From its20formation, IASC engaged in a standard-setting program that has now gained worldwide Chapter 21 - Accounting Cor rection of Er(discussed ror s recognition. Prior to theChanges transitionand to the new IASB below), the IASC had issued forty-one Chapter 22 - For eign Curr ency international accounting standards (IAS), of which, after a series of revisions, thirty-four remain in force. Chapter 23 - RelatedPart y been Disclosures Also issued to date have a number of Exposure Drafts (at least one of which preceded the final

issuance each standard). A ies number of Interpretations of these standards have also been issued by Chapter 24 of - Specialized I ndustr the former Committee (SIC). A listing of standards and SIC issued to date that Chapter 25 -Standing I nflation Interpretations and Hyperinflation remain 26 currently in Appendix A to this chapter. Chapter - Gov eroperative nm ent Grappears an ts Appendix A - Di sclosure Checklist

A conceptual release on the Framework for the Preparation and Presentation of Financial Statements (theFramework), which was issued in 1989, was intended to be the IASC's conceptual foundation upon Appendix C - Com parison of I AS, US GAAP, and UK GAAP which later accounting standards would be built, and it has largely served this purpose. This document I ndex identifies the expected beneficiaries of financial reporting, the objective of the reporting process, the List Tables keyofunderlying assumptions (going concern and accrual basis), the qualitative characteristics of List of Ex hibits and Ex am ples financial statements (the primary ones being understandability, relevance, reliability, and comparability; List of Sidebar s there are a number of secondary ones as well), and the elements of the financial statements (assets, liabilities, equity, income, and expenses). It also sets forth the twin criteria for recognition of an item in the financial statements (the probability that the economic benefits associated with it will flow to or from the entity, and the reliability of measurement of the item). Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Objectives of standard setting under the Constitution of the IASC Foundation. The objectives of IASC as set forth in its original constitution (approved in 1992) were twofold. The first was to formulate and publish, in the public interest, accounting standards to be observed in the

presentation of financial statements and to promote their worldwide acceptance and observance and the second was to work generally for the improvement and harmonization of regulations, accounting standards, and procedures financial The new Constitution of W ile y I ASrelating 2 0 03 : Ito n tthe erp presentation re t at ion an dofAp p licat iostatements. n of the International Accounting Standards Committee Foundation (IASC Foundation), that was approved I n t er n at ion al Accou n t in g St an d ar ds by the members of IASC in May 2000 and was revised by the trustees of the IASC Foundation in March ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali and July 2002, has Mirexpanded za the objectives of the IASC Foundation, as set forth below. Wi ley & Sons © 2003 (952 pages) 1. To developJohn in the public interest a single set of high-quality, understandable, and enforceable This com pact and t pr ehensive qui ck -transparent, refer ence global accounting standards ruly that com require high-quality, and comparable information pr esent s account ants with a guide to depend on for in financial statements and other financial reporting to help participants in the world's capital assistance in the prepar at ion and under standing of financial markets and other users make decisions; statements present ed economic in accordance with I AS. T ab le2.of To Conpromote t en t s the use and rigorous application of those standards; and Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing 3. ds To bring about convergence of national accounting standards and International Accounting Standar Preface Standards to high-quality solutions. Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

It is significant that the emphasis has now shifted from mere "harmonization" to the actual - Balance Sheet "convergence" of the various national accounting standards and the International Accounting Standards I ncom e Statement, Stat emInternational ent of Chan ges in EquitReporting y, and Statem ent (which 3are -prospectively to be called Financial Standards [IFRS]). Chapter Chapter 2

of Recognized Gains and Losses

Chapter 4 - Cash Flow St at em ent The significant achievements of the former IASC and the new IASB are explained in detail later in this Chapter chapter.5 - Financial I nstr uments—Cash and Receiv ables Chapter 6

- I nventor y

The international "duetion, process." Chapter 7 - Rev enue Recogni I ncluding Constr uction Contr act s Chapter 8

- Property , Plant , and Equipment

In May 2002, the IASB issued the Preface to International Financial Reporting (the Preface). This - I ntangi ble Asset s addresses, in addition to a number of other matters, the steps set out in the "due process" of the IASB I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter and the10 International Financial I nvestm ent Pr oper tyReporting Interpretations Committee (IFRIC). These are summarized below. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 9

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 due IASB's process. Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt

International Financial Reporting Standards (IFRS) are to be developed through an international system of due process involving many interested parties around the globe, including accountants, financial Chapter 15 - I ncom e Taxes analysts and other users of financial statements, regulators, stock exchanges, academics, and the Chapter 16 community - Em ploy eeatBenefit business large.s A Standards Advisory Board (SAC) advises the IASB about the projects it Chapter Stock holder s' Equit y should 17 add- to its agenda. The standard-setting "due process" generally encompasses the following Chapter steps: 18 - Earnings Per Share Chapter 14 - Leases

Chapter 19 - I nterim Financial Repor ting

The20IASB staff and review all issues related to the topic under consideration, and examine Chapter - Segm entidentify Repor ting Framework to ofthe the21 application of the IASB'sand Chapter - Accounting Changes Cor rection Er issues. ror s Chapter 22 - For eign Curr ency

The requirements of national accounting standards on the topic (including practices within various jurisdictions) are examined, and views are exchanged about related issues with national standard Chapter 24 - Specialized I ndustr ies setters. Chapter 23 - Related- Part y Disclosures

Chapter 25 - I nflation and Hyperinflation

The26SAC is er consulted the advisability of including the topic in the IASB's agenda. Chapter - Gov nm ent Gron an ts Appendix A - Di sclosure Checklist

An advisory group is formed to advise the IASB on the project.

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, for andpublic UK GAAP A discussion document is published comment. I ndex

Exposure Draft (ED), approved by at least eight votes of the IASB members and incorporating List ofAn Tables opinions and a basis for conclusions, is published for public comment. List ofdissenting Ex hibits and Ex am ples List of Sidebar s

All comments received on discussion documents and ED are considered. The holding of public hearings and the conducting of field tests are considered and, if deemed desirable, are held and conducted. The Standard is voted upon; if the approval of at least eight board members is obtained, it is published—incorporating dissenting opinions and a basis for conclusion, explaining, among other things, how the IASB dealt with public comments on the ED.

The IASB deliberates in meetings that are open to public observation.

International WFinancial Reporting Interpretations Committee's (IFRIC) due ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds process. by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

The former Standard Mir zaInterpretations Committee (SIC) was reconstituted in December 2001 as the IFRIC. This required Johnthat Wi ley the&IASC Sons Foundation's © 2003 (952 pages) constitution be revised, which it was by the IASC Foundation trustees consultation in March 2002. Thisfollowing com pact public and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

Interpretations of assistance IFRS will be developed IFRIC approval by the IASB. The due process for in the prepar atby ionthe and underfor standing of financial ed in accordance with I AS. interpretations of statements IFRS wouldpresent normally include the following steps: T ab le of Con t en t s

The IASB staff identify and review all issues related to the Interpretation and examine existing

Wiley national I AS 20 03—Int er pretation and Application of I nternational Account ing standards and practices. Standar ds Preface IFRIC studies national standards and practices. Chapter 1 - I ntr oduction to I nter national Accounting Standar ds

A draft Chapter 2 - Interpretation Balance Sheetis published for comment if no more than three IFRIC members have voted against Ithe proposal. ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent -

Chapter 3

of Recognized Gains and Losses

The normal comment period is sixty days, but for urgent issues the trustees have agreed to - Cash Flow St at em ent shorten it to thirty days.

Chapter 4 Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6 - I nventor y Comments received on the draft Interpretation are considered by IFRIC within a reasonable period Chapter 7 Rev enue Recogni tion, I ncluding Constr uction Contr act s of time. Chapter 8

- Property , Plant , and Equipment If no thanble three IFRIC members have voted against the proposal, IFRIC approves the final Chapter 9 more - I ntangi Asset s

Interpretation andinsubmits to the approval. I nterests Financialit Instr umIASB ent s,for Associat es, Joint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty

The final Interpretation is voted upon and is considered approved if at least eight Board members vote affirmatively.

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

IFRIC deliberates in meetings open to public observation.

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Historical Stages of Development in the International Accounting Standard-Setting Process (prior to the formation of the IASB)

Chapter 15 - I ncom e Taxes

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y

Reviewing historyPer of the IASC, from its inception until the date of its transformation to the new IASB Chapter 18 -the Earnings Share (addressed later inRepor this ting chapter), it is possible to identify three stages through which it Chapter 19 - separately I nterim Financial

passed,20each of which wasting characterized by rather different foci and objectives. These phases were, Chapter - Segm ent Repor respectively, the early years during which it attempted to demonstrate attention to all the major accounting issues; the middle period of consolidation when allowable alternative treatments were Chapter 22 - For eign Curr ency reduced as part of the effort to improve comparability; and the final era when a core set of standards Chapter 23 - Related- Part y Disclosures necessary to obtain the support of the international capital markets was completed. The important Chapter 24 - Specialized I ndustr ies achievements of each of these eras are summarized in the following paragraphs. Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts First phase. Appendix A - Di sclosure Checklist

In its earliest years, the IASC attempted tosestablish common Appendix B - I llustrativ e Financial St atem ent Pr esent eda Under I ASbody of standards on major accounting topics, such as for inventory, forUS leases, assets. This consisted largely of inventorying Appendix C - Com parison of I AS, GAAP,and andfor UKlong-lived GAAP and then endorsing virtually all the main-stream methods used in any of the major nations of the world. I ndex This List of "lowest Tables common denominator" approach resulted in the promulgation of standards permitting diverse accounting List of Ex hibits and Exmethods am ples for similar fact situations. The conceptual bases for allowing these

alternative treatments generally were not addressed. Notwithstanding what might appear to be the limited achievement this phase of IASC activity represented, it did serve to establish its legitimacy as a transnational standard-setting body, albeit one bereft of any enforcement mechanism.

List of Sidebar s

Second phase. The highlight of the second phase in the IASC's evolution was the Comparability/Improvements Project that culminated with the promulgation of ten revised standards that took effect in 1995. The objective of this undertaking was to narrow the range of the acceptable accounting treatments that could be brought

to bear upon given fact situations. It could be judged a qualified success as indeed the number of acceptable alternatives was reduced, but arguably too many alternatives still remained available. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

The Comparability/Improvements Project experience revealed the very difficult task faced by the IASC I n t er n at ion al Accou n t in g St an d ar ds as a body whose only power derived from moral suasion. For example, in attempting to narrow the ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali then-available inventory Mir za costing options set forth in the original IAS 2, the IASC determined that the LIFO and base stock should be prohibited. John methods Wi ley & Sons © 2003 (952 pages) However, in a number of countries, LIFO is a popular method that depends on conformity between financial reporting and tax reporting (i.e., tax This com pact and t ruly com pr ehensive qui ck - refer ence advantages are available only if published financial statements to the method used in the tax pr esent s account ants with a guide to depend onconform for returns). As a result, the IASC found it necessary accept the continued existence of LIFO costing assistance in the prepar at ion and to under standing of financial statements present ed in accordance with I AS. with FIFO and weighted-average cost (which was, however, demoted to allowed alternative status, flow assumptions becoming the benchmarks. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation andrange Application of I nternational ing as much as might have been Notwithstanding the fact that the of alternatives was notAccount narrowed Standar ds

hoped, the Comparability/Improvements Project had its achievements. These accomplishments are summarized as follows:

Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2 - Balance Sheet IAS 2: Inventories I ncom e Statement, Stat em ent of Chan in method Equit y, and ent to allowed alternative The3 base stock method was dropped and theges LIFO wasStatem relegated Chapter of Recognized Gains and Losses

status.

Chapter 4

- Cash Flow St at em ent

Chapter 5 - Profit Financial I nstr uments—Cash and Receiv ables Errors and Changes in Accounting Policies IAS 8: Net or Loss for the Period, Fundamental Chapter 6 - I nventor y

The original standard addressed the reporting of unusual items, prior period items, and changes in

Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction act sstandard, benchmark and allowed accounting policies and accounting estimates. In theContr revised Chapter 8 Property , Plant , and Equipment alternative treatments are prescribed for correction of what are called "fundamental" errors, with Chapter - I ntangi ble Asset s adjustment of retained earnings and restatement of comparative prior the9benchmark involving I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and periods, Chapter 10 - and the alternative being inclusion of the effect of the correction in current period income. I nvestm ent Pr oper ty The new standard also requires that extraordinary items be set forth separately on the face of the Chapter 11 - Business Combinations and Consolidat ed Fin income statement, and the expanded disclosure of ancial certainStatements unusual items that are included in Curr ent Liabilit ies, Prov isions, Cont ingencies, and realizable Ev ents after t he and of discontinued ordinary income (e.g., write-downs of inventories to net values) Chapter 12 Balance Sheet Date

operations. The effect of this revised standard was to bring the international accounting standard

Chapter - Financial I nstr uments—LongTer m Debt into13closer conformity with the US standard and to streamline financial statement disclosures. Chapter 14 - Leases

IAS 9: Research Development Costs Chapter 15 - I ncomand e Taxes Chapter - Em ploy ee Benefit s The16original standard required expensing research costs but permitted either capitalization or Chapter 17 - Stock s' Equit y expensing of holder defined development costs. The revised IAS 9 continues to require expensing of all Chapter 18 - Earnings Persets Share research costs but standards for capitalization of certain development costs. If certain

conditions are met, the costs Chapter 19 - I nterim Financial Repormust ting be capitalized and amortized; if not, they must be expensed at once. did fully achieve the goal of eliminating alternative treatments. As part of Chapter 20 -Thus, Segmthis ent revision Repor ting its 21 core set of standards project, therection IASC has IAS 38, Intangible Assets, which has Chapter - Accounting Changes and Cor of Erpromulgated ror s superseded IASCurr 9 and substantially requires the same accounting treatment as the erstwhile IAS 9. Chapter 22 - For eign ency Chapter 23 - Related- Part y Disclosures

IAS 11: Construction Contracts

Chapter 24 - Specialized I ndustr ies

The25original standard permitted a free choice between percentage-of-completion and completedChapter - I nflation and Hyperinflation

contract methods of accounting, while the revised standard allows percentage-of-completion only. Once again, the goal of narrowing alternatives was fully achieved.

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS IAS 16: Property, Plant, and Equipment Appendix C - Com parison of I AS, US GAAP, and UK GAAP

The original standard permitted either historical cost or revalued amounts as the basis for reporting property, plant, and equipment; these remain in the revised standard, but historical cost is now List of Tables designated as the benchmark treatment, with revalued amounts being relegated to the allowed List ofalternative Ex hibits and Ex am ples category. A number of other changes were also made, including incorporating the List offormerly Sidebar sseparate guidance of IAS 4, Depreciation Accounting, and requiring that any revaluations be to fair value and that these be updated regularly (e.g., every three years). Although this revised standard offers guidance superior to its predecessor, it nonetheless still permits diverse accounting methods. I ndex

IAS 18: Revenue Recognition Whereas the original standard permitted either percentage-of-completion or completed-contract accounting for recognition of revenue related to the rendering of services, in the revision only the

percentage-of-completion method is allowed, if specified conditions are met. IAS 19: Retirement Benefit Costs

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Accounting for I n retirement t er n at ion albenefits Accou nby t inemployers g St an d arwas, ds and remains, a very complicated topic. In the original standard, guidance very general, essentially only demanding that costs be ISBN:0471227366 by Barthe r y J. Epstein was and Abbas Ali Mir za to the periods of benefit. This revised standard, on the other hand, is far more rationally allocated John Wi ley & still Sons © 2003 a (952 pages) detailed but nonetheless permits range of methods, most notably defining the accrued benefit valuation method as the andprthe projected method as the allowed alternative This com pactbenchmark and t ruly com ehensive qui ckbenefit - refer ence esent s account ants with 87, a guide to mandates depend on exclusive for (contrasted toprthe US standard, SFAS which use of the projected benefit assistance in thestandard prepar at also ion and under standing of financial method alone). The revised requires that actuarial valuations regarding projected statements present ed in accordance with I AS. salaries, past service costs, experience adjustments, and the effects of changes in actuarial T ab le assumptions of Con t en t s be allocated to income on a systematic basis. It should be noted that yet another to thiserstandard byI nternational the IASC as Account part of the Wiley revision I AS 20 03—Int pretationwas and undertaken Application of ing core set of standards project, Standar ds which program the revised standard was made more comprehensive and now deals with under Preface accounting treatment of not just retirement costs but other employee benefits as well. (The requirements of the to latest revised which eliminates the allowed alternative treatment of Chapter 1 - I ntr oduction I nter nationalstandard, Accounting Standar ds benefit discussed in detail in a later chapter.) Chapter 2 - costs, Balanceare Sheet I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter IAS 21:3Effects of Changes in Foreign Exchange Rates of Recognized Gains and Losses Chapter The4 revisions - Cash Flow to this St atstandard em ent were rather modest in scope; certain choices relative to the deferral

and5 amortization exchange differences on long-term monetary items, on translation of income Chapter - Financial I of nstr uments—Cash and Receiv ables statements of foreign entities at the closing rate, and on translation of financial statements of Chapter 6 - I nventor y foreign report in the currency of auction hyperinflationary Chapter 7 - entities Rev enuethat Recogni tion, I ncluding Constr Contr act s economy without prior restatement, all 8were narrowed. Additional disclosures were also mandated by the revised standard. The revised Chapter - Property , Plant , and Equipment standard largely the corresponding US standard, SFAS 52. Chapter 9 - I ntangi bleduplicates Asset s

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter IAS 22:10 Accounting for Business Combinations I nvestm ent Pr oper ty

The11revision more clearly defined combinations (known as acquisitions) are to be Chapter - Business Combinations andwhich Consolidat ed Fin ancial Statements accounted the method and whichand (unitings interests) must be accounted for Currfor entusing Liabilit ies,purchase Prov isions, Cont ingencies, Ev ents of after t he by the pooling interests BalanceofSheet Datemethod. The criteria for unitings are quite restrictive but are simpler than those the parallel US standard, APB 16Debt (the latter defines twelve criteria that must all be met, Chapter 13 -inFinancial I nstr uments—LongTer m while former sets forth only three). Furthermore, the revised IAS 22 prohibits the immediate Chapter 14 the - Leases write-off of goodwill against stockholders' equity that was allowed previously. On the other hand, Chapter 15 - I ncom e Taxes the16 revised standard setss forth benchmark and allowed alternatives with regard to the Chapter - Em ploy ee Benefit measurement of minority interest and for the accounting for negative goodwill. Thus, alternative Chapter 17 - Stock holder s' Equit y accounting for essentially identical events has not been eliminated completely. Chapter 12 -

Chapter 18 - Earnings Per Share

Chapter - I nterim Financial IAS 23:19 Borrowing Costs Repor ting Chapter 20 - Segm ent Repor ting

The original standard permitted either capitalization or expensing of borrowing costs incurred in connection with construction of assets, while the revision slightly alters this by defining expensing Chapter 22 - For eign Curr ency as the benchmark treatment and capitalization as the allowed alternative. This change is only a Chapter 23 - RelatedPart y Disclosures modest achievement, given that enterprises are under no real burden to conform to the benchmark Chapter 24 Specialized I ndustr ies treatment. Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter 25 - I nflation and Hyperinflation Chapter - Gov er nm ent Gr an ts Third 26 phase. Appendix A - Di sclosure Checklist

The IASC its ethird and final phase when it embarked on a mission to complete what Appendix B entered - I llustrativ Financial St atem ent sinPr1995, esent ed Under I AS had beenC defined as theof"comprehensive coreUK setGAAP of standards." This was motivated by an historic Appendix - Com parison I AS, US GAAP, and

agreement with IOSCO, which committed IASC to the completion of revisions of the standards that IOSCO deemed essential to its consideration of possible endorsement of the IAS for purposes of List of Tables cross-border securities registrations. IOSCO had previously approved IAS 7, Cash Flow Statements, as List of Ex hibits and Ex am ples being acceptable for use by companies registering securities in IOSCO's member nations, and was, in List of Sidebar s 1995, agreeing to accept most (but not all) of the other IAS if certain changes were made. IASC completed these changes and promulgation of required new standards at year-end 1998. I ndex

The actual agreement between the IASC and IOSCO had involved the formal acceptance of a work plan that set forth a number of projects to be completed on a targeted schedule. The standards that were addressed as part of this project and the results obtained included accounting for income taxes (revised IAS 12, issued in late 1996); financial instruments (divided into two projects: "disclosure and presentation," completed with the issuance of IAS 32 in 1995, and "recognition and measurement,"

completed with the promulgation of IAS 39 at the end of 1998); earnings per share reporting (IAS 33 in mid-1997); segment reporting (revised IAS 14, issued in mid-1997); financial statement presentation (revisedIAS 1, replacing 5, :and issued in an mid-1997); accounting for intangibles, research W ile y I IAS AS 21, 0 03 I n t 13, erp re t at ion d Ap p licat io n o f and development,I nand goodwill (IAS 38, issued mid-1998); employee benefits (revised IAS 19, issued t er n at ion al Accou n t in g St an d ar ds in 1998); interim financial reporting (IAS 34, issued in 1998); reporting of discontinuing operations (IAS ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za and impairment of assets (IAS 36, issued in mid-1998). 37, issued in mid-1998); John Wi ley & Sons © 2003 (952 pages)

IOSCO's endorsement 2000 Standards." This com pact of andthe t ruly"IASC com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

The completion ofassistance this "coreinset standards" wasunder a major achievement, and IASC quite naturally theofprepar at ion and standing of financial statements present accordance with I AS. expected that, having performed on ed its in side of the bargain, IOSCO would likewise deliver on its explicit and implicit commitments. The accounting world waited for over four years for a favorable nod from T ab le of Con t en t s IOSCO, signifying an endorsement of the IASC standards that would mark a major milestone in the Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing globalization of financial reporting. The much-awaited report from the world's securities regulators was Standar ds accepted and published in May 2000. Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds IOSCO's Working Group No. 1 on Multinational Accounting and Disclosure, after carefully assessing

Chapter 2 standards, - Balance Sheet the IASC submitted its report to the Technical Committee of IOSCO, which in turn I ncom e Statement, Stat em ges in Equit IAS y, and ent recommended to IOSCO members theent useofofChan thirty selected for Statem cross-border listings and offerings Chapter 3 of Recognized Gains and Losses

by multinational enterprises. The endorsement was, alas, qualified, inasmuch as it contemplated - Cash Flow St at em ent augmentation of the IAS-compliant financial statements by means of reconciliations, supplemental Chapter 5 Financial I nstr uments—Cash anddeemed Receiv ables disclosures- and interpretations, and where necessary, the addressing of outstanding Chapter 6 I nventor y substantive issues at a national or regional level. Chapter 4

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s The endorsement meant it was recommended that IOSCO member organizations (national Chapter 8 - Property , Plantthat , and Equipment

securities Chapter 9 regulators) - I ntangi blepermit Asset sincoming multinational issuers to use the thirty IASC 2000 standards to prepare theirI nterests financialinstatements for cross-border offerings and listing, supplemented in the manner Financial Instr um ent s, Associat es, Joint Ventur es,as and noted above. IASC 2000 included all IAS with the exception of three standards then extant; I nvestm ent Prstandards oper ty namely11 IAS- Business 26 and 30, because they with specialized industry reporting practices, and IAS 25, Chapter Combinations anddealt Consolidat ed Fin ancial Statements expected to Curr be revised as part of the IASC's work on financial instruments (it was later superseded by ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 IAS 40). It also included SIC Interpretations issued and in force on January 1, 2000. IOSCO could only Balance Sheet Date recommend acceptance, it has no Ter authority Chapter 13 - Financial I nstrsince uments—Longm Debtto mandate the actions of the sovereign bodies of which it14 is comprised. Chapter - Leases Chapter 10 -

Chapter 15 - I ncom e Taxes

Supplemental treatments Chapter 16 - Em ploy ee Benefit s

mandated by IOSCO's endorsement.

Chapter 17 - Stock holder s' Equit y

IOSCO's endorsement came with certain strings attached in the form of "supplemental treatments." As explained by IOSCO's Presidents' Committee resolution, these supplemental treatments are as follows:

Chapter 18 - Earnings Per Share

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

Reconciliation— reconciliation Chapter 21 - Accounting Requiring Changes and Cor rection of of certain Er ror s items to show the effect of applying a different accounting method, in contrast with the method applied under IASC standards;

Chapter 22 - For eign Curr ency

Chapter 23 - Related- Part y Disclosures Chapter Disclosure— 24 - Specialized Requiring I ndustr additional ies disclosures, either in the presentation of the financial

statements or in and the footnotes; and Chapter 25 - I nflation Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosureSpecifying Checklist use of a particular alternative provided in an IASC standard, or a Interpretation— Appendix B I llustrativ e Financial St atem ent s the Pr esent ed standard Under I ASis unclear or silent. particular interpretation in cases where IASC Appendix C - Com parison of I AS, US GAAP, and UK GAAP

The resolution also establishes the notion of "waivers." It states that, as part of national or regional I ndex specific requirements, waivers of particular aspects of an IASC standard may be envisaged, without List of Tables requiring that and the effect of the accounting method used be reconciled to the effect of applying the IASC List of Ex hibits Ex am ples method. Thesclear intention is that the use of waivers will be restricted to exceptional circumstances, List of Sidebar

such as issues identified by a domestic regulator when a specific IASC standard is contrary to domestic or regional regulation. Although the IASC's outgoing chairman, Stig Enevoldsen, was quoted in the media to have said that IOSCO's endorsement was a dream come true for the IASC, some commentators have dubbed it as a qualified or a lukewarm endorsement, since it requires supplemental treatments. While the true implications of the supplemental treatments envisaged by IOSCO's endorsement are not yet fully understood, it is evident that it is not an unequivocal endorsement. What is obvious is that IOSCO

endorsement allows the individual regulators to require certain supplemental treatments. However, as explained by the IASC's spokesman, even though it requires "reconciliation," it does not envision full reconciliation similar currently bydthe SEC's requirements. Furthermore, W iletoy the I ASone 2 0 03 : I n t erpmandated re t at ion an ApUS p licat io n olisting f it requires reconciliation of "certain items" in order to demonstrate the effect of applying a different I n t er n at ion al Accou n t in g St an d ar ds accounting method. This, according to the IASC spokesman, softens the requirement to the status of ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za as opposed to "full reconciliation." The IASC thus hoped that by requiring "partial reconciliation" reconciliation of certain John Wiitems ley & IOSCO's Sons © 2003 endorsement (952 pages) would, in practice, require reconciliation of relatively few items, example, more ten items." expects Thisfor com pact and"not t ruly com than pr ehensive qui ck It - refer ence that most companies would be pr esent s account ants with a guideof toitems depend on accounting for able to avoid having to adjust more than a couple if the policies are chosen assistance in the prepar at ion and under standing of financial carefully. statements present ed in accordance with I AS.

Outstanding T ab le of Con t en t s substantive

issues under IOSCO's endorsement.

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing There ds are a number of outstanding substantive issues relating to the IASC 2000 standards. Initially Standar

when IOSCO began its assessment of the IASC 2000 standards, it considered over 850 issues that Preface

had been raised over the course of the core set of standards project. After evaluating the IASC 2000 - I ntr oduction to I nter national Accounting Standar ds standards, the working party members concluded that the majority of their concerns had been Chapter 2 - Balance Sheet addressed and the range of concerns had been narrowed significantly. According to the report of the I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 Committee, Technical the Gains outstanding substantive issues vis-a-vis the IASC 2000 standards could be of Recognized and Losses summarized as follows: Chapter 4 - Cash Flow St at em ent Chapter 1

Chapter 5 -case Financial and Receiv ables In the of sixI nstr IAS,uments—Cash no outstanding substantive issues were identified; Chapter 6 - I nventor y

In the of sixRecogni other IAS, have Constr only one outstanding Chapter 7 -case Rev enue tion,each I ncluding uction Contr act ssubstantive issue; Chapter 8

- Property , Plant , and Equipment

The remaining issues identified include approximately twenty issues where one or more - I ntangi ble Asset s jurisdictions expect to require reconciliation of a treatment specified by the IASC 2000 standards to I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - specified accounting treatment (which may be a host country accounting treatment); another I nvestm ent Pr oper ty Chapter 9

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Approximately fifty issues were also noted where one or more jurisdictions would expect to require

Curr entdisclosures; Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he supplemental Chapter 12 Balance Sheet Date Chapter 13 - Financial I nstr uments—LongDebtjurisdictions expect to require a specific application of Approximately fifty issues where oneTer ormmore Chapter 14 Leases an IASC 2000 standard were also identified; and Chapter 15 - I ncom e Taxes

Four were also noted where one or more jurisdictions expect to waive compliance with a Chapter 16 issues - Em ploy ee Benefit s requirement an IASC 2000 Chapter 17 - Stockof holder s' Equit y standard. Chapter 18 - Earnings Per Share

The recommendations regarding specific IAS are set forth in greater detail in Appendix B to this

Chapter chapter.19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

IOSCO'S Vision of the Future and Latest Developments

Chapter 22 - For eign Curr ency

Chapter 23report - Relatedy Disclosures IOSCO's has Part a section entitled "suggestions for future projects with the IASC," which very aptly Chapter 24 Specialized I iesa "point-in-time snapshot" with respect to the IASC standards and to points out that this reportndustr is only Chapter 25 I nflation and Hyperinflation the experience with the implementation of these standards. Chapter 26 - Gov er nm ent Gr an ts

Accordingly the Working Party recommends that it continue to be actively involved in the standardsetting and interpretive process and to follow and comment on IASC projects. This will allow the Appendix B - I llustrativ e Financial St atem Pr esentand ed Under I AS early in the IASC's process. concerns of securities regulators toent besraised addressed Appendix A - Di sclosure Checklist

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

At the time of the IOSCO's endorsement, it had envisioned a survey of its membership by the end of I ndex 2001 to determine the extent to which they had taken steps to permit incoming multinational issuers to List of Tables report List of Exconsistent hibits and with Ex amIAS ples2000 standards, subject to those supplemental treatments described above adopted in the List of Sidebar s local jurisdictions. This survey was conducted, and the results were reported in the final communiqué of IOSCO's twenty-seventh annual conference, in May 2002, noting considerable progress towards acceptance of IAS by its members.

The results (of the survey) indicate that many jurisdictions permit incoming issuers to use IAS, and others are actively working towards this end. Moreover, since May 2000, there have been a number of developments promoting the use of IAS. These include: (i) the decision of the EU Council of Ministers (ECOFIN Council) requiring the use of IAS by 2005; (ii) the completion of the reconstitution of the IASB into a full-time independent standard-setter; and (iii) the formation of the Committee of European Securities Regulators with a special sub-group devoted to these issues.

Looking ahead, to further these efforts, IOSCO encourages the IASB and national standard setters to work cooperatively and expeditiously to achieve convergence in order to facilitate cross-border offerings andWlistings and2 0encourages regulators issues of consistent ile y I AS 03 : I n t erp re t at ion antod address Ap p licatthe io nbroader of interpretation,I napplication and enforcement. t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za The EU's Acceptance of the IASC Standards John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly1995, com pr ehensive qui ck - referCommission's ence IASC's efforts received a boost in late when the European (EC) Single Market pr esent s account ants with a guide to depend on for Commissioner announced that the European Union had abandoned its previously stated goal of assistance in the prepar at ion and under standing of financial developing unique Europeanpresent standards accounting. By Ideferring to international accounting statements ed inofaccordance with AS. standards (IAS), the EC has removed the specter of yet another layer of national and supranational T ab le of Con tstandards en t s accounting and contributed to achieve true internationalization of financial reporting and Wiley I AS 20 03—Int er pretationprinciples. and Application of I nternational Account ing harmonization of accounting Standar ds

The European Commission's mid-2000 policy document, EU Financial Reporting Strategy: The Way Preface Forward, that companies within the EU seeking listings Chapter 1 stated - I ntr oduction to I nter national Accounting Standar ds on EU stock markets should no longer have the of preparing their consolidated financial statements in accordance with either their Chapter 2 choice - Balance Sheet national accounting standards or US In June they,Council of Ministers of the EU approved I ncom e Statement, Stat emGAAP. ent of Chan ges2002 in Equit and Statem ent a Regulation, in Gains early 2001 by the European Commission, to require publicly traded of proposed Recognized and Losses companies useFlow IAS St and IFRS Chapter 4 - to Cash at em ent in their consolidated financial statements by January 1, 2005. A temporary granted for and companies that are currently traded in the US and use US Chapter 5 -exemption Financial I will nstr be uments—Cash Receiv ables GAAP, and for companies that have issued debt instruments but not equity instruments; those Chapter 6 - I nventor y companies will be required to comply with IAS by January 1, 2007. Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s Chapter 3

Chapter 8

- Property , Plant , and Equipment In March 2001, in response to this proposal of the European Commission for an expert level in the EU

Chapter 9 - I ntangimechanism, ble Asset s a broad group of organizations representing the European accounting IAS endorsement I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and profession, Chapter 10 - preparers, users, and stock exchanges proposed to organize a private-sector body that I nvestm ent Pr oper ty

would

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

1. Provide input to the IASB, and Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Chapter 12 -

Balance Sheet Date

2. Assess whether IAS and the SIC Interpretations are suitable for use in Europe.

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 14 - Leases In response to this proposal, the European Financial Reporting Advisory Group or EFRAG came into Chapter 15 -creating I ncom e aTaxes existence, Technical Expert Group and a Supervisory Board. This group will provide support Chapter 16 - Emtoploy Benefit s Commission in the assessment of the international accounting and expertise theeeEuropean standards, with the proposal that led to the adoption of the 2005 mandate for compliance Chapter 17 - consistent Stock holder s' Equit y

with IAS. hasPer since published several pronouncements, explaining its due process procedures Chapter 18 EFRAG - Earnings Share and endorsing IAS. Financial Repor ting Chapter 19 - I nterim Chapter 20 - Segm ent Repor ting

With regard to its due process, EFRAG has clarified the distinction between its proactive work and its endorsement advice to the Commission. The former refers to EFRAG's response to IASB proposals Chapter 22 - For eign Curr ency made via comment letters to the Board; the latter involves EFRAG's advisory role to the Commission Chapter 23 - Related- Part y Disclosures on whether to endorse an IFRS or IFRIC pronouncement. Also, while EFRAG's primary focus is on Chapter 24 -for Specialized I ndustr ies standards listed companies, it is also concerned with financial reporting by private enterprises, since Chapter 25 I nflation and member states optionallyHyperinflation may require or permit the application of IAS not just for consolidated accounts Chapter - Gov er nmbut ent also Gr anfor ts other accounts of a wide range of companies. It is expected that, in a of listed26companies Appendix A Di sclosure Checklist number of countries, there will be an immediate impact for (certain classes of) unlisted companies Appendix - I llustrativ Financial St atem ent s Pr esent ed Under I AS includingBsmaller andemedium-sized enterprises ("SME"). Chapter 21 - Accounting Changes and Cor rection of Er ror s

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

EFRAG has indicated its concern for balancing timely response with careful deliberation, being mindful I ndex that "(t)oo late an announcement that EFRAG is minded to advise against adopting an IASB pronouncement will leave insufficient time for aggrieved parties to make their views known to EFRAG." List of Ex hibits and Ex am ples EFRAG is committed to "transparent due process open to all parties" and, to that end, will publish its List of Sidebar s comment letters to the IASB, its endorsement advice to the Commission, and other EFRAG position papers as appropriate; will provide reasoned opinions for EFRAG positions; will publish Technical Expert Group agendas and summary minutes of its meetings; will invite comments on IASB proposals, EFRAG tentative positions, etc.; and will publish an annual report. Documents will be freely available via the Internet for all interested parties. List of Tables

In June 2002 EFRAG announced its endorsement of existing IAS 1 through 41, and SIC 1 through 33. It had been requested by the EU Commission to confirm that there were no remaining discrepancies

between IAS and related SIC, on the one hand, and the EU's Fourth and Seventh Directives (as modified under proposals still under discussion). EFRAG reviewed the standards and interpretations to the extent that they remained of re March 2002, based W ile y I AS 2 0extant 03 : I nas t erp t at ion an d and, Ap p licat io non o fthat review, opined that the current standardsI nmet the requirements of the Regulation of the European Parliament and of the t er n at ion al Accou n t in g St an d ar ds council on the application of IAS by EU listed companies from 2005 onwards. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za

EFRAG expressed its Wi approval of the IAS(952 standards John ley & Sons © 2003 pages) and stated that they were not contrary to the "true and fair" principleThis set com out in the EU Directives and also met the criteria of understandability, relevance, pact and t ruly com pr ehensive qui ck - refer ence reliability and comparability required of the financial for making economic decisions pr esent s account ants with a guide toinformation depend on needed for and assessing the stewardship of prepar management. those reasons, it concluded that it was in the assistance in the at ion andFor under standing of financial presentof edadoption in accordance I AS.standards should be set in motion. European intereststatements that the process of thewith current Accordingly, they recommended endorsement of the current standards "en bloc." T ab le of Con t en t s Wiley 20 03—Int er pretation and Application of to I nternational MoreI AS recently, EFRAG has responded in detail the IASB's Account proposalingto amend a number of existing Standar ds

standards, under its Improvements Project. The project and certain of EFRAG's responses thereto are noted later in this chapter.

Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Modernization of EUStat Accounting I ncom e Statement, em ent of Chan gesDirectives in Equit y, and Statem ent of Recognized Gains and Losses

EU Accounting Directives were intended to establish a minimum level of harmonization for preparation Chapter 4 - Cash Flow St at em ent of financial statements. Having not been significantly amended since their adoption in the period from Chapter 5 - Financial I nstr uments—Cash and Receiv ables 1978 to 1983, these had become somewhat obsolete or redundant due to significant changes to Chapter 6 - I nventor y financial reporting practices and various subsequent developments from the accounting standard Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s setters and in the broader business community. In May 2001, the EU's Council of Ministers and the Chapter 8 - Property , Plant , and Equipment European Parliament issued a Directive that modernized the EU accounting rules by introducing "fair Chapter 9 - Ifor ntangi ble Asset s value" rules certain categories of financial instruments. This was intended to enable EU companies I nterests in Financial Instr um ent39 s, while Associat es, Joint es, and of the EU accounting law. that use10financial instruments to apply IAS meeting theVentur requirements Chapter I nvestm ent Pr oper ty

Chapter - Business Combinations and Consolidat ed Fin ancial aStatements In May 11 2002, Commission of European Communities issued proposed Directive of the European Curr ent Liabilit ies,Council Prov isions, Cont ingencies, and annual Ev ents and after consolidated t he Parliament to amend certain Directives dealing with accounts of Chapter 12 Sheet Date certain typesBalance of companies. Noting the continuing importance of the Directives, which transcend the Chapter 13the - Financial I nstr uments—LongTer m Debtthe requirement to obtain an audit and to prepare an scope of IAS Regulation (e.g., by establishing Chapter 14 Leases annual report), there was a recognized need to revise the Directives rather than eliminate them. Chapter 15 - I ncom e Taxes Incompatibilities with IAS would accordingly prove unacceptable for two reasons, according to the Chapter Commission. 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y

First, if the Accounting Directives were to play an important role in the mechanism for adopting IAS under the proposed IAS Regulation, they would need to reflect current accounting developments. In Chapter 19 - I nterim Financial Repor ting this respect, the Directives should be structured so as to accommodate and to be consistent with future Chapter 20 - Segm ent Repor ting incremental developments within IAS. That is, it should not be necessary to consider amendments to Chapter 21 - Accounting Changes and Cor rection of Er ror s the Directives each time a new IAS is proposed. Second, there would hopefully be a level playing field Chapter 22 - For eign Curr ency between companies that apply IAS and those that do not. Such a position is also necessary to enable a Chapter - RelatedPart companies y Disclosures smooth23 transition when seek a public listing. Chapter 18 - Earnings Per Share

Chapter 24 - Specialized I ndustr ies

To deal25 with these perceived issues, the Commission's proposal was intended to Chapter - I nflation and Hyperinflation Chapter 26 - Gov er ent Gr an ts 1. Remove allnm existing conflicts between the Accounting Directives and IAS. Appendix A - Di sclosure Checklist

2. Ensure that optional accounting treatments under IAS are available to EU Appendix B - I llustrativ e Financial St atem ent s Pr esentcurrently ed Under available I AS whichofcontinue haveand the UK Accounting Directives as the basis of their accounting Appendixcompanies C - Com parison I AS, USto GAAP, GAAP

legislation (i.e., those companies which do not prepare their annual or consolidated accounts in accordance with adopted IAS further to the IAS Regulation). List of Tables I ndex

List of hibits and am ples 3. ExUpdate theEx fundamental structure of the Accounting Directives so that they provide a framework List of Sidebar s for financial reporting that is both consistent with modern practice and flexible enough to allow

for future developments in IAS. Among the changes proposed, some of the more important were the following: Explicit empowering of member states to require presentation of cash flow statements in accordance with IAS 7. Explicit endorsement of the "substance over form" principle, which was found to be consistent with

the "true and fair view" requirement of the Directives, and the right of member states to permit or require that, in determining within which format item an amount should be included, regard may be had to substance well2 0as03form. W ile yasI AS : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Amendment to Fourth Directive provision dealing with estimated liabilities, to require the ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali recognition ofMir amounts consistent with IAS 37, while allowing member states to continue to permit za or require those amounts envisioned by the Directive. Johnadditional Wi ley & Sons © 2003currently (952 pages) pact and t ruly com pr ehensive qui ck - refer ence Amendment This to thecom Fourth Directive to permit revaluation of intangibles as well as the already pr esent s account ants with a guide to depend on for permissible revaluation of tangible to conform to IAS 38. assistance in the preparlong-lived at ion and assets, under standing of financial statements present ed in accordance with I AS.

Further expansion of the already adopted revision to the Fourth Directive to permit fair value T ab le reporting of Con t enfor t s certain assets as set forth in IAS 40 (for investment property) and IAS 41 (for certain Wiley agricultural I AS 20 03—Int er pretation andasApplication of addressed I nternational Account assets), as well the already IAS 39 (foring financial instruments). Standar ds

Changes to the Seventh Directive to eliminate certain exemptions from consolidation requirements Preface (e.g., nonconsolidation of special-purpose entities Chapter 1 to - I avoid ntr oduction to I nter national Accounting Standar ds merely because majority ownership or a "participating interest" Chapter 2 - Balance Sheet is not held by the reporting entity). I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 Amendment to the Seventh Directive of Recognized Gains and Lossesto eliminate the opportunity for nonconsolidation of activities

that are incompatible with those of the parent, and rejection of the former notion that such inclusion - Cash Flow St at em ent would fail to meet the requirement to give a true and fair view of the undertakings included therein Chapter 5 - Financial I nstr uments—Cash and Receiv ables taken as a whole. Chapter 4 Chapter 6

- I nventor y

Chapter 7 - Rev enue Recogni I ncluding Constr uction Contr act s A similar amendment to tion, eliminate the exemption from consolidation of activities which are deemed Chapter 8 Property , Plant , and Equipment immaterial to the reporting entity; thus, there will be no threshold for materiality insofar as Chapter 9 - I ntangi Asset s presentation ofble consolidated financial statements is concerned. I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 The proposal also explicitly acknowledged that certain requirements under several IAS were found to I nvestm ent Pr oper ty

not be in withCombinations the Directivesand andConsolidat thus necessitated noStatements changes to them. These included the Chapter 11conflict - Business ed Fin ancial "corridor" approach gain or Prov lossisions, recognition under IASand 19,Evthe optional reporting of prior period Curr ent for Liabilit ies, Cont ingencies, ents after t he Sheet errors underBalance IAS 8, and theDate accounting for reverse acquisitions under IAS 22.

Chapter 12 -

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Other Recent Gestures of Support for IAS

Chapter 14 - Leases

Chapter 15 - I ncom e Taxes

Chapter 16 - adoptions Em ploy ee Benefit National of sIAS

and endorsements by stock exchanges.

Chapter 17 - Stock holder s' Equit y

The IOSCO's and thePer European Chapter 18 - Earnings Share Union's gestures of support have apparently had an impact, as the pace of19 adoptions IAS hasRepor accelerated worldwide. A growing list of important nations has either Chapter - I nterimofFinancial ting adopted20IAS outright hasting crafted national standards around a core of IAS principles. In some cases, Chapter - Segm ent or Repor nominally standards areand no more than of thinly veiled international standards without any Chapter 21 national - Accounting Changes Cor rection Er ror s substantive departures, save the titles.

Chapter 22 - For eign Curr ency

Chapter 23 - Related- Part y Disclosures

Greece requires IAS effective 2003.

Chapter 24 - Specialized I ndustr ies

Chapter 25 - passed I nflationby and Legislation theHyperinflation Greek Government adopts International Accounting Standards for financial Chapter 26 Gov er nm ent Grbeginning an ts statements for the periods after December 31, 2002, mandatory for all companies listed on Appendix A - Stock Di sclosure Checklist the Athens Exchange. Both individual and consolidated financial statements would be required to Appendix B -under I llustrativ Financial entbe s Pr esent edfor Under follow IAS this estatute, butStitatem would optional otherI AS entities that are audited by the Institute

of Certified and Auditors of Greece use IAS. Appendix C - Accountants Com parison of I AS, US GAAP, and UK to GAAP I ndex

Russia to List of Tables

adopt IAS starting 2004.

List of Ex hibits and Ex am ples

All companies and banks in Russia will be required to prepare their financial statements in accordance with IAS starting January 1, 2004. The Finance Ministry has been ordered to develop implementation guidelines for the accounting days by January 1, 2003.

List of Sidebar s

Australia proposes to replace its national standards with IAS. In July 2002, the Australian Financial Reporting Council (FRC) announced its support for the adoption of IAS by January 1, 2005. The FRC is the body established under Australian law to oversee the process for standard setting in Australia, including overseeing the operations of the Australian

Accounting Standards Board (AASB). The FRC proposal, which is subject to the government's support for necessary amendments of the Corporations Act, would mean that from January 1, 2005, the accounting standards Act W ile yapplicable I AS 2 0 03to : Ireporting n t erp re t entities at ion anunder d Ap pthe licat io nwould o f be the standards issued by the IASB. After that date, the audit reports would be required to refer to reporting companies' I n t er n at ion al Accou n t in g St an d ar ds compliance with IASB standards. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za

Other converts. John

Wi ley & Sons © 2003 (952 pages)

This com pact and t ruly com pr ehensive qui ck - refer ence Among the more pr important earlierants converts or protagonists for, esent s account with ato, guide to depend on forIAS are Germany, Belgium, France, Australia, and Italy. Other adopters include Hong Malta, Korea, Barbados, Zimbabwe, Turkey, assistance in the prepar at ion and Kong, under standing of financial present ed in accordance with Kyrgyzstan I AS. Trinidad, Tobago,statements Uganda, and Mongolia. Countries like and Guyana have recently passed

laws adopting IAS. Many countries in the Middle East, including Bahrain, Kuwait, Jordan, Qatar, Lebanon, and Oman have adopted IAS as their national standard.

T ab le of Con t en t s

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Acceptance by stock exchanges.

Preface

Chapter 1

I ntr oduction to I nter national Accounting Standar ds Most of the- leading stock exchanges around the world now accept listings based on financial

Chapter 2 - prepared Balance Sheet statements in accordance with IAS. Included in this long list of IAS-friendly stock exchanges I ncom eones Statement, Stat Zurich, em ent of Chan ges in Equit y, and StatemAmsterdam, ent are the prominent in London, Rome, Luxembourg, Australia, Cyprus, Hong Chapter 3 of Recognized Gains and Losses

Kong, Stockholm, Copenhagen, Thailand, and many others. A new pan-European securities market Cash Flow St at em ent (known as -EASDAQ) now permits the use of IAS by its registrants. Furthermore, the Federation of Chapter 5 Financial I nstr uments—Cash andtwenty Receivmember ables Euro-Asian Stock Exchanges (FEAS), with exchanges in eighteen nations in Europe Chapter 6 I nventor y (outside the EU and EFTA), Central and South Asia, and the Middle East, has recommended that its Chapter 7 should - Rev enue Recogni I ncluding Constr uction Contr act s members require the tion, use of IAS. Chapter 4

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s Another Breakthrough: The Basel Committee Supports the IASC I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty Standards Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

The Basel Committee on Banking an international organization Curr ent Liabilit ies, ProvSupervision, isions, Cont ingencies, and Ev ents after t he of bank regulators, undertook a Balance review of IAS Date at the request of the G7 Finance Ministers and Central Bank Governors. The Sheet review 13 focused on fifteen IASC standards that have a significant effect on banks and paid special Chapter - Financial I nstr uments—LongTer m Debt attention standards; namely, IAS 30 and 39. Chapter 14to- two Leases Chapter 12 -

Chapter 15 - I ncom e Taxes

The Basel Committee on Banking Supervision completed its comprehensive review of the IAS in April 2000 and, based on their review, announced its support for the IASC standards.

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y

Chapter 18 - Earnings Per Share accounting standard-setting process has evolved through three stages To summarize, the international Chapter and is now 19 - poised I nterimon Financial the brink Repor of achieving ting widespread legitimacy which may result, over time, in the

IASC's 20 becoming the Repor premier Chapter - Segm ent tingaccounting standard setter. Hopefully, the IOSCO endorsement of the IASC standards may soon lead to unification ofofaccounting standards globally and the emergence of Chapter 21 - Accounting Changes and Cor rection Er ror s the true22"Esperanto" of accounting. Chapter - For eign Curr ency Chapter 23 - Related- Part y Disclosures

Dramatic Changes to the IASC Structure and Other Important Developments Chapter 26 - Gov er nm ent Gr an ts Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation

Appendix A structure - Di sclosure The IASC hasChecklist undergone dramatic changes in recent years. With diverse opinions emerging Appendix B I llustrativ Financialit St atem ent s Pr esent ed task Under AS from different membere bodies, was indeed an uphill to Ireach consensus on many issues. In fact, Appendix C the - Com parison of I AS, US GAAP, and In UKorder GAAPto understand how it all happened, it is important this made restructuring process eventful. I ndex to look at certain events that occurred in recent years. List of Tables

In September 1996, the IASC approved the creation of the Standing Interpretations Committee (SIC). Apart from the obvious wisdom of taking this step, it was also done to accommodate the wishes of List of Sidebar s IOSCO and in particular the US regulatory community, which was concerned that absent a mechanism to ensure that IAS were uniformly interpreted and applied, there was no assurance that current diversity of practice would really be narrowed as intended. This group held its organizational meeting in April 1997 and has already met several times and finalized interpretations on controversial accounting issues. These are listed at the end of this chapter and discussed in this book in the sections to which they pertain. List of Ex hibits and Ex am ples

In December 1998, the IASC published a discussion paper issued for comment by its Strategy Working

Party,Shaping IASC for the Future. The main recommendations emerging from this document focused upon issues of restructuring the IASC by expanding the IASC Board and setting up a new committee, to be known as the Standards (SDC) which primarily be responsible for W ile y I AS 2 0Development 03 : I n t erp re tCommittee at ion an d Ap p licat io n owould f developing the IAS in future. The SDC in this role will be supported by the already-existing Standing I n t er n at ion al Accou n t in g St an d ar ds Interpretations Committee, the (proposed) new Standards Development Advisory Committee (SDAC) ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali and the IASC Consultative Mir za Group. It was proposed that appointments to the IASC Board, the SDC, and the SIC would beJohn made Wiby ley"trustees" & Sons © 2003 who (952 will pages) replace the existing IASC Advisory Council. This com pact and t ruly com pr ehensive qui ck - refer ence

Alas, this bicameral concept was ultimately the adamant pr esent s account ants with adoomed guide toby depend on for opposition of a number of national standard-setting bodies likely been key members of the Standards assistance in to thehave prepar at ion and under standing of financial Development Committee, statements present in accordance with I AS. and by similar opposition from a fewed other important organizations, including the US SEC and the European Commission (whose objections were dissimilar, however). In response to overwhelming T ab le of Con t en t s antagonism to this approach, the IASC withdrew the idea and substituted a new proposal for a Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing unicameral body comprised of both full-time and part-time members. Standar ds Preface

Most importantly, a unicameral approach would ensure that the standards would be enacted by the I ntr oduction to I nter national Accounting Standar ds same body- that had developed them, without any sort of "second look" and veto power being granted to Chapter 2 Balance Sheet another entity. Chapter 1

Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

IASC's - New Constitution Cash Flow St at em ent

Chapter 4 Chapter 5

- Financial I nstr uments—Cash and Receiv ables

After several debates at various board meetings over IASC's new constitution, the IASC Board finally - I nventor y endorsed a new structure for the IASC. In March 2000 the IASC Board approved the IASC's new Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s constitution. This constitution was then submitted to the member bodies of the IASC who unanimously Chapter 8 - Property , Plant , and Equipment approved it in May 2000. Chapter 6

Chapter 9

- I ntangi ble Asset s

In order to usher I nterests in the in new Financial structure Instr um of the ent s, IASC, Associat the es, IASC Joint Board Ventur in es, December and 1999 appointed a Chapter 10 I nvestm ent The Pr oper ty nominating committee. then-US SEC Chairman, Mr. Arthur Levitt, was chosen to head this Chapter 11 - This Business Combinations ed Fin Statements committee. committee selectedand theConsolidat initial group of ancial nineteen trustees. Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Sheet Date The trusteesBalance play a key role in the governance of the IASC. Besides other important tasks assigned to them under the new constitution, they have theDebt duty to determine and create a new legal entity as a Chapter 13 - Financial I nstr uments—LongTer m vehicle 14 for -the operations of the IASC. This legal entity will confer limited liability on the IASC members. Chapter Leases Chapter 15 - I ncom e Taxes

In order to ensure a broad international representation, the composition of the trustees will be a mix of representatives of the world's capital markets with diversity of geographical and technical backgrounds. Chapter 17 - Stock holder s' Equit y As mandated by the new constitution of the IASC, the breakdown is as follows: Chapter 16 - Em ploy ee Benefit s

Chapter 18 - Earnings Per Share

Chapter - I nterim Financial Repor ting North America; Six19 trustees to be appointed from Chapter 20 - Segm ent Repor ting

Six21 trustees to be appointed fromCor Europe; Chapter - Accounting Changes and rection of Er ror s Chapter 22 - For eign Curr ency

Four trustees to be appointed from the Asia/Pacific region; and

Chapter 23 - Related- Part y Disclosures Chapter Three 24 -trustees Specialized to be I ndustr appointed ies from any other area, subject to establishing overall geographic

balance. Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Five of the nineteen trustees are nominated by the IFAC, subject to a process of consultation between the IFAC and the nominating committee or the trustees. Two of the five trustees nominated by the IFAC Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS shall normally be senior partners/executives from prominent international accounting firms. Three of the Appendix C - Com parison of I AS, US GAAP, and UK GAAP other trustees are selected after consultation with international organizations of preparers, users, and I ndex academics for the purpose of obtaining one trustee from each of those backgrounds. Eleven "at-large" List of Tables trustees are also selected. The at-large designation signifies that these trustees are not appointed List of Ex hibits and Ex am ples through the consultation process. These trustees are expected to bring to IASC strong public interest List of Sidebar s Trustees shall normally be appointed for a three-year period, renewable once. The backgrounds. nominating committee shall appoint the first chairman of the trustees. (The former chairman of the US Federal Reserve Board, Mr. Paul Volcker, was appointed the first chairman of the trustees.) Appendix A - Di sclosure Checklist

The trustees appoint the members of the IASC Board which consists of fourteen members, twelve fulltime and two part-time. Technical expertise, which presupposes both technical skills and experience, is the most important prerequisite for a board member. Although the selection of the members would not be based on geographical representation, yet the trustees would not allow any particular constituency or geographical interest to dominate. The constitution has provided detailed guidance relating to

"criteria for board members" in an appendix. The eight criteria are 1. Proven technical competence and knowledge of standards W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

2. Ability to analyze I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

3. Communication Mir za skills

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages)

4. Judicial decision making

This com pact and t ruly com pr ehensive qui ck - refer ence esent s account ants with a guide to depend on for 5. Awarenessprof global economic environment assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

6. Ability to respect viewpoints of other members T ab le of Con t en t s

7. Demonstrated credibility, integrity and discipline

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

8. Commitment to the IASC's mission and public interests

Preface

Chapter 1 - aI ntr oduction to I nter nationalperspective Accountingand Standar ds To achieve proper balance between experience, the following mix of representatives Chapter 2 Balance Sheet (on the board) has been prescribed by the constitution: I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Minimum five members backgrounds as practicing auditors; of of Recognized Gainshaving and Losses Minimum of three members with backgrounds as users of financial statements; and - Financial I nstr uments—Cash and Receiv ables

Chapter 5

Chapter - Ione nventor y At 6least member with an academic background. Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s

Furthermore, to achieve its, objective of convergence of national accounting standards and to ensure Chapter 8 - Property , Plant and Equipment promotion IAS, the requires that seven out of the twelve full-time members of the board Chapter 9 -ofI ntangi ble constitution Asset s will be expected to have formal liaison responsibilities withJoint national standard I nterests in Financial Instr um ent s, Associat es, Ventur es, and setters.

Chapter 10 -

I nvestm ent Pr oper ty Members the boardCombinations will be appointed for a termedofFin upancial to fiveStatements years, renewable once. The trustees Chapter 11 of - Business and Consolidat

shall appoint one of the full-time members as the chairman of the board, who shall also be the chief

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 of - the IASC. (The first chairman of the newly constituted board is Sir David Tweedie.) executive Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt

The board has complete responsibility for all technical matters and shall have full discretion over the technical agenda of the IASC. In addition, the board's responsibilities also encompass the matters set Chapter 15 - I ncom e Taxes forth below. Chapter 14 - Leases

Chapter 16 - Em ploy ee Benefit s Chapter Forming 17 - Stock steering holder committees; s' Equit y Chapter 18 - Earnings Per Share

Establishing procedures for review of comments received on documents published for comment;

Chapter 19 - I nterim Financial Repor ting

Chapter 20 - Segm entStandards Repor tingAdvisory Council on major projects; Consulting the Chapter 21 - Accounting Changes and Cor rection of Er ror s

Consider public Chapter 22 - Forholding eign Curr ency hearings; Chapter 23 - Related- Part y Disclosures

Issuing bases for conclusions with IAS and Exposure Drafts; and

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation Consider undertaking field trips with a view to ensuring proposed standards are practical and Chapter 26 Gov er nm ent Gr an ts workable in all environments. Appendix A - Di sclosure Checklist

The IASC thes Constitution to create Appendix B Foundation - I llustrativ eTrustees Financial revised St atem ent Pr esent ed Under I AS the International Financial Reporting Committee which as theand successor Appendix C - (IFRIC), Com parison of functions I AS, US GAAP, UK GAAPto the former Standing Interpretations Committee (SIC) and is responsible for interpreting the application of the IASC standards in the context of the I ndex

Framework. The IFRIC shall consist of twelve members who are appointed by the trustees for a term of three years. The trustees shall appoint a Board member of the IASB, the Director of Technical Activities List of Ex hibits and Ex am ples or another senior member of the IASB staff, or another appropriately qualified individual, to chair the List of Sidebar s IFRIC. The Chair has the right to speak on the technical issues being deliberated upon, but not to vote; each member of the IFRIC has one vote. Approval of Drafts or final Interpretations require that not more than three voting members vote against the Draft or the final Interpretation. List of Tables

The SAC provides a forum for participation by organizations and individuals with an interest in international financial reporting, primarily with the objective of giving advice to the board on its technical agenda. The trustees shall appoint the members of the SAC. In June 2001, a forty-nine-member SAC was announced, which includes chief financial officers of some

of the world's largest corporations, leading financial analysts and academics, regulators, accounting standard setters, and partners from leading accounting firms. This membership is drawn from six continents, twenty-nine fivere international W ile y countries, I AS 2 0 03 :and I n t erp t at ion an d organizations. Ap p licat io n o fSAC members serve for a renewable term ofI nthree years. Under the terms of the IASB's constitution, the IASB Chairman also t er n at ion al Accou n t in g St an d ar ds chairs the SAC. by Bar r y J. Epstein and Abbas Ali ISBN:0471227366 Mir za

SAC will normallyJohn holdWi three a year, which will be open to the public. Its mandate is to ley &meetings Sons © 2003 (952 pages) 1. Advise theThis IASB onpact priorities in the Board's workqui program; com and t ruly com pr ehensive ck - refer ence pr esent s account ants with a guide to depend on for in the prepar at ion and issues; under standing of financial 2. Advise on assistance technical accounting standards statements present ed in accordance with I AS.

3. Inform the Board of the implications of proposed standards for users and preparers of financial T ab le of Con t en t s statements; and Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar 4. ds Give other advice to the Board or to the trustees. Preface

The staff IASC includes anational technical director and a commercial director, both appointed by the Chapter 1 of - the I ntr oduction to I nter Accounting Standar ds chief executive (the chairman of the board) in consultation with the trustees. The chief executive is Chapter 2 - Balance Sheet responsible Ifor thee other staffingStat of em theent IASC as well. ncom Statement, of Chan ges in Equit y, and Statem ent -

Chapter 3

of Recognized Gains and Losses

IASC Foundation and the International Accounting Standards - Financial I nstr uments—Cash and Receiv ables Board Chapter 6 - I nventor y Chapter 4

- Cash Flow St at em ent

Chapter 5 Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Establishment of IASC Foundation and IASB. - Property , Plant , and Equipment

Chapter 8

Chapter 9 2001 - I ntangi ble Asset sagreed to activate the new Constitution approved in May 2000, effective In March the trustees I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and immediately. Chapter 10 - This meeting established a not-for-profit Delaware corporation, named the International I nvestm ent Pr oper ty

Accounting Standards Committee Foundation (IASC Foundation), to oversee the newly created International Accounting Standards Board (IASB).

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

The International Accounting Standards Board (IASB)

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

The newly constituted IASB rather quickly began to address both carryover projects from the old IASC and a newly devised listing of technical projects.

Chapter 15 - I ncom e Taxes

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y

First technical agenda.

Chapter 18 - Earnings Per Share Chapter 19technical - I nterimmeeting Financial tingIASB was held in April 2001. It considered a list of forty-two The first ofRepor the new Chapter topics that 20 -were Segmrecommended ent Repor ting by the IASB members themselves, the IASB staff, the former IASC

Board, 21 accounting standard setters, IOSCO,ofthe European Commission, the international Chapter - Accounting Changes and the Cor rection Er ror s accounting and other Chapter 22 - firms, For eign Curr encyinterested parties, as possible subject matter for future IASB projects. The recommended projects from conceptual issues to convergence issues. A number of these are Chapter 23 - RelatedPartrange y Disclosures topics that expectedI ndustr to result Chapter 24 -are Specialized ies in entirely new standards, as contrasted to mere revisions or improvements to existing standards. Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

In firming up a definitive agenda, the IASB is required to consult with both the Standards Advisory

Appendix A - Di Council and itssclosure partnerChecklist national standard setters. The IASB is working with a plan that broadly groups Appendix B I llustrativ Financial St atem ent s Pr esent ed Under I AS its future projects intoethe following categories: Appendix C - Com parison of I AS, US GAAP, and UK GAAP

1. Improvements projects

I ndex

List of 2. Tables Critical path projects List of Ex hibits and Ex am ples

3. Sidebar Conceptual framework projects List of s 4. Leadership projects 5. Convergence projects 6. Other financial reporting projects

Exposure Draft on Improvements Project.

In May 2002 the IASB published an Exposure Draft on its Improvements Project, which proposes amendments to twelve of its thirty-four active standards. The following standards are covered by this Improvements Project: W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

IAS 1, Presentation of Financial Statements

by Bar r y J. Epstein and Abbas Ali Mir za IAS 2,Inventories John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

Thisorcom pact comFundamental pr ehensive quiErrors ck - refer ence IAS 8,Net Profit Loss forand thet ruly Period, and Changes in Accounting Policies pr esent s account ants with a guide to depend on for assistance in the prepar ion and under standing of financial IAS 10, Events After Balance Sheet at Date statements present ed in accordance with I AS.

IAS 16,Property, Plant and Equipment

T ab le of Con t en t s

Wiley IAS I AS 17, 20 03—Int Leaseser pretation and Application of I nternational Account ing Standar ds Preface IAS 21,The Effects of Changes in Foreign Exchange Rates Chapter 1 - I ntr oduction to I nter national Accounting Standar ds

IAS2 24, Related-Party Chapter - Balance Sheet Disclosures I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter - Consolidated Financial Statements and Accounting for Investments in Subsidiaries IAS3 27, of Recognized Gains and Losses Chapter 4

- Cash Flow St at em ent IAS 28, Accounting for Associates

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter IAS6 33, - IEarnings nventor y Per Share Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

IAS 40, Investment Property - Property , Plant , and Equipment

Chapter 8

Chapter 9 - Improvements I ntangi ble AssetProject s The IASB's addresses topics that can be dealt with fairly quickly and which are I nterests in Financial Instr to umbe entconsidered s, Associat es, Ventur andprojects. The objective is to not individually sufficiently significant as Joint separate ores, major Chapter 10 I nvestm ent Pr oper ty

raise the quality and consistency of financial reporting by drawing on best practices from around the world, and to eliminate alternatives permitted under current IAS.

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balance Sheet Date IASB's new work program.

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter - Leases In June14 2002 the IASB announced its new work program which will tackle areas that were carried Chapter 15 I ncom e Taxes forward on- its initial agenda. The main work program concentrates on three areas, which are Chapter 16 - Em ploy ee Benefit s

Consolidations (including of special-purpose entities, or "SPE"); Chapter 17 - Stock holder s' Equittreatment y Chapter 18 - Earnings Per Share

Revenue—definition and recognition—and related aspects of liabilities;

Chapter 19 - I nterim Financial Repor ting Chapter Convergence 20 - Segm ent on Repor topicsting wherein high-quality solutions are available in international and national

standards (such asChanges accounting segment reporting, and business Chapter 21 - Accounting andfor Corincome rection taxes, of Er rorpensions, s combinations). Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures

Furthermore, the IASB intends to commence active research, often undertaken jointly with national standard setters, on topics such as

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation

Chapter 26 - Gov er ent Gr an ts Accounting fornmsmall and medium-sized entities and entities in emerging economies; Appendix A - Di sclosure Checklist

Lease Appendix B -accounting; I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Accounting for financial instruments; and

List ofAccounting Tables concepts, including a strategic review of the basic elements of accounting, and design List ofwork Ex hibits on measurement, and Ex am ples focusing initially on impairments. List of Sidebar s

Looking further forward, the IASB will urge the national standard setters and others to carry out initial work on projects that may ultimately be included in the IASB's main agenda. Such projects are expected to include Management reporting in relation to financial reports (usually referred to as "MD&A" reporting); Accounting for extractive industries; Accounting for public and other concessions (e.g., public to private arrangements for transport,

health, and other infrastructure).

Preface to International Financial Reporting Standards (2002). W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

In May 2002, the IASB published a revised text for the PrefaceISBN:0471227366 to International Financial Reporting by Bar r y J. Epstein and Abbas Ali Standard (the Preface). Mir za The purpose was to amend and reissue the existing Preface (which had most recently been amended and to set forth the objectives, procedures and due process of the John Wiin ley1982) & Sons © 2003 (952 pages) IASB and explainThis the com scope and authority of IFRS. Certain matters addressed by the Preface are in fact pact and t ruly com pr ehensive qui ck - refer ence clarifications of issues that have been debated for a time.onWith pr esent s account ants with a guide tolong depend for these issues now having been categorically addressed by the Preface, the formerly them will hopefully be assistance in the prepar at ioncontroversies and under standing of surrounding financial statements present ed in accordance with I AS. of the IASB, which was also already dealt laid to rest. Besides addressing issues such as the objectives with by the Constitution, the Preface addresses the following matters: T ab le of Con t en t s of IFRS Wiley Scope I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface

New standards to be issued by the IASB will be known as international financial reporting

(IFRS); Chapter 1 standards - I ntr oduction to I nter national Accounting Standar ds Chapter 2

- Balance Sheet All International Accounting Standards (IAS) and interpretations (SIC) issued by the former I ncom Statement, Stat of Chan ges in Equit andthey Statem ande SIC continue toem beent applicable unless andy,until are ent revised or withdrawn; Chapter 3 IASC of Recognized Gains and Losses

Chapter 4 IFRS - Cash FlowtoStthe at em ent apply general-purpose financial statements of all profit-oriented entities Chapter 5 regardless - Financial of I nstr uments—Cash andimplication, Receiv ables their legal form. By IFRS are not designed to apply to not-for-profit Chapter 6 activities - I nventor iny the private sector, public sector or government; nevertheless, entities with such might findtion, themI ncluding appropriate; Chapter 7 activities - Rev enue Recogni Constr uction Contr act s Chapter 8 Chapter 9

- Property , Plant , and Equipment

IFRS apply both to individual and consolidated financial statements; - I ntangi ble Asset s

I nterests in the Financial Instr issued um ent s,byAssociat es, included Joint Ventur es, and in bold italic type as well standards the IASC paragraphs Chapter 10 Traditionally, I nvestm ent Pr oper ty

as paragraphs set in plain type. Some may have incorrectly interpreted the bold italic paragraphs as having greater authority than did the plain type materials. The paragraphs in Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 bold italic type and plain type have equal authority, however. IFRS will present standards Balance Sheet Date maintaining the "black-letter" and "gray-letter" distinction—with boldface type used to Chapter 13 - Financial I nstr uments—Long- Ter m Debt enunciate "fundamental principles" and normal type being used to present guidance thereon. Chapter 14 - Leases These will continue to have equal weight and importance. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 15 - I ncom e Taxes

Chapter 16 - due Em ploy ee Benefit The IASB's process has sbeen set forth earlier in this chapter. The International Financial Reporting Chapter 17 - Stock holder s' Equit y Interpretations Committee (IFRIC) also has an established protocol for its due process, which has also

been presented above. Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting

The Improvements Project in Greater Detail

Chapter 20 - Segm ent Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror s

The newly IASB's Chapter 22 -constituted For eign Curr ency initial undertaking, as noted above, has been the proposed revision to a number23of -extant IAS. These recommended changes are summarized below (and are further Chapter RelatedPart y Disclosures addressed, appropriate, in subsequent chapters of this book). Chapter 24 - as Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation

Proposed changes to existing standards.

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

Amendments have been proposed to twelve of the existing standards. These are as follows:

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix IAS 1, Presentation C - Com parison of Financial of I AS, USStatements, GAAP, and UKwill GAAP be revised to expound upon the "presents fairly"

theme. "Presents fairly" will be defined as "represent[ing] faithfully the effects of transactions and other I ndex events in accordance with the definitions and recognition criteria for assets, liabilities, income and List of Tables expenses set and out in theples Framework for Preparation and Presentation of Financial Statements. " List of Ex hibits Ex am Financial statements that follow IFRS and Interpretations of IFRS, with additional disclosure when List of Sidebar s

necessary, will be presumed to achieve a fair presentation. In those extremely rare circumstances in which management concludes that compliance with a requirement in an IFRS or IFRIC would be so misleading that it would conflict with the objective of financial statements set out in the Framework, and the departure is not prohibited by national law, the reporting entity would be required to make that departure and provide specified disclosures. However, if the departure is prohibited by national law, the entity would have to reduce, to the maximum extent possible, the perceived misleading aspects of compliance by providing certain specified disclosures.

The amendment to IAS 1 would relocate existing guidance on selection of accounting policies to IAS 8. In a significant change, balance sheet classification of assets and liabilities between current and W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f noncurrent will beI nrequired unless a "liquidity presentation" (listing captions in decreasing order of t er n at ion al Accou n t in g St an d ar ds liquidity without subtotals for current and noncurrent) provides more relevant and reliable information. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Currently, IAS 1 allows Mir za free choice between current/noncurrent classification and a liquidity presentation. IASJohn 1 would that a (952 refinancing Wi leystipulate & Sons © 2003 pages) after the balance sheet date should not be taken into account in classifying liabilities as current/noncurrent. If, at the balance sheet date, a lender has an This com pact and t ruly com pr ehensive qui ck - refer ence absolute right to demand repayment immediately, the liability would pr esent s account ants with a guide to depend on for have to be displayed as a current liability, even if, after the balance agreed not to demand payment. Finally, if a assistance in the sheet prepardate, at ion the andlender under standing of financial statements present ed inon accordance I AS. conditions related to the borrower's loan covenant making a liability payable demand ifwith certain financial position are breached, and such breach exists at the balance sheet date, the liability is T ab le of Con t en t s classified as current, even if corrected after the balance sheet date. There would be an exception if, Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing prior todsthe balance sheet date, the lender has granted a grace period in which to correct the breach Standar and, when the financial statements are authorized for issue, either (1) the borrower has corrected the Preface breach or (2) the grace period has not yet expired. Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Chapter 2 - Balance IAS 1 would also be Sheet modified to stipulate certain line-item disclosures that are required by other IAS to I ncom e Statement, Stat em ent of Chan ges in Equit y, andand Statem ent be on the face of the balance sheet (including investment property biological assets) or on the face Chapter 3 of Recognized Gains and Losses

of the income statement (gain/loss on disposal of a discontinuing operation). Certain line-item Cash Flow St at em ent disclosures- on the face of the income statement will be eliminated, including results of operating Chapter 5 Financial I nstr uments—Cash and Receiv activities, profit or loss from ordinary activities, and ables extraordinary items. Disclosure of the following Chapter 6 I nventor y items will be dropped: an entity's country of incorporation (but the required disclosure of domicile will Chapter 7 - Rev enue Constr uction act s not be dropped), the Recogni addresstion, of itsI ncluding registered office, andContr the number of its employees. Chapter 4

Chapter 8

- Property , Plant , and Equipment The proposed amendment Chapter 9 - I ntangi ble Assetto s IAS 1 would add certain disclosures of accounting policies. One of these

would deal with judgments made Instr by management in applying accounting I nterests in Financial um ent s, Associat es, Jointthe Ventur es, and policies that have the most significant effect of items recognized in the financial statements. Another would I nvestm enton Prthe operamounts ty require 11 disclosure of key assumptions the future, and other sources of measurement uncertainty, Chapter - Business Combinations and about Consolidat ed Fin ancial Statements that have a significant risk of causing a material adjustment to the amounts of assets and Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev entscarrying after t he Chapter 12 liabilities within the next financial Balance Sheet Date year. Chapter 10 -

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Restatement of comparative information under IAS 1 would be exempted when the restatement would cause undue cost or effort.

Chapter 14 - Leases

Chapter 15 - I ncom e Taxes

Chapter Em ploy ee s Finally,16 the- current IASBenefit 1 requirement to present a Statement Showing Changes in Equity will be Chapter 17by - Stock holder s' of Equit y replaced a Statement Changes in Equity that must show either (1) all changes in equity or (2) Chapter 18in- equity Earnings Perthan Share changes other those arising from capital transactions with owners and distributions to Chapter owners.19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

IAS 2, Inventories, willChanges also be amended to banofuse ofs the LIFO costing method. Currently, it is the Chapter 21 - Accounting and Cor rection Er ror

allowed alternative under IAS 2. This particular proposal is controversial because LIFO is largely a taxdriven principle, and a "conformity rule" may prevent entities from using LIFO for tax purposes unless Chapter 23 - Related- Part y Disclosures the financial statements do likewise. Chapter 22 - For eign Curr ency

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation The proposal also includes, as an additional required disclosure, the amount of writedowns of inventory Chapter 26 Gov er nm ent Gr an ts to net realizable value. Appendix A - Di sclosure Checklist

Additional be provided forent inventories of service providers. If revenues related to services Appendix B -guidance I llustrativwill e Financial St atem s Pr esent ed Under I AS

providedChave not been of recognized, the remaining work in progress is considered to be inventory and is Appendix - Com parison I AS, US GAAP, and UK GAAP to be measured at the costs of production, which will not be permitted to include profit margins or nonproduction costs that are often factored into prices.

I ndex

List of Tables

List of Ex hibits and Ex am ples Finally, existing SIC 1, Consistency—Different Cost Formulas for Inventories, will be incorporated into List IASof2.Sidebar s

IAS 8, Net Profit or Loss for the Period, Fundamental Errors and Changes in Accounting Policies, would also be substantially altered if the improvements proposed are adopted. Its name would be changed to Accounting Policies, Changes in Accounting Estimates and Errors. A GAAP hierarchy would be incorporated into the revised standard, indicating that the following sources are to be applied in descending order of authoritativeness: International Financial Reporting Standard, including any appendices that form part of the Standard

(existing IAS are treated as IFRS for this purpose). Interpretations.

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Appendices to an IFRS that do not form part of the Standard. by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za Implementation guidance issued by IASB in respect of the Standard. John Wi ley & Sons © 2003 (952 pages)

Guidance regarding accounting policies currently included Thisselection com pact of and t ruly com pr ehensive qui ck - refer ence in IAS 1 will be moved to IAS 8. pr esent s account ants with a guide to depend on for

The current distinction madeinbetween fundamental and standing other errors in IAS 8 will be eliminated. Errors assistance the prepar at ion and under of financial present ed in accordance with I AS. will be defined asstatements newly discovered omissions or misstatements of prior period financial statements based on information that was available when the prior financial statements were prepared. All material T ab le of Con t en t s errors will be accounted for retrospectively by restating all prior periods presented and adjusting the Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing opening Standar ds balance of retained earnings of the earliest prior period presented. Cumulative effect recognition in income, permitted under current IAS 8, will henceforth be prohibited. Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds An entity would be exempted from restating comparative information under IAS 1 only when the

Chapter 2 - Balance Sheet "undue cost or effort." This differs from the existing exemption, which is restatement would require I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent based on Chapter 3 "impracticability." of Recognized Gains and Losses Chapter 4 changes - Cash Flow St at em ent policy will be accounted for retrospectively by adjusting the opening Voluntary in accounting Chapter Financialearnings I nstr uments—Cash andprior Receiv ables Cumulative effect recognition in current balance5 of-retained and restating periods. Chapter income6would - I nventor be prohibited. y Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

In another -major change, it has been proposed that extraordinary item classification be eliminated. All Property , Plant , and Equipment items of income and expense will henceforth be part of the ordinary activities of the entity.

Chapter 8 Chapter 9

- I ntangi ble Asset s

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Changes Chapter 10 in- the measurement basis or method applied would be treated as changes in accounting I nvestm ent Pr oper ty

policy, not as changes in estimate.

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Under the Chapter 12 -amended IAS 8, it will be necessary to disclose, when there has been enacted a new IASB Balance Sheet Date standard that has not yet become effective, the nature of the future change in accounting policy, the Chapter - Financial I nstr uments—LongTer m Debt date the13entity plans to adopt the Standard, and the estimated effect of the change on financial position Chapter 14 Leases or, if such an estimate cannot be made without "undue cost or effort," a statement to that effect. Chapter 15 - I ncom e Taxes

Finally,16 SIC- Em 18,ploy Consistency—Alternative Methods, will be incorporated into the amended IAS 8. Chapter ee Benefit s Chapter 17 - Stock holder s' Equit y

IAS 10, Events After the Balance Sheet Date, will be amended to clarify that an entity should not recognize a liability for dividends declared after the balance sheet date because it is not a present Chapter 19 at - I nterim Repor obligation balanceFinancial sheet date asting described in IAS 37. Chapter 18 - Earnings Per Share

Chapter 20 - Segm ent Repor ting

IAS 16,21 Property, Plant, and Equipment, will be revised Chapter - Accounting Changes and Cor rection of Er ror s in significant ways if the proposal is enacted. It will require that a components approach be used for depreciation, under which each material Chapter 22 - For eign Curr ency component a composite asset with different useful lives or different patterns of depreciation must be Chapter 23 - of RelatedPart y Disclosures accounted separately for the Chapter 24 -for Specialized I ndustr iespurpose of depreciation and accounting for subsequent expenditure

(including renewal). For example, in a building, the roof, the mechanical systems, and Chapter 25 replacement - I nflation andand Hyperinflation the ventilation and heating plant would be assigned individual lives.

Chapter 26 - Gov er nm ent Gr an ts

Appendix - Di sclosure Another Amajor change Checklist would be the inclusion, in the acquisition cost of property, plant, and equipment, Appendix B I llustrativ e Financial St atem s Pr esent ed Under of the amount of an IAS 37 provision forent the estimated cost ofI AS dismantling and removing the asset and Appendix - Com of I AS, GAAP, and UK GAAP when the asset is acquired and incremental restoringCthe site,parison including bothUS provisions recognized I ndex provisions recognized over the period the asset is used. However, after a provision is recognized, an List of Tables increase to the provision resulting from accretion of interest or a change in the discount rate will be List of Ex hibits and Ex am ples charged to expense, not added to the asset cost. List of Sidebar s

Amended IAS 16 will stipulate that the accounting for incidental revenue (and related expenses) during construction or development of an asset is to depend on whether the incidental revenue is a necessary activity in bringing the asset to the location and working condition necessary for it to be capable of operating in the manner intended by management (including those to test whether the asset is functioning properly). Net sales proceeds received during activities necessary to bring the asset to the location and working condition necessary for it to be capable of operating properly are deducted from the cost of the asset. Revenue and related expenses would be separately recognized for operations that occur in connection with construction or development of an asset but that are not necessary to

bring the asset to the location and working condition necessary for it to be capable of operating properly. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

IAS 16 will shed its current references to start-up costs, preoperating costs, preproduction costs, and I n t er n at ion al Accou n t in g St an d ar ds similar items; in their stead, more general principles will be provided. On the other hand, a more ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali specific explanation of measurement of residual value would be provided; this would be based on Mir za current (i.e., asset acquisition for pages) assets of a similar age and condition to the estimated John Wi ley & date) Sons ©prices 2003 (952 age and conditionThis of the asset when it reaches the end of its useful life. com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

Exchanges of similar items of and under equipment would be recorded at fair value, with gain assistance in property, the preparplant, at ion and standing of financial or loss recognized, unless neither the value of thewith asset given up nor the fair value of the asset statements present ed fair in accordance I AS. acquired could be measured reliably, in which case the cost of the acquired asset would be the carrying T ab le of Con t en t s amount of the asset given up. This sharply contrasts with current rules, under which gain or loss is not Wiley I AS 20 03—Int er pretation of Ito nternational ing intangible assets by amending recognized. This principle will and alsoApplication be extended previously Account recognized Standar ds IAS 38, though caution will be added in IAS 38 regarding the importance and difficulty of measuring the Preface fair value of intangibles. The principle will not be extended to exchanges of goods and services of a Chapter 1 - I ntr oduction to I nter national Accounting Standar ds similar nature under IAS 18, which would continue to be accounted for at carrying amounts. Chapter 2

- Balance Sheet

The proposal I ncom would e Statement, conform IAS Stat 16em toent IASof37. Chan While ges current in Equit y, IAS and 16Statem appears entto permit measurement of Recognized Gains and at Losses subsequent of restoration expenditure revalued amounts, whereas IAS 37 requires that a provision Chapter - Cash FlowatStthe at em ent should 4be measured amount required to settle it or transfer it to a third party, the amended IAS Chapter 5 adopt - Financial I nstr 16 would the IAS 37uments—Cash approach. and Receiv ables Chapter 3

Chapter 6

- I nventor y The amendment would change theI ncluding criteria for adding further Chapter 7 - Rev enue Recogni tion, Constr uction Contrcosts act s to the recorded amounts of long-

lived assets. Under current IAS 16, subsequent expenditures can be capitalized if the asset's originally - Property , Plant , and Equipment assessed level of performance is enhanced by the expenditure. As amended, this will be possible only Chapter 9 - I ntangi ble Asset s if the expenditure increases the asset's future economic benefits above those reflected in its most I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter recently10assessed ofoper performance. I nvestmlevel ent Pr ty Chapter 8

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

In other proposed changes, SIC 6 (costs of modifying software) is to be withdrawn. Entities would be

Curr entan Liabilit ies,estimated Prov isions,useful Cont ingencies, and entsfinancial after t heyear-end rather than required12to- review asset's life at least at Ev each Chapter Balance Sheet Date

"periodically" as currently required by IAS 16. Items of property, plant, and equipment that are idle or held for sale will continue to be depreciated and tested for impairment, and ceasing to use the asset will Chapter 14 - Leases be identified as a trigger for impairment review under IAS 36. Third-party compensation for an item of Chapter 15 plant, - I ncom Taxes property, or eequipment that was impaired, lost or given up will be includable in profit or loss for Chapter 16 Em ploy ee s the period in which it isBenefit received, with appropriate disclosure. Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 17 - Stock holder s' Equit y

The amendment will create additional disclosures regarding the methods and significant assumptions Chapter 18 - Earnings Per Share applied19 in estimating the assets' fairting values; and regarding the extent to which the assets' fair values Chapter - I nterim Financial Repor were determined byting reference to observable prices in an active market or recent market Chapter 20 - Segm directly ent Repor transactions on arm's-length terms were estimated other valuation techniques. Chapter 21 - Accounting Changes andorCor rection of Er rorusing s Chapter 22 - For eign Curr ency

IAS 17, Leases, has been targeted for several changes. First, when a single lease covers both land

Chapter 23 - RelatedPart y Disclosures and buildings, the minimum lease payments at the inception of the lease (including any up-front Chapter 24 Specialized I ndustr ies payments) are to be allocated between the land and the buildings elements in proportion to their Chapter I nflationThe andland Hyperinflation relative25 fair- values. element is generally classified as an operating lease, while the buildings Chapter 26 Gov er nm ent Gr ts element is classified as an an operating or finance lease by applying the criteria of IAS 17. However, if the Appendix A - Di sclosure lease payments cannotChecklist be allocated reliably between these two elements, the entire lease is classified Appendix as a finance B - I llustrativ lease, unless e Financial it is clear St atem thatent both s Pr elements esent ed Under are operating I AS leases. Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Furthermore, the definition of investment property in IAS 40 will be amended so that property rights held under an operating lease can qualify as investment property if the other conditions for investment List of Tables property are met and the lessee's policy is to account for investment property using the fair value List of Ex hibits and Ex am ples model. I ndex

List of Sidebar s

Finally, initial direct costs incurred by lessors will be capitalized and amortized over the lease term. The presently available alternative, to expense initial direct costs up front, will be eliminated. The costs to be capitalized will be limited to costs that are incremental and directly attributable to the lease and may include both internal and external costs. IAS 21, Changes in Foreign Exchange Rates, is another standard that will receive significant revisions under the Improvements Project. First, in order to eliminate any potential inconsistency between IAS 21 and IAS 39, foreign currency derivatives that are within the scope of IAS 39 will be

removed from the scope of IAS 21. Second, IAS 21's concept of "reporting currency" will be superseded by two concepts: that of W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f functional currency (the currency in which the enterprise measures the items in the financial I n t er n at ion al Accou n t in g St an d ar ds which the enterprise presents its statements) and that of presentation currency (the currency in ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali financial statements). Mir zaFunctional currency will be used in place of measurement currency (which is presently found inJohn SIC Wi 19) with US GAAP and common usage. Functional currency is leyto&converge Sons © 2003 (952 pages) defined as "the currency of the primary economic environment in which the enterprise operates." This com pact and t ruly com pr ehensive qui ck - refer ence Guidance in SIC pr 19esent would be relocated to amended 21. The measurement currency of each entity s account ants with a guide toIAS depend on for within a group is the currency country entity's economics; thus this is not subject assistance in of thethe prepar at ionthat anddrives under that standing of financial to free choice. statements present ed in accordance with I AS. T ab le of Con t en t s

Furthermore, under amended IAS 21, there will be no distinction between integral foreign operations

Wiley I AS 20 03—Int er pretation of I nternational Account ing foreign operation will have and foreign entities. An entity and that Application was previously classified as an integral Standar ds

the same functional currency as the reporting entity. IAS 21's indicators of what is an integral foreign operation as opposed to a foreign entity are to be incorporated into the indicators of what is an entity's Chapter 1 - I ntr oduction to I nter national Accounting Standar ds functional currency. As a result, operations that are presently classified as integral foreign operations Chapter 2 - the Balance would have sameSheet functional currency as the reporting enterprise. Preface

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Chapter 3

-

Chapter 9

- I ntangi ble Asset s

of Recognized Gains Losses Fourth, as amended, IAS 21 will and permit the reporting enterprise to present its financial statements in Chapter 4 - Cash Flow St at emthat ent it chooses. The financial statements of any operation whose functional any currency (or currencies) Chapter 5 differs - Financial nstrpresentation uments—Cash and Receiv ables currency from Ithe currency used by the reporting enterprise would be translated as Chapter follows 6(assuming - I nventor the y functional currency is not hyperinflationary): assets, liabilities and equity items at closing 7rate; income expense at the rateuction on the transaction date; all resulting exchange Chapter - Rev enue and Recogni tion, I items ncluding Constr Contr act s differences as a separate component of equity. Chapter 8 - recognized Property , Plant , and Equipment

Fifth, the current allowed alternative under IAS 21, permitting capitalization of certain exchange I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - is to be eliminated. In most cases in which IAS 21 has allowed capitalization, the asset has differences, I nvestm ent Pr oper ty also been subjected to restatement, in accordance with IAS 29. It has been concluded that to also Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements capitalize exchange differences results in double counting. Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Additionally, the choice of methods for translating goodwill and fair value adjustments to assets and liabilities that arise on the acquisition of a foreign entity is to be eliminated. Goodwill and fair value Chapter 14 - Leases adjustments will be translated at the closing rate. Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 15 - I ncom e Taxes Chapter Seventh, 16 amended - Em ploy ee IAS Benefit 21 will s stipulate that any ineffectiveness that arises on a hedge of a net

investment a foreign entity be reported in net profit or loss. This would conform to the Chapter 17 - in Stock holder s' Equitshould y treatment forPer other kinds of hedges under IAS 39. The conditions for using hedge accounting Chapter 18 required - Earnings Share for a hedge a net Financial investment in ating foreign entity will be the same as for other kinds of hedges under Chapter 19 - Iof nterim Repor IAS 39.20 All-of the ent guidance on hedging that is presently found in IAS 21 will move to IAS 39. Chapter Segm Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

Eighth, new guidance will be offered regarding translation of comparative prior period amounts. If the functional currency is not hyperinflationary, comparative assets and liabilities will be translated at the Chapter - RelatedPart y Disclosures closing 23 rate, and comparative income and expense items will be translated at historical exchange rates Chapter 24 Specialized I ndustr ies and expenses incurred. If the functional currency is hyperinflationary at the time the income was earned Chapter 25 I nflation and Hyperinflation and the presentation currency is also hyperinflationary, all balance sheet and income statement items Chapter 26 - Gov erat nmthe ent current Gr an ts closing rate. Finally, if the functional currency is hyperinflationary and will be translated Appendix A - Di sclosure Checklist the presentation currency is not hyperinflationary, prior period comparative amounts remain as Appendix previously B -reported, I llustrativthat e Financial is, they St are atem notent updated s Pr esent foredsubsequent Under I AS changes in price levels or exchange rates. C - Com parison of I AS, US GAAP, and UK GAAP Appendix Chapter 22 - For eign Curr ency

I ndex

IAS 21 would be amended to take account of the situation where a currency is suspended and this straddles a year-end. There is no current guidance on this matter. The revision states that where there List of Ex hibits and Ex am ples is nonexchangeability of a currency at the year-end, the rate that should be used is the exchange rate List of Sidebar s at the date when exchangeability is first reestablished. List of Tables

A number of existing SIC will be incorporated into revised IAS 21. These include most of the disclosure requirements found in SIC 30, as well as SIC 19 and SIC 30. SIC 11 will be withdrawn. IAS 24, Related-Party Disclosures. The definition of related parties will be expanded or clarified to include (1) parties with joint control over the reporting entity, (2) joint ventures in which the reporting entity is a joint venturer, (3) individuals who control the reporting entity, (4) postemployment benefit plans for the benefit of employees of the entity, or of any entity that is a related party of the entity, and

(5) nonexecutive directors. Also, further guidance will be provided regarding the definition of close family members (includes domestic partners and children or dependents of the individual or domestic partner). W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

The present exemption for state-controlled enterprises will be removed. Thus a state-controlled ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali enterprise will have to disclose transactions with other state-controlled enterprises. Mir za John Wi ley & Sons © 2003 (952 pages)

IAS 24 will be amended to clarify that it does not require remeasurement of the amounts of relatedcom pact and t ruly com pr ehensive qui ck - refer ence party transactionsThis to an arm's-length amount. Also the existing requirement to disclose the basis of pr esent s account ants with a guide to depend on for pricing related-party transactions be at removed, and itstanding will be clarified that related-party transactions assistance in the will prepar ion and under of financial should not be described as having on terms to those that would prevail in arm'sstatements presentbeen ed in made accordance withequivalent I AS. length transactions only if such a statement can be substantiated.

T ab le of Con t en t s

Wiley I AS 20 will 03—Int er pretation and amounts Application of I nternational ing Disclosure be required of the of transactions andAccount outstanding balances with related Standar parties,dsnot just the proportions of such transactions and balances. Also, disclosures will be required Preface about related-party balances: the terms and conditions of outstanding balances, including security, how Chapter 1 - will I ntrbe oduction I nter national Accounting ds repayment made, to details of guarantees givenStandar or received, and amounts of any bad debts Chapter 2 - Balance Sheet provisions. Chapter 3

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

IAS 27, Consolidated Financial Statements and Accounting for Investments in Subsidiaries, will of Recognized Gains and Losses be significantly revised, Chapter 4 - Cash Flow Stmaking at em entthe requirements for presentation of consolidated financial statements more expansive. Currently, it permits wholly (and virtually wholly owned) subsidiaries to be Chapter 5 - Financial I nstr uments—Cash and owned Receiv ables excluded from consolidation. The following new conditions would be imposed: Chapter 6 - I nventor y Chapter 1. The 7 - wholly Rev enue owned Recogni subsidiary's tion, I ncluding equityConstr and debt uction securities Contr act could s not be publicly traded; Chapter 8

- Property , Plant , and Equipment

2. It is-not in the process of issuing equity or debt securities in public securities markets; I ntangi ble Asset s

Chapter 9

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and 3. The Chapter 10 - immediate parent or ultimate parent publishes consolidated financial statements that comply I nvestm ent Pr oper ty

with IFRS; and

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he 4. If Chapter 12the - subsidiary is not wholly owned, the parent obtains the approval of the owners of the Balance Sheet Date minority interest. If nonconsolidation were to be elected, then the reporting entity should disclose Chapter 13 - Financial I nstr uments—Long- Ter m Debt

a. The reason for not publishing consolidated financial statements; and

Chapter 14 - Leases

Chapter 15 b. - I ncom Taxesof the parent that publishes consolidated financial statements that comply with The ename Chapter 16 - EmIFRS. ploy ee Benefit s Chapter 17 - Stock holder s' Equit y

Also proposed is the Per presentation of minority interest as part of equity, but separately from the parent's Chapter 18 - Earnings Share equity, 19 precluding currentRepor practice Chapter - I nterimthe Financial ting of displaying minority interest between liabilities and equity. Chapter 20 - Segm ent Repor ting

SIC 33 will be incorporated into IAS 27, but SIC 12, dealing with consolidation of SPE, will not be, since

Chapter 21 will - Accounting and Cor rection of Er ror s this issue be subjectChanges to separate consideration. Chapter 22 - For eign Curr ency

Amended 27 would current exemptions from consolidation requirements. In the case of Chapter 23 IAS - RelatedPart ytighten Disclosures temporary Chapter 24 -investments, Specialized I intended ndustr ies disposal within twelve months will be necessary to avoid consolidation, replacing current, vague "in the near future" criterion. Regarding restrictions on Chapter 25 - I nflation and the Hyperinflation transfer26of -funds, Chapter Gov er which nm ent currently Gr an ts can be used to justify nonconsolidation, this will be deleted (and also from standards dealingChecklist with equity method and joint venture accounting). All entities within the group Appendix A - Di sclosure will be required to use uniform accounting policies for like transactions and other events in similar circumstances. The practicability exemption in IAS 27 will be removed.

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

I ndex IAS 28, Investments in Associates. Investments that would otherwise be associates or joint ventures List of by Tables held venture capital organizations, mutual funds, unit trusts, and similar entities that are measured at List Ex hibits and Ex am ples fairofvalue in accordance with IAS 39, in accordance with well-established practice in those industries, List s willofbeSidebar excluded from the scope of IAS 28 and IAS 31. New guidance, and disclosures, for when it is

appropriate to overcome the presumption that an investor has significant influence if it holds 20% or more of the voting power, will be provided in the amended standard. Conforming changes will be made consistent with IAS 27, noted above. The revised standard will provide that an investor's share of losses of an associate should be recognized only to the extent of the investment in the associate. However, this will be clarified to state that an investment in an associate can include loans and long-term advances, which accordingly will affect the base to be reduced when an associate incurs losses. SIC 20 will be rescinded. SIC 3 and

SIC 33 will be incorporated into IAS 28. It will be made explicit that the date of the financial statements of an equity method associate used in W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f applying the equity method must not be more than three months earlier than the financial statements of I n t er n at ion al Accou n t in g St an d ar ds the investor. Also, the investor and equity method associates will be required to use uniform accounting ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali policies for like transactions and events in similar circumstances. Finally, additional disclosures will be Mir za required, including fairWi values investments associates for which there are published price John ley & of Sons © 2003 (952 in pages) quotations; summarized financial information of associates; reasons for a departure from the 20% This com pact and t ruly com pr ehensive qui ck - refer ence presumption of significant influence; differences in reporting pr esent s account ants with a guide to dependdates; on for restrictions on an associate's ability to transfer funds; assistance unrecognized losses ofatan investor's contingent liabilities with respect in the prepar ionassociate; and under the standing of financial to the associate. statements present ed in accordance with I AS. T ab le of Con t en t s

IAS 33, Earnings Per Share, is to be amended to require that basic and diluted EPS will be presented

Wiley I AS 20 03—Int pretation and Application of and I nternational Account ing on the face of the income for (1) profit or losserfrom continuing operations (2) net profit or loss, Standar ds

statement for each class of ordinary shares, for each period presented. Also, potential ordinary shares will be deemed dilutive only when their conversion to ordinary shares would decrease EPS from Chapter 1 - I ntr oduction to I nter national Accounting Standar ds continuing operations (in contrast to the IAS 33 requirement that currently uses net income as the Chapter 2 - Balance Sheet benchmark). Preface

Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

of amended RecognizedtoGains and IAS 33 will be include a Losses rebuttable presumption that contracts that may be settled in cash Chapter 4 will - Cash Flow St in at em ent and SIC 24 will be withdrawn. Currently issuance of shares must be or shares be settled shares, Chapter 5 but - Financial uments—Cash Receiv assumed, nationalI nstr standards tend toand permit theables use of past experience to base expectations upon. Chapter 6

- I nventor y Under the of the proposed if an entityContr purchases (for cancellation) its own Chapter 7 -terms Rev enue Recogni tion, amendment, I ncluding Constr uction act s

preference- shares for more than their carrying amount, the excess (premium) should be treated as a Property , Plant , and Equipment preferred dividend in calculating basic EPS (deducted from the numerator of the EPS computation). Chapter 9 - I ntangi ble Asset s Other amendments to IAS are promised, to deal with issues such as how to calculate the effects of I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - issuable shares; potential ordinary shares of subsidiaries, joint ventures, or associates; contingently I nvestm ent Pr oper ty participating securities; written put options; and purchased put and call options. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 8

Curr ent Liabilit ies, Prov Cont ingencies, anddefinition Ev ents after t he Investment Property, will isions, be amended to alter the of investment property, in order to IAS 40,12 Chapter Balance Sheet Date

permit a property interest held by a lessee under an operating lease to qualify as investment property provided that (1) the rest of the definition of investment property is met and (2) the lessee uses the fair Chapter 14 - Leases value model. Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 15 - I ncom e Taxes Chapter - Em ploy ee Benefit s Other16proposals considered

and consequential changes to be made

Chapter 17 - Stock holder s' Equit y

The IASB butShare decided not to make, changes to IAS 15 and IAS 23 at this time. Chapter 18 considered, - Earnings Per Chapter 19 - I nterim Financial Repor ting

IAS 15, Information Reflecting the Effects of Changing Prices, is to be withdrawn. This standard required enterprises electing to disclose the effects of changing prices by presenting supplementary Chapter 21 - Accounting Changes and Cor rection of Er ror s information on one of two bases: (1) adjusted for changes in the general price level or (2) balance Chapter 22 - For eign Curr ency sheet items measured at replacement cost. After this originally mandatory disclosure was made Chapter 23 in - RelatedPart y Disclosures voluntary 1989, companies stopped providing the information. Subsequent standards, including IAS Chapter 24 Specialized I ndustr ies 16, 32, 36, 39, and 41, have addressed the effects of changing prices for individual classes of assets, Chapter 25 I nflation and Hyperinflation permitting revaluations or requiring the use of fair value instead of historical cost. Thus IASB believes Chapter 26 - Gov nm ent Gr an ts this standard is er obsolete. Chapter 20 - Segm ent Repor ting

Appendix A - Di sclosure Checklist

Costs, had been under review for Under amendment as part of the Improvements Project. IAS 23, Borrowing Appendix B - I llustrativ e Financial St atem ent s Pr esent ed I AS The issue currently available choice Appendix C -was Comwhether parison the of I AS, US GAAP, and UK GAAPbetween expensing or capitalization of borrowing costs during asset construction would remain as options. IASB has decided to not address this at this time, however.

I ndex

List of Tables

List of Ex hibits and Ex amchanges ples Certain consequential to other standards are also being proposed, as follows: List of Sidebar s

IAS 31, Investments in Jointly Controlled Entities, will be revised to state that investments that would otherwise be associates or joint ventures held by venture capital organizations, mutual funds, unit trusts, and similar entities that are measured at fair value in accordance with IAS 39 will be excluded from the scope of IAS 28 and IAS 31. Other changes would conform to those being made to IAS 28. IAS 27, IAS 28, and IAS 31 will all be amended to stipulate that investments in subsidiaries, associates, and jointly controlled entities that are consolidated, proportionately consolidated, or accounted for under

the equity method in the consolidated financial statements must either be carried at cost or be accounted for in accordance with IAS 39. Investments in subsidiaries, associates, and jointly controlled entities that are accounted with 39Ap inpthe consolidated financial statements must W ile y I ASfor 2 0in 03accordance : I n t erp re t at ionIAS an d licat io n o f be accounted for Iin the same way in the investor's separate financial statements. Furthermore, an n t er n at ion al Accou n t in g St an d ar ds investor's separate financial statements would be required to disclose: the reasons why separate ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali statements are prepared; Mir za the existence of consolidated, proportionately consolidated, or equity method financial statements: Johnand Wi ley a description & Sons © 2003 of (952 the method pages) used to account for investments in subsidiaries, associates, and jointly controlled This com pact andentities. t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

Various IAS will also be revised incorporate new terminology the Improvements Project has assistance in thetoprepar at ion and under standing that of financial statements in accordance I AS. superseded by entity. Also, the proposed prescribed. For example, thepresent formered term enterprisewith is being elimination of separate income statement presentation of extraordinary items will affect a number of T ab le of Con t en t s standards that made reference to this, such as the segment reporting standard, IAS 14. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

A number of SIC are being withdrawn, generally because they are being incorporated into the IAS to which they relate. For example, SIC 1 is to be withdrawn because it was already covered in SIC 18, Chapter 1 - I ntr oduction to I nter national Accounting Standar ds which is being incorporated into IAS 8. Also being withdrawn are SIC 2, 3, 6, 11, 14, 18, 20, 23, 24, 30, Chapter and 33.2 - Balance Sheet Preface

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

of Recognized Gains and Losses EFRAG response to Improvements Project proposals.

Chapter 5 - with Financial I nstr uments—Cash and Receiv ables Consistent its stated due process efforts, EFRAG has responded to the twelve proposed amended Chapter 6 - I nventor y IAS in some great detail. In some significant cases, EFRAG has registered its opposition to proposed

changes. example, regarding "override" provisions of act amended IAS 1 (which it generally Chapter 7 For - Rev enue Recogni tion, Ithe ncluding Constr uction Contr s supports), objects ,toPlant permitting alternative treatments according to the regulatory framework of the Chapter 8 -it Property , and Equipment country9where the statements Chapter - I ntangi ble Asset s are issued. It believes that to do so would create great uncertainty about the requirements of IFRS where there areentconflicts between national requirements and IFRS. I nterests in Financial Instr um s, Associat es, Joint Ventur regulatory es, and

Chapter 10 -

I nvestm ent Pr oper ty

Regarding the plan to eliminate the "extraordinary item" classification, EFRAG acknowledges abuses that have been well publicized, but expresses concern that other means of presenting information Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 predictive useful for purposes—such as by distinguishing "nonrecurring," "unusual," "abnormal," or Balance Sheet Date "other items"—will simply spring into existence to accomplish the same objective. It accordingly prefers Chapter 13 - Financial I nstr uments—Long- Ter m Debt that this entire issue be addressed in the upcoming Performance Reporting project. Chapter 14 - Leases Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter - I also ncomregistered e Taxes disapproval with the proposal that management be required to disclose the EFRAG15has Chapter 16 Em ploy ee Benefit s accounting policies that have the most significant effect on the amounts judgment made in applying the Chapter - Stock holder s' Equit y of items17recognized in the financial statements, because of a concern that mere "boiler plate" Chapter 18 - will Earnings disclosures result.Per Share Chapter 19 - I nterim Financial Repor ting

The proposed change to require Chapter 20 - Segm ent Repor ting that essentially all exchanges of property be accounted for at fair value was also by EFRAG, because Chapter 21disapproved - Accountingof Changes and Cor rectionofofits Er belief ror s that the current standard makes a sensible

distinction between exchanges which are in effect sales of dissimilar items and swaps of similar assets that have a similar use in the same line of business (and have a similar fair value). It believes that Chapter 23 - Related- Part y Disclosures notwithstanding some difficulties in practice, judgment can be exercised based on how the assets are Chapter 24 - Specialized I ndustr ies used to determine the appropriate treatment under present IAS 16. Chapter 22 - For eign Curr ency

Chapter 25 - I nflation and Hyperinflation

Chapter - Gov er nm ent Grof anthe ts proposed requirement that amount of investments in associates to be EFRAG26also disapproves Appendix Di sclosure reduced Ato- nil when theChecklist associate incurs losses should include not only investments in the equity of the

associate also other interestsStsuch as slong-term Appendix B but - I llustrativ e Financial atem ent Pr esent edreceivables. Under I AS In its view, it could be inappropriate to effect a write-down of, for long-term receivables when good collateral is in place. Appendix C - Com parison of example, I AS, US GAAP, and UK GAAP I ndex

For the most part, EFRAG has communicated its support for the other amendments proposed in the Improvements Project.

List of Tables

List of Ex hibits and Ex am ples List of Sidebar s

US SEC's Concepts Release on IAS In February 2000, the US SEC issued a Concepts Release on IAS, soliciting comments on various issues surrounding the possible use of IASC standards, including regulatory infrastructure issues and audit requirements. The main question, however, was whether the US SEC should modify its present requirement for financial statements of foreign registrants seeking US listings to be reconciled to US GAAP.

While the responses to this Concepts Release varied a great deal, there was consensus on certain issues. Some of the issues raised and views expressed thereon and reported in the IASC's newsletter (Insight, June 2000) are W ile y I summarized AS 2 0 03 : I nbelow. t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Many commentators indicated support for the IASC and also thought the core set of IASC ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali standards were sufficiently comprehensive and high-quality. However, there was concern raised by Mir za most of the commentators about a need a global enforcement mechanism to promote the John Wi ley & Sons © 2003 (952for pages) uniform application of IAS. This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

Numerous commentators believed oversight by regulators assistance in the preparthat at ionactive and under standing of financialis required and there is a need for a strong global present regulatory body or system to Iensure consistency and high-quality statements ed in accordance with AS. accounting positions that serve global concerns. In fact, many opined that the US SEC and other T ab le of Con t en t s regulators should cooperate actively in developing a mechanism that would strengthen global Wiley regulations. I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Preface Divergent views emerged on the issue of a comprehensive infrastructure that must be in place so Chapter - I ntr oduction to I nter national Accounting Standarreporting ds that1 high-quality international accounting and financial standards can be used, Chapter 2 - Balance interpreted, andSheet enforced consistently throughout the world. Commentators believed that building such an I ncom infrastructure e Statement, would Stat require em entthe of Chan cooperation ges in Equit of many y, and international Statem ent organizations like the Chapter 3 of Recognized Gains Losses IASC, IOSCO, the IFAC, theand World Bank, the IMF etc. Some were of the opinion that until further Chapter 4 are - Cash Flow at em ent steps taken in St this direction, the US SEC should not eliminate its reconciliation requirements to Chapter - Financial I nstr uments—Cash and Receiv US5GAAP for foreign registrants. Further, they ables believed the US SEC should work with other Chapter regulators 6 - I nventor to encourage y the role of IAS at a national level since the more IAS are used by

multinational companies, the better the Constr chances of quickly achieving consistency in implementation Chapter 7 - Rev enue Recogni tion, I ncluding uction Contr act s and8 interpretation. Thus, they believed that the US SEC should state its intent to participate Chapter - Property , Plant , and Equipment actively the development of a global infrastructure and should be publicly supportive of other Chapter 9 - Iin ntangi ble Asset s organizations doing so. I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty

Preparers of financial statements stated that they understood and agreed with the US SEC's view that the US has a high-quality system of financial reporting and infrastructure. However, the Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 International Association of Financial Executives Institutes (IAFEI) suggested that while issues of Balance Sheet Date audit quality, regulatory oversight, and forth are important, they should not be allowed to Chapter 13 - Financial I nstr uments—LongTerso m Debt confuse the issue of whether IAS is yet an appropriate GAAP basis for at least cross-border Chapter 14 - Leases listings. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 15 - I ncom e Taxes

Chapter 16 - Em ee Benefit s Finally, on ploy the most important issue of reconciliation to US GAAP, which was central to the US Chapter 17 - Concepts Stock holder s' Equit ythe comments received were varied. In fact, many commentators SEC's Release, Chapter 18 - Earnings Per Share of the reconciliations to US GAAP and several commentators even questioned the usefulness Chapter 19 - I nterim Financial Reporbe ting questioned whether it should retained. Academic research of the measurement differences Chapter reflected 20 - Segm in the entUS Repor GAAP tingreconciliations shows that most differences appear to have no

information value. Changes and Cor rection of Er ror s Chapter 21 - Accounting Chapter 22 - For eign Curr ency

Based on these comments several possible solutions to the acceptance of IAS in US SEC filings that emerged were

Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies

1. Use IAS without reconciliations; Chapter 25 - of I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

2. Use of IAS without reconciliations, but with additional disclosures;

Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS 3. Narrative disclosure of significant areas of differences and partial reconciliations with Appendixquantification C - Com parison of I impact AS, US of GAAP, and UK GAAP areas of differences, along with an emphasis of the specified important I ndex

paragraph in the auditor's report;

List of Tables

4. Adoption of a hierarchy of acceptable standards from a variety of sources from non-US registrants; and

List of Ex hibits and Ex am ples List of Sidebar s

5. Full reconciliation to US GAAP in the short term, but strong support of the IASC. It has been over a year since the US SEC issued its concepts release to solicit comments about the possible use of IAS in the US securities markets, and about other issues related to international financial reporting. Reportedly, the US SEC staff has been analyzing the comment letters received, but the commission has said very little publicly about what it will do next. However, there have been strong messages that the US SEC's commitment towards working for global standards remains. Meanwhile, the IASC is confident that some accommodation for the IASC standards could reasonably be expected

from the US SEC, keeping in mind the recent endorsement of these standards by global authorities like IOSCO, the European Commission and the Basel Committee. Since the US SEC is now being perceived by the W world large as: aI n leader will an show the wayioand a vision to others, such an ile y at I AS 2 0 03 t erp rethat t at ion d Ap p licat n o offer f expectation by the IASC would not be considered unreasonable. I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Furthermore, since Mirthe za US SEC is the strongest member of IOSCO, the endorsement of the IASC standards by IOSCO been regarded many Johnhas Wi ley & Sons © 2003 by (952 pages)as signaling the US SEC's acquiescence. Whether it will be unqualifiedThis or with certain strings attached, like IOSCO"s endorsement, remains to be seen. com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

Officials of the US SEC have at support for under the initiative assistance in hinted the prepar at ion and standingrepresented of financial by the International Accounting Standards Boardpresent (IASB)ed and liaison with statements in its accordance withother I AS.national accounting standard setters. Writing in the Financial Times in March 2001, Lynn Turner, the then chief accountant of the SEC, T ab le of Con t en t s supported the creation of global accounting standards that promote and sustain investor confidence. Wiley I AS 20 03—Int pretation of andthe Application I nternational Account ing Acknowledging theerformation IASB, Mr.ofTurner expressed confidence that this was like "bringing Standar ds the brightest minds together that can create 'best of breed' standards which promote and sustain Preface investor confidence." Some say this appears to be a vote of confidence for the new IASB. Whether or Chapter 1 - I ntr oduction to I nter national Accounting Standar ds not the US SEC will unequivocally endorse the IAS as the global standards remains a big question Chapter BalanceofSheet mark in2the- minds many in the world of accounting. Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

The Way Forward - Cash Flow St at emfor ent the IASB

Chapter 4 Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Renewed appeal Chapter 6 - I nventor y

of "principles-based" standards.

The late 1990s and early 2000s were marked by a growing rate of incidences of financial reporting - Property , Plant , and Equipment fraud, some of which, particularly Enron and WorldCom, have precipitated a crisis in the professional Chapter 9 I ntangi ble Asset accounting- community (e.g.,s the demise of formerly much-admired firm Andersen) and in the realms of I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and professional Chapter 10 - regulations and government regulations (e.g., the mid-2002 passage of the SarbanesI nvestm ent Pr oper ty Oxley bill in the US Congress, establishing a new regulatory oversight regime and substantially Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements increasing criminal penalties for perpetration of fraudulent financial reporting). The highly detailed, Curr ent Liabilit isions, and Evobservers ents after as t hebeing a contributing factor "rules-based" approach of ies, US Prov GAAP has Cont beeningencies, cited by some Chapter 12 Balance Sheet Date in certain of the infractions that have come to light. Specifically, some have argued that a more Chapter 13 - Financial I nstr uments—Long- Ter m Debt "principles-based" approach, ideally that of IAS, would have obviated these abuses. Chapter 8

Chapter 14 - Leases

Chapter - I ncom issue, e Taxesand the claims of those citing IAS as having preventative properties need This is 15 a complex careful 16 consideration. While its is true that the increasingly rules-based approach (which, it must be Chapter - Em ploy ee Benefit

remembered, evolved theypast thirty years in response to increasingly complex business Chapter 17 - Stock holderover s' Equit transactions and structures) of US GAAP has been accompanied by increasingly crafty responses by Chapter 18 - Earnings Per Share reporting committed evading Chapter 19 entities - I nterim Financial to Repor ting various reporting requirements, it is not clear that a less prescriptive approach wouldting have been more effective. For example, while some critics have cited the Chapter 20 - Segm ent Repor Enron use hundred ofChanges unconsolidated SPE as Chapter 21 -ofAccounting and Cor rection of events Er ror s which would not have occurred under IAS, it

must be noted that neither would these have escaped consolidation under US GAAP, had it been properly applied. In fact, the belated correction of the Enron financial statements, in order to correctly Chapter 23 - Related- Part y Disclosures reflect the SPE and to report the formerly concealed debt obligations as liabilities of Enron itself, to Chapter 24 - Specialized I ndustr ies comply with US GAAP, was the event that precipitated the crisis. Thus it is simplistic to conclude that Chapter 25 - I nflation and Hyperinflation IAS would have been more effective than US GAAP in the Enron situation. Chapter 22 - For eign Curr ency

Chapter 26 - Gov er nm ent Gr an ts

Appendix A - Di itsclosure Checklist Nonetheless, is reasonable to reexamine whether the US GAAP approach can hope to succeed in Appendix addressing B - every I llustrativ conceivable e Financial(and St atem yet-to-be-conceived) ent s Pr esent ed Under mode I ASof business structure and transaction

type. IASB IASC before it) US is committed principles-based set of standards, meaning that the Appendix C - (and Com parison of I AS, GAAP, and to UKaGAAP vast, highly specific guidance offered by US GAAP standards and related literature will not be I ndex replicated under IAS. In part, this is a philosophical position, but is also based on IASB's more modest List of Tables funding and consequent inability to develop and produce the sheer volume of particularized examples List of Ex hibits and Ex am ples commonly found in FASB pronouncements. The recent crises, coupled with the opportunistic List of Sidebar s

utterances of IAS advocates, has placed the "rules vs. principles" debate back on center stage, however, and even FASB is now reportedly giving some thought to this matter.

The recently enacted Public Accounting Reform and Investor Protection Act of 2002 (commonly referred to as Sarbanes-Oxley) requires the US SEC to conduct a study on the "adoption by the United States financial reporting system of a principles-based accounting system." This study is to delve into areas such as

The extent to which principles-based accounting and financial reporting exists in the US; The length of time required for change from rules-based to a principles-based financial reporting W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f system; I n t er n at ion al Accou n t in g St an d ar ds ISBN:0471227366 r y proposed J. Epstein methods and AbbasbyAliwhich a principle-based The feasibilitybyofBar and system may be implemented; Mir za and

John Wi ley & Sons © 2003 (952 pages)

This com pact and tof ruly pr ehensiveofqui - refer ence A thorough economic analysis thecom implications a ck principles-based system. pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under financial The US SEC is required to complete its study within onestanding year andofsubmit its report to the US Senate statements present ed in accordance with I AS. and the House of Representatives. While it is surely premature to predict the outcome of this study, or ofletheofpolitical to it (for example, public interest in this topic may have vastly diminished by the T ab Con t enreaction ts time it is debated), if indeed approach Account is founding preferable, this will have Wiley I AS 20 03—Int er pretationthe and"principles-based" Application of I nternational significant Standar ds implications. At the extreme, the US FASB could revise its standards or rapidly move to convergence by effectively adopting IAS. More likely, FASB would, on a going-forward basis, retreat Preface from the1 type ofoduction highly prescriptive guidance it currently includes in its standards. Chapter - I ntr to I nter national Accounting Standar ds Chapter 2

- Balance Sheet

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Whatever the ultimate outcome, the recent crisis has raised the profile of the IASB, and this surely I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 it - in both its funding efforts and in gaining new converts to IAS. It further adds to the does help of Recognized Gains and Losses momentum many perceive as already existing in favor of IAS as the ultimate survivor as global Chapter 4 - Cash Flow St at em ent accounting standard setter.

Benefits from Convergence of National and International - Rev enue Recogni tion, I ncluding Constr uction Contr act s Chapter 8 Property , Plant , and Equipment Accounting Standards Chapter 7 Chapter 9

- I ntangi ble Asset s

From the standpoint users Instr of financial I nterests of in the Financial um ent s,statements Associat es,(e.g., Joint bankers Ventur es,and andinvestors), it is rather Chapter 10 I nvestm ent Pr oper ty difficult to make relative evaluations of companies that use diverse accounting standards. This tends to Chapter Business Consolidat ed Fin ancial Statements restrict 11 the- market forCombinations the shares ofand these companies and therefore greatly affects their rankings and Curr ent Liabilit ies, Prov isions, Cont the ingencies, and Ev ents after attributed value. Today, for most businesses, biggest opportunities liet he in international markets: They Chapter 12 Balance Sheetthat Date have economic activities extend far beyond domestic markets, they seek investment capital in Chapter - Financial m Debt through facilities in foreign lands. It is also fairly foreign 13 countries, andI nstr theyuments—Longconduct their Ter operations Chapter 14 Leases evident that in the share market arena, global fighters are emerging as winners, since investors seem Chapter to be ignoring 15 - I ncom domestic e Taxes competitors and clearly casting their ballots in favor of international champions. Thus, convergence of Benefit accounting standards worldwide will greatly help the users of accounting and Chapter 16 - Em ploy ee s financial information in making informed economic decisions about these companies. Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

From the standpoint of preparers of financial statements, the burden of financial reporting would be greatly lessened with increased harmonization, which would simplify the process of preparing individual Chapter 20 - Segm ent Repor ting as well as group financial statements. It is a well-known fact that multinational groups that have Chapter 21 - Accounting Changes and Cor rection of Er ror s nondomestic subsidiaries suffer from added costs of preparation of financial statements. To elaborate Chapter 22 consider - For eign an Curr ency the point, example of a company that has a subsidiary that is operating out of Saudi Chapter 23 RelatedPart y Disclosures Arabia, with its parent company based in the United Kingdom, and whose shares are listed on the New Chapter 24 - Exchange. Specialized This I ndustr ies York Stock company will have to prepare three sets of financial statements. Chapter 19 - I nterim Financial Repor ting

Chapter 25 - I nflation and Hyperinflation

1. Financial statements to comply with the Saudi standards, to meet the requirements of the Saudi Arabian company

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

Appendix 2. Financial B - I llustrativ statements e Financial to comply St atemwith ent sthe Pr esent consolidation ed Under Irequirements AS in the United Kingdom Appendix C - Com parison of I AS, US GAAP, and UK GAAP

3. Financial statements to meet the registration and filing requirements in the United States

I ndex

List of means Tables that enormous additional financial costs have to be incurred not only in the preparation of This List of Ex hibits and Ex am plesbut also in getting them audited. Imagine if this company were a multinational such financial statements List of Sidebar(MNC) s corporation operating out of fifty countries, most of which had local licensing regulations that

required financial reporting to be tailored according to their national standards. The company's accounting travails would then be extremely unpleasant, to say the least. Thus, it is obvious that enormous benefits will emanate from convergence of accounting standards worldwide.

Reporting Anomalies Resulting from Diversity in Accounting Standards Worldwide

Significant diversity in accounting standards of different countries not only poses the problem of additional cost to be incurred for financial reporting but could cause other difficulties for multinational companies. For instance, it is2 0quite a transaction to give rise W ile y I AS 03 : Ipossible n t erp re tfor at ion an d Ap p licat io n o f to a profit under the accounting standards of one country, whereas it would require a deferral under the standards of I n t er n at ion al Accou n t in g St an d ar ds another country. When a multinational company has to report under the standards of both countries, ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali one is amazed toMir see zasome extremely odd financial results that could sometimes also be embarrassing. The case of lopsided John financial Wi ley & Sons reporting © 2003 that (952instantly pages) comes to mind is that of German industrial giant Daimler-Benz AGThis (before its merger withcom Chrysler), which com pact and t ruly pr ehensive qui sought ck - referlisting ence of its shares in the United pr esent s account ants with a guideloss to depend on forunder US GAAP, when in fact it had States in 1993 and ended up reporting a massive of $1 billion assistance in the prepar ion and under(German) standing of financial reported a profit of $370 million under itsatown national GAAP. statements present ed in accordance with I AS.

Typology of Differences in National Accounting Standards

T ab le of Con t en t s

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds The following analysis is by no means an authoritative study of differences in accounting standards Preface worldwide but is being attempted with the limited purpose of highlighting some of the well-known major Chapter 1 - in I ntr oduction tostandards. I nter national Accounting ds chosen for this comparison: the United differences accounting Four countries Standar have been Chapter 2 Balance Sheet Kingdom, the United States, France, and Japan. I ncom e Statement, Stat em ent of Chan ges in Equit y, andassets Statem(historical ent 1. Measurement subsequent to initial recognition of fixed cost vs. Chapter 3 of Recognized Gains and Losses

revaluations). Revaluation is more of a choice than a requirement or stipulation. Even those - Cash Flow St at em ent standards that permit revaluations offer it as an alternative to the historical cost. It is prohibited 5 - Financial I nstr uments—Cash and Receiv ables in countries such as the United States and Japan, and if used would be considered a departure 6 - IGAAP. nventorIn y the United Kingdom and France revaluation of assets is permitted, but not all from 7 Rev enue Recogni I ncluding Constr uction Contr In actthe s United Kingdom the items that are assets are allowed to tion, be carried at revalued amounts. 8 Property , Plant , and Equipment permitted to be revalued are property, plant, equipment, and investments. In France, 9 - I ntangi ble revaluations areAsset raresexcept when prescribed by law.

Chapter 4 Chapter Chapter Chapter Chapter Chapter

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

2. Timing I nvestm of recognition ent Pr oper ty vs. deferrals. Recognition of profits and losses causes major in financial reporting. Sometimes theancial method used in recognizing profits or losses Chapter differences 11 - Business Combinations and Consolidat ed Fin Statements couldCurr cause and sometimes the number overt he which amortization is spread ent differences, Liabilit ies, Prov isions, Cont ingencies, and of Ev years ents after Chapter 12 Sheet Datein the reporting of financial results. Two examples illustrating the couldBalance cause disparities Chapter foregoing 13 - Financial causes I nstrof uments—Longdifferences follow. Ter m Debt Chapter 14 a. - Leases Accounting for goodwill. There is great disparity among standards with regard to the Chapter 15 - I ncom e Taxes treatment of goodwill. Some countries have traditionally given a free choice of accounting Chapter 16 - Emeither ploy ee Benefit writing it soff to reserves on acquisition or capitalizing and recognizing it on the Chapter 17 - Stock holdersheet. s' Equit y other controversy is with regard to the number of years over which balance The Chapter 18 - Earnings goodwillPer is Share to be amortized. The following summarizes these differences: Chapter 19 - I nterim Repor ting 1. Financial United States and France. Until mid-2001, both treated goodwill as an asset to be Chapter 20 - Segm ent amortized Repor ting over its useful life. Under former US GAAP, the amortization period was Chapter 21 - Accounting Changes Cor Er set ror slimit is prescribed but shorter periods are used. forty years, and while inrection Franceofno Chapter 22 - For eign Curr As ency of mid-2001, a new requirement in the US (SFAS 142) requires that goodwill no Chapter 23 - Related- Part longer y Disclosures be amortized, but rather, that it be reviewed for impairment on a regular

basis, withiescharges to earnings when impairment is found to have occurred. Chapter 24 - Specialized I ndustr Chapter 25 - I nflation and Hyperinflation

2. United Kingdom. Traditionally, alternatives are allowed: Goodwill could either be written off on acquisition by a charge to reserves (not to the income statement) or Appendix A - Di sclosure Checklist capitalized and amortized over its useful life. However, amendments to UK GAAP Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS (FRS 10) have modified this approach. Chapter 26 - Gov er nm ent Gr an ts

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables

3. Japan. Goodwill is capitalized and written off over five years, but this can be extended if a longer life can be justified.

List of Ex hibits and Ex am ples

b. Accounting for long-term contracts. Long-term contracts could be accounted for under either the percentage-of-completion method or the completed contract method. Profit recognition under the methods is vastly different. While the completed contract method postpones the recognition of profits until the contact is completed, the percentage-ofcompletion method recognizes profits during the life of the contract. Following are the methods prescribed under the various standards:

List of Sidebar s

1. United States, France, and Japan. Both methods are permitted. 2. United Kingdom. Only the percentage-of-completion method is permitted.

3. Recognition of substance over form in accounting for leases: capital vs. operating a. United Kingdom and United States. Certain categories of leases (called finance leases W ile y I ASKingdom 2 0 03 : I nand t erpcapital re t at ion an d Ap licat io n oStates) f leases in pthe United have to be capitalized in the United I n t er n at ion al Accou n t in g St an d ar ds (capital value of asset leased is recorded as an asset and future lease payments ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali recorded as liability). Mir za John Wi ley & Sons © 2003 (952 pages) b. France. Capitalizing is prohibited, except for consolidated accounts, for which it is This com pact and t ruly com pr ehensive qui ck - refer ence optional. pr esent s account ants with a guide to depend on for

assistance in the prepar at ion and under standing of financial c. Japan. Although this treatment is not specifically prohibited, there are no accounting rules statements present ed in accordance with I AS. on this subject. T ab le of Con t en t s

Financial Wiley4.I AS 20 03—Intstatement er pretationdisclosures and Application of I nternational Account ing Standar ds a. Related-party transactions Preface

1. United States and France. There are significant disclosure requirements on related-party transactions.

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4 Chapter 5

- Cash Flowpromulgation St at em ent of a new standard (FRS8), the related-party disclosure requirements - Financial have I nstr uments—Cash and Receiv ables been broadened.

Chapter 6

- I nventor y

I ncom2. e Statement, United Kingdom. Stat em Traditionally, ent of Chan ges only in Equit details y, and of certain Statemtransactions ent with directors of Recognized Gains specified and Losses (and other personnel) were required to be disclosed. However, with the

Chapter 7

3. Japan. material transactions withContr related - Rev enue RecogniAll tion, I ncluding Constr uction act sparties must be disclosed under a

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s b. Segmental information

footnote captioned "Conditions of Business Group."

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and 1. ent United States. Applicable only to publicly held (listed) companies. I nvestm Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

2. France and United Kingdom. Applicable in the case of all companies.

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance 3. Sheet Japan.Date Applicable in the case of listed companies and should be reported by the Chapter 13 - Financial parent I nstr uments—LongDebt to be disclosed in a footnote captioned "Conditions company for Ter themgroup; Chapter 12 -

Chapter 14 - Leases

of Business Group."

Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s

Relevance of IAS to the Developing Countries of the World

Chapter 17 - Stock holder s' Equit y

Chapter 18 - Earnings Per Share Many developing nations do not have their own national accounting standards. The generally accepted Chapter 19 - principles I nterim Financial accounting (GAAP)Repor that ting they follow are either the UK, US, or international standards. In Chapter - Segm ent Repor ting and central banks have made the IAS mandatory. Rather than certain 20 countries, governments Chapter reinventing 21 - the Accounting wheel, the Changes adoption andof Cor IAS, rection which of are Er rorhigh-quality s standards developed after a truly

international due process, seems to be a step in the right direction, as it will help the process of Chapter 22 - For eign Curr ency uniformity international reporting. Chapter 23 in - RelatedPart y financial Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS 2 0 03International : I n t erp re t at ion an d Ap p licat io n o f Standards (IFRS) Appendix A: Current Accounting I n t er n at ion al Accou n t in g St an d ar ds and SIC (IFRIC) ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za

IAS 1

John Wiof leyFinancial & Sons ©Statements 2003 (952 pages) Presentation

IAS 2

Inventories pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial Cash Flow Statements

IAS 7

This com pact and t ruly com pr ehensive qui ck - refer ence

statements present ed in accordance with I AS.

IAS 8

Net Profit or Loss for the Period, Fundamental Errors and Changes in Accounting T ab le of ConPolicies t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing IAS ds Events After the Balance Sheet Date Standar

10 Preface Chapter IAS 1

-Construction I ntr oduction Contracts to I nter national Accounting Standar ds

Chapter 2 11

- Balance Sheet

Chapter IAS 3

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent -Accounting for Taxes on Income of Recognized Gains and Losses

12

Chapter 4

- Cash Flow St at em ent

Chapter IAS 5

-Reporting Financial Financial I nstr uments—Cash Information and byReceiv Segment ables

14 Chapter 6

- I nventor y

Chapter IAS 7

-Information Rev enue Recogni tion, the I ncluding uction Contr act s Reflecting EffectsConstr of Changing Prices

Chapter 8 15

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

IAS Property, Plant, and Equipment I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 16 I nvestm ent Pr oper ty Chapter Business Combinations IAS 11 -Accounting for Leases and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he 17 Chapter 12 IAS 18

Balance Sheet Date

Revenue

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

IAS 15 -Retirement Benefit Costs Chapter I ncom e Taxes 19 Chapter 16 - Em ploy ee Benefit s Chapter Stock holderfor s' Equit y IAS 17 -Accounting Government Grants and Disclosure of Government Assistance Chapter 18 - Earnings Per Share 20 Chapter 19 - I nterim Financial Repor ting

IAS 21

The Effects of Changes in Foreign Exchange Rates

Chapter 20 - Segm ent Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror s

IAS 22 -Business Combinations Chapter For eign Curr ency 22 Chapter 23 - Related- Part y Disclosures Chapter Specialized I ndustr ies IAS 24 -Borrowing Costs Chapter 25 - I nflation and Hyperinflation 23 Chapter 26 - Gov er nm ent Gr an ts

IAS 24

Related-Party Disclosures

Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

IAS by Retirement Benefit Plans Appendix C -Accounting Com parisonand of IReporting AS, US GAAP, and UK GAAP 26

I ndex ListIAS of TablesConsolidated Financial Statements and Accounting for Investments in Subsidiaries List27of Ex hibits and Ex am ples ListIAS of Sidebar s Accounting for Investments in Associates

28 IAS 29

Financial Reporting in Hyperinflationary Economies

IAS 30

Disclosures in the Financial Statements of Banks and Similar Financial Institutions

IAS 31

Financial Reporting of Interests in Joint Ventures

IAS 32

Financial Instruments: Disclosures and I n t er n at ion al Accou n t in g St an dPresentation ar ds

IAS 33

Mir za Earnings Per Share

IAS 34

InterimprFinancial Reporting esent s account ants with a guide to depend on for

IAS

Discontinuing Operations

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

T ab35 le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing IAS Impairments of Assets Standar ds

36

Preface

IAS 1 Chapter

Contingent Liabilities, and Contingent -Provisions, I ntr oduction to I nter national Accounting Standar dsAssets

37 Chapter 2

- Balance Sheet

IAS 3 Chapter

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent -Intangible Assets of Recognized Gains and Losses

38 Chapter 4

- Cash Flow St at em ent

Chapter IAS 9

-Agriculture I ntangi ble Asset s

IAS 5 Chapter

Recognition and Measurement -Financial Financial Instruments: I nstr uments—Cash and Receiv ables 39 Chapter 6 - I nventor y Chapter IAS 7 -Investment Rev enue Recogni Property tion, I ncluding Constr uction Contr act s 40 Chapter 8 - Property , Plant , and Equipment 41 Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

SIC 1 11 -Consistency—Different Formulas ed forFin Inventories (IAS 2) Chapter Business Combinations Cost and Consolidat ancial Statements Curr ent Liabilit ies, Prov isions, ingencies, and(IAS Ev ents SIC 2 12 -Consistency—Capitalization of Cont Borrowing Costs 23) after t he Chapter Balance Sheet Date

SIC 3 13 -Elimination of Unrealized Profits Losses on Transactions with Associates (IAS 28) Chapter Financial I nstr uments—LongTer and m Debt Chapter Leases SIC 5 14 -Classification of Financial Instruments—Contingent Settlement Provisions (IAS 32) Chapter 15 - I ncom e Taxes

9SIC 6

Costs of Modifying Existing Software (IASC's Framework)

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y

SIC 7 18 -Introduction the Euro (IAS 21) Chapter Earnings PerofShare Chapter I nterim Financial Repor SIC 8 19 -First-Time Application ofting IAS as the Primary Basis of Accounting (IAS 1) Chapter 20 - Segm ent Repor ting

SIC 9

Business Combinations—Classification Either as Acquisitions or Unitings of Interests (IAS 22)

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

SIC 23 -Government Specific Relation to Operating Activities (IAS 20) Chapter Related- PartAssistance—No y Disclosures 10 Chapter 24 - Specialized I ndustr ies

Chapter I nflationExchange—Capitalization and Hyperinflation SIC 25 -Foreign of Losses Resulting from Severe Currency Chapter 11 26 -Devaluations Gov er nm ent (IAS Gr an ts 21) Appendix A - Di sclosure Checklist

SIC

Consolidation—Special-Purpose Entities (IAS 27)

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS 12 Appendix C - Com parison of I AS, US GAAP, and UK GAAP

SIC 13

I ndex

Jointly Controlled Entities—Nonmonetary Contributions by Ventures (IAS 31)

List of Tables

Property, Plant, ListSIC of Ex hibits and Ex am plesand Equipment—Compensation for the Impairment or Loss of Items (IAS List14of Sidebar s 16) SIC 15

Operating Leases—Incentives (IAS 17)

SIC 16

Share Capital—Reacquired Own Equity Instruments (Treasury Shares) (IAS 32)

SIC 17

Equity—Costs of an Equity Transaction (IAS 32)

SIC 18

Consistency—Alternative Methods (IAS 1)

SIC 19

Reporting Currency—Measurement Presentation of Financial Statements under IAS I n t er n at ion al Accou n t in g St and an d ar ds 21 andbyIAS 29 ISBN:0471227366 Bar r y J. Epstein and Abbas Ali

SIC 20

za Equity Mir Accounting Method—Recognition of Losses (IAS 28)

SIC 21

IncomeprTaxes—Recovery Revalued esent s account antsofwith a guideNondepreciable to depend on forAssets (IAS 12)

SIC

Business Combination—Subsequent Adjustment of Fair Values and Goodwill Initially

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence

assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

T ab22 le of ConReported t en t s (IAS 22) Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing SIC Property, Plant, and Equipment—Major Inspection or Overhaul Costs (IAS 16) Standar ds

23

Preface

SIC 1 Chapter

Per Share—Financial Instruments Thatds May Be Settled in Shares -Earnings I ntr oduction to I nter national Accounting Standar

24 Chapter 2

- Balance Sheet

SIC 3 Chapter

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent -Income Taxes—Changes in the Tax Status of an Enterprise or its Shareholders (IAS of Recognized Gains and Losses

25 Chapter 4

SIC 5 Chapter

12)

- Cash Flow St at em ent

of Transactions Involving the Legal Form of a Lease (IAS 1, -Evaluating Financial I the nstr Substance uments—Cash and Receiv ables 27 IAS 17, and IAS 18) Chapter 6 - I nventor y Chapter SIC 7 -Business Rev enue Combinations—"Date Recogni tion, I ncluding of Constr Exchange" uction Contr and Fair act s Value of Equity Instruments (IAS 28 Chapter 8 -22) Property , Plant , and Equipment Chapter SIC 9

-Disclosure—Service I ntangi ble Asset s Concession Arrangements (IAS 1) I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and 29 Chapter 10 I nvestm ent Pr oper ty

SIC 11 -Reporting from Currency to Presentation Chapter Business Currency—Transactions Combinations and Consolidat edMeasurement Fin ancial Statements 30

Currency (IAS 21 IAS 29) Cont ingencies, and Ev ents after t he Curr ent Liabilit ies,and Prov isions, Balance Sheet Date Revenue—Barter Transactions Involving Advertising Services (IAS 18)

Chapter 12 -

SIC

Chapter 13 - Financial I nstr uments—Long- Ter m Debt 31 Chapter 14 - Leases

SIC 32

Intangible Assets—Website Costs (IAS 38)

Chapter 15 - I ncom e Taxes

Chapter 16 - Em ploy ee Benefit s

SIC 17 -Consolidation Method—Potential Voting Rights and Allocation of Ownership Chapter Stock holder s'and EquitEquity y 33 27, IAS 28, and IAS 39) Chapter 18 -Interests Earnings(IAS Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I ASIOSCO 2 0 03 : I n t erp re t at ion an d Ap p licat io n ofor f Appendix B: The Recommendations the Use of I n t er n at ion al Accou n t in g St an d ar ds International Accounting ISBN:0471227366 by Bar r y J. Epstein and Standards Abbas Ali Mir za

As discussed in the body of & Chapter the Working Party of IOSCO has reviewed the current body of John Wi ley Sons © 1, 2003 (952 pages) IAS Standards and Interpretations and has produced its report to IOSCO's Technical Committee, which This com pact and t ruly com pr ehensive qui ck - refer ence in turn has recommended that theants IOSCO permitonthe pr esent s account with membership a guide to depend foruse of IAS for cross-border filings. This recommendation is qualified three types modifications—namely, assistance in the by prepar at ion andofunder standing of financial that for selected IAS the statements present by ed either in accordance with I AS. financial statements be augmented reconciliation, supplemental disclosure, or interpretation. The report does not stipulate that any of these must be done in any given fact situation, but rather it is T ab le of Con t en t s essentially a compendium of concerns expressed by the IOSCO Technical Committee's membership Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing over each Standar ds of the thirty standards recommended for use. Preface

In the following tabulations, the various reconciliations, supplemental disclosures and interpretations

Chapter 1 been - I ntr oduction national Accounting Standar ds that have identifiedtobyI nter IOSCO are set forth, classified by IAS standard. It is important to Chapter 2 Balance Sheet remember that it ultimately is up to each nation's securities regulators to determine which I ncom Statement, Stat em of Chan ges respective in Equit y, and Statem entSome, for example, may augmentations aree to be mandated forent filings in their jurisdictions. Chapter 3 of Recognized Gains and Losses

choose to permit IAS usage without any further reconciliation, supplemental disclosure, or

Chapter 4 - Cash Flow St at em entdemand that many IAS be augmented by these assorted methods. interpretation, while others may Chapter 5 - Financial I nstr uments—Cash and Receiv ables

The supplemental treatments are defined as follows: Chapter 6 - I nventor y Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s 1. Reconciliation— reconciliation of certain items to show the effect of applying a Chapter 8 - Property , PlantRequiring , and Equipment

accounting in contrast with the method applied under IASC standards. This Chapter different 9 - I ntangi ble Assetmethod, s reconciliation to beum presented in a footnote the financial I nterests is in expected Financial Instr ent s, Associat es, Joint to Ventur es, and statements and would quantify the effect applying the specified alternative accounting treatment. I nvestm ent Prof oper ty

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies,either and Ev after t he 2. Disclosure— Requiring additional disclosures, in ents the presentation of the financial Chapter 12 Balance Sheet Date

statements or in the footnotes, but not a reconciliation of amounts prepared using one methodology to what would have resulted from applying a different measurement methodology.

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Chapter 15 - I ncom e Taxes

3. Interpretation— Specifying use of a particular alternative provided in an IASC standard, or a Chapter 16 - Em ploy ee Benefit s

Chapter particular 17 - Stockinterpretation holder s' Equit yin cases where the IASC standard is unclear or silent. For example, in

cases where an IASC 2000 standard permits different approaches to an issue, generally with one approach identified as a "benchmark" and another as an "allowed alternative," specifying Chapter 19 - I nterim Financial Repor ting which approach (the benchmark or allowed alternative) is accepted in a host jurisdiction. Chapter 18 - Earnings Per Share

Chapter 20 - Segm ent Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror s

I. Items22That Possibly Chapter - For eign CurrWill ency Be Reconciled to IAS Treatment Chapter 23 - RelatedDisclosures IASPart andy specific issue Chapter 24 - Specialized I ndustr ies

Possible reconciliation

Presentation of alternative balance sheet or selected assets on an "as acquired benefits should Chapter 26 tax - Gov er nm ent Gr an be ts allocated to intangibles in if" basis, assuming allocations had addition Ato- goodwill. Appendix Di sclosure Checklist been made to intangibles as well as Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS to goodwill. Chapter IAS 12:25Some - I nflation believe and that Hyperinflation the subsequent recognition of

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Reconciliation to how earnings would I ndex IAS 17: The immediate recognition of gains resulting from have computed had gain on List of Tables sale-leaseback transactions involving operating leases List hasof been Ex hibits questioned. and Ex am ples List of Sidebar s

IAS 19: Nonrecognition of a balance sheet liability for employee termination costs in cases when a board decision is taken before the balance sheet date and the decision is confirmed before the issuance of the financial statements is challenged.

operating leaseback been deferred, consistent with how gains are for finance leaseback transactions. Reconciliation of liabilities and retained earnings to alternative amounts had these costs been accrued as of the balance sheet date.

Alternative measure of earnings IAS 22: The appropriateness of goodwill lives exceeding based on amortization of goodwill twenty years, permissible under this standard, has been W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap pover licat io n of a maximum of twenty years questioned. I n t er n at ion al Accou n t in g St an d ar ds could be presented. ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali

Reconciliation of negative goodwill Mir za IAS 22: The appropriateness of the accounting for balance and retained earnings, John Wi ley & Sons © 2003 (952 pages) negative goodwill has been questioned, particularly the This com pact and tgoodwill ruly com on pr ehensive qui ckassuming - refer encestraight-line amortization requirement to recognize negative a nonlevel of negative goodwill, could be pr esent s account ants with a guide to depend on for basis related to expectations of future expenses. assistance in the prepar at ion and under standing of financial provided. statements present ed in accordance with I AS.

Alternative presentation of the IAS 27: The appropriateness of consolidating subsidiaries balance sheet (and perhaps also the operating in dissimilar activities, in certain circumstances, Wiley I AS 20 03—Int er pretation and Application of I nternationalstatement Account ing of operations) excluding has been Standar ds challenged. certain subsidiaries' financial Preface position (and results of operations) Chapter 1 - I ntr oduction to I nter national Accounting Standar ds could be mandated.

T ab le of Con t en t s

Chapter 2

- Balance Sheet

Alternative presentation of balance IAS 32: TheI ncom required accounting foremtreasury shares a e Statement, Stat ent of Chan ges as in Equit y, and Statem ent Chapter 3 sheet while the treasury shares are of Recognized Gainsof and deduction from equity (instead as Losses an asset) is seen as held, showing qualifying treasury Chapter 4 consistent - Cash Flowwith St atcertain em ent legal environments in not being shares as an asset, and alternative which those transactions are authorized.and TheReceiv beliefables is Chapter 5 - Financial I nstr uments—Cash presentation of the balance sheet that, if 6shares are repurchased for trading purposes, they Chapter - I nventor y after the shares are resold, with any should 7be -allowed to Recogni be presented as assets in the Chapter Rev enue tion, I ncluding Constr uction Contr act s gain included in retained earnings balance8 sheet, with ,the difference between the purchase Chapter - Property Plant , and Equipment and reported in current earnings in amount9 and the resale prices included as part of profit and Chapter - I ntangi ble Asset period of sale. loss when the shares are resold. I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 -

I nvestm ent Pr oper ty

IAS 36: The appropriateness of measuring impairment

An alternative presentation would be

Chapter 11 - Business Combinations and Consolidat ed Fin ancialbased Statements on fair value, rather than losses based on an asset's recoverable amount, instead Curr ent Liabilit ies, Prov isions, Cont ingencies, andrecoverable Ev ents after amount, t he which is Chapter 12 value, of its fair has Sheet been challenged. Balance Date defined as the greater of an asset's Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter IAS 36:15The - I ncom appropriateness e Taxes of permitting the reversing

of previously recognized impairment losses has been Chapter 16 - Em ploy ee Benefit s questioned. Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting

net selling price and value in use. An alternative presentation would treat the amount to which the impaired asset was written down as a new cost basis, from which level carrying value subsequently could not be increased.

Chapter 20 - Segm ent Repor ting

The alternative presentation would include a provision for sales of assets when it constructively takes subsidiary public offering such that the Chapter 23 -through Related-aPart y Disclosures place, which could be before the enterprise be demonstrably Chapter 24 -would Specialized I ndustr ies committed no later than criteria of IAS 37 are fully met. the publication of theand prospectus, when publication Chapter 25 - I nflation Hyperinflation obligates enterprise accept offers received, and (2) Chapter 26 the - Gov er nm ent to Gr an ts for piecemeal sales when a demonstrable commitment to Appendix A - Di sclosure Checklist the restructuring occurs through the adoption of a plan Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS and a public announcement of that plan, which may occur Appendix C - Com parison of I AS, US GAAP, and UK GAAP before any or substantially all of the assets are sold and I ndex liabilities assumed or settled, is questioned. Chapter - Accounting Changes Cor rection ofaEr ror s IAS 37:21The appropriateness of and not recognizing provision the sale of ency assets when (1) there is sale of a Chapter 22 for - For eign Curr

List of Tables

List of 37: Ex hibits and Ex am ples IAS The appropriateness of not recognizing a List of Sidebar s provision in circumstances where a board decision taken

before the balance sheet date is complemented by another event occurring after the balance sheet date but before the issuance of the financial statements (e.g. public announcement or implementation) is questioned.

An alternate presentation could recognize a constructive obligation (and therefore a provision) at the balance sheet date when a board decision is taken before the balance sheet date even when, before the balance sheet date, the restructuring plan has not been implemented or even publicly announced.

The alternative presentation would IAS 38: Capitalizing costs associated with the exclude these assets and treat these development of internally generated intangible assets has W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap pcosts licat ioas no f having been expensed as been criticized, on that expensing internal I nthe t er ntheory at ion al Accou n t in g St an d ar ds they were incurred so that both development costs and providing meaningful disclosures ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali research and development costs about the nature Mir and zaamounts of those expenses, would be immediately expensed. provides more useful to©investors. John information Wi ley & Sons 2003 (952 pages) This com pact and t ruly com pr ehensive qui ckThe - refer ence financial statements could be IAS 38: Using amortization periods longer twenty pr esent s account ants with than a guide to dependrecast on forto treat the intangible assets' years for intangibles has been questioned. assistance in the prepar at ion and under standing of financial lives as not exceeding twenty years. statements present ed in accordance with I AS.

A reconciliation would require that arrangements being accounted for instruments to be er used as hedging instruments been Wiley I AS 20 03—Int pretation and Application of Ihas nternational Account ing as hedges be revised to eliminate Standar ds questioned. Only derivatives should be permitted as special hedge accounting in cases Preface hedging instruments, in the critics' view. where a nonderivative financial asset Chapter 1 - I ntr oduction to I nter national Accounting Standar ds or liability was designated as a Chapter 2 - Balance Sheet hedging instrument for hedges of I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 foreign currency exchange risks. of Recognized Gains and Losses

T ab IAS le of 39:Con The t en propriety ts of allowing nonderivative financial

- Cash Flow St at em ent The alternate presentation would IAS 39: The appropriateness of including the accumulated eliminate these gains or losses from - Financial I nstr uments—Cash and Receiv ables gain or loss on a forecasted transaction or firm the capitalized asset cost. The gains Chapter 6 I nventor y commitment in the initial cost basis of an acquired asset oract losses would be taken into Chapter 7 Rev enue Recogni tion, I ncluding Constr uction Contr s or liability (i.e., as a basis adjustment) has been earnings and accumulated in Chapter 8 Property , Plant , and Equipment challenged. retained earnings. Chapter 9 - I ntangi ble Asset s Chapter 4 Chapter 5

I nterests in Financial Instr um ent s, Associat es, Joint es, and An Ventur alternate balance sheet would Chapter IAS 39:10Concerns been raised about the I nvestmhave ent Pr oper ty reflect such gains and losses in

appropriateness of recognizing the cumulative amount of

Chapter 11 - Business Combinations and Consolidat ed Fin ancialretained Statements earnings, and these would recognized gains or losses on the hedging instrument Curr ent Liabilit ies, Prov isions, Cont ingencies, andbe Ev ents afterint he included the current period's Chapter 12 -to a forecasted transaction in equity. pertaining Balance Sheet Date results of operations. Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter - Leases IAS 39:14The appropriateness of including an enterprise's own creditworthiness in measuring the fair value of a Chapter 15 - I ncom e Taxes

liability 16 has- been questioned. Chapter Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

The logical alternative would remove the reporting entity's creditworthiness as a consideration in determining the fair value of its debt obligations.

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

II. Possible Additional Disclosure Items

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency IAS and specific issue Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies

IAS 1: 25 More information defaults under credit Chapter - I nflation and about Hyperinflation agreements might beent desirable. Chapter 26 - Gov er nm Gr an ts Items that arguably should be disclosed the nature and amount of any Appendix A - Diinclude: sclosure (1) Checklist

default in principal, interest, sinking fund or redemption provisions or any breach of covenant that has not been Appendix C - Com parison of I AS, US GAAP, and UK GAAP cured subsequently should be disclosed; and (2) for a I ndex default or breach that has been waived for a period of time, List of Tables the period of the waiver should be disclosed.

Possible additional disclosure item(s) The IAS 1 disclosure requirements could be supplemented. Some or all of the items at the left could be required disclosures.

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

List of Ex hibits and Ex am ples

List of 1: Sidebar s IAS The need for guidance on the classification of stock

subscriptions receivable has been noted.

These are typically shown as contra-equity, unless collected before the financial statements are published, but specific disclosure requirements could be added.

IAS 38 requires, for intangible IAS 1: Concerns have been raised about the need for assets, only a reconciliation for the comparative disclosures relating to the reconciliation of the W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n operiod. f current IAS 16 similarly opening and closing balances tangible I n t er n at ion alofAccou n t inand g Stintangible an d ar ds requires only a current year assets. ISBN:0471227366for tangible property by Bar r y J. Epstein and Abbas Ali reconciliation Mir za and equipment. Corresponding John Wi ley & Sons © 2003 (952 pages) reconciliations for the preceding This com pact and t ruly com pr ehensive qui ck - refer yearence in comparative financial pr esent s account ants with a guide to depend on for statements could be provided if assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. this requirement is created. T ab le of en t s for disclosure of amounts classified as IAS 1: Con The tneed Wiley I ASthat 20 03—Int pretation and Application of Itwelve nternational current are noterconvertible into cash within Standar dshas been raised. months Preface

Nothing specific has been suggested, but some expanded Account ing disclosures could be mandated if deemed necessary.

- I ntr oduction to I nter national Accounting Standar ds IAS do not generally require IAS 1: The need for the disclosure of maturities for each of - Balance Sheet disclosure of maturities, but this the next five years and thereafter for interest-bearing I ncom e Statement, Stat em ent of Chan ges in Equit y,information and Statemcould ent readily be Chapter 3 liabilities liabilities, under finance leases, and amounts to of Recognized Gains and Losses presented in the notes to the related parties, has been stated. Chapter 4 - Cash Flow St at em ent financial statements, if desired or Chapter 5 - Financial I nstr uments—Cash and Receiv ables required. Chapter 1 Chapter 2

Chapter 6

- I nventor y

Supplemental disclosure of gains and losses on investments could investments is seen, by some asEquipment being necessary, although Chapter 8 - Property Plant , and obviously be presented by existing9 standards do Asset not address this. Chapter - I ntangi ble s including disaggregated I nterests in Financial Instr um ent s, Associat es, Joint information Ventur es, and in the notes to the Chapter 10 I nvestm ent Pr oper ty financial statements, or by Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements expanded captions on the face of Curr ent Liabilit ies, Prov isions, Cont ingencies, and Evthe ents after t he of operations. statement Chapter 12 IAS 1: 7Separate disclosure gains and losses onuction Contr act s Chapter - Rev enue Recogniof tion, I ncluding Constr

Balance Sheet Date

Chapter - Financialabout I nstr uments—Longm Debt made in IAS 1: 13 Disclosures the reliability ofTer estimates Chapter 14 Leases preparing the financial statements have been identified as Chapter 15 No - I ncom e Taxes an issue. specific mention of disclosures relating to the Chapter 16 Em ploy ee Benefit reliability of estimates used ins the financial statements is Chapter made in 17IAS - Stock 1. holder s' Equit y Chapter 18 - Earnings Per Share

IAS 1: 19 The- possible need forRepor disclosure Chapter I nterim Financial ting of risks and

uncertainties has ent been raised. Chapter 20 - Segm Repor ting No specific mention of

disclosures regarding risks and uncertainties is in the final standard.

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Chapter 23 - Related- Part y Disclosures

IAS 1: 24 The- absence of Ipresentation guidance on alternative Chapter Specialized ndustr ies equity structures (e.g., limited liability Chapter 25 - I nflation andpartnerships, Hyperinflation corporations, etc.) has Chapter 26 - Gov er nm entbeen Gr annoted. ts Appendix A - Di sclosure Checklist

Certain other IAS do require that the use of estimates be made explicit in financial reporting, and a general disclosure of this fact could also be added to the notes. Certain other IAS do require that particular uncertainties be made explicit in financial reporting, and a general disclosure of this fact could also be added to the notes. Nothing specific has been suggested, but some expanded disclosures could be mandated if deemed necessary. Nothing specific has been suggested, but some expanded disclosures could be mandated if deemed necessary.

Appendix B - possible I llustrativneed e Financial St atem ent Pr esent edfrom Under I AS IAS 1: The for disclosure ofstransfers Appendix parison ofprofits I AS, US and UK GAAP reservesCto- Com accumulated or GAAP, reclassification to net

profit or loss has been cited. I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

Nothing specific has been IAS 10: The need for certain disclosures when a presuggested, but some expanded balance-sheet-date board decision does not give rise to an W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f disclosures could be mandated if obligation at the balance has been Items I n t er n atsheet ion al date Accou n t in g Stnoted. an d ar ds deemed necessary. potentially to be disclosed include: (1) the nature, expected ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali amount and timing Mirof zaany related expenditures; (2) the conditions supplemental to the board decision necessary to John Wi ley & Sons © 2003 (952 pages) recognize the provision; and (3) the fact that the board qui ck - refer ence This com pact and t ruly com pr ehensive decision has been confirmed before the issuance pr esent s account ants with a guideof to the depend on for assistance in the at ion and under standing of financial financial statements, together withprepar the nature of the confirming event.statements present ed in accordance with I AS. T ab le of Con t en t s

IAS 12: Some believe that deferred tax assets and liabilities

Nothing specific has been

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing but some expanded suggested, derived Standar dsfrom current assets and liabilities should be disclosures could be mandated if

classified as current, rather than in conformity with the requirements of this standard.

Preface

Chapter 1

deemed necessary.

- I ntr oduction to I nter national Accounting Standar ds

Disclosure of the aggregate - Balance Sheet IAS 12: There may be a need to disclose unrecognized timing I ncom e Statement, Stat em ent of Chan ges in Equit y,underlying and Statem ent differences is deferred Chapter 3 tax - liabilities arising from investments in of Recognized Gains and Losses required under the standard, but subsidiaries. Chapter 4 - Cash Flow St at em ent not the deferred tax liabilities. This disclosure could easily be added, Chapter 5 - Financial I nstr uments—Cash and Receiv ables however. Chapter 6 - I nventor y Chapter 2

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s Nothing specific has been

IAS 12: Disclosure of the treatment of significant proposed - Property , Plant , and Equipment tax changes is cited as being necessary.

Chapter 8

suggested, but some expanded disclosures could be mandated if I nterests in Financial Instr um ent s, Associat es, Joint deemed Ventur es, and necessary. Chapter 10 I nvestm ent Pr oper ty Nothing specific has been Chapter - BusinessofCombinations Consolidatfor edboth Fin ancial Statements IAS 14:11Disclosure foreign salesand by segment suggested, but some expanded primary andCurr secondary ent Liabilit segments ies, Provis isions, suggested, Cont ingencies, which would and Ev ents after t he Chapter 12 disclosures could be mandated if Balance Sheet Date include total export sales in each segment with elimination deemed necessary. Chapter 13 -sales. Financial I nstr uments—Long- Ter m Debt of internal Chapter 9

- I ntangi ble Asset s

Chapter 14 - Leases

IAS 14:15A -possible Chapter I ncom e need Taxesfor disclosure of the amount of significant concentration Chapter 16 -(10%) Em ploy ee Benefit s of revenue from one customer, thes'segment Chapter 17 -including Stock holder Equit y in which revenue is recognized, has beenPer raised. Chapter 18 - Earnings Share

Chapter 19 - I nterim Financial Repor ting

IAS 14: The need for disclosure of revenue by product or service or by groups of closely related products or services Chapter 21 - Accounting Changes and Cor rection of Er ror s is noted. Chapter 20 - Segm ent Repor ting Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures

IAS 16: The acceptability of accounting for property, plant, and equipment at revalued amounts without disclosure of Chapter 25 - I nflation and Hyperinflation information providing significant balance sheet and income Chapter 26 - Gov er nm ent Gr an ts statement effects of revaluation has been criticized. Chapter 24 - Specialized I ndustr ies

Appendix A - Di sclosure Checklist

Nothing specific has been suggested, but some expanded disclosures could be mandated if deemed necessary. Under IAS 14, there is no such requirement, but this could obviously be added, if deemed necessary. IAS 16 does require disclosure of the carrying amounts for each class of property, plant and equipment had they been accounted for at cost.

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Only disclosure of maturities for

IAS 17: CThe need for disclosure ofGAAP, maturities for GAAP each of the Appendix - Com parison of I AS, US and UK not later than one year, later than next five years and thereafter for interest-bearing liabilities, I ndex one year and not later than five liabilities under finance leases, and amounts to related parties is suggested.

List of Tables

List of Ex hibits and Ex am ples List of Sidebar s

years and later than five years is required, but further disaggregation could clearly be accomplished.

Nothing specific has been IAS 17: The need for separate presentation or disclosure of suggested, but some expanded income and expenses relating to rentals for significant disclosures could be mandated if lessor activity is suggested. deemed necessary.

Nothing specific has been IAS 17: The possible need to require the disclosures set suggested, but some expanded forth in IAS 8.16 both at the time of a sale and leaseback W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f disclosures could be mandated if transaction and on basis for both I n taercontinuing n at ion al Accou n t in g Stquantitative an d ar ds deemed necessary. and qualitative reasons has been raised. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za While IAS 19 requires the IAS 19: There is John a perceived for2003 disclosures of Wi ley & need Sons © (952 pages) disclosure of each category of the enterprise and affiliate securities held by pension funds and This com pact and t ruly com pr ehensive qui ck - refer ence enterprise's own financial reporting other transactions such ants parties. pr between esent s account with a guide to depend on for instruments included in plan assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. assets, there is no specific disclosure requirement for affiliate T ab le of Con t en t s securities held. IAS 24 provides Wiley I AS 20 03—Int er pretation and Application of I nternational Account generaling guidance on disclosures Standar ds of related-party transactions. Preface Other disclosures could also be Chapter 1 - I ntr oduction to I nter national Accounting Standar ds mandated. Chapter 2

- Balance Sheet

These matters have been, IAS 19: There have been concerns raised I ncom e Statement, Stat em ent ofabout Chanthe ges need in Equit y, and Statem ent Chapter 3 respectively, (1) not addressed; of disclosures Recognized relating Gains and for enhanced to Losses equity compensation (2) addressed by IAS 19, which Chapter plans. Items 4 - Cash to beFlow disclosed St at emmight ent include: (1) the pro forma stipulates that the fair value at the effect on income Iof using fair value accounting for equity Chapter 5 net - Financial nstr uments—Cash and Receiv ables date of issue of financial compensation plans,y including disclosure of the method and Chapter 6 - I nventor instruments (other than share significant usedtion, to estimate value of Contr act s Chapter 7 -assumptions Rev enue Recogni I ncludingfair Constr uction options) issued to employees is options; the date, for which market value should be Chapter 8 (2) - Property Plant , andthe Equipment relevant; and (3) suggested, but disclosed date?) for shares issued to employees; and Chapter 9 (grant - I ntangi ble Asset s not required, as disclosure under (3) for employee share options, disclosures should be I nterests in Financial Instr um ent s, Associat es, Joint IAS Ventur and expanded 19.es, Other, Chapter 10 segregated Iinto meaningful ranges of exercise prices and nvestm ent Pr oper ty disclosures could be mandated if exercise Also,Combinations there may beand a need to clarify whether Chapter 11dates. - Business Consolidat ed Fin ancial Statements deemed necessary. the requirement to disclose "amounts recognized in the and Ev ents after t he Curr ent Liabilit ies, Prov isions, Cont ingencies, Chapter 12 Clarification about whether the financial statements in respect Balance Sheet Date of equity compensation requirement to disclose "amounts plans" 13 refers to costsI nstr or expense. WhileTer actuarial Chapter - Financial uments—Longm Debt recognized in the financial computations address total costs, those costs may be Chapter 14 - Leases statements in respect of equity allocated profit and loss and assets (e.g., Chapter 15 between - I ncom enet Taxes compensation plans" refers to inventories). Chapter 16 - Em ploy ee Benefit s costs or expense could be Chapter 17 - Stock holder s' Equit y developed. Chapter 18 - Earnings Per Share

This has not been addressed, but Chapter - I nterim Financial Repor ting IAS 24:19The need for enhanced disclosures or accounting IAS 24 provides examples, Chapter 20 - Segm Repor ting for expenses andent liabilities paid by a principal shareholder or including financing transactions, Chapter 21 - Accounting and Cor rection of Erfor rorthe s stock plans establishedChanges by a principal shareholder Chapter enterprise's 22 - For benefit eign Curr has ency been noted. Chapter 23 - Related- Part y Disclosures

where related-party disclosures may be required.

Nothing specific has been Chapter - Specialized I ndustr ies financial information for IAS 27:24Disclosure of summarized suggested, but some expanded Chapter 25 I nflation and Hyperinflation subsidiaries not consolidated that are material individually or Chapter 26 - Gov ermight nm entbe Grneeded. an ts in the aggregate Appendix A - Di sclosure Checklist

disclosures could be mandated if deemed necessary.

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Nothing specific has been IAS 28: The disclosure of summarized financial information Appendix C - Com parison of I AS, US GAAP, and UK GAAP suggested, but some expanded

for material equity investees is seen as a need.

I ndex

List of Tables List of Ex hibits and Ex am ples

IAS 28: The need for disclosure of available market values for equity investee securities owned is noted.

List of Sidebar s

disclosures could be mandated if deemed necessary. Under IAS, associates may be remeasured at fair value in parent's entity statements, but there is no requirement to disclose this fair value in the consolidated financial statements.

Nothing specific has been IAS 32: Disclosure of the effect of bifurcating and separately suggested, but some expanded accounting for the components of compound financial W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f disclosures could be mandated if instruments has been suggested as a nrequirement. I n t er n at ion al Accou t in g St an d ar ds deemed necessary. by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mirof za restrictions on disposals or utilization IAS 32 requires a general IAS 32: Disclosure disclosure of information about the John Wi ley & Sons ©on 2003 (952 pages) of financial assets (e.g., restrictions cash, investments, extent and nature of financial This com pact and t ruly com pr ehensive qui ck - refer ence etc.) could be useful. instruments, including significant pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial terms and conditions that may statements present ed in accordance with I AS. affect the amount, timing, and certainty of future cash flows. T ab le of Con t en t s Other such disclosure Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing requirements also exist under Standar ds other provisions of the IAS. Preface - I ntr oduction to I nter national Accounting Standar ds IAS 32 provides guidance on the IAS 32: Further details about the composition of financial - Balance Sheet determination of classes of assets (e.g., held to maturity, trading, etc.) may be needed I ncom e Statement, Stat em ent of Chan ges in Equit y,financial and Statem ent instruments, and also Chapter 3 disclosures. of Recognized Gains and Losses requires that financial assets be Chapter 4 - Cash Flow St at em ent classified as either: loans and Chapter 5 - Financial I nstr uments—Cash and Receiv ables other receivables originated, heldChapter 6 - I nventor y to-maturity investments, availablefor-sale financial assets and Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s financial assets held for trading. Chapter 8 - Property , Plant , and Equipment No specific requirement exists to Chapter 9 - I ntangi ble Asset s I nterests in Financial Instr um ent s, Associat es, Joint disclose Ventur es,further and detail of these Chapter 10 categories. Also, no classification I nvestm ent Pr oper ty content is specified in IAS 1. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 1 Chapter 2

Curr ent Liabilit ies, Prov isions, Cont ingencies, and EvIAS ents32 after t he general disclosure requires Chapter - need for disclosure of leverage features of IAS 32:12The Balance Sheet Date

certain13 financial instruments has been suggested. Chapter - Financial I nstr uments—LongTer m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

IAS 32:19The need for disclosure ofting value at risk has been Chapter - I nterim Financial Repor mentioned. Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter - RelatedPart ybeen Disclosures IAS 33:23Concerns have raised about the need for the Chapter 24 -of Specialized ndustr ies disclosure securities I that potentially could dilute basic

EPS in25 the- future that were not included in the computation Chapter I nflation and Hyperinflation of diluted were antidilutive. Chapter 26 EPS - Govbecause er nm ent they Gr an ts Appendix A - Di sclosure Checklist

IAS 33: The possible need for disclosure of EPS amounts

of information about the extent and nature of financial instruments, including significant terms and conditions that may affect the amount, timing, and certainty of future cash flows.

Nothing specific has been suggested, but some expanded disclosures could be mandated if deemed necessary. Nothing specific has been suggested, but some expanded disclosures could be mandated if deemed necessary. IAS 33 only requires the

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS disclosure of basic and diluted for discontinued operations, extraordinary items, accounting Appendix C - Com parison of I AS, US GAAP, and UK GAAP EPS for ordinary income. Other

changes and fundamental errors, is raised.

I ndex

List of Tables

disclosures could be made.

An enterprise is required to disclose whether its interim interim financial statements complies with the recognition List of Sidebar s financial report is in compliance and measurement principles of IAS 34, as well as with with IAS. In order to assert information required by securities regulators, particularly if a compliance, all of the required statement has been omitted or the periods requirements of each applicable presented do not comply with the standard. standard and interpretation of the SIC must be complied with. IAS Thereand may the need to disclose whether a set of List of 34: Ex hibits Ex be am ples

IAS 34 does not require this, but IAS 34: The need to disclose the amounts used in the this information could readily be computation of the numerator and denominator of EPS, as W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f disclosed. well as a reconciliation the al numerator to gthe netd ar profit I n t er nof at ion Accou n t in St an ds or loss for the period, has been noted. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za

Nothing specific has been suggested, but some expanded This com pact and t ruly com pr ehensive qui ck - refer ence disclosures could be mandated if pr esent s account ants with a guide to depend on for deemed necessary.

IAS 34: Explicit disclosure notes as to the limited John Wi ley in& the Sons © 2003 (952 pages) nature of the information provided is seen as being of use.

assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. IAS 34 only requires disclosure of

IAS 34: There is a perceived need for precise information on

changes in contingent assets and liabilities since the last annual goingI AS concern is inerquestion. ThisApplication may include Wiley 20 03—Int pretation and of disclosures I nternationalinAccount ing balance sheet date. Standar ds IAS 10.

T ab contingencies le of Con t en tand s major uncertainties, particularly when a

Preface

Nothing specific has been suggested, but some expanded disclosure the nature and amount of significant changes Chapter 2 -of Balance Sheet disclosures could be mandated if in the components the minimum lineent items (for ges eachin Equit y, and Statem ent I ncom e of Statement, Stat em of Chan deemed necessary. These Chapter 3 financial statement) since Gains the last annual of Recognized and Lossesreport. additional disclosures could be Chapter 4 - Cash Flow St at em ent required, if deemed to be of use to Chapter 5 - Financial I nstr uments—Cash and Receiv ables financial statement users. IAS 34:1 Concerns have to been raised about the needStandar for Chapter - I ntr oduction I nter national Accounting ds

Chapter 6

- I nventor y IAS 34 only requires disclosure of Chapter 7 - Revmay enuebe Recogni tion,for I ncluding Constr IAS 34: There the need disclosure of uction Contr act s

the effect of changes in composition resulting from a disposition. Other disclosures I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 could be mandated, however. I nvestm ent Pr oper ty Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Nothing specific has been IAS 34: Concerns have been raised about the need for Curr ent Liabilit ies, Prov isions, Cont ingencies, and Evsuggested, ents after t he but some expanded Chapter 12 -of EPS and income tax amounts relating to disclosure Balance Sheet Date disclosures could be mandated if accounting changes, fundamental errors, discontinued Chapter 13 - Financial I nstr uments—Long- Ter m Debt deemed necessary. operations and extraordinary items. Chapter 8 - Property , Plant , and Equipmentoperations under dispositions not considered discontinued Chapter IAS 35,9 possibly - I ntangi also ble including Asset s information from IAS 27.

Chapter 14 - Leases

Chapter - I ncom e Taxes IAS 34:15There may be the need to disclose the reasons for Chapter 16 Em ploy ee Benefit any significant changes sinces the last annual period in total Chapter Stock holder s' Equit assets 17 and- segment result for yeach segment. Chapter 18 - Earnings Per Share

Nothing specific has been suggested, but some expanded disclosures could be mandated if deemed necessary.

Nothing specific has been IAS 34: The need to include specific disclosures of the suggested, but some expanded items whose measurement is based on annual data or data disclosures could be mandated if Chapter 21 - Accounting Changes and Cor rection of Er ror s related to several interim periods has been raised. deemed necessary. Chapter 22 - For eign Curr ency Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

Chapter 23 - Related- Part y Disclosures

IAS 34 only requires interim IAS 34: The clarity and consistency of content in interim financial statements to include the financial reports has been questioned. That is, specific line Chapter 25 - I nflation and Hyperinflation "headings and subtotals" from the items in the balance sheet, income statement and statement Chapter 26 - Gov er nm ent Gr an ts most recent annual financial of cash flows should correspond to those in IAS 1, together Appendix A - Di sclosure Checklist statements. with any additional significant line items that appeared in the Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS entity's most recent annual balance sheet. Chapter 24 - Specialized I ndustr ies

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Nothing specific has been I ndex IAS 34: There is seen to be a need to disclose the effects of suggested, but some expanded List of Tables changes in the composition of the reporting entity. In List addition, of Ex hibits the major and Exassumptions am ples used in measuring the

effect shoulds be disclosed. List of Sidebar

disclosures could be mandated if deemed necessary.

Nothing specific has been IAS 34: The need for the disclosures in IAS 8, as suggested, but some expanded appropriate, for error corrections and changes in accounting disclosures could be mandated if policy has been cited for interim reporting. deemed necessary.

Nothing specific has been IAS 36: There may be a need for disclosure of the nature, suggested, but some expanded the reasons and the effects of any material change in W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f disclosures could be mandated if goodwill allocation intoncash generating I nin t eranbreakdown at ion al Accou t in g St an d ar ds deemed necessary. units (CGU). ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za Nothing specific has been IAS 36: A need has disclosure of how a Johnbeen Wi leyidentified & Sons ©for 2003 (952 pages) suggested, but some expanded CGU was determined (regardless of whether the enterprise This com pact and t ruly com pr ehensive qui ck - refer ence disclosures could be mandated if has tested one orprmore for impairment), and to thedepend on for esent CGU s account ants with a guide deemed necessary. accumulated impairment losses tangible assets, assistance in theofprepar at ion and under standing of financial present in accordance intangible assetsstatements and goodwill. Also,eddisclosure of thewith I AS. carrying amount and the accumulated impairment losses of T ab le of Con t en t s each CGU should be encouraged. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Nothing specific has been IAS 37: There is the perceived need for additional Preface suggested, but some expanded

disclosures related to contingent assets.

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds disclosures could be mandated if

Chapter 2

- Balance Sheet

deemed necessary.

I ncom e Statement, Stat em ent of Chan ges in Equit y,IAS and22 Statem entonly require and 38 IAS 38: Disclosure of the Gains reasons a useful life longer of Recognized andwhy Losses disclosure when lives greater than than five selected Chapter 4 years - Cashwas Flow St at em is entseen as necessary by some. twenty years are used. This Chapter 5 - Financial I nstr uments—Cash and Receiv ables requirement could be lowered to Chapter 6 - I nventor y some other threshold point, if Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s desired. Chapter 3

Chapter 8

- Property , Plant , and Equipment

IAS 38 requires certain disclosures related to research expenses related to internally developed intangibles I nterests in Financial Instr um ent s, Associathas es, Joint Ventur es, and Chapter 10 and development expenditures. I nvestm ent Pr oper ty been observed. Other disclosures could be Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements mandated, as deemed necessary. Chapter IAS 38:9 A -need I ntangi forble disclosure Asset s of the nature and amounts of

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date Nothing specific has been IAS 39: There may be a need for additional information Chapter 13 - Financial I nstr uments—Long- Ter m Debt suggested, but some expanded Chapter 12 -

equivalent to cost accounting for an equity instrument that disclosures could be mandated if does not have a quoted market price in an active market or Chapter 15 - I ncom e Taxes deemed necessary. for which other methods of estimating fair value are clearly Chapter 16 - Em ploy ee Benefit s inappropriate or unworkable (e.g., investments in Chapter 17 - Stock holder s' Equit associates, joint ventures and ysubsidiaries, investments with Chapter Earnings Per Share of the investee resulting from access18 to -internal information Chapter 19 - I nterim Repor a representation of Financial the investor onting the governing body of the Chapter 20 without - Segm ent Repor ting investee, significant influence of the investor). Chapter 14 - Leases

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures

III. Items That Might Require Further Interpretative Guidance

Chapter 24 - Specialized I ndustr ies

andand specific issue Chapter 25 - IIAS nflation Hyperinflation

Possible interpretive position

Chapter 26 - Gov er nm ent Gr an ts

Either a requirement to present a classified IAS 1: The fact that classified balance sheets are balance sheet, or alternatively, a prohibition not required, and that each entity may choose Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Underit,I AS against might be adopted. whether to have a classified balance sheet, is Appendix C - Com parison of I AS, US GAAP, and UK GAAP criticized. Appendix A - Di sclosure Checklist

I ndex

Presumably specific guidance might be List of 1: Tables IAS There is a perceived insufficiency of List of Ex hibits and Exdividends am ples and splits, dividends adopted by various jurisdictions for some or guidance on stock List of Sidebar s in kind, increasing rate preferred stock, contingent

warrants, greenmail transactions, forward stock transactions, and the hedging of an enterprise's stockholder equity.

all of these matters.

A strict twelve-month criterion could be IAS 1: The going concern assumption under this mandated. standard is not strictly defined as being at least W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f twelve months from then at date ofgthe I n t er ion of al approval Accou n t in St an d ar ds financial statements, but rather is defined as ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali being at least, but Mirnot za limited to, this twelvemonth threshold.John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence Reporting jurisdictions may elect to require IAS 8: Changes in accounting policy pr esent s account antsmay withbe a guide to depend on for either the benchmark method or the allowed accounted for asassistance either restatements of at prior in the prepar ion and under standing of financial alternative method for one or both of these statementsadjustment present ed in periods or as a cumulative to accordance net profit with I AS. items. and loss in the current period; and fundamental T ab le of Con t en t s errors may be accounted for either as a Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing cumulative adjustment to net profit and loss in the Standar ds current period or as restatements of prior periods. Preface - I ntr oduction to I nter national Accounting Standar Specificds guidance may be offered on these IAS 12: There is a perceived need for matters. - Balance Sheet guidance—including appropriate disclosures—on I ncom e Statement, Stat emincome ent of Chan ges in Equit y, and Statem ent the allocation of current and deferred Chapter 3 of Recognized Gains and Losses taxes in cases where the reporting entity is part of Chapter 4 - Cash Flow St at em ent a consolidated tax return. Chapter 1 Chapter 2

Chapter 5

- Financial I nstr uments—Cash and Receiv ables Alternative criteria for recognition of deferred Chapter 6 - I nventor IAS 12: Some arguey that the criterion for tax assets could be imposed. Chapter 7 - of Revdeferred enue Recogni tion, I ncluding Constr uction Contr act s recognition tax assets is too stringent Chapter 8 - Property , and Plantthat , anda Equipment and is inappropriate, lesser threshold, such as9 "more likely not," Chapter - I ntangi blethan Asset s should be

substituted.I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty

The "difficulty exception" in IAS 12 might be eliminated or expanded by interpretive previously charged credited to equity seen Curr ent or Liabilit ies, Prov isions,isCont ingencies, and Ev ents after t he Chapter 12 guidance. Balanceguidance. Sheet Date as needing further IAS 12:11The need forCombinations backward tracing for an item Chapter - Business and Consolidat ed Fin ancial Statements

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

IAS 12:14The term "substantive enactment" (used Chapter - Leases in conjunction withe changes in tax rates) may Chapter 15 - I ncom Taxes need interpretive guidance. Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y

IAS 12: The treatment of a change in the tax status of an enterprise (e.g., through equity or Chapter 19 - I nterim Financial Repor ting profit and loss) may need further interpretive Chapter 20 - Segm ent Repor ting guidance.

This term might be defined by various jurisdictions in ways that have not been suggested at this time. Specific treatments might be mandated.

Chapter 18 - Earnings Per Share

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter - For eign Currtoency IAS 12:22There is seen be a need to prescribe Chapter an intraperiod 23 - Relatedtax allocation Part y Disclosures method for income

Various operational rules could be devised for this.

statement income tax Chapter 24 -items—for Specializedexample, I ndustr ies expense first be determined for profit and Chapter 25 could - I nflation and Hyperinflation loss from activities Chapter 26 ordinary - Gov er nm ent Gr anand ts the remainder proportionately allocated to other items. Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under guidance I AS Specific could be devised for this IAS 12: The accounting for the effects of Appendix C - Com parison of I AS, US GAAP, and UK GAAP item.

investment tax credits has not been specified.

I ndex

IAS 12 allows for reasonable pro rata or List of 12: Tables IAS There is seen to be the need for more appropriate allocation. However, List of Ex hibits and Ex am ples guidance in accounting for transactions with both various jurisdictions might prescribe specific List of Sidebar s income statement and equity attributes that result in disproportionate tax benefits in relation to the income statement charge—for example, a tax benefit could be recognized in the income statement proportionate to the related expense, with the balance going to equity.

guidance on how to allocate such amounts.

Specific guidance could be offered by IAS 14: The need to restate comparative segment different jurisdictions. information subsequent to a business W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f combination accounted forion asala Accou unitingnof I n t er n at t in g St an d ar ds interests may benefit from interpretive guidance. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za Potentially, interpretive guidance might IAS 14: There is John someWiconcern that© the definition ley & Sons 2003 (952 pages) dictate an alternative approach to this. of segment revenue and segment expense This com pact and t ruly com pr ehensive qui ck - refer ence excludes gains orprlosses salesants of investment esent s on account with a guide to depend on for property unless the segment's operations involve assistance in the prepar at ion and under standing of financial statements properties. present ed in accordance with I AS. the operation of investment T ab le of Con t en t s

IAS 16: There may be a need for more guidance

Such guidance could be offered, with varying

degrees of specificity, Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing by various on circumstances that indicate that there has Standar ds jurisdictions. been a disposal of an asset—for example, the effect on sale treatment and corresponding Chapter 1 - I ntr oduction to I nter national Accounting Standar ds potential gain recognition on disposal of operating Chapter 2 - Balance Sheet assets, businesses, or nonperforming assets of I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent factors3such Chapter - as continuing involvement, of Recognized Gains and Losses dependence upon future successful operation of Chapter 4 - Cash Flow St at em ent the acquirer for realization, guarantees, recourse Chapter 5 - Financial I nstr uments—Cash and Receiv ables obligations, and participation in the rewards of Chapter 6 - I nventor y ownership. Preface

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter - Property , Plant , and Equipment IAS 17:8 The effect of attendant factors, such as continuing on slease classification Chapter 9 - involvement, I ntangi ble Asset

Various factors could be identified as criteria.

might be interpreted. I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty

Appendix 2 of IAS 34 retains the guidance on contingent lease payments. There is no could be addressed by interpretive guidance. Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 comparable guidance in IAS 17 for Balance Sheet Date contingent lease income or expense, which Chapter 13 - Financial I nstr uments—Long- Ter m Debt could be addressed by interpretive guidance Chapter 14 - Leases in specific jurisdictions. IAS 17:11Reporting forCombinations contingent lease income ed Fin ancial Statements Chapter - Business and Consolidat

Chapter 15 - I ncom e Taxes

Chapter - Em ploy ee Benefit s the need for IAS 17:16There is thought to be Chapter 17 on - Stock s' Equit y guidance whatholder the term "reasonable certainty"

This could be given specific meaning via interpretive guidance.

Chapter - Earnings certain Per Share means.18Reasonably is also used in the Chapter 19 - of I nterim Financial Repor tingminimum definitions a noncancelable lease, Chapter lease payments, 20 - Segm and ent Repor the lease ting term. Chapter 21 - Accounting Changes and Cor rection of Er ror s

IAS 17 permits two alternative accounting treatments for initial direct costs related to appropriateness of recognizing unearned finance Chapter 23 - RelatedPart y Disclosures finance leases of lessors; these costs either income equal to the initial direct costs expensed. Chapter 24 - Specialized I ndustr ies may be expensed immediately or allocated This is seen as potentially incompatible with the Chapter 25 - I nflation and Hyperinflation against income over the lease term. fair valuation exercise for finance leases of Chapter 26 - Gov er nm ent Gr an ts Jurisdictions may mandate one of these lessors, since the addition to the receivable may Appendix A - Di sclosure Checklist methods as being required in all cases. result in an amount different from the fair value of Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS the receivable. IAS 17:22Concerns been raised about the Chapter - For eignhave Curr ency

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex IAS 17: The accounting for any deferred costs List of Tableswhen leases are modified may need to remaining List beofsupplemented Ex hibits and Ex byam interpretive ples guidance. The

accounting be consistent with the List of Sidebarshould s treatment of debt issuance costs on extinguishment or modification, or costs of property rights, as appropriate, depending on the nature of the deferred costs.

It is thought to be clear that, for finance leases, such amounts generally would be considered part of minimum lease payments. For operating leases, however, this has not been addressed, and might be subject to interpretive guidance at the individual jurisdiction level.

Various guidance may be developed for IAS 17: There may be a need for guidance on the these items. accounting for lease renewals and extensions.

While IAS 19 introduced a transition IAS 19: The need for the recognition of a provision that permits recognition of the minimum pension liability may need further W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat ioobligation n of transition-date over a period up to guidance, given the introduction of a transitional I n t er n at ion al Accou n t in g St an d ar ds years, no minimum liability requirement five provision. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali was introduced. This might become Mir za mandated, however. John Wi ley & Sons © 2003 (952 pages)

A plan providing for a defined level of benefit This combeen pact raised and t ruly IAS 19: Concerns have thatcom thepr ehensive qui ck - refer ence but with the sponsoring entity's current pr esent s account a guide definition of a defined benefit planants maywith permit an to depend on for assistance in the prepar at ion and under standing of financial obligation is limited to the amount of the opportunity for inappropriate accounting, if the statements present ed in accordance with I AS. legally required funding would be considered terms of a plan provide a defined level of benefit a defined benefit plan unless the sponsor T ab le the of Con t en t s but sponsoring entity's current obligation is has no future legal or constructive obligation. Wiley I ASto20the 03—Int er pretation and Application limited amount of the legally required of I nternational Account ing However, further interpretive guidance might Standar ds funding. Arguably, defined benefit accounting be established. Preface should be applied whenever the terms of the plan Chapter 1 I ntr oduction to I nter national Accounting Standar ds provide a defined level of benefit. Chapter 2

- Balance Sheet

IAS 19 provides for a corridor in which IAS 19: Concerns been raised about I ncom ehave Statement, Stat em ent ofthe Chan ges in Equit y, and Statem ent Chapter 3 actuarial gains and losses are not required to of Recognized Gains and which Losses appropriateness of a corridor within be recognized; however, it allows for faster Chapter 4 - of Cash Flow Stgains at em ent recognition actuarial and losses would recognition of actuarial gains and losses, not be 5permitted. Chapter - Financial I nstr uments—Cash and Receiv ables even for amounts falling within the corridor. Chapter 6

- I nventor y IAS 20 offers Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act sa choice between these IAS 20: The appropriateness of recognizing Chapter 8 - Property , Plant , to and Equipment government grants related assets as deferred

methods. Interpretive guidance might make

one or the other of these methods Chapter - I ntangi s income9(rather thanbleasAsset a deduction of the carrying mandatory. I nterests Financial Instr um ent s, Associat es, Joint Ventur es, and amount10of-the asset) in has been questioned. Chapter I nvestm ent Pr oper ty

IAS 21 allows for certain exchange differences resulting from a severe certain exchange Curr entdifferences Liabilit ies, in Prov theisions, carrying Cont ingencies, and Ev ents after t he Chapter 12 devaluation to be either capitalized or Balance Sheet Date amount of the related asset has been questioned. Chapter 13 - Financial I nstr uments—Long- Ter m Debt recognized in net profit and loss. Interpretive guidance could limit these choices, however. Chapter 14 - Leases Chapter - Business Combinations and Consolidat ed Fin ancial Statements IAS 21:11The appropriateness of recognizing

While IAS 21 allows for goodwill and fair IAS 21: The appropriateness of translating value adjustments to be translated at either goodwill and fair value adjustments using the Chapter 17 -rate Stock Equit y of the transaction the exchange rate at the date of the exchange at holder eithers'the date transaction or at the closing date, this choice Chapter 18closing - Earnings or at the datePer hasShare been challenged. might be limited by a given jurisdiction. Chapter 19 - I nterim Financial Repor ting Chapter 15 - I ncom e Taxes

Chapter 16 - Em ploy ee Benefit s

Chapter 20 - Segm ent Repor ting

IAS 23: The choice of allowing borrowing costs to either be immediately expensed or capitalized has Chapter 22 - For eign Curr ency been commented upon.

The use of one approach or the other might

Chapter 21 - Accounting Changes and Cor rection of Er be ror smandated. Chapter 23 - Related- Part y Disclosures

SIC 12 states that such entities may be consolidated. This could be altered if Chapter 25 - I nflation and SPE formed pursuant to Hyperinflation certain national laws that jurisdictions offer interpretive guidance on Chapter Gov er nm ent an ts specify,26for- example, theGr business purpose, criteria for consolidation of SPE. Appendix businessA contents - Di sclosure andChecklist the distribution of revenue has been Appendix B challenged. - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Chapter - Specialized I ndustrof iesconsolidating IAS 27:24The appropriateness

Appendix C - Com parison of I AS, US GAAP, and UK GAAP Criteria for determination of significant IAS 28: Consideration of potential voting interests I ndex influence could be mandated by reporting

in the determination of whether significant jurisdictions. influence exists has been identified as a matter in List of Ex hibits and Ex am ples need of interpretive guidance. List of Tables

List of Sidebar s

IAS 31: The available choice of methods in the accounting for investments in joint ventures, either using proportionate consolidation or the equity method, has been noted.

One or the other method could potentially be mandated.

Criteria could be established to clarify this IAS 31: Concerns have been raised about the issue. accounting for situations where the assets W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f contributed to a joint areAccou considered a an d ar ds I n t erventure n at ion al n t in g St "business," and (in such cases) whether the ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali contribution is, inMir substance, an exchange of za assets or a business John combination. Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ckcould - refer be ence Criteria established to clarify this IAS 32: The aggregation similar financial pr esent s of account ants with a guide to depend on for issue. instruments is cited as an area where there the under standing of financial assistance in the prepar at ionisand statements present ed in accordance with I AS. need for guidance. T ab le of Con t en t s

IAS 32: There may be a need for additional

Specific guidance might be offered on this

issue, which could Wiley I AS 20 03—Int er pretation and Application of I nternational Account ingaffect the actual guidance regarding the computation of earnings Standar ds computation of EPS. per share (EPS) when an enterprise has acquired shares of its own preferred stock for an amount Chapter 1 - I ntr oduction to I nter national Accounting Standar ds different than the recorded book value of those Chapter 2 - Balance Sheet shares. In such cases, the numerator of the EPS I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent computation, Chapter 3 - net profit or loss for the period of Recognized Gains and Losses attributable to ordinary shareholders, is adjusted Chapter 4 - Cash Flow St at em ent for the amount of the difference between the Chapter 5 - Financial I nstr uments—Cash and Receiv ables acquisition price of the shares and their book Chapter 6 - I nventor value, because that ydifference is considered to be Chapter 7 Rev enue Recogni tion,preferred I ncludingsecurity. Constr uction Contr act s a dividend to the holders of the Preface

Chapter 8

- Property , Plant , and Equipment

Criteria such as those in US GAAP (SFAS 128), which includes reference to "... little or shares" hasI nterests been questioned, asInstr hasum its ent s, Associat es, Joint Ventur es, and in Financial Chapter 10 no cash consideration ..." in the definition of ent Pr oper ty consistencyI nvestm with standards developed jointly with contingently issuable shares, could be Chapter 11standard - Business Combinations and Consolidat ed Fin ancial Statements national setters. developed. Chapter IAS 33:9 The - I ntangi definition ble Asset of "contingently s issuable

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date IAS 33 is not specific as to whether IAS 33: Concerns have been raised about Chapter 13 - Financial I nstr uments—Long- Ter m Debt redemption premiums or discounts for the whether the following "claims" would be included Chapter 14 - Leases redemption or induced conversion would be Chapter 12 -

in the computation of basic EPS: (1) redemption premiums (or discounts) for the redemption or Chapter 16 - Em ploy ee Benefit s induced conversion of preferred shares; and or Chapter - Stock holder s' Equit y shares; and (2) a induced17conversion of preferred Chapter 18stream - Earnings Per Share dividend calculated using an effective Chapter - I nterim Repor interest19method for Financial increasing rateting preference Chapter - Segm ent Repor ting shares 20 classified in equity.

included in basic EPS, and this could be clarified via interpretive guidance by the jurisdictions. Also, earning for basic EPS purposes includes a deduction for preference dividends, although there is no specific mention of how the dividends are calculated; this too might be subject to interpretive Chapter 21 - Accounting Changes and Cor rection of Er ror s guidance. Chapter 15 - I ncom e Taxes

Chapter 22 - For eign Curr ency

Chapter 23 - Related- Part y Disclosures

IAS 33: The issue of whether vesting of fixed

Chapter 24 -stock Specialized ies employee optionsI ndustr is a contingent condition Chapter 25 I nflation and Hyperinflation that must be met before such options are

Definitive criteria could be set forth to resolve this.

Chapter 26 - in Gov er nm ent Gr an ts of diluted EPS considered the computation Appendix A Di sclosure Checklist should be resolved, it has been observed. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

IAS 33 refers to multiple classes of ordinary shares but does not provide any specific guidance on when EPS for each class should be disclosed. These matters thus could be subject to local jurisdictions' interpretations.

IAS 33: CHow "participating should Appendix - Com parison of I securities" AS, US GAAP, and be UK GAAP considered in the EPS computation may need I ndex further interpretation; additionally, whether or not List of Tables theoftwo-class method used for securities List Ex hibits and Ex amisples

convertible into the other class could be clarified.

List of Sidebar s

IAS 37 requires that the discount rate reflect IAS 37: Concerns have been voiced about the the risks specific to the liability, but further appropriateness of using a risk-adjusted (versus a interpretations could be developed. risk-free) discount rate when computing the present value of a provision.

IAS 38 allows intangible assets to be IAS 38: The appropriateness of measuring measured at revalued amounts in certain intangible assets at revalued amounts has been W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io nbut o f this could be banned by circumstances, questioned. I n t er n at ion al Accou n t in g St an d ar ds jurisdictions (mandating only the cost local by Bar r y J. Epstein and Abbas Ali method). ISBN:0471227366

Mir za Under IAS 39, losses on remeasured assets John Wi been ley & raised Sons © about 2003 (952 IAS 39: Concerns have thepages) that are recorded in equity are recognized in com pact and t rulygains com pr appropriateness This of leaving unrealized inehensive qui ck - refer ence profit or loss upon impairment. Other pr esent s account equity upon reclassification of an ants assetwith to a guide to depend on for assistance in the prepar at ion and under standing of could financial interpretations be mandated, however. amortized cost (versus beingpresent subject if with I AS. statements edtoinreversal accordance

the asset is found to be impaired). T ab le of Con t en t s

IAS 39 provides that trading liabilities include

IAS I39: specific definition of trading of I nternational Account ing Wiley AS A 20more 03—Int er pretation and Application derivatives not used for hedging purposes Standar ds is seen by some as being needed. activities

and short sales. Other interpretive guidance may be rendered.

Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Various positions might be taken by various - Balance Sheet IAS 39: There may be a need for additional jurisdictions, if they choose I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent to address this guidance Chapter 3 in - determining whether impairment of Recognized Gains and Losses matter. exists. Items to be considered include (1) the Chapter 4 - Cash Flow St at em ent length of time and the extent to which the fair Chapter 5 - Financial I nstr uments—Cash and Receiv ables value has been less than cost, and (2) the intent Chapter 6 - of I nventor y and ability the holder to retain its investment in Chapter 7 Rev enue Recogni I ncluding Constr uction Contr act s the issuer for a period of timetion, sufficient to allow Chapter 8 Property , Plant , and Equipment for any anticipated recovery in fair value. Chapter 2

Chapter 9

- I ntangi ble Asset s

Various interpretive guidance could evolve IAS 39: TheI nterests meaninginofFinancial the termInstr "insignificant" is um ent s, Associat es, Joint Ventur es, and Chapter 10 for this. I nvestm ent of Pr additional oper ty seen as being in need guidance. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Various interpretive guidance could evolve IAS 39: TheCurr meaning of the assets ent Liabilit ies,term Prov"similar isions, Cont ingencies, and Ev ents after t he for this. Datein need of additional or liabilities"Balance is seenSheet as being Chapter guidance. 13 -For Financial example, I nstr could uments—LongderivativesTer bem Debt included group at all, or only in a grouping Chapter 14in- a Leases with other How would these hedges Chapter 15 -derivatives? I ncom e Taxes be treated a portion of the hedged group is sold, Chapter 16 - ifEm ploy ee Benefit s extinguished or transferred? Chapter 17 - Stock holder s' Equit y Chapter 12 -

There is a presumption that fair value can be IAS 39: The ability to reliably measure the fair reliably determined for most financial assets value of a contract that includes an embedded Chapter 20 - Segm ent Repor ting classified as available-for-sale or held-forderivative, if the embedded derivative cannot be That presumption can be overcome Chapter 21 - Accounting Changes and Cor rection of Er trading. measured separately may need further guidance. ror s for an investment in an equity instrument that Chapter 22 For eign Curr ency In these cases, the exception to fair value does not have a quoted market price in an Chapter 23 - would RelatedPart ytoDisclosures accounting apply the entire contract. active market and for which other methods of Chapter 24 - Specialized I ndustr ies estimating fair value are clearly inappropriate Chapter 25 - I nflation and Hyperinflation or unworkable. The presumption can also be Chapter 26 - Gov er nm ent Gr an ts overcome for a derivative that is linked to Appendix A - Di sclosure Checklist and that must be settled by delivery of such Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS an unquoted equity instrument. Other Appendix C - Com parison of I AS, US GAAP, and UK GAAP guidance could be offered by various I ndex jurisdictions. Chapter 18 - Earnings Per Share

Chapter 19 - I nterim Financial Repor ting

List of Tables

One or the other of these allowable List of 39: Ex hibits and Ex am ples IAS The appropriateness of allowing changes alternative meth ods, for available-for-sale List of Sidebar s of financial assets to be either in the fair value recorded directly in equity or to be recognized in net profit and loss has been challenged.

securities, might be made mandatory.

IAS 39 states that if it is probable that all IAS 39: Measuring impairments for a portfolio of amounts due will not be collected, then an homogeneous assets, such as loans, receivables W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n iso frecognized and generally impairment loss (debtors) or securities, a portfolio basis I n t er non at ion al Accou n t in grather St an d ar ds measured for individual assets. Impairment than on an individual security basis has been ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali may be measured on a portfolio basis for questioned. Also,Mir some za believe that portfolio similar assets. No mention is made in IAS 39 analysis should not beWi applied to securities. John ley & Sons © 2003 (952 pages) of application to securities. However, there This com pact and t ruly com pr ehensive - referfor ence mayqui beckroom definitive guidance on these pr esent s account ants with a guide to depend on for matters. assistance in the prepar at ion and under standing of financial statements present ed in accordanceVarious with I AS. guidance may be offered on these IAS 39: Concerns have been raised about the matters. T ab le offor Con t en t s need additional guidance on the ability to use Wiley I ASaccounting. 20 03—Int erFor pretation and itApplication hedge example, is unclear of I nternational Account ing Standar ds assets, liabilities, firm commitments or whether Preface forecasted transactions measured at fair value, Chapter - I ntr to be I nter national Accounting Standar ds through1 profit oroduction loss, can designated as the Chapter 2 Balance Sheet hedged item in a fair value or cash flow hedge. I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

IAS 39 indicates that certain financial of Recognized Gains and Losses IAS 39: Concerns have been raised about how services industries measuring substantially Chapter certain4financial - Cash services Flow St atindustries em ent would apply all financial assets at fair value will be able to the fair5value measurement principles inand thisReceiv ables Chapter - Financial I nstr uments—Cash continue to do so if their financial assets are standard. Chapter 6 - I nventor y classified under IAS 39 as either availableChapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s for-sale or held-for-trading. If an enterprise Chapter 8 - Property , Plant , and Equipment does not designate any financial assets as Chapter 9 - I ntangi ble Asset s held-to-maturity then they must use fair value I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and assets are under IAS 39. If financial Chapter 10 I nvestm ent Pr oper ty classified as held for trading, then fair value Chapter 11 - Business Combinations and Consolidat ed changes Fin ancial must Statements be recorded in net profit or Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev t heseem to be quite loss. While ents theseafter rules Chapter 12 Balance Sheet Date definitive, there may be room for further Chapter 13 - Financial I nstr uments—Long- Ter m Debt interpretive guidance. Chapter 3

Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter In addition 16 -toEm the ploy aforenoted ee Benefit sreconciliation, disclosure, and interpretation matters, IOSCO has identified

a handful itemsholder that might bey subject to waivers, plus dozens of future projects it would like to see Chapter 17 of - Stock s' Equit action taken on. The Per waivers Chapter 18 - Earnings Sharerepresent financial accounting and reporting requirements under IAS from which, as of national or regional specific requirements, waivers might be envisaged. Note that Chapter 19 part - I nterim Financial Repor ting these waivers would necessitate presenting reconciliations to IAS, unlike the items discussed Chapter 20 - Segm ent not Repor ting

above. 21 According to IOSCO, theand useCor of rection waiversofshould Chapter - Accounting Changes Er ror sbe restricted to exceptional circumstances such as issues identified by a domestic regulator when a specific IASC standard is contrary to domestic or regional regulation.

Chapter 22 - For eign Curr ency

Chapter 23 - Related- Part y Disclosures

Chapter 24 - Specialized ndustrfor ies which waivers have been contemplated, as follows: Four issues have been Inoted Chapter 25 - I nflation and Hyperinflation

1. The deferred tax recognition criterion under IAS 12 has been seen as perhaps being at variance with national standards. Under IAS 12, deferred tax assets are recognized based on a Appendix A - Di sclosure Checklist "probable" test. This is contrasted, for example, to the "more likely than not" criterion under US AppendixGAAP. B - I llustrativ e Financial St atem ent Pr esent ed Under If a waiver were granted, ansentity using IAS toI AS prepare financial statements for filing in Appendixthe C -US Com parison of I AS, US GAAP, and UK GAAP would apply the "more likely than not" criterion to determine whether deferred tax assets I ndex are to be given recognition, rather than using the IAS 12 criterion of "probable" (which is a List of Tables significantly higher recognition threshold). There would be no need to reconcile deferred tax List of Exassets hibits and Ex am or the taxples provision from a pure IAS 12 approach to the hybrid IAS 12 using the List of Sidebar s alternative deferred tax asset criterion. Chapter 26 - Gov er nm ent Gr an ts

2. Another area where waivers are deemed likely to be needed concerns the IAS 16 provision that permits reporting plant assets at revalued amounts, particularly when significant inflation is being experienced. This issue has not been further developed at this time, however. 3. A need has been identified to provide (as an alternative to the requirements of IAS 38) an option to either capitalize or expense the costs for internally generated intangible assets other than goodwill and computer software. It is argued that such an option may be appropriate provided

that the rebuttable presumption for the maximum amortization period is reduced to five years; and disclosure of what the effect on financial statements would be if the other option were applied (capitalize versus ramifications of this argument have not been W ile y I AS 2 0 03expense). : I n t erp reThe t at ion an d Ap p licat io n "waiver" of addressed. I n t er n at ion al Accou n t in g St an d ar ds ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali

4. Concerns Mir have za been raised about whether it would be appropriate to use fair value accounting (as opposed to Wi theleycost method of (952 accounting) for an equity instrument that does not have a John & Sons © 2003 pages) quoted market price in an active market. This has also received no further attention. This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

The future projects are defined as prepar being atareas of financial reporting practice that the IOSCO working assistance in the ion and under standing of financial party (the entity which reviewed the ed IASinand made the recommendation that they be endorsed) statements present accordance with I AS. believes demand ongoing attention. These projects may result in SIC interpretations or may require T ab le of Con t en t s standard-setting activities. The issues to be addressed with future projects are those where members Wiley I AS 20 03—Int er pretation and Applicationtreatment of I nternational Account ing but may do so in the future if currently are not specifying a supplemental (e.g., reconciliation) Standar ds an IOSCO assessment determines that one or more jurisdictions believe the issue has not been Preface addressed satisfactorily. The identified future projects are set forth below. Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

IAS/proposed future project needed to address

Comments

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses The IASC has added a project on IAS 1: The types of items that should be recognized in Chapter 4 - Cash Flow St at em ent Reporting Financial Performance, which equity, including enhanced guidance for disclosure of Chapter 5 - Financial I nstr uments—Cash and Receiv ables would probably address these matters. Chapter 3

-

changes in equity accounts and related recognition - I nventor y and measurement issues (e.g., whether such items Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s should be "recycled" through income). Chapter 6 Chapter 8

- Property , Plant , and Equipment This has not been addressed at this time. Chapter 9 I ntangi ble Asset s basis when the going IAS 1: The- proper accounting I nterests is in not Financial Instr um ent s, Associat es, Joint Ventur es, and concern justified. Chapter 10assumption I nvestm ent Pr oper ty

This has not been addressed at this time.

Chapter - Business Combinations and Consolidat IAS 1: 11 Further guidance (and examples) on the ed Fin ancial Statements

circumstances Currin ent which Liabilit management ies, Prov isions, would Cont beingencies, and Ev ents after t he Date expected toBalance developSheet polices that reflect the economic Chapter 13 - of Financial nstr transactions uments—LongTernot m Debt substance events Iand and merely Chapter 14 Leases the legal form, as required by IAS 1. Chapter 12 -

Chapter 15 - I ncom e Taxes

IAS 12:16The discounting of deferred tax assets and Chapter - Em ploy ee Benefit s liabilities. Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

IAS 12: The apparent conflict between IAS 12 and the requirement in IAS 22 to measure any minority interest Chapter 20 - Segm ent Repor ting at the minority's proportion of the fair values of the Chapter 21 - Accounting Changes and Cor rection of Er ror s assets and liabilities recognized.

IAS 12 prohibits the discounting of deferred tax assets and liabilities. This has not been addressed at this time.

Chapter 19 - I nterim Financial Repor ting

Chapter 22 - For eign Curr ency Chapter - RelatedPart y the Disclosures IAS 12:23Guidance about exceptions to the Chapter 24 - for Specialized ndustr ies accounting deferredI assets and liabilities, and the Chapter meaning 25 of - I"probable." nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

IAS 12: AThe in IAS 12 regarding timing Appendix - Diexceptions sclosure Checklist

This has not been addressed at this time.

The exception in IAS 12 applies to all investments in subsidiaries.

difference on einvestment inatem subsidiaries. Appendix B -arising I llustrativ Financial St ent s Pr esent ed Under I AS

Appendix C - Com parison of I AS, US GAAP, and UK GAAP This has not been addressed at this time. IAS 14: The quality of segment disclosures, with a I ndex

goal of further convergence with national standard setters.

List of Tables

List of Ex hibits and Ex am ples List of 16: Sidebar s IAS Whether either a gross or net presentation

should be used in light of the broader general guidance in IAS 20 and IAS 1.

Income statement presentation not explicitly addressed, although the gross amount of the compensation should be disclosed (per SIC 14).

This has not been addressed at this time. IAS 16: Clarification that compensation received relating to an insurance reimbursement, an indemnity W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f for the expropriation ofnassets, as nat in result of an I n t er at ion al and Accou g St an d ar ds involuntary conversion, be classified as extraordinary ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali when it relates toMir a za loss reported as an extraordinary item. John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck -17 refer ence that initial direct costs IAS requires IAS 17: Guidance accounting for the costs incurred pr on esent s account ants with a guide to depend on for relating to finance leases be capitalized. by a lessee in negotiating securing a under standing of financial assistanceand in the prepareither at ion and Initial statements present ed in accordance with I AS. direct costs relating to operating finance lease or an operating lease. This should be leases are not addressed. consistent with debt issuance costs or costs of T ab le of Con t en t s property rights, depending on the nature of the costs, Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing even though operating leases are not accounted for as Standar ds property rights currently. Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar This dshas not been addressed at this time.

IAS 17: New approaches for lease capitalization (e.g., - Balance Sheet capitalize all leases with a term greater than one year).

Chapter 2 Chapter 3

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

IAS 21 provides that a foreign currency Recognized Gains and Losses IAS 21: Theofsituation where forward exchange transaction should be recorded by Chapter 4 Cash Flow St at em ent contracts are entered into to establish the amounts of applying to the foreign currency amount Chapter 5 Financial I nstr uments—Cash and Receiv ables the reporting currency required or available at the the exchange rate between the reporting Chapter 6 - dates I nventor y settlement of foreign currency transactions. currency Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s and the foreign currency at the date of the transaction. This appears to Chapter 8 - Property , Plant , and Equipment conflict with IAS 39. Chapter 9

- I ntangi ble Asset s

21Ventur provides that nonmonetary items I nterests in Financial Instr um ent s, Associat es,IAS Joint es, and Chapter IAS 21:10The - apparent conflict between IAS 21 and 39 I nvestm ent Pr oper ty measured at cost be reported using the in accounting for the translation of nonmonetary items

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements exchange rate at the date of the measured at cost. Curr ent Liabilit ies, Prov isions, Cont ingencies, and transaction Ev ents after whilet he IAS 39 requires Chapter 12 Balance Sheet Date consideration of the change in the foreign Chapter 13 - Financial I nstr uments—Long- Ter m Debt exchange rates. Chapter 14 - Leases

IAS 21:15Guidance how the payment of a dividend Chapter - I ncom eon Taxes does not a return Chapter 16 constitute - Em ploy ee Benefitof s the investment. Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter - I nterim on Financial tingfor a change in IAS 21:19Guidance how to Repor account Chapter the classification 20 - Segm ent of aRepor foreign tingoperation occurring

Not addressed. IAS 21 says that "the payment of a dividend forms part of a disposal only when it constitutes a return of the investment." This has not been addressed at this time.

during 21 a financial year. Changes and Cor rection of Er ror s Chapter - Accounting Chapter 22 - For eign Curr ency

IAS 22:23Guidance on the presentation of shareholders' Chapter - RelatedPart y Disclosures

This has not been addressed at this time.

equity and comparative financial statements following a reverse acquisition.

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

IAS 22: The amortization requirements for goodwill

Amortization requirements for goodwill

and other intangibles are similar. IAS 22 Appendix A -intangible Di sclosureassets, Checklist and other which are different in restricts Appendix B I llustrativ e Financial St atem ent s Pr esent ed Under I AS the conditions of separate nature (i.e., goodwill is a residual). The current

Appendix C may - Comencourage parison of not I AS,allocating US GAAP,the andcost UK of GAAP recognition for assets and liabilities of the approach I ndex acquisition properly and lead to not measuring reliably List Tablesor groups of assets acquired, an approach theofassets List notofconsistent Ex hibits and with ExIAS am ples 36. List of Sidebar s

IAS 22: The accounting for legal mergers (i.e., common control transactions) due to legal constraints in certain jurisdictions.

acquiree that existed at the date of acquisition. In contrast, when it is not possible to estimate the recoverable amount of an individual asset, IAS 36 requires the identification of cashgenerating units and does not use the origin of the assets as a classification criterion.

This has not been addressed at this time.

IAS 22 limits the treatment to those items IAS 22: Expanding the accounting requirements for that are identified in the acquirer's plan negative goodwill relating to expected future costs to W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n othat f and requires if the costs are not cases where subsequent arenmade toan the I n t er n at changes ion al Accou t in g St d ar ds recognized in the expected period, then acquirer's plan. Corresponding disclosure ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali the corresponding negative goodwill requirements areMir essential to application of this za should be recognized as if it were approach, with a John requirement to explain Wi ley & Sons © 2003any (952changes pages) negative goodwill that does not relate to to the original restructuring plan. This com pact and t ruly com pr ehensive qui ck - refer ence expected future losses. pr esent s account ants with a guide to depend on for

assistance in the prepar at ion and under standing financial This hasofnot been addressed at this time. IAS 22: Clarifyingstatements the accounting forednegative goodwill present in accordance with I AS. if the acquired assets are all (or substantially) T ab le of Con t enand t s nondepreciable or amortizable (e.g., nonmonetary Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing land). Standar ds

IAS 22 requires recognition of a provision

Preface IAS 22: The accounting for assumed liabilities for postacquisition restructuring that was Chapter 1 - with I ntr oduction I nter national Accounting Standar ds associated planned to restructurings.

not a liability of the acquiree if the plan has been developed, announced and I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 within three months of acquisition, of Recognized Gains and Losses developed into a formal detailed plan. Chapter 2

- Balance Sheet

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables IAS 27: The issue of effective control and thus

This has not been addressed at this time.

Chapter 6 consolidation - I nventor y when share options or other potential Chapter 7 Rev enue Recogni tion, uction Contr act s convertible- securities are held andI ncluding exerciseConstr is Chapter 8 - Property , Plant , and Equipment discretionary. Chapter 9

- I ntangi ble Asset s

Not specifically addressed, but SIC 12 IAS 27: HowI nterests a position as general partner in Financial Instr um entof s, aAssociat es, Joint Ventur es, and Chapter 10 would apply to partnerships that are SPE. nvestm ent Pr oper partnership Iis interpreted with tyregard to effective Chapter - Business Combinations and Consolidat ed Fin ancial Statements control11 and, thus, potential consolidation. Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balancethe Sheet Date IAS 27: Delimiting "if practicable" exception for the Chapter application 13 - of Financial uniformI nstr accounting uments—Longpolicies Ter to, m in Debt any event, 14 require the use of acceptable international Chapter - Leases standards. Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s

IAS 27: Creating a rebuttable presumption that an enterprise consolidate an SPE if certain of the Chapter 18 - Earnings Per Share indicators in SIC 12 are present. Chapter 17 - Stock holder s' Equit y

This has not been addressed at this time.

No specific guidance provided on how to apply the "indicators" of consolidation.

Chapter 19 - I nterim Financial Repor ting

This has not been addressed at this time. Chapter - Segm ent ting 20% presumption may IAS 28:20Guidance onRepor how the Chapter 21 - Accounting Changes and it Cor of Er ror s be overcome and disclosures when isrection overcome. Chapter 22 - For eign Curr ency

IAS 29 makes a distinction between historical financial statements and current accumulated changes in valueies accounted for in equity Chapter 24 - Specialized I ndustr cost financial statements. Under the under IAS Chapter 25 -39. I nflation and Hyperinflation historical cost basis of accounting, Chapter 26 - Gov er nm ent Gr an ts revalued non-monetary items are restated Appendix A - Di sclosure Checklist from the date of the revaluation. At the Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS beginning of the first period of application Appendix C - Com parison of I AS, US GAAP, and UK GAAP of IAS 29, any revaluation surplus that I ndex arose in previous periods is eliminated List of Tables and restated retained earnings are List of Ex hibits and Ex am ples derived from all the other amounts in the restated balance sheet. List of Sidebar s Chapter IAS 29:23Clarifying - Relatedthe Part accounting y Disclosures treatment of

IAS 31: Developing criteria for recognition of a new basis by the venture itself for net assets sold or contributed to the joint venture.

This has not been addressed at this time.

An entity can still use either the cost method or IAS 39. That is, there still are W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f alternatives in accounting three permitted I n t er n at ion al Accou n t in g St an d ar ds for investments in joint ventures in the ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali separate financial statements of the Mir za investor. (This will be corrected by E66, John Wi ley & Sons © 2003 (952 pages) however.)

IAS 31: Limiting the various treatments currently allowed in IAS 31.

This com pact and t ruly com pr ehensive qui ck - refer ence The wording pr on esent s account ants consideration" with a guide to depend on for of SIC 13 is still not clear IAS 31: Guidance how "additional assistance in the prepar at ion and under standing of financial about how the "appropriate portion" is (such as cash) affects the computation the statements present ed inofaccordance withcalculated. I AS.

"appropriate portion" of gain or loss on a contribution

T ab of Con t s venture. ofleassets tot en a joint Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Clarifying that SIC 16 excludes from its scope This has not been addressed at this time. IAS 32: Preface transferable shares of the enterprise held by an Chapter employee 1 -benefit I ntr oduction plan that to Iis nter reflected nationalinAccounting the Standar ds

enterprise's consolidated Chapter 2 - Balance Sheet financial statements. Also, whether thisI ncom scopee exclusion remain Statement,would Stat em ent ofappropriate Chan ges in Equit y, and Statem ent of the Recognized Gains Losses regardless of percentage of and the reporting Chapter 4 - Cash Flow St at ent assets by the enterprise's shares held asemplan employee plan. Chapter 5 -benefit Financial I nstr uments—Cash and Receiv ables Chapter 3

Chapter 6

- I nventor y

This has not been addressed at this time.

IAS 34:7 The practical issuestion, arising from the effect of Contr act s Chapter - Rev enue Recogni I ncluding Constr uction different legal environments on the concept of - Property , Plant , and Equipment "authorized for issue," particularly as it relates to Chapter 9 - I ntangi ble Asset s interim financial statements. Chapter 8

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty Appendix 2 of IAS 34 provides guidance IAS 34: Guidance on determining the "estimated Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements on measuring interim income tax expense, Chapter 10 -

average annual effective rate," particularly regarding

Curr ent Liabilit ies, Prov isions, Cont ingencies, and including Ev entsa after discussion t he of the "estimated Chapter 12 - in deferred taxes. the changes Balance Sheet Date average annual tax rate." Chapter 13 - Financial I nstr uments—Long- Ter m Debt

IAS 37:14The appropriateness discounting provisions. Chapter - Leases In addition, computational guidance should Chapter 15 - Iadditional ncom e Taxes be provided. Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y

Provisions are required to be discounted if the time value of money is material. However, there is no specific computational guidance. A discounting project was added to IASC's agenda.

Chapter 18 - Earnings Per Share

IAS 37 requires incorporating future tax legislation whose passage is "virtually certain" (vs. "substantively enacted" in regulations. Chapter 21 - Accounting Changes and Cor rection of Er ror s IAS 12). Chapter - I nterim Financial Repor ting IAS 37:19The apparent inconsistency between IAS 37 Chapter and 1220 regarding - Segm ent theRepor anticipation ting of changes in Chapter 22 - For eign Curr ency

Chapter 26 - Gov er nm ent Gr an ts

Probability is a recognition criterion. A provision should be recognized when it is probable that an outflow of resources will be required.

Appendix A - Di sclosure Checklist

Provisions are measured at the "best

Chapter - RelatedPart y Disclosures IAS 37:23The appropriateness of using probability as a Chapter 24 Specialized ies to being used only recognition criterion (asI ndustr contrasted Chapter 25 - I nflationcriterion). and Hyperinflation as a measurement

IAS 37: Additional guidance on the techniques to be used in determining the best estimate, particularly Appendix - Com parison of measured I AS, US GAAP, GAAP when theC obligation being doesand notUK involve I ndex a large population of items. One possibility may be to List of Tables discuss, as an example, an inappropriate application List hibitsprinciple, and Ex amthen ples indicate why the application of of theExbasic List of Sidebar s is not appropriate and what should be done.

estimate." For a large population, the best Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS estimate is generally computed using the "expected value" method. For a single obligation, the best estimate is generally computed using the most likely outcome.

This has not been addressed at this time. IAS 38: Ways to adopt consistent recognition and measurement criteria with the impairment standard. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f The concept of aI "group assets" is an tkey n t er n atofion al Accou in g factor St an dto ar ds follow the value of an enterprise in a more efficient ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali way, as, for the components of a group, there is a link Mir za between the elements used amortization John Wi ley &for Sons © 2003 (952purposes pages) and those used for impairment purposes (e.g., useful qui ck - refer ence This com pact and t ruly com pr ehensive lives, amortization periods, amount and timing of pr esent s account ants with a guidecash to depend on for assistance the preparitatshould ion andbe under standing of financial flows, and residual values). inTherefore, present in accordance with I AS. considered to thestatements extent it would beed possible to recognize T ab le of Conrevenue t en t s earning activities and to use segments as such. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

IAS 38: The accounting for costs incurred in issuing debt securities.

This has not been addressed at this time.

Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

This has not been addressed at this time. - Balance Sheet IAS 38: The appropriateness of capitalizing certain I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent expenses Chapter 3 -(e.g., preliminary studies and functional of Recognized Gains and Losses analysis) relating to the development of computer Chapter 4 - Cash Flow St at em ent software. Such amounts should be explicitly excluded Chapter 5 - Financial I nstr uments—Cash and Receiv ables from the production cost. Chapter 2

Chapter 6

- I nventor y Under IAS 38, separability is not a Chapter 7 - Rev enue Recogni tion, I ncluding Constr IAS 38: The appropriateness of separability as a uction Contr act s Chapter 8 criterion - Property , Plant , and Equipment minimum for recognition of an intangible asset Chapter (purchased 9 - Ior ntangi acquired). ble Asset s

necessary condition for identifiability.

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and This has not been addressed at this time. IAS 38: TheI nvestm introduction ent Prof oper "the ty ability to restrict the access11 of -others to future economic benefit coming Chapter Business Combinations and Consolidat ed Fin ancial Statements from the asset" additional characteristic for the and Ev ents after t he Curr as entan Liabilit ies, Prov isions, Cont ingencies, Chapter 12 Balance Sheet Date recognition of a purchased intangible asset. Chapter 10 -

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

IAS 38:14Providing Chapter - Leases more guidance regarding: (1) whether Chapter 15expenses - I ncom e have Taxesenhanced the originally assessed of Benefit performance, and (2) the Chapter 16 -standard Em ploy ee s

No additional guidance has been provided in IAS 38, although IAS 16.41-.52 discusses depreciation.

amortization method to be applied to such capitalized costs.

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

Chapter 19 - I nterim Financial Repor ting

IAS 38: Capitalization of subsequent costs if: (1) it is

IAS 38 requires capitalization when

additional benefits are probable (as Chapter - Segm ent those Reporcosts ting will enable the asset virtually20certain that Chapter 21 - Accounting and future Cor rection of Er ror s opposed to virtually certain). No special to generate specificallyChanges attributable economic impairment tests are required. Chapter 22or- enhancing For eign Curr ency benefits the originally assessed standard Chapter 23 - RelatedDisclosures of performance, andPart (2)ythe asset is subject to an Chapter 24 - Specialized I ndustr ies reporting period in impairment test at the end of the Chapter which capitalization 25 - I nflation has and occurred, Hyperinflation even if there is no

indication asset is an impaired. Chapter 26 -that Govthe er nm ent Gr ts Appendix A - Di sclosure Checklist

All intangible assets should be amortized

List of Tables

years.

IAS 38: BCreating an exception general Appendix - I llustrativ e FinancialtoStthe atem ent s Pr esent ed Under overI AS their useful life. The rebuttable requirement for amortization as far as long-lived Appendix C - Com parison of I AS, US GAAP, and UK GAAP presumption is that the useful life of an intangible assets are concerned. I ndex intangible asset would not exceed twenty List of Ex hibits and Ex am ples List of Sidebar s

IAS 28, as amended, applies only to an IAS 39: Providing guidance for the situations where an investment in an associate that is included investment is: (1) held but not acquired with a view to W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap licat io n o f statements of an investor in p the financial its subsequent disposal inion thealnear future, and (2)d ar ds I n t er n at Accou n t in g St an that issues consolidated financial acquired and held exclusively for with a view to its ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali statements and that is not held exclusively disposal in the near future. Mir za with a view to its disposal in the near John Wi ley & Sons © 2003 (952 pages) future (vs. an investment "held and not This com pact and t ruly com pr ehensive qui ck - refer ence acquired" or "acquired and held" with a pr esent s account ants with a guide to depend on for view to its disposal in the near future), assistance in the prepar at ion and under standing of financial former [AS 28 did not make the statements present ed in accordance withwhereas I AS. latter distinction. T ab le of Con t en t s

IAS 27 applies to a subsidiary acquired

Wiley AS Fair 20 03—Int pretation and IAS I39: valueeraccounting for Application investmentsof I nternational Account ing and held exclusively with a view to its Standar ds and held exclusively with a view to the acquired

subsequent disposal in the near future or Preface subsequent disposal of those investments in the near operating under severe long-term Chapter 1 I ntr oduction to I nter national Accounting Standar ds future, so long as those investments are traded on restrictions. In contrast, IAS 28 provides

Chapter - Balance Sheet efficient2 markets, while still permitting cost method of that an investment acquired and held with accounting for: I ncom (1) e enterprises Statement, operating Stat em entunder of Chan severe ges in Equit y, and Statem ent Chapter 3 a view to its disposal in the near future of Recognized and Losses long-term restrictions, andGains (2) nonmarketable

should be accounted for under the cost method. Chapter 5 - Financial I nstr uments—Cash and Receiv ables Chapter IAS 39: 6 The - I nventor use of ynonderivatives as hedging These have not been addressed at this instruments, providing that the situations time. act s Chapter 7 - Rev enue Recogni tion,following I ncluding Constr uction Contr are addressed: Chapter 8 - Property , Plant , and Equipment Chapter 4 - Cash Flow St at em ent securities.

Chapter 9 - Ihedges: ntangi ble Asset s Fair value I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter The hedged 10 - item and the hedging instrument are I nvestm ent Pr oper ty

not measured on the same basis and the changes in fair value do not follow the same accounting Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 treatments: Balance Sheet Date Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

A. 13 Should both legs measured atTer fair Chapter - Financial I nstr be uments—Longm value Debt in -the following cases: (1) hedge of a heldChapter 14 Leases to-maturity Chapter 15 - I ncom e asset Taxes by a fair value liability

(derivative or nonderivative instrument) or by Chapter 16 - Em ploy ee Benefit s a liability measured at cost; and (2) hedge of a liability measured at cost by a fair valued Chapter 18 - Earnings Per Share asset? Chapter 17 - Stock holder s' Equit y

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

B.

Should the gain or loss on the hedged item be recognized in net profit or loss, even if a 22 - For eign Curr ency hedged item otherwise is measured at cost 23 - RelatedPart y Disclosures with some changes in fair value 24 Specialized I ndustr ies gains or partially unrecognized (unrealized 25 - I nflationlosses and Hyperinflation unrealized other than impairment 26 Gov er nm ent Gr an ts losses)?

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter Chapter Chapter Chapter Chapter

Appendix A - Di sclosure Checklist

Cash flow hedges:

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

More guidance is needed on the accounting treatment of the ineffective portion that relates to I ndex the hedge of an asset or liability otherwise carried List of Tables at (amortized) cost; as regards foreign exchange List of Ex hibits and Ex am ples hedges using nonderivative instruments, some Listpoints of Sidebar s open: (1) measurement basis, when remain one of the legs otherwise is measured at cost; (2) presentation principles in that situation; (3) treatment applicable to the amounts recognized in equity, for transactions accounted for as cash flow hedges other than forecasted transactions and unrecognized firm commitments; and (4) principles to be followed to designate the hedging instrument

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

and the hedged item in a hedging relationship between a nonderivative monetary liability and a monetary asset W forming part2 0of03a :net ile y I AS I n tinvestment erp re t at ioninan d Ap p licat io n o f a foreign entity, and subsequently to identify the I n t er n at ion al Accou n t in g St an d ar ds accounting treatment applicable (IAS 21 or 39). ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za

These have not been addressed at this IAS 39: Additional guidance the©derecognition John Wi ley &on Sons 2003 (952 pages) time. principles. For example, is unclear what impact, if This comitpact and t ruly com pr ehensive qui ck - refer ence any, the followingprwould on ants a transferor's ability esent shave account with a guide to depend on for in the (1) prepar at ion a and under standing of financial to derecognize aassistance financial asset: whether true statements ed in accordance with I AS. sale at law has occurred; (2)present a deep-in-the-money put option T ab le of held Con t by en tthe s transferee; (3) a removal of accounts provision allowsand theApplication transferor of to remove Wiley I AS 20 03—Int erthat pretation I nternational Account ing individual Standar ds accounts from the pool of assets sold; (4) a "clean-up call" held by the transferor; (5) a "wash sale" Preface transaction; a right oftofirst refusal held by the Standar ds Chapter 1 - I (6) ntr oduction I nter national Accounting transferor; (7) aSheet call option on the beneficial Chapter 2 - and Balance interest in an SPE held by the transferor. I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3

-

Chapter 9

- I ntangi ble Asset s

of Recognized Gains and Losses This has not been addressed at this time. IAS 39: A specific definition is needed of an active Chapter 4 - Cash Flow St at em ent market that used criteria such as the publication and Chapter 5 - Financial I nstr uments—Cash and Receiv ables availability of market prices, liquidity, breadth, depth of Chapter 6 - I nventor y organization and supervision of the market, and Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s homogeneity of the instruments or components thereof Chapter 8 - Property , Plant , and Equipment in the market.

working group on financial I nterests in Financial Instr um ent s, Associat es,The Jointjoint Ventur es, and IAS 39:10The Chapter - effect of credit, counterparty, prepayment instruments is developing a paper on fair oper ty of loans, bank and liquidityI nvestm risk, onent thePrvaluation valueStatements measurement considerations. Chapter 11and - Business Combinations and Consolidat ed Fin ancial deposits nontraded equity securities. Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Sheet Date IAS 39: HowBalance the conditions described in IAS 39 would Chapter 13 Financial I nstr uments—Longm Debt be applied to prepayment options. Such Ter options should Chapter 14 Leases not result in an enterprise classifying most of financial Chapter Taxes assets 15 with- Iancom fixede maturity, including purchased Chapter loans, out 16 -ofEm the ploy held-to-maturity ee Benefit s category. Also, it is unclear whether a borrower may be considered an Chapter 17 - Stock holder s' Equit y issuer pursuant to this standard. If this were the case, Chapter 18 - Earnings Per Share the issue would not be addressed, as the holder Chapter 19 - I nterim Financial Repor ting should recover substantially all of the carrying amount Chapter 20 - Segm ent Repor ting of a financial asset to satisfy the criteria for a held-toChapter 21 - Accounting Changes and Cor rection of Er ror s maturity investment, which is unlikely to occur when a Chapter 22 - For eign Curr ency prepayment option is exercised.

This has not been addressed at this time.

Chapter 24 - Specialized I ndustr ies

Derivatives that are used for hedging

Chapter 23 - Related- Part y Disclosures

IAS 39: Whether derivatives that are part of a hedging

purposes are measured at fair value Chapter 25 - Ishould nflationbe and Hyperinflation relationship recognized and measured at fair under the standard. Chapter 26 Gov er nm ent Gr an ts value if they hedge cost-measured items. Appendix A - Di sclosure Checklist

IAS 39 indicates that just because a liability is used to fund trading activities which a Cliability funds should be Appendix - Comthat parison of Itrading AS, USactivities GAAP, and UK GAAP that does not make the liability held for recognized at fair value (versus at cost). For example, I ndex trading. trading may involve identifying on the balance sheet List of Tables theoffinancial andples liabilities that follow trading List Ex hibits assets and Ex am accounting (i.e., fair value and recognition in net profit List of Sidebar s and loss). Appendix IAS 39: BWhether - I llustrativ there e Financial are defined St atem circumstances ent s Pr esentin ed Under I AS

Different impairment factors and discount IAS 39: Additional guidance may be needed on testing rates are used for financial assets carried and measuring impairment, which should give the W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap licatand io n fair o f value. For those carried at at pcost reasons for the differences that remainn tininthe I n t er n at ion al Accou g St an d ar ds cost, expected future cash flows are impairment provisions applicable to different ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali discounted at the financial instrument's categories of assets. Mir za original effective interest rate, if it is John Wi ley & Sons © 2003 (952 pages) probable that an enterprise will not be This com pact and t ruly com pr ehensive qui ck - refer ence all amounts due according able to collect pr esent s account ants with a guide to depend on for to the contractual terms. For those carried assistance in the prepar at ion and under standing of financial fair value, if there is objective evidence statements present ed in accordance withatI AS. that the asset is impaired and if its T ab le of Con t en t s recoverable amount is below its original Wiley I AS 20 03—Int er pretation and Application of I nternational Accountcost, ing the cumulative net loss acquisition Standar ds that had been recognized directly in equity Preface should be recognized in net profit or loss; Chapter 1 - I ntr oduction to I nter national Accounting Standar thedsrecoverable amount of a debt Chapter 2 - Balance Sheet instrument is the present value of future I ncom e Statement, Stat em ent of Chan ges in Equit and discounted Statem ent at the current cashy,flows Chapter 3 of Recognized Gains and Losses market rate of interest for a similar Chapter 4 - Cash Flow St at em ent financial asset; also, there is no use of the Chapter 5 - Financial I nstr uments—Cash and Receiv ables notion of probability. Chapter 6

- I nventor y

Financial guarantees that provide for payment in the event that the debtor fails guarantees should be reconsidered. Chapter 8 - Property , Plant , and Equipment to make payment when due are excluded Chapter 9 - I ntangi ble Asset s from the scope of IAS 39 and addressed I nterests in Financial Instr um ent s, Associat es,inJoint es, and contracts that provide IAS Ventur 37. However, Chapter 10 I nvestm ent Pr oper ty for payment in response to changes in an Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements underlying are subject to IAS 39. IAS 39:7 The effect applying IASI ncluding 37 to financial Chapter - Rev enueofRecogni tion, Constr uction Contr act s

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

The IASC has added a project on Balance Sheet Date IAS 39: The definitions of equity instruments and Reporting Financial Performance, which Chapter 13 - Financial I nstr uments—Long- Ter m Debt liabilities. For example, it is not clear how the features would probably address these matters. Chapter 14 Leases used in IAS 39 interact with those used under IAS 32, Under IAS 39 and 32, an equity Chapter 15 I ncom e Taxes 16, 20, and 21 to differentiate equity instruments from instrument is defined as "any contract that Chapter 16 Em ploy ee Benefit s liabilities, which use characteristics opposite to those evidences a residual interest in the assets Chapter 17 - Stock holder s' Equit y of a financial liability (e.g., no obligation on the issuer of an enterprise after deducting all of its Chapter 18 cash - Earnings Per Share to deliver or another financial asset, and no liabilities." IAS 39 elaborates on the Chapter obligation 19 -on I nterim the issuer Financial to exchange Repor tinganother financial definition of an equity instrument issued instrument the Chapter 20 - with Segm entholder Reporunder ting conditions that are by an enterprise, using as new potentially to the issuer). Potential Chapter 21 - unfavorable Accounting Changes and Cor rection of Er ror s differentiating features the exposure to inconsistencies between IAS 32 and 39, or within IAS Chapter 22 - For eign Curr ency gain or loss from fluctuations in the price 39, in cases where emphasis is put on the manner in Chapter 23 - RelatedPart y Disclosures of its own equity securities, or from which the is settled: (1) "An obligation of an Chapter 24 obligation - Specialized I ndustr ies changes in the equity of the enterprise. enterprise to issue or deliver its own equity instruments Chapter 25 - I nflation and Hyperinflation Under IAS 32, when an obligation exists, ... is itself an equity instrument...," (2) IAS 39 refers to Chapter 26 - Gov er nm ent Gr an ts the instrument meets the definition of a the manner the call option is required to be settled. In Appendix A - Di sclosure Checklist financial liability regardless of the manner addition, other questions might arise, for example, Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under in which I AS the obligation will be settled. could an instrument issued by an enterprise not be Appendix C - Com parison of I AS, US GAAP, and UK GAAP Conversely, under IAS 32, a financial considered equity in the following cases: (1) instrument instrument that does not give rise to such I ndex required to be settled in cash or another financial asset List of amount Tables to be settled exposed to gain or loss from an obligation is an equity instrument. and Conversely, under IAS 39, an instrument List of Ex hibitsinand am ples fluctuations theEx price of an enterprise's own equity should not be considered equity just List Sidebar s or of from changes in the equity of the enterprise; (2) because it may be settled in shares. instrument required to be settled either in cash or Under IAS 32, the absence of an another financial asset or in an enterprise's own equity obligation on the issuer characterizes an instrument, exposed to fluctuations or changes (see equity instrument; therefore the manner of above) and subject to the enterprise's or its settlement and the participation in the shareholders' decision (principal and/or revenue); (3) risks and returns would have no impact on same instrument as above with the holder participating the qualification. Under IAS 39, an in the risks or entitled to benefits. example of an investment that is, in

substance, an equity instrument is special participation rights without a specified yield whose return is linked to an W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f enterprise's performance. I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali TheseISBN:0471227366 items have not been addressed as IAS 39: PossibleMir inconsistencies between IAS 39 and za of yet. 21. For example,John foreign exchange andpages) losses Wi ley & Sons ©gains 2003 (952 on monetary financial assets in qui ck - refer ence This com pactgenerally and t ruly are comreported pr ehensive net profit or loss,pr whereas the other component of to thedepend on for esent s account ants with a guide assistance the prepar at ionprofit and or under standing of financial change in fair value may beinreported in net statements ed in accordance with I AS. loss or equity. With regard topresent differences in presentation, T ab le of Con t enIAS t s 39 requires that the fair value adjustments (on both the foreign Wiley I AS 20 03—Int er pretation and exchange Applicationand of Ithe nternational Account ing other components) always be included in net profit or Standar ds loss, which would have the advantage to avoid any Preface mismatch theoduction presentation ofnational financialAccounting statementsStandar ds Chapter 1 -inI ntr to I nter due to 2foreign exchange Chapter - Balance Sheettranslations. It may be necessary toI ncom clarify: (1) the order to be followed to e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 -the carrying amount (foreign exchange determine of Recognized Gains and Losses differences should be St computed Chapter 4 - Cash Flow at em ent in first or second place); (2) when there are adverse changes in value Chapter 5 - Financial I nstr uments—Cash and Receiv ables on the foreign exchange component and the other Chapter 6 - I nventor y component, whether or not offsetting is permitted in Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s certain circumstances; for example, in the cases Chapter 8 - Property , Plant , and Equipment where a foreign exchange gain/loss is recognized Chapter 9 - I ntangi ble Asset s (generally in net profit or loss): (a) the gain on the I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter other component 10 is recognized (either in net profit or I nvestm ent Pr oper ty loss or in equity, for assets measured at fair value) or Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements unrecognized (assets measured at cost); (b) the Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 on - the other component is unrecognized gain/loss Balance Sheet Date (nontrading liabilities, which are measured at cost); Chapter 13 - Financial I nstr uments—Long- Ter m Debt and (3) how changes in value should be presented or Chapter 14 - Leases disclosed if the value adjustments are not reported in Chapter 15 - I ncom e Taxes the same place. Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS 2Study 0 03 : I n t erp re t at ion an d Ap p licat io n o f Supplemental Appendix C: Case Illustrating Possible I n t er n at ion al Accou n t in g St an d ar ds TreatmentsbyUnder the IOSCO Recommendations ISBN:0471227366 Bar r y J. Epstein and Abbas Ali Mir za

Company X has presented financial statements under International Accounting Standards (IAS) and John Wi ley its & Sons © 2003 (952 pages) is seeking listing on the national stock exchange of Country Y. The securities regulator of Country Y is This com pact and t ruly com pr ehensive qui ck - refer ence a member of the pr IOSCO. has recently decided totoaccept financial esent s It account ants with a guide depend on for statements prepared under IAS. However, supplemental treatments as envisaged thestanding IOSCO recommendations would need to be assistance in the prepar at ion and by under of financial statements present accordance I AS. made for the purposes of listings oned its innational stockwith exchange. T ab of Con t en t s A le local practitioner, who is also an IAS expert, was consulted by Company X. The consultant pointed Wiley I AS 20 03—Int er pretation and need Application I nternational ing statements could be out the following items that would to be of adjusted beforeAccount the financial Standar ds

presented to the stock exchange in Country Y:

Preface

1. Amortization of intangible assets over twenty-five years by the company as permitted by IAS 38; - I ntr oduction to I nter national Accounting Standar ds

Chapter 1

Chapter 2 - Balance of Sheet 2. Revaluation building with disclosures strictly according to IAS 16; I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of Recognized Gains and Lossescosts relating to certain qualifying assets as permitted by IAS 3. Immediate expensing of borrowing Chapter 23; 4 -and Cash Flow St at em ent Chapter 5

- Financial I nstr uments—Cash and Receiv ables 4. Use the "true Chapter 6 - of I nventor y and fair" override with respect to translation of monetary liabilities. Accounts

in a foreign currency were not translated at year-end rates because that Chapter payable 7 - Rev denominated enue Recogni tion, I ncluding Constr uction Contr act s

would have resulted in the company recognizing income of $2 million. Strictly applying IAS 21, - Property , Plant , and Equipment this translation gain would need to be booked to income. However, since the company was Chapter 9 - I ntangi ble Asset s certain that when it would ultimately repay these amounts such a difference in the amount I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter payable 10 would result, I nvestm entnot Pr oper ty and thus, recognizing this huge sum as income would not be proper. It therefore invoked the "true and fair" override provisions of IAS 1 and did not recognize this Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements income. Chapter 8

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

The following possible supplemental adjustments are required before Company X is allowed to list its shares on the national stock exchange of Country Y:

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

1. The GAAP in Country Y allows intangible assets to be amortized over five years. Since the company has amortized the intangible assets over twenty-five years, a reconciliation is Chapter 16 - Em ploy ee Benefit s required as envisaged by the IOSCO recommendations; Chapter 15 - I ncom e Taxes

Chapter 17 - Stock holder s' Equit y

Chapter 18 - Earnings Per Share 2. Disclosures made in Company X's financial statements under IAS 16 with respect to carrying Chapter amounts 19 - I nterim of aFinancial building Repor basedting on cost would need to be supplemented by addtitonal disclosures Chapter as 20 envisioned - Segm ent Repor in theting IOSCO recommendations. For instance, additional disclosure with respect Chapter to 21 significant - Accounting balance Changes sheet andand Corincome rection of statement Er ror s effect of revaluation would need to be Chapter provided; 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures

3. Since the GAAP in Country Y only allows borrowing costs relating to qualifying assets to be capitalized, the financial statements prepared under IAS would need to be restated giving effect Chapter 25 - I nflation and Hyperinflation to this adjustment; Chapter 24 - Specialized I ndustr ies Chapter 26 - Gov er nm ent Gr an ts

Appendix A - Di sclosure Checklist 4. Because the GAAP in Country Y does not permit the "true and fair" override, the unrecognized Appendixincome B - I llustrativ e St atem ent s Pr esent ed Under resultingFinancial from foreign currency translation gainI AS would need to be booked in the income Appendixstatement C - Com parison of Company of I AS,X. US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS 2 0 03 : I Reconciliation n t erp re t at ion an d Ap pand licat ioRestatement—Case n of Appendix D: US GAAP I n t er n at ion al Accou n t in g St an d ar ds Study ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za

Hyderabad International Inc.&prepares its financial statements in accordance with International John Wi ley Sons © 2003 (952 pages) Accounting Standards. The company wants to seek a listing on a US stock exchange. Therefore, it has This com pact and t ruly com pr ehensive qui ck - refer ence approached an international accounting consultant, specializes pr esent s account ants with a guide towho depend on for in both IAS and US GAAP, to guide it in the reconciliation and its under IAS-based financial results to US GAAP. The assistance in therestatement prepar at ion of and standing of financial statements present in accordance with I AS. approach taken by the consultant in ed restating the financial statements is very systematic and is based on the fundamental principles of double entry bookkeeping. In order to understand the logic behind the T ab le of Con t en t s method employed by the consultant, one has to visualize the "opening" of the company's general ledger Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing for theds accounting period and debiting and crediting various accounts. The objective is to restate the Standar IAS-based financial results to financial statements prepared in accordance with US GAAP. The balance Preface sheet and the income statement of Hyderabad International Inc. for the latest financial period are Chapter 1 - I ntr oduction to I nter national Accounting Standar ds presented below. Chapter 2

- Balance Sheet

I ncom e Statement, Stat emInc. ent Balance of Chan ges in Equit y, and Statem ent Exhibit31: -Hyderabad International Sheet (under IAS) December 31, 2001 Chapter of Recognized Gains and Losses Chapter 4 Chapter 5

- Cash Flow St at em ent

Millions) - Financial I nstr uments—Cash (In andUSD Receiv ables

(In USD Millions)

Chapter 6 assets: - I nventor y Current Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s

and bank Chapter 8Cash - Property , Plant , and Equipment

$ 500

Chapter 9

7,500

- I ntangi ble Asset s

Accounts receivable

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty 3,500 Inventories

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

$ 11,500

Chapter 12 -

Curr entcurrent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Total assets Balance Sheet Date

Current Chapter 13liabilities: - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Bank overdraft

(1,000)

Chapter 15 - I ncom e Taxes Chapter 16 - Em ploypayable ee Benefit s Accounts Chapter 17 - Stock holder s' Equit y

Accruals andPer provisions Chapter 18 - Earnings Share

(5,000) (4.000)

Chapter 19 - I nterim Financial Repor ting

(10,000)

Chapter 21 - Accounting Changes and Cor rection of Er ror s Net current assets

$ 1,500

Totalent current Chapter 20 - Segm Reporliabilities ting Chapter 22 - For eign Curr ency

Property, plant, and equipment

15,500

Accumulated depreciation Chapter 24 - Specialized I ndustr ies

(9,000)

Chapter 23 - Related- Part y Disclosures

6,500

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Intangible assets

Appendix A - Di sclosure Checklist

3,000

Accumulated amortization Appendix B - I llustrativ e Financial St atem ent s Pr(1,000) esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Long-term loans

2,000 10,000 (3,000)

List of Tables

7,000

List of Ex hibits and Ex am ples ListShareholders' of Sidebar s equity:

Equity capital

4,000

Retained earnings

2,000

Revaluation reserve

1,000

$ 7,000 Total shareholders' equity W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za International Inc. Income Statement (under IAS) For the Year Ended Exhibit 2: Hyderabad John Wi ley & Sons © 2003 (952 pages) December 31, 2001 This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for USD assistance in the prepar at ion and under standing (In of financial statements present ed in accordance with I AS. Millions) T abSales le of Con t en t s

$27,000

Wiley I ASCost 20 03—Int er pretation and Application of I nternational Account ing Less: of sales Standar ds

Gross profit Preface

5,000

- Balance Sheet

Administrative expenses

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses Operating expenses: Chapter 4 - Cash Flow St at em ent Chapter 3

1,500

-

Chapter 5Depreciation - Financial I nstr uments—Cash and Receiv ables

$1,000

Chapter 6

- I nventor y Amortization

Chapter 7

(15,000) 13,000

Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Distribution costs Chapter 2

(In USD Millions)

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8Staff - Property costs , Plant , and Equipment

1,000 1,500

Chapter 9

- I ntangi ble Asset s 1,500 Other operating expenses I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty

Total distribution, admin operatinged Fin ancial Statements Chapter 11 - Business Combinations and&Consolidat Chapter 12 -

expenses Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Income from operations

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Interest Chapter 14expense - Leases

Chapter 15income - I ncom e Taxes Interest Chapter 16 - Em ploy ee Benefit s

Net income for the period

Chapter 17 - Stock holder s' Equit y

5,000 $11,500

1,500 (700) 200 $ 1,000

Chapter 18 - Earnings Per Share Chapter 19 the - I nterim Financial Repor ting Based on differences noted between the two accounting frameworks, the IAS/US GAAP consultant Chapter 20 - a Segm ent Reporof ting undertakes restatement the financial results. The following is a summary of some differences Chapter 21IAS - Accounting Changes and Cor of Er ror s between and US GAAP identified byrection the consultant: Chapter 22 - For eign Curr ency

Revaluation of buildings. Under IAS 16, based on the "allowed alternative" treatment, property, plant, Chapter 23 - RelatedPart y Disclosures and equipment (PPE) can be revalued and carried from year to year at depreciated revalued amounts Chapter 24 - Specialized I ndustr ies

(instead of depreciated historical cost which is the prescribed treatment under the "benchmark treatment" of IAS 16). Although this treatment is followed in many countries including the UK, under US Chapter 26 - Gov er nm ent Gr an ts GAAP this practice would be regarded as a departure from GAAP. Consequently, when restating Appendix A - Di sclosure Checklist financial statements (initially prepared according to IAS to financial statements prepared under US Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS GAAP), the carrying amount of PPE that is revalued could be vastly different from the PPE carried at Appendix C - Com parison of I AS, US GAAP, and UK GAAP depreciated historical cost. Furthermore, depreciation charged to the Income Statement (when PPE is I ndex carried at revalued amounts) is comparatively higher. Thus, had the PPE been carried at depreciated List of Tables historical cost (the way it is accounted for in the United States), the gross carrying amount of PPE List of Ex hibits and am ples would be lower byEx USD 1,000 million compared to the IAS-based figure. Also, for the year 2001, the List of Sidebar scharge would be lower by USD 200 million compared to the IAS-based depreciation depreciation expense. Chapter 25 - I nflation and Hyperinflation

The following journal entries are required in order to adjust the above: Journal Entry 1

Debit

Credit

RevaluationWreserve 1,000 ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds 1,000 Property, plant, & by Bar r y J. Epstein and Abbas Ali

equipment Mir za

ISBN:0471227366

John Wi ley & Sons © 2003 (952200 pages) Accumulated depreciation This com pact and t ruly com pr ehensive qui ck - refer ence

100 on for Retained earnings pr esent s account ants with a guide to depend

assistance in the prepar at ion and under standing of financial

100 statements present ed in accordance with I AS. Depreciation T ab le of Con t en t s

Research and development. During the current year, the company incurred research and

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing development (R&D) expenditure. Part of this qualified as development expenditure under IAS 38. Such Standar ds

expenses amounting to USD 1,000 million were, in accordance with IAS 38, treated as intangible assets. This is not the treatment prescribed by US GAAP that mandates that such expenses should be Chapter 1 - I ntr oduction to I nter national Accounting Standar ds expensed when incurred and not allowed to be carried forward. Thus, on restating financial statements Chapter 2 - Balance Sheet prepared in accordance with IAS (to financial statements based on US GAAP), USD 1,000 million I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent would need Chapter 3 - to be reversed from intangible assets and charged to expenses (e.g., to "Other Operating of Recognized Gains and Losses Expenses"). The company amortized these capitalized "development costs" (treated as an intangible Chapter 4 - Cash Flow St at em ent asset) over a period of five years using the straight-line method. For the year 2001, it charged an Chapter 5 - Financial I nstr uments—Cash and Receiv ables amortization expense of USD 200 million to the income statement. This needs to be reversed. Preface

Chapter 6

- I nventor y

Chapter The following 7 - Rev journal enue Recogni entry illustrates tion, I ncluding the above Constr adjustment: uction Contr act s Chapter 8 - Property Journal Entry 2, Plant , and Equipment Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Debit Credit I nvestm ent Pr oper ty

ChapterOther 11 - operating Business Combinations expenses and 1,000 Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - Intangible assets 1,000 Balance Sheet Date ChapterAccumulated 13 - Financial I nstr uments—Longamortization 200Ter m Debt Chapter 14 - Leases Chapter 15 - IAmortization ncom e Taxes

200

Chapter 16 - Em ploy ee Benefit s

Expensed "in-process" R&D versus intangible asset or goodwill. During the previous financial year the company acquired a "dot.com" enterprise. Part of the acquisition price was attributed to in-process Chapter 18 - Earnings Per Share research and development (R&D). Under IAS 22, acquired in-process R&D is either a separately Chapter 19 - I nterim Financial Repor ting identifiable intangible asset or part of goodwill. However, under US GAAP, acquired in-process R&D is Chapter 20 - Segm ent Repor ting never recognized as an asset but is separated from goodwill and recognized as an expense in the year Chapter 21 - Accounting Changes and Cor rection of Er ror s of acquisition. The company's accounting policy is to initially capitalize acquired in-process R&D as an Chapter 22 asset - For eign intangible andCurr laterency amortize it. Thus, the company capitalized in-process R&D of USD 1,000 Chapter 23 RelatedPart Disclosures million on the acquisitiony of the dot.com enterprise in the previous financial year. It amortized this Chapter 24 Specialized I ndustr iesfive years using the straight-line method. Considering the treatment intangible asset over a period of Chapter - I nflation and Hyperinflation required25under US GAAP (i.e., to expense acquired in-process R&D), the IAS/US GAAP consultant Chapter 26 by - Gov nm ent Gr estimated an ts (retained the er company) that intangible assets were overstated (as of December 31, 2001) Appendix by USD 600 A - Di million sclosure andChecklist that the net income for 2001 was understated by USD 200 million. Further, the previousByear's net income was overstated USD ed 800 million Appendix - I llustrativ e Financial St atem ent s by Pr esent Under I ASaccording to the consultant. Chapter 17 - Stock holder s' Equit y

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Based on the opinion of the consultant the following journal entry was recorded:

I ndex

List ofJournal Tables Entry 3 List of Ex hibits and Ex am ples List of Sidebar s

Debit

Credit

Retained earnings W ile y I AS 2 0 03 : 1,000 I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds 1,000 Intangible assets

ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali

Miramortization za Accumulated

400

John Wi ley & Sons © 2003 (952 pages)

200 Retained earnings This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

200 Amortization assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Borrowing costs. Under IAS 23, borrowing costs relating to qualifying assets can either be expensed T ab le of Con t en t s (under the benchmark treatment) or capitalized (under the allowed alternative treatment). In the United Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing States, such borrowing costs are capitalized and added to the carrying amount of the related qualifying Standar ds asset. During the current year, the construction of a qualifying asset (as defined in IAS 23) was Preface completed. Interest expense on long-term borrowings utilized in the construction of the qualifying asset Chapter 1 - I ntr oduction to I nter national Accounting Standar ds were expensed by the company in accordance with the benchmark treatment of IAS 23. The interest Chapter 2 - Balance Sheet expense that was charged to the income statement in the previous financial period amounted to USD I ncom Statement, Stat em ent ofthe Chan ges inyear Equittotaled y, and Statem 75 million the einterest expensed during current USD 25ent million. The qualifying Chapter 3 and of Recognized Gains and Losses asset has a useful life of five years and is depreciated using the straight-line method. Chapter 4

- Cash Flow St at em ent

Chapter 5 - Financial I nstr uments—Cash Receiv The following adjusting entry is required and in order to ables adjust the above treatment of borrowing costs under Chapter IAS: 6 - I nventor y Chapter 7 - Rev enue4 Recogni tion, I ncluding Constr uction Contr act s Journal Entry Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Debit

Credit

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm Pr oper ty Property, plant,ent & equipment 100

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

75

Chapter 12 -

Retained earnings Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date 25 Interest expense

Chapter 13 - Financial I nstr uments—Long- Ter m Debt ChapterDepreciation 14 - Leases Chapter 15 - I ncom e Taxes

Accumulated depreciation

20 20

Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18exchange - Earningsdifferences—capitalization Per Share Foreign of losses from severe currency devaluation. At the Chapter 19 -previous I nterim Financial tingcompany imported machinery on deferred credit terms. The end of the financial Repor year the Chapter - Segm currency ent Reporwas ting carried forward to the current financial year. During the current financial liability 20 in foreign Chapter - Accounting Cor rection of Er ror s underwent severe devaluation. As a result, year the21currency of theChanges country and importing the machinery Chapter 22 - For eignan Curr ency the company paid extra sum of USD 25 million over and above the contracted foreign currency Chapter liability 23 relating - Relatedto thePart imported y Disclosures machinery that was carried forward (as a foreign currency denominated

payable) the previous year. Chapter 24from - Specialized I ndustr ies There was no practical means of hedging against this devaluation. Since this wasHyperinflation placed in service on the last day of the current financial year, no depreciation Chapter 25 machinery - I nflation and was charged onerthis Chapter 26 - Gov nm asset. ent Gr an ts Appendix A - Di sclosure Checklist

According to the allowed alternative treatment in IAS 21, in rare circumstances, foreign exchange losses are allowed to be included in the carrying amount of a recently acquired asset. Such foreign Appendix C - Com parison of I AS, US GAAP, and UK GAAP exchange differences should, however, result from "severe devaluation or depreciation of a currency I ndex against which there is no practical means of hedging and that affects liabilities which cannot be settled List Tablesarise directly on the recent acquisition of an asset invoiced in a foreign currency." SIC 11 andofwhich List of Ex hibits andother Ex amissues, ples clarifies, among the meaning of the term "recent acquisition" used in IAS 21 and interprets List of aSidebar it as periodsnot exceeding twelve months. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Under US GAAP, capitalization of foreign currency losses is not permitted. In other words, while restating financial statements in accordance with US GAAP, such foreign exchange differences would need to be charged to the income statement. The consultant has suggested the following journal entry to take care of the above IAS treatment: Journal Entry 5

Debit

Credit

Other operating W ile expenses y I AS 2 0 03 : I n t erp re 25 t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds 25 Property, plant, &

ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali

equipment Mir za

John Wi ley & Sons © 2003 (952 pages)

Exhibit 3: Hyderabad International Inc. Restated Balance Sheet (per US GAAP) December 31, This com pact and t ruly com pr ehensive qui ck - refer ence 2001 (in USD Millions) pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Before restatement (per JE#Account Credit Wiley I AS 20 03—Int er pretation andIAS) Application of IDebit nternational ing

T ab le of Con t en t s

JE#

Restated (per US GAAP)

Standar ds

Assets

Preface

Current Chapter 1 assets: - I ntr oduction to I nter national Accounting Standar ds Chapter 2 - bank Balance Sheet Cash and

$ 500

$ 500

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 -receivable Accounts 7,500 of Recognized Gains and Losses

7,500

Chapter 4 - Cash Flow St at em ent Inventories

3,500

Chapter 5

3,500

- Financial I nstr uments—Cash and Receiv ables

currenty Chapter 6Total - I nventor

$11,500

$ 11,500

Chapter 7assets - Rev enue Recogni tion, I ncluding Constr uction Contr act s Chapter 8 Property Property, -plant, & , Plant , and Equipment $15,500 100 4 1,000 Chapter 9 - I ntangi ble Asset s equipment Chapter 10 -

1

$14,575

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and 25 5 I nvestm ent Pr oper ty

Chapter Accumulated 11 - Business Combinations and(9,000) Consolidat ed 200 Fin ancial 1 Statements 20

4

(8,820)

depreciation Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 Balance Sheet Date

6,500

5,755

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Intangible Chapter 14 - assets Leases

3,000

Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y

Accumulated Chapter 18 - Earnings Per Share

(1,000) amortization Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

200

2

400

3

1,000

2

1,000

3

(400)

2,000

600

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Total

Chapter 22 - For eign Curr ency

1,000

$20,000

$17,855

Liabilities & EquityPart y Disclosures Chapter 23 - RelatedChapter 24liabilities: - Specialized I ndustr ies Current Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Bank overdraft

$ 1,000

$ 1,000

Appendix Accounts A -payable Di sclosure Checklist

5,000

5,000

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Accruals and

4,000

4,000

Appendix C - Com parison of I AS, US GAAP, and UK GAAP provisions I ndex

Total current List of Tables

$10,000

$10,000

$ 3,000

$ 3,000

$ 4,000

$ 4,000

liabilities List of Ex hibits and Ex am ples ListLong-term of Sidebarloans s

Shareholders' equity: Equity capital Retained earnings

2,000

1,000

3

100

1

200

3

75

4

Decrease in net 520 W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f profit (1,000-480) I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and1,000 Abbas Ali1,000 Revaluation reserve

1

855 0

ISBN:0471227366

Mir za 7,000 John Wi ley & Sons © $ 2003 (952 pages)

Total

$ 4,655

This com pact and t ruly $20,000 com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

$17,855

Exhibit 4: Hyderabad International Inc. Restated Income Sheet (per US GAAP) Year Ended T ab le of Con t31, en t2001 s December (in USD Millions) Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Before restatement

Preface

Debit

JE #

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Sales 2 Chapter

- Balance Sheet

Credit

JE #

Restated (per US GAAP)

$27,000

$27,000

I ncom e Statement, Stat em(15,000) ent of Chan ges in Equit y, and Statem ent Less: 3Cost Chapter - of sales of Recognized Gains and Losses

(15,000)

Gross 4profit Chapter - Cash Flow St at em ent

$13,000

$13,000

Chapter 5 - Financial and Receiv ables Distribution costs I nstr uments—Cash 5,000

5,000

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Administrative expenses

1,500

1,500

Operating Chapter 8 - expenses: Property , Plant , and Equipment Chapter 9 - I ntangi ble Asset s Depreciation

$ 1,000

20

4

100

1

$ 920

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 Amortization 1,000 200 2 I nvestm ent Pr oper ty Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements 200

3

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 Staff costs 1,500 Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt1,000 Chapter 14 - Leases

Other operating expenses

1,500

Chapter 15 - I ncom e Taxes

25

600 1,500

2 5

2,525

Chapter 16 - Em ploy ee Benefit s

5,000

5,545

$11,500

$12,045

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Total distribution, admin

Chapter 19 - I nterim Financial Repor ting & operating expenses Chapter 20 - Segm ent Repor ting

Income form operations

$ 1,500

955

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Interest Chapter 22expense - For eign Curr ency Chapter 23income - Related- Part y Disclosures Interest Chapter 24 - Specialized I ndustr ies

Net income for the period

Chapter 25 - I nflation and Hyperinflation

(700)

25

4

200

200

$1,000

$ 480

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

Exhibit 5: Hyderabad International Inc. Reconciliation of Net Profit Determined under

Appendix B - I llustrativ e Financial St atemto entNet s Pr Income esent ed Under I AS International Accounting Standards in Accordance with US GAAP Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex (in USD millions) List of Tables List of Ex hibits and Ex am ples List of Sidebar s

(675)

Net Income determined under International Accounting Standards

(1,000)

Adjustments to conform to US GAAP

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

JE #

by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

1

Excess depreciation on revalued PPE reversed Mir za

2

JohnR&D Wi ley & Sons ©(plus 2003 (952 pages)of amortization) Capitalized expensed reversal

3 4

This com pact and t ruly com pr ehensive qui ck - refer ence Adjustment relating to acquired in-process pr esent s account ants with a guide toR&D depend on for assistance in the prepar at ion and assets under standing of financial Expensed borrowing costs on qualifying capitalized statements present ed in accordance with I AS.

T ab le of Con t en t s(plus depreciation on capitalized borrowing costs adjusted) Wiley 03—Int er pretation and Application of I nternational Account ingreversed 5 I AS 20 Capitalized foreign currency losses (from severe devaluation) Standar ds

Net income in accordance with US GAAP

Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

(100) 800 (200) (25) 20 25 (480)

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Chapter 2: Balance Sheet I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

za PerspectiveMirand Issues

John Wi ley & Sons © 2003 (952 pages)

As set forth by the This IASB's com pact Framework and t rulyforcom theprPreparation ehensive quiand ck - refer Presentation ence of Financial Statements, the pr esent s account with ainformation guide to depend on for objective of financial reporting is toants provide regarding an entity's financial position, in the prepar at ion and under standing of financial performance, andassistance changes in financial position to a broad spectrum of users, to enable them to make statements present ed in accordance with I AS. rational and informed economic decisions. According to the Framework, the financial statements are T ab meant le of to Con report t en t son the "results of stewardship of the management, or the accountability of management for the to and it." Application of I nternational Account ing Wiley I ASresources 20 03—Intentrusted er pretation Standar ds

These provisions of the Framework are consistent with IAS 1, Presentation of Financial Statements, Preface which was in 1997 be further revised as part Chapter 1 -revised I ntr oduction to and I ntermay national Accounting Standar ds of the Board's current Improvements

Project.2 This revisedSheet standard refers to financial statements as "a structured financial representation of Chapter - Balance the financial position of and the transactions undertaken by an enterprise," and elaborates that the

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of - general-purpose financial statements is to provide information about an enterprise's objective of Recognized Gains and Losses

financial its performance, Chapter 4 position, - Cash Flow St at em ent and its cash flows, which is then utilized by a wide spectrum of end users in5 making economic decisions. This information is communicated through a complete set of Chapter - Financial I nstr uments—Cash and Receiv ables financial statements which, according to IAS 1, comprises the following components: - I nventor y

Chapter 6

1. The Chapter 7 - balance Rev enuesheet Recogni tion, I ncluding Constr uction Contr act s Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

2. An income statement

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and 3. Another statement showing either Chapter 10 I nvestm ent Pr oper ty

a. All changes in equity, or

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 b. - Changes in equity other than those arising from capital transactions with owners and Balance Sheet Date

distributions to owners

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14cash - Leases 4. A flow statement Chapter 15 - I ncom e Taxes

5. Accounting and Chapter 16 - Em ploypolicies ee Benefit s other explanatory notes Chapter 17 - Stock holder s' Equit y

The balance sheet is a statement of financial position that presents assets, liabilities, and shareholders' equity (net worth) at a given point in time. The balance sheet reflects the financial status of an Chapter 19 -inI nterim Financial Repor ting enterprise conformity with international accounting standards. Alone among the traditional financial Chapter 20 - Segm ent Repor ting statements, it reports the aggregate effect of transactions at a point in time, while the other financial Chapter 21 - Accounting and the Cor rection of Erofror s statements—the incomeChanges statement, statement cash flows, and the more recently prescribed Chapter 22 -showing For eign either Curr ency statement "all changes in equity" or "changes in equity other than those arising from Chapter - Related- with Part yowners Disclosures capital 23 transactions and distributions to owners"—accumulate the totality of transactions over a period of time, such as ies a year. Chapter 24 - Specialized I ndustr Chapter 18 - Earnings Per Share

Chapter 25 - I nflation and Hyperinflation

Whereas during the early history of financial reporting the emphasis was almost universally on the balance sheet (with often only that statement being made available to those outside the entity), for an Appendix A - Di sclosure Checklist extended period beginning in the 1960s, users of financial statements placed increasingly greater Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS emphasis on the income statement, even to the exclusion of the balance sheet. During this period, the Appendix C - Com parison of I AS, US GAAP, and UK GAAP more desirable enterprises were those exhibiting the fastest earnings growth, as investors became I ndex more interested in short-run maximization of performance, generally expressed in terms of earnings per List of Tables share. Chapter 26 - Gov er nm ent Gr an ts

List of Ex hibits and Ex am ples

However, a cycle of worldwide inflation and recession that began during the 1970s, and which saw the List of Sidebar s demise of once-respected entities having insufficient liquidity to withstand severe "credit crunches," brought about a renewed interest in the balance sheet. By the mid-to late 1980s a more balanced view became dominant, with both balance sheet and income statement (the cash flow statement did not achieve prominence until the very late 1980s and early 1990s) receiving close scrutiny. This shift of emphasis back toward the balance sheet has signaled a departure from the traditional transaction-based concept of income, toward a capital maintenance concept. This orientation has historically been more popular among economists than with accountants, consistent with the former

group's concern with measuring real, not merely nominal, wealth creation. Accounting theory, on the other hand, has been more oriented toward an income measurement approach, with matching of costs and revenues being a ykey principle. thereextent costs are the result of an W ile I AS 2 0 03 : I To n t erp t at ionthat an dperiodically Ap p licat iorecognized n of amortization (i.e.,I an thistorical cost allocation) process, accounting income will not necessarily er n at ion al Accou n t in g St an d ar ds correspond to economic change in wealth over that period. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za

Under the capitalJohn maintenance approach income Wi ley & Sons © 2003 to (952 pages) measurement, income for a period is the change in total productive capacity over that time interval; only to the extent that the entity maintained its net This com pact and t ruly com pr ehensive qui ck - refer ence assets (after adjusting for capital transactions), would incomeon befor deemed to have been earned. By pr esent s account ants with a guide to depend using a capital maintenance it isat argued, investors can better predict the overall profit assistance inconcept, the prepar ion and under standing of financial present accordance with I AS. with a balance sheet approach to performance andstatements future potential of ed theinfirm. This is consistent accounting measurement. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ingrational investment, credit, or Financial statements should provide information that helps users make Standar ds

economic decisions. The balance sheet must be studied to assess a firm's liquidity, its financial flexibility, and its ability to generate profits, pay its debts as they become due, and pay dividends. Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Liquidity refers to an entity's present cash and near-cash position, as well as to the timing of its future Chapter 2 - that Balance Sheet cash flows are anticipated to occur in the normal course of business. Liquidity thus refers to the Iability ncom etoStatement, Stat em entas of they Chanfall gesdue. in Equit y, and Statem ent enterprise's meet its obligations Chapter 3 Preface

of Recognized Gains and Losses

Chapter 4 - Cash Flow St at em ent is broader than the concept of liquidity. Financial flexibility is the The concept of financial flexibility Chapter 5 the - Financial nstr uments—Cash andtoReceiv ables ability of entity to Itake effective actions alter the amounts and timing of its cash flows so that it Chapter 6 - I nventor y can respond to unexpected needs and opportunities. Financial flexibility includes the ability to raise new

capital 7or tap into unused lines of Icredit. Chapter - Rev enue Recogni tion, ncluding Constr uction Contr act s Chapter 8

- Property , Plant , and Equipment

An important objective of financial reporting is to provide information that is useful in assessing the - I ntangi ble Asset s amounts, timing, and uncertainty of future cash flows. IAS requires that either the balance sheet be I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 (into classified current noncurrent assets and liabilities) or that assets and liabilities be presented in I nvestm entand Pr oper ty order of relative liquidity. For most businesses, balance sheets are more meaningful if they are Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements classified into categories. Assets are current if they are used in the entity's operating activities and are Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - expected to be converted into cash, sold, or consumed either within twelve months of the reasonably Balance Sheet Date reporting or in the normal course ofTer one cycle, if longer. Assets are also classified as Chapter 13 date, - Financial I nstr uments—Longm operating Debt current when they are held primarily for trading or short-term investment purposes and are expected to Chapter 14 - Leases be realized within twelve months of the reporting date. Chapter 9

Chapter 15 - I ncom e Taxes

Chapter 16 are - Emclassified ploy ee Benefit s Liabilities as current if they are expected to be liquidated through the use of current Chapter - Stock holder Equit ycurrent liabilities. The excess of current assets over current liabilities is assets 17 or the creation ofs'other Chapter - Earnings Percapital, Share and for many entities this is a key indicator of liquidity and financial known 18 as net working Chapter 19 Unless - I nterim Repor ting flexibility. anFinancial entity has a positive net working capital, it is insolvent in a technical sense and at Chapter great risk 20 of - Segm failureentin Repor the immediate ting term. Chapter 21 - Accounting Changes and Cor rection of Er ror s

For some businesses, however, the concept of working capital has little or no relevance and a classified balance sheet is accordingly not presented. Such businesses often include banks, other Chapter 23 - Related- Part y Disclosures financial institutions, and insurance enterprises. Personal financial statements (for which there are no Chapter 24 - Specialized I ndustr ies specific standards under IAS) are unclassified for the same reason. Chapter 22 - For eign Curr ency

Chapter 25 - I nflation and Hyperinflation

Chapter 26 - each Gov erreporting nm ent Grentity an ts must decide whether a classified balance sheet would be meaningful to Ultimately, Appendix A -1Dimakes sclosure Checklist upon each enterprise to make a determination, based on the nature of users. IAS it incumbent Appendix B - I llustrativ e Financial atem ent s Pr esent Under I AS assets and current and noncurrent its operations, whether or not to St present current andednoncurrent

liabilitiesCas- Com separate classifications on the face the balance sheet. Appendix parison of I AS, US GAAP, and UKof GAAP I ndex

Additionally, the current version of IAS 1 makes it incumbent upon enterprises, whether they choose to present a classified balance sheet or not, to disclose, for each asset and liability item, the amounts List of Ex hibits and Ex am ples expected to be recovered or settled more than twelve months after the balance sheet date. This new List of Sidebar s requirement somewhat mirrors the information about the maturity dates of financial assets and financial liabilities which is required by IAS 32. IAS 1 builds upon this foundation and emphasizes that additional information concerning the expected dates of recovery and settlement of nonmonetary assets and liabilities, like inventories or provisions, is also useful (whether or not an enterprise presents a classified balance sheet). List of Tables

Consistency has always been a valued feature of financial reporting, but has not always been given recognition as a fundamental concept or principle. SIC 18 states that when more than one accounting

policy is available under an IAS or an SIC, an enterprise should choose and apply consistently one of those policies, unless the standard or interpretation permits categorization of items for which different policies may be appropriate. or tan interpretation permits of items, the most W ile y I AS 2If0a03standard : I n t erp re at ion an d Ap p licat io n ocategorization f appropriate accounting policy should be selected and applied to each category. I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Once an appropriate Mir zapolicy has been selected, then any change in policy should be in accordance with the requirements John of IAS alternative accounting policies, while still abundant, are Wi8. leyChoices & Sons ©among 2003 (952 pages) becoming less so,This as com the IASB has continued to refine the limits of acceptable accounting. Thus, lack pact and t ruly com pr ehensive qui ck - refer ence of consistency should become less of an issue over time. pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with AS. Sources ofI IAS T ab le of Con t en t s

1,03—Int 7, 10, er 24, 30, 32, and 38, 39, 40 SIC 18 Wiley IIAS AS 20 pretation Application of I8, nternational Account ing Standar ds

IASC's Framework for the Preparation and Presentation of Financial Statements

Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

ile yTerms I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f DefinitionsWof I n t er n at ion al Accou n t in g St an d ar ds

by Bar rdescribes y J. Epsteinthe and Abbas Ali The IASC's Framework basic concepts by whichISBN:0471227366 financial statements are prepared. It Mir za does so by defining the objective of financial statements; identifying the qualitative characteristics that Wi ley &statements Sons © 2003 useful; (952 pages) make informationJohn in financial and defining the basic elements of financial statements This com pact and t ruly com pr ehensive ck - refer ence and the concepts for recognizing and measuring them inquifinancial statements. pr esent s account ants with a guide to depend on for assistance in the prepar ion broad and under standing of and financial The elements of financial statements areatthe classifications groupings which convey the statements present ed in accordance with I AS. substantive financial effects of transactions and events on the reporting entity. To be included in the financial statements, an event or transaction must meet definitional, recognition, and measurement T ab le of Con t en t s requirements, all of which are and set forth in the of Framework. Three of the Wiley I AS 20 03—Int er pretation Application I nternational Account ingfive defined elements (assets, liabilities, Standar ds and equity) are indicators of the status of an entity at a particular point in time. The others, income and expenses, pertain to the performance of an entity over a period of time. Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

- Balance Sheet Elements of balance sheets.

Chapter 2

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 Assets—Probable future economic benefits obtained or controlled by a particular entity as a result of Recognized Gains and Losses

of past orem events. Chapter 4 - transactions Cash Flow St at ent Chapter 5

- Financial I nstr uments—Cash and Receiv ables The following three characteristics must be present for an item to qualify as an asset:

Chapter 6

- I nventor y

1. The asset must provide probable future economic benefit that enables it to provide future net - Rev enue Recogni tion, I ncluding Constr uction Contr act s cash inflows.

Chapter 7 Chapter 8

- Property , Plant , and Equipment

Chapter 9 - entity I ntangi Asset s 2. The isble able to receive the benefit and restrict other entities' access to that benefit. I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm entprovides Pr oper tythe entity with the right to the benefit has occurred. 3. The event that Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Assets remain an economic resource of an enterprise asand longEvas they continue to meet the three Curr ent Liabilit ies, Prov isions, Cont ingencies, ents after t he Chapter 12 - identified above. Transactions and operations act to change an entity's assets. requirements Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt

A valuation account is neither an asset nor a liability. Rather, it alters the carrying value of an asset and is not independent of that related asset.

Chapter 14 - Leases

Chapter 15 - I ncom e Taxes

Chapter - Em ploy ee that Benefit s identify them in that they are exchangeable, legally enforceable, and Assets 16 have features help Chapter 17 - economic Stock holder s' Equit(service y have future benefit potential). It is that potential that eventually brings in cash to the

entity and underlies concept of an asset. Chapter 18 that - Earnings Per the Share Chapter 19 - I nterim Financial Repor ting Liabilities—Probable future sacrifices of economic benefits arising from present obligations of a Chapter 20 - Segm enttoRepor ting assets or provide services to other entities in the future as a result of particular entity transfer Chapter 21transactions - AccountingorChanges past events. and Cor rection of Er ror s Chapter 22 - For eign Curr ency

The following three characteristics must be present for an item to qualify as a liability: Chapter 23 - RelatedPart y Disclosures Chapter 1. A 24liability - Specialized I ndustr ies entity settle a present obligation by the probable future transfer of an requires that the

on demand a specified event occurs or at a particular date. Chapter asset 25 - I nflation and when Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

2. The obligation cannot be avoided.

Appendix A - Di sclosure Checklist

Appendix B - event I llustrativ Financial the St atem enthas s Pr esent ed Under I AS 3. The thateobligates entity occurred. Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Liabilities usually result from transactions that enable entities to obtain resources. Other liabilities may I ndex arise from nonreciprocal transfers, such as the declaration of dividends to the owners of the entity or List of Tables theofpledge of and assets to ples charitable organizations. List Ex hibits Ex am List of Sidebar s

An entity may involuntarily incur a liability. A liability may be imposed on the entity by government or by the court system in the form of taxes, fines, or levies. A liability may arise from price changes or interest rate changes. Liabilities may be legally enforceable or they may be equitable obligations that arise from social, ethical, or moral requirements. Liabilities continue in existence until the entity is no longer responsible for discharging them. A valuation account is not an independent item. It alters the carrying value of a liability and is directly related to that liability. Most liabilities stem from financial instruments, contracts, and laws, which are legal concepts invented

by a sophisticated economy. Enterprises incur liabilities primarily as part of their ongoing economic activities, in exchange for economic resources and services required to operate the business. The end result of a liabilityWisile that takes use ofrean ordthe creation liability to liquidate it. y I it AS 2 0 03the : In t erp t atasset ion an Ap p licat io nofo another f Liabilities are imposed by agreement, by law, by court, by equitable or constructive obligation, and by I n t er n at ion al Accou n t in g St an d ar ds business ethics and custom. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za

The diagram thatJohn follows, which is taken a document that formed part of the conceptual framework Wi ley & Sons © 2003from (952 pages) project by the USThis standard-setting body, the Financial Accounting Standards Board, identifies the three com pact and t ruly com pr ehensive qui ck - refer ence classes of eventsprthat affect an entity. esent s account ants with a guide to depend on for in the prepar ion and under standing financial its liabilities. In a business Equity—Theassistance residual interest in the atassets that remains afterofdeducting statements present ed in accordance with I AS. enterprise, the equity is the ownership interest. T ab le of Con t en t s

Equity arises from the ownership relation and is the basis for distributions of earnings to the owners.

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Distributions of enterprise assets to owners are voluntary. Equity is increased by owners' investments Standar ds

and comprehensive income and is reduced by distributions to owners. In practice, the distinction Preface

between and liabilities may be difficult to ascertain. such as convertible debt and Chapter 1 equity - I ntr oduction to I nter national Accounting StandarSecurities ds

certain types of preferred stock may have characteristics of both equity (residual ownership interest) - Balance Sheet and liabilities (nondiscretionary future sacrifices).

Chapter 2 Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

The other elements that change assets, liabilities, and equities are identified and defined in Chapter 3.

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS and 2 0 03 : Examples I n t erp re t at ion an d Ap p licat io n o f Concepts, Rules, I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

General Concepts Mir za

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages)

Under international accounting standards, assets and liabilities are recorded in financial statements This com pact and t ruly com pr ehensive qui ck - refer ence under the historical cost sprinciple, although manytocases subsequent changes in values can be pr esent account ants with ainguide depend on for recognized. Historical exchange used they are assistance in theprices preparare at ion andbecause under standing of objective financial and capable of being statements ed insheet accordance with I AS. verified independently. Whenpresent a balance is presented, most assets are reported at cost. One very important limitation is that historical cost does not always (or even typically) reflect current value, and T ab le of Con t en t s thus the balance sheet will not generally be indicative of the economic value of an enterprise. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Generally accepted accounting principles allow or require certain exceptions to the historical cost principle. For example, inventories and marketable equity securities may be reported at lower of cost or Chapter 1 - I ntr oduction to I nter national Accounting Standar ds market, and certain long-term investments may be reported under the equity method, but neither of Chapter 2 - Balance Sheet these exceptions is intended to result in a balance sheet that reflects current economic value. I ncom e Statement, Stat em ent of of long-term Chan ges inassets Equit y,are and Statem entpractices, but appreciation Depreciation, depletion, and amortization acceptable Chapter 3 of Recognized Gains and Losses of assets is not generally recorded. With certain exceptions (such as for investment property accounted Chapter 4 - Cash Flow St at em ent for in accordance with IAS 40, and for plant assets and intangibles accounted for under the optional Chapter 5 - provisions Financial I nstr uments—Cash Receiv ables revaluation of IAS 16 and 38, and respectively), appreciation of assets is generally recorded only Chapter 6 I nventor y when realized through an arm's-length transaction (i.e., a sale to an unrelated party). Preface

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s Many believe that the balance would be more useful if all assets were restated in terms of current Chapter 8 - Property , Plant , andsheet Equipment

values,9and- Iantangi number of strategies to accomplish this have been proposed or tried over the years. In Chapter ble Asset s general, these currentinvalues could beum market-related (i.e., based on es, changes I nterests Financial Instr ent s, Associat es, Joint Ventur and in specific prices) or could simplyI nvestm be historical coststyadjusted for the changing value of the dollar (i.e., based on changes in ent Pr oper the general level). For a rangeand of reasons, theseStatements approaches have been widely accepted Chapter 11 - price Business Combinations Consolidatnone ed Finofancial in practice, and thus the historical cost approach continues as the Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev entsmost afterwidely t he employed measurement Chapter 12 model for financial However, under current generally accepted accounting principles, Balancereporting. Sheet Date although are usually stated at historical cost, if market information indicates a permanent and Chapter 13assets - Financial I nstr uments—LongTer m Debt material14decline in value, recognition of the economic loss is immediate. Chapter - Leases Chapter 10 -

Chapter 15 - I ncom e Taxes

Another limitation of historical cost based balance sheets is a consequence of the fact that estimates are used to determine the carrying, or book, values of many of the assets. Estimates are used in Chapter 17 - Stock holder s' Equit y determining the collectibility of receivables, salability of inventory, and useful life of long-term assets, Chapter 18 - Earnings Per Share among other things. Estimates are necessary in order to divide and separate economic events Chapter 19 between - I nterim two Financial Repor ting occurring distinct accounting periods. However, such estimates require informed Chapter 20 -for Segm ent there Reporis ting judgments which perhaps not enough guidance in accounting literature. Chapter 16 - Em ploy ee Benefit s

Chapter 21 - Accounting Changes and Cor rection of Er ror s

An additional failing of the balance sheet is that it ignores items that are of financial value to the firm but Chapter 22 - For eign Curr ency the worth which cannot be determined objectively. For example, internally generated goodwill, human Chapter 23 of - RelatedPart y Disclosures resources, secret processes Chapter 24 - and Specialized I ndustr ies are of financial value, but since these values are not measurable

under current accounting principles and practices, they are not recorded on the balance sheet. Only Chapter 25 - I nflation and Hyperinflation

assets obtained in a market transaction are incorporated into the financial statements of an entity. As the service economy becomes ever more dominant, the importance of assets that are not reflected in Appendix A - Di sclosure Checklist the traditional balance sheet (particularly those relating to human capital) will become a more critical Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS issue which the accounting professions will eventually have to address. Chapter 26 - Gov er nm ent Gr an ts

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

I ndex A final constraint on the usefulness of the balance sheet is that it largely ignores the time value of its List of Tables elements. Although certain receivables and payables may be discounted, most items are stated at face List value of Ex regardless hibits and of Exthe am ples timing of the cash flows that they will generate. This tends to exacerbate the

divergence net worth as reported in balance sheets and the value of the enterprise in real List of Sidebarbetween s economic terms. The net result of the foregoing is that the balance sheet contains a mixture of historical costs and current values that may restrict its utility to users. It is true that, in the case of some assets and liabilities, cost is a reasonably close approximation of current value. Monetary assets such as cash, short-term investments, and receivables closely approximate current value. Current liabilities are payable within a short period, and the amounts reported thus also closely approximate current values. If these values were discounted, any discrepancy would be immaterial because of the short time period

before payment. Current liabilities are not classified strictly on the basis of maturity value but on the concept that a current liability is one that requires either a current asset or another current liability to liquidate, and should on: the balance value. the allowed alternative W ilebe y I shown AS 2 0 03 I n t erp re t at sheet ion anat d face Ap p licat io nUnless of treatment (i.e., revaluation) permitted under IAS is employed, productive assets such as property, plant, I n t er n at ion al Accou n t in g St an d ar ds and equipment, and intangibles are to be reported at actual historical cost less accumulated ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali depreciation, depletion, Mir za or amortization. Long-term liabilities are recorded as the discounted value of future payments to John be Wi made ley &under Sons contract, © 2003 (952since, pages) on the date of issuance, the discount rate equals the market rate. However, as time and the market rate fluctuates, the recorded cost will not This com pact and passes t ruly com pr ehensive qui ck - refer ence pr esent sthe account ants with a guide to depend on for necessarily approximate current value. assistance in the prepar at ion and under standing of financial statements present ed inofaccordance I AS. of other capital-supplying parties The rights of the common shareholders a firm and with the rights (bondholders and other lenders, and preferred stockholders) of a firm are many and varied. Both T ab le of Con t en t s sources of capital are concerned with two basic rights: the right to share in the cash or property Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing disbursements (interest and dividends) and the right to share in the assets in the event of liquidation. Standar ds The disclosure of these rights is an important objective in the presentation of financial statements. Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Form of - Balance Balance Sheet Sheet

Chapter 2

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Chapter 3

The titles commonly givenGains to theand primary financial statement that presents an entity's financial position of Recognized Losses are balance sheet, statement of financial position, or statement of financial condition. Use of any of Chapter 4 - Cash Flow St at em ent these terms implies that the statement was in conformity with generally accepted accounting Chapter 5 - Financial I nstr uments—Cash andprepared Receiv ables principles. If some other comprehensive basis of accounting, such as income tax or cash, is adhered to Chapter 6 - I nventor y instead, the title of the financial statement should be adjusted to sreflect this departure. Thus, a title Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act such as "Statements of Assets and Liabilities" would be necessary to differentiate the financial Chapter 8 - Property , Plant , and Equipment statement being presented from a balance sheet. Chapter 9

- I ntangi ble Asset s

I ntereststhat in Financial Instr um Associatof es,a Joint Ventur es, are and The three are displayed in ent thes,heading balance sheet Chapter 10 elements I nvestm ent Pr oper ty

1. The whose financial position is beingedpresented Chapter 11 - entity Business Combinations and Consolidat Fin ancial Statements

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 2. The 12 - title of the statement Balance Sheet Date Chapter 13 - date Financial uments—Long- Ter m Debt 3. The of theI nstr statement Chapter 14 - Leases

The entity's Chapter 15 - Iname ncom eshould Taxes appear exactly as written in the legal document that created it (e.g., the certificate incorporation, partnership agreement, etc.). The title should also clearly reflect the legal Chapter 16 of - Em ploy ee Benefit s status of enterprise asEquit a corporation, partnership, sole proprietorship, or division of some other Chapter 17the - Stock holder s' y entity. Where the entity's name does not disclose its legal status, the authors suggest that Chapter 18 - Earnings Per Share supplemental information be added to the title to clarify that status. A few examples are

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

ABC Company

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation

(A partnership) ABC Company (A limited partnership)

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

ABC Company

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

(A sole proprietorship)

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

ABC Company

List of Tables List of Ex hibits and Ex am ples

(A division of DEF, Inc.)

List of Sidebar s

In practice, the title of the financial statement is generally "Balance Sheet" unless another name is indicative of the terminology used in the industry. For example, in the securities industry, the title "Statement of Financial Condition" is more widely used. Finally, the last day of the month should be used as the statement date unless the entity uses a fiscal reporting period always ending on a particular day of the week, such as a Friday or Sunday (e.g., the last Friday in December, or the Sunday falling closest to December 31). In these cases, the balance sheet can appropriately be dated accordingly (i.e., December 26, October 1, etc.). In all cases, the

implication is that the balance sheet captures the pertinent amounts as of the close of business on the date noted. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Balance sheets should generally be uniform in appearance from one period to the next, as indeed I n t er n at ion al Accou n t in g St an d ar ds should all of the entity's financial statements. The form, terminology, captions, and pattern of combining ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali insignificant itemsMir should be consistent. The goal is to enhance usefulness by maintaining a consistent za manner of presentation there© are reasons to change these and the changes are duly John Wiunless ley & Sons 2003good (952 pages) reported. This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial Classification of Assets statements present ed in accordance with I AS.

Assets, liabilities, T ab le of Con t en t s and stockholders' equity are often separated in the balance sheet so that important relationships can be shown and that attention can be focused on significant subtotals. Wiley I AS 20 03—Int er pretation andsoApplication of I nternational Account ing Standar ds

Current Preface

assets.

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

According to IAS 1, an asset should be classified as a current asset when it

1. Is expected be realized in,em orent is held for ges saleinorEquit consumption in, the I ncom eto Statement, Stat of Chan y, and Statem entnormal course of the Chapter 3 enterprise's operating cycle; of Recognized Gains andor Losses Chapter 4

- Cash Flow St at em ent

2. Is held primarily for trading purposes or for the short term, and is expected to be realized within - Financial I nstr uments—Cash and Receiv ables twelve months of the balance sheet date; or

Chapter 5 Chapter 6

- I nventor y

Chapter 7 cash - Revor enue Recogni tion, I ncluding Constr uction Contr act 3. Is a cash equivalent asset that is not restricted in sits use. Chapter 8 - Property , Plant , and Equipment

All other9 assets should be classified as noncurrent assets, if a classified balance sheet is to be Chapter - I ntangi ble Asset s presented inI nterests the financial statements. in Financial Instr um ent s, Associat es, Joint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty Thus, current assets Combinations include cash, and cashConsolidat equivalents and otherStatements assets that can be expected to be Chapter 11 - Business ed Fin ancial

realized in cash, or sold or consumed during one normal operating cycle of the business. The operating

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter cycle of12an- enterprise is theDate time between the acquisition of materials entering into a process and its Balance Sheet

realization cash or Ian instrument that is Chapter 13 -inFinancial nstr uments—LongTerreadily m Debtconvertible into cash. The default assumption is that the operating cycle is a period of twelve months, and thus the current assets are expected to be Chapter 14 - Leases

realized within the period of twelve months. IAS 1 makes an exception in the case of inventories and trade receivables and specifically states that even if these assets are not expected to be realized within Chapter 16 - Em ploy ee Benefit s twelve months from the balance sheet date they should still be classified as current assets in a Chapter 17 - Stock holder s' Equit y classified balance sheet. However, marketable securities could only be classified as current assets if Chapter 18 - Earnings Per Share they are expected to be realized within twelve months of the balance sheet date, even though most Chapter 19 - I nterim Financial Repor ting would deem marketable securities to be more liquid than inventories and possibly even than Chapter 20 - Segm ent Reporitems ting would be classified as current assets: receivables. The following Chapter 15 - I ncom e Taxes

Chapter 21 - Accounting Changes and Cor rection of Er ror s

1. Cash and cash equivalents include cash on hand, consisting of coins, currency, and undeposited checks; money orders and drafts; and deposits in banks. Anything accepted by a Chapter 23 - Related- Part y Disclosures bank for deposit would be considered cash. Cash must be available for a demand withdrawal; Chapter 24 - Specialized I ndustr ies assets such as certificates of deposit would not be considered cash because of the time Chapter restrictions 25 - I nflation Hyperinflation onand withdrawal. Also, to be classified as a current asset, cash must be available for Chapter current 26 - Gov er nm ent Gr an tsto IAS 1, cash that is restricted in use and whose restrictions will not use. According Appendixexpire A - Diwithin sclosure theChecklist operating cycle, or cash restricted for a noncurrent use, would not be included AppendixinBcurrent - I llustrativ e Financial St atem ent s7,Prcash esentequivalents ed Under I AS assets. According to IAS include short-term, highly liquid Appendixinvestments C - Com parison of I AS, US GAAP, and UK GAAP that (1) are readily convertible to known amounts of cash, and (2) are so near their I ndex maturity (original maturities of three months or less) that they present negligible risk of changes in value because of changes in interest rates. Treasury bills, commercial paper, and money List of Tables funds areples all examples of cash equivalents. List of Exmarket hibits and Ex am Chapter 22 - For eign Curr ency

List of Sidebar s

2. Trading investments are those that are acquired principally for the purpose of generating a profit from short-term fluctuations in price or dealer's margin. A financial asset should be classified as held-for-trading if it is part of a portfolio for which there is evidence of a recent actual pattern of short-term profit making. Trading assets include debt and equity securities and loans and receivables acquired by the enterprise with the intention of making a short-term profit. Derivative financial assets are always deemed held-for-trading unless they are designed as effective hedging instruments.

As required by IAS 39, a financial asset held for trading should be measured at fair value. There is a presumption that fair value can be reliably measured for financial assets that are held for trading. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Securitiesbyheld Bar rfor y J.trading Epstein and $xxx Abbas Ali

ISBN:0471227366

Mir za Johninclude Wi ley & Sons © 2003 pages) 3. Receivables accounts and(952 notes receivable, receivables from affiliate companies, and

accounts receivable represents amounts due from officer andThis employee receivables. The com pact and t ruly com pr term ehensive qui ck - refer ence esent s from account ants with ainguide to depend on for customersprarising transactions the ordinary course of business. Allowances due to lack assistance in the prepardiscounted at ion and under standing of financial of collectibility and any amounts or pledged should be stated clearly. The allowances statements present ed in accordance with I AS. may be based on a relationship to sales or based on direct analysis of the receivables. If T ab le of material, Con t en t sthe receivables should be analyzed into their component parts. The receivables section may be presented as follows: Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface

Receivables:

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

Accounts - Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables accounts

Chapter 6

- I nventor y

Chapter 7

companies - RevAssociated enue Recogni tion, I ncluding Constr uction Contr act s

xxx

Chapter 8

- Property , Plant , and Equipment

xxx

Chapter 9

- I ntangi ble Asset s

$xxx

I ncom e Statement, Stat em ent of Chan ges inxxx Equit y,$xxxx and Statem ent Notes of Recognized Gains and Losses

Less allowance for doubtful

Chapter 10 -

(xxx)

Officers and employees

$xxxx

I nterests and Total in Financial Instr um ent s, Associat es, Joint Ventur es,$xxxx I nvestm ent Pr oper ty

Chapter 11 - Businessare Combinations Consolidat Statements 4. Inventories assets held,and either for saleedinFin theancial ordinary course of business or in the process Curr ent Liabilit ies,sale, Prov isions, Cont ingencies, and Ev ents after to t hebe consumed in the of production for such or in the form of materials or supplies Chapter 12 Balance Sheet Date

production process or in the rendering of services (IAS 2). The basis of valuation and the

Chapter method 13 - Financial I nstrshould uments—LongTer m Debt of pricing be disclosed. Chapter 14 - Leases Chapter 15 - I ncom e Taxes

Inventories—at the lower of cost (FIFO) or net realizable value

$xxx

Chapter 16 - Em ploy ee Benefit s Chapter 17 the - Stock s' Equit y 5. In caseholder of a manufacturing concern, raw materials, work in process, and finished goods Chapter should 18 - Earnings Per Share be disclosed separately on the balance sheet or in the footnotes. Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Inventories: Chapter 21 - Accounting Changes and Cor rection of Er ror s

Finished Chapter 22 - For eign Curr ency

$xxx

goodsPart y Disclosures Chapter 23 - RelatedChapter 24 - Specialized I ndustr ies xxx Work in Chapter 25 - I nflation and Hyperinflation process Chapter 26 - Gov er nm ent Gr an ts

Raw materials Appendix A - Di sclosure Checklist

xxx

$xxx

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

6. Prepaid created by the prepayment of cash or incurrence of a liability. Appendix C - Comexpenses parison of Iare AS,assets US GAAP, and UK GAAP I ndex

They expire and become expenses with the passage of time, use, or events (e.g., prepaid rent, prepaid insurance, and deferred taxes).

List of Tables

List of Ex hibits and Ex am ples

Noncurrent assets.

List of Sidebar s

IAS 1 (revised 1997) uses the term "noncurrent" to include tangible, intangible, operating, and financial assets of a long-term nature. It does not prohibit the use of alternative descriptions, as long as the meaning is clear. Noncurrent assets include held-to-maturity investments, investment property, property and equipment, intangible assets, and miscellaneous other assets, as described in the following paragraphs.

Held-to-maturity investments.

are financial assets with fixed or determinable payments and fixed maturity that the enterprise has a positive intent and ability to hold to maturity. Examples of held-to-maturity investments are debt securities and mandatorily preferred shares. This category W ile y I ASredeemable 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f excludes loans and receivables originated by the Ienterprise, however. Held-to-maturity investments are to be measured at amortized n t er n at ion al Accou n t in g St an d ar ds cost. (For a detailed discussion on financial instruments please refer to the relevant chapters of this ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali book.) Mir za John Wi ley & Sons © 2003 (952 pages)

Investment property. This com pact

and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for This denotes property beinginheld earnatrentals, for capital appreciation, assistance the to prepar ion and or under standing of financial or both, rather than for use statements present ed in accordance with I AS. in production or supply of goods or services, or for administrative purposes or for sale in the ordinary

course of business. Investment property should be initially measured at cost. Subsequent to initial measurement an enterprise is required to elect either the fair value model or the cost model. (For a Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing detailed Standar ds discussion on investment property please refer to Chapter 10.)

T ab le of Con t en t s

Preface

Property, plant, and equipment. - I ntr oduction to I nter national Accounting

Chapter 1

Standar ds

Chapter 2 assets - Balance Tangible thatSheet are held by an enterprise for use in the production or supply of goods or services, Ito ncom e Statement, Stat em ent of Chan gesand in Equit y, and Statem entto be used during more or for rental others, or for administrative purposes which are expected Chapter 3 of Recognized Gains and Losses

than one period. Included are such items as land, buildings, machinery and equipment, furniture and - Cash Flow St at em ent fixtures, motor vehicles and equipment. These should be disclosed, with the related accumulated Chapter 5 - Financial I nstr uments—Cash and Receiv ables depreciation, as follows: Chapter 4 Chapter 6

- I nventor y

Chapter 7

Recogni tion, I ncluding Constr uction Contr act s Machinery- Rev andenue equipment

Chapter 8

- Property , Plant , and Equipment

Less accumulated depreciation Chapter 9 - I ntangi ble Asset s or Chapter 10 -

$xxx (xxx)

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Machinery and equipment (net of $xxx accumulated depreciation)

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

$xxx

$xxx

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - depreciation should be shown by major classes of depreciable assets. In addition to Accumulated Balance Sheet Date

showing this amount on the balance sheet, the notes to the financial statements should contain balances of major classes of depreciable assets, by nature or function, at the balance sheet date, along Chapter 14 - Leases with a general description of the method or methods used in computing depreciation with respect to Chapter 15 - I ncom e Taxes major classes of depreciable assets (IAS 16). Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y Intangible assets. Chapter 18 - Earnings Per Share

Noncurrent, of a business, the possession of which provides anticipative Chapter 19 - Inonmaterialistic nterim Financial assets Repor ting benefits20to-the owner. Included Chapter Segm ent Repor ting in this category are such items as goodwill, trademarks, patents, copyrights, organizational These areofdefined Chapter 21 - and Accounting Changescosts. and Cor rection Er ror s by IAS 38, as identifiable, nonmonetary assets without22 physical substance Chapter - For eign Curr encythat are held for use in the production or supply of goods or services, for rental to23others, or for administrative Chapter - RelatedPart y Disclosures purposes. Chapter 24 - Specialized I ndustr ies

Generally, the amortization of an intangible asset is credited directly to the asset account, although it is

Chapter 25 - to I nflation Hyperinflation acceptable use anand accumulated amortization account. The tradition of reporting tangible assets on a Chapter 26 Gov er nm ent Gr an tsdepreciation shown separately, developed from the goal of providing the gross basis, with accumulated Appendix A - enough Di sclosure Checklist to make a rough calculation of the age of plant assets used by the reader with information Appendix B I llustrativ e Financial St atem ent s of Pr the esent ed Under enterprise, partly to enable an assessment amount andI AS timing of capital needed for the Appendix C - Com parison of I AS, US GAAP,assets and UK GAAP replacement of those assets. Intangible are not as regularly subject to replacement, however, I ndex and are often written down in carrying value for reasons other than the simple passage of time;

therefore amortization is typically, but not necessarily, credited directly to the asset account. List of Tables List of Ex hibits and Ex am ples

Other assets. List of Sidebar s

An all-inclusive heading for accounts that do not fit neatly into any of the other asset categories (e.g., long-term prepaid expenses, deferred taxes, deferred bond issue costs, noncurrent receivables, and restricted cash).

Classification of Liabilities The liabilities are normally displayed on the balance sheet in the order of payment.

Current liabilities. I AS 2should 0 03 : I nbe t erp re t at ionasan Ap p licat io n owhen f According to IAS W 1,ile a yliability classified adcurrent liability it I n t er n at ion al Accou n t in g St an d ar ds

1. Is expected to be settled in the normal course of the enterprise's operating cycle; or ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za 2. Is due to be settled within twelve months of the balance sheet date. John Wi ley & Sons © 2003 (952 pages) combe pact and t rulyas com pr ehensive qui ck - refer ence All other liabilitiesThis should classified noncurrent liabilities. pr esent s account ants with a guide to depend on for assistance in theare prepar at ion and standing financial In other words, current liabilities obligations theunder liquidation of of which is reasonably expected to statements present ed in accordance with I AS. require the use of existing resources properly classifiable as current assets, or the creation of other current obligations. Obligations that are due on demand or are callable at any time by the lender are T ab le of Con t en t s classified as current regardless of Application the presentofintent of the entity or ofing the lender concerning early Wiley I AS 20 03—Int er pretation and I nternational Account Standar demand ds for repayment. Preface 1. Obligations arising from the acquisition of goods and services entering the operating cycle (e.g., Chapter accounts 1 - I ntr oduction I nter national Accounting payable,toshort-term notes payable,Standar wages ds payable, taxes payable, and other Chapter miscellaneous 2 - Balance Sheet payables). I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Chapter 3

-

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

2. Collections of money in advance for the future delivery of goods or performance of services, of Recognized Gains and Losses as rent received Chapter such 4 - Cash Flow St at em in entadvance and unearned subscription revenues. 3. Other obligations maturing within the current operating cycle to be met through the use of - I nventor y current assets, such as the current maturity of bonds and long-term notes.

Chapter 6 Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter Property , Plant , and Per IAS8 1, -certain liabilities, suchEquipment as trade payables and accruals for operating costs, which form part of Chapter 9 I ntangi ble Asset s the working capital used in the normal operating cycle of the business, are to be classified as current I nterests Instr um entafter s, Associat es, Joint Ventur es, and liabilities if they in areFinancial due to be settled more than twelve months from the balance sheet date. Chapter 10even I nvestm ent Pr oper ty

Other current liabilities which are not settled as part of the operating cycle, but which are due for Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements settlement within twelve months of isions, the balance sheet date, as after dividends Curr ent Liabilit ies, Prov Cont ingencies, andsuch Ev ents t he payable and the current Balance Sheet Date also be classified as current liabilities. However, interest-bearing portion of long-term debt, should Chapter liabilities 13that - Financial provideIthe nstrfinancing uments—Longfor working Ter m Debt capital on a long-term basis and are not scheduled for settlement twelve months should not be classified as current liabilities. Chapter 14 -within Leases Chapter 12 -

Chapter 15 - I ncom e Taxes

IAS 1 provides another exception to the general rule that a liability due to be repaid within twelve months of the balance sheet date should be classified as a current liability. If the original term was for a Chapter 17 - Stock holder s' Equit y period longer than twelve months and the enterprise intended to refinance the obligation on a long-term Chapter 18 - Earnings Per Share basis prior to the balance sheet date, and that intention is supported by an agreement to refinance, or Chapter 19 - I nterim Financial Repor ting to reschedule payments, which is completed before the financial statements are approved, then the Chapter - Segm ent Repor debt is 20 to be reclassified asting noncurrent as of the balance sheet date. Chapter 16 - Em ploy ee Benefit s

Chapter 21 - Accounting Changes and Cor rection of Er ror s

In two cases, obligations to be paid within one period should not be classified as current liabilities. Debt Chapter 22 - For eign Curr ency expected be refinanced through another long-term issue, and debt that will be retired through the use Chapter 23 to - RelatedPart y Disclosures of noncurrent assets, such as from Chapter 24 - Specialized I ndustr ies the amount accumulated in a bond sinking fund, are treated as noncurrent the liquidation does not require the use of current assets or the creation Chapter 25 - liabilities I nflation because and Hyperinflation of other26current liabilities. Chapter - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

The distinction between current and noncurrent liquid assets generally rests upon both the ability of the

Appendix B -the I llustrativ Financial ent s Pr edliquidate Under I AS entity and intent ofe the entitySt toatem liquidate oresent not to within the traditional one-year concept. Appendix C Com parison of I AS, US GAAP, and UK GAAP Intent is not of similar significance with regard to the classification of liabilities, however, because the I ndex creditor has the legal right to demand satisfaction of a currently due obligation, and even an expression List of Tables of intent not to exercise that right does not diminish the entity's burden should there be a change in that List of Ex hibits andwhereas Ex am ples intention. Thus, an entity can control its use of current assets, it cannot be the master of its List of fate Sidebar own withs regard to current liabilities, and accordingly, accounting for current liabilities (with the two

exceptions noted above) is based on legal terms, not expressions of intent.

Noncurrent liabilities. Obligations that are not expected to be liquidated within the current operating cycle, including 1. Obligations arising through the acquisition of assets, such as the issuance of bonds, long-term notes, and lease obligations;

2. Obligations arising out of the normal course of operations, such as pension obligations; and 3. ContingentWobligations involving uncertainty as to possible losses. These are resolved by the ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f occurrenceI nor nonoccurrence ofnone events that confirm the amount payable, the t er n at ion al Accou t in g or Stmore an d arfuture ds payee, and/or the date payable, such as product warranties (see the contingency section). ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za

For all long-term liabilities, maturity date, nature of obligation, rate of interest, and description of any John Wi leythe & Sons © 2003 (952 pages) security pledged to support the agreement should be clearly shown. Also, in the case of bonds and This com pact and t ruly com pr ehensive qui ck - refer ence long-term notes, any premium or discount separately as an addition to or pr esent s account ants with should a guidebe to reported depend on for subtraction from the par (or in face) the and bondunder or note. Long-term obligations which contain certain assistance the value preparof at ion standing of financial statements present ed inclassified accordance with I AS. covenants that must be adhered to are as current liabilities if any of those covenants have been violated and the lender has the right to demand payment. Unless the lender expressly waives that T ab le of Con t en t s right or the conditions causing the default are corrected, the obligation is current. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Other liabilities.

Preface

Chapter 1 -do I ntr oduction to definition I nter national Standar ds Items that not meet the of aAccounting liability, such as deferred income taxes or deferred investment Chapter 2 Balance Sheet tax credits, where measured by the deferred method. Often these items will be included in current or I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent noncurrent Chapter 3 - liabilities even though technically, they are not similar. of Recognized Gains and Losses Chapter 4 - Cash Flow Stand at em liabilities. ent Offsetting assets Chapter 5

- Financial I nstr uments—Cash and Receiv ables In general, and Chapter 6 - assets I nventor y liabilities should not be offset against each other. The reduction of accounts

receivable the allowance doubtful accounts, or of property, Chapter 7 -by Rev enue Recognifor tion, I ncluding Constr uction Contr act s plant, and equipment by the accumulated depreciation, that reduce these assets by the appropriate valuation accounts. Chapter 8 - Property , Plant ,are andacts Equipment These are equivalent to soffsetting assets and liabilities, however. Chapter 9 -not I ntangi ble Asset I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 of - setoff must exist for the offsetting in the financial statements to be a proper presentation. The right I nvestm ent Pr oper ty

This right of setoff exists only when all the following conditions are met:

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

1. EachCurr of the parties owes the other determinable (although they may be in different enttwo Liabilit ies, Prov isions, Cont ingencies, andamounts Ev ents after t he currencies and bearDate different rates of interest). Balance Sheet

Chapter 12 -

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

2. The entity has the right to set off against the amount owed by the other party.

Chapter 14 - Leases

Chapter 15 - entity I ncomintends e Taxesto offset. 3. The Chapter 16 - Em ploy ee Benefit s

4. The setoff legally enforceable. Chapter 17 - right Stockof holder s' is Equit y Chapter 18 - Earnings Per Share

In particular cases, laws of certain countries, including some bankruptcy laws, may impose restrictions or prohibitions against the right of setoff. Furthermore, when maturities differ, only the party with the Chapter 20 - Segm ent Repor ting nearest maturity can offset because the party with the longer maturity must settle in the manner Chapter 21 - Accounting Changes and Cor rection of Er ror s determined by the earlier maturity party. Chapter 19 - I nterim Financial Repor ting

Chapter 22 - For eign Curr ency

Chapter 23 - Relatedy Disclosures In the context of the Part presentation of current assets and current liabilities in financial statements, IAS 1 Chapter - Specialized I ndustr iesright of setoff exists and offsetting represents the expectation as to the clearly 24 states that unless a legal

realization the asset settlement of the liability, amounts should not be offset against each other. Chapter 25 -ofI nflation andorHyperinflation Chapter 26 - Gov er nm ent Gr an ts

IAS 30 establishes disclosure requirements for banks and similar financial institutions. It prohibits offsetting of assets or liabilities on similar grounds. The offsetting of cash or other assets against a tax Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS liability or other amounts due to governmental bodies is also not acceptable except under limited Appendix C - Com parison of I AS, US GAAP, and UK GAAP circumstances. The only exception is when it is clear that the purchase of securities is in substance an I ndex advance payment of taxes payable in the near future and that the securities are acceptable for the List of Tables payment of taxes. This occurs primarily as an accommodation to governmental bodies. Appendix A - Di sclosure Checklist

List of Ex hibits and Ex am ples

Forofforwards, List Sidebar s interest rate swaps, currency swaps, options, and other conditional or exchange contracts, the conditions for the right of offset must exist or the fair value of contracts in a loss position cannot be offset against the fair value of contracts in a gain position. Neither can accrued receivable amounts be offset against accrued payable amounts. If, however, there is a master netting arrangement, fair value amounts recognized for forwards, interest or currency swaps, options, or other such contracts may be offset without respect to the conditions specified previously.

Classification of Stockholders' Equity

Stockholders' equity represents the interest of the stockholders in the assets of a corporation. It shows the cumulative net results of past transactions and other events. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Accou n t in g St an d ar ds

Share capital.I n t er n at ion al

by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

This consists of the par or stated value of preferred and common shares. The number of shares Mir za authorized, the number and©the number outstanding should be clearly shown. For preferred John Wiissued, ley & Sons 2003 (952 pages) share capital, theThis preference features must also be stated as- refer follows: com pact and t ruly com pr ehensive qui ck ence pr esent s account ants with a guide to depend on for assistance in the prepar ion value, and under standing of financial 6% cumulative preference shares, $100atpar callable at $115, 10,000 shares statements present ed in accordance with I AS. authorized and outstanding T abEquity le of Con t en t s$10 par value per share, 2,000,000 shares authorized, 1,500,000 shares shares, Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing issued and outstanding Standar ds

$xxx $xxx

Preface Preference share capital that is redeemable at the option of the holder is not considered to be part of Chapter 1 is - I usually ntr oduction to Iin nter national Accounting Standarliabilities ds equity but shown a separate caption between and equity. However, IAS 32 makes Chapter Balance Sheet it clear 2that- substance prevails over form in the case of compound financial instruments, including I ncom esuch Statement, Stat em ent of Chan gespreference in Equit y, and Statem ent accordingly should be equity instruments as mandatorily redeemable shares, which Chapter 3 Recognized Gains andbalance Losses sheet. shown in theofliability section of the Chapter 4

- Cash Flow St at em ent

Chapter 5 - Financial I nstr uments—Cash and Receiv ables Retained earnings. Chapter 6

- I nventor y This represents the accumulated inception of sthe enterprise, less any earnings Chapter 7 - Rev enue Recogni tion, earnings I ncluding since Constrthe uction Contr act

distributed owners, in the, form of dividends. In some countries it had been common, in the past, to Chapter 8 -toProperty Plant and Equipment

permit the -designation of some portion of retained earnings as being restricted or appropriated. I ntangi ble Asset s These designations had no legal or contractual status, but rather, were only done to communicate with I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 the stockholders regarding thetyavailability of the remaining retained earnings for possible dividend I nvestm ent Pr oper declaration. This communication can be handled otherStatements ways, such as by means of a letter from Chapter 11 - Business Combinations andalso Consolidat ed Fininancial the chief executive officer to the stockholders describing the enterprise's need for retaining its Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 -(e.g., for plant expansion purposes). The international standards do not explicitly address the resources Balance Sheet Date possible13use of retained earnings restrictions appropriations, although these are not prohibited Chapter - Financial I nstr uments—LongTer m or Debt either. 14 - Leases Chapter Chapter 9

Chapter 15 - I ncom e Taxes

Also included in the equity section of the balance sheet is treasury stock representing issued shares

Chapter 16 - by Emthe ployissuer. ee Benefit s are generally stated at their cost of acquisition and as a reduction of reacquired These Chapter 17 - Stock holder s' Equit y shareholders' equity. Chapter 18 - Earnings Per Share

Finally,19 net- changes in available-for-sale Chapter I nterim Financial Repor ting securities portfolios and unrealized gains or losses on translations of foreign currency Chapter 20 - Segm ent Repor ting denominated financial statements will also be shown in stockholders' equity. 21 - Accounting Changes and Cor rection of Er ror s Chapter Chapter 22 - For eign Curr ency

Classification of Partners' Capital

Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies

In partnership entities, the balance sheet is the same as for all other entities, except for the net worth Chapter 25 - I nflation and Hyperinflation section.26In -aGov partnership, this section is usually referred to as partners' capital. In partnership Chapter er nm ent Gr an ts

accounting, the net worth section of the balance sheet includes the equity interests of the partners. Although each individual partner's capital need not be displayed, the totals for each class of partner, Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS general or limited, should be shown. Appendix A - Di sclosure Checklist

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

I ndex Loans to or from partners should be displayed as assets and liabilities of the partnership and not as List of Tablesor additions to partners' capital, although a separate line item on the balance sheet may be reductions List of Ex hibits am ples combined withand netExworth in a separately defined subtotal on the balance sheet. Payments to partners of List interest of Sidebar on loans s are properly classified as expenses on the income statement. Payments of interest on

capital or salaries to partners are considered an allocation of profits and are usually not expensed on the income statement. However, in an attempt to emulate corporate financial reporting, some partnerships, with adequate disclosure, do display part or all of such payments as expenses.

Relationship of the Balance Sheet to the Income Statement The balance sheet and income statement are interrelated through the changes that take place in each

as a result of business transactions. Choosing a method of valuing inventory determines the method of calculating cost of goods sold. This articulation enables the users of financial information to use the statements as predictive indicators W ile y I AS 2 0 03 : Iof n tfuture erp re tcash at ionflows. an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

In assessing information about overall firm performance, usersISBN:0471227366 are interested in bringing together by Bar r y J. Epstein and Abbas Ali information in theMir income statement and the balance sheet. The balance sheet can also be used as a za guide to give an indication firm's continuing ability to earn income and pay dividends. By combining John Wi leyof&aSons © 2003 (952 pages) the two statements, investors can develop some important financial ratios. For example, users may This com pact and t ruly com pr ehensive qui ck - refer ence wish to express income as a rate of return on net pr esent s account ants with a guideoperating to dependassets. on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Supplemental Disclosures T ab le of Con t en t s

In addition the measurement accounting principles that guide the values placed on the elements Wiley I AS 20 to 03—Int er pretation and Application of I nternational Account ing included Standar ds in the balance sheet, there are disclosure accounting principles which are necessary to make the financial statements not misleading because of their omission. The following are five techniques for Preface providing disclosures: Chapter 1 informative - I ntr oduction to I nter national Accounting Standar ds Chapter 2 - Balance Sheet 1. Parenthetical explanations I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

2. Footnotes of Recognized Gains and Losses 3. Supporting schedules - Financial I nstr uments—Cash and Receiv ables

Chapter 5

Chapter 6 - I nventor y 4. Cross-references Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s 5. Valuation accounts Chapter 8 - Property , Plant , and Equipment Chapter 9

- I ntangi ble Asset s

Parenthetical explanations. I nterests in Financial Instr um ent s, Associat es,

Chapter 10 -

Joint Ventur es, and

I nvestm ent Pr oper ty

Supplemental information is disclosed means of explanations following the appropriate Chapter 11 - Business Combinations and by Consolidat ed parenthetical Fin ancial Statements balance sheet items. For example Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Chapter 12 -

Balance Sheet Date Equity13 share capital I($10 par value, 200,000 authorized, 150,000 issued) Chapter - Financial nstr uments—LongTer m shares Debt

$1,500.000

Chapter 14 - Leases

Parenthetical explanations Chapter 15 - I ncom e Taxes have an advantage over both footnotes and supporting schedules.

Parenthetical explanations place the disclosure in the body of the statement. The supplemental information tends to be overlooked when it is placed in a footnote.

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

Footnotes.

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting If the additional information cannot be disclosed in a relatively short and concise parenthetical Chapter 21 - Accounting Cor rection of Er ror s explanation, a footnote Changes should beand used. For example Chapter 22 - For eign Curr ency Chapter 23 - RelatedPart1) y Disclosures Inventories (see Note $2,550,000 Chapter 24 - Specialized I ndustr ies

The notes the financial statements would then contain the following: Chapter 25 -toI nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

NoteA 1: Inventories are stated at the lower of cost or market. Cost is determined by the first-in, Appendix - Di sclosure Checklist first-out marketStisatem determined on the basis of estimated net realizable value. As of the Appendix B - Imethod, llustrativ eand Financial ent s Pr esent ed Under I AS balance sheet date,ofthe market valueand of the is $2,720,000. Appendix C - Com parison I AS, US GAAP, UKinventory GAAP I ndex

Supporting schedules.

List of Tables

List Ex hibits and Ex am ples regarding certain balance sheet items, a supporting schedule may be used. To of present adequate detail List of Sidebar s Current receivables may be a single line item on the balance sheet, as follows:

Current receivables (see Schedule 2)

$2,500,000

A separate schedule for current receivables would then be presented as follows:

Schedule 2 Current Receivables Customers' accounts W ile yand I ASnotes 2 0 03 : I n t erp$2,000,000 re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g 300,000 St an d ar ds Associated companies by Bar r y J. Epstein and Abbas Ali

NonconsolidatedMir affiliates za

322,000

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages) 18,000 This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with 2,640,000 a guide to depend on for assistance in the prepar at ion and under standing of financial Less allowance for doubtful accounts (140,000) statements present ed in accordance with I AS.

Other

$2,500,000

T ab le of Con t en t s

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Cross-references. Standar ds Preface

Cross-referencing is used when there is a direct relationship between two accounts on the balance I ntr oduction to I nter national Accounting Standar ds sheet. For -example, among the current assets, the following might be shown if $1,500,000 of accounts Chapter 2 Balance Sheetto be pledged as collateral for a $1,200,000 bank loan: receivable were required Chapter 1

Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Accounts receivable pledged to bank

Chapter 4

- Cash Flow St at em ent

$1,500,000

Chapter 5

Financial I nstr uments—Cash and Receiv ables Included in- the current liabilities would be the following:

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Bank loan payable—secured by accounts receivable

$1,200,000

Chapter 9

- I ntangi ble Asset s Valuation accounts.

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm are ent used Pr operto tyreduce or increase the carrying amount of some assets and liabilities in Valuation accounts Chapter 11 Business Combinations Consolidatreduces ed Fin ancial Statements financial statements. Accumulated and depreciation the book value for property, plant, and Chapter 10 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he equipment, Chapter 12 - and a bond premium (discount) increases (decreases) the face value of a bond payable as Balance Sheet Date

shown in the following illustrations:

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Equipment

Chapter 15 - I ncom e Taxes

$18,000,000

Less accumulated depreciation Chapter 16 - Em ploy ee Benefit s

(1,625,000)

Chapter - Stock holder s' Equit y Bonds17 payable

$20,000,000

Chapter 18 - Earnings Per Share

Less discount on bonds payable

(1,300,000)

Chapter 19 - I nterim Financial Repor ting

Bonds20 payable Chapter - Segm ent Repor ting

$16,375,000

$18,700,000

$20,000,000

Chapter 21 - Accounting rection of Er ror s Add premium on bondsChanges payableand Cor1,300,000 $21,300,000 Chapter 22 - For eign Curr ency Chapter 23 - RelatedPart y Disclosures Accounting policies. Chapter 24 - Specialized I ndustr ies

There are different methods of valuing assets and assigning costs. IAS 1 requires financial Chapter 25 many - I nflation and Hyperinflation statements include clear and Chapter 26 - to Gov er nm ent Gr an ts concise disclosure of all significant accounting policies that have been used in the of those financial statements. Financial statement users must be aware of the Appendix A - preparation Di sclosure Checklist

accounting policies used by enterprises so that sound economic decisions can be made. The disclosures should identify and describe the accounting principles followed by the entity and methods of Appendix C - Com parison of I AS, US GAAP, and UK GAAP applying those principles that materially affect the determination of financial position, changes in cash I ndex flows, or results of operations. The accounting policies should encompass those accounting principles List of Tables and methods that involve the following: Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

List of Ex hibits and Ex am ples

1. Selection from acceptable alternatives

List of Sidebar s

2. Principles and methods peculiar to the industry 3. Unique applications of IAS

Fairness exception under IAS 1. In what has become a somewhat controversial move, the IASC inserted what may be called a "fairness exception" in IAS 1. This acknowledges that, while the use of IAS will result in virtually all

circumstances in financial statements that achieve a fair presentation, in some instances this may not be the case. In such eventualities, IAS 1 permits departure from the standards to achieve the greater good of fair presentation, provided, that the following: W ile y I AS 2 0 03 : Ihowever, n t erp re t at ionthe anenterprise d Ap p licatdiscloses io n o f I n t er n at has ion alconcluded Accou n t in g St anfinancial d ar ds statements fairly present the entity's financial 1. That management that the ISBN:0471227366 by Bar r yperformance, J. Epstein andand Abbas Aliflows; position, financial cash Mir za John has Wi ley & Sons ©in2003 (952 pages) 2. That the entity complied all material respects with applicable IAS except that it departed from a standard to pact achieve fair com presentation; This com and a t ruly pr ehensiveand qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in thethe prepar at ion under standing of financial 3. The standard from which entity hasand departed; the nature of the departure, including the ed in accordance with I AS. accountingstatements treatment present which the standard would have required; the reason why that treatment have T ab le of would Con t en t s been misleading in the circumstances; the alternative treatment which was in fact applied; and the financial impact of the departure on profit or loss, assets, liabilities, equity, and Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing cash flows for each period presented. Standar ds Preface

It might be noted that in the US, while there is no similar exception under the accounting standards, - I ntr oduction to I nter national Accounting Standar ds under US auditing standards there is a provision that an unqualified opinion may be rendered even Chapter 2 - Balance Sheet when there has been a GAAP departure, if the auditor concludes that it provides a fairer presentation I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent than would Chapter 3 - have resulted had GAAP been strictly adhered to. Under IAS, this logic is built into the of Recognized Gains and Losses accounting standards themselves, and thus is not dependent upon the level of service, if any, being Chapter 4 - Cash Flow St at em ent rendered by an independent accountant, but rather makes it a management responsibility, including the Chapter 5 - Financial I nstr uments—Cash and Receiv ables need to disclose the logic and the financial statement impact. Chapter 1

Chapter 6

- I nventor y

Chapter 7 - Revthat enuedisclosure Recogni tion, I ncluding Constr Contr act IAS 1 requires of these policies beuction an integral parts of the financial statements. It

recommends that these policies be disclosed in one location rather than being scattered throughout the Chapter 8 - Property , Plant , and Equipment footnotes. it makes Chapter 9 -Though I ntangi ble Asset sit mandatory on enterprises to disclose all significant accounting policies, IAS 1 also recognizes disclosure cannot anes, incorrect or inappropriate treatment. Three I nterests inthat Financial Instr um ent s,rectify Associat Joint Ventur es, and considerations I nvestm that govern ent Pr oper thetyselection and application of the appropriate accounting policies are

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements 1. Prudence Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balance Sheet Date 2. Substance over form

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

3. Materiality Chapter 14 - Leases Chapter 15 - I ncom e Taxes

The IASC not only encourages enterprises to present financial statements in conformity with the standards but also requires enterprises to disclose whether they have complied with or departed from Chapter 17 - Stock holder Equit y the requirements of the s'standards (IAS 1 and the IASC's Framework). Chapter 16 - Em ploy ee Benefit s

Chapter 18 - Earnings Per Share Chapter 19 - I nterimdisclosures. Financial Repor ting Related-party Chapter 20 - Segm ent Repor ting

According IAS 24, financial statements should Chapter 21 -toAccounting Changes and Cor rection of include Er ror s disclosure of material related-party transactions that areCurr defined Chapter 22 - For eign ency by the standard as "transfer of resources or obligations between related parties,23 regardless whether a price is charged." Chapter - Related-of Part y Disclosures Chapter 24 - Specialized I ndustr ies

Arelated party is essentially any party that controls or can significantly influence the financial or

Chapter 25 decisions - I nflation of and operating theHyperinflation company to the extent that the company may be prevented from fully Chapter 26 Gov er nm ent GrSuch an ts groups would include associates, investees accounted for by the pursuing its own interests. Appendix A - Di sclosure Checklist equity method, trusts for the benefit of employees, principal owners, key management personnel, and Appendix B I llustrativ e Financial St atemorent s Pr esent ed Under I AS immediate family members of owners management. Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Disclosures should take place even if there is no accounting recognition made for such transactions I ndex (e.g., a service is performed without payment). Disclosures should generally not imply that such List of Tables

related-party transactions were on terms essentially equivalent to arm's-length dealings. Additionally, when one or more companies are under common control such that the financial statements might vary List of Sidebar s from those that would have been obtained if the companies were autonomous, the nature of the control relationship should be disclosed even if there are no transactions between the companies. List of Ex hibits and Ex am ples

The disclosures generally should include 1. Nature of relationship 2. Description of transactions and effects of such transactions on the financial statements for each period for which an income statement is presented

3. Dollar amount of transactions for each period for which an income statement is presented and effects of any change in establishing the terms of such transactions different from that used in prior periods W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

4. Amounts due to and from such related parties as of the ISBN:0471227366 date of each balance sheet presented by Bar r y J. Epstein and Abbas Ali together with the terms and manner of settlement Mir za John Wi ley & Sons © 2003 (952 pages)

Reporting comparative amounts for the preceding period. This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

IAS 1 requires that financialinstatements show corresponding figures for the preceding period. To assistance the preparshould at ion and under standing of financial increase the usefulness of financial statements, manywith companies include in their annual reports five- or statements present ed in accordance I AS. ten-year summaries of condensed financial information. These comparative statements allow T ab le of Con t en t s investment analysts and other interested readers to perform comparative analysis of pertinent Wiley I AS 20 03—Int er pretation and Application of I nternational Account information. The presentation of comparative financial statements in ing annual reports enhances the Standar ds usefulness of such reports and brings out more clearly the nature and trends of current changes Preface affecting the enterprise. Such presentation emphasizes the fact that the statements for a series of Chapter 1 - I ntr oduction to I nter national Accounting Standar ds periods are far more significant than those for a single period and that the accounts for one period are Chapter 2 - BalanceofSheet but an installment what is essentially a continuous history. Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

of Recognized Gains and Losses When comparative financial statements are presented (as they normally will be), the related footnote Chapter 4 - must Cash Flow St atpresented em ent disclosures also be on a comparative basis, except for items of disclosure that would Chapter 5 - Financial uments—Cash and Receiv ables be not meaningful, orI nstr might even be confusing, if set forth in such a manner. Although there is no Chapter - I nventor y official 6guidance on this issue, certain details, such as schedules of debt maturities as of the year earlier balance date, would of littleConstr interest to users Chapter 7 - Rev sheet enue Recogni tion, Ibe ncluding uction Controf actthe s current statements and would be largely 8redundant with information provided for the more recent year-end. Accordingly, such details are Chapter - Property , Plant , and Equipment often omitted from comparative financial statements. Another example of superfluous comparative data Chapter 9 - I ntangi ble Asset s is the amount of undrawn borrowing the earlier year-end. other disclosures, however, I nterests in Financial Instrcapacity um ent s, at Associat es, Joint VenturMost es, and Chapter 10 continue to be meaningful andtyshould be presented for all years for which basic financial statements I nvestm ent Pr oper are displayed. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Subsequent events. Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

The balance sheet is dated as of the last day of the fiscal period, but a period of time may elapse before the financial statements are actually prepared and issued. During this period, significant events Chapter 15 - I ncom e Taxes or transactions may have occurred that materially affect the company's financial position. These events Chapter 16 - Em ploy ee Benefit s and transactions are usually referred to as subsequent events. IAS 10 refers to them as "events after Chapter 17 - Stock holder s' Equit y the balance sheet date." If not disclosed, significant events occurring between the balance sheet date Chapter 18 - Earnings Per Share and issue date could make the financial statements misleading. Chapter 14 - Leases

Chapter 19 - I nterim Financial Repor ting Chapter There are 20 two - Segm types ent of Repor subsequent ting events described by IAS 10. The first type consists of events that

provide21 additional evidence with and respect to conditions existed at the date of the balance sheet and Chapter - Accounting Changes Cor rection of Er rorthat s which affect theeign estimates inherent in the process of preparing financial statements. The second type Chapter 22 - For Curr ency consists23of- events that evidence with respect to conditions that did not exist at the date of the Chapter RelatedPartprovide y Disclosures balance24sheet being reported Chapter - Specialized I ndustron ies but arose subsequent to that date (and prior to the actual issuance of the financial Such post-balance-sheet events require either adjusting the financial Chapter 25 - I statements). nflation and Hyperinflation

statements or only disclosing them, depending on the character and timing of the event in question. The characterization of these events as being either adjusting or nonadjusting events is not unique to Appendix A - Di sclosure Checklist the international accounting standards. In fact, this terminology is found in other (i.e., national) Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS accounting standards, such as UK GAAP. Chapter 26 - Gov er nm ent Gr an ts

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex Examples of post-balance-sheet date events List of Tables

1. A loss on an uncollectible trade account receivable as a result of a customer's deteriorating financial condition leading to bankruptcy subsequent to the balance sheet date would usually List of Sidebar s (but not always) be indicative of conditions existing at the balance sheet date, thereby calling for adjustment of the financial statements before their issuance. On the other hand, a loss on an uncollectible trade account receivable resulting from a customer's major casualty, such as a fire or flood subsequent to the balance sheet date, would not be indicative of conditions existing at the balance sheet date, and adjustment of the financial statements would not be appropriate. However, if the amount is material, disclosure would be required. List of Ex hibits and Ex am ples

2. A loss arising from the recognition after the balance sheet date that an asset such as plant and

2. equipment had suffered a material decline in value arising out of reduced marketability for the product or service it can produce. Such a reduction would be considered an economic event in process atWthe balance would require adjustment ile y I AS 2 0sheet 03 : I ndate t erpand re t at ion an d Ap p licat io n o f and recognition of the loss. I n t er n at ion al Accou n t in g St an d ar ds

3. Nonadjusting events, which are those not existing at theISBN:0471227366 balance sheet date, require disclosure by Bar r y J. Epstein and Abbas Ali but not adjustment. These could include Mir za John ley &or Sons © 2003 (952 issue pages) after the balance sheet date, even if planned before of aWibond share capital a. Sale thatThis date. com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance the prepar iontransaction and under standing of financial b. Purchase of ainbusiness, if at the is consummated after year-end. statements present ed in accordance with I AS.

c. Settlement of litigation when the event giving rise to the claim took place subsequent to T ab le of Con t en t s the balance sheet date. The settlement is an economic event that would be accounted for Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing in the period of occurrence. (However, if the event occurred before the balance sheet Standar ds date, IAS 37 would require that the estimated amount of the contingency be accrued, in Preface most instances, as discussed further in the next section of this chapter.) Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance d. Loss ofSheet plant or inventories as a result of fire or flood.

Chapter 3

-

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

e.of Losses on receivables resulting from conditions (such as a customer's major casualty) Recognized Gains and Losses arising Chapter 4 - Cash Flowsubsequent St at em ent to the balance sheet date.

Chapter 8

f. Gains or losses on certain marketable securities.

- Property , Contingencies.

Chapter 9

Plant , and Equipment

- I ntangi ble Asset s

I nterests in Financial Instr um ent Associat es, 37 Joint Ventur es, and Contingencies are defined and described bys,IAS 37. IAS has created a complex typology comprised Chapter 10 I nvestm ent Pr oper ty

of provisions and contingencies. Under this standard, the term "provisions" is used in the sense that

Chapter 11 -liabilities Businesswas Combinations Consolidat ed Fin ancial Statements contingent employed and under a predecessor standard—to denote those contingencies that Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he are deemed Chapter 12 - probable of occurrence and are no longer considered to be contingent at all, but rather Balance Sheet Date

merely uncertain as to timing and/or amount.

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 -37, Leases Under IAS the term contingencies is reserved for those potential obligations which are not to be Chapter accrued15and - I ncom formally e Taxes reported in the balance sheet. In other words, contingencies that are not remote

must be16disclosed notes. Chapter - Em ployin eethe Benefit s Chapter 17 - Stock holder s' Equit y

Apart from the terminological changes (which admittedly do have the potential to confuse), the actual accounting requirements are essentially unchanged. Provisions are to be accrued by a charge to Chapter 19 - I nterim Financial Repor ting income and the recording of a liability if Chapter 18 - Earnings Per Share

Chapter 20 - Segm ent Repor ting

a present obligation a ror result 1. The Chapter 21 - enterprise Accountinghas Changes and Cor rection as of Er s of past events; Chapter 22 - For eign Curr ency

2. It is probable that an outflow of the enterprise's resources will be required; and

Chapter 23 - Related- Part y Disclosures Chapter 3. A 24reliable - Specialized estimate I ndustr can ies be made of the amount. Chapter 25 - I nflation and Hyperinflation

If an estimate cannot be made for the obligation with a reasonable degree of certitude, accrual is not prescribed, but rather disclosure in the notes to the financial statements is needed.

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

Appendix B - I llustrativ Financial s Pr ed Under I AS above, but which are more than For obligations whichedo not riseSttoatem the ent level ofesent probable as used Appendix C Com parison of I AS, US GAAP, and UK GAAP remote in terms of likelihood of occurrence, disclosure in the notes is mandated. In general, unless the I ndex obligation is deemed more than remote, disclosure is not required. However, it should be noted that List of Tables common practice has long been to disclose certain categories of remote contingencies; an example is List of Ex hibits and guarantee Ex am ples of the indebtedness of another party, even if it is not anticipated presently disclosure of the

thatofthe enterprise will be asked to honor that guarantee following a failure to perform by the primary List Sidebar s obligor. No disclosure is required for unasserted claims or assessments when no act by the potential claimant has transpired to suggest that there is an intent to make a claim. Also, general or unspecific business risks (e.g., the inherent possibility that foreign operations could be affected by changes in government) are neither accrued for nor disclosed. Examples of loss contingencies 1.

1. Collectibility of receivables 2. Obligations related to product warranties and product defects

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

3. Risk of loss or damage of enterprise property by fire, explosion, or other hazards by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za 4. Threat of expropriation of assets John Wi ley & Sons © 2003 (952 pages)

5. Pending orThis threatened com pact litigation and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

6. Actual or possible claims assessments assistance in theand prepar at ion and under standing of financial statements present ed in accordance with I AS.

7. Risk of loss from catastrophes assumed by property and casualty insurance companies T ab le of Con t en t s including reinsurance companies Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar 8. ds Guarantees of indebtedness of other entities Preface

9. Obligations of commercial banks Accounting under standby letters Chapter 1 - I ntr oduction to I nter national Standar ds of credit Chapter 2

- Balance Sheet

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

10. Agreements to repurchase receivables (or to repurchase the related property) that have been I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter sold 3 of Recognized Gains and Losses Accrual and disclosure of loss contingencies should be based on an evaluation of the facts in each - I nventor y particular case. Accrual is not a substitute for disclosure, and disclosure is not a substitute for accrual.

Chapter 6 Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

An estimated gain from a gain Chapter 8 - Property , Plant , andcontingency Equipment usually is not reflected in the accounts since to do so might be to recognize revenue prior Chapter 9 - I ntangi ble Asset s to its realization. Adequate disclosure of the gain contingency shall be made, but care must be taken to Instr avoidummisleading implications as to the of realization. I nterests in Financial ent s, Associat es, Joint Ventur es, likelihood and

Chapter 10 -

I nvestm ent Pr oper ty

Contracts and negotiations. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - contractual agreements and negotiations should be disclosed in the footnotes to the All significant Balance Sheet Date

financial leaseTer contract Chapter 13statements. - Financial IFor nstrexample, uments—Longm Debtprovisions, pension obligations, requirements contracts, indenture covenants, and stock option plans should be clearly disclosed in the Chapter 14 bond - Leases footnotes. Chapter 15 - I ncom e Taxes

Chapter 16 - Em ploy ee Benefit s

Other disclosures required by IAS 1.

Chapter 17 - Stock holder s' Equit y

Chapter 18 added - Earnings Per Share IAS 1 has several new, required disclosure items. If not otherwise disclosed within the financial Chapter 19 - Ithese nterimitems Financial Repor statements, should be ting reported in the footnotes. Chapter 20 - Segm ent Repor ting

1. The domicile and legal form of the entity, its country of incorporation, and the address of the registered office (or principal place of business, if different);

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Chapter 2. A 23description - Related- Part of the y Disclosures nature of the enterprise's operations and its principal activities; Chapter 24 - Specialized I ndustr ies

3. The name of the parent entity and the ultimate parent of the group; and

Chapter 25 - I nflation and Hyperinflation

Chapter 26 - number Gov er nmofent Gr an ts either at the end of the period or an average during the period being 4. The employees Appendixreported A - Di sclosure Checklist upon. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

These disclosures (which beenand modeled on those already imposed under UK GAAP) are Appendix C - Com parison of may I AS, have US GAAP, UK GAAP particularly of interest given the multinational character of many enterprises reporting in conformity with I ndex IAS. List of Tables List of Ex hibits and Ex am ples

Balance Sheet Format

List of Sidebar s

The format of a balance sheet is not presently specified by International Accounting Standards but has become established as a matter of tradition and, in some circumstances, as a result of specific industry practices. However, the appendix to IAS 1 gives an example of a balance sheet format but also clarifies that it be considered as an example of the way in which the requirements of the proposed standard might be put into practice. In general, the two types of formats are the report form and the account form. In the report form the

balance sheet continues line by line from top to bottom as follows: Assets

W ile y I AS 2 0 03 : I n t erp re$xxx t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Liabilities

$xxx

by Bar r y J. Epstein and Abbas Ali Mir za Stockholders' equity xxx John Wi ley & Sons © 2003 (952 pages)

Total liabilities and stockholders' equity

ISBN:0471227366

$xxx

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for In the account form the balance sheet appears in a balancing concept with assets on the left and assistance in the prepar at ion and under standing of financial liabilities and equity amountspresent on theed right as follows: with I AS. statements in accordance T ab le of Con t en t s

Assets

$ xxx

Liabilities

$ xxx

$ xxx

Total liabilities and stockholders' equity

$ xxx

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Stockholders' equity xxx Preface

Total assets

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2 - Balance Sheet presented in Schedule 4 to the UK Companies Act of 1985, wherein a net The balance sheet format I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent asset total Chapter 3 -is presented (as a total of assets minus liabilities) as being equal to equity plus reserves, Recognized Gains and may be seenofas a third variation, andLosses is known as the UK GAAP format. This is, in fact, a report format, Chapter 4 - Cash Flowwith St atmerely em ent a minor alteration made to explicitly reveal the equality between net as illustrated above, Chapter Financial assets 5and- net worth.I nstr uments—Cash and Receiv ables Chapter 6

- I nventor y The format the balance sheet illustrated by the appendix tosIAS 1 is the following: Chapter 7 - of Rev enue Recogni tion,as I ncluding Constr uction Contr act Chapter 8

- Property , Plant , and Equipment

Chapter XYZ Limited 9 - I ntangi Consolidated ble Asset sBalance Sheet as at 31 December 2002 (in thousands of currency

units)

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

2002

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Assets

Chapter 12 -

2002

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Noncurrent assets:

2001

x

x

x

x

Goodwill Chapter 16 - Em ploy ee Benefit s

x

x

Chapter 17 - Stock holder s' Equit y

x

x

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leasesplant and equipment Property, Chapter 15 - I ncom e Taxes

Investments in associates

2001

Chapter 18 - Earnings Per Share

Chapter 19 - I nterim Financial Other financial assetsRepor ting

x

xx

x

xx

Chapter 20 - Segm ent Repor ting

Current assets:

Chapter 21 - Accounting Changes and Cor rection of Er ror s

x

x

Trade and otherI ndustr receivables Chapter 24 - Specialized ies

x

x

Chapter 25 - I nflation and Hyperinflation

x

x

Chapter 22 - For eign Curr ency Inventories Chapter 23 - Related- Part y Disclosures

Prepayments

Chapter 26 - Gov er nm ent Gr an ts Appendix Cash A - Di sclosure and cashChecklist equivalents

x

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

xx

x

xx

assets Appendix Total C - Com parison of I AS, US GAAP, and UK GAAP

xx xx

I ndex Equity and Liabilities List of Tables

Capital and reserves

List of Ex hibits and Ex am ples

x

x

Reserves (Note__)

x

x

Accumulated profit (losses)

x

List of Sidebar s capital (Note__) Issued

Minority interest Noncurrent liabilities:

xx xx

x

xx xx

Interest-bearing borrowings

x

x

ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io x n of Deferred W taxes I n t er n at ion al Accou n t in g St an d ar ds

Retirement by benefit Bar r y J.obligations Epstein and Abbas Ali

x

x xx ISBN:0471227366

x

xx

Mir za Current liabilities: John Wi ley & Sons © 2003 (952 pages)

x This compayables pact and t ruly com pr ehensive qui ck - refer ence Trade and other

x

pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of xfinancial Short-term borrowings statements present ed in accordance with I AS.

Current T ab le of Con t en t sportion of interest-bearing borrowings

x

x

x

Wiley I AS 20 03—Int er pretation and Application of I nternational Account x ing Warranty provisions Standar ds

xx

Preface

xx

Total equity and liabilities

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

x

xx xx

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

First-Time Application IAS of Recognized Gains and of Losses

Chapter 3 Chapter 4

- Cash Flow St at em ent

International accounting standards, gaining wide acceptance over the years (and shortly, due to the - Financial I nstr uments—Cash and Receiv ables decree by the EC, to be adopted by as many as 7,000 more companies), have been used to prepare Chapter 6 - I nventor y financial statements by entities which previously had reported in compliance with some other generally Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s accepted set of accounting principles (national standards of one jurisdiction or another). Questions Chapter 8 - Property , Plant , and Equipment have arisen regarding the nature, if any, of adjustments to be made in the initial adoption of IAS, and of Chapter 9 I ntangi ble Asset s any expanded disclosures necessitated by the change from one method of reporting to another. Chapter 5

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

I nvestm ent SIC Pr oper An early interpretation, 8, ty which presently remains in effect, states that in the period of first-time Chapter 11 - of Business and Consolidat edthe Fin ancial Statements application IAS as Combinations the primary accounting basis, financial statements of an enterprise, including comparative Curr information, ent Liabilitshould ies, Prov be isions, prepared Contand ingencies, presented and Ev as ents if theafter financial t he statements had always Chapter 12 Balance Sheet Datewith the IAS effective for the period of first-time application. Therefore, been prepared in accordance Chapter 13 - Financial I nstr uments—LongDebt retrospectively, except when Standards and the Standards and Interpretations are to Ter be m applied Chapter 14 Leases Interpretations require or permit a different transitional treatment or when the amount of the adjustment Chapter relating15 to -prior I ncom periods e Taxes cannot be reasonably determined. Adjustment amounts are to be treated as an adjustment opening balance of retained earnings of the earliest period presented in accordance Chapter 16 - to Emthe ploy ee Benefit s with IAS. If adjustments relating to prior periods or comparative information cannot be determined, the Chapter 17 - Stock holder s' Equit y fact must be disclosed in the notes. Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting

SIC 8 thus requires that the body of IAS in effect in the period when the adoption is effected are to be applied to all prior periods being reported on, explicitly (via comparatives) or implicitly (in the adjustment Chapter 21 - Accounting Changes and Cor rection of Er ror s to beginning retained earnings of the earlier comparative period displayed). It is not necessary, or Chapter 22 -toFor eign Curr ency permitted, attempt to identify the effective dates when specific standards would have first impacted Chapter 23 RelatedPart y Disclosures the financial statements. This was done as a pragmatic solution to what would otherwise have been, for Chapter 24 - Specialized ndustr ies undertaking (and one which might well have dissuaded some from many reporting entities,I a massive Chapter 25IAS). - I nflation and Hyperinflation adopting Chapter 20 - Segm ent Repor ting

Chapter 26 - Gov er nm ent Gr an ts

Currently, has exposed a new standard, First-Time Application of IFRS, which would supercede Appendix A IASB - Di sclosure Checklist

SIC 8 and someeofFinancial the present procedures for ed implementation of IAS-compliant financial reporting. Appendix B -alter I llustrativ St atem ent s Pr esent Under I AS

The proposal differs from SIC 8 in (1) creating targeted exemptions, notably in specified areas where retrospective application is likely to cause undue cost or effort, while SIC 8 contained less specific I ndex exemptions that applied when retrospective application would be impracticable; (2) clarifying that an List of Tables entity applies only the latest version of IFRS, if the exemptions are applied; (3) clarifying how a firstList of Ex hibits and Ex am ples time adopter's estimates under IFRS relate to the estimates it made for the same date using its List of Sidebar s previous basis of accounting; (4) specifying that the transitional provisions in other IFRS do not apply to a first-time adopter; and (5) requiring enhanced disclosure about how the transition to IFRS affected an entity's reported financial position, financial performance, and cash flows. Appendix C - Com parison of I AS, US GAAP, and UK GAAP

If adopted, the standard will require that an entity adopting IAS (which are now called IFRS) for the first time will need to prepare an opening IFRS balance sheet at the beginning of the earliest comparative period presented in its first IFRS financial statements (to be known as the "date of transition to IFRS"). Thus, if an entity's first IFRS financial statements are for the year ended 31 December 2005, it will need to prepare an opening IFRS balance sheet at 1 January 2004 (or earlier, if it presents comparative

information for more than a single year). It would Recognize all assets and liabilities whose recognition is required by IFRS W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Not recognize items as assets or liabilities if IFRS do not permit such recognition by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir zathat the entity recognized under its previous basis of accounting (previous GAAP) Reclassify items John Wi ley & Sons 2003 (952 pages) as one type of asset, liability or ©component of equity, but are a different type of asset, liability or This com pact and t ruly com pr ehensive qui ck - refer ence component of equity under IFRS, and pr esent s account ants with a guide to depend on for in all therecognized prepar at ionassets and under Apply IFRS inassistance measuring and standing liabilitiesof financial statements present ed in accordance with I AS.

The proposed standard would permit limited exemptions from the above requirement, which would be optionally available to the reporting entity. The standard would, however, require that, if an entity uses Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing any of ds the exemptions, it would have to apply all applicable exemptions. Standar

T ab le of Con t en t s

Preface

These proposed exemptions fall into three categories. First, since determination of cost-based - I ntr oduction to I nter national Accounting Standar ds measurements long after acquisition dates of assets (or incurrence date of liabilities) is expected to be Chapter 2 - Balance Sheet would require an entity to measure some assets, liabilities, and components problematic, the proposal I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of equity Chapter 3 on - a different basis and use that measurement as a deemed cost. This requirement would of Recognized Gains and Losses apply only to (1) property, plant and equipment; (2) goodwill and other assets and liabilities acquired in Chapter 4 - Cash Flow St at em ent business combinations recognized before the date of transition to IFRS; (3) net employee benefit Chapter - Financial I nstrdefined uments—Cash Receiv ables assets 5or liabilities under benefitand plans (at the date of transition to IFRS, an entity would Chapter 6 I nventor y measure them in accordance with IAS 19, except that no actuarial gains or losses would remain Chapter 7 - Rev and enue(4) Recogni tion, I ncluding Constr uction Contr act s to a net investment in a foreign unrecognized); cumulative translation differences relating Chapter 8 Property , Plant , and Equipment operation. Chapter 1

Chapter 9

- I ntangi ble Asset s

Second, IASB has acknowledged thatum some under I nterests in Financial Instr ent s,amounts Associat determined es, Joint Ventur es, prior and accounting standards Chapter 10 may have been based valuations rather than on original cost, and in some instances those amounts I nvestm enton Pr oper ty will be found to be more relevant, notwithstanding the from the cost basis. Accordingly, the Chapter 11 - Business Combinations and Consolidat ed Findeparture ancial Statements proposed standard will permit the use of the previously ascertained valuations, in lieu of cost, in two Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 Balanceeven Sheet Datecost data could be reconstructed without undue effort or expense. defined situations, when Chapter 13 - Financial I nstr uments—Long- Ter m Debt

The first such situation pertains to prior revaluations which were accomplished by means of applying general or specific price indices to cost amounts that were broadly comparable to those which would Chapter 15 - I ncom e Taxes have been determined under IFRS. It furthermore pertains to those instances where prior revaluations Chapter 16 - Em ploy ee Benefit s were effected in ways that approximated what would have been identified as the corresponding fair Chapter 17 - Stock holder s' Equit y values as defined under IFRS. In both these scenarios, the reporting entity will be allowed to carry Chapter 18 - Earnings Per Share forward these revalued amounts as "deemed costs" under IFRS. Chapter 14 - Leases

Chapter 19 - I nterim Financial Repor ting Chapter The other 20 case - Segm involves ent Repor theting situation where an entity had established a deemed cost under previous

GAAP for or all ofChanges its assets and them at their fair values at one particular Chapter 21 some - Accounting and Corliabilities rection ofby Ermeasuring ror s date, because anCurr event such as a privatization or initial public offering. Such event-driven Chapter 22 - Forof eign ency measurements would establish a deemed cost at that date for subsequent accounting under IFRS. Chapter 23 - RelatedPart y Disclosures Chapter 24 - Specialized I ndustr ies

Third, the standard would prohibit the full retrospective application of IAS 39 in one area that relies on designation by management; namely, hedge accounting.

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Appendix A - Dientity sclosure Checklist If a reporting chooses to not use the exemptions discussed above, it would apply the IFRS that Appendix B - I llustrativ Financial St atem ent sthat Pr esent ed Under I AS need to consider superseded were effective in eache period. This means it might, therefore,

versionsCof- IFRS if later of versions prospective Appendix Com parison I AS, USrequired GAAP, and UK GAAPapplication. By contrast, if an entity uses the exemptions, it would apply only the latest version of IFRS. I ndex List of Tables

The proposal states that an entity's estimates under IFRS at the date of transition would be consistent with estimates made for the same date under previous GAAP (after adjustments to reflect any List of Sidebar s difference in accounting policies), unless there was objective evidence that those estimates had been in error. If estimates under IFRS at the date of transition need to be made, and corresponding estimates were not required under previous GAAP, those estimates would not be permitted to reflect conditions that arose after that date. In particular, estimates of market prices, interest rates or foreign exchange rates at the date of transition of IFRS would reflect market conditions at that date. Hindsight would not be permitted, in other words. List of Ex hibits and Ex am ples

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Chapter 3: Income Statement, Statement of I n t er n at ion al Accou n t in g St an d ar ds ISBN:0471227366 Bar r y J. Epstein and Abbas Ali Changesby in Equity, and Statement of Recognized Mir za John Wi ley & Sons © 2003 (952 pages) Gains and Losses This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for in the prepar at ion and under standing of financial Perspectiveassistance and Issues statements present ed in accordance with I AS.

Inlediscussing T ab of Con t enthe t s concept of performance, the IASC's Framework for the Preparation and Presentation of Financial Statements statesand thatApplication profit is frequently used asAccount a measure Wiley I AS 20 03—Int er pretation of I nternational ing of performance. Historically, under ds all sets of extant accounting standards, the income statement has provided this vital piece of Standar information about what is sometimes referred to as the "bottom-line" for the enterprise, the ultimate Preface measure economic performance. However,Standar under both Chapter 1 of- entity I ntr oduction to I nter national Accounting ds IAS and various national GAAP

standards, the years Chapter 2 - over Balance Sheet a number of sources of changes in owner net worth, excluding investments

by or distributions to the owners themselves, have become excluded from this "bottom-line" measure,

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - reasons. For example, revaluations of plant assets, which are sanctioned by IAS 16, are not for various of Recognized Gains and Losses

considered be culminations of the normal earnings process (since commercial enterprises are not Chapter 4 - to Cash Flow St at em ent

typically5 organized toIspeculate on the changing values Chapter - Financial nstr uments—Cash and Receiv ables of their productive assets), and thus such items have been-relegated to equity accounts such as revaluation surplus. As a consequence, the income I nventor y statement cannot and does not purport to reveal the totality of economic changes in the enterprise for Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s the period. Chapter 6 Chapter 8

- Property , Plant , and Equipment

Chapter - I ntangi blethat Asset To deal9with the fact thes income statement has diverged increasingly from being a complete picture I nterests in Financial Instr ent s, Associat Joint of the economic changes affecting theum reporting entity es, over the Ventur coursees,of and a reporting period, accounting Chapter 10 I nvestm ent Pr oper ty standard setters in the US and the UK, as well as the IASB, have been deliberating the need either for Chapter 11 - Business and Consolidat ed Fin ancial Statements an expanded income Combinations statement (which would include the various changes which have, under the Currof entstandards, Liabilit ies, been Prov isions, Cont ingencies, and Ev ents after tor he"additional equity" respective sets consigned to assorted "contra equity" Chapter 12 Balance Sheet Date

accounts) or for a new financial statement which would summarize these changes in some other

Chapter fashion.13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

IASC had to require such a statement (which was tentatively called the statement of Chapter 15 proposed - I ncom e Taxes nonowner in equity) Chapter 16 -movements Em ploy ee Benefit s which would have included all non-income-statement changes in net worth other transactions, as well as net income. That proposal was not enacted, however, Chapter 17 - than Stockowner holder s' Equit y and the18 current standard, IAS 1, requires that one of two possible new financial statements be added to Chapter - Earnings Per Share that traditional set ofFinancial statements presented, with expanded footnote disclosures also needed under Chapter 19 - I nterim Repor ting certain conditions. These are each presented in detail, later in this chapter.

Chapter 20 - Segm ent Repor ting

Chapter 21 - Accounting Changes and rection of Er rormany s The traditional income statement hasCor been known by titles. The international accounting Chapter 22 For eign Curr ency standards, such as IAS 1 and IAS 8, refer to this statement as the income statement, but in the United Chapter 23 and - Relatedy Disclosures Kingdom certainPart developing countries it is also referred to as the profit and loss account; and in the Chapter - Specialized I ndustr ies as the statement of income, statement of earnings, or statement of United 24 States other names, such Chapter 25 - are I nflation and Hyperinflation operations, sometimes used. By whatever name, this statement is a major component of an entity's Chapter periodic26financial - Gov erreporting nm ent Gr an and ts captures most of the changes in the entity's economic position over the

course ofA the period, which is most often one year. Appendix - Direporting sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Since the late 1960s or early 1970s, the income statement has been widely perceived by investors, creditors, management, and other interested parties as the single most important of an enterprise's I ndex basic financial statements. Investors consider the past income of a business as the most useful List of Tables predictor of future earnings and performance, which in turn is widely deemed to be the best indicator of List of Ex hibits and Ex am ples future dividends and market stock price performance. In fact, the reason that many other changes in List Sidebar s as that resulting from changes in fair values of plant assets or investments, are netofworth, such excluded from the income statement is that these are not considered to be useful as predictors of future economic performance. Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Creditors look principally to the income statement for insight into the borrower's ability to generate the future cash flows needed to repay the obligations. (While the cash flow statement would appear more logically to be the source for these insights, that statement is a relatively late development and not universally understood yet; thus, traditionally, financial statement users have been more comfortable drawing these inferences from the income statement.) Management, then, must be concerned with the

income statement by virtue of the importance placed on it by investors and creditors. Additionally, management uses the income statement as a gauge of its effectiveness and efficiency in combining the factors of production the2goods that it creates W ileinto y I AS 0 03 : I and/or n t erp reservices t at ion an d Ap p licat ioand n o f sells. I n t er n at ion al Accou n t in g St an d ar ds

The information provided by the income statement, relating to individual items of income and expense ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali and to different combinations of these items (such as the amounts reported as gross margin or profit Mir za before interest and taxes), of financial analysis, especially that relating to the John Wi leyfacilitates & Sons © the 2003process (952 pages) entity's profitability. Further, the manner of presentation of certain items of income and expense on the This com pact and t ruly com pr ehensive qui ck - refer ence face of the income statement can provide relevant information proper economic decision making. pr esent s account ants with a guide to depend onforfor assistance in the prepar at ion and under standing of financial

For one example statements of this last matter, it isinnormal practice distinguish between those items of income present ed accordance withtoI AS. and expense that arise from ordinary activities and those that do not. IAS 8 requires that income and T ab le of Con t en t s expenses (and profit or loss) from ordinary activities be disclosed separately on the face of the income Wiley I AS 20 distinguishing 03—Int er pretation Application of I nternational ing be identified clearly and statement, themand from any extraordinary items, Account which must Standar ds disclosed separately. The standard also requires that if individual items of income and expense within Preface profit or loss from ordinary activities, due to materiality considerations or because of their nature or Chapter 1 - I ntr oduction to I nter national Accounting Standar ds incidence, need disclosure to assist the user of the financial statements in understanding the Chapter 2 - Balance Sheet performance of the enterprise, these must be given separate disclosure. The paramount concern is that I ncom e users Statement, Stat ent of the Chan ges in y, and Statem ent financial statement be able toem assess ability ofEquit the enterprise to replicate the item and thus to Chapter 3 of Recognized Gains and Losses generate earnings and ultimately cash and cash equivalents in the future. Chapter 4

- Cash Flow St at em ent

Chapter 5 -toFinancial I nstr uments—Cash and Receiv ables The ability project future performance—whether in terms of earnings or cash flows—is dependent, Chapter among 6other - I nventor factors,y on consistency in financial reporting for a given entity over time as well as within a

reporting SIC Recogni 18 confirms belief Constr that, when Chapter 7 period. - Rev enue tion, Ithe ncluding uctionmore Contrthan act s one accounting policy is available under an or an SIC, an, and enterprise should choose and apply consistently one of those policies, Chapter 8 IAS - Property , Plant Equipment unless 9the -standard or Asset interpretation permits categorization of items for which different policies may be Chapter I ntangi ble s appropriate.I If a standard or an interpretation nterests in Financial Instr um ent s, permits Associatcategorization es, Joint Venturof es,items, and the most appropriate accounting policy should selected and applied to each category. Once an appropriate policy has I nvestm ent Prbe oper ty been selected, any change in policyand must be in accordance the requirements of IAS 8. Chapter 11 - Business Combinations Consolidat ed Fin ancialwith Statements Chapter 10 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter Much of12current accounting theory is concerned with the measurement of income. Even with the Balance Sheet Date

renewed in the balance sheet, the Chapter 13interest - Financial I nstr uments—LongTerincome m Debt statement remains of great importance to the

majority of financial statement users. This chapter focuses on key income measurement issues and on matters of income statement presentation and disclosure. It also explains and illustrates the Chapter 15 - I ncom e Taxes presentation of the new component of financial statements prescribed by IAS 1, statement of changes Chapter 16 - Em ploy ee Benefit s in equity (or, alternatively, the statement of recognized gains and losses together with the required Chapter 17 - Stock holder s' Equit y footnote disclosure). Chapter 14 - Leases

Chapter 18 - Earnings Per Share

Chapter 19 -added, I nterimin Financial Repor ting IAS 1 has a somewhat controversial move, what may be deemed a "fairness exception" to Chapter compliance 20 - Segm with IAS. ent Repor If management ting concludes that application of a particular provision of a standard

would cause the financial statements to rection be misleading, Chapter 21 - Accounting Changes and Cor of Er ror sit may choose to depart from that provision in order to22achieve a fair presentation. In such circumstances, however, the fact of the departure, the Chapter - For eign Curr ency nature of treatment which IAS would have required, and why it was deemed to be misleading, Chapter 23 it, - the RelatedPart y Disclosures must all24be- included in the notes Chapter Specialized I ndustr ies to the financial statements. Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Sources of IAS

Appendix A - Di sclosure Checklist IAS 1, 8, 14, 16, 18, 21, 25, 30, 35, 36, 37, 38, 39, 40 Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

SIC 8, 18, 29 Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables

IASC's Framework for the Preparation and Presentation of Financial Statements

List of Ex hibits and Ex am ples List of Sidebar s

ile yTerms I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f DefinitionsWof I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

Elements of Statements MirFinancial za

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence

Comprehensive income pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial The change in equity of an entity during a period from transactions and other events statements present ed in accordance with I AS. and circumstances from nonowner sources. It includes all changes in equity during a T ab le of Con t en tperiod, s except those resulting from investments by owners and distributions to owners. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Expenses Preface Chapter 2

- I ntrDecreases oduction to in I nter nationalbenefits Accounting Standar ds economic during the accounting period in the form of outflows - Balance Sheet or depletions of assets or incurrences of liabilities that result in decreases in equity,

Chapter 3

-

Chapter 4 Chapter 5

- Cash Flow St at em ent international standard differs from its US counterpart, which deems losses to be a - Financial I nstr uments—Cash and Receiv separate and distinct element to be ables accounted for, denoting decreases in equity from

Chapter 6

peripheral or incidental transactions. - I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 1

other than thoseStat relating to of distributions equity participants. I ncom e Statement, em ent Chan ges in to Equit y, and Statem entThe term expenses is of Recognized Gains and Losses broad enough to include losses as well as normal categories of expenses; thus, the

Income - Property , Plant , and Equipment Increases in seconomic benefits during the accounting period in the form of inflows or Chapter 9 - I ntangi ble Asset enhancements of Instr assets in increases in equity, other than those relating to I nterests in Financial umthat ent s,result Associat es, Joint Ventur es, and Chapter 10 contributions from I nvestm ent Pr oper ty equity participants. The IASC's Framework clarifies that this definition of income and encompasses both and gains. Again, the corresponding Chapter 11 - Business Combinations Consolidat ed Finrevenue ancial Statements US accounting standard holds that revenues and gains constitute two separate Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 elements financial reporting, with gains denoting increases in equity from peripheral Balance SheetofDate or incidental transactions.Ter m Debt Chapter 13 - Financial I nstr uments—LongChapter 8

Chapter 14 - Leases

Statement of changes in equity

Chapter 15 - I ncom e Taxes

Chapter 16 - Em As ployprescribed ee Benefit sby IAS 1, an enterprise should present, as a separate component of

financial statements, along with the traditional financial statements, a statement Chapter 17 - Stock holder s' Equit y showing Chapter 18 - Earnings Per Share

The netRepor profitting or loss for the period; Chapter 19 - I nterim1.Financial Chapter 20 - Segm ent Repor ting

2. Items of income (including gain) and expense (including loss) that are recognized in equity, as required by this standard, and the total of these items;

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Chapter 23 - Relatedy Disclosures 3.Part The cumulative effect of changes in accounting policy and the correction of Chapter 24 - Specializedfundamental I ndustr ies errors (when the benchmark treatment, retrospective application Chapter 25 - I nflation and andHyperinflation adjustment of beginning retained earnings, respectively, is elected under Chapter 26 - Gov er nm ent IASGr8); an ts Appendix A - Di sclosure Checklist

4. Capital transactions and distributions with/to owners of the enterprise;

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Appendix C - Com parison of balance I AS, US GAAP, and UK GAAP 5. The of accumulated profit or loss at the beginning of the period and at I ndex the balance sheet date, and the movements for the period; and List of Tables

6.amAples reconciliation between the carrying amounts of each class of equity capital, List of Ex hibits and Ex List of Sidebar s

share premium and each reserve at the beginning and the end of the period, separately disclosing each movement.

Statement of recognized gains and losses As an alternative to a statement of changes in equity (above), as prescribed by IAS 1, an enterprise may present, along with the traditional financial statements, a statement of recognized gains and losses. This statement highlights items of income and expense that are not recognized in the income statement, and it reports all changes in equity, including net income, other than those resulting from investments by and

distributions to owners (items 1-3 shown under the foregoing should be presented in this statement). When an enterprise chooses to present the statement of recognized gains losses, additionally, to the financial W ileand y I AS 2 0 03it: should, I n t erp re t at ion an d present Ap p licatiniofootnotes n of statements, items 4 to 6 shown under the discussion of the statement of changes in I n t er n at ion al Accou n t in g St an d ar ds equity, above. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

Other Terminology

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with aaguide to dependoperation" on for Discontinuing operations. IAS 35 defines "discontinuing as a component of an enterprise assistance in the prepar at ion and under standing of financial 1. That the enterprise, to in a single plan, with is disposing of substantially in its entirety, such as statementspursuant present ed accordance I AS.

by selling the component in a single transaction, by demerger or spin-off of ownership of the component to the enterprise's shareholders; is disposing of piecemeal, such as by selling off the Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing component's assets and settling its liabilities individually; or is terminating through abandonment;

T ab le of Con t en t s Standar ds

Preface 2. That represents a separate major line of business or geographical area of operations; and Chapter 1 - I ntr oduction to I nter national Accounting Standar ds

3. That can be distinguished operationally and for financial reporting purposes. Chapter 2 - Balance Sheet I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 Extraordinary item. Events andand transactions that are clearly distinct from the ordinary activities of the of Recognized Gains Losses

enterprise areFlow distinguished Chapter 4 -and Cash St at em ent by the infrequency of their occurrence. Chapter 5

- Financial I nstr uments—Cash and Receiv ables Initial disclosure event. For the purposes of IAS 35, with respect to discontinuing operations, the

Chapter 6 - I nventor y "initial disclosure event" is the occurrence of one of the following, whichever occurs earlier: Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s

1. The enterprise has entered into a binding sale agreement for substantially all of the assets - Property , Plant , and Equipment attributable to the discontinuing operation; or

Chapter 8 Chapter 9

- I ntangi ble Asset s

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and 2. The Chapter 10 - enterprise's board of directors or similar governing body has both approved a detailed I nvestm entthe Pr oper ty formal plan for discontinuance and made an announcement of the plan. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Major line of business. theProv context of Cont discontinued a major line of Curr ent LiabilitInies, isions, ingencies,operations, and Ev ents IAS after8 tdefines he Sheet business as Balance a separate lineDate of business of an enterprise that is "distinguishable from other business Chapter 13 -such Financial nstr uments—LongTer m Debt activities," as a Isegment, as determined in accordance with IAS 14. Chapter 12 -

Chapter 14 - Leases

Ordinary Activities that are undertaken by the enterprise as part of its normal business and Chapter 15 activities. - I ncom e Taxes include related activities that are incidental to or are pursued in furtherance of regular business.

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock s' Equit y Realization. The holder process of converting noncash resources and rights into money or, more precisely, Chapter Earnings Percash Share the sale18of-an asset for or claims to cash. Chapter 19 - I nterim Financial Repor ting

Recognition. Theent process of formally recording or incorporating in the financial statements of an entity Chapter 20 - Segm Repor ting items that the definition of an andofsatisfy Chapter 21 meet - Accounting Changes andelement Cor rection Er ror sthe criteria for recognition. Chapter 22 - For eign Curr ency

Segment of a business. A distinguishable component of an enterprise which is engaged in providing products or services that are subject to risks and returns different from other "business segments" or Chapter 24 - Specialized I ndustr ies "geographical segments." A segment may be in the form of a subsidiary, a division, a department, a Chapter 25 - I nflation Hyperinflation joint venture, or otherand nonsubsidiary investee. Its assets, results of operations, and activities can be Chapter 26 Gov er nm ent Gr an ts and operationally, and for financial reporting purposes) from the other clearly distinguished (physically Appendix A - Di sclosure Checklist assets, results of operations, and activities of the entity. Business segments are distinguishable Appendix B I llustrativ e Financial St atemin entproviding s Pr esent different ed Underproducts I AS components of an enterprise engaged or services, or a different group of Appendix C Com parison of I AS, US GAAP, and UK GAAP related products or services, primarily to customers outside an enterprise. Geographical segments are I ndex distinguishable components of an enterprise engaged in operations in different countries or group of countries within particular geographical areas as may be determined to be appropriate in an List of Tables enterprise's List of Ex hibitsparticular and Ex amcircumstances. ples Chapter 23 - Related- Part y Disclosures

List of Sidebar s

W ile y I AS and 2 0 03 : Examples I n t erp re t at ion an d Ap p licat io n o f Concepts, Rules, I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

Concepts of Income Mir za

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages)

Economists haveThis generally adopted a wealth maintenance concept of income. Under this concept, com pact and t ruly com pr ehensive qui ck - refer ence income is the maximum amount duringona for period and still leave the enterprise pr esent s accountthat antscan withbea consumed guide to depend with the same amount of wealth the end of the as existed at the beginning. Wealth is assistance in theatprepar at ion and period under standing of financial statements ed in market accordance with AS. net productive assets at the beginning determined with reference topresent the current values of Ithe and end of the period. Therefore, the economists' definition of income would fully incorporate market T ab le of Con t en t s value changes (both increases and decreases in wealth) in the determination of periodic income. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Accountants, on the other hand, have generally defined income by reference to specific events that give rise to recognizable elements of revenue and expense during a reporting period. The events that Chapter 1 - I ntr oduction to I nter national Accounting Standar ds produce reportable items of revenue and expense comprise a subset of economic events that Chapter 2 -economic Balance Sheet determine income. Many changes in the market values of wealth components are Iexcluded ncom e Statement, Stat em ent of Chan ges in Equit y, and but Statem deliberately from the measurement of accounting income are ent included in the Chapter 3 of Recognized Gains and Losses measurement of economic income. Preface

Chapter 4

- Cash Flow St at em ent

Chapter 5 - Financial I nstr uments—Cash ables measures of income are the result of a The discrepancy between the accountingand andReceiv economic Chapter preference 6 - on I nventor the part y of accountants and financial statement users for information that is reliable.

Since many fluctuations in the market values of assets matters Chapter 7 - Rev enue Recogni tion, I ncluding Constr uctionare Contr act s of conjecture, accountants have retained8 the historical cost,model, which generally precludes the recognition of market value changes Chapter - Property , Plant and Equipment until realized by a transaction. Chapter 9 - I ntangi ble Asset s Similarly, both accountants and economists understand that the earnings process occurs throughout the various stages of production, sales, and I nterests in Financial Instr um ent s, Associat es, Joint Ventur es,final and delivery of the product. However, the difficulty the precise rate at which this earnings process is taking place has I nvestm entinPrmeasuring oper ty led accountants to conclude that income should normally be recognized Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statementsonly when it is fully realized. Realization generally implies that the enterprise producing the all of its obligations Curr ent Liabilit ies, Prov isions, Cont ingencies, and Evitem ents has aftercompleted t he Chapter 12 relating to the product and Date that collection of the resulting receivable is assured beyond reasonable Balance Sheet doubt. For soundI nstr reasons, accountants Chapter 13 -very Financial uments—LongTer mhave Debtdeveloped a reliable system of income recognition that is based on generally accepted accounting principles applied consistently from period to period. Chapter 14 - Leases The interplay between recognition and realization generally means that values on the balance sheet are Chapter 15 - I ncom e Taxes recognized when realized Chapter 16 - only Em ploy ee Benefit s through an income statement transaction. Chapter 10 -

Chapter 17 - Stock holder s' Equit y

A separate but equally important reason for the disparity between the accounting and economic measures of income relates to the need for periodic reporting. The economic measure of income would Chapter 19 - I simple nterim Financial Repor ting be relatively to apply on a life cycle basis. Economic income would be measured by the Chapter 20 -between Segm entitsRepor tingat the termination point and its wealth at the origination date, plus difference wealth Chapter 21 - Accounting Changes and rection of Er ror sinvestments over the course of its life. However, withdrawals or other distributions andCor minus additional Chapter 22the - For eignmeasurement Curr ency applying same strategy to discrete fiscal periods as accountants apply is much more Chapter - RelatedPart y Disclosures difficult.23The continual earnings process in which the earnings of a business occur throughout the Chapter various24 stages - Specialized of production I ndustr and ies delivery of a product is conceptually straightforward. Allocating those earnings years, quarters, or months is substantially more difficult, requiring both estimates Chapter 25to- individual I nflation and Hyperinflation and judgment. accountants have concluded that there must be unambiguous guidelines Chapter 26 - GovConsequently, er nm ent Gr an ts for revenue These have required recognition only at the completion of the earnings cycle. Appendix A - recognition. Di sclosure Checklist Chapter 18 - Earnings Per Share

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

The appropriate measurement of income is partially dependent on the vantage point of the party doing the measuring. From the perspective of outside investors taken as a whole, income might be defined as I ndex earnings before any payments to those investors, including bondholders and preferred stockholders, as List Tables wellofas common shareholders. On the other hand, from the viewpoint of the common shareholders, List of Ex hibits Ex am income might and better be ples defined as earnings after payments to other investors, including creditors and List of Sidebar s preferred shareholders. Currently, net income is defined as earnings available for the preferred and common stockholders. However, in various statistics and special reports, a variety of these concepts are employed. Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Recognition and Measurement Recognition involves the depiction of an item in words and by a monetary amount, and the inclusion of that amount in the balance sheet or the income statement. For recognition of an item on financial

statements, it should meet the definition of an element as prescribed by the IASC's Framework and satisfy the criteria for recognition as set out in that document. The criteria are needed to assist accountants in determining ared in domain W ile y I AS which 2 0 03 :economic I n t erp re tevents at ion an Apthe p licat io n oof f items included in the measurement of income. The IASC's Framework has identified the following recognition criteria, which I n t er n at ion al Accou n t in g St an d ar ds remain in force: by Bar r y J. Epstein and Abbas Ali ISBN:0471227366 za the definition of an element. To be recognized, an item must meet one of the 1. Item mustMir meet John ley & Sons © 2003 (952 pages) definitions of anWielement of the financial statements. For instance, a resource must meet the This com pact and t ruly com pr ehensive quidefinition ck - refer ence definition of an asset, an obligation must meet the of a liability, and so on. It is pr esent s account ants with a guide to depend on for interesting to note that sometimes the interrelationship between the elements requires that an assistance in the prepar at ion and under standing of financial item that meets the definition and for a particular element, for instance, an statements present ed in recognition accordance criteria with I AS. asset, automatically requires the recognition of another element, for example, income or a T ab le of liability. Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar 2. ds Assessment of degree of uncertainty regarding future economic benefits. This refers to the Preface degree of uncertainty that the future economic benefits associated with an item will flow to or

enterprise. of this uncertainty Chapter from 1 - Ithe ntr oduction to IThe nter assessment national Accounting Standar ds is made on the basis of evidence at the time of preparation of the financial statements. This concept can be illustrated Chapter available 2 - Balance Sheet through theefollowing example: while valuing inventory, it is uncertain whether or I ncom Statement, Stat em At entyear-end of Chan ges in Equit y, and Statem if ent not the full cost of the inventory could be recovered in the future when part of the inventory is of Recognized Gains and Losses recognition Chapter damaged, 4 - Cash Flow St at em is entgiven to this uncertainty and the inventory is written down to its net value. Chapter realizable 5 - Financial I nstr uments—Cash and Receiv ables Chapter 3

Chapter 6

- I nventor y

3. Item's cost or value can be measured with reliability. An item must possess a relevant - Rev enue Recogni tion, I ncluding Constr uction Contr act s attribute, such as cost or value, which can be quantified in monetary units with sufficient Chapter 8 - Property , Plant , and Equipment reliability. Measurability must be considered in terms of both relevance and reliability, the two Chapter 9 - I ntangi ble Asset s primary qualitative characteristics of accounting information. Chapter 7

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

I nvestmAn entitem Pr oper ty 4. Relevance. is relevant if the information about it has the capacity to make a difference Chapter in 11investors', - Businesscreditors', Combinations and users' Consolidat ed Fin ancial Statements or other decisions. The relevance of information is affected by its Curr entmateriality. Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he nature and Chapter 12 Balance Sheet Date

5. Reliability. Chapter 13 - Financial AnI nstr itemuments—Longis reliable if the Terinformation m Debt about it is representationally faithful, free of errors, and is neutral or free from bias. Further, to possess the quality of reliability, two Chapter material 14 - Leases should be present. Chapter more 15 - I features ncom e Taxes Chapter 16 a. - EmThe ploytransactions ee Benefit s and other events the information purports to represent should be Chapter 17 - Stock holder s' for Equit y presented in accordance with their substance and economic reality accounted and Chapter 18 - Earnings and notPer merely Sharetheir legal form. Chapter 19 - I nterim Financial Repor ting

b. The preparers of financial statements, while dealing with and recognizing uncertainties, should exercise judgment or a degree of caution: in other words, prudence.

Chapter 20 - Segm ent Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter 22 - For eign Curr recognition, ency To be given accounting an asset, liability, or item of income or expense would have to Chapter 23 RelatedPart y meet the above-mentionedDisclosures five criteria. Chapter 24 - Specialized I ndustr ies Chapter Income. 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

According IASC's Framework Appendix A -toDithe sclosure Checklist Income increases in economic benefits duringedthe accounting period in the form of inflows or Appendix B - Iisllustrativ e Financial St atem ent s Pr esent Under I AS enhancements of assets or US decreases of liabilities Appendix C - Com parison of I AS, GAAP, and UK GAAP that result in increases in equity, other than I ndex those relating to contributions from equity participants. The definition of income encompasses both List ofrevenue Tables and gains, and revenue arises in the course of ordinary activities of an enterprise and is

byEx different List ofreferred Ex hibitsto and am ples names, such as sales, fees, interest, dividends, royalties, and rent List of Sidebar s

IAS 18 is the standard that deals with the accounting for revenue. It sets forth the following characteristics of the term revenue: 1. Inflows of economic benefits arise in the course of ordinary activities of an enterprise. 2. Inflows are to be reported gross. 3. Inflows result in increases in equity, other than increases relating to contributions from equity participants.

The measurement concept requires that revenue be measured at the fair value of the consideration received or receivable. Fair value is defined as the amount for W ile which y I AS an2asset 0 03 : could I n t erpbe re exchanged, t at ion an d Ap or palicat liability io n settled, of between knowledgeable, ion al Accou n t in g St an d ar ds willing partiesI nint er ann at arm's-length transaction. by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za stipulates that revenue is recognized only when the following occur: The realization concept John Wi ley & Sons © 2003 (952 pages) 1. The earnings process is complete or virtually complete. This com pact and t ruly com pr ehensive qui ck - refer ence pr evidenced esent s account ants with a guide depend ontransaction for 2. Revenue is by the existence of antoexchange that has taken place. assistance in the prepar at ion and under standing of financial

present ed in accordance AS. The existence of statements an exchange transaction is critical towith theI accounting recognition of revenue. Generally, it means that a sale to an outside party has occurred, resulting in the receipt of cash or the T ab le of Con t en t s obligation by the purchaser to make future payment for the item received. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing However, an exchange transaction is viewed in a broader sense than the legal concept of a sale. Whenever an exchange of Standar ds rights and privileges takes place, an exchange transaction is deemed to have occurred. For example, Preface interest1revenue and interest expense earned orStandar incurred Chapter - I ntr oduction to I nter nationalare Accounting ds ratably over a period without a discrete transaction Chapter 2 - taking Balanceplace. SheetAccruals are recorded periodically to reflect the interest realized by the passage of time. Similarly, the percentage-of-completion method recognizes revenue based on the I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of- progress on a long-term construction project. The earnings process is considered to occur measure of Recognized Gains and Losses simultaneously with theStmeasure Chapter 4 - Cash Flow at em ent of progress (e.g., the incurrence of costs). Chapter 5

- Financial I nstr uments—Cash and Receiv ables

The conditions for the timing of revenue recognition would also be varied if the production of certain - I nventor y commodities takes place in environments in which the ultimate realization of revenue is so assured that Chapter 7 - Rev enue upon Recogni I ncludingofConstr uction Contr act s it can be recognized thetion, completion the production process. At the opposite extreme is the Chapter 8 Property , Plant , and Equipment situation in which the exchange transaction has taken place but significant uncertainty exists as to the Chapter - I ntangi ble s ultimate9 collectibility ofAsset the amount. For example, in certain sales of real estate, where the down I nterests in Financial umand ent s, Associat es,for Joint es,notes and is minimal, revenue is payment is extremelyInstr small the security theVentur buyer's Chapter 10percentage I nvestm ent Pr oper ty often not recognized until collections are actually received. Chapter 6

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Expenses. Chapter 12 Balance Sheet Date Chapter 13 -toFinancial I nstr uments—Long- Ter m Debt According the IASC's Framework Chapter 14 - Leases Expenses are decreases in economic benefits during an accounting period in the form of outflows Chapter 15 - I ncom of e Taxes or depletions assets or incurrences of liabilities that result in decreases in equity, other than Chapter 16 -relating Em ployto eedistributions Benefit s those to equity participants. Thus the characteristics of expenses include Chapter - Stock holder s' Equit y the17 following: Chapter 18 - Earnings Per Share

1. Sacrifices involved in carrying out the earnings process

Chapter 19 - I nterim Financial Repor ting Chapter 20 2. - Actual Segm ent or expected Repor ting cash outflows resulting from ordinary activities Chapter 21 - Accounting Changes and Cor rection of Er ror s

3. Outflows reported gross

Chapter 22 - For eign Curr ency

Chapter 23 -are RelatedPart y Disclosures Expenses expired costs, or items that were assets but are no longer assets because they have no Chapter 24 Specialized I ndustr ies future value. The matching principle requires that all expenses incurred in the generating of revenue be Chapter 25 - in I nflation andaccounting Hyperinflation recognized the same period as the revenues are recognized. The matching principle is Chapter 26 Gov er nm ent Gr an ts broken down into three pervasive measurement principles: associating cause and effect, systematic Appendix A - Di sclosure Checklist and rational allocation, and immediate recognition. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Costs such materials and direct labor consumed in the manufacturing process are relatively easy to Appendix C - as Com parison of I AS, US GAAP, and UK GAAP identify with the related revenue elements. These cost elements are included in inventory and expensed as cost of sales when the product is sold and revenue from the sale is recognized. This is List of Tables associating cause and effect. I ndex

List of Ex hibits and Ex am ples

List of Sidebar s more closely associated with specific accounting periods. In the absence of a cause Some costs are

and effect relationship, the asset's cost should be allocated to benefiting accounting periods in a systematic and rational manner. This form of expense recognition involves assumptions about the expected length of benefit and the relationship between benefit and cost of each period. Depreciation of fixed assets, amortization of intangibles, and allocation of rent and insurance are examples of costs that would be recognized by the use of a systematic and rational method. All other costs are normally expensed in the period in which they are incurred. This would include those costs for which no clear-cut future benefits can be identified, costs that were recorded as assets in prior

periods but for which no remaining future benefits can be identified, and those other elements of administrative or general expense for which no rational allocation scheme can be devised. The general approach is first to with the related a method of systematic and W attempt ile y I ASto2 0match 03 : I ncosts t erp re t at ion an d Ap revenues. p licat io n oNext, f rational allocationI nshould be attempted. If neither of these measurement principles is beneficial, the t er n at ion al Accou n t in g St an d ar ds cost should be immediately expensed. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za

As stated in the IASC's term is broad enough to include losses as well. John WiFramework, ley & Sons ©the 2003 (952 expenses pages) Expenses that arise in the course of the ordinary activities of an enterprise include such items as cost This com pact and t ruly com pr ehensive qui ck - refer ence of sales, wages, and depreciation. They usually take the form of for an outflow of cash or depletion of other pr esent s account ants with a guide to depend on assets. assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Losses also represent decreases in economic benefits and are similar in nature to expenses. However, T ab le of Con t en t s there is a subtle difference between the two concepts: losses may or may not arise in the course of Wiley I AS activities, 20 03—Int er pretation and Application of I nternational AccountThus, ing a loss from an extraordinary ordinary whereas expenses arise from ordinary activities. Standar ds item such as a natural disaster would also qualify as a loss according to this definition. It is to be noted Preface that even unrealized losses are covered here. For example, losses arising from the effects of increases Chapter 1 - I ntr oduction to I nter national Accounting Standar ds or decreases in the exchange rates for a foreign currency in respect of the borrowings of an enterprise Chapter 2 - Balance Sheet in that currency, which are unrealized losses, are also contemplated by this definition. Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

of Recognized Losses It is interesting to note thatGains in theand United States, the FASB's conceptual framework project defined Chapter 4 as - Cash Flow St em entusing up of assets or incurrences of liabilities (or a combination of the expenses "outflows oratother Chapter 5 - Financial I nstr uments—Cash and Receiv ables two) resulting from delivery of goods, rendering of services, or other activities constituting the Chapter 6 - Imajor nventor enterprise's orycentral operations." This definition, although crisp and concise, is quite comprehensive; it seems to cover all conceivable ways of incurring Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s expenses. For instance, the expression combination theEquipment two" probably was intended to be a catch-all clause but for some Chapter 8 - "a Property , Plant , of and reason 9has- not been Chapter I ntangi bleincluded Asset s in the definition given in IASC's Framework. I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter Gains10and losses. I nvestm ent Pr oper ty Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

According to the IASC's Framework

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balancerepresent Sheet Date Gains (losses) items that meet the definition of income (expenses) and may or may not Chapter arise 13 in - Financial the course I nstr of uments—Longordinary activities Ter m of Debt an enterprise. Gains (losses) represent increases (decreases) in economic benefits and as such are no different in nature from revenue (expenses). Chapter 14 - Leases Hence are not regarded as separate elements in IASC's Framework. Characteristics of gains Chapter 15 - they I ncom e Taxes and16losses include the following: Chapter - Em ploy ee Benefit s Chapter 17 Stock holder s' Equit y transactions and circumstances that may be beyond entity's control 1. - Result from peripheral Chapter 18 - Earnings Per Share

2. - May be classified according Chapter 19 I nterim Financial Repor ting to sources or as operating and nonoperating Chapter 20 - Segm ent Repor ting

The recognition of gains and losses should follow the principles stated below.

Chapter 21 - Accounting Changes and Cor rection of Er ror s

1. Gains often result from transactions and other events that involve no earnings process; therefore, in terms of recognition, it is more significant that the gain be realized than earned.

Chapter 22 - For eign Curr ency

Chapter 23 - Related- Part y Disclosures

Chapter 24 - Specialized I ndustr when ies 2. Losses are recognized it becomes evident that future economic benefits of a previously Chapter recognized 25 - I nflation and have Hyperinflation asset been reduced or eliminated, or that a liability has been incurred without Chapter associated 26 - Gov er nm ent Gr anbenefits. ts economic The main difference between expenses and losses is that Appendixexpenses A - Di sclosure resultChecklist from continuing operations, whereas losses result from peripheral transactions

be beyond the entity's Appendixthat B - may I llustrativ e Financial St atemcontrol. ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Statement I ndex

of changes in equity and statement of recognized gains and

losses. List of Tables List of Ex hibits and Ex am ples

IAS 1 prescribes a new component of financial statements (to be presented along with the traditional financial statements). While the IASC had earlier expressed its intent to mandate a new prescribed financial statement, the statement of nonowner movements in equity, opposition resulted in a somewhat modified final standard. Although different in some particulars and offering more options in terms of format, this will nonetheless reveal to financial statement users the full scope of changes in economic position, whether due to traditional items of income and expense, or to such other phenomena as revaluations of plan assets and investments, or the translations of foreign subsidiaries' and affiliates' balance sheets.

List of Sidebar s

IAS 1 offers preparers two principal mechanisms for reporting the changes in enterprise equity for a period. The first of these would have the reporting entity present a new financial statement, to be captioned the statement of 2changes equity. This W ile y I AS 0 03 : I n tin erp re t at ion anstatement d Ap p licatshould io n o f present I n t er n at ion al Accou ngains t in g St d ar dsfor the period, including those that are 1. An enterprise's total recognized oran losses Bar r y J.inEpstein and Abbas Ali of each itemISBN:0471227366 recognizedbydirectly equity (giving details of income, expense, gain, or loss which Mirby za other IAS to be shown directly in equity, along with the total of these items, plus are required John leythe & Sons © 2003 (952 pages) net profit or lossWifor period and cumulative effect of changes in accounting policy and of This com pact and t ruly if com pr ehensive - refer ence correction of fundamental errors accounted forqui byckthe benchmark treatments prescribed by IAS pr esent s account ants with a guide to depend on for 8); and, in addition, assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

2. Other changes in the equity accounts, along with a reconciliation of beginning and ending T ab le of balances Con t en t sin each of the components of equity (giving details by each class of equity capital) and

balances oferaccumulated or loss of (giving details of the movements for the period). Wiley I AS 20 03—Int pretation andprofit Application I nternational Account ing Standar ds An example of the statement of changes in equity is presented in the following section of this chapter. Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Under the second of the two permitted approaches, the enterprise would present a statement of - Balance Sheet recognized gains and losses for the period, which would only include the net effect of income, I ncom e Statement, Stat emincome ent of Chan ges in for Equit y, period. and Statem expense, or loss reported in the statement the Thatent is, net income or loss, Chapter 3 gain of Recognized Gains and Losses including if applicable the cumulative effect of changes in accounting policy and of the correction of any Chapter 4 - Cash Flow St at em ent fundamental errors accounted for by the benchmark treatments prescribed by IAS 8, would be added to Chapter 5 - Financial I nstr uments—Cash and Receiv ables the other items of income, expense, gain or loss which are carried directly to equity, with the total of Chapter 6 - Ipresented nventor y as the final amount in the statement of recognized gains and losses. these being Chapter 2

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s If the second approach is utilized, the changes in other capital accounts resulting from transactions with Chapter 8 - Property , Plant , and Equipment

owners,9 as- well as ble the Asset changes in retained earnings (referred to in IAS 1 as accumulated profit or loss), Chapter I ntangi s must be presented elsewhere in the financial statements. Anand example of this second I nterests in Financial Instrnotes um enttos,the Associat es, Joint Ventur es, approach is Ialso nvestm shown ent Pr inoper the ty following section of this chapter.

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

IAS 1 explains that it is important to take into consideration all income, expenses, gains, and losses

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 those (including not recognized Balance Sheet Date in the income statement) in assessing the overall financial performance

of an enterprise. Thus, theuments—Longrevised standard presentation of financial statements has prescribed this Chapter 13 - Financial I nstr Ter monDebt new component of financial statements to capture those items of gains or losses that are not included Chapter 14 - Leases

in the determination of net income or loss for the period. This standard further justifies the need for the presentation of this new component of financial statements by setting forth the following reasoning for Chapter 16 - Em ploy ee Benefit s its prescription: Chapter 15 - I ncom e Taxes

Chapter 17 - Stock holder s' Equit y

IAS 8 requires that all items of income and expense in a period be included in the 1. Since Chapter 18 - Earnings Per Share

of net profit orting loss for the period, unless an international accounting standard Chapter determination 19 - I nterim Financial Repor requires or permits otherwise; and also

Chapter 20 - Segm ent Repor ting

Chapter 21 - Accounting Changes andas CorIAS rection of Erand ror s21, require that specified gains and losses, such 2. Since other standards, such 16, 25, Chapter as 22 revaluation - For eign Curr ency surpluses or deficits and foreign currency translation differences, be recognized Chapter directly 23 - RelatedPart y Disclosures as changes in equity along with capital transactions with and distributions to the Chapter enterprise's 24 - Specialized I ndustr ies owners; thus, Chapter 25 - I nflation and Hyperinflation

3. In capture or losses that have a bearing on the enterprise's financial position, it Chapter 26 order - Govto er nm ent Grall angains ts thatChecklist a separate component of financial statements be presented along with the AppendixisAimportant - Di sclosure traditional components of financial statements.

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C new - Com parison of I AS, to USthis GAAP, and UK GAAP While the standard refers as "a separate component of the financial statements," what is I ndex required is a new financial statement that (depending on which alternative version is adopted) may also List of Tables require additional footnote materials. This "separate component" is to be presented as an integral part List of Ex hibits and Ex of amfinancial ples of all complete sets statements. Accordingly, any set of financial statements would be List of Sidebarincomplete s considered without this new statement.

It is to be noted that the IASC's action is in line with the current thinking in the UK and US. In the US, SFAS 130 prescribes a similar statement to be presented as a separate component of the financial statements, based on the FASB's concept of "comprehensive income." In the UK, which was the first to take this step, the treatment is very similar to that embraced by IAS 1, and the new component of financial statement prescribed under FRS 3 of the UK GAAP is captioned the "statement of total recognized gains and losses," which is similar to that suggested by IAS 1 when the second suggested approach is utilized.

Examples of the new statements alternatively required by IAS 1. Example 1:

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

If the statement of equityand is toAbbas be employed bychanges Bar r y J. in Epstein Ali

ISBN:0471227366

Mir za John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence December 31, 2003 (in XYZ Malta Inc. Statement of Changes in Equity For the Year Ended pr esent s account ants with a guide to depend on for thousands of US dollars) assistance in the prepar at ion and under standing of financial

statements present accordance with I Currency AS. Share Share ed in Revaluation Accumulated capital premium reserve translation profits T ab le of Con t en t s Wiley I AS 20 Balance at03—Int er pretation and Application of I nternational Account ing Standar ds Dec. 31, Preface 2001 $1,000 $100 $200 $200 $100 Chapter 1

Total

$1,600

- I ntr oduction to I nter national Accounting Standar ds

Changes in - Balance Sheet accounting I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter policy 3 - of Recognized -- Gains and --Losses --Chapter 2

50

50

200

150

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(50)

--

(50)

--

100

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--

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--

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150

250

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Chapter Opening 4 - Cash Flow St at em ent

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100

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Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s Currency Chapter 8 - Property , Plant , and Equipment translation Chapter 9 - I ntangi ble Asset s difference -Chapter 10 Surplus

--

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I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

-from revaluation Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 of buildings -- Sheet Date -100 -Balance Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Net gains Chapter 14 - Leases and losses Chapter not 15 - I ncom e Taxes

recognized Chapter 16 - Em ploy ee Benefit s in income Chapter 17 - Stock holder s' Equit y statement -- Share Chapter 18 - Earnings Per

--

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Chapter 19 - I nterim Financial Repor ting Net profit Chapter for the20 - Segm ent Repor ting Chapter period21 - Accounting--Changes and --Cor rection of Er ror -- s Chapter 22 - For eign Curr ency

Issuance of share Chapter capital24 - Specialized 100I ndustr ies 10 Chapter 23 - Related- Part y Disclosures

Chapter 25 - I nflation and Hyperinflation

Balance at Dec. Appendix A - Di sclosure Checklist 31,2002 1,100

Chapter 26 - Gov er nm ent Gr an ts

110

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Currency Appendix C - Com parison of I AS, US GAAP, and UK GAAP translation I ndex Listdifference of Tables

--

--

--

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--

--

--

--

(50)

ListDeficit of Ex hibits on and Ex am ples

--

Listrevaluation of Sidebar s

of investments

(50) --

Net gains and losses not recognized in income statement Net profit for the period

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Mir za ---John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

150

(50)

100

200

200

50

(50)

$350

$2,160

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar --- at ion and under -- standing of financial -statements present ed in accordance with I AS.

Dividends

--

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Balance at

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Dec. 31, Standar ds

2003

$1,100

Preface

$110

$300

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3 2: Example

$300

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

If the statement of recognized gains and losses is to be presented (see note below)

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s ABC Barbados Co. Ltd. Statement of Recognized Gains and Losses For the Year Ended

Chapter 8 - 31, Property Plant , and Equipment December 2003, (in thousands of US dollars) Chapter 9 - I ntangi ble Asset s Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and 2003 I nvestm ent Pr oper ty

Surplus on revaluation of buildings

2002

$ 500

$ --

Surplus (deficit) on Liabilit revaluation of isions, investments Curr ent ies, Prov Cont ingencies, and Ev ents after t he 1,000 Balance Sheet Date Exchange differences on translation of the financial statements of a 2,000 Chapter - Financial I nstr uments—Long- Ter m Debt foreign13subsidiary

(1,000)

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Chapter 14 - Leases

Net gains (losses) not recognized in the income statement

(2,000)

3,500

(3,000)

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5,000

2,800

Chapter 17 - Stock holder Equit y Total recognized gainss'and losses

8,500

(200)

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$ 500

Chapter 15 - I ncom e Taxes

Chapter 18 - Earnings Per Share

Effect of changes in accounting policy

Chapter 19 - I nterim Financial Repor ting

Chapter NOTE:20If this - Segm approach ent Repor is used, ting then a reconciliation of the opening and closing balances of

share 21 capital, reserves,Changes and retained earnings (accumulated profits) as illustrated in the first Chapter - Accounting and Cor rection of Er ror s example, be presented in the footnotes to the financial statements. Chapter 22 -above, For eignshould Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation

Impact of Legal Form on Financial Reporting

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

Revenues expenses of a corporation identified and separated from the revenues and Appendix B -and I llustrativ e Financial St atem entare s Pr easily esent ed Under I AS expenses the parison shareholders. theand soleUK proprietorship and partnership form of entity, the Appendix C of - Com of I AS, In USboth GAAP, GAAP identification process can be more difficult. Items such as interest or salaries paid to partners or owners I ndex may thought of as distributions of profits rather than expenses. However, many entities adopt the List of be Tables philosophy that income reporting should be the same regardless of legal form (economic substance List of Ex hibits and Ex am ples

takes precedence over legal form). Under the corporate form of business, interest on stockholder loans and salaries paid to stockholders are clearly classified as expenses and not as distributions. Accordingly, under this theory, these items may be treated as expenses for both partnerships and sole proprietorships. However, full disclosure and consistency of financial reporting treatment would be required. Circumstances may involve treating certain payments, such as guaranteed salaries, as expenses while classifying other "salaries" as profit distributions.

List of Sidebar s

Income Statement Classification and Presentation

Statement title. Income statements measure performance for a period ofntime W ile y I AS 2economic 0 03 : I n t erp re t at ion an d Ap p licat io o f and, except for this variation, follow the same basic rule for headings and titles as do balance sheets. For instance, the legal name of I n t er n at ion al Accou n t in g St an d ar ds the entity must bebyused to identify the financial statements and the title "Income Statement" used to ISBN:0471227366 Bar r y J. Epstein and Abbas Ali Mir za distinguish the statement from other information presented in the annual report. This is important also so that users canJohn identify the&information is presented in accordance with international accounting Wi ley Sons © 2003 that (952 pages) standards from other may be the subject of accounting requirements. This information com pact andthat t ruly comnot pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

If another comprehensive ofprepar accounting is used, is explicitly contemplated under US GAAP, assistancebasis in the at ion and underas standing of financial present ed accordance withofI the AS. financial statement should be modified such as the "cashstatements basis" or "income taxinbasis," the title accordingly. "Statement of Revenue and Expenses—Income Tax Basis" or "Statement of Revenue and T ab le of Con t en t s Expense—Modified Cash Basis" are examples of such titles. However, it should be noted that Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing international accounting standards neither refer to nor contain guidance relating to these other Standar ds comprehensive bases of accounting. One could interpret this omission to mean that current Preface international accounting standards (i.e., the IASC's Framework and IAS 1) recognize only the accrual Chapter 1 - I ntr oduction to I nter national Accounting Standar ds basis of accounting. Chapter 2

- Balance Sheet

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - period. Reporting of Recognized Gains and Losses Chapter 4

Cash Flow St at em ent The period- covered by the income statement must clearly be identified, such as "year ending (ended)

Chapter 5 -31, Financial nstr uments—Cash and Receiv December 2003."I Such dating informs the user ables of the financial statements not only about the length Chapter 6 I nventor y of the period covered by the income statement, but also the starting and ending dates. Dating such as Chapter 7 - ending Rev enue Recogni I ncluding Constr uction31, Contr act swould represent a violation of "the period March 31,tion, 2003" or "through March 2003" Chapter 8 Property , Plant , and Equipment accounting principles because of the lack of precise definition in these titles. Income statements are Chapter 9 presented - I ntangi ble Asset s (i.e., for a period of twelve months or a year). However, in exceptional normally annually

circumstances, I nterests income in statements Financial Instr could um ent bes,presented Associat es, forJoint periods Ventur in excess es, and of one year or for shorter I nvestm oper ty periods as well (e.g.,ent forPrfive months or a quarter of a year). IAS 1 requires that when financial Chapter 11 - are Business Combinations andother Consolidat Fin ancial Statements statements presented for periods than aedyear, the following additional disclosures should be Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he made: Chapter 12 Chapter 10 -

Balance Sheet Date

1. The reason for presenting the income statement (and other financial statements, such as the cash flow statement, statement of changes in equity, and notes) for a period other than one Chapter 14 - Leases year; and Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 15 - I ncom e Taxes

Chapter 16 - fact Em ploy Benefit s 2. The thatee the comparative information presented (in the income statement, statement of Chapter changes 17 - Stock s' Equit inholder equity, cashyflow statement, and notes) is not truly comparable. Chapter 18 - Earnings Per Share

Entities whose operations form a natural cycle may have a reporting period end on a specific day (e.g., the last Friday of the month). Certain enterprises (typically retail enterprises) prepare income Chapter 20 - Segm ent Repor ting statements for a fiscal period of fifty-two or fifty-three weeks instead of a year (thus, to always end on a Chapter 21 - Accounting Changes and Cor rection of Er ror s day such as Sunday, on which no business is transacted, so that inventory may be taken). These Chapter 22 - For eign Curr ency entities should clearly state that the income statement has been presented, for instance, "for the fiftyChapter 23 - Related- Part y Disclosures two-week period ended March 28, 2003." The new standard on presentation of financial statements Chapter 24 - addresses Specializedenterprises I ndustr ies that prefer to report consistently for a fifty-two or fifty-three-week specifically Chapter 25 I nflation and Hyperinflation period, and states categorically that it does not preclude this practice since it is unlikely that the Chapter 26 Gov er nm ent Gr an ts financial statements thus presented would be materially different from those that are presented for one Appendix full year.A - Di sclosure Checklist Chapter 19 - I nterim Financial Repor ting

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

In order that the parison presentation items in the income statement be consistent from Appendix C - Com of I AS,and USclassification GAAP, and UKofGAAP

period to period, items of income and expenses should be uniform both with respect to appearance and I ndex categories from one time period through the next. That is, if a decision is made to change classification schemes, the comparative prior period financials should be restated to conform and thus to maintain List of Ex hibits and Ex am ples comparability between the two periods being presented together. Disclosure must be made of this List of Sidebar s reclassification, since the earlier period financial statements being presented currently will differ in appearance from those nominally same statements presented in the earlier year. List of Tables

Aggregating items. Aggregation of items should not serve to conceal significant information, such as netting revenues against expenses or combining elements of interest to readers, such as bad debts and depreciation. The categories "other" or "miscellaneous expense" should contain, at maximum, an immaterial total

amount of aggregated insignificant elements. Once this total approaches, for example, 10% of total expenses (or any other materiality threshold), some other aggregations with explanatory titles should be selected. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Information is material if its omission or misstatement or nondisclosure could influence the economic ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali decisions of usersMirtaken on the basis of the financial statements. Materiality depends on the size of the za item judged in theJohn particular circumstances of pages) its omission (IASC's Framework, para 30). But it is often Wi ley & Sons © 2003 (952 forgotten that materiality is also linked with understandability and the level of precision in which the This com pact and t ruly com pr ehensive qui ck - refer ence financial statements are to be presented. For instance, the financial pr esent s account ants with a guide to depend on for statements are often rendered more understandable by rounding information to the nearest thousand currency units (i.e., US dollars). assistance in the prepar at ion and under standing of financial present ed the in accordance with I AS. with unnecessary detail. However, it This obviates thestatements necessity of loading financial statements should be borne in mind that the use of the level of precision that makes presentation possible in the T ab le of Con t en t s nearest thousands of currency units is acceptable only as long as the threshold of materiality is not Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing surpassed. Standar ds Preface

Offsetting items of revenue and expense. - I ntr oduction to I nter national Accounting Standar ds

Chapter 1

Chapter 2 -also Balance Materiality playsSheet a role in the matter of allowing or disallowing offsetting of the items of income and I ncom e Statement, Stat emand ent prescribes of Chan gesrules in Equit y, and Statem ent expense. IAS 1 addresses this issue in this area. According to this standard, items Chapter 3 of Recognized Gains and Losses

of income and expense should be offset when, and only when

Chapter 4

- Cash Flow St at em ent

1. An international accounting standard requires or permits it. For example, IAS 30 permits banks - Financial I nstr uments—Cash and Receiv ables and similar financial institutions to offset income and expense items relating to hedging; or

Chapter 5 Chapter 6

- I nventor y

Chapter 7 - Rev enue Recogni tion, Iexpenses ncluding Constr uction act s or similar transactions and events 2. Gains, losses, and related arising from Contr the same Chapter are 8 -not Property , Plant , and Equipment material. Such amounts should be aggregated in such cases. Chapter 9

- I ntangi ble Asset s

The standard also states that immaterial amounts should be aggregated with amounts of similar nature I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 or function and I nvestm needent notPrbe oper presented ty separately. However, when such gains or losses are individually material, they should not be offset, but instead beStatements presented on a gross basis. For Chapter 11then - Business Combinations and Consolidat ed should Fin ancial example, gain onent theLiabilit sale ies, of a Prov building is Cont $5 million and loss onents the after sale of Curr isions, ingencies, and Ev t heland during the same Chapter 12 Balanceis Sheet Date If both of these amounts are individually material, they should not be accounting period $10 million. Chapter offset but 13 be - Financial shown on I nstr a gross uments—Longbasis. Ter m Debt Chapter 14 - Leases

Usually, losses and gains on disposal of noncurrent assets are seen reported on a net basis, which may be due to the fact that they are not material individually (compared to other items on the income Chapter 16 - Em ploy ee Benefit s statement). However, if they were material individually, as in the example above, they would need to be Chapter 17 - Stock holder s' Equit y disclosed separately according to the requirements of IAS 1. It is the authors' opinion that even under Chapter 18 - Earnings Per Share the existing international accounting standards, they would not be required to be offset and shown on a Chapter 19 - I nterim Financial Repor ting net basis. For instance, IAS 16 stipulates that, "gains or losses arising from the retirement or disposal Chapter 20 -ofSegm ent Repor ting of an item property, plant, and equipment...should be recognized as income or expense in the Chapter 21 Accounting Changes and Cor rection of Er rorcontained s income statement." Read in the light of the guidelines in the IASC's Framework, which Chapter 22 - For eign Curr categorically states that ency "when gains (losses) are recognized in the income statement, they are usually Chapter 23 separately - Related- Part y Disclosures displayed because knowledge of them is useful for the purpose of making economic Chapter 24 - itSpecialized I ndustr ies decisions," would be unreasonable to interpret that IAS 16 does not require disclosure of gains or Chapter 25 - I nflation andretirement Hyperinflation losses arising from the or disposal of property, plant, and equipment. Chapter 15 - I ncom e Taxes

Chapter 26 - Gov er nm ent Gr an ts

Further, based on the discussion above, it seems unreasonable to read between the lines of IAS 16 in an attempt to reach a conclusion, as some have done, that it does not require the disclosure of gains or Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS losses arising from the retirement or disposal of property, plant, and equipment, and therefore that such Appendix C - Com parison of I AS, US GAAP, and UK GAAP gains or losses may be included as an undisclosed net amount within broad expense categories such I ndex as "general and administrative expenses." In the authors' opinion, although gains or losses arising from List of Tables retirement or disposal of property, plant, and equipment are not mentioned in the disclosure section of List Ex hibits andspecifically Ex am ples dealt with in an earlier paragraph of that IAS. Thus, reading all the IASof16, they are List of Sidebar provisions ofsIAS 16, together with the IASC's Framework (as explained earlier), it would not be unreasonable to interpret that such gains or losses should be disclosed separately in the income statement, if material. Appendix A - Di sclosure Checklist

IAS 1 further clarifies that when items of income or expense are offset, the enterprise should nevertheless consider, based on materiality, the need to disclose the gross amounts in the notes to the financial statements. This standard gives the following examples of transactions that are incidental to the main revenue-generating activities of an enterprise and whose results when presented by offsetting or reporting on a net basis, such as netting any gains with related expenses, reflect the substance of

the transaction: 1. Gains or losses on the disposal of noncurrent assets, including investments and operating assets, areWreported disposal ile y I AS by 2 0deducting 03 : I n t erpfrom re t atthe ionproceeds an d Ap p on licat io n o f the carrying amounts of the n t er n atselling ion al expenses. Accou n t in g St an d ar ds asset and Irelated by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za 2. Extraordinary items are presented net of related taxation and minority interest. John Wi ley & Sons © 2003 (952 pages)

3. Expenditure that is pact reimbursed aehensive contractual arrangement This com and t rulyunder com pr qui ck - refer ence with a third party may be netted against theprrelated reimbursement. esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial

For example, an enterprise onedaintime-share arrangement statementsbased present accordance with I AS. processes computerized accounting data electronically for its own accounting department as well as for certain other companies in the area T ab le of Con t en t s and incurs a total expenditure of $5 million for an accounting period. The expenditure it incurs on this Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing data-processing activity should be presented after netting the related reimbursable expenditure, which Standar ds amounts to $3 million. Thus, the income statement presentation would display the net figure (expense) Preface of $2 million (instead of a gross basis presentation of a $5 million expense and a $3 million income). Chapter 1 - I ntr oduction to I nter national Accounting Standar ds This financial statement presentation reflects the substance of the transaction. (It should be noted, Chapter 2 - Balance Sheet however, that a disclosure of the gross amounts, if they are material, may need to be made in the notes I ncom e Statement, em ent of Chan ges of in Equit andwas Statem ent to the financial statements; this Stat is also a requirement IAS 1y,and explained earlier in this Chapter 3 of Recognized Gains and Losses chapter.) Chapter 4

- Cash Flow St at em ent

Chapter - Financial I nstr of uments—Cash and statement. Receiv ables Major5components the income Chapter 6

- I nventor y

Chapter IAS 1 stipulates 7 - Rev enue that, Recogni at the minimum, tion, I ncluding the income Constr uction statement Contrmust act s include line items that present the

following (if they are ,pertinent to the entity's operations for the period in question): Chapter 8 items - Property , Plant and Equipment Chapter 9 - I ntangi ble Asset s 1. Revenue Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

I nvestm ent Pr oper ty 2. Results of operating activities

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

3. Finance Currcosts ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Chapter 12 -

Balance Sheet Date

4. Share of profits and losses of associates and joint ventures accounted for by the equity method

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - expense Leases 5. Tax Chapter 15 - I ncom e Taxes

6. Profit or ploy lossee from ordinary activities Chapter 16 - Em Benefit s Chapter 17 - Stock holder s' Equit y

7. Extraordinary items

Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting 8. Minority interest Chapter 20 - Segm ent Repor ting

9. Net for the Changes period and Cor rection of Er ror s Chapter 21 -profit Accounting Chapter 22 - For eign Curr ency

The foregoing items represent the barest minimum: Other line items can be included as deemed useful or necessary to fairly communicate the results of the enterprise's operations. It should be carefully Chapter 24 - Specialized I ndustr ies noted that this requirement must be satisfied by presentation on the face of the income statement; it Chapter I nflation andincorporating Hyperinflationthe items into the notes to the financial statements. cannot 25 be -dealt with by Chapter 23 - Related- Part y Disclosures

Chapter 26 - Gov er nm ent Gr an ts

While the the line items are uniform across all reporting entities, the manner of Appendix A objectives - Di sclosureofChecklist presentation may differ. Specifically, IAS preparers Appendix B - I llustrativ e Financial St atem ent1soffers Pr esent ed Undertwo I ASdifferent manners of classifying operatingC and other expenses: naturaland scheme, or the functional one. While entities are encouraged Appendix - Com parison of I AS, the US GAAP, UK GAAP to apply one or the other of these on the face of the income statement, it would be permissible to I ndex relegate this information to the notes. List of Tables List of Ex hibits and Ex am ples

The natural expense classification scheme identifies costs and expenses in terms of their character,

List of Sidebar s such as salaries and wages, raw materials consumed, and depreciation of plant assets. On the other

hand, the functional classification scheme (also referred to as the "cost of sales" method) reports on the purpose of the expenditure, such as for manufacturing, distribution, and administration. Note that the minimum line item disclosures mandated by the standard must be met in any case; thus, finance costs must be so identified regardless of which classification scheme is employed. IAS 35 governs the presentation and disclosures pertaining to discontinuing operations. This is discussed later in this chapter. Measurement matters relating to discontinuing operation are not covered by this standard; rather, other guidance, particularly IAS 36 dealing with impairment of assets,

must be consulted. IAS 1 furthermore stipulates that if a reporting entity adopts the functional classification scheme, it must W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f also provide information on the nature of its expenses, including depreciation and amortization and staff I n t er n at ion al Accou n t in g St an d ar ds costs (salaries and wages). The standard does not provide detailed guidance on this requirement, ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali however. Presumably Mir za the traditional disclosures (e.g., depreciation expense as defined in IAS 16, etc.) would be sufficient to satisfy rule. John Wi ley &this Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence As a practical matter, most traditionally structured income statements employ a combination of pr esent s account ants with a guide to depend on for functional and natural classifications, or are by disclosures made in other assistance in the prepar at ioneffectively and undersupplemented standing of financial financial statements or in thepresent footnotes. example,with even when depreciation is not set forth as a line statements ed inFor accordance I AS. item on the income statement, it will appear on the cash flow statement (if the popular indirect method T ab le of Con t en t s is employed). As noted, finance costs must be separately stated on the income statement, whichever Wiley I AS 20 03—Int er pretation and used. Application of I nternational Account ing classification scheme is primarily Standar ds

Preface Finally, IAS 1 requires that dividends, on a per share basis, be disclosed either on the face of the Chapter - I ntr oduction to Inotes nter national income1statement or in the thereto.Accounting DividendsStandar includedsboth those paid and those declared but Chapter - Balance Sheet unpaid 2at year-end. I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Chapter 3

While IAS -does not requireGains the inclusion of subsidiary schedules to support major captions in the of Recognized and Losses income4statement, it isStcommonly Chapter - Cash Flow at em ent found that, for example, detailed schedules of costs of goods manufactured and/or Isold are included inand fullReceiv sets ofables financial statements. These will be illustrated in the Chapter 5 - Financial nstr uments—Cash following section to provide a more expansive discussion of the meaning of certain major sections of Chapter 6 - I nventor y the income statement. Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Income from ordinary activities.

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and This section Chapter 10 - of the income statement will serve to summarize the revenues and expenses of the I nvestm ent Pr oper ty

company's central operations.

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

1. Sales or other operating revenues are charges to customers for the goods and/or services

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter provided 12 to them during Balance Sheet Date the period. This section of the income statement should include

about allowances, and returns, to determine net sales or net revenues. Chapter information 13 - Financial I nstrdiscounts, uments—LongTer m Debt Chapter 14 - Leases

2. Cost of goods sold is the cost of the inventory items sold during the period. In the case of a merchandising firm, net purchases (purchases less discounts, returns, and allowances plus Chapter freight-in) 16 - Em ploy eeadded Benefittos beginning inventory to obtain the cost of goods available for sale. From are Chapter the 17 -cost Stock Equit y ofholder goodss'available for sale amount, the ending inventory is deducted to compute cost of Chapter goods 18 - Earnings sold. Per Share Chapter 15 - I ncom e Taxes

Chapter 19 - I nterim Financial Repor ting

Example schedule of cost Chapter 20 of - Segm ent Repor ting of goods sold Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

ABC Merchandising Company Schedule of Cost of Goods Sold For the Year Ended Chapter 23 - Related- Part y Disclosures December 2003 I ndustr ies Chapter 24 - 31, Specialized Chapter 25 - inventory I nflation and Hyperinflation Beginning

$xxx

Chapter 26 - Gov er nm ent Gr an ts

Add:

Purchases

$xxx

Appendix A - Di sclosure Checklist

Appendix B - I llustrativFreight-in e Financial St atem ent s Pr esent ed Under I AS

xxx

Appendix - Com parison of I AS, US GAAP, and UK GAAP Cost of Cpurchases

xxx

I ndex

Less:

List of Tables

Purchase discounts

List of Ex hibits and Ex am Purchase ples R&A List of Sidebar s

$xx xx

(xxx)

Net purchases

xxx

Cost of goods available for sale

xxx

Less: Cost of goods sold

Ending inventory

(xxx) $xxx

A manufacturing enterprise computes the cost of goods sold in a slightly different way. Cost of goods manufactured would be added to the beginning inventory to arrive at cost of goods available for sale. The ending inventory from costanofd goods available W ile is y Ithen AS 2deducted 0 03 : I n t erp re the t at ion Ap p licat io n o f for sale to determine the cost of goods sold. Cost Iof goods manufactured is computed by adding to raw (direct) materials on hand at the n t er n at ion al Accou n t in g St an d ar ds beginning of the period the raw materials purchases during the period and all other costs of production, ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali such as labor andMir direct za overhead, thereby yielding the cost of goods placed in production during the period. When adjusted John Wi for leychanges & Sons ©in2003 work (952 in pages) process during the period and for raw materials on hand at the end of the period, in the calculation goods produced. This comthis pactresults and t ruly com pr ehensiveofqui ck - refer ence pr esent s account ants with a guide to depend on for assistance in theofprepar at ion and under standing of financial Example of schedules of cost goods manufactured and sold statements present ed in accordance with I AS. T ab le of Con t en t s

XYZ IManufacturing Company Schedule of of Cost of GoodsAccount Manufactured For the Year Ended Wiley AS 20 03—Int er pretation and Application I nternational ing Standar ds December 31, 2003 Preface

Direct materials inventory 1/1/03

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Purchases of materials Chapter 2 - Balance Sheet(including freight-in and deducting purchase discounts) I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Total direct Chapter 3 - materials available of Recognized Gains and Losses

Direct 4materials inventory 12/31/03 Chapter - Cash Flow St at em ent

$xxx xxx $xxx (xxx)

Chapter - Financial I nstr uments—Cash and Receiv ables Direct 5materials used Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

$xxx

Direct labor

xxx

Factory Chapter 8 overhead: - Property , Plant , and Equipment Chapter 9

- I ntangi ble Asset s

Depreciation of factory equipment

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty Utilities

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Indirect factory labor Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Chapter 12 -

Balance Sheet Date

$xxx xxx xxx

Indirect materials Chapter 13 - Financial I nstr uments—Long- Ter m Debt

xxx

Chapter - Leases Other 14 overhead items

xxx

Chapter 15 - I ncom e Taxes

Manufacturing cost incurred in 2003

Chapter 16 - Em ploy ee Benefit s

Add: 17 - Stock holder Work in process 1/1/03 Chapter s' Equit y Chapter Per Share Less: 18 - EarningsWork in process 12/31/03 Chapter 19 - I nterim Financial Repor ting

Cost of goods manufactured

Chapter 20 - Segm ent Repor ting

xxx $xxx xxx (xxx) $xxx

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures

XYZ Manufacturing Company Schedule of Cost of Goods Sold For the Year Ended December 31, 2003

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation

Finished Chapter 26 goods - Gov erinventory nm ent Gr 1/1/03 an ts Appendix - Di sclosure Checklist Add: A Cost of goods manufactured Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Cost of goods available for sale

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Less: I ndex

Finished goods inventory 12/31/03

ListCost of Tables of goods sold List of Ex hibits and Ex am ples

$xxx xxx $xxx (xxx) $xxx

List of Sidebar s

3. Operating expenses are primary recurring costs associated with central operations, other than cost of goods sold, which are incurred to generate sales. Operating expenses are normally classified into the following two categories: a. Selling expenses b. General and administrative expenses

Selling expenses are those expenses related directly to the company's efforts to generate sales (e.g., sales salaries, commissions, advertising, delivery expenses, depreciation of store furniture and equipment, and administrative W ile y and I ASstore 2 0 03supplies). : I n t erp reGeneral t at ion an d Ap p licat io n o f expenses are expenses related to the general administration of the company's operations (e.g., officers and office salaries, I n t er n at ion al Accou n t in g St an d ar ds office supplies, depreciation of office furniture and fixtures, telephone, postage, accounting and ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir zaand business licenses and fees). legal services, John Wi ley & Sons © 2003 (952 pages)

4. Gains andThis losses stem from the peripheral transactions of the entity. These items are shown com pact and t ruly com pr ehensive qui ck - refer ence with the normal recurring expenses. If they are material, they should be disclosed pr esent s accountrevenues ants with and a guide to depend on for separatelyassistance and shown income from standing continuing in above the prepar at ion(loss) and under of operations financial before income taxes. present in accordance with I AS. Examples statements are write-downs ofed inventories and receivables, effects of a strike, and gains and losses from exchange or translation of foreign currencies. T ab le of Con t en t s Wiley5.I AS 20 03—Int er pretation and Application of I nternational Accountnot ing related to the central Other revenues and expenses are revenues and expenses Standar ds Preface

operations of the company (e.g., gains and losses on the disposal of equipment, interest revenues and expenses, and dividend revenues).

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2 - Balance Sheet 6. Separate disclosure items are items that are within the profit or loss from the ordinary activities but are I ncom of such e Statement, size, nature, Stat em or incidence ent of Chanthat ges their in Equit disclosure y, and Statem becomes ent important in order to Chapter 3 of Recognized Gains of and explain the performance theLosses enterprise for the period. They should be reported as a separate Chapter component 4 - Cash Flow St at em from ent continuing operations. Examples of items that require such of income Chapter disclosure 5 - Financial nstrfollows: uments—Cash and Receiv ables areI as Chapter 6 Chapter 7

- I nventor y a. Write-down of inventories to net realizable value, or of property, plant, and equipment to - Rev enue Recogni tion, I ncluding Constr uction Contr act recoverable amounts, and subsequent reversals ofs such writedowns

Chapter 8

- Property , Plant , and Equipment

Chapter 9

b. Costsble of Asset restructuring the activities of an enterprise and any subsequent reversals of - I ntangi s such provisions I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty Gains or losses resulting from disposals items of property, plant, and equipment Chapter 11 c. - Business Combinations and Consolidat ed Finof ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 d. - Gains or losses from disposals of long-term investments Balance Sheet Date Chapter 13 e. - Financial uments—LongTer m Debt ResultsI nstr of discontinued operations Chapter 14 - Leases

Costs of litigation settlements Chapter 15 -f.I ncom e Taxes Chapter 16 - Em ploy ee Benefit s

g. Other reversals of provisions

Chapter 17 - Stock holder s' Equit y

Chapter 18 - Earnings Per Share 7. Discontinuing operations. In IAS 35, which superseded a portion of IAS 8 (that originally dealt Chapter with 19 - "discontinued I nterim Financial Repor ting the requirement is set forth that what are now referred to as operations"), Chapter "discontinuing 20 - Segm ent Repor ting operations" must be reported in those circumstances when an enterprise to a single plan and sells,Cor either in its entirety Chapter pursuant 21 - Accounting Changes rection of Er ror s or piecemeal, or terminates through

a separate major line of business or geographical area of operations, such as a Chapter abandonment, 22 - For eign Curr ency (as Part thaty term is defined by IAS 14), which can be distinguished operationally and for Chapter segment 23 - RelatedDisclosures reporting purposes. Chapter financial 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation

Per IAS 35, a "discontinuing operation" is a component of a business that, pursuant to a single plan, is either to be disposed of substantially in its entirety or to be terminated through Appendix A - Di sclosure Checklist abandonment or piecemeal sale of assets and settlement of liabilities. In order to qualify as a Appendix"discontinuing B - I llustrativ eoperation," Financial Stthe atem ent s Pr esent ed need UndertoI AS operation would comprise either a separate major line of Appendixbusiness, C - Com parison of I AS, US GAAP, and UK GAAP geographical area of operations, or class of customer, and furthermore be organized I ndex such that it could be so distinguished both operationally and for financial reporting purposes. Chapter 26 - Gov er nm ent Gr an ts

List of Tables

otherand words, List of ExIn hibits Ex amwhile ples a "discontinuing operation" would not have to meet the test of being a segment List of Sidebar s as that term is defined in IAS 14, clearly it would have to be a substantial operation and

be readily identifiable both in terms of its actual physical operations (e.g., by having separate factory facilities, etc.) as well as from a financial reporting perspective (e.g., by having divisional financial statements prepared for management use, etc.). The standard points out that even a major part of a segment could qualify as a discontinuing operation, but the question of how significant a part this would have to be, to potentially comprise an operation which could be segregated as described in IAS 35 once a decision to discontinue had been made, is not addressed in the standard. Thus, this will remain in the domain of individual judgments until such time, if ever, when the IASC provides further guidance.

The standard notes that major product lines and portions of segments would often qualify as discontinuing operations, provided that certain conditions were met. If operating assets and W ile y I AS 2could 0 03 : be I n attributed t erp re t at ion an d Ap p licat ioand n o f at least a majority of its liabilities and income to the component, I n t er n at ion al Accou n t in g Stto anit, d ar ds it would likely be valid under the standard to operating expenses could be attributed then ISBN:0471227366 Bar r y J. (if Epstein and Abbas Alior abandoned) define thisby operation it were being sold as a discontinuing operation. Mir za

JohntoWi ley & Sons © 2003 (952 pages) Furthermore, qualify as a "discontinuing operation," the act of discontinuing the operation would have This to involve com pactaand significant t ruly com management pr ehensive qui event, ck - refer such ence as the sale or abandonment of the pr esentors an account ants with a guide to depend on for entire operation organized, even if piecemeal, effort to sell off the assets and settle the in the prepar at ion and under standing of financial obligationsassistance of the operation. This limitation suggests that any discontinuation decision will be of statements present ed in accordance with I AS. sufficient import that it will be clear that it indeed involves a major portion of the enterprise's T ab le of operations, Con t en t s even if not an entire segment as defined by IAS 14. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing It should be noted that under the new standard the term "discontinuing" is used in place of the Standar ds Preface formerly employed term "discontinued." This change has been made largely to acknowledge that

made while the actStandar of discontinuation is in process, and not merely Chapter the 1 -disclosures I ntr oductionare to being I nter national Accounting ds it has been fully achieved. Notwithstanding this change, the meaning is intended to be Chapter once 2 - Balance Sheet essentially that which was earlier ascribed to the previously employed terminology. I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Chapter 3

-

of Recognized Gains and Losses

IAS 35 prescribes the following disclosures for a discontinuing operation in the financial Chapter 4 - Cash Flow St at em ent statements beginning with the period in which the initial disclosure event occurs: Chapter 5 Chapter 6 Chapter 7 Chapter 8 Chapter 9

- Financial I nstr uments—Cash and Receiv ables

a. A description of the discontinuing operation; - I nventor y - Rev enue Recogni tion, I ncluding Constr uction Contr act s b. The business or geographical segment(s) in which it is reported in accordance with IAS - Property 14; , Plant , and Equipment - I ntangi ble Asset s

c.I nterests The date nature of um theent initial disclosure event; in and Financial Instr s, Associat es, Joint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty The date or period in and which the discontinuance is expected to be completed if known or Chapter 11 d. - Business Combinations Consolidat ed Fin ancial Statements Chapter 12 -

determinable; Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

e. The carrying amounts, as of the balance sheet date, of the total assets and the total liabilities to be disposed of;

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Chapter 15 -f.I ncom Taxes of revenue, expenses, and pretax profit or loss from ordinary activities The eamount Chapter 16 - Emattributable ploy ee Benefit s discontinuing operation during the current financial reporting period, to the Chapter 17 - Stock s' Equittax y expense relating thereto as required by IAS 12; and andholder the income Chapter 18 - Earnings Per Share

The net cash flows attributable to the operating, investing, and financing activities of the Chapter 19 g. - I nterim Financial Repor ting discontinuing operation during the current financial reporting period. Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

The reason that the carrying amount (i.e., book value) of discontinuing operations has been

Chapter defined 22 - For to eign beCurr the ency reportable amount is that IAS 35 does not address measurement matters as Chapter such; 23 - RelatedPart y Disclosures rather, it presumes that other IAS deal with these concerns, and that the carrying values of Chapter assets 24 - Specialized ndustr ies (whether Ito be disposed of or not) have already been adjusted for any impairment (the Chapter subject 25 - I nflation of IASand 36, Hyperinflation discussed in Chapter 8). Thus, if the carrying amounts of assets needed to be Chapter adjusted 26 - Gov er nm ent Gr an ts upon being declared to be part of a discontinuing operation, this would imply that Appendixaccounting A - Di sclosure standards Checklist had not previously been complied with. If all existing impairments had

the ed mere act of Appendixbeen B - Iproperly llustrativ erecognized, Financial Stthen atemlogically ent s Pr esent Under I ASdeclaring an operational segment a operation not, and in and itself, have any further impact on carrying value. Appendixdiscontinuing C - Com parison of I AS, would US GAAP, UK of GAAP I ndex

Also since IAS 35 sets forth only disclosure requirements (and not recognition or measurement requirements), the standard is able to take a somewhat different than normal position regarding List of Ex hibits and Ex am ples the relevance of the reporting entity's fiscal year-end. The decision to segregate the results of List of Sidebar s the discontinuing operation need not be made by the actual year-end in order to present the income statement as required under the standard. Rather, if it is known at the date on which the financial statements are authorized for issue by the board of directors (or similar governing body) that an initial disclosure event has occurred after the end of the enterprise's financial reporting period, the above-noted disclosures should be presented. List of Tables

The standard categorically states that income and expenses relating to a discontinuing operation shouldnot be presented as extraordinary items. The reason for proscribing extraordinary treatment is as follows: extraordinary items as defined in IAS 8 (discussed in detail below) are

events that are clearly distinct from ordinary activities of the enterprise and as contemplated by IAS 8, based on the two examples of extraordinary items given in IAS 8, are events which are not within W theilecontrol of0the of the a discontinuing y I AS 2 03 : management I n t erp re t at ion an denterprise. Ap p licat ioBy n ocontrast, f operation, Iper IAS 35, is a component of the enterprise that is either being disposed of or n t er n at ion al Accou n t in g St an d ar ds terminatedbythrough abandonment, based on a plan by an enterprise's management. Being thus ISBN:0471227366 Bar r y J. Epstein and Abbas Ali based on aMir"plan za by an enterprise's management," a discontinuing operation could hardly be consideredJohn an event Wi ley "not & Sons within © 2003 the(952 control pages)of management," and hence, income and expenses relating to This a discontinuing not be as extraordinary items. The results com pact andoperation t ruly comshould pr ehensive quipresented ck - refer ence pr esentoperations s account ants withbe a guide to depend on foror loss from ordinary activities. of discontinuing should included in the profit assistance in the prepar at ion and under standing of financial present ed in with I AS. Under the statements provisions of IAS 35, anaccordance initial disclosure event is that which first causes the enterprise to disclose, in the financial statements, initial information about a planned T ab le of Con t en t s discontinuance. This event is defined by the earlier of two occurrences: the reporting entity's Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing entering into a binding sale agreement, or both the approval by its governing board (or Standar ds Preface equivalent) of a detailed formal plan for the discontinuance, and the announcement thereof to the public. IAS 37 (discussed in Chapter 12) offers instructive examples to help in distinguishing Chapter 1 - I ntr oduction to I nter national Accounting Standar ds situations in which an initial disclosure event has occurred from those in which the event has not Chapter 2 - Balance Sheet occurred. For example, a pre-year-end decision to close a division, which has yet to be I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter communicated 3 to any affected parties (workers, customers, etc.) would not trigger disclosure of of Recognized Gains and Losses a discontinuing operation under IAS 35. Chapter 4 - Cash Flow St at em ent Chapter IAS 5 - 35 Financial nstr uments—Cash allows Isuch a disclosure toand beReceiv made ables either in the notes to the financial statements or on Chapter the 6 -face I nventor y of the financial statements. It should be noted, however, that disclosure of the amount Chapter of 7 pretax - Rev enue I ncluding uction Contr act s or settlement of liabilities attributable gain Recogni or loss tion, recognized on Constr the disposal of assets Chapter to 8 the - Property , Plant , and Equipment discontinuing operation should be made on the face of the income statement. Also, the Chapter standard 9 - I ntangi ble Asset s (i.e., it encourages but does not require) presentation on the face of the recommends statements of income andInstr of cash flows disclosures relating toes, revenues, expenses, pretax I nterests in Financial um ent s, Associat es, Joint Ventur and Chapter 10 ent Pr oper ty tax expense, and cash flows attributable to discontinuing operations. profitsI nvestm or losses, income Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

UnderCurr theent provisions ofProv IASisions, 35, in Cont reporting periods thatafter in which Liabilit ies, ingencies, andafter Ev ents t he the initial disclosure event has occurred, the entity Balance Sheet Date would need to incorporate updated disclosures in the financial statements, until such time as theTer planned 13 - Financial I nstr uments—Longm Debtdiscontinuance has been completed. A discontinuance effected by the sale of a division would be completed once the transaction had 14 - Leases taken place; would not require that payments from the buyer(s) to the seller have been fully 15 - I ncom e it Taxes collected. If ee theBenefit plan tos discontinue is abandoned, this event would also terminate the need to 16 - Em ploy present information about 17 - Stock holder s' Equit y the discontinuing operation.

Chapter 12 Chapter Chapter Chapter Chapter Chapter

Chapter 18 - Earnings Per Share

Example of disclosure of discontinuing operations under IAS 35

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

Chapter Alternative 21 - Accounting Changes and Cor rection of Er ror s I— Columnar presentation Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter Taj 24 -Mahal Specialized I ndustr ies Enterprises Statement of Income For the Years Ended December 31, 2003 Chapter and 25 - 2002 I nflation (In 1,000 and Hyperinflation UAE Dirhams) Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

Continuing Discontinuing Operations Operation W ile y I AS 2 0(Segments 03 : I n t erp X re & t atY) ion an d Ap(Segment p licat io n Z) of

Enterprise as a Whole

I n t er n at ion al Accou n t in g St an d ar ds

2003 and Abbas 2002 by Bar r y J. Epstein Ali Mir za Revenue 10,000 5,000 John Wi ley & Sons © 2003 (952 pages)

2003

2002 ISBN:0471227366

3,000

2003

2002

2,000

13,000

7,000

OperatingThis com pact and (7,000) (1,800) (1,400) t ruly com(3,500) pr ehensive qui ck - refer ence expensespr esent s account ants with a guide to depend on for

(8,800)

(4,900)

(500)

(400)

--

(900)

--

200

2,800

1,700

(100)

(400)

(300)

100

2,400

1,400

(20)

(480)

(280)

1,920

1,120

assistance in the prepar at ion and under standing of financial

Impairment loss -- in accordance -- with I(500) statements present ed AS.

(400)

Provision T ab le of Con t en t s for

--(900) employee endWiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar dsof-service Preface benefits Chapter 1Pretax - I ntrprofit oduction to I nter national ds 3,000 Accounting 1,500 Standar (200) Chapter 2(loss) - Balance from Sheet

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3operating of Recognized Gains and Losses activities Chapter 4

- Cash Flow St at em ent

Interest (300) (200) (100) - Financial I nstr uments—Cash and Receiv ables expenses

Chapter 5 Chapter 6

- I nventor y

(loss) 1,300uction Contr (300) Chapter 7Profit - Rev enue Recogni tion,2,700 I ncluding Constr act s tax , Plant , and Equipment Chapter 8before - Property Chapter 9Income - I ntangi taxble Asset s

(540)

(260)

60

I nterests expense (@ in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty 20%) Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Profit (loss) from

2,160

1,040

(240)

80

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 operating Balance Sheet Date

activities afterI nstr uments—Long- Ter m Debt Chapter 13 - Financial tax- Leases Chapter 14

Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s

Alternative II—Tabular presentation

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share ChapterTaj 19 Mahal - I nterim Financial Repor ting Enterprises Statement of Income For the Years Ended December 31, 2003 Chapterand 20 -2002 Segm entUAE Repor ting (In Dirhams) Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter Continuing 23 - Related-Operations Part y Disclosures (Segments X & Y): Chapter 24 - Specialized I ndustr ies

Revenue

2003

2002

10,000

5,000

(7,000)

(3,500)

AppendixPretax A - Di sclosure Checklist profit from operating activities 3,000 Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

1,500

Chapter 25 - I nflation and Hyperinflation Chapter Operating 26 - Gov erexpenses nm ent Gr an ts

Interest expense

(300)

(200)

Profit before tax

2,700

1,300

(540)

(260)

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

List of Tables Income tax expense List of Ex hibits and Ex am ples

Profit after taxes (@ 20%)

2,160

List of Sidebar s

1,040

Discontinuing operation (Segment Z): Revenue

3,000

2,000

(1,800)

(1,400)

Impairment loss

(500)

(400)

Provision for employee end-of-service benefits

(900)

--

Pretax profit (loss) from operating activities

(200)

200

Operating expenses

Interest expense

(100)

(100)

Profit (loss) before tax

(300)

100

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f t er n at ion al 20%) Accou n t in g St an d ar ds Income taxI nexpense (@ 60 ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Profit (loss) (240) Mirafter za taxes John Wi ley & Sons © 2003 (952 pages) Total enterprise: This com pact and t ruly com pr ehensive qui ck - refer ence

Profit (loss) from ordinary pr esent s accountactivities ants with a guide to depend on for

(20)

1,920

80

1,120

assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Alternative III—Not presented in the body of the income statement T ab le of Con t en t s Wiley I AS As 20 an03—Int alternative er pretation to the and foregoing Application income of Istatement nternational presentations, Account ing disclosure by means of Standarfootnotes ds is allowed. A range of methods is potentially useful, from full pro forma presentation in Preface the notes to a narration of the nature of the operations which are being discontinued, including Chapterrelevant 1 - I ntramounts. oduction to I nter national Accounting Standar ds Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

8. Income tax expense related to ordinary activities is that portion of the total income tax of Recognized Gains and Losses to ent continuing operations. Chapter expense 4 - Cashapplicable Flow St at em 9. Extraordinary items are income or expenses that arise from events or transactions that are - I nventor y clearly distinct from ordinary activities of an enterprise.

Chapter 6 Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter Only 8 - Property , Plant , anddoes Equipment on rare occasions an event or a transaction give rise to an extraordinary item. The Chapter nature 9 - I ntangi ble Asset s of the event in relation to the business ordinarily carried out by the enterprise determines I nterests um ent s, Associat es, Joint Ventur es, andof the enterprise and hence or notinanFinancial event isInstr clearly distinct from the ordinary activities Chapter whether 10 I nvestm ent Pr oper should be classified as ty an extraordinary event. Thus an event may be extraordinary for one Chapter enterprise 11 - Business and Consolidat Fin ancial Statements but Combinations may not be extraordinary foredanother enterprise. For instance, losses sustained Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he but claims resulting from from a hurricane would be an extraordinary event for most enterprises Chapter 12 Dateby an insurance company do not qualify for such treatment (since such such Balance a naturalSheet disaster Chapter claims 13 - Financial uments—LongTer m Debt are partI nstr of the ordinary activities of an insurance company's business). Chapter 14 - Leases

events or transactions that generally qualify as extraordinary items, as included in Chapter Examples 15 - I ncomof e Taxes are the Chapter IAS 16 - 8, Em ploy eefollowing: Benefit s Chapter 17 a. - Stock holder s' Equit yfrom the expropriation of assets Losses resulting Chapter 18 - Earnings Per Share

Losses sustained from Chapter 19 b. - I nterim Financial Repor tingnatural disasters such as an earthquake Chapter 20 - Segm ent Repor ting

The nature and the amount of each extraordinary item should be disclosed separately.

Chapter Disclosures 21 - Accounting Cor rection of Er ror s income statement or in footnotes to the mayChanges be madeand either on the face of the Chapter financial 22 - For eign Curr ency statements. Chapter 23 - Related- Part y Disclosures

of presentation Chapter Example 24 - Specialized I ndustr ies of extraordinary item Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

Ltd. Income St Statement For theedYear Ended AppendixXYX B - IMalta, llustrativ e Financial atem ent s Pr esent Under I AS December 31, 2003 Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

2003 Sales

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f $1,000,000 I n t er n at ion al Accou n t in g St an d ar ds

$ 800,000

ISBN:0471227366 (700,000)

(600,000)

300,000

200,000

Thiscosts com pact and t ruly com pr ehensive qui ck - refer ence Distribution (50,000) pr esent s account ants with a guide to depend on for Administrative expenses assistance in the prepar at ion and under standing of financial (30,000) statements present ed in accordance with I AS.

(40,000)

by Bar r y J. Epstein and Abbas Ali Cost of sales

Mir za Gross profit John Wi ley & Sons © 2003 (952 pages)

Net financing costs T ab le of Con t en t s

Loss from sale of scooter division (Note 1)

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar dsProfit from ordinary activities, before taxes Preface

2002

Income tax expense

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

(40,000)

(20,000)

(20,000)

(50,000)

--

150,000

100,000

(60,000)

(40,000)

--

(30,000)

$ 90,000

$ 30,000

item Chapter 2Extraordinary - Balance Sheet I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Loss on expropriation of Suzukiyo moped of Recognized Gains and Losses

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

manufacturing operations in India (net of income taxes of $30,000) (Note 2)

Chapter 5

- Financial I nstr uments—Cash and Receiv ables forythe year Chapter 6Net - Iprofit nventor Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

1: ble OnAsset September 1, 2003, the company sold its scooter division. The results of this - Note I ntangi s

operation previously reported in the industry segment and the domestic I nterests had in Financial Instrbeen um ent s, Associat es, scooter Joint Ventur es, and geographic I nvestm ent segment. Pr oper ty The loss on the sale was computed based on the sale proceeds and net carrying amountsand of Consolidat assets andedliabilities the operation at the date of the sale. The Chapter 11 - the Business Combinations Fin ancialofStatements revenues recognized relating to this operation from 2003, until the date of sale, Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev January ents after1,t he Chapter 12 September 1, 2003, Balance Sheet Date were $100,000 (the comparable 2002 amount was $150,000), and the before taxes were ($40,000 in 2002). Chapter 13 - profits Financial I nstrincome uments—LongTer m$30,000 Debt Chapter 10 -

Chapter 14 - Leases Chapter 15 - Note I ncom Taxes 2:e On July 1, 2002, the company's Suzukiyo moped manufacturing operations were Chapter 16 - expropriated Em ploy ee Benefit s in India, without compensation, by government decree. The results of this Chapter 17 - operation Stock holder s' previously Equit y had been reported in the moped industry segment and the Far East Chapter 18 - geographic Earnings Per Share The extraordinary loss from this operation was computed using the segment. Chapter 19 - carrying I nterim Financial ting and liabilities at the date of expropriation. The revenues amounts Repor of assets Chapter 20 - recognized Segm ent Repor relating ting to this operation from January 1, 2002, to July 1, 2002, were $50,000,

the profits beforeand tax Cor were $22,000. Chapter 21 - and Accounting Changes rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures

Development Stage Enterprises

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation

Chapter A recurring 26 - concern Gov er nmamong ent Gr an newly ts established enterprises is that, given what is often a multiyear

process Aof-achieving normal level of operations and absorbing the typically heavy start-up costs Appendix Di sclosurea Checklist needed to this, the income statements prepared andI presented under generally accepted Appendix B -achieve I llustrativ e Financial St atem ent s Pr esent ed Under AS accounting may provide the user with meaningful insights into the Appendix C - principles Com parison of be I AS,insufficient US GAAP, to and UK GAAP operations and potential of the entity. In years gone by, a commonly employed solution was to defer I ndex many costs that normally are deemed to be period costs, and then to amortize these over what was List of Tables

often an arbitrary period (e.g., five years). The logic was that these costs were incurred to benefit operations after the entity began to operate in a normal fashion, and to expense these upon incurrence List of Sidebar s would most commonly result in reportable losses that would imply that future successful operations would not be achieved. List of Ex hibits and Ex am ples

The obvious flaw in the deferral of start-up costs from a financial reporting perspective is that these deferred costs would necessarily be presented as assets on the enterprise's balance sheet, when in fact these sunk costs would have no demonstrable value for the future, particularly if the entity's strategies proved unsuccessful. Thus, there is an inherent conflict among some of accounting's most fundamental concepts: the going concern assumption, realization, and conservatism. Ultimately, the US

and other accounting standard setters had to rule that costs must be accounted for by development stage enterprises no differently than by operating enterprises: If the cost represents an asset, it is accounted for as W such, cost thepdefinition ile y but I ASif2a0 sunk 03 : I n t erpdoes re t atnot ionmeet an d Ap licat io n oof f an asset, it must be expensed when incurred. I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

In recognition of the not unreasonable argument that strict application of the foregoing rule would result Mir za in income statements development stage which might not be as meaningful as would be John for Wi ley & Sons © 2003 (952enterprises pages) hoped, the salientThis UScom accounting standard provides that cumulative statements of income be pact and t ruly com pr ehensive qui ck - refer ence presented for development stage enterprises, so that users understand the full scope of the pr esent s account ants with a guide to dependcan on better for activities undertaken preparatory achieving normal operations. assistance in the to prepar at ion and under standing ofAlthough financial there is currently no statements present ed in accordance with I AS. against the presentation of such corresponding standard under IAS, there is also no prohibition statements (at least on a supplementary basis). The following discussion is offered to those who may T ab le of Con t en t s choose to report on this basis. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Development stage enterprises defined.

Preface

Chapter 1

I ntr oduction to I nter national Accounting Standar ds Under the -applicable US GAAP standard, SFAS 7, a development stage enterprise is defined as one

Chapter 2 - Balance Sheet that is devoting substantially all of its efforts to establishing a new business, and either of the following I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent conditions exists: Chapter 3 of Recognized Gains and Losses

operations have not begun. 1. Planned Chapter 4 - Cashprincipal Flow St at em ent Chapter 5

- Financial I nstr uments—Cash and Receiv ables 2. Planned principal operations have begun but there has been no significant revenue.

Chapter 6

- I nventor y

Chapter SFAS 77 indicated - Rev enue thatRecogni these tion, enterprises I ncluding should Constr prepare uction Contr their financial act s statements in accordance with

the same applicable established Chapter 8 GAAP - Property , Plant , to and Equipment operating entities. SFAS 7 indicated that specialized accounting unacceptable and that development stage enterprises were to follow the same Chapter 9 - practices I ntangi bleare Asset s generally accepted accounting ass,those thates, applied to an established operating entity. SFAS I nterests in Financialprinciples Instr um ent Associat Joint Ventur es, and 7 also provided I nvestm that ent a development Pr oper ty stage enterprise should disclose certain additional information that would alert the fact that the theancial development stage. Disclosure requirements Chapter 11 - readers BusinesstoCombinations and company ConsolidatisedinFin Statements include Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 10 -

Chapter 12 -

Balance Sheet Date 1. All disclosures applicable to operating entities

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 2. Identification 14 - Leases of the statements as those of a development stage enterprise Chapter 15 - I ncom e Taxes

3. Disclosure of the nature of development stage activities

Chapter 16 - Em ploy ee Benefit s

Chapter 17balance - Stock holder Equit y 4. A sheet s'that includes the cumulative net losses since inception in the equity section Chapter 18 - Earnings Per Share

5. An Chapter 19 income - I nterimstatement Financial showing Repor tingcurrent period revenue and expense, as well as the cumulative from inception of the entity Chapter amount 20 - Segm entthe Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

6. A statement of cash flows showing cash flows for the period, as well as those from inception

Chapter 22 - For eign Curr ency

Chapter 23statement - Related-of Part y Disclosuresequity showing the following from the enterprise's inception: 7. A stockholders' Chapter 24 - Specialized I ndustr ies

a. For each issuance, the date and number of equity securities issued for cash or other consideration

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Appendix A b. - Di For sclosure eachChecklist issuance, the dollar amounts per share assigned to the consideration received

for equity securities Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

c. For each issuance involving noncash consideration, the nature of the consideration and the basis used in assigning the valuation

List of Tables

List of hibits am ples 8. ExFor theand firstExperiod in which an enterprise is no longer a development stage enterprise, it shall be List of Sidebar s disclosed that in prior periods the entity was a development stage enterprise. If comparative

statements are presented, the foregoing disclosure presentations (2 through 7) need not be shown. Given the absence of guidance under IAS regarding the possible utility of presenting cumulative operating statements for enterprises which have yet to begin normal scale operations, the insights offered by the relevant US standard could be employed by those seeking expanded financial statement disclosures to accomplish a similar goal.

IASB Projects Affecting the Income Statement W ile y I AS 2 0 03 : Improvements project.

I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

ISBN:0471227366 The Improvements by Project, Bar r y J. which Epsteinasand of mid-2002 Abbas Ali was responsible for proposed amendments to twelve za outstanding IAS, Mir promises significant changes to IAS 1 and IAS 8, both of which are important guides John Wi ley & Sons © 2003 (952 pages) to the presentation of the income statement.

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with aamendments guide to depend on alter for the current exemption from having Regarding changes to IAS 1, the proposed would assistance in comparative the prepar at ion and underfrom standing of financial to "causing undue cost or to disclose particular items of information "impracticability" statements present ed in accordance with I AS. effort." It would also absorb the guidance regarding the presentation requirements for the net profit or loss forCon the tperiod, T ab le of en t s which is currently found in IAS 8. The caption "results of operating activities" would be banned from theerincome since of that term is not Account defined ing under IAS 1. Finally, and most Wiley I AS 20 03—Int pretationstatement, and Application I nternational importantly, IAS 1 would be amended to ban the use of the caption "extraordinary items," both in the Standar ds body of the financial statements and in the notes thereto. Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

IAS 8 would also be significantly revised, to remove the distinction between fundamental errors and - Balance Sheet other material errors, and add a new definition of errors. Thus, the concept of a fundamental error I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 eliminated. would be The current choice of accounting for corrections of errors—as either prior period of Recognized Gains and Losses adjustments (affecting opening retained earnings and all comparative statements presented) or as Chapter 4 - Cash Flow St at em ent cumulative effects included in current earnings (with no restatement of comparative financials)—would Chapter 5 - Financial I nstr uments—Cash and Receiv ables be eliminated, with only retrospective (prior period adjustment) method remaining for use. This method Chapter 6 - I nventor y involves either restating the comparative amounts for the prior period(s) in which the error occurred, or Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s when the error occurred before the earliest prior period presented, restating the opening balance of Chapter - Property Plantperiod. , and Equipment retained8 earnings for, that Thus, prior period statements being presented currently are to be Chapter 9 I ntangi ble Asset shown as if the error had nots occurred. Chapter 2

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

nvestm ent Prof oper ty periods' financials (for comparative purposes) when an error is being Currently, a Irestatement prior Chapter 11 is - Business and Consolidat ed Fin ancial corrected acceptedCombinations when not practical to accomplish. UnderStatements revised IAS 8, this will be allowed only if not achievable Currwithout ent Liabilit "undue ies, Prov cost isions, or effort." ContAlso, ingencies, the exemption and Ev entswould after apply t he only to the particular Chapter 12 Date comparative information would cause undue cost or effort. prior period Balance for whichSheet restating Chapter 13 - Financial I nstr uments—Long- Ter m Debt

In another Chapter 14 -important Leases change, the revised IAS 8 will remove the allowed alternative treatment of voluntary accounting policies, meaning that a reporting entity would no longer be permitted Chapter 15 changes - I ncom einTaxes to include resulting from retrospective application of changes in accounting policies in Chapter 16 the - Emadjustment ploy ee Benefit s

income for the current period, while presenting comparative information as it had been originally reported in the financial statements of prior periods. Instead, the adjustment resulting from Chapter 18 - Earnings Per Share retrospective application of changes in accounting policies will have to be made to the opening balance Chapter 19 - I nterim Financial Repor ting of retained earnings for the earliest prior period presented, and the other comparative amounts Chapter 20 - Segm ent Repor ting disclosed for each prior period presented, where applicable, as if the new accounting policy had always Chapter 21 - Accounting Changes and Cor rection of Er ror s been in use. Only "undue cost or effort," not mere "impracticality," could be used to exempt the entity Chapter 22requirement. - For eign Curr ency from this Chapter 17 - Stock holder s' Equit y

Chapter 23 - Related- Part y Disclosures

In addition the changes to be Chapter 24 -toSpecialized I ndustr ieswrought by the Improvements Project noted above, the IASB has proposed standard to govern the presentation of the financial statements at the time IAS (IFRS) Chapter 25 a- new I nflation and Hyperinflation is first adopted. These Chapter 26 - Gov er nm entproposed Gr an ts changes are discussed in Chapter 2. Appendix A - Di sclosure Checklist

Reporting performance.

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Yet another critical project of the IASB is that on Reporting Performance, which is being conducted in

I ndex concert with the UK's Accounting Standards Board, which has been pursuing this program for several List of Tables years and has already issued a draft on this subject. (Note that the US's FASB also has this project on List Ex hibits and Ex am ples its of agenda.) List of Sidebar s

This project is intended to broadly address the issues related to the display and presentation, in the financial statements, of all recognized changes in assets and liabilities arising from transactions or other events, with the exception of those related to transactions with owners as owners. Put differently, the project is concerned with the reporting of comprehensive income. Thus, consideration is to be given to all items that are at present reported in the income statement, the cash flow statement, and the statement of changes in equity. The project is concerned with, among other things, distinguishing revenues and expenses from other sources of comprehensive income or expense, the reporting of holding gains and losses, and distinguishing operating and nonoperating items.

Changes to the financial statements that present "flows," as currently set forth in IAS 1, are the most likely outcome of this project. The project is not concerned with balance sheet presentation. Likewise, it ile y I AS 0 03 : I nany t erpnew re t at an d Ap pperformance licat io n o f measures, such as EBITDA, is not intended toWidentify or 2develop orion alternative I n t er n at ion al Accou n t in g St an d ar ds operating cash flow, free cash flow, and various measures of pro forma results. Nonfinancial by Bar r y J. Epstein and Abbas Ali performance measures—such as performance ratios—and theISBN:0471227366 form and content of management's Mir za discussion and analysis of financial position and results of operations (operating and financial review) John Wi ley & Sons © 2003 (952 pages) are not subject of the project, either. This com pact and t ruly com pr ehensive qui ck - refer ence esent s account antsdefine with a where guide to depend on entity for should report those transactions IASB decided thatprthis project should and how an assistance in the prepar at ion and under standing of financial and events recognized during the reporting period, not how they should be measured. Individual IFRS statements present ed in accordance with I AS.

provide detailed recognition, measurement, and disclosure requirements; this project will not revisit T ab le ofmatters. Con t en t s those

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar Certaindsdecisions were taken by a predecessor committee, which may (or may not) be subscribed to by

those involved in the current phase of this project. Those decisions were that Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

There should be a single statement of "recognized income and expenses" which should report all - Balance Sheet increases or decreases in net assets of the enterprise, other than those increases or decreases I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - from capital transactions. This would eliminate separate reporting of other items of arising of Recognized Gains and Losses comprehensive income, excluded from net income. Chapter 4 - Cash Flow St at em ent Chapter 2

Chapter 5 - Financial I nstr uments—Cash Receiv ables Recycling between categories in theand performance statement, and between the performance Chapter 6 I nventor y statement and the statement of shareholders' equity, would be prohibited. Thus, an item of income Chapter 7 - Rev enue tion, I ncluding Constr uction Contr act s or expense wouldRecogni be recognized only once. Chapter 8

- Property , Plant , and Equipment Capital would Chapter 9 - transactions I ntangi ble Asset s be reported in a separate statement of shareholders' equity, which

would be revisedinand made mandatory (i.e., merees, footnote disclosure of movements, in lieu of I nterests Financial Instr um ent s, Associat Joint Ventur es, and financialI nvestm statement presentation, would not be permitted). ent Pr oper ty

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

IAS 7 would be amended to align, where necessary, with the statement of recognized income and

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 expenses. Capital transactions would be reported as a separate category. Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Early thinking is to have the performance statement track the cash flow statement; that is, to have the principal category of the statement be the business activities category, with other categories being Chapter 15 -activities I ncom e Taxes financing and investing activities (or, under an alternative being explored, these activities Chapter 16 Em ploy ee s activities). There would possibly be differentiation within the treasury might be combined as Benefit Chapter 17 -between Stock holder s' Equitiny items that are measured at fair value and those on a basis of other than categories changes Chapter 18 - Earnings Per Share fair value. Chapter 14 - Leases

Chapter 19 - I nterim Financial Repor ting

Certain20 items would reported Chapter - Segm entbe Repor ting separately in the statement of recognized income and expenses, including taxes Changes (IAS 12),and discontinuing Chapter 21 income - Accounting Cor rection operations of Er ror s (IAS 35) and the cumulative foreign

exchange translation account (IAS 21). IAS 8 would be amended to abolish the concept of an extraordinary item (this has already been absorbed into the Improvements Project, discussed above).

Chapter 22 - For eign Curr ency

Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Chapter 4: Cash Flow Statement I n t er n at ion al Accou n t in g St an d ar ds ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali za PerspectiveMirand Issues

John Wi ley & Sons © 2003 (952 pages)

The IASC issued This revised com IAS pact 7, and Cash t rulyFlow com Statements pr ehensive qui , inck1992, - refersuperseding ence the original standard, pr esent s account a guide to depend on for enterprises to prepare the also denoted as IAS 7, which hadants beenwith issued in 1977 and required assistance in the prepar at ion and under standing of financial statement of changes in financial position (commonly referred to as the funds flow statement) as an statements present ed in accordance with I AS. integral part of the financial reporting process. This revised standard, which established the currently T ab applicable le of Conrules t en t sfor cash flow reporting, became operative in 1994. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing The primary purpose of the statement of cash flows is to provide information about the cash receipts Standar ds

and cash payments of an entity during a period. A secondary purpose is to provide insight into the Preface investing financing of the entity. More Standar specifically, Chapter 1 and - I ntr oductionactivities to I nter national Accounting ds the statement of cash flows should help investors creditors assess Chapter 2 and - Balance Sheet

generate future positive cash ges flows 1. The ability I ncom to e Statement, Stat em ent of Chan in Equit y, and Statem ent -

Chapter 3

of Recognized Gains and Losses 2. The to meet and pay dividends Chapter 4 - ability Cash Flow St atobligations em ent Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

3. Reasons for differences between income and cash receipts and payments

Chapter 7 - Rev enue tion, I ncluding Constr uction Contr act sfinancing transactions 4. Both cash andRecogni noncash aspects of entities' investing and Chapter 8 - Property , Plant , and Equipment

The adoption of a requirement Chapter 9 - I ntangi ble Asset s for cash flow reporting by the IASC completed a universal movement

away from the formerly flow of reporting toVentur cash flow reporting. In the United I nterests in popular Financialfunds Instr um entmode s, Associat es, Joint es, and Chapter States,10 the- move was completed with the issuance of SFAS 95 in 1988. A similar change in the United I nvestm ent Pr oper ty Kingdom with the issuance of Consolidat FRS 1 in 1991. (However, the UK rules were substantially Chapter 11 occurred - Business Combinations and ed Fin ancial Statements revised in October that financial reporting of cash information Curr ent1996, Liabilitso ies, Prov isions, Cont ingencies, andflow Ev ents after t hein the UK now differs significantly Balance from practice Sheet under Date both US and International standards, as noted in greater detail below.) The purpose of this shift to provide external users of financial statements with a better tool to Chapter 13 - Financial I nstrwas uments—LongTer m Debt project 14 future cash flows, which is now deemed to be the ultimate concern of investors and creditors. Chapter - Leases While the Chapter 15 formerly - I ncom epopular Taxes concept of funds did permit this assessment to be made, albeit with difficulty on the part users of thes statements, cash flow reporting is now seen as being a central objective Chapter 16 - of Emthe ploy ee Benefit of the financial reporting process. The requirements of IAS 7 are generally similar to the requirements Chapter 17 - Stock holder s' Equit y of both SFAS 95 and the original UK FRS 1, as it stood before its overhaul in 1996, although IAS 7 Chapter 18 - Earnings Per Share does contain a few peculiarities, which are highlighted in the following discussion. Chapter 12 -

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

Sources of IAS

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

IAS 7

Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

ile yTerms I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f DefinitionsWof I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

Cash

ISBN:0471227366

Cash on hand and demand deposits with banks or other financial institutions.

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for Cash equivalents assistance in the prepar at ion and under standing of financial statements present ed investments in accordancethat withare I AS. Short-term highly liquid (1) readily convertible to known amounts

of cash, and (2) so near their maturity (original maturity of three months or less) that they present negligible risk of changes in value because of changes in interest rates. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Treasury bills, commercial paper, and money market funds are all examples of cash Standar ds equivalents. Preface

T ab le of Con t en t s

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds Direct method

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

A method that derives the net cash provided by or used in operating activities from

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent major components of Losses operating cash receipts and payments. of Recognized Gains and

Financing activities

The transactions that cause changes in the size and composition of an enterprise's capital and borrowings.

Chapter 8 - (reconciliation) Property , Plant , and Equipment Indirect method Chapter 9

- I ntangi ble Asset s

Chapter 10 -

A method that derives the net cash provided by or used in operating activities by

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and adjusting net income (loss) for the effects of transactions of a noncash nature, any I nvestm ent Pr oper ty

deferrals or accruals of past or future operating cash receipts or payments, and items of income or expense associated with investing or financing activities.

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Investing activities

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

The acquisition and disposal of long-term assets and other investments not included in cash equivalents.

Chapter 14 - Leases

Chapter 15 - I ncom e Taxes

Chapter 16 - Em ploy ee Benefit s Operating activities Chapter 17 - Stock holder s' Equit y

The transactions not classified as financing or investing activities, generally involving producing and delivering goods or providing services.

Chapter 18 - Earnings Per Share

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS and 2 0 03 : Examples I n t erp re t at ion an d Ap p licat io n o f Concepts, Rules, I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

Benefits ofMirCash Flow Statements za

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages)

The concepts underlying the balance sheet and the income statement have long been established in This com pact and t ruly com pr ehensive qui ck - refer ence financial reporting; they are, respectively, stocktomeasure snapshot at a point in time of an entity's pr esent s account ants withthe a guide depend or on afor resources and obligations, a summary of and the entity's economic performance over a period of time. The assistance and in the prepar at ion under standing of financial statements present ed in flow accordance withisI AS. third major financial statement, the cash statement, a more recent innovation but has evolved substantially since introduced. What has ultimately developed into the cash flow statement began life as a T ab le of Con t en t s flow statement that reconciled changes in enterprise resources over a period of time but in a fundamentally Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing different Standar ds manner than did the income statement. Preface

Most of the basic progress on this financial statement occurred in the United States, where during the I ntr oduction to I nter national Accounting Standar ds 1950s and-early 1960s a variety of formats and concepts were experimented with. By the mid-1960s the Chapter 2 Balance Sheetin the United States was that of reporting the sources and applications (or uses) of most common approach I ncom e Statement, Statnot em ent of Chan ges in Equit y, 1971, and Statem ent then, funds could be funds, although such reporting did become mandatory until and even Chapter 3 of Recognized Gains and Losses defined by the reporting entity in at least four different ways, including as cash and as net working capital Chapter 4 - Cash Flow St at em ent (current assets minus current liabilities). Chapter 1

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter One reason 6 - Iwhy nventor the yfinancial statement preparer community did not more quickly embrace a cash flow

concept7 is -that accounting profession longuction had aContr significant Chapter Revthe enue Recogni tion, I ncludinghad Constr act s aversion to the cash basis measurement of enterprise performance. This was largely the result of its commitment to accrual Chapter 8 - Property , Plant , operating and Equipment basis accounting, recognizes revenues when earned and expenses when incurred, and which views Chapter 9 - I ntangiwhich ble Asset s cash flow reporting back door approach cash basis accounting. focusing instead on funds, which I nterestsasinaFinancial Instr um ent s,to Associat es, Joint Ventur es,By and most typically was defined as net I nvestm ent Pr oper ty working capital, items such as receivables and payables were included, thereby11 preserving the essential accrual basis characteristic the flow measurement. On the other hand, Chapter - Business Combinations and Consolidat ed Fin ancial of Statements this failed toCurr giveent statement users meaningful insight into the entities' sources Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he and uses of cash, which is Chapter 12 germane to an evaluation the reporting entity's liquidity and solvency. Balance Sheet of Date Chapter 10 -

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

By the 1970s there was widespread recognition of the myriad problems associated with funds flow reporting, including the required use of the all financial resources approach, under which all major Chapter 15 - I ncom e Taxes noncash (and nonfund) transactions, such as exchanges of stock or debt for plant assets, were included in Chapter 16 - Em ploy ee Benefit s the funds flow statement. This ultimately led to a renewed call for cash flow reporting. Most significantly, the Chapter 17 - Stock holder s' Equit y FASB's conceptual framework project of the late 1970s to mid-1980s identified usefulness in predicting Chapter 18 - Earnings Per Share future cash flows as a central purpose of the financial reporting process. This presaged the nearly universal Chapter 19 - Ifrom nterim Financial ting move away funds flows Repor to cash flows as a third standard measurement to be incorporated in financial Chapter reports.20 - Segm ent Repor ting Chapter 14 - Leases

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Cash flow thus became required in the late 1980s in the United States, with the United Kingdom Chapter 22 -statements For eign Curr ency following soonPart thereafter with an approach that largely mirrored the US standard; albeit with a Chapter 23along - Relatedy Disclosures somewhat classification scheme that solves some of the problems inherent in the US model (as Chapter 24 -refined Specialized I ndustr ies

described greater detail below) and which, in the 1996 revision of FRS 1, has embraced an even more Chapter 25 in - I nflation and Hyperinflation

extensive classification scheme, as described below. The international accounting standard, which was adopted a year after that of the United Kingdom (both of these were revisions to earlier requirements that Appendix A - Di sclosure Checklist had mandated the use of funds flow statements), embraces the somewhat simpler US approach but offers Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS greater flexibility, thus effectively incorporating the UK view without adding to the structural complexity of Appendix C - Com parison of I AS, US GAAP, and UK GAAP the cash flow statement itself. Chapter 26 - Gov er nm ent Gr an ts

I ndex

List of Tables Today, the clear consensus of national and international accounting standard setters is that the statement List of cash of Ex hibits flows and is a Ex necessary am ples component of complete financial reporting. The perceived benefits of

presenting the List of Sidebar s statement of cash flows in conjunction with the statement of financial position (balance sheet) and the statement of income (or operations) have been highlighted by IAS 7 to be as follows: 1. It provides an insight into the financial structure of the enterprise (including its liquidity and solvency) and its ability to affect the amounts and timing of cash flows in order to adapt to changing circumstances and opportunities. The statement of cash flows discloses important information about the cash flows from operating, investing, and financing activities, information that is not available or as clearly discernible in either the balance sheet or the income statement. The additional disclosures which are either recommended by IAS 7 (such as those

relating to undrawn borrowing facilities or cash flows that represent increases in operating capacity) or required to be disclosed by the standard (such as that about cash held by the enterprise but not available for use) provide aWwealth of information forrethe user of financial ile y I AS 2 0 03 : I n t erp t atinformed ion an d Ap p licat io n o f statements. Taken together, the statement of cashI nflows coupled with these required or recommended disclosures provide the user with t er n at ion al Accou n t in g St an d ar ds vastly more insight into the entity's performance and position, and its probable ISBN:0471227366 future results, than would the by Bar r y J. Epstein and Abbas Ali balance sheet and Mirincome za statement alone. Wi ley & Sons © 2003to(952 additional information thepages) users of financial statements for evaluating changes in 2. It providesJohn This com pact and t ruly com pr ehensive qui ck - refer ence assets, liabilities, and equity of an enterprise. pr esent s account ants with a guide to depend on for

assistance the prepar at ion and under of information financial When comparative balance insheets are presented, usersstanding are given about the enterprise's assets statements present ed in accordance with I AS. and liabilities at the end of each of the years. Were the statement of cash flows not presented as an integral part of the statements, it would be necessary for users of comparative financial statements either T ab le of Confinancial t en t s to wonder anderwhy certain amounts reported on the balance sheet Wiley I AS 20how 03—Int pretation and Application of I nternational Account ing changed from one period to Standar ds or to compute (at least for the latest year presented) approximations of these items for themselves. another, Preface At best, however, such a do-it-yourself approach would derive the net changes (the increase or decrease) in the individual assets and andAccounting attribute these to normally related income statement accounts. Chapter 1 - I ntr oduction to I liabilities nter national Standar ds (For example, the net change in accounts receivable from the beginning to the end of the year would be Chapter 2 - Balance Sheet used to convert reported sales to cash-basis salesges or in cash collected from customers.) More complex I ncom e Statement, Stat em ent of Chan Equit y, and Statem ent Chapter 3 combinations events (such asand the Losses acquisition of another entity, along with its accounts receivables, which of of Recognized Gains would be increase Chapter 4 an - Cash Flow in St that at emasset ent which was not related to sales to customers by the reporting entity during the period) not I immediately be comprehensible and might lead to incorrect interpretations of the data Chapter 5 - would Financial nstr uments—Cash and Receiv ables unless 6an actual cash Chapter - I nventor y flow statement were presented. Chapter 7 enhances - Rev enuethe Recogni tion, I ncluding Constrof uction Contr act s 3. It comparability of reporting operating performance by different enterprises because effects using different accounting treatments for the same transactions and Chapter it 8 eliminates - Propertythe , Plant , andofEquipment Chapter events. 9 - I ntangi ble Asset s I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - considerable debate even as early as the 1960s and 1970s over accounting standardization, There was I nvestm ent Pr oper ty

which led the emergence of cashand flowConsolidat accounting. The principal argument in support of cash flow Chapter 11 to - Business Combinations ed Fin ancial Statements

accounting by itsent earliest was Cont that ingencies, it avoids the allocations inherent in accrual Curr Liabilitproponents ies, Prov isions, andarbitrary Ev ents after t he Chapter 12 - For example, cash flows provided by or used in operating activities are derived, under the accounting. Balance Sheet Date indirect13 method, by adjusting net incomeTer (ormloss) Chapter - Financial I nstr uments—LongDebtfor items such as depreciation and amortization, which might have computed by different entities using different accounting methods. Thus, accounting Chapter 14 - been Leases

standardization wille be achieved by converting the accrual-basis net income to cash-basis income, and the Chapter 15 - I ncom Taxes resultant figures will become comparable across enterprises.

Chapter 16 - Em ploy ee Benefit s

4. It as an indicator Chapter 17serves - Stock holder s' Equit yof the amount, timing, and certainty of future cash flows. Furthermore, if an hasPer a system Chapter enterprise 18 - Earnings Share in place to project its future cash flows, the statement of cash flows could be a touchstone to evaluate Chapter used 19 - Ias nterim Financial Repor ting the accuracy of past projections of those future cash flows. This is elucidated by the standard as follows: Chapter benefit 20 - Segm ent Repor ting

The statement of cash flows is useful in comparing past assessments of future cash flows Chapter 21 a. - Accounting Changes and Cor rection of Er ror s against current Chapter 22 - For eign Curr ency year's cash flow information, and Chapter 23 - Related- Part y Disclosures

b. It is of value in appraising the relationship between profitability and net cash flows, and in assessing the impact of changing prices.

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Exclusion of Noncash Transactions

Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

The statement of cash flows includes only inflows and outflows of cash and cash equivalents. Accordingly, it excludes all transactions that do not directly affect cash receipts and payments. However, IAS 7 does I ndex require that the effects of transactions not resulting in receipts or payments of cash be disclosed elsewhere List of Tables in the financial statements. The reason for not including noncash transactions in the statement of cash List of Ex hibits and Ex am ples flows and placing them elsewhere in the financial statements (e.g., the footnotes) is that it preserves the List of Sidebarprimary s statement's focus on cash flows from operating, investing, and financing activities. Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Components of Cash and Cash Equivalents The statement of cash flows, under the various national and international standards, may or may not include transactions in cash equivalents as well as cash. Under US standards, for example, preparers may choose to define cash as "cash and cash equivalents," as long as the same definition is used in the balance sheet as in the cash flow statement (i.e., the cash flow statement must tie to a single caption on the balance

sheet). With the recent dramatic revision to the UK standard on cash flow reporting, on the other hand, the revised UK FRS 1 now defines cash flows to include movements only in "cash." IAS 7, on the other hand, rather clearly required in re both cashanand cash equivalents be explained by the cash flow W ile ythat I ASthe 2 0changes 03 : I n t erp t at ion d Ap p licat io n o f statement. Thus, Ithe three major standards (US, UK, and International) have taken three different roads n t er n at ion al Accou n t in g St an d ar ds (optionally including cash equivalents; mandatorily excluding cash equivalents; ISBN:0471227366 and including cash by Bar r y J. Epstein and Abbas Ali Mir za equivalents, respectively) to the presentation of the statement of cash flows. John Wi ley & Sons © 2003 (952 pages)

Cash and cash equivalents include unrestricted cash (meaning cash actually on hand, or bank balances This com pact and t ruly com pr ehensive qui ck - refer ence whose immediatepruse is determined the amanagement), other demand deposits, and short-term esent s account antsbywith guide to depend on for investments whose maturities at the dateatof the enterprise were three months or less. Equity assistance in the prepar ionacquisition and under by standing of financial statements present in accordance with I AS. investments do not qualify as cash ed equivalents unless they fit the definition above of short-term maturities of three months or less. Redeemable preference shares, if acquired within three months of their T ab le of Con t en t s predetermined redemption date, would meet the criteria above since they are, in substance, cash Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing equivalents. These are very infrequently encountered circumstances, however. Standar ds Preface

Bank borrowings are normally considered as financing activities. However, in some countries, bank I ntr oduction to I nter national Accounting Standar ds overdrafts -play an integral part in the enterprise's cash management, and as such, overdrafts are to be Chapter 2 Sheet of cash equivalents if the following conditions are met: included as Balance a component Chapter 1

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - bank overdraft is repayable on demand, and 1. The of Recognized Gains and Losses Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

2. The bank balance often fluctuates from positive to negative (overdraft).

Chapter 6 - checks I nventor(cheques), y Postdated commonly referred to as PDC, are used a great deal in business transactions in certain countries. such situations, vendors insist upon PDC to back up the credit Chapter 7 - Rev enue Recogni tion, In I ncluding Constr uction Contrusually act s

extended them in, the normal course of business. Banks will then offer to discount these postdated Chapter 8 by - Property Plant , and Equipment checks 9(on- aI ntangi recourse basis, Chapter ble Asset s normally) if the discounting party's credit is strong, and thus vendors may end up collectingI nterests their receivables before due Under suchVentur circumstances, where vendors use PDC as in Financial Instr the um ent s, date. Associat es, Joint es, and an integral component I nvestm ent of Prtheir oper ty cash management strategy, it could very well be argued that PDC should be considered equivalents. However, if it is not ed certain at the balance sheet date whether or not the PDC Chapter 11 - cash Business Combinations and Consolidat Fin ancial Statements are to be discounted, a case be made toingencies, at least consider those PDC Curr ent Liabilit ies,could Prov isions, Cont and Ev ents after t hethat mature within three months Chapter 12 Balance Sheet Date after the balance sheet date as cash equivalents (while those having original maturities longer than three Chapter months13 would - Financial be precluded I nstr uments—Longfrom being so Tertreated). m Debt The customer who issued those PDC, however, has no control 14 over them once they are issued and would not be able to use them as an integral part of its cash Chapter - Leases management; thus, in the debtors' financial statements PDC are simply accounts payable and are not cash Chapter 15 - I ncom e Taxes transactions until the Chapter 16 - Em ploy eedates Benefitofs the PDC occur. Chapter 10 -

Chapter 17 - Stock holder s' Equit y

Statutory deposits by banks (i.e., those held with the central bank for regulatory compliance purposes) are often included in the same balance sheet caption as cash. There is a difference of opinion and even some Chapter 19 - I nterim Financial Repor ting controversy in certain countries, which is fairly evident from scrutiny of published financial statements of Chapter - Segm ent Repor banks, 20 as to whether theseting deposits should be considered a cash equivalent or an operating asset. If the Chapter 21 Accounting Changes Cor rection inofthe Er ror s latter, changes in amount would and be presented operating activities section of the cash flow statement, Chapter - For eign not Currthen encybe combined with cash in the balance sheet. Since the appendix to IAS 7, and the22 item could Chapter 23 - Relatedy Disclosures which illustrates the Part application of the standard to cash flow statements of financial institutions, does not Chapter - Specialized I ndustr include24 statutory deposits with ies the central bank as a cash equivalent, the authors have concluded that there is little logic support the alternative presentation of this item as a cash equivalent. Given the fact that Chapter 25 - Ito nflation and Hyperinflation deposits central banks are Chapter 26with - Gov er nm ent Gr an ts more or less permanent (and in fact would be more likely to increase over time thanA to besclosure diminished, given a going concern assumption about the reporting financial institution) the Appendix - Di Checklist presumption must be ethat these St are notent cash in normal practice. Appendix B - I llustrativ Financial atem s Prequivalents esent ed Under I AS Chapter 18 - Earnings Per Share

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Classifications in the Statement of Cash Flows

I ndex

List of Tables

Theofstatement of cash List Ex hibits and Ex am flows ples prepared in accordance with international accounting standards (and also in accordance US GAAP) requires classification into these three categories: List of Sidebarwith s 1. Investing activities include the acquisition and disposition of property, plant and equipment and other long-term assets and debt and equity instruments of other enterprises that are not considered cash equivalents or held for dealing or trading purposes. Investing activities include cash advances and collections on loans made to other parties (other than advances and loans of a financial institution). 2. Financing activities include obtaining resources from and returning resources to the owners. Also included is obtaining resources through borrowings (short-term or long-term) and repayments of the

amounts borrowed. 3. Operating activities include all transactions that are not investing and financing activities. In W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f general, cash flows that relate to, or are the corollary of, items reported in the income statement are I n t er n at ion al Accou n t in g St an d ar ds operating cash flows. Operating activities are principal revenue-producing activities of an enterprise ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali and include or producing goods for sale and providing services. Mirdelivering za John Wi ley & Sons © 2003 (952 pages)

While both US and international accounting standards define these three components of cash flows, the This com pact and t ruly com pr ehensive qui ck - refer ence international standards offer somewhat more flexibility in how certain types of cash flows are categorized. pr esent s account ants with a guide to depend on for For example, under US GAAP, interest be included in of operating assistance in the preparpaid at ionmust and under standing financialactivities, but under the provisions of IASstatements 7 this may present be consistently included with in either ed in accordance I AS. operating or financing activities. (These and other discrepancies among the standards will be discussed further throughout this chapter.) This is a T ab le of Con t en t s reflection of the fact that although interest expense is operating in the sense of being an item that is Wiley I AS 20 er pretation and Application of Irelates nternational reported in 03—Int the income statement, it also clearly to theAccount entity'sing financing activities. Standar ds

Preface Theoriginal UK standard on cash flow reporting, FRS 1, tried to solve this dilemma by defining five, not Chapter - I ntr oduction to ds merely 1three, categories forI nter the national cash flowAccounting statement.Standar In addition to the three standard classifications Chapter 2 -above, Balance Sheet two others: "returns on investments and servicing of finance," and "taxation." The discussed it added first of theseI ncom added categories was used all dividends interestent paid or received, leaving the e Statement, Stat em enttoofreport Chan ges in Equit y, and Statem Chapter 3 of Recognized Gains and Losses traditional financing section to report only principal transactions, and averting the issue of whether dividends Chapter 4 - Cash Flow St at em ent and interest are operating, investing, or financing in nature. The segregation of taxation into a category of Chapter - Financial nstr uments—Cash andtaxation Receiv ables its own 5avoids a very Isimilar debate, since can be the result of normal operating activities as well Chapter as of investing 6 - I nventor or financing y events. Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

The recently revised UK standard on cash flow reporting, which is also denoted as FRS 1, now requires - Property , Plant , and Equipment classification into the following eight categories:

Chapter 8 Chapter 9

- I ntangi ble Asset s

1. Operating activities I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty 2. Returns on investments andand servicing of finance Chapter 11 - Business Combinations Consolidat ed Fin ancial Statements

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 3. Taxation 12 Balance Sheet Date Chapter 13 - Financial I nstr uments—Longm Debt 4. Capital expenditure and financial Ter investment Chapter 14 - Leases

5. Acquisitions disposals Chapter 15 - I ncom e and Taxes Chapter 16 - Em ploy ee Benefit s

6. Equity dividends paid

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings of Perliquid Share 7. Management resources Chapter 19 - I nterim Financial Repor ting

8. Financing Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

As a result of this new classification scheme, financial statements prepared in conformity with UK GAAP will differ rather notably from those prepared under either US GAAP or IAS. With the growing worldwide interest Chapter 23 - Related- Part y Disclosures in the standardization of financial reporting in general, and in the international accounting standards in Chapter 24 -it Specialized ndustr particular, remains to Ibe seenieshow well this unorthodox approach will be accepted. In any event, it is Chapter 25 I nflation and Hyperinflation deemed to be extremely unlikely that the IAS will be modified to acknowledge the UK approach. Chapter 22 - For eign Curr ency

Chapter 26 - Gov er nm ent Gr an ts

The following examples of the statement of cash flows classification under the provisions of IAS 7: Appendix A - Di are sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

Operating Cash inflows

Investing

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Receipts from Principal collections I n t er n at ion al Accou n t in g St an d ar ds

sale of goods or from loans and sales of ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali services other entities' debt Mir za instruments John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence Sales of loans,ants with a guideSale of equity pr esent account to depend on for assistance the prepar at ion and instruments under standing financial debt, orinequity of of other statements present ed in accordance with I AS.

instruments enterprises and from carried in trading returns of investment in T ab le of Con t en t s portfolio those instruments Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing

Financing Proceeds from issuing share capital

Proceeds from issuing debt (short-term or long-term)

Standar ds

Returns on loans

Preface

Sale of plant and

Chapter 1

- I ntr oduction (interest) to I nter national Accounting equipment Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow(dividends) St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Returns onStat equity I ncom e Statement, em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses securities

Cash Loans made and outflows - I nventor yPayments to Chapter 7 - Rev enue suppliers Recogni tion, Controf actother s for I ncluding Constr uction acquisition Chapter 8 - Property ,goods Plant , and other Equipment entities' debt instruments Chapter 9 - I ntangi bleservices Asset s Chapter 6

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper tyto or on Payments Purchase of equity

[a] of other Chapter 11 - Business behalf Combinations and Consolidat ed Fin ancial Statements of instruments

Chapter 12 -

Not-for-profits' donor-restricted cash that is limited to long-term purposes

Payment of dividends

Repurchase of company's shares

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he employees enterprises Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Payments of taxes

Purchase of plant and equipment

Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy eePayments Benefit s of Chapter 17 - Stock holder s' Equit y interest

Repayment of debt principal, including capital lease obligations

Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor Purchase of ting Chapter 20 - Segm ent loans, Repor ting debt, or Chapter 21 - Accounting Changes and Cor rection of Er ror s equity instruments Chapter 22 - For eign Curr carried encyin trading

portfolio Chapter 23 - Related- Part y Disclosures [a]Unless Chapter 24 held - Specialized for trading I ndustr purposes ies or considered to he cash equivalents .

Chapter 25 - I nflation and Hyperinflation

Noncash and Chapter 26 investing - Gov er nm entfinancing Gr an ts activities should, according to IAS 7, be disclosed in the footnotes to financialAstatements ("elsewhere" is how the standard actually identifies this), but apparently are not Appendix - Di sclosure Checklist

intended to be included in the cash flow statement itself. This contrasts somewhat with the US standard, SFAS 95, which encourages inclusion of this supplemental information on the face of the statement of cash Appendix C - Com parison of I AS, US GAAP, and UK GAAP flows, although this may, under that standard, be relegated to a footnote as well. (The UK standard on cash I ndex flow reporting, FRS 1, also requires that major noncash transactions be disclosed in a note to the cash flow List of Tables statement.) Examples of significant noncash financing and investing activities might include Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

List of Ex hibits and Ex am ples

1. Acquiring an asset through a finance lease

List of Sidebar s

2. Conversion of debt to equity 3. Exchange of noncash assets or liabilities for other noncash assets or liabilities 4. Issuance of stock to acquire assets Basic example of a classified statement of cash flows

Liquid Corporation Statement of Cash Flows For the Year Ended December 31, 2002 W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Net cash flows from I n t eroperating n at ion al activities Accou n t in g St an d ar ds Bar r y J. activities: Epstein and Abbas Ali Cash flows fromby investing

$ xxx

ISBN:0471227366

Mir za PurchaseJohn of property, Wi ley & Sons plant,©and 2003 equipment (952 pages)

$(xxx)

This com pact and t ruly com pr ehensive qui ck - refer ence

xx

assistance in the prepar at ion and under standing of financial

xx

Sale of equipment pr esent s account ants with a guide to depend on for Collectionstatements of notes receivable present ed in accordance with I AS.

(xx)

T ab le of Con t en t s

Net cash used in investing activities

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar Cash ds flows from financing activities: Preface

xxx

Proceeds from issuance of share capital - I ntr oduction to I nter national Accounting Standar ds

Chapter 1

Chapter 2Repayment - Balance Sheet of long-term debt I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of Recognized and Losses Reduction of notesGains payable Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables Net cash provided by financing activities

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

(xx) (xx) xx

Effect of exchange rate changes on cash

xx

Net increase in cash and ,cash equivalents Chapter 8 - Property , Plant and Equipment

$ xxx

Chapter 9 - cash I ntangi ble Asset s at beginning of year Cash and equivalents I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - cash equivalents at end of year Cash and I nvestm ent Pr oper ty

xxx $xxxx

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 Disclosure Footnote of Noncash Investing and Financing Activities Balance Sheet Date

Note Supplemental Cash Flow Statement Chapter 13 4: - Financial I nstr uments—LongTer m Debt Information Chapter 14 - Leases

noncash ChapterSignificant 15 - I ncom e Taxes investing and financing transactions: Chapter 16 - Em ploy ee Benefit s

Conversion of bonds into common stock

$ xxx

Chapter 17 - Stock holder s' Equit y

Chapter 18 - Earnings Share under finance leases PropertyPer acquired Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

xxx $ xxx

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Reporting Cash Flows from Operating Activities

Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies

Direct25vs. indirect Chapter - I nflation andmethod. Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

The operating activities section of the statement of cash flows can be presented under the direct or the indirect method. However, the IASC has expressed a preference for the direct method of presenting net Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS cash from operating activities. In this regard the IASC was probably following in the well-worn path of the Appendix C - Com parison of I AS, US GAAP, and UK GAAP FASB in the United States, which similarly urged that the direct method of reporting be adhered to. Under I ndex UK GAAP, however, though the UK Accounting Standards Board considered the advantages of the direct List of Tables method in developing FRS 1, it was noted that it did not believe that in all cases the benefits to users List of Ex hibitsthe and Ex amtoples outweighed costs the reporting entity of providing that mode of reporting. The UK Board remains List of Sidebar convinced ofsthis view, and the revised FRS 1 continues to encourage the direct method only where the potential benefits to users outweigh the costs of providing it. For their part, preparers of financial statements in the other parts of the world, like those in the US, have chosen overwhelmingly to ignore the recommendation of the IASC, preferring by a very large margin to use the indirect method in lieu of the recommended direct method. Appendix A - Di sclosure Checklist

Thedirect method shows the items that affected cash flow and the magnitude of those cash flows. Cash received from, and cash paid to, specific sources (such as customers and suppliers) are presented, as opposed to the indirect method's converting accrual-basis net income (loss) to cash flow information by

means of a series of add-backs and deductions. Entities using the direct method are required by IAS 7 to report the following major classes of gross cash receipts and gross cash payments: 1. Cash collected W ile yfrom I AS customers 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds [1] 2. Interest and received by dividends Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za 3. Cash paidJohn to employees and©other suppliers Wi ley & Sons 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence

[2] 4. Interest paid pr esent s account ants with a guide to depend on for

assistance in the prepar at ion and under standing of financial

5. Income taxes paid present ed in accordance with I AS. statements operating cash receipts and payments T ab le6.of Other Con t en ts

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Given ds the availability of alternative modes of presentation of interest and dividends received, and of interest Standar

paid, it is particularly critical that the policy adopted be followed consistently. Since the face of the statement Preface of cash1flows will in almost cases make it clear what approach has been elected, it is not usually Chapter - I ntr oduction to Iall nter national Accounting Standar ds

necessary -toBalance spell this out in the accounting policy note to the financial statements, although this certainly Sheet can be done if it would be useful to do so.

Chapter 2 Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

An important advantage of the direct method is that it permits the user to better comprehend the Chapter 4 - Cash Flow St at em ent relationships between the company's net income (loss) and its cash flows. For example, payments of Chapter 5 - Financial I nstr uments—Cash and Receiv ables expenses are shown as cash disbursements and are deducted from cash receipts. In this way the user is Chapter - I nventor able to 6recognize they cash receipts and cash payments for the period. Formulas for conversion of various Chapter 7 Rev enue Recognifor tion, Constrpresentation uction Contr act s the accrual basis to the cash basis are income statement amounts theI ncluding direct method from Chapter 8 Property , Plant , and Equipment summarized below. Chapter 9

- I ntangi ble Asset s

Accrual Chapter 10 basis

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Additions Deductions I nvestm ent Pr oper ty

Cash basis

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Net sales Curr ent+Liabilit Beginning ARisions, Cont ingencies,- Ending AR after t he ies, Prov and Ev ents Balance Sheet Date AR written off

Chapter 12 -

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Cost of Chapter 14goods - Leases + Ending inventory Beginning sold AP Chapter 15 - I ncom e Taxes

- Depreciation and amortization [a]

Chapter 16 - Em ploy ee Benefit s

Beginning inventory

Chapter 17 - Stock holder s' Equit y

Ending AP

Chapter 18 - Earnings Per Share

Operating expenses

+ Ending prepaid expenses Beginning accrued expenses

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

- Depreciation and amortization

= Cash received from customers = Cash paid to suppliers

= Cash paid for operating expenses

Beginning prepaid expenses

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 24 - Specialized I ndustr ies

Ending accrued expenses payable

Chapter 25 - I nflation and Hyperinflation

Bad debts expense

Chapter 23 - Related- Part y Disclosures

[a]Applies Chapter 26 to - Gov er nm ent Gr an ts a manufacturing entity only Appendix A - Di sclosure Checklist

From theB foregoing it ecan be appreciated amounts toI AS be included in the operating section of the Appendix - I llustrativ Financial St atem entthat s Pr the esent ed Under statement cash flows,ofwhen is utilized, are derived amounts that must be computed Appendix C -ofCom parison I AS, the US direct GAAP, approach and UK GAAP (although the computations are not onerous); they are not, generally, amounts that exist as account I ndex

balances simply to be looked up and then placed in the statement. The extra effort needed to prepare the direct method operating cash flow data may be a contributing cause of why this method has been distinctly List of Ex hibits and Ex am ples unpopular with preparers. (There is an extra reason why the direct method is unpopular with entities that List of Sidebar s report in conformity with US GAAP: SFAS 95 requires that when the direct method is used, a supplementary schedule be prepared reconciling net income to net cash flows from operating activities, which effectively means that both the direct and indirect methods must be employed. This rule does not apply under international accounting standards, however.) List of Tables

Theindirect method (sometimes referred to as the reconciliation method) is the most widely used means of presentation of cash from operating activities, primarily because it is easier to prepare. It focuses on the differences between net operating results and cash flows. The indirect format begins with net income (or

loss), which can be obtained directly from the income statement. Revenue and expense items not affecting cash are added or deducted to arrive at net cash provided by operating activities. For example, depreciation and amortization W would because these reduce ile y Ibe ASadded 2 0 03 :back I n t erp re t at ion an dexpenses Ap p licat io n o f net income without affecting cash. I n t er n at ion al Accou n t in g St an d ar ds

The statement of cash flows prepared using the indirect method emphasizes changes in the components of ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali most current asset Mirand za current liability accounts. Changes in inventory, accounts receivable, and other current accounts John are used the cash flow from operating activities. Although most of these Wi leyto&determine Sons © 2003 (952 pages) adjustments are obvious (most preparers simply relate each current asset or current liability on the balance This com pact and t ruly com pr ehensive qui ck - refer ence sheet to a single pr caption in the income statement), some changes esent s account ants with a guide to depend on forrequire more careful analysis. For example, it is important to compute cashatcollected from standing sales by of relating sales revenue to both the change assistance in the prepar ion and under financial statements present ed in I AS. allowance account. in accounts receivable and the change in accordance the related with bad debt T ab le of Con t en t s

As another example of possible complexity in computing the cash from operating activities, the change in

Wiley I AS 20borrowings 03—Int er pretation and Application of I nternational Account ingnot be included, since it is not short-term resulting from the purchase of equipment would Standar ds

related to operating activities. Instead, these shortterm borrowings would be classified as a financing activity. Other adjustments under the indirect method include changes in the account balances of deferred Chapter 1 - I ntr oduction to I nter national Accounting Standar ds income taxes, minority interest, unrealized foreign currency gains or losses, and the income (loss) from Chapter 2 - Balance Sheet investments under the equity method. Preface

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Chapter 3

-

Chapter 8

- Property , Plant , and Equipment

Gains andway Losses IAS 7 offers of yetRecognized another alternative of presenting the cash flows from operating activities. This could be Chapter Cash St at em ent referred4 to-as the Flow modified indirect method. Under this variant of the indirect method, the starting point is Chapter - Financial I nstr uments—Cash Receivas ables not net 5income but rather revenues and and expenses reported in the income statement. In essence, this Chapter approach 6 is - Ivirtually nventor ythe same as the regular indirect method, with two more details: revenues and expenses theenue period. There is Ino equivalent rule under USact GAAP. Chapter 7 for - Rev Recogni tion, ncluding Constr uction Contr s

The following summary, actually simply an expanded balance sheet equation, may facilitate understanding - I ntangi ble Asset s of the adjustments to net income necessary for converting accrual-basis net income to cash-basis net I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter - using the indirect method. income10 when I nvestm ent Pr oper ty Chapter 9

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Income

Accrual income adjustment to convert to cash flow

=

Increase

Decrease

=

Decrease

Increase

Decrease

Increase

Increase

Decrease

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Fixed Chapter Current 15 - I ncom e Taxes [a]

- Benefit assets Chapter assets 16 - Em ploy ee s

=

Chapter 17 - Stock holder s' Equit y 1. Increase Chapter 18 - Earnings Per Share

2.

Decrease

Current liabilities

+

Longterm liabilities

Chapter 19 - I nterim Financial Repor ting

3. Chapter 20 - Segm ent Repor ting

=

Increase

Chapter 21 - Accounting Changes and= Cor rection of Er ror s 4. Decrease

+

Chapter 22than - For eign and Currcash ency equivalents [a]Other cash Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized For example, using rowI 1ndustr in theiesabove chart, a credit sale would increase accounts receivable and accrualChapter basis income 25 - I nflation but would andnot Hyperinflation affect cash. Therefore, its effect must be removed from the accrual income to

convert26 to -cash income. Chapter Gov er nm ent The Gr anlast ts column indicates that the increase in a current asset balance must be deductedA from income Checklist to obtain cash flow. Appendix - Di sclosure Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Similarly, an increase in a current liability, row three, must be added to income to obtain cash flows (e.g., accrued wages are on the income statement as an expense, but they do not require cash; the increase in I ndex wages payable must be added back to remove this noncash flow expense from accrual-basis income). Appendix C - Com parison of I AS, US GAAP, and UK GAAP List of Tables

List of Exthe hibits Ex amwhen ples the indirect method is employed, the amount of interest and income taxes paid Under USand GAAP, List must of Sidebar be included s in the related disclosures (supplemental schedule). However, under international

accounting standards, as illustrated by the appendix to IAS 7, instead of disclosing them in the supplemental schedules, they are shown as part of the operating activities under both the direct and indirect methods. (Examples presented later in the chapter illustrate this.) The major drawback to the indirect method involves the user's difficulty in comprehending the information presented. This method does not show from where the cash was received or to where the cash was paid. Only adjustments to accrual-basis net income are shown. In some cases the adjustments can be confusing. For instance, the sale of equipment resulting in an accrual-basis loss would require that the loss be added

to net income to arrive at net cash from operating activities. (The loss was deducted in the computation of net income, but because the sale will be shown as an investing activity, the loss must be added back to net income.) W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Although the indirect method is more commonly used in practice, the IASC and the FASB both encourage ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali enterprises to useMir the za direct method. As pointed out by IAS 7, a distinct advantage of the direct method is that it provides information may©be useful in estimating or projecting future cash flows, a benefit that is John Wi leythat & Sons 2003 (952 pages) clearly not achieved when the indirect method is utilized instead. Both the direct and indirect methods are This com pact and t ruly com pr ehensive qui ck - refer ence presented below.pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Direct method

T ab le of Con t en t s

Cash flows from operating activities:

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar dsCash received from sale of goods Preface [a]

dividends Chapter 1Cash - I ntr oduction received to I nter national Accounting Standar ds

$xxx xxx

Chapter 2 - Balance Sheet Cash provided by operating activities I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 (xxx) of paid Recognized Gains and Losses Cash to suppliers Chapter 4

- Cash Flow St at em ent

paid forI nstr operating expenses Chapter 5Cash - Financial uments—Cash and Receiv ables

(xxx)

Chapter 6

- I nventor y

(xxx)

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Cash paid for income taxes[b]

$xxx

Cash disbursed for ,operating Chapter 8 - Property Plant , andactivities Equipment

($xxx)

Chapter 9 -flows I ntangi bleoperating Asset s Net cash from activities [a]Alternatively, I nterests in Instr ent s, Associat es, Joint Ventur es, and could beFinancial classified asum investing cash flow. Chapter 10 I nvestm ent Pr oper ty

$xxx

[b]Taxes Chapter 11paid - Business Combinations Consolidatactivities. ed Fin ancial Statements are usually classified and as operating However, when it is practical to identify the tax Curran entindividual Liabilit ies, Prov isions,that Cont ingencies, and Evflows ents after t he classified as investing or cash flow with transaction gives rise to cash that are Chapter 12 Balance then Sheetthe Date financing activities, tax cash flow is classified as an investing or financing activity as

Chapter 13 - Financial I nstr uments—Long- Ter m Debt appropriate. Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s

Indirect method

Cash flows from holder operating activities: Chapter 17 - Stock s' Equit y Chapter 18 - Earnings Per Share

Net income before income taxes

$ xx

Chapter 19 - I nterim Financial Repor ting

Chapter 20 - Segm ent for: Repor ting Adjustments Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Depreciation Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized iesforeign exchange UnrealizedI ndustr loss on Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov Interest er nm ent expense Gr an ts Appendix A - Di sclosure Checklist

Operating profit before working capital changes [a]

xx xx xx xx

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables

Increase in accounts receivable Decrease in inventories

(xx) xx

List of Ex hibits and Ex am ples List of Sidebar s

Increase in accounts payable Cash generated from operations Interest paid Income taxes paid (see note[b]above)

xx xx (xx) (xx)

$xxx Net cash flows from operating activities appendix to IAS 7 uses the term "working capital changes," but the authors believe that "changes W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f in operating assets liabilities" is preferable since I n tand er n at ion al Accou n t in g St an d ar the ds emphasis has clearly shifted from working capital changes, by andBar the related concept of fund flows, to cashISBN:0471227366 flows by the supplanting of the erstwhile r y J. Epstein and Abbas Ali IAS 7, which dealt Mirwith za the now obsolete "statement of changes in financial position." [a]The

John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence Other Requirements pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial in accordance with I AS.

Gross vs. netstatements basis. present ed

T ab le of Con t en tins the statement of cash flows is on gross cash receipts and cash payments. For instance, The emphasis Wiley I AS 20 03—Int er pretation and Application of I nternational ing activities of the entity by not reporting the net change in bonds payable would obscure theAccount financing Standar ds separately cash inflows from issuing bonds and cash outflows from retiring bonds. disclosing Preface

IAS 7 (paragraph 22) specifies exceptions where netting Chapter 1 - I ntr oduction to I ntertwo national Accounting Standar dsof cash flows is allowed. Items with quick turnovers, amounts, Chapter 2 -large Balance Sheet and short maturities may be presented as net cash flows. Cash receipts and

payments onI ncom behalf of customers when theofcash activities of the customers rather than e Statement, Stat em ent Chanflows ges inreflect Equit y,the and Statem ent Chapter - enterprise may also be reported on a net rather than a gross basis. those of3 the of Recognized Gains and Losses Chapter 4

- Cash Flow St at em ent

Chapter 6

- I nventor y

Foreign cash flows. and Receiv ables Chapter 5 -currency Financial I nstr uments—Cash Foreign operations must prepare a separate statement of cash flows and translate the statement to the - Rev enue Recogni tion, I ncluding Constr uction Contr act s reporting currency using the exchange rate in effect at the time of the cash flow (a weighted-average Chapter 8 - Property , Plant , and Equipment exchange rate may be used if the result is substantially the same). This translated statement is then used in Chapter 9 I ntangi ble Asset s the preparation of the consolidated statement of cash flows. Noncash exchange gains and losses I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and recognized Chapter 10 - on the income statement should be reported as a separate item when reconciling net income I nvestm ent Pr oper ty and operating activities. For a more detailed discussion about the exchange rate effects on the statement of Chapter 11 Business Combinations and Consolidat ed Fin ancial Statements cash flows, see Chapter 20. Chapter 7

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Sheet Date Cash flowBalance per share.

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter - Leases no requirement either under the international accounting standards or under US GAAP to There is14presently Chapter disclose15such - I ncom information e Taxes in the financial statements of an enterprise, unlike the requirement to report

earnings share (EPS). In sfact, cash flow per share is a somewhat disreputable concept, since it was Chapter 16per - Em ploy ee Benefit sometimes in an s'earlier Chapter 17 - touted Stock holder Equit yera as being indicative of an entity's "real" performance, when of course it is not a meaningful alternative to earnings per share because, for example, enterprises that are self-liquidating Chapter 18 - Earnings Per Share by selling assets can generate very positive total cash flows, and hence, cash flows per share, Chapter 19 productive - I nterim Financial Repor ting

while decimating Chapter 20 - Segmthe ent potential Repor tingfor future earnings. Since, unlike a comprehensive cash flow statement, cash flow per share cannot reveal the components of cash flow (operating, investing, and financing), its usage could be misleading.

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Chapter 23 - Related- Part y Disclosures

Exemption from Presentation of a Statement of Cash Flows under US GAAP and IAS

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Under US as set forth in SFAS 102, a statement of cash flows is not required for a defined benefit Appendix A -GAAP, Di sclosure Checklist pension Bplan that presents financial information consistent with Appendix - I llustrativ e Financial St atem ent s Pr esent ed Under I ASthe guidelines of SFAS 35. Other employee benefit plans areparison exempted provided that and the financial Appendix C - Com of I AS, US GAAP, UK GAAPinformation presented is similar to the requirements of SFAS 35. Investment enterprises or a common trust fund held for the collective investment and I ndex

reinvestment List of Tables of moneys are not required to provide a statement of cash flows if the following conditions are met:

List of Ex hibits and Ex am ples

1. Sidebar Substantially all of the entity's investments are highly liquid List of s 2. Entity's investments are carried at market value 3. Entity had little or no debt, based on average debt outstanding during the period in relation to average total assets 4. Entity provides a statement of changes in net assets However, with the issuance of SFAS 117, the requirements for presentation of statements of cash flows

have been made almost universal except in the case of investment companies and employee benefit plans, which are still exempted. IAS 7, on the other hand, categorically states that all enterprises regardless of the nature of their activities present a statement ofdcash as anf integral part of their financial W ile y Ishould AS 2 0 03 : I n t erp re t at ion an Ap pflows licat io no reports. No exceptions have been identified to this requirement. I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za Net Reporting by Financial Institutions John Wi ley & Sons © 2003 (952 pages) This com pact and to t ruly com cash pr ehensive qui ck - refer IAS 7 permits financial institutions report flows arising fromence certain activities on a net basis. These pr esent s account ants with a guide to depend on for be acceptable, are as follows: activities, and the related conditions under which net reporting would assistance in the prepar at ion and under standing of financial

1. Cash receipts and payments on inbehalf of customers when the cash flows reflect the activities of the statements present ed accordance with I AS. customers rather than those of the bank. For example, the acceptance and repayment of demand T ab le of Con t en t s deposits Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar 2. ds Cash flows relating to deposits with fixed maturity dates Preface

3. Placements and withdrawals of deposits fromStandar other financial institutions Chapter 1 - I ntr oduction to I nter national Accounting ds Chapter 2

- Balance Sheet

Chapter 3

-

4. Cash advances and loans to banks customers and repayments thereon I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

US GAAP has similar requirements. According to SFAS 104, banks, savings institutions, and credit unions Chapter 4 - Cash Flow St at em ent are allowed to report net cash receipts and payments for the following: Chapter 5

- Financial I nstr uments—Cash and Receiv ables

placed with other financial institutions 1. Deposits - I nventor y

Chapter 6

Chapter 7 - Rev enueofRecogni tion, I ncluding Constr uction Contr act s 2. Withdrawals deposits Chapter 8

- Property , Plant , and Equipment 3. Time Chapter 9 - Ideposits ntangi ble accepted Asset s I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 4. Repayments of deposits I nvestm ent Pr oper ty Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

5. Loans made to customers

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balance Sheet Date 6. Principal collections of loans

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Reporting Futures, Forward Contracts, Options, and Swaps

Chapter 15 - I ncom e Taxes

Chapter 16 - Em ploy ee Benefit s

IAS 7 stipulates that cash payments for and cash receipts from futures contracts, forward contracts, option

Chapter 17 and - Stock holder s' Equit yare normally classified as investing activities, except contracts, swap contracts Chapter 18 - Earnings Per Share

1. When such contracts are held for dealing or trading purposes and thus represent operating activities

Chapter 19 - I nterim Financial Repor ting

Chapter 20 - Segm ent Repor ting 2. When the payments or receipts are considered by the enterprise as financing activities and are Chapter reported 21 - Accounting Changes and Cor rection of Er ror s accordingly Chapter 22 - For eign Curr ency

Further,23when a contract accounted for as a hedge of an identifiable position, the cash flows of the Chapter - RelatedPart y isDisclosures

contract24are classified inI ndustr the same Chapter - Specialized ies manner as the cash flows of the position being hedged. In this matter, US GAAP establishes similar requirements (by SFAS 104).

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Reporting Extraordinary Items in the Cash Flow Statement

Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

The cash flows associated with extraordinary items should be disclosed separately as arising from operating, investing, or financing activities in the statement of cash flows, as appropriate. By way of I ndex contrast, US GAAP permits, but does not require, separate disclosure of cash flows related to extraordinary List of Tables items. If an entity reporting under US GAAP chooses to make this disclosure, however, it is expected to do List of Ex hibits and Ex am ples so consistently in all periods. Appendix C - Com parison of I AS, US GAAP, and UK GAAP

List of Sidebar s

Reconciliation of Cash and Cash Equivalents An enterprise should disclose the components of cash and cash equivalents and should present a reconciliation of the difference, if any, between the amounts reported in the statement of cash flows and equivalent items reported in the balance sheet. By contrast, under the US GAAP the definition must tie to a specific caption on the balance sheet. For example, if short-term investments are shown as a separate caption in the balance sheet, the definition of cash for the purposes of the statement of cash flows must

include "cash" alone (and not also include short-term investments). On the other hand, if "cash and cash equivalents" is the adopted definition in the statement of cash flows, a single caption in the balance sheet must include bothW"cash" and2 0"short-term ile y I AS 03 : I n t erpinvestments." re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds ISBN:0471227366 by Bar r y J. Disposals Epstein and Abbas Acquisitions and ofAliSubsidiaries and Other Business Mir za Units John Wi ley & Sons © 2003 (952 pages)

This com pact and t ruly com pr ehensive qui ck - refer ence

IAS 7 requires that the aggregate cashwith flows from acquisitions pr esent s account ants a guide to depend onand for from disposals of subsidiaries or other business units should be presented separately as under part of the investing activities section of the statement of assistance in the prepar at ion and standing of financial statements present edhave in accordance I AS. cash flows. The following disclosures also beenwith prescribed by IAS 7 in respect to both acquisitions and disposals:

T ab le of Con t en t s

The total consideration included Wiley1.I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds 2. The portion thereof discharged by cash and cash equivalents Preface Chapter 1

I ntr oduction to I nter national Accounting Standar ds 3. The- amount of cash and cash equivalents in the subsidiary or business unit acquired or disposed

Chapter 2

- Balance Sheet

4. The- amount I ncom e of Statement, assets and Stat liabilities em ent of(other Chan ges thanincash Equitand y, and cash Statem equivalents) ent acquired or disposed, of Recognized Gains and Losses summarized by major category

Chapter 3 Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables Other Disclosures Required or Recommended by IAS 7 - I nventor y

Chapter 6

Chapter - Rev enue Recogni tion, Constr uction Contr s Certain7additional information mayI ncluding be relevant to the users of act financial statements in gaining an insight into Chapter 8 Property , Plant , and Equipment the liquidity or solvency of an enterprise. With this objective in mind, IAS 7 sets forth other disclosures that Chapter 9 - I ntangi ble Asset s recommended. are required or in some cases, I nterests in Financial Instr um s, Associat es, Joint Ventur es, and balances held by an 1. Required disclosure—Amount ofent significant cash and cash equivalent Chapter 10 I nvestm ent Pr oper ty

enterprise that are not available for use by the group should be disclosed along with a commentary by management.

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balance Sheet Date disclosures—The disclosures that are encouraged are the following: 2. Recommended

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

a. Amount of undrawn borrowing facilities, indicating restrictions on their use, if any

Chapter 14 - Leases

Chapter 15 b. - I ncom e Taxes In case of investments in joint ventures, which are accounted for using proportionate Chapter 16 - Emconsolidation, ploy ee Benefitthe s aggregate amount of cash flows from operating, investing and financing Chapter 17 - Stock holder that s' Equit activities arey attributable to the investment in the joint venture Chapter 18 - Earnings Per Share

Aggregate amount ofting cash flows that are attributable to the increase in operating capacity Chapter 19 c. - I nterim Financial Repor separately from those cash flows that are required to maintain operating capacity

Chapter 20 - Segm ent Repor ting

Chapter 21 d. - Accounting and segregated Cor rection ofbyErreported ror s Amount ofChanges cash flows industry and geographical segments Chapter 22 - For eign Curr ency

The disclosures above Chapter 23 - RelatedPartrecommended y Disclosures by the IAS 7, although difficult to present, are unique since such disclosures not required even Chapter 24 - are Specialized I ndustr ies under the US GAAP. They are useful in enabling the users of financial statements understand the enterprise's financial position better. Chapter 25 - to I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Basic example of the preparation of the cash flow statement under IAS 7 using a worksheet approach

Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Appendix C following - Com parison of I AS, US GAAP,for and UK (Middle GAAP East) Ltd., preparation and presentation of the Using the financial information ABC I ndex cash flow statement according to the requirements of IAS 7 are illustrated. (Note that all figures in this List of Tables example are in thousands of US dollars.) List of Ex hibits and Ex am ples List of Sidebar s

ABC (Middle East) Ltd. Balance Sheets As at December 31, 2003 and 2002

Assets Cash and cash equivalents W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds Debtors ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Inventories Mir za John Wi ley & Sons © 2003 (952 pages) Preoperative expenses This com pact and t ruly com pr ehensive qui ck - refer ence Due from associates pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial Property, plant, and equipment cost statements present ed in accordance with I AS.

Accumulated depreciation T ab le of Con t en t s

2003

2002

$ 3,000

$ 1,000

5,000

2,500

2,000

1,500

1,000

1,500

19,000

19,000

12,000

22,500

(5,000)

(6,000)

7,000

16,500

$37,000

$42,000

$ 5,000

$12,500

2,000

1,000

3,000

2,000

10,000

15,500

6,500

6,500

20,500

20,000

27,000

26,500

$37,000

$42,000

Wiley I AS 20plant, 03—Int er pretation and net Application of I nternational Account ing Property, and equipment, Standar ds

Total assets Preface Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Liabilities Chapter 2

- Balance Sheet

Accounts payable

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Income taxes payable Gains and Losses Chapter 4 - Cash Flow St at em ent Chapter 3

-

Deferred taxes payable

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Total liabilities Chapter 6 - I nventor y Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s Shareholders' equity Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Share capital

Retained earnings I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty

Total shareholders' equity

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Total liabilities shareholders' Currand ent Liabilit ies, Prov equity isions, Cont ingencies, and Ev ents after t he

Chapter 12 -

Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

ABC (Middle East) Ltd. Statement of Income For the Year Ended December 31, 2003 Chapter 15 - I ncom e Taxes Chapter Sales 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y

Cost of sales

Chapter 18 - Earnings Per Share

$ 30,000 (10,000)

Chapter Gross 19 operating - I nterim income Financial Repor ting

20,000

Chapter 20 - Segm ent Repor ting

(2,000)

Administrative and selling expenses

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Interest Chapter 22expenses - For eign Curr ency

(2,000)

Chapter 23 - RelatedPart y Disclosures Depreciation of property, plant and equipment

(2,000)

Chapter 24 - Specialized I ndustr ies

Amortization of preoperative expenses

Chapter 25 - I nflation and Hyperinflation

Investment income Chapter 26 - Gov er nm ent Gr an ts Appendix A - Dibefore sclosure Checklist Net income taxation and extraordinary item Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Extraordinary item—proceeds from settlement with government for expropriation of business

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

(500) 2,000 15,500 1,000

I ndex

ListNet of income Tables after extraordinary item

16,500

ListTaxes of Ex hibits and Ex am ples on income

(4,000)

List of Sidebar s

Net income

$12,500

The following additional information is relevant to the preparation of the statement of cash flows: 1. Equipment with a net book value of $7,500 and original cost of $10,500 was sold for $7,500. 2. All sales made by the company are credit sales. 3. The company received cash dividends (from investments) amounting to $2,000, recorded as income

3. in the income statement for the year ended December 31, 2003. 4. The company received $1,000 in settlement from government for the expropriation of business, W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f which is accounted for as an extraordinary item. I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and dividends Abbas Ali of $12,000 toISBN:0471227366 5. The company declared and paid its shareholders.

Mir za John Wifor ley the & Sons 2003 (952 6. Interest expense year©2003 waspages) $2,000, which was fully paid during the year. All This com pact and t ruly com pr ehensive quipaid ck - refer encethe year. administration and selling expenses incurred were during pr esent s account ants with a guide to depend on for at ion was and under standing of financial 7. Income taxassistance expense in forthe theprepar year 2003 provided at $4,000, out of which the company paid statements present ed in accordance with I AS.

$2,000 during 2003 as an estimate.

T ab le of Con t en t s

A worksheet can be prepared to ease the development of the cash flow statement, as follows:

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface

Cash Flow Chapter 1 - Worksheet I ntr oduction to I nter national Accounting Standar ds Chapter 2

- Balance Sheet

Chapter 3

I ncom e Statement, Stat emChange ent of Chan ges in Equit y, and Statem ent Financing 2003 2002 Operating Investing of Recognized Gains and Losses

Cash and 3,000 Chapter 4 - Cash Flow St at em1,000 ent

2,000 equivalents Chapter 5 - Financial I nstr uments—Cash and Receiv ables Chapter 6 - I nventor y Debtors 5,000 2,500 2,500 (2,500) Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Inventories

2,000

1,500

500

Cash and equivalents 2,000

(500)

Preoperative Chapter 9 - I ntangi1,000 ble Asset s 1,500

(500) 500 expenses I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 ent Pr oper ty Due from I nvestm 19,000 19,000 0 Chapter 11 Business Combinations and Consolidat ed Fin ancial Statements associates Chapter 12 Property,

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he 16,500 (9,500) 2,000 7,500 Balance7,000 Sheet Date

plant, 13 and- Financial I nstr uments—Long- Ter m Debt Chapter equipment Chapter 14 - Leases

Chapter 15 - I ncom e5,000 Taxes Accounts

12,500

7,500

(7,500)

1,000

1,000

Deferred 3,000 2,000 taxes Chapter 22 - For eign Curr ency payable

1,000

1,000

Share 24 - Specialized 6,500I ndustr 6,500 Chapter ies

0

Chapter payable 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y

Income

2,000

1,000

Chapter taxes 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting payable Chapter 20 - Segm ent Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 23 - Related- Part y Disclosures

capital25 - I nflation and Hyperinflation Chapter Chapter 26 - Gov er20,500 nm ent Gr an ts Retained 20,000 Appendix A - Di sclosure Checklist earnings

500

10,500

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

4,500

2,000

(12,000)

--

9,500

(12,000)

2,000

I ndex List of Tables List of Ex hibits and Ex am ples

ABC (Middle East) Ltd. Statement of Cash Flows For the Year Ended December 31, 2003 (Direct

List of Sidebar s method)

Cashflows from operating activities Cash receipts W ile yfrom I AS customers 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Cash paid suppliers and employees bytoBar r y J. Epstein and Abbas Ali

$ 27,500 (20,000)

ISBN:0471227366

Mir za

7,500

Cash generated from John Wi ley & operations Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence Interest paid

pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial Income taxes paid statements present ed in accordance with I AS.

(2,000) (2,000)

Cash T ab le of Con t enflow t s before extraordinary item Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar dsProceeds from settlement with government for Preface

3,500 1,000

appropriation of business [a]

$ 4,500

Chapter 1Net - Icash ntr oduction to I nter nationalactivities Accounting Standar ds flows from operating Chapter 2

- Balance Sheet

Cash flowsI ncom fromeinvesting activities Statement, Stat em ent of Chan ges in Equit y, and Statem ent -

Chapter 3

of Recognized Gains and Losses

Proceeds from the sale of equipment

Chapter 4

Chapter 5Dividends - Financial I nstr uments—Cash and Receiv ables received Chapter 6

7,500

- Cash Flow St at em ent

2,000

- I nventor y

9,500

cash flows from tion, investing activities Chapter 7Net - Rev enue Recogni I ncluding Constr uction Contr act s Chapter 8 - Property , Plant , and Equipment Cash flows from financing activities Chapter 9

- I ntangi ble Asset s

(12,000) Dividends paid I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty Net cash flows used in financing activitiesed Fin ancial Statements Chapter 11 - Business Combinations and Consolidat

(12,000)

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 Net - increase in cash and cash equivalents Balance Sheet Date

2,000

Chapter 13 - Financial I nstr uments—LongTer m Debt Cash and cash equivalents, beginning of year

1,000

Chapter 14 - Leases

Cash and ecash equivalents, end of year Chapter 15 - I ncom Taxes

$ 3,000

[a]Cash16 flows withs extraordinary items should be classified as arising from operating, Chapter - Emassociated ploy ee Benefit

investing, financing Chapter 17 -orStock holderactivities s' Equit y as appropriate and disclosed separately. Thus, part of the proceeds (i.e., those to property, plant and equipment) could be presented as cash flows from Chapter 18 - pertaining Earnings Per Share investing information to do so is available. Chapter 19 activities, - I nterim if Financial Reporneeded ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

Details of the computations of amounts shown in the statement of cash flows are as follows:

Chapter 22 - For eign Curr ency

Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

Cash received from customers during the year Credit sales W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Accounts receivable, beginning of year ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Plus: Mir za receivable, end of year John Wi ley Accounts & Sons © 2003 (952 pages) Less:

30,000 2,500 (5,000)

This com pact and t ruly com pr ehensive qui ck - refer ence

$27,500

pr esentfrom s account ants with a guide to depend on for Cash received customers during the year assistance in the prepar at ion and under standing of financial Cash paid to suppliers and employees statements present ed in accordance with I AS.

10,000

T ab le of Con t en Cost oft ssales Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Inventory, beginning of year Standar ds Less: Preface Chapter 1

Inventory, end of year

Chapter 2

- I ntr oduction to I nter national Accounting Standar ds Plus: - Balance Sheet

Chapter 3

-

Chapter 4

Accounts payable, end of year - Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6 Chapter 7

Accounts payable, beginning of year

I ncom Plus:e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Less:

Administrative and selling expenses paid - I nventor Plus: y - Rev enue Recogni tion, I ncluding Constr uction Contr act s

(1,500) 2,000 12,500 (5,000) 2,000 $20,000

paid to, suppliers employees during the year Chapter 8Cash - Property Plant , andand Equipment Chapter 9

- I ntangi ble Asset s

$ 2,000

Interest paid equals interest expense charged to the income statement I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - additional information) (per I nvestm ent Pr oper ty Chapter 11 taxes - Business and Consolidat ed Fin ancial Statements Income paid Combinations during the year Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Tax Balance expenseSheet during the year (comprising current and deferred portions) Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Plus: Chapter 14 - Leases Chapter 15 - I ncom e Taxes

4,000

Beginning income taxes payable

1,000

Beginning deferred taxes payable

2,000

Plus: Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y Ending income taxes payable Less: Per Share Chapter 18 - Earnings

(2,000)

Chapter 19 - I nterim FinancialEnding Repor ting deferred taxes payable Less: Chapter 20 - Segm ent Repor ting

(3,000)

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Cash paid toward income taxes

$ 2,000

Chapter 22 - For eign Curr ency

Chapter 23 - RelatedPartsettlement y Disclosures Proceeds from with government—expropriation of business Chapter 24 (per - Specialized additional information) I ndustr ies

$ 1,000

Chapter 25 - I nflation and Hyperinflation

$ 7,500

Proceeds from sale of equipment (per additional information)

Chapter 26 - Gov er nm ent Gr an ts

Appendix Dividends A - Di sclosure Checklist received during 2003 (per additional information) Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

paid during (per additional information) Appendix Dividends C - Com parison of I AS,2003 US GAAP, and UK GAAP

$ 2,000 $12,000

I ndex List of Tables List ABC of Ex (Middle hibits and East) Ex Ltd. am ples Statement of Cash Flows For the Year Ended December 31, 2003 (Indirect [a] method) List of Sidebar s

Cash flows from operating activities Net income before extraordinary item W ile y I AStaxation 2 0 03 : Iand n t erp re t at ion an d Ap p licat io n o f

$ 15,500

I n t er n at ion al Accou n t in g St an d ar ds

Adjustments for: by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za Depreciation John Wi leyof&property, Sons © 2003 plant (952and pages) equipment This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with expenses a guide to depend on for Amortization of preoperative assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Investment income T ab le of Con t en t s

Wiley I AS 20 03—Int Interest er pretation expenseand Application of I nternational Account ing Standar ds Preface

Operating income before working capital changes[a]

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

Increase in accounts receivable - Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

Decrease in uments—Cash accounts payable - Financial I nstr and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

500 (2,000) 2,000 18,000 (2,500)

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent (500) in inventories ofIncrease Recognized Gains and Losses

Cash generated from operations

Chapter 8Interest - Property paid, Plant , and Equipment Chapter 9

2,000

(7,500) 7,500 (2,000)

- I ntangi ble Asset s

(2,000) Income taxesinpaid I nterests Financial Instr um ent s, Associat es, Joint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty

Cash flow before extraordinary item Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

3,500

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 Proceeds from government settlement—expropriation of Balance Sheet Date

1,000

business[b]

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

4,500

Chapter 14 - Leases Net cash from operating activities Chapter 15 - I ncom e Taxes

Cash flows from investing activities

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder Equit Proceeds from s' sale of yequipment Chapter 18 - Earnings Per Share

Dividends Chapter 19 - I nterimreceived Financial Repor ting

7,500 2,000

Chapter 20 - Segm ent Repor ting

9,500

Net cash from investing activities

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Cash flows from Chapter 22 - For eign financing Curr ency activities Chapter 23 - Related- Part y Disclosures

Dividends paid

(12,000)

Chapter 24 - Specialized I ndustr ies Chapter 25 - Icash nflation andinHyperinflation Net used financing activities Chapter 26 - Gov er nm ent Gr an ts

(12,000)

increase cash and cash equivalents Appendix Net A - Di sclosureinChecklist

2,000

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

1,000

Cash and cash equivalents, beginning of year

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

$ 3,000 Cash and cash equivalents, end of year of the statement of cash flows presented under the indirect method is in accordance with List Ex hibits and in Exthe am ples theofpresentation appendix of IAS 7; thus the wording "working capital changes" has been used List of Sidebar s instead of "changes in operating assets and liabilities," as recommended by the authors. For a detailed discussion on this subject, refer to the earlier section of this chapter. I ndex

[a]The List of Tables format

[b]Cash

flows associated with extraordinary items should be classified as arising from operating, investing, or financing activities as appropriate and disclosed separately. Thus, part of the proceeds (i.e., those pertaining to property, plant and equipment) could be presented as cash flows from investing activities, if information needed to do so is available.

A Comprehensive Example of the Preparation of the Cash Flow W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Statement Using the T-Account I n t er n at ion al Accou n t in g St an dApproach ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Under a cash andMir cash za equivalents basis, the changes in the cash account and any cash equivalent account is the bottom lineleyfigure of the statement of cash flows. Using the 2002 and 2003 balance sheets John Wi & Sons © 2003 (952 pages) shown below, an increase of $17,000 can be computed. This is the difference between the totals for cash This com pact and t ruly com pr ehensive qui ck - refer ence and treasury billspr between 2002 and esent s account ants2003 with ($33,000 a guide to- $16,000). depend on for assistance in the prepar at ion and under standing of financial

When preparing the statement of cash flows using the direct statements present ed in accordance with I AS.method, gross cash inflows from revenues and gross cash outflows to suppliers and for expenses are presented in the operating activities section. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of net I nternational ing In preparing the reconciliation of net income to cash flow Account from operating activities (indirect method), Standar ds in all accounts other than cash and cash equivalents that are related to operations are additions to changes Preface or deductions from net income to arrive at net cash provided by operating activities. Chapter 1

- I ntr oduction to I nter national Accounting Standar ds A T-account analysisSheet may be helpful when preparing the statement of cash flows. A T-account is set up for Chapter 2 - Balance

each account, andebeginning and areStatem takenent from the appropriate balance I ncom Statement,(2002) Stat em entending of Chan(2003) ges in balances Equit y, and Chapter 3 sheet. Additionally, a T- account for cash and cash equivalents from operating activities and a master or of Recognized Gains and Losses summary ofStcash Chapter 4 T-account - Cash Flow at emand ent cash equivalents should be used. Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Example of preparing a statement of cash flows

Chapter 6

- I nventor y The7 financial statements will be used toConstr prepare the Contr statement Chapter - Rev enue Recogni tion, I ncluding uction act s of cash flows. Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Johnson Company Sheets December 31, 2003 andVentur 2002 es, and I nterests Balance in Financial Instr um ent s, Associat es, Joint Chapter 10 I nvestm ent Pr oper ty

2003

2002

$ 29,000

$ 10,000

Treasury bills Chapter 16 - Em ploy ee Benefit s

4,000

6,000

Chapter 17 - Stock holder s' Equit y

9,000

11,000

Chapter 19 - I nterim Financial Repor ting Inventory

14,000

9,000

Chapter 20 - Segm ent Repor ting

10,000

13,000

$ 66,000

$ 49,000

16,000

14,000

5,000

6,000

5,000

--

Property, plant, and equipment List of Tables

39,000

37,000

List of Ex hibits and Ex am ples

(7,000)

(3,000)

$124,000

$103,000

$ 2,000

$ 12,000

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Assets

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Current assets:

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Cash Chapter 15 - I ncom e Taxes

Accounts receivable—net

Chapter 18 - Earnings Per Share

Prepaid expenses Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Total assets Chapter 23 - RelatedPart ycurrent Disclosures Chapter 24 - Specialized Noncurrent assets: I ndustr ies Chapter 25 - I nflation and Hyperinflation

Investment XYZ (35%) Chapter 26 - Gov er nminent Gr an ts Appendix A - Di sclosure Checklist

Patent

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix Leased C - Com asset parison of I AS, US GAAP, and UK GAAP I ndex

List of Sidebar sLess accumulated depreciation

Total assets Liabilities Current liabilities: Accounts payable

Notes payable—current

9,000

--

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Interest payable

3,000

2,000

5,000

2,000

2,000

1,000

700

--

21,700

17,000

9,000

6,000

10,000

25,000

4,300

--

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses $ 45,000 - Cash Flow Total St liabilities at em ent

$ 48,000

I n t er n at ion al Accou n t in g St an d ar ds

Dividendsbypayable Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za Income taxes payable John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence

Lease obligation pr esent s account ants with a guide to depend on for

assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Total current liabilities

T ab le of Con t en t s

Noncurrent liabilities:

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar dsDeferred tax liability Preface Chapter 1Bonds - I ntrpayable oduction to I nter national Accounting Standar ds Chapter 2

- Balance Sheet

Lease obligation

Chapter 3 Chapter 4 Chapter 5

- Financial I nstr uments—Cash and Receiv ables Stockholders' equity

Chapter 6

- I nventor y

Common $10Recogni par value Chapter 7 -stock, Rev enue tion, I ncluding Constr uction Contr act s

$ 33,000

$ 26,000

Chapter 8 - paid-in Property , Plant , and Equipment Additional capital

16,000

3,000

Chapter 9

30,000

26,000

$ 79,000

$ 55,000

$124,000

$103,000

- I ntangi ble Asset s

Retained earnings

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Total stockholders' equity

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he BalanceTotal Sheet Date and stockholders' equity liabilities

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter Johnson 16 Company - Em ploy eeStatement Benefit s of Earnings For the Year Ended December 31, 2003 Chapter 17 - Stock holder s' Equit y

Sales

Chapter 18 - Earnings Per Share

Other 19 income Chapter - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

$100,000 8,000 $108,000

Cost of goods sold, excluding depreciation

60,000

Selling, and administrative Chapter 23general, - RelatedPart y Disclosures expenses

12,000

Chapter 22 - For eign Curr ency

Chapter 24 - Specialized I ndustr ies Depreciation Chapter 25 - I nflation and Hyperinflation

Amortization of patents

Chapter 26 - Gov er nm ent Gr an ts

InterestAexpense Appendix - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

8,000 1,000 2,000 $ 83,000

Income before taxes

$ 25,000

taxes (36%) ListIncome of Tables

9,000

I ndex

ListNet of income Ex hibits and Ex am ples List of Sidebar s

$ 16,000

Additional information (relating to 2003) 1. Equipment costing $6,000 with a book value of $2,000 was sold for $5,000. 2. The company received a $3,000 dividend from its investment in XYZ, accounted for under the equity method and recorded income from the investment of $5,000, which is included in other income. 3. The company issued 200 shares of common stock for $5,000.

4. The company signed a note payable for $9,000. 5. EquipmentWwas ile ypurchased I AS 2 0 03 :for I n$8,000. t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

6. The company converted $15,000 bondsAli payable into 500 shares of common stock. The book value ISBN:0471227366 by Bar r y J. Epstein and Abbas method was to record the transaction. Mirused za John Wi ley & Sons © 2003 (952 pages)

7. A dividend of $ 12,000 was declared.

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for 8. Equipmentassistance was leased on December principal portion of the first payment due in the prepar at ion31, and2003. underThe standing of financial Decemberstatements 31, 2004, is $700.ed in accordance with I AS. present T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Explanation of entries

Appendix A - Di sclosure Checklist

a. Cash and Cash Equivalents—Operating Activities is debited for $16,000, and credited to Retained Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS This represents net income AppendixEarnings. C - Com parison of I AS, USthe GAAP, and UK figure. GAAP I ndex

b. Depreciation is not a cash flow; however, depreciation expense was deducted to arrive at net income. Therefore, Accumulated Depreciation is credited and Cash and Cash List of Ex hibits and Ex am ples Equivalents—Operating Activities is debited. List of Tables

List of Sidebar s

c. Amortization of patents is another expense not requiring cash; therefore, Cash and Cash Equivalents—Operating Activities is debited and Patent is credited. d. The sale of equipment (additional information, item 1.) resulted in a $3,000 gain. The gain is computed by comparing the book value of $2,000 with the sales price of $5,000. Cash proceeds of $5,000 are an inflow of cash. Since the gain was included in net income, it must be deducted from net income to determine cash provided by operating activities. This is necessary to avoid counting the $3,000 gain both in cash provided by operating activities and in investing activities. The following

entry would have been made on the date of sale: Cash

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap5,000 p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Accumulated depreciation (6,000 - 2,000)

4,000

ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali Mir za Property, plant, and equipment John Wi ley & Sons © 2003 (952 pages)

6,000

3,000 Gain Thison com sale pact ofand equipment t ruly com (5,000 pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for 2,000)

assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Adjust the T-accounts as follows: debit Summary of Cash and Cash Equivalents for $5,000, debit Depreciation for $4,000, credit Property, Plant, and Equipment for $6,000, and credit T ab le of Accumulated Con t en t s Cash and Cash Equivalents—Operating for $3,000. Wiley I AS 20 03—Int er pretation and Application of IActivities nternational Account ing Standar ds

e. The $3,000 increase in Deferred Income Taxes must be added to income from operations. Although Preface

the -$3,000 was deducted as part of income tax expense in determining net income, it did not require I ntr oduction to I nter national Accounting Standar ds an outflow of cash. Therefore, debit Cash and Cash Equivalents—Operating Activities and credit Chapter 2 - Balance Sheet Deferred Taxes. Chapter 1

Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

f. Item 2. under the additional information indicates that the investment in XYZ is accounted for under Chapter 4 - Cash Flow St at em ent the equity method. The investment in XYZ had a net increase of $2,000 during the year after Chapter considering 5 - Financial I nstr uments—Cash and Receiv ables the receipt of a $3,000 dividend. Dividends received (an inflow of cash) would reduce the Chapter investment 6 - I nventor y in XYZ, while the equity in the income of XYZ would increase the investment without Chapter affecting 7 - Rev enue tion, ncluding Constrtouction Contr s of $5,000 must have been made, cash.Recogni In order for Ithe T-account balance, aact debit Chapter indicating 8 - Property , Plant , and Equipment earnings of that amount. The journal entries would have been Chapter 9

- I ntangi ble Asset s

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Cash 3,000 Chapter 10 - (dividend received) I nvestm ent Pr oper ty Chapter 11 - Business Combinations Fin ancial Statements Investment in XYZ and Consolidat ed3,000 Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 Investment in XYZ 5,000 Balance Sheet Date Chapter 13 - Financial uments—LongTer m Debt 5,000 EquityI nstr in earnings of Chapter 14 - Leases XYZ Chapter 15 - I ncom e Taxes Chapter The 16 - dividend Em ploy eereceived Benefit s($3,000) is an inflow of cash, while the equity earnings are not. Debit

in XYZ for $5,000, credit Cash and Cash Equivalents—Operating Activities for $5,000, Chapter Investment 17 - Stock holder s' Equit y Cash andPer Cash Equivalents—Operating Activities for $3,000, and credit Investment in XYZ for Chapter debit 18 - Earnings Share Chapter $3,000. 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

g. The Property, Plant, and Equipment account increased because of the purchase of $8,000 (additional information, item 5.). The purchase of assets is an outflow of cash. Debit Property, Plant, Chapter 22 - For eign Curr ency and Equipment for $8,000 and credit Summary of Cash and Cash Equivalents. Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 23 - Related- Part y Disclosures Chapter h. The 24 - company Specialized sold I ndustr 200 ies shares of common stock during the year (additional information, item 3.). The

the sale stock was Chapter entry 25 - Ifor nflation and of Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix Cash A - Di sclosure Checklist

5,000

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Common stock (200 shares x $10)

2,000

Additional paid-in capital

3,000

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables

List of Ex hibits and Ex am ples List of Sidebar This transaction s resulted in an inflow of cash. Debit Summary of Cash and Cash Equivalents $5,000,

credit Common Stock $2,000, and credit Additional Paid-in Capital $3,000. i. Dividends of $12,000 were declared (additional information, item 7.). Only $9,000 was actually paid in cash resulting in an ending balance of $9,000 in the Dividends Payable account. Therefore, the following entries were made during the year:

Retained Earnings

12,000

12,000 Dividends W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds Payable by Bar r y J. Epstein and Abbas Ali

DividendsMir Payable za

9,000

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages) 9,000 Cash This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account a guide to depend on for These transactions result inants an with outflow of cash. Debit Retained Earnings $12,000 and credit assistance in the prepar at ion and under standing of financial Dividends statements Payable $12,000. Additionally, debit Dividends Payable $9,000 and credit Summary of present ed in accordance with I AS.

Cash and Cash Equivalents $9,000 to indicate the cash dividends paid during the year. T ab le of Con t en t s

Accounts Receivable decreased of by I$2,000. This Account is added Wiley j.I AS 20 03—Int er pretation(net) and Application nternational ingas an adjustment to net income in the computation of cash provided by operating activities. The decrease of $2,000 means that an Standar ds Preface additional $2,000 cash was collected on account above and beyond the sales reported in the income

Debit Cash and Cash Accounting Equivalents—Operating Activities and credit Accounts Receivable Chapter statement. 1 - I ntr oduction to I nter national Standar ds Chapter for 2 $2,000. - Balance Sheet I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 k. Inventories increased by $5,000. This is subtracted as an adjustment to net income in the of Recognized Gains and Losses

computation of cash provided by operating activities. Although $5,000 additional cash was spent to - Cash Flow St at em ent increase inventories, this expenditure is not reflected in accrual-basis cost of goods sold. Debit Chapter 5 - Financial I nstr uments—Cash and Receiv ables Inventory and credit Cash and Cash Equivalents—Operating Activities for $5,000. Chapter 4 Chapter 6

- I nventor y

Chapter 7 - RevExpenses enue Recogni tion, I ncluding Constr uction Contr act s to net income in the computation of l. Prepaid decreased by $3,000. This is added back Chapter cash 8 - Property , Plant , and Equipment provided by operating activities. The decrease means that no cash was spent when incurring Chapter the 9 -related I ntangiexpense. ble Asset sThe cash was spent when the prepaid assets were purchased, not when they were Iexpended nterests in on Financial the income Instr um statement. ent s, Associat Debites, Cash Jointand Ventur Cash es,Equivalents—Operating and Activities Chapter 10 I nvestm ent Pr oper ty and credit Prepaid Expenses for $3,000. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

m. Accounts Payable by $10,000. This is and subtracted as ant he adjustment to net income. The Curr ent Liabilitdecreased ies, Prov isions, Cont ingencies, Ev ents after Balance Sheet Date decrease of $10,000 means that an additional $10,000 of purchases were paid for in cash; therefore, was not affected but cashTer was Debit Accounts Payable and credit Cash and Chapter income 13 - Financial I nstr uments—Longm decreased. Debt Equivalents—Operating Activities for $10,000. Chapter Cash 14 - Leases Chapter 12 -

Chapter 15 - I ncom e Taxes

n. Notes Payable increased by $9,000 (additional information, item 4.). This is an inflow of cash and would be included in the financing activities. Debit Summary of Cash and Cash Equivalents and Chapter 17 - Stock holder s' Equit y credit Notes Payable for $9,000. Chapter 16 - Em ploy ee Benefit s

Chapter 18 - Earnings Per Share

Chapter 19 - I nterim Financial Reporby ting$1,000, but interest expense from the income statement was $2,000. o. Interest Payable increased Chapter Therefore, 20 - Segm ent although Repor ting $2,000 was expensed, only $1,000 cash was paid ($2,000 expense - $1,000

in interest payable). Debit Cashofand Cash Equivalents—Operating Activities for $1,000, Chapter increase 21 - Accounting Changes and Cor rection Er ror s Interest Payable Chapter debit 22 - For eign Curr ency for $1,000, and credit Interest Payable for $2,000. Chapter 23 - Related- Part y Disclosures

p. The following entry was made to record the incurrence of the tax liability:

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation

Income tax expense

Chapter 26 - Gov er nm ent Gr an ts

9,000

6,000 Appendix A - Di sclosure Income Checklist taxes Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS payable Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Deferred tax liability

3,000

List of Tables

Therefore, $9,000 was deducted in arriving at net income. The $3,000 credit to Deferred Income Taxes was accounted for in entry (e) above. The $6,000 credit to Taxes Payable does not, however, List of Sidebar s indicate that $6,000 cash was paid for taxes. Since Taxes Payable increased $1,000, only $5,000 must have been paid and $1,000 remains unpaid. Debit Cash and Cash Equivalents—Operating Activities for $1,000, debit Income Taxes Payable for $5,000, and credit Income Taxes Payable for $6,000. List of Ex hibits and Ex am ples

q. Item 6. under the additional information indicates that $15,000 of bonds payable were converted to common stock. This is a noncash financing activity and should be reported in a separate schedule. The following entry was made to record the transaction:

Bonds payable

15,000

5,000 Common stock $10 W ile y I AS 2 0(500 03 : I shares n t erp rext at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds par) by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Additional paid-in capital Mir za

10,000

John Wi ley & Sons © 2003 (952 pages)

Adjust theThis T-accounts debit to pr Bonds Payable, com pactwith and at ruly com ehensive qui ck -$15,000; refer encea credit to Common Stock, $5,000; and a credit to Additional Paid-in Capital, $10,000. pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial

r. Item 8. under the additional indicates statements presentinformation ed in accordance withthat I AS.leased equipment was acquired on the last day of 2003. This is also a noncash financing activity and should be reported in a separate schedule. The T ab le of Con t en t s following entry was made to record the lease transaction: Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface

Leased asset

5,000

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds 5,000

Chapter 2

- Balance Sheet obligation

Chapter 3

-

Lease

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

of Recognized and Losses s. The cash and cashGains equivalents from operations ($15,000) is transferred to the Summary of Cash Chapter and 4 - Cash Cash Equivalents. Flow St at em ent Chapter 5

- Financial I nstr uments—Cash and Receiv ables all of the Chapter Since 6 - I nventor y changes in the noncash accounts have been accounted for and the balance in the

of Cash andtion, Cash Equivalents account of $17,000 is the amount of the year-to-year Chapter Summary 7 - Rev enue Recogni I ncluding Constr uction Contr act s in cash and cashEquipment equivalents, the formal statement may now be prepared. The following Chapter increase 8 - Property , Plant , and

SCF prepared under the direct method and includes the reconciliation of net income to Chapter classified 9 - I ntangi ble is Asset s net cash provided by operating activities. The T-account, Cash and Cash Equivalents—Operating

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter Activities, 10 is used thetypreparation of this reconciliation. The calculations for gross receipts and I nvestm ent Prin oper

payments needed for and the direct method are shown below. Chapter gross 11 - Business Combinations Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Johnson of CashTer Flows For the Year Ended December 31, 2003 Chapter 13 Company - Financial Statement I nstr uments—Longm Debt Chapter 14 - Leases Cashflows from operating activities Chapter 15 - I ncom e Taxes

Cash from customers Chapter 16 - Emreceived ploy ee Benefit s Chapter 17 - Stock holder s' Equit y

Dividends received

$102,000

(a)

3,000

Chapter 18 - Earnings Per Share

$105,000

Chapter 19 - I nterim Financial Repor ting

Cash provided by operating activities

Chapter 20 - Segm ent Repor ting

$ 75,000

(b)

Cash paid for expenses Chapter 23 - RelatedPart y Disclosures

9,000

(c)

Chapter 24 - Specialized I ndustr ies

Interest paid

1,000

(d)

Chapter 26 - Govpaid er nm ent Gr an ts Taxes

5,000

(e)

Chapter 21 - Accounting Changes and Cor rection of Er ror s Cash paid to suppliers Chapter 22 - For eign Curr ency

Chapter 25 - I nflation and Hyperinflation Appendix A - Di sclosure Checklist

(90,000)

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Cash paid for operating activities Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

$ 15,000

Net cash provided by operating activities

List of Tables

Cash flows from investing activities

List of Ex hibits and Ex am ples List of Sidebar Salesof equipment

Purchase of property, plant, and equipment

5,000 (8,000) (3,000)

Net cash used in investing activities Cash flows from financing activities Sale of common stock

$ 5,000

9,000

Increase in notes payable ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f DividendsWpaid

(9,000)

I n t er n at ion al Accou n t in g St an d ar ds

5,000

ISBN:0471227366

Barprovided r y J. Epstein and Abbas Ali Net by cash by financing activities

Mir za Net increase in cash and equivalents John Wi leycash & Sons © 2003 (952 pages)

$ 17,000

This com pactatand t ruly com ehensive qui ck - refer ence Cash and cash equivalents beginning of pr year pr esent s account ants with a guide to depend on for assistance inatthe prepar at ion and under standing of financial Cash and cash equivalents end of year statements present ed in accordance with I AS.

16,000 $33,000

T ab le of Con t en t s

Calculation of amounts for operating activities section of Johnson Co.'s statement of cash flows

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing a. ds Net sales + Beginning AR - Ending AR = Cash received from customers Standar Preface

$100,000 + $11,000 - $9,000 = $102,000

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

b. Cost of goodsSheet sold + Beginning AP - Ending AP + Ending inventory - Beginning inventory = Cash Chapter 2 - Balance paid to suppliers I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains -and Losses $60,000 + $12,000 $2,000 + $14,000 - $9,000 = $75,000

Chapter 3 Chapter 4

- Cash Flow St at em ent c. Operating expenses + Ending prepaid expenses Chapter 5 - Financial I nstr uments—Cash and Receiv ables - Beginning prepaid expenses -Depreciation

(andyother noncash operating expenses) = Cash paid for operating expenses Chapter expense 6 - I nventor Chapter 7

- Rev enue Recogni tion, uction Contr act s $12,000 + $10,000 - $I ncluding 13,000 =Constr $9,000

Chapter 8

- Property , Plant , and Equipment d. Interest expense + Beginning interest payable - Ending interest payable = Interest paid Chapter 9 - I ntangi ble Asset s Chapter 10 -

$2,000 - $3,000 = $ent 1,000 I$2,000 nterests+ in Financial Instr um s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

e. Income taxes + Beginning income taxes payable - Ending income taxes payable + Beginning Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements deferred taxes Ending deferred income taxes Taxes paid Currincome ent Liabilit ies, -Prov isions, Cont ingencies, and Ev=ents after t he

Chapter 12 -

Balance Date $9,000 +Sheet $1,000 - $2,000 + $6,000 - $9,000 = $5,000

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Reconciliation of net income to net cash provided by operating activities Chapter 14 - Leases Chapter 15 - I ncom e Taxes

Net income Chapter 16 - Em ploy ee Benefit s

$16,000

Chapter 17 - Stock holder Equit (providing) y Add (deduct) items nots'using cash: Chapter 18 - Earnings Per Share

Depreciation Chapter 19 - I nterim Financial Repor ting

8,000

Chapter 20 - Segm ent Repor ting

1,000

Amortization

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For ency Gain oneign saleCurr of equipment Chapter 23 - Related- Part y Disclosures

Increase in deferred taxes Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation

Equity in XYZ

(3,000) 3,000 (2,000)

Chapter 26 - Gov er nm ent Gr an ts Appendix Decrease A - Di sclosure Checklistreceivable in accounts

2,000

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

(5,000) in inventory Appendix Increase C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Decrease in prepaid expenses

3,000

List of Ex hibits and Ex ples Decrease inam accounts payable List of Sidebar s

(10,000)

List of Tables

Increase in interest payable

1,000

Increase in income taxes payable

1,000

Net cash provided by operating activities

$15,000

(The reconciliation above is required by US GAAP when the direct method is used, but there is no

equivalent requirement under the international accounting standards. The reconciliation above illustrates the presentation of the operating section of the cash flow statement when the indirect method is used. The remaining sections [i.e., financing sections] of the of cash flows are common to W ile y Ithe AS investing 2 0 03 : I n tand erp re t at ion an d Ap p licat io nstatement of both methods, hence have not been presented above.) I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Schedule of noncash Mir za transactions (to be reported in the footnotes ) John Wi ley & Sons © 2003 (952 pages)

Conversion of bonds intopact common stock $15,000 This com and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

Acquisition of leased equipment $ 5,000 assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Disclosure of accounting policy T ab le of Con t en t s

For purposes of the of cash flows, of theI nternational company considers all highly liquid debt instruments Wiley I AS 20 03—Int er statement pretation and Application Account ing purchased Standar ds with original maturities of three months or less to be cash equivalents. Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

- Balance Sheet Statement of Cash Flows for Consolidated Entities

Chapter 2 Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

of Recognized Gains and Losses A consolidated statement of cash flows must be presented when a complete set of consolidated financial Chapter 4 Cash Flow St at em ent statements is issued. The consolidated statement of cash flows would be the last statement to be prepared, Chapter 5 - Financial nstr uments—Cash Receiv ables consolidated statements (consolidated balance as the information to Iprepare it will comeand from the other Chapter 6 - I nventor y sheet, income statement, and statement of retained earnings). The preparation of these other consolidated Chapter 7 - is Rev enue Recogni tion, I ncluding Constr uction Contr act s 11. statements discussed in Chapter Chapter 8

- Property , Plant , and Equipment The preparation of ble a consolidated statement of cash flows involves the same analysis and procedures as Chapter 9 - I ntangi Asset s

the statement for an individual entity, with a few additional items. The direct or indirect method of

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - may be used. When the indirect method is used, the additional noncash transactions relating presentation I nvestm ent Pr oper ty

to the business combination, such as differential amortization, must also be reversed. Furthermore, all Chapter 11 - Business Combinations andthe Consolidat ed Fin ancial Statements transfers to affiliates must ies, be eliminated, they do not represent casht he inflow or outflow of the Curr ent Liabilit Prov isions, as Cont ingencies, and Ev entsa after Chapter 12 - entity. consolidated Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt

All unrealized intercompany profits should have been eliminated in preparation of the other statements; thus, no additional entry of this sort should be required. Any income allocated to noncontrolling parties Chapter 15 - I ncom e Taxes would need to be added back, as it would have been eliminated in computing consolidated net income but Chapter 16 - Em ploy ee Benefit s does not represent a true cash outflow. Finally, any dividend payments should be recorded as cash outflows Chapter 17 - Stock holder s' section. Equit y in the financing activities Chapter 14 - Leases

Chapter 18 - Earnings Per Share

In preparing operating activities section of the statement by the indirect method following a purchase Chapter 19 - I the nterim Financial Repor ting business the changes in assets and liabilities related to operations since acquisition should be Chapter 20 combination, - Segm ent Repor ting derived21 by -comparing consolidated Chapter Accountingthe Changes and Corbalance rection ofsheet Er roras s of the date of acquisition with the year-end consolidated balance sheet. Chapter 22 - For eign Curr ency These changes will be combined with those for the acquiring company up to

the date23of- acquisition asy adjustments Chapter Related- Part Disclosures to net income. The effects due to the acquisition of these assets and liabilities are reported under investing activities. Under the pooling-of-interests method the combination is treated as having occurred at the beginning of the year. Thus, the changes in assets and liabilities related Chapter 25 - I nflation and Hyperinflation to operations should be those derived by comparing the beginning-of-the-year balance sheet amounts on a Chapter 26 - Gov er nm ent Gr an ts consolidated basis with the end-of-the-year consolidated balance sheet amounts. Appendix A - Di sclosure Checklist [1]Alternatively, interest and dividends received may be classified as investing cash flows rather than as Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS operating cash flows because they are returns on investments. In this important regard, the IAS differs from Appendix C - Com parison of I which AS, USdoes GAAP, UK GAAP the corresponding US rule, notand permit this elective treatment, making the operating cash flow I ndex presentation mandatory. Chapter 24 - Specialized I ndustr ies

List of Tables [2]Alternatively, List of Ex hibits and IAS Ex7am permits ples interest paid to be classified as a financing cash flow, because this is the cost

of obtaining As with the foregoing, the availability of alternative treatments differs from the US List of Sidebarfinancing. s approach, which makes the operating cash flow presentation the only choice.

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Chapter 5: Financial Instruments—Cash and I n t er n at ion al Accou n t in g St an d ar ds ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Receivables Mir za John Wi ley & Sons © 2003 (952 pages) com pact and t ruly com pr ehensive qui ck - refer ence PerspectiveThisand Issues pr esent s account ants with a guide to depend on for

assistance prepar atof iona and underinstrument standing ofunder financial Cash and receivables meet in thethe definition financial international accounting statements present ed in accordance with I AS. standards. The accounting for financial instruments has received a great deal of attention by the IASC. The original intent, T ab le of Con t en t s to address all matters of recognition, measurement, derecognition, presentation, and disclosure in aersingle comprehensive standard, proved toAccount be unworkable (as was also the case Wiley I AS 20 03—Int pretation and Application of I nternational ing Standar under ds US GAAP), and thus the first standard, IAS 32, which became effective in 1996, addressed only the less complex issues of presentation and disclosure. The more intractable problems of recognition, Preface measurement, derecognition were dealt with byStandar IAS 39,dswhich became mandatory in 2001. IAS 39 Chapter 1 - I ntrand oduction to I nter national Accounting is viewed being only an interim standard, since it failed to comprehensively embrace fair value Chapter 2 as - Balance Sheet accounting for all financial assets and which promised to be ent the ultimate financial I ncom e Statement, Stat em liabilities, ent of Chan ges inwas Equit y, and Statem Chapter 3 reporting goal which theGains IASCand is committed. of to Recognized Losses Chapter 4

- Cash Flow St at em ent

IAS 39 established extensive new requirements for the recognition, derecognition, and measurement of - Financial I nstr uments—Cash and Receiv ables financial assets and liabilities, and furthermore addresses special hedging accounting procedures Chapter 6 - I nventor y which are to be applied in defined sets of circumstances. Hedge accounting, which is designed to Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s improve the matching of income statement recognition of related gains and losses, is necessitated by Chapter 8 - Property , Plant , and Equipment the use of a "mixed attribute" accounting model, whereby some assets and liabilities are reported at Chapter 9 - Ihistorical ntangi blecosts, Asset sand others are reported at fair values. In other words, hedge accounting (amortized) I nterests in Financial um ent s, Associat es, Joint Ventur and were simply carried at would be appropriate nor Instr necessary if all financial assets and es, liabilities Chapter 10 neither I nvestm ent Pr oper ty fair value. IASB had, at the time it issued IAS 39, signaled its intention to impose a full fair value Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements accounting model, but this now appears to be a longer-term project and is not expected to bear fruit Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he until 2004 Chapter 12 at - the earliest. Chapter 5

Balance Sheet Date

Chapter I nstrcertain uments—LongTerrequirements m Debt IAS 39 13 also- Financial superseded disclosure set forth by IAS 32. Chapter 14 - Leases

Because complexity Chapter 15of- the I ncom e Taxes of IAS 39, a number of implementation issues have arisen, and in response the IASC an IAS 39 Implementation Guidance Committee (IGC). Several hundred Chapter 16 has - Emconstituted ploy ee Benefit s

questions answers have been published, which constitute the best thinking on the various factChapter 17 and - Stock holder s' Equit y

specific matters addressed. These responses do not, however, represent official guidance of the IASB. The IASB has undertaken a major project to improve IAS 32 and IAS 39, which, among other things, Chapter 19 - I nterim Financial Repor ting would simplify the application of selected portions of these standards. It would also result in Chapter 20 - Segm ent Repor ting incorporating much of the supplementary guidance (that contained in SIC and the implementation aids Chapter 21 - Accounting Changes and Cor rection of Er ror s offered by the IAS 39 IGC) directly into the standards. The project would not alter the fundamental Chapter 22 - For eign Curr ency approach taken by these standards, however. Chapter 18 - Earnings Per Share

Chapter 23 - Related- Part y Disclosures Chapter In this chapter, 24 - Specialized the overall I ndustr requirements ies of IAS 32 and 39 will be set forth, while detailed application of

Chapter 10. In addition, this chapter will present detailed examples on a range of IAS 39 25 is set forth in and Chapter - I nflation Hyperinflation topics involving cash andGrreceivables (e.g., the accounting for factored receivables) that are derived Chapter 26 - Gov er nm ent an ts from the Amost widespread and venerable practices in these areas, even if not codified in the IAS. Some Appendix - Di sclosure Checklist of the more ofatem the IGC are also Appendix B - Igenerally llustrativ eapplicable Financial St ent s responses Pr esent ed Under I ASincorporated in this chapter, as well as inChapters 12, 17, and as appropriate. Appendix C - 10, Com parison of elsewhere, I AS, US GAAP, and UK GAAP I ndex

Sources of IAS

List of Tables List of Ex hibits and Ex am ples

IAS 32, 39

List of Sidebar s

SIC 17

ile yTerms I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f DefinitionsWof I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

A-F

ISBN:0471227366

This com pact and t ruly com pr ehensive qui ck - refer ence

Accounts receivable pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial Amounts due from customers for goods or services provided in the normal course of statements present ed in accordance with I AS. business operations. T ab le of Con t en t s

Aging the accounts Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Procedure for the computation of the adjustment for uncollectible accounts receivable Preface based on the length of time the end-of-period outstanding accounts have been Chapter 1

- I ntrunpaid. oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Amortized coste of financial Stat asset liability I ncom Statement, em or entfinancial of Chan ges in Equit y, and Statem ent Chapter 3 of Recognized and Losses The amountGains at which the asset or liability was measured at original recognition, minus Chapter 4 - Cash Flow Strepayments, at em ent principal plus or minus the cumulative amortization of any premium or Chapter 5 - Financial I nstrand uments—Cash and Receiv ables discount, minus any write-down for impairment or uncollectibility. Chapter 6

- I nventor y

Assignment Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s Chapter 8

Formal procedure for collateralization of borrowings through the use of accounts - Property , Plant , and Equipment

Chapter 9

receivable. - I ntangi ble AssetItsnormally does not involve debtor notification.

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 Available-for-sale financial I nvestm ent Pr oper tyassets Chapter 11 - Business ThoseCombinations financial assets andthat Consolidat are noted held Fin for ancial trading Statements or held to maturity, and are not Chapter 12 -

loans and receivables originated by the entity. Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Carrying amount (value) Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases For marketable equity securities, this is fair value (unless there is no available market value, in which case it is historical cost). Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s

Cash_1 Chapter 17 - Stock holder s' Equit y Coins Per andShare currency on hand and balances in checking accounts available for Chapter 18 - Earnings immediate withdrawal. Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

Cash equivalents_1

Chapter 21 - Accounting Changes and Cor rection of Er ror s

highly liquid investments that are readily convertible to known amounts of Chapter 22 - For Short-term, eign Curr ency cash. Examples include treasury bills, commercial paper, and money market funds.

Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies

Control

Chapter 25 - I nflation and Hyperinflation

The power to obtain the future economic benefits that flow from an asset.

Chapter 26 - Gov er nm ent Gr an ts Appendix - Di sclosure Checklist CreditArisk

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Possibility that a loss may occur from the failure of another party to perform according to the terms of a contract.

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List Current of Tablesassets

List of Ex hibits and Ex amthat plesare reasonably expected to be realized in cash or sold or consumed within Assets List of Sidebar s a year or within the normal operating cycle of the entity.

Derecognize Remove a financial asset or liability, or a portion thereof, from the entity's balance sheet. Derivative A financial instrument (1) whose value changes in response to changes in a specified

interest rate, security price, commodity price, foreign exchange rate, index of prices or rates, a credit rating or credit index, or similar variable (which is known as the underlying), investment W ile y I AS(2) 2 0that 03 : requires I n t erp reno t at initial ion annet d Ap p licat io n or o f little initial net investment relative to other types of contracts that have a similar response to changes in market I n t er n at ion al Accou n t in g St an d ar ds conditions, and (3) that is settled at a future date. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za

Effective interest Johnmethod Wi ley & Sons © 2003 (952 pages) The means of computing amortization effective This com pact and t ruly com pr ehensiveusing qui ckthe - refer ence interest rate of a financial pr esent s account ants with a guide to depend on rate for that exactly discounts the asset or liability. The effective interest rate is the assistance in theofprepar ion and under standing financialor the next market-based expected stream futureatcash payments throughofmaturity statements present ed in accordance with I AS. repricing date to the current net carrying amount of the asset or liability. The includes all fees and points paid or received between parties to the T ab le of Con t en tcomputation s contract. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Equity instrument Preface Chapter 1

- I ntrAny oduction contract to I nter thatnational evidences Accounting a residual Standar interest ds in the assets of an enterprise after

Chapter 2

deducting - Balance Sheetall its liabilities.

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 Factoring of Recognized Gains and Losses Chapter 5

- Cash Flow Stsale at emof ent Outright accounts receivable to a third-party financing entity. The sale may be - Financial uments—Cash with orI nstr without recourse. and Receiv ables

Chapter 6

- I nventor y

Chapter 8

Amount for ,which an asset could be exchanged, or a liability settled, between - Property , Plant and Equipment

Chapter 9

knowledgeable - I ntangi ble Asset s willing parties in an arm's-length transaction.

Chapter 4

Fair 7value Chapter - Rev enue Recogni tion, I ncluding Constr uction Contr act s

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - asset Financial I nvestm ent Pr oper ty

Any asset that is and Consolidat ed Fin ancial Statements Chapter 11 - Business Combinations Chapter 12 -

Curr ent1.Liabilit Cashies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial uments—Longm Debt cash or another financial asset from another 2. I nstr A contractual right Ter to receive enterprise Chapter 14 - Leases Chapter 15 - I ncom e Taxes

3. A contractual right to exchange financial instruments with another enterprise under conditions that are potentially favorable

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y

Chapter 18 - Earnings 4. Per An Share equity instrument of another enterprise Chapter 19 - I nterim Financial Repor ting

Financial assetentorRepor liability Chapter 20 - Segm tingheld for trading Chapter 21 - Accounting Changes and Cor of principally Er ror s One which is acquired orrection incurred for the purpose of generating a profit Chapter 22 - For from eign Curr ency fluctuations in price or dealer's margin. Regardless of why acquired, a short-term Chapter 23 - Relatedfinancial Part asset y Disclosures should be denoted as held-for-trading if there is a pattern of short-term

profit-taking by ies the entity. Derivative financial assets and liabilities are always deemed Chapter 24 - Specialized I ndustr held-for-trading unless designated and effective as hedging instruments. Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Financial instrument

Appendix A - Di sclosure Checklist

Any contract that St gives financial of one enterprise and a financial Appendix B - I llustrativ e Financial atemrise ent stoPrboth esentaed Under I asset AS liability orofequity instrument of another Appendix C - Com parison I AS, US GAAP, and UK GAAPenterprise. I ndex

Financial liability

List of Tables

Any liability that is a contractual obligation (1) to deliver cash or another financial asset to another enterprise, or (2) the obligation to exchange financial instruments List of Sidebar s with another enterprise under conditions that are potentially unfavorable. List of Ex hibits and Ex am ples

Firm commitment A binding agreement for the exchange of a specified quantity of resources at a specified price on a specified future date or dates.

H-R

Hedge effectiveness The degree to which offsetting changes in fair values or cash flows attributable to the hedged are 2achieved hedging instrument. W ilerisk y I AS 0 03 : I n t by erpthe re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Hedged item

by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za liability, firm commitment, or forecasted future transaction that (1) exposes the An asset, Wi ley & Sons © in 2003 pages) entityJohn to risk of changes fair(952 value or changes in future cash flows, and that (2) for hedge This com pact and t ruly com pr ehensive quihedged. ck - refer ence accounting purposes is designated as being pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Hedging

Designating one or more hedging instruments such that the change in fair value is an T ab le of Con t en t s in whole or in part, to the change in the fair value or the cash flows of a hedged offset, Wiley I AS 20 03—Int item. er pretation and Application of I nternational Account ing Standar ds Preface Hedging instrument Chapter 1 Chapter 2 Chapter 3

- IFor ntr oduction to I nter national Accounting Standar ds hedge accounting purposes, a designated derivative or (in limited instances) another - Balance Sheet financial asset or liability whose fair value or cash flows are expected to offset changes in I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent - the fair value or cash flows of a designated hedged item. Non-derivative financial assets or of Recognized Gains and Losses

liabilities may be designated as hedging instruments for hedge accounting purposes only if

Chapter 4 Chapter 5

- Cash St the at em entof changes in foreign currency exchange rates. they Flow hedge risk - Financial I nstr uments—Cash and Receiv ables

Chapter Held-to-maturity 6 - I nventor investments y Chapter 7 Chapter 8

- Rev enue Recogni ncluding Constr uction payments Contr act s and fixed maturities, that the entity Financial assetstion, with Ifixed or determinable - Property , Plant , and Equipment has the positive intent and ability to hold to maturity, except for loans and receivables

- Ioriginated ntangi ble Asset s entity. by the I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 Loans and receivables I nvestm ent Proriginated oper ty by the entity Chapter 9

Chapter 11 - Business andbyConsolidat ed Fin by ancial Statements FinancialCombinations assets created the enterprise providing money, goods, or services directly Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t heto be sold immediately or in to a debtor, other than those that are originated with the intent Chapter 12 Balance Sheet the short term,Date which should instead be classified as held for trading. Loans and Chapter 13 - Financial I nstr uments—Longm Debt receivables originated by theTer entity are not included in the held-to-maturity category, but Chapter 14 - Leases are classified separately. Chapter 15 - I ncom e Taxes

Market16 risk Chapter - Em ploy ee Benefit s Chapter 17 - Stock holderthat s' Equit y changes in market prices may make a financial instrument less Possibility future Chapter 18 - Earnings valuable.Per Share Chapter 19 - I nterim Financial Repor ting

Market20 value Chapter - Segm ent Repor ting

Amount obtainable a sale, or of payable Chapter 21 - Accounting Changes from and Cor rection Er ror s on acquisition, of a financial instrument in an active Chapter 22 - For eign market. Curr ency Chapter 23 - Related- Part y Disclosures

Marketable equity securities

Chapter 24 - Specialized I ndustr ies

representing actual ownership interest, or the rights to buy or sell such Chapter 25 - IInstruments nflation and Hyperinflation interests, that are actively traded or listed on a national securities exchange.

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

Monetary financial assets and financial liabilities

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Financial assets and financial liabilities to be received or paid in fixed or determinable amounts of money.

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

List Tables Netofrealizable value List of Ex hibits and Ex am ples

Amount of cash anticipated to be produced in the normal course of business from an

List of Sidebar asset, s net of any direct costs of the conversion into cash.

Operating cycle Average time between the acquisition of materials or services and the final cash realization from the sale of products or services. Other than temporary decline Downward movement in the value of a marketable equity security for which there are

known causes. The decline indicates the remote likelihood of a price recovery. Percentage-of-sales method

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Procedure computing for uncollectible accounts receivable based on the I n t er nfor at ion al Accouthe n t inadjustment g St an d ar ds historical relationship badAlidebts and gross credit sales. ISBN:0471227366 by Bar r y J. Epsteinbetween and Abbas Mir za John Wi ley & Sons © 2003 (952 pages)

Pledging

Process This of com using pact an andasset t ruly as com collateral pr ehensive for qui borrowings. ck - refer ence It generally refers to borrowings pr esent s account ants with a guide to depend on for secured by accounts receivable. assistance in the prepar at ion and under standing of financial

statements present ed in accordance with I AS. Realized gain (loss) T ab le of Con t en ts Difference between the cost or adjusted cost of a marketable security and the net selling Wiley I AS 20 03—Int price realized er pretation by the and seller, Application whichofisI nternational to be included Account in theing determination of net income in Standar ds the period of the sale. Preface

Recourse Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Chapter 2 Chapter 3

- Balance Right ofSheet the transferee (factor) of accounts receivable to seek recovery for an uncollectible from the transferor. oftenges limited to specific conditions. Iaccount ncom e Statement, Stat em entItofisChan in Equit y, and Statem ent of Recognized Gains and Losses

Repurchase agreement Chapter 4 - Cash Flow St at em ent Chapter 6

- Financial I nstr uments—Cash and Receiv ablesto another party in exchange for cash or other An agreement to transfer a financial asset - Iconsiderations, nventor y with a concurrent obligation to reacquire the asset at a future date for an

Chapter 7

amount totion, the cash or other consideration - Rev enue equal Recogni I ncluding Constr uction Contrplus act s interest.

Chapter 8

- Property , Plant , and Equipment

Chapter 5

Risk of9accounting Chapter - I ntangi bleloss Asset s Chapter 10 -

(1)Financial the possibility that a loss mayes, occur thees, failure IIncludes nterests in Instr um ent s, Associat Jointfrom Ventur and of another party to Iperform nvestm ent Pr oper tyto the terms of a contract (credit risk), (2) the possibility that future according

Chapter 11 - Business changesCombinations in market prices andmay Consolidat make ed a financial Fin ancialinstrument Statementsless valuable (market risk), and Chapter 12 -

(3) the of ies, theftProv or physical loss. Curr ent risk Liabilit isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

S-T

Chapter 14 - Leases Chapter 15 - I ncom e Taxes Securitization Chapter 16 - Em ploy ee Benefit s

The process whereby financial assets are transformed into securities.

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Short-term investments

Chapter 19 - ISecurities nterim Financial Repor ting acquired with excess cash, having ready marketability and or other assets Chapter 20 - Segm ent Repor ting intended by management to be liquidated, if necessary, within the current operating cycle. Chapter 21 - Accounting Changes and Cor rection of Er ror s

Temporary decline Chapter 22 - For eign Curr ency Chapter 23 - RelatedPartfluctuation y Disclosures Downward in the value of a marketable equity security that has no known cause Chapter 24 - Specialized I ndustr ies the decline is of a permanent nature. which suggests that Chapter 25 - I nflation and Hyperinflation

Transaction costs Chapter 26 - Gov er nm ent Gr an ts Incremental costs directly attributable to the acquisition or disposal of a financial asset or Appendix A - Di sclosure Checklist Appendix B - Iliability. llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS and 2 0 03 : Examples I n t erp re t at ion an d Ap p licat io n o f Concepts, Rules, I n t er n at ion al Accou n t in g St an d ar ds

Cash

by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

The only real guidance to the accounting for cash offered by the international standards is that found in This com pact and t ruly com pr ehensive qui ck - refer ence IAS 1. Common practice to define including currency pr esent sisaccount antscash withas a guide to depend on on for hand, as well as current and other accounts maintained with banks. cash is standing not available for immediate use is normally assistance in the However, prepar at ion andthat under of financial statements in accordance with I AS. IAS 1 requires that restricted cash not be given separate disclosure to present preventedmisleading implications. included in current assets, but the standard does not require presentation of a classified balance sheet, T ab le of Con t en t s nor does it mandate that restricted and unrestricted cash be shown in separate balance sheet captions Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing in the absence of the current/noncurrent distinction. Thus, it remains an open question whether the Standar ds mere footnote disclosure of restrictions would suffice under some circumstances. Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds Cash and cash equivalents which are not restricted as to use should always be included in current

Chapter - Balance Sheet assets,2if indeed a classified balance sheet is presented. When restrictions exist, IAS 1 suggests that I ncom e Statement, em ent of category; Chan ges insoEquit y, and Statem assets should be included in theStat noncurrent presumably cash ent subject to restrictions, even Chapter 3 of Recognized Gains and Losses

if set to expire within one year, should be excluded from current assets. It is the authors' belief that to Flow St at em ent be included- Cash as cash in the balance sheet, funds must be represented by actual coins and currency on Chapter 5 Financial I nstr uments—Cash andrestriction. Receiv ables hand or demand deposits available without Chapter 4 Chapter 6

- I nventor y It must 7furthermore management's intention that the cash for current purposes. For Chapter - Rev enuebe Recogni tion, I ncluding Constr uction Contrbe act available s

example, in a demand deposit account, being held for the retirement of long-term debts not Chapter 8 cash - Property , Plant , and Equipment maturing should Chapter 9 currently, - I ntangi ble Assetbe s excluded from current assets and shown as a noncurrent investment. This would apply onlyinif Financial management's was clear; otherwise it would I nterests Instr umintention ent s, Associat es, Joint Ventur es, and not be necessary to segregate from the general cash I nvestm ent Pr oper ty account the funds that presumably will be needed for a scheduled debt retirement, as those funds could beFin obtained from alternative sources, including new Chapter 11 - Business Combinations andpresumably Consolidat ed ancial Statements borrowings. Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 10 -

Chapter 12 -

Balance Sheet Date It has become more common to see the Ter caption "cash and cash equivalents" in the balance sheet. This Chapter 13 - Financial I nstr uments—Longm Debt

term includes other forms of near-cash as well as demand deposits and liquid, short-term securities. To justify inclusion, however, cash equivalents must be available upon demand.

Chapter 14 - Leases

Chapter 15 - I ncom e Taxes

Chapter 16 - Emcash ploy ee Benefit s as short-term, highly liquid investments, readily convertible into known IAS 7 defines equivalents Chapter 17of- cash Stock that holder s' subject Equit y to an insignificant risk of changes in value. The reasonable, albeit amounts are Chapter 18 limit - Earnings Share is placed on the maturity dates of any instruments acquired to be part of arbitrary, of threePer months Chapter 19 - I nterim(This Financial ting cash equivalents. is, notRepor coincidentally, the same limit applied by the US standard on cash flow Chapter statements, 20 - Segm SFASent 95,Repor which ting preceded the revision of IAS 7 by several years.) Chapter 21 - Accounting Changes and Cor rection of Er ror s

Compensating balances are cash amounts that are not immediately accessible by the owner. Pursuant to borrowing arrangements with lenders, an entity will often be required to maintain a minimum amount Chapter 23 - Related- Part y Disclosures of cash on deposit (the "compensating balance"). While stated to provide greater security for the loan, Chapter 24 - Specialized I ndustr ies the actual purpose of this balance is to increase the yield on the loan to the lender. Since most Chapter 25 - I nflation and Hyperinflation organizations will need to maintain a certain working balance in their cash accounts simply to handle Chapter 26 - Gov er nm ent Gr an ts routine transactions and to cushion against unforeseen fluctuations in the demand for cash, borrowers Appendix - Di sclosure Checklist often findA compensating balance arrangements not objectionable and may well have sufficient liquidity Appendix B I llustrativ Financial St atem ent sincurred. Pr esent ed Under I AS to maintain- these withe little hardship being They may even be viewed as comprising "rotating" Appendix C Com parison of I AS, US GAAP, and UK GAAP normal cash balances that are flowing into and out of the bank on a regular basis. Chapter 22 - For eign Curr ency

I ndex

Notwithstanding how these are viewed by the debtor, however, the fact is that compensating balances List of Tables areofnot unrestricted use, and penalties will result if they are used rather than being left List Ex available hibits and for Ex am ples

intact, as called List of Sidebar s for. Therefore, the portion of an entity's cash account that is a compensating balance

must be segregated and shown as a noncurrent asset if the related borrowings are noncurrent liabilities. If the borrowings are current liabilities, it is acceptable to show the compensating balance as a separately captioned current asset, but under no circumstances should these be included in the caption "cash." In some jurisdictions, certain cash deposits held by banks, such as savings accounts or corporate time deposits, are subject to terms and conditions that might prevent immediate withdrawals. While not always exercised, these rights permit a delay in honoring withdrawal requests for a stated period of

time, such as seven days or one month. These rules were instituted to discourage panic withdrawals and to give the depository institution adequate time to liquidate investments in an orderly fashion. Cash in savings accounts subject W ile y I AS to 2 0a03statutory : I n t erp notification re t at ion anrequirement d Ap p licat ioand n o fcash in certificates of deposit maturing during the current operating cycle or within one year may be included as current assets, but I n t er n at ion al Accou n t in g St an d ar ds as with compensating balances, should be separately captioned in the balance sheet to avoid the ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali misleading implication Mir za that these funds are available immediately upon demand. Typically, such items will be included inJohn the short-term Wi ley & Sons investments © 2003 (952 pages) caption, but these could be separately labeled as time deposits or restricted cashpact deposits. This com and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

Petty cash and other imprest accounts presented financial statements with other assistance in cash the prepar at ionare andusually under standing of in financial statements present ed in accordance withneed I AS. not be set forth in a separate caption cash accounts. Due to materiality considerations, these unless so desired. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Receivables

Preface

Receivables include trade are amounts Chapter 1 - I ntr oduction to receivables, I nter nationalwhich Accounting Standardue ds from customers for goods sold or services the normal course of business, as well as such other categories of receivables Chapter 2 performed - Balance in Sheet as notes receivable, trade acceptances, instruments, andStatem amounts I ncom e Statement, Stat em entthird-party of Chan ges in Equit y, and ent due from officers, stockholders, affiliated companies. of employees, Recognized or Gains and Losses

Chapter 3 Chapter 4

- Cash Flow St at em ent

Notes receivable are formalized obligations evidenced by written promissory notes. The latter - Financial I nstr uments—Cash and Receiv ables categories of receivables generally arise from cash advances but could develop from sales of Chapter 6 - I nventor y merchandise or the provision of services. The basic nature of amounts due from trade customers is Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s often different from that of balances receivable from related parties, such as employees or Chapter 8 - Property , Plant , and Equipment stockholders. Thus, the general practice is to insist that the various classes of receivables be identified Chapter 9 -either I ntangi separately onbletheAsset faces of the balance sheet or in the notes. Former standard IAS 5 did require I nterests in Financial Instrfrom um ent s, Associat es, Joint and parties, and other distinct that trade amounts due officers, amounts dueVentur from es, related Chapter 10 receivables, I nvestm ent Pr oper ty categories of receivables be separately presented in the balance sheet, but superseding standard IAS Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements 1 fails to address this. However, the authors believe that distinguishing among categories of Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he receivables Chapter 12 - is an important financial reporting objective, and that the formerly prescribed guidelines Balance Sheet Date should continue to be observed. Chapter 5

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter - Leasesrecognition and measurement of receivables. In addition, a number of international IAS 39 14 addresses Chapter 15 I ncomto e the Taxes standards -allude accounting for receivables. For example, IAS 18, Revenue Recognition, Chapter addresses 16 -the Emtiming ploy ee of Benefit revenue s recognition, which implicitly addresses the timing of recognition of the

resulting Chapter 17receivables. - Stock holder s' Equit y Chapter 18 - Earnings Per Share

If the gross amount of receivables includes unearned interest or finance charges, these should be deducted in arriving at the net amount to be presented in the balance sheet. Deductions should be Chapter 20 - Segm ent Repor ting taken for amounts estimated to be uncollectible and also for the estimated returns, allowances, and Chapter 21 - Accounting Changes and Cor rection of Er ror s other discounts to be taken by customers prior to or at the time of payment. In practice, the deductions Chapter 22 - For eign Curr ency that would be made for estimated returns, allowances, and trade discounts are usually deemed to be Chapter 23 - and Relatedy Disclosures immaterial, suchPart adjustments are rarely made. However, if it is known that sales are often recorded Chapter 24 Specialized I ndustr ies for merchandise that is shipped on approval and available data suggests that a sizable proportion of Chapter 25 - are I nflation and by Hyperinflation such sales returned the customers, these estimated future returns must be accrued. Similarly, Chapter 26 Gov er nm ent Gr an ts discounts and allowances should be recorded in the period of sale. material amounts of anticipated Chapter 19 - I nterim Financial Repor ting

Appendix A - Di sclosure Checklist

The foregoing comments apply where areedrecorded at the gross amount of the sale and Appendix B - I llustrativ e Financial St atemrevenues ent s Pr esent Under I AS subsequent sales discounts areUS recorded as debits (contra revenues). An alternative manner of Appendix C - Com parison of I AS, GAAP, and UK GAAP

recording revenue, which does away with any need to estimate future discounts, is to record the initial sale at the net amount; that is, at the amount that will be remitted if customers take advantage of the List of Tables available discount terms. If customers pay the gross amount later (they fail to take the discounts), this List of Ex hibits and Ex am ples additional revenue is recorded as income when it is remitted. The net method of recording sales, List of Sidebar s however, is rarely encountered in practice. I ndex

Bad Debts Expense In theory, accruals should be made for anticipated sales returns, sales allowances, and discounts that pertain to sales already consummated as of the date of the financial statements. This is usually not done, however, because of materiality considerations. On the other hand, the recording of anticipated uncollectible amounts is almost always necessary. The direct write-off method, in which a receivable is

charged off only when it is clear that it cannot be collected, is unsatisfactory since it results in a significant mismatching of revenues and expenses. Proper matching can be achieved only if bad debts expense is recorded period as theanrevenues toio which W ileiny the I ASsame 2 0 03fiscal : I n t erp re t at ion d Ap p licat n o f they are related. Since this expense cannot be known with certainty, an estimate must be made. I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

There are two popular Mir za estimation techniques. The percentage-of-sales method is principally oriented toward achieving John the best possible revenues and expenses. Aging the accounts is more Wi ley & Sons matching © 2003 (952of pages) oriented toward the presentation of the correct net realizable value of the trade receivables in the This com pact and t ruly com pr ehensive qui ck - refer ence balance sheet. Both methods are acceptable and widely employed. pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statementsmethod present ed of in accordance withbad I AS. debts. Percentage-of-sales estimating T ab le of Con t en t s

Historical data are analyzed to ascertain the relationship between credit sales and bad debts. The

Wiley I ASpercentage 20 03—Int eris pretation and Application of I nternational Account ing to arrive at the appropriate derived then applied to the current period's sales revenues Standar ds

debit to bad debts expense for the year. The offsetting credit is made to allowance for uncollectibles. When specific customer accounts are subsequently identified as uncollectible, they are written off Chapter 1 - I ntr oduction to I nter national Accounting Standar ds against this allowance. Preface

Chapter 2

- Balance Sheet

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Example Chapter 3 of - percentage-of-sales method of Recognized Gains and Losses Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Total credit sales for year:

$7,500,000

Bad debt fromyprior years or other data source: Chapter 6 -ratio I nventor

1.75% of sales

Chapter 7 - Rev enue Recogni tion, for I ncluding Constr uction Contr act s Computed year-end adjustment bad debts expense: $131,250 Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

($7,500,000 x .0175)

The entry required I nterestsisin Financial Instr um ent s, Associat es, Joint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty

131,250

Bad debts expense Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

131,250

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Allowance forDate uncollectibles Balance Sheet

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Note that foregoing entry assumes that no bad debts expense has yet been recognized with respect Chapter 15 the - I ncom e Taxes to the year's credit If some such expense has already been recognized, as a consequence of Chapter 16 - Em ploy sales. ee Benefit s interim accruals, for example, the final adjusting entry would be suitably reduced.

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

Aging method of estimating bad debts.

Chapter 19 - I nterim Financial Repor ting

Chapter 20 - Segm ent Repor tingcustomer receivables at the balance sheet date. These accounts are An analysis is prepared of the Chapter 21 - Accounting Changes andorCor rectionthey of Erhave ror s remained outstanding. Based on the entity's categorized by the number of days months Chapter 22 - For eign Curr encyavailable statistics, historical bad debts percentages are applied to each of past experience or on other Chapter 23 - RelatedPart y Disclosures these aggregate amounts, with larger percentages being applicable to the older accounts. The end

result of24this process is Iandustr computed total dollar amount that is the proper balance in the allowance for Chapter - Specialized ies uncollectibles at the balance sheet date. As a result of the difference between the previous years' Chapter 25 - I nflation and Hyperinflation adjustments to the allowance for uncollectibles and the actual write-offs made to the account, there will Chapter 26 - Gov er nm ent Gr an ts usually be balance this account. Thus, the adjustment needed will be an amount other than that Appendix A -aDi sclosureinChecklist computed the aging. Appendix B -byI llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Example of the aging method

I ndex

List of Tables

Under 30 days

List of Ex hibits and Ex am ples List of Sidebar s

Gross receivables Bad debt percentage Provision required

Age of accounts 30–90 days

Over 90 days

$1,100,000

$425,000

$360,000

0.5%

2.5%

15%

$5,500

$10,625

$54,000

Total

$70,125

The credit balance required in the allowance account is $70,125. Assuming that a debit balance of $58,250 already exists in the allowance account (from charge-offs during the year), the necessary entry

is W expense ile y I AS 2 0 03 : I n t erp128,375 re t at ion an d Ap p licat io n o f Bad debts I n t er n at ion al Accou n t in g St an d ar ds

by Bar r y J. Epstein and Abbas Ali Allowance for Mir za uncollectibles

128,375

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages)

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for Both of the estimation techniques shouldatproduce approximately thefinancial same result. This will be true assistance in the prepar ion and under standing of especially over the course ofpresent a number years. Nonetheless, statements ed inofaccordance with I AS. it must be recognized that these

adjustments are based on estimates and will never be totally accurate. When facts subsequently become available to indicate that the amount provided as an allowance for uncollectible accounts was Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing incorrect, an adjustment classified as a change in estimate is made. According to IAS 8, adjustments of Standar ds this nature are never considered fundamental errors subject to subsequent correction or restatement. Preface Only if an actual clerical or mechanical error occurred in the recording of allowance for uncollectibles Chapter 1 - I ntr oduction to I nter national Accounting Standar ds would correction as a fundamental error be warranted.

T ab le of Con t en t s

Chapter 2

- Balance Sheet

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Pledging, Assigning, and Factoring Receivables of Recognized Gains and Losses

Chapter 3 Chapter 4

- Cash Flow St at em ent

An organization can alter the timing of cash flows resulting from sales to its customers by using its - Financial I nstr uments—Cash and Receiv ables accounts receivable as collateral for borrowings or by selling the receivables outright. A wide variety of Chapter 6 - I nventor y arrangements can be structured by the borrower and lender, but the most common are pledging, Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s assignment, and factoring. The 1AS do not offer specific accounting guidance on these assorted types Chapter 8 - Property , Plant , and Equipment of arrangements, although the derecognition rules of IAS 39 generally apply to these as well as other Chapter 9 - I ntangi ble Asset s financial instruments of the reporting entity. Chapter 5

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Pledging of receivables.

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Pledging Chapter 12is- an agreement whereby accounts receivable are used as collateral for loans. Generally, the Balance Sheet lender has limited rights toDate inspect the borrower's records to achieve assurance that the receivables do Chapter 13 customers - Financial Iwhose nstr uments—LongTer m Debtpledged are not aware of this event, and their exist. The accounts have been Chapter 14 Leases payments are still remitted to the original obligee. The pledged accounts merely serve as security to the Chapter - I ncom e Taxes lender, 15 giving comfort that sufficient assets exist that will generate cash flows adequate in amount and Chapter 16repay - Em ploy Benefit s timing to the ee debt. However, the debt is paid by the borrower whether or not the pledged Chapter receivables 17 - Stock are collected holder s' and Equitwhether y or not the pattern of such collections matches the payments due

on the debt. Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting

The only accounting issue relating to pledging is that of adequate disclosure. The accounts receivable, which remain assets of the borrowing entity, continue to be shown as current assets in its financial Chapter 21 - Accounting Changes and Cor rection of Er ror s statements but must be identified as having been pledged. This identification can be accomplished Chapter 22 - For eign Curr ency either parenthetically or by footnote disclosures. Similarly, the related debt should be identified as Chapter 23 - Related- Part y Disclosures having been secured by the receivables. Chapter 20 - Segm ent Repor ting

Chapter 24 - Specialized I ndustr ies Chapter 25 of - I proper nflation disclosure and Hyperinflation Example for pledged receivables Chapter 26 - Gov er nm ent Gr an ts Appendix - Di sclosure Checklist CurrentAassets: Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

receivable, allowance forGAAP doubtful accounts of $600,000 Appendix Accounts C - Com parison of I AS,net USofGAAP, and UK I ndex

8,450,000

($3,500,000 of which has been pledged as collateral for bank loans)

ListCurrent of Tables liabilities: List of Ex hibits and Ex am ples

Banks loans payable (secured by pledged accounts receivable) List of Sidebar

2,700,000

A more common practice is to include the disclosure in the notes to the financial statements.

Assignment of receivables. The assignment of accounts receivable is a more formalized transfer of the asset to the lending institution. The lender will make an investigation of the specific receivables that are being proposed for

assignment and will approve those that are deemed to be worthy as collateral. Customers are not usually aware that their accounts have been assigned and they continue to forward their payments to the original obligee. Inysome assignment agreement W ile I AS 2cases, 0 03 : I the n t erp re t at ion an d Ap p licatrequires io n o f that collection proceeds be delivered to the lender immediately. The borrower is, however, the primary obligor and is required to I n t er n at ion al Accou n t in g St an d ar ds make timely payment on the debt whether or not the receivables are collected as anticipated. The ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali borrowing is with Mir recourse, za and the general credit of the borrower is pledged to the payment of the debt. John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence

Since the lender knows not allants thewith receivables willdepend be collected pr esentthat s account a guide to on for on a timely basis by the borrower, only a fraction of assistance the face value ofprepar the receivables will bestanding advanced as a loan to the borrower. Typically, in the at ion and under of financial statements present in accordance with I AS.history and collection experience of the this amount ranges from 70 to 90%,ed depending on the credit borrower. T ab le of Con t en t s Wiley I AS 20 03—Int erreceivable pretation and Application of I nternational Account Assigned accounts remain the assets of the borrower anding continue to be presented in its Standar ds

financial statements, with appropriate disclosure of the assignment similar to that illustrated for pledging. Prepaid finance charges would be debited to a prepaid expense account and amortized to Chapter 1 - I ntr oduction to I nter national Accounting Standar ds expense over the period to which the charges apply. Preface

Chapter 2

- Balance Sheet

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Factoring Chapter 3 - of receivables. of Recognized Gains and Losses Chapter 4 - Cash Flow St at em ent most significant in terms of accounting implications. Factoring This category of financing is the Chapter 5 - Financial I nstrthe uments—Cash and ables to a financing institution known as a factor. traditionally has involved outright sale of Receiv receivables

These arrangements Chapter 6 - I nventor y involved (1) notification to the customer to forward future payments to the factor, and (2)7the- transfer receivables without recourse. TheContr factor the risk of an inability to Chapter Rev enueofRecogni tion, I ncluding Constr uction actassumes s collect.8Thus, once a, factoring Chapter - Property Plant , andarrangement Equipment was completed, the entity had no further involvement with the accounts except a return of merchandise. Chapter 9 - I ntangi blefor Asset s I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - variety of factoring provides two financial services to the business: (1) it permits the entity The classical I nvestm ent Pr oper ty

to obtain cash earlier, and (2) the risk of bad debts is transferred to the factor. The factor is compensated for each of the services. Interest is charged based on the anticipated length of time Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12the - date the factoring is consummated and the expected collection date of the receivables between Balance Sheet Date sold, and is charged based on the Ter factor's anticipated bad debt losses. Chapter 13 a- fee Financial I nstr uments—Longm Debt Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 14 - Leases

Some companies continue to factor receivables as a means of transferring the risk of bad debts but

Chapter 15 cash - I ncom Taxes with the factor until the weighted-average due date of the receivables, leave the on edeposit Chapter 16 Em ploy ee Benefit s thereby avoiding interest payments. This arrangement is still referred to as factoring, since the Chapter 17 receivables - Stock holder s' Equit y sold. However, the borrowing entity does not receive cash but instead customer have been Chapter 18 - Earnings Per Share usually captioned "due from factor." In contrast to the original customer has created a new receivable, Chapter 19 - I this nterim FinancialisRepor ting receivables, receivable essentially riskless and will be presented in the balance sheet without a deduction estimated uncollectibles. Chapter 20 for - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

Merchandise returns will normally be the responsibility of the original vendor, who must then make the appropriate settlement with the factor. To protect against the possibility of merchandise returns that Chapter 23 - Related- Part y Disclosures diminish the total of receivables to be collected, very often a factoring arrangement will not advance the Chapter 24 - Specialized I ndustr ies full amount of the factored receivables (less any interest and factoring fee deductions). Rather, the Chapter 25 - I nflation and Hyperinflation factor will retain a certain fraction of the total proceeds relating to the portion of sales that are Chapter 26 - Gov er nm ent Gr an ts anticipated to be returned by customers. This sum is known as the factor's holdback. When Appendix A - Diis sclosure Checklist merchandise returned to the borrower, an entry is made offsetting the receivable from the factor. At Appendix B I llustrativ e Financial St atem entremaining s Pr esent edholdback Under I AS the end of the return privilege period, any will become due and payable to the Appendix C Com parison of I AS, US GAAP, and UK GAAP borrower. Chapter 22 - For eign Curr ency

I ndex

Examples List of Tablesof journal entries to be made by the borrower in a factoring situation List of hibits and Ex am 1. ExThirsty Corp. on ples July 1, 2002, enters into an agreement with Rich Company to sell a group of its List of Sidebar s receivables without recourse. A total face value of $200,000 accounts receivable (against which

a 5% allowance had been recorded) is involved. The factor will charge 20% interest computed on the (weighted) average time to maturity of the receivables of 36 days plus a 3% fee. A 5% holdback will also be retained. 2. Thirsty's customers return for credit $4,800 of merchandise. 3. The customer return privilege period expires and the remaining holdback is paid to the transferor.

The entries required are as follows: 1.

Cash

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f 180,055 I n t er n at ion al Accou n t in g St an d ar ds

10,000 ISBN:0471227366

byfor Barhad r y J.debts Epstein and Abbas Ali Allowance (200,000 x .05) Mir za Interest expense John Wi ley (or&prepaid) Sons © 2003 (200,000 (952 pages) x .20 x

3,945

36/365) This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

Factoringassistance fee (200,000 x .03) in the prepar at ion and under standing of6,000 financial statements present ed in accordance with I AS.

Factor's holdback receivable (200.000 x .05)

10,000

T ab le of Con t en t s

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Bad debts expense Standar ds Preface Chapter 1

10,000 200,000

Accounts receivable

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2 - Balance Sheet and factor's fee can be combined into a $9,945 charge to loss on sale of (Alternatively, the interest I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent receivables.) Chapter 3 of Recognized Gains and Losses Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

2.

Sales returns and allowances

4,800

4,800

Factor's holdback receivable

3. 9Cash Chapter - I ntangi ble Asset s

5,200

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and 5,200 Chapter 10 Factor's I nvestm entholdback Pr oper ty

receivable Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Transfers of Receivables with Recourse

Chapter 14 - Leases

Chapter 15years, - I ncom e Taxesvariant on factoring has become popular. This variation has been called In recent a newer Chapter 16 Em ploy ee Benefit s factoring with recourse, the terms of which suggest somewhat of a compromise between true factoring Chapter - Stock holder s' Equit y and the17 assignment of receivables. Accounting practice has varied considerably because of the hybrid Chapter 18 these - Earnings Per Share nature of transactions, and a strong argument can be made, in fact, that the factoring with Chapter 19is- nothing I nterim more Financial ting recourse thanRepor the assignment of receivables, and that the proper accounting (as discussed is to present Chapter 20 -above) Segm ent Repor ting this as a secured borrowing, not as a sale of the receivables. Under IAS

39, a financial asset (such as receivables) can be derecognized (i.e., treated as having been sold or Chapter 21 - Accounting Changes and Cor rection of Er ror s transferred entity) Chapter 22 - to Foranother eign Curr ency only when the enterprise loses control of the contractual rights that comprise asset. Part While "factoring with recourse" has previously been held to qualify for Chapter 23 the - Relatedy Disclosures derecognition by the transferor under the terms of IAS 39, pending guidance from the IGC will state that Chapter 24 - Specialized I ndustr ies this will25 no-longer be and permissible when there is no substantive risk assumed by the putative buyer of Chapter I nflation Hyperinflation the receivables.

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS 2 0 03 : Other I n t erp re tThan at ion an Cash d Ap p licat io n oReceivables f Financial Instruments and I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

AccountingMirfor za Financial Instruments: Evolution of the Current John Wi ley & Sons © 2003 (952 pages) Standards This com pact and t ruly com pr ehensive qui ck - refer ence

pr esent account ants with in a guide to depend on for Financial instruments, ass they have grown complexity and variation, have provided accounting assistance in the prepar at ion and under standing of financial standard-setting bodies worldwide with some of their greatest challenges. While even nonderivative statements present ed in accordance with I AS. instruments have become bewilderingly convoluted, the most formidable hurdles have been the need to T ab le of Con t en t s set reporting and disclosure rules for derivatives. The fact that many derivative-based comprehend and Wiley I AS 20 03—Int pretation and cash Application of or I nternational Account ing are trivial in comparison to the transactions do noterinvolve initial outlays, involve outlays which Standar ds which are placed at risk, has caused accountants to first question and ultimately largely amounts Preface abandon the venerable historical cost concept, which has been the basis for most transaction reporting. Chapter 1

- I ntr oduction to I nter national Accounting Standar ds Standard have long since dealt with such mundane instruments as corporate stocks and bonds, Chapter 2 setters - Balance Sheet

although even in this context the financial standards as thatent provided by nowI ncom e Statement, Stat em ent reporting of Chan ges in Equit y,(such and Statem Chapter 3 - IAS 25) have exhibited evolutionary development and, until IAS 39, offered perhaps superseded of Recognized Gains and Losses

excessive which hasentimpeded comparability among different entities' financial statements. Chapter 4 -flexibility, Cash Flow St at em Chapter 5

- Financial I nstr uments—Cash and Receiv ables

The more intractable problems, however, have arisen as a result of the explosive expansion in the use - I nventor y of financial derivatives. While some accounting guidance has previously been available pertaining to Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s the more prosaic of these derivatives, such as warrants and futures contracts, this has been minimal Chapter - Property , Plant , and Equipment and has8 not been sufficiently robust to address recognition, measurement, and disclosure issues, Chapter 9 I ntangi ble Asset s matters involving such exotic, yet now commonplace, instruments as interest rate swaps, options, and I nterests in Financial um ent currencies. s, Associat es, Joint Ventur es, and complex of interest rates Instr or foreign Derivatives found commonly in today's business Chapter 10hedges I nvestm ent Pr oper ty environment include option contracts, interest rate caps, interest rate floors, fixed-rate loan Chapter 11 - Business Combinations and letters Consolidat ed Finforward ancial Statements commitments, note issuance facilities, of credit, contracts, forward interest rate Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he agreements, Chapter 12 - interest rate collars, futures, swaps, mortgage-backed securities, interest-only obligations, Balance Sheet Date principal-only obligations, indexed debt. and other optional characteristics which are directly Chapter 13 - Financial I nstr uments—Long- Ter m Debt incorporated within receivables and payables such as convertible bond conversion or call terms Chapter 14 - derivatives). Leases (embedded Chapter 6

Chapter 15 - I ncom e Taxes

The basic purpose Chapter 16 business - Em ploy ee Benefit sof derivative financial instruments is to manage some category of risk, such as17stock price movements, Chapter - Stock holder s' Equit y interest rate variations, currency fluctuations and commodity price volatility. parties Per involved Chapter 18The - Earnings Sharetend to be brokerage firms, financial institutions, insurance companies, and large although any Chapter 19 corporations, - I nterim Financial Repor tingtwo or more entities of any size can hold or issue derivatives. The derivatives contracts that Chapter 20 - are Segm ent Repor tingmay be used for speculation, arbitrage, or to protect or hedge one or

more of the parties from adverse movement in the underlying base. Previous accounting rules (both the various national standards and IAS) had not coped well with these innovative instruments, but with the Chapter 22 - For eign Curr ency recent promulgation of IAS 39 (and the similar but not identical US standard, SFAS 133), there are now Chapter 23 - Related- Part y Disclosures clear-cut requirements that should prove to be universally suitable, whatever the future developments Chapter 24 - Specialized I ndustr ies from the "financial engineers." Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter 25 - I nflation and Hyperinflation

Chapter 26 -inGov er nm entIASC Gr anattempted ts Beginning 1989, the to develop a comprehensive standard that would address Appendix A - Di sclosure Checklist recognition, derecognition, measurement, presentation and disclosure issues pertaining to financial

instruments. One intention was to establish standards which would be applicable to both Appendix B - I llustrativ e Financial St atem ent s uniform Pr esent ed Under I AS financialCassets financial liabilities—a goalUK which has not to date been achieved. Two successive Appendix - Com and parison of I AS, US GAAP, and GAAP Exposure Drafts—E40, issued in 1991, and E48, issued in 1994—were widely debated and ultimately I ndex shown to be perhaps too ambitious, given the level of concern and opposition by certain constituent List of Tables

groups, and the progress made by other national standard-setting bodies in their similar efforts. List of Ex hibits andlimited Ex am ples Thus the IASC concluded, as did the US's FASB, that it would not be feasible to promulgate a single standard which would definitively resolve all the issues; nor could a new standard impose uniform requirements on both assets and liabilities, regardless of the logic of doing so.

List of Sidebar s

Accordingly, the IASC's efforts were bifurcated, with IAS 32 (issued in 1995) setting presentation and disclosure requirements, while the more troublesome matters of recognition, derecognition and measurement were subjected to further deliberation. The result of those extended efforts was the issuance of IAS 39 in 1998, which represented the final component of the IASC's "core set of standards" program. However, the necessary compromises made to meet the IOSCO-IASC deadline

have necessitated labeling this standard as only an "interim" one. Further work has been promised, intended to yield, within another few years, a successor to this standard—this time a truly comprehensive one. objective have a universal standard that would govern W ileThe y I AS 2 0 03 : remains I n t erp reto t atultimately ion an d Ap p licat io n o f accounting and reporting for all financial assets and liabilities, but this will remain a difficult goal to I n t er n at ion al Accou n t in g St an d ar ds achieve. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za

While IAS 32 setsJohn requirements for ©the classification Wi ley & Sons 2003 (952 pages) by issuers of financial instruments as either liabilities or equity, and for offsetting of financial assets and liabilities, as well as for the disclosure of This com pact and t ruly com pr ehensive qui ck - refer ence related information in the financial statements, the IASon 39for has tackled the somewhat more pr esent s account ants with a guide recent to depend substantive questions of recognition, derecognition, measurement, and hedge accounting. Fair value assistance in the prepar at ion and under standing of financial statements present in accordance with I AS. for financial assets, while historical reporting has been embraced, with aedfew important exceptions, cost-based reporting has been largely preserved for financial liabilities. Special hedge accounting has T ab le of Con t en t s been endorsed for those situations in which a strict set of criteria are met, with the objectives of Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing achieving Standar ds good "matching" and of ensuring that all derivative financial instruments receive formal financial statement recognition. Of course, had the IASC fully endorsed fair value accounting for all Preface financial assets and liabilities, special hedge accounting rules would have been unnecessary to Chapter 1 - I ntr oduction to I nter national Accounting Standar ds address measurement mismatches. Thus, if the IASC is successful in completing the next phase of the Chapter 2 - Balance Sheet financial instruments project, the final rules could well be significantly less cumbersome and convoluted I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter than are3 those embodied in IAS and 32 and 39. of Recognized Gains Losses Chapter 4

- Cash Flow St at em ent In the remainder of this chapter, the general requirements of IAS 32 and 39 will be addressed, and

Chapter 5 - will Financial I nstr uments—Cash Receivof ables illustrations be provided of the basic and concepts these standards. IAS 39 became effective in 2001, Chapter 6 I nventor y and its disclosure requirements superseded those in IAS 32. More detailed discussions of hedging and Chapter 7 - Rev enue Recogni tion, Iare ncluding Constr uction Contr act of derivative financial instruments incorporated in Chapter 10.s Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s Reporting and Disclosure of Financial Instruments under IAS 32 I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty

While some were disappointed that the standard issued in 1995 failed to comprehensively address the range of issues posed by financial assets and liabilities, IAS 32 was an important achievement for Curr ent ies, Prov isions, Cont ingencies, ents after t he several12 reasons. IASLiabilit 32 represented a commitment to a and strictEv"substance over form" approach. The Chapter Balance Sheet Date most signal accomplishment, however, was the requirement for separate presentation of disparate Chapter 13 - Financial I nstr uments—Long- Ter m Debt elements of compound financial instruments. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 14 - Leases

Chapter 15 -32, I ncom e Taxes Under IAS financial assets and liabilities are defined as follows: Chapter 16 Em ploy ee Benefit 1. Financial asset: Any sasset that is Chapter 17 - Stock holder s' Equit y

a. Cash

Chapter 18 - Earnings Per Share Chapter 19 b. - I nterim Financialright Repor A contractual toting receive cash or another financial asset from another enterprise Chapter 20 - Segm ent Repor ting

A contractual rightand to exchange Chapter 21 c. - Accounting Changes Cor rectionfinancial of Er ror sinstruments with another enterprise under conditions that are potentially favorable Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures

d. An equity instrument of another enterprise

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation liability: Any liability that is a contractual obligation 2. Financial Chapter 26 a. - Gov er nm ent Gr an ts To deliver cash or another financial asset to another enterprise; or Appendix A - Di sclosure Checklist

To exchange financial instruments with enterprise under conditions which are Appendix B b. - I llustrativ e Financial St atem ent s Pr esent ed another Under I AS potentially unfavorable. Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

According to the foregoing definition, financial instruments encompass a broad domain within the balance sheet. Included are both primary instruments, such as stocks and bonds, and derivative List of Ex hibits and Ex am ples instruments, such as options, forwards, and swaps. Physical assets, such as inventories or plant List of Sidebar s assets, and such long-lived intangible assets as patents and goodwill, are excluded from the definition; although control of such assets may create opportunities to generate future cash inflows, it does not grant to the holder a present right to receive cash or other financial assets. Similarly, liabilities that are not contractual in nature, such as income taxes payable (which are statutory, but not contractual, obligations), are not financial instruments either. List of Tables

Some contractual rights and obligations do not involve the transfer of financial assets. For example, a commitment to deliver commodities such as agricultural products or precious metals is not a financial instrument, although in practice these contracts are often used for hedging purposes by enterprises

and are often settled in cash (technically, the contracts are closed out by entering into offsetting transactions before their mandatory settlement dates). The fact that the contracts call for delivery of physical product, W unless closing ile y I canceled AS 2 0 03 : by I na t erp re t atmarket ion an dtransaction Ap p licat ioprior n o f to the maturity date, prevents these from being Iincluded within the definition of financial instruments. n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za Presentation Issues Addressed by IAS 32 John Wi ley & Sons © 2003 (952 pages) Thisliabilities com pact and t ruly com pr ehensive qui ck - refer ence Distinguishing from equity.

pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial

It sometimes happens that financial instruments of a with givenI AS. issuer may have attributes of both liabilities statements present ed in accordance and equity. From a financial reporting perspective, the central issue is whether to account for these T ab le of Con t en ts "compound" instruments in total as either liabilities or equity, or to disaggregate them into both Wiley I AS 20 03—Int er instruments. pretation and While Application of I nternational Accounthas ing long been discussed liabilities and equity the notion of disaggregation Standar ds (conceptually, of course, this issue should not have been difficult to resolve, since the time-honored Preface accounting tradition of substance over form should have provided clear guidance on this matter) it had Chapter 1 effectively - I ntr oduction I nter national Accounting Standar ds to resolve this derived from a variety of not been dealttowith prior to IAS 32. The reluctance Chapter 2 Balance Sheet causes, including the concern that a strict doctrine of substance over form could trigger serious legal complications. I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of Recognized Gains and Losses One example of the foregoing problem pertains to mandatorily redeemable preferred stock, which has Chapter 4 - Cash Flow St at em ent

historically considered part of an entity's equity base despite having important characteristics of Chapter 5 -been Financial I nstr uments—Cash and Receiv ables debt. Requiring that ysuch quasi equity issuances be recategorized as debt might have resulted in many Chapter 6 - I nventor entities7being deemed to be in violation of existing debt covenants Chapter - Rev enue Recogni tion, I ncluding Constr uction Contr act s and other contractual commitments. At a minimum, their balance sheets would imply a greater amount of leverage than previously, with - Property , Plant , and Equipment possibly negative implications for lenders. Concerns such as this caused the FASB to demur from Chapter 9 - I ntangi ble Asset s adopting a strict "substance over form" approach in its financial instruments standards, despite having I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10its - 1991 discussion memorandum that all debt-like instruments should be classified as debt, stated in I nvestm ent Pr oper ty not equity. The IASC, however, has resolutely dealt with this matter, to its great credit. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 8

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Under the Chapter 12 -provisions of IAS 32, the issuer of a financial instrument must classify it, or its component Balance Sheet Date

parts, if a compound instrument (defined and discussed below), in accordance with the substance of the respective contractual arrangement. Thus it is quite clear that under international accounting Chapter 14 - Leases standards, when the instrument gives rise to an obligation on the part of the issuer to deliver cash or Chapter - I ncomasset e Taxes another15financial or to exchange financial instruments on potentially unfavorable terms, it is to be Chapter 16 Em ploy ee Benefit classified as a liability, not assequity. Mandatorily redeemable preferred stock and preferred stock Chapter Stock holder s' Equit y that can be exercised by the holder, potentially requiring the issuer to issued 17 with- put options (options Chapter Share redeem18the- Earnings shares atPer agreed-upon prices) must, under this definition, be presented as liabilities. Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 19 - I nterim Financial Repor ting

The presentation of common stock subject to a buyout agreement with the entity's shareholders is less Chapter 20 - Segm ent Repor ting clear. Closely held enterprises structure agreements with each shareholder, which Chapter 21 - Accounting Changesfrequently and Cor rection of Erbuy-sell ror s

require that upon the occurrence of defined events, such as a shareholder's retirement or death, the entity will be required to redeem the former shareholder's ownership interest at a defined or Chapter 23 - Related- Part y Disclosures determinable price, such as fair or book value. The practical effect of buy-sell agreements is that all but Chapter 24 - Specialized I ndustr ies the final shareholder will eventually become creditors; the last to retire or die will be, by default, the Chapter 25 - I nflation and Hyperinflation residual owner of the business, since the entity will be unable to redeem that holder's shares unless a Chapter 26 - Gov er nm ent Gr an ts new investor enters the picture. IAS 32 does not address this type of situation explicitly, although Appendix A - Di sclosure Checklist circumstances of this sort are clearly alluded to by the standard, which notes that "if a financial Appendix B I llustrativ e St atem s Pr esent ed Under I AS instrument labeled as aFinancial share gives theent holder an option to require redemption upon the occurrence of Appendix C Com parison of I AS, US GAAP, and UK GAAP a future event that is highly likely to occur, classification as a financial liability on initial recognition I ndex reflects the substance of the instrument." Notwithstanding this guidance, enterprises can be expected List of Tables to be quite reluctant to reclassify the majority of stockholders' equity as debt in cases such as that List described of Ex hibits above. and Ex am ples Chapter 22 - For eign Curr ency

List of Sidebar s

IAS 32 goes beyond the formal terms of a financial instrument in seeking to determine whether it might be a liability. It also looks to the implied establishment of an obligation to redeem. For example, when preferred stock is issued that has a contractually increasing dividend requirement coupled with a call provision (giving the issuer the right, but not the obligation, to redeem the shares), the practical effect is that the issuer will be compelled, at some point, to call the shares for redemption. For this reason, the instrument is to be classified and accounted for as a liability upon its original issuance.

Classification of compound instruments.

IAS 32 also addresses the difficult question of how compound instruments are to be categorized. Consistent with the substance over form stance taken regarding simple debt or equity instruments, the IASC has mandated W ilethat y I AS at inception 2 0 03 : I n compound t erp re t at ion instruments an d Ap p licat be analyzed io n o f into their constituent I n t er n atfor ionaccordingly. al Accou n t in g St an d ar ds elements and accounted by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za may be comprised of one or more liabilities and/or equities, which need to be Compound instruments John Wi ley & Sons ©Since 2003 (952 evaluated as separate instruments. IASpages) 32 does not address recognition or measurement matters, no singleThis method of valuation prescribed. However, theence standard does suggest two possible com pact and t rulyiscom pr ehensive qui ck - refer pr esent s account ants with a guide to depend on for approaches. assistance in the prepar at ion and under standing of financial

1. Assign to the least easily measured components residual amounts, after assigning values to statements present ed in accordance withthe I AS. the more easily measured components of the compound instrument. T ab le of Con t en t s

Measure theervalues of and eachApplication component and then, if necessary, adjust each on a pro Wiley2.I AS 20 03—Int pretation of directly, I nternational Account ing Standar ds rata basis if the total amounts exceed the proceeds from the issuance of the compound Preface instrument. Chapter 1 - I ntr oduction to I nter national Accounting Standar ds

Example value allocation using the suggested value allocation approaches Chapter 2 of - Balance Sheet I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - the allocation of proceeds in a compound instrument situation, assume these facts. To illustrate of Recognized Gains and Losses Chapter 1. 5,000 4 - Cash convertible Flow St at bonds em entare sold January 1, 2003, due December 31, 2006. Chapter 5

- Financial I nstr uments—Cash and Receiv ables

2. Issuance price is par ($1,000 per bond); total issuance proceeds are $5,000,000. - I nventor y

Chapter 6

Chapter 7 - Revis enue tion,semiannually, I ncluding Constr Contr act sof 5%. 3. Interest dueRecogni in arrears, at uction a nominal rate Chapter 8 - Property , Plant , and Equipment

4. Each into 150 shares of common stock of the issuer. Chapter 9 - I bond ntangiis bleconvertible Asset s I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 issuance 5. At I nvestmdate, ent Prsimilar, oper ty nonconvertible, debt must yield 8%. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

6. At issuance date, common shares are trading at $5, and expected dividends over the next 4

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter years 12 - are $.20 per share per year. Balance Sheet Date Chapter 13 - relevant Financialrisk-free I nstr uments—LongTer m Debt 7. The rate on 4-year obligations is 4%. Chapter 14 - Leases

8. The variability of the stock price is indicated by a standard deviation of annual returns Chapter 15 - historical I ncom e Taxes Chapter of 16 25%. - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y

Residual value method. The residual value of the equity component of the compound instrument is computed as follows:

Chapter 18 - Earnings Per Share

Chapter 19 - I nterim Financial Repor ting

1. Use reference discount rate, 8%, to compute the market value of straight debt carrying a 5% Chapter 20 - the Segm ent Repor ting yield:

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

PV- of $5,000,000 due in 4 years Chapter 23 RelatedPart y Disclosures Chapter 24 Specialized I ndustr ies PV- of semiannual payments of $ 125,000 for 8 periods Chapter 25 - I nflation and Hyperinflation Chapter 26 - GovTotal er nm ent Gr an ts

$3,653,451 841,593 $4,495,044

Appendix A - Di sclosure Checklist

2. Compute the amount allocable to the conversion feature

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Total proceeds from issuance of compound instrument

$5,000,000

Value allocable to debt List of Tables

4,495,044

List of Ex hibits and value Ex am ples Residual allocable to equity component List of Sidebar s

$ 504,956

Alternative approach using options pricing model. This approach values the conversion feature directly, using the Black-Scholes option pricing model (or an equivalent technique). 1. Compute the standard deviation of proportionate changes in the fair value of the asset underlying the option multiplied by the square root of the time to expiration of the option

2.

2. Compute the ratio of the fair value of the asset underlying the option to the present value of the option exercise price a. Since W ile expected y I AS 2 0dividend 03 : I n t erp perreshare t at ion is an $.20 d Ap perp licat year,iothe n o present f value of this stream over I n t erwould n at ion(at al the Accou n t in g rate) St an d ds 4 years risk-free bear$.726. by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

za b. TheMir shares are trading at $5.00. John Wi ley & Sons © 2003 (952 pages)

c. Therefore, thecom underlying optioned asset, stripped of the stream of dividends This comthe pactvalue and tof ruly pr ehensive qui ck - refer ence thatpraesent holder of an unexercised option would forfeit, is s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial $5.00 - .726 = $4.274 per share. statements present ed in accordance with I AS. T ab le of Cond.t enThe t s implicit exercise price is $1,000 ÷ 150 shares = $6.667 per share. This must be Wiley I AS 20 03—Int er pretation and Application I nternational Account ing discounted at the risk-free rate,of5%, over 4 years, assuming that conversion takes place Standar ds at the expiration of the conversion period, as follows: Preface Chapter 1

4 = 6.667 $6.667 ÷ 1.05Standar - I ntr oduction to I nter national Accounting ds ÷ 1.2155 = $5.485

Chapter 2

- Balance Sheet

Chapter 4

- Cash Flow St at em ent

e. Therefore, the ratio of the underlying asset, $4.274, to the exercise price, $5.485, is I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - .7792. of Recognized Gains and Losses 3. Reference must now be made to a call option valuation table to assign a fair value to these two - Financial I nstr uments—Cash and Receiv ables computed amounts (the standard deviation of proportionate changes in the fair value of the Chapter asset 6 - I nventor y the option multiplied by the square root of the time to expiration of the option, underlying Chapter .50, 7 - and Rev enue Recogni tion, uction Contr act the s option to the present value of the the ratio of the fairI ncluding value of Constr the asset underlying Chapter option 8 - Property , Plant , and Equipment exercise price, .7792). For this example, assume that the table value is 13.44% (meaning Chapter that 9 - the I ntangi Asset s option is 13.44%) of the fair value of the underlying asset. fair ble value of the Chapter 5

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

4. The dollar I nvestm valuation ent Pr oper of the ty conversion option, then, is given as

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

.1344 x $4.274 per share x 150 shares/bond x 5,000 bonds = $430,819

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

5. Since the fair value of the straight debt (computed above, $4,495,044) plus the fair value of the options ($430,819) does not equal the proceeds, $5,000,000, both amounts should be adjusted Chapter 14 - Leases pro rata (resulting in recording the debt at $4,562,697 and the options at $437,303). Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 15 - I ncom e Taxes

Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Reporting interest, dividends,

losses and gains.

Chapter 18 - Earnings Per Share Chapter IAS 32 19 establishes - I nterim that Financial income Repor earned ting while holding financial instruments, and gains or losses from

disposing financial instruments should be reported in the income statement. Dividends paid on equity Chapter 20 of - Segm ent Repor ting instruments issued should be charged Chapter 21 - Accounting Changes and Cordirectly rection to of equity. Er ror s (These will be reported in the statement of changes balance sheet classification of the instrument drives the income statement Chapter 22in- equity.) For eign The Curr ency classification of the related interest or dividends. For example, if mandatorily redeemable preferred Chapter 23 - RelatedPart y Disclosures shares 24 have been categorized as debt on the issuer's balance sheet, dividend payments on those Chapter - Specialized I ndustr ies

shares must be reported in the income statement in the same manner as interest expense. Gains or losses on redemptions or refinancings of financial instruments classed as liabilities would be reported Chapter 26 - Gov er nm ent Gr an ts similarly in the income statement, while gains or losses on equity are credited or charged to equity Appendix A - Di sclosure Checklist directly. Chapter 25 - I nflation and Hyperinflation

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of assets I AS, US GAAP, and UK GAAP Offsetting financial and liabilities. I ndex

List Under of Tables the provisions of IAS 32, offsetting financial assets and liabilities is permitted only when the

both (1)Exhas the legally enforceable right to set off the recognized amounts, and (2) intends enterprise List of Ex hibits and am ples to settle the asset and liability on a net basis, or to realize the asset and settle the liability List of Sidebar s simultaneously. Of great significance is the fact that offsetting does not give rise to gain or loss recognition, which distinguishes it from the derecognition of an instrument (which was not addressed by IAS 32, but was later dealt with by IAS 39). Simultaneous settlement of a financial asset and a financial liability can be presumed only under defined circumstances. The most typical of such cases is when both instruments will be settled through a clearinghouse functioning for an organized exchange. Other situations may superficially appear to warrant the same ac-counting treatment but in fact do not give rise to legitimate offsetting. For example,

if the entity will exchange checks with a single counterparty for the settlement of both instruments, it becomes exposed to credit risk for a time, however brief, when it has paid the other party for the amount of the obligation hasreyet receive the counterparty's funds to settle the amount W ile y I owed AS 2 0to 03it: but I n t erp t atto ion an d Ap p licat io n o f it is owed by the counterparty. Offsetting would not be warranted in such a context. I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

The standard setsMirforth za a number of other circumstances in which offsetting would not be justified. These include John Wi ley & Sons © 2003 (952 pages) 1. When several used to synthesize the features of another type of This different com pact instruments and t ruly comare pr ehensive qui ck - refer ence esent stypically account ants with a guide to depend on for instrumentpr(which would involve a number of different counterparties, thus violating a assistance in the prepar at ion and under standing of financial basic principle of offsetting). statements present ed in accordance with I AS.

financial assets and financial liabilities arise from instruments having the same primary T ab le2.of When Con t en ts risk exposure (such as when both are forward contracts) but with different counterparties.

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

3. When financial assets are pledged as collateral for nonrecourse financial liabilities (as the intention is not typically to effect offsetting, but rather, to settle the obligation and gain release of Chapter 1 - I ntr oduction to I nter national Accounting Standar ds the collateral). Preface

Chapter 2

- Balance Sheet

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent 4. When Chapter 3 - financial assets are set aside in a trust for the purpose of discharging a financial of Recognized Gains have and Losses obligation but the assets not been formally accepted by the creditor (as when a sinking Chapter fund 4 - is Cash Flow St at em established, or ent when in-substance defeasance of debt is arranged). Chapter 5 - Financial I nstr uments—Cash and Receiv ables

5. When obligations incurred as a consequence of events giving rise to losses are expected to be Chapter 6 - I nventor y from a thirdtion, party by virtueConstr of anuction insurance Chapter recovered 7 - Rev enue Recogni I ncluding Contrclaim act s (again, different counterparties that the entity is exposed to credit risk, however slight). Chapter means 8 - Property , Plant , and Equipment Chapter 9

- I ntangi ble Asset s Even the existence of a master netting agreement does not automatically justify the offsetting of I nterests in Financial Instr umOnly ent s,if Associat Joint Ventur es, and (both the right to offset and financial and financial liabilities. both thees, stipulated conditions Chapter 10assets I nvestm ent Pr oper ty the intention to do so) are met can this accounting treatment be employed. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Currrequirements ent Liabilit ies, Provunder isions, Cont and Ev ents after t he Disclosure IASingencies, 32. Chapter 12 Balance Sheet Date Chapter 13 - Financial I nstr uments—LongDebt The disclosure requirements establishedTer bymIAS 32 have now been largely subsumed under those Chapter 14 Leases established by IAS 39. These are discussed later in this chapter. Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s

IAS 39: Financial Instruments—Recognition and Measurement

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

Evolution of the standard.

Chapter 19 - I nterim Financial Repor ting Chapter 20 IASC's - Segm ent Repor ting to develop a comprehensive standard on accounting and reporting for Since the original efforts financial failed to bear the ofprogram Chapter 21instruments - Accounting Changes andfruit Corand rection Er ror s had to be bifurcated (leading to the issuance

of IAS 32 1995), Chapter 22 in - For eign substantial Curr ency attention has been directed to the development of a standard on recognition measurement. The two major challenges were (1) to decide whether to impose uniform Chapter 23 - and RelatedPart y Disclosures measurement and reporting standards on financial assets and financial liabilities and (2) to determine Chapter 24 - Specialized I ndustr ies whether25special hedge accounting would be necessary and acceptable. The IASC's experience was Chapter - I nflation and Hyperinflation

similar 26 to that ofernational standard-setting bodies regarding both of these; strong opposition, coupled Chapter - Gov nm ent Gr an ts with some perceived practical difficulties, precluded the imposition of uniform asset and liability requirements, and special hedge accounting was therefore made a necessity.

Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Appendix C - failure Com parison of I AS,at US GAAP, UK GAAP The IASC's to develop, that time,and a comprehensive and uniform set of standards for all I ndex financial assets and liabilities must not be judged too harshly, since it mirrors the difficulties of the major List of Tables national standard-setting bodies, none of which have been able to traverse this complex issue. In List of Ex hibits andfocus Ex amhas plesnecessarily been on meeting the minimum threshold for completion of the addition, IASC's "core set of standards" so that IOSCO consideration of endorsing the IAS for cross-border securities List of Sidebar s

registrations could go forward. (As discussed in Chapter 1, this was successfully accomplished and IOSCO endorsement, albeit with some qualifications, was given.) The IASC's attention will now turn to other matters, including the application of fair value accounting to all financial assets and liabilities. The major changes wrought by IAS 39 are to greatly expand the use of fair values for measuring and reporting financial instruments (replacing most of the provisions of IAS 25, which permitted a wide range of measurement options for various categories of investments), and to address the important issue of financial derivatives, requiring that these be formally recognized and measured at fair value in

most cases. IAS 39 is very similar to the US standard, SFAS 133, although without the vast and detailed guidance offered by that standard, as is typical of US financial reporting rules. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Financial instrument recognition measurement. I n t er n at ion al Accou n t in g and St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

With the issuanceMir ofzaIAS 39, the IASC produced the final and, some would argue, most important element in the core setWiofley standards John & Sons © project, 2003 (952making pages) possible endorsement of the international standards for useThis in cross-border securities registrations. IAS 39 is not a perfect document and was com pact and t ruly com pr ehensive qui ck - refer ence agreed to only after the IASC staff had first proposed the incorporation of (for interim purposes only, in pr esent s account ants with a guide to depend on for order to completeassistance the core set of standards within the self-imposed in the prepar at ionproject and under standing of financial time deadline) the full body statements present edinto in accordance with Iapparently AS. of US GAAP on financial instruments IAS. That effort offended the political sensibilities of non-US standard setters and was quickly abandoned, leaving it to the IASC to produce IAS 39 late in T ab le of Con t en t s 1998, a few months after the nominal deadline for the core set of standards had passed. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Both the US and international standard setters are clearly gravitating toward a pure fair value model for all financial instruments, perhaps with changes in value included in current period earnings in all cases. Chapter 1 - I ntr oduction to I nter national Accounting Standar ds For various reasons, this solution has not been universally greeted with enthusiasm, and as a Chapter 2 - Balance Sheet consequence both the US standard, SFAS 133, and the international standard, IAS 39, have endorsed I ncom e Statement, Stat em ent of Chan in Equit y, and Statem ent for hedging situations, mixed attribute models. This has necessitated theges endorsement of accounting Chapter 3 of Recognized Gains and Losses which among other things requires that hedging be defined and that measures be established to Chapter 4 - Cash Flow St at em ent evaluate the effectiveness of those hedges, in order to determine whether the special accounting is Chapter 5 -inFinancial I nstr uments—Cash and Receiv ablesreporting model for financial assets and warranted any given circumstance. A pure fair value Chapter 6 I nventor y liabilities would have obviated the need for these specially designed treatments. Preface

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s It now appears likely, that development of a pure fair value model for financial assets and Chapter 8 - Property PlantIASB's , and Equipment

liabilities be a protracted Chapter 9 will - I ntangi ble Asset s exercise. It is not expected that there will be substantive attention given to this until 2004, at the in earliest. I nterests Financial Instr um ent s, Associat es, Joint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty

Applicability. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter IAS 39 12 is applicable to all financial instruments except interests in subsidiaries, associates and joint Balance Sheet Date

ventures are accounted for in accordance with IAS 27, 28, and 31, respectively; rights and Chapter 13that - Financial I nstr uments—LongTer m Debt

obligations under operating leases, to which IAS 17 applies; most rights and obligations under insurance contracts; employers' assets and liabilities under employee benefit plans and employee Chapter 15 - I ncom e Taxes equity compensation plans, to which IAS 19 applies; and equity instruments issued by the reporting Chapter 16 - Em ploy ee Benefit s enterprise. Chapter 14 - Leases

Chapter 17 - Stock holder s' Equit y

Chapter - Earnings Per to Share IAS 39 18 is not applicable financial guarantee contracts, such as letters of credit, when these call for Chapter 19 that - I nterim ting only if the primary debtor fails to perform. Accounting for these payments wouldFinancial have to Repor be made Chapter types of20arrangements - Segm ent Repor is specified ting by IAS 37. On the other hand, if the guarantor will have to make

payments a defined change in Cor credit rating, commodity prices, interest rates, security price, Chapter 21 when - Accounting Changes and rection of Er ror s foreign 22 exchange rate, index of rates or prices, or other underlying indicator occurs, then the Chapter - For eign Curran ency provisions IAS 39Part do apply. Also, if a guarantee arises from an event leading to the derecognition of Chapter 23 -ofRelatedy Disclosures a financial guarantee must be recognized as set forth in this standard. Chapter 24 -instrument, Specializedthe I ndustr ies Chapter 25 - I nflation and Hyperinflation

IAS 39 does not apply to contingent consideration arrangements pursuant to a business combination. Also, the standard does not apply to contracts that require payments dependent upon climatic, Appendix A - or Di sclosure Checklist geological, other physical factors or events, although if other types of derivatives are embedded Appendix B I llustrativ e Financial St atem ent s for Pr esent ed Undermeasurement, I AS therein, IAS 39 would set the requirements recognition, disclosure, and Appendix C Com parison of I AS, US GAAP, and UK GAAP derecognition. Chapter 26 - Gov er nm ent Gr an ts

I ndex

IASof39 must be applied to commodity-based contracts that give either party the right to settle by cash List Tables or some otherand financial instrument, with the exception of commodity contracts that were entered into List of Ex hibits Ex am ples andofcontinue List Sidebar sto meet the enterprise's expected purchase, sale, or usage requirements and were

designated for that purpose at their inception. With regard to embedded derivatives, if their economic characteristics and risks are not closely related to the economic characteristics and risks of the host contract, and if a separate instrument with the same terms as the embedded derivative would meet the definition of a derivative, they are to be separated from the host contract and accounted for as a derivative in accordance with the standard.

Recognition and derecognition criteria.

Criteria for both recognition and derecognition are set forth in IAS 39. An entity is now required to recognize a financial asset or financial liability on its balance sheet when it becomes a party to the contractual provisions the 2instrument. Itre will financial W ile yofI AS 0 03 : I n t erp t atderecognize ion an d Ap pthe licat io n o f asset or a portion of the financial asset when it realizes the rights to benefits specified in the contract, the rights expire, or the I n t er n at ion al Accou n t in g St an d ar ds enterprise surrenders or otherwise loses control of the contractual rights that comprise the financial ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mirofzathe financial asset). asset (or a portion John Wi ley & Sons © 2003 (952 pages)

The question of when derecognition is warranted is more complex than it first appears, which is one This com pact and t ruly com pr ehensive qui ck - refer ence reason why a significant ofants the with IASC's IAS 39 Implementation Guidance Committee's (IGC) pr esent sportion account a guide to depend on for output to date hasassistance dealt withinthese matters. has stated that the factors and examples set forth the prepar at ionThe andIGC under standing of financial statements present ed in accordance with I AS. in IAS 39 should not be viewed in isolation, and the transfer of control can potentially be demonstrated in other ways, as well. It cites the following factors that suggest that an enterprise loses control of the T ab le of Con t en t s contractual rights that comprise financial assets when a portion of those assets are sold and the parties Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing to the transaction have rights to the cash flows of the underlying loans and/or obligations relating to the Standar ds portion of the financial assets sold: Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds The transaction can be distinguished from a collateralized borrowing because the transferor has no

Chapter 2 right - Balance Sheet the rights to and benefits from the asset or the portion of the asset that is legal to reacquire I ncom Statement, Stat em ent of is Chan gesevidenced in Equit y, by andlegally Statem ent the3subject of ethe transfer. This inability often documenting the transfer as a Chapter of Recognized Gains and Losses

sale. Although IAS 39 does not require that a transfer must be documented in any given manner, - Cash Flow St at em ent legal documentation supporting a transfer provides the basis for determining that the transferor has Chapter 5 - Financial I nstr uments—Cash Receiv ables from the transferred asset. To the contrary, an no legal right to re-acquire the rightsand to and benefits Chapter 6 I nventor y explicit contract or agreement to repurchase the transferred assets would often preclude Chapter 7 - Rev enue Recogni derecognition under IAStion, 39. I ncluding Constr uction Contr act s Chapter 4

Chapter 8

- Property , Plant , and Equipment The9 transferor is prohibited by the terms of the transfer contract or documents from selling or Chapter - I ntangi ble Asset s

pledgingI nterests the underlying financial are the of thees,transfer; thus, the transferor in Financial Instrassets um ent s,that Associat es,subject Joint Ventur and relinquishes control ofoper such I nvestm ent Pr ty assets. This is of particular importance in the situation in which there is a transfer of a portion of financial where neither transferor nor the transferee generally Chapter 11 - Business Combinations andassets, Consolidat ed Fin ancialthe Statements would have the right to sell the underlying assets because they are jointly Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he owned. On the other Chapter 12 hand, it Balance would be difficult to conclude that the transferor surrendered the rights that comprise the Sheet Date financial asset if it retained the right Ter to sell or pledge assets that are purported to be the subject of Chapter 13 - Financial I nstr uments—Longm Debt the14 transfer. Chapter - Leases Chapter 10 -

Chapter 15 - I ncom e Taxes

Although the transferee is unable to sell or pledge the underlying financial assets that are the subject of the transfer, it has the ability to sell or pledge its interest in the transferred financial Chapter 17 - Stock holder s' Equit y assets. This is most pertinent in the situation in which the rights to and benefits from a portion of Chapter 18 - Earnings Per Share financial assets are sold. Chapter 16 - Em ploy ee Benefit s

Chapter 19 - I nterim Financial Repor ting Chapter If a20 transferor - Segm ent retains Reporcustody ting of loans (or similar financial assets) that are the subject of a partial

sale it providesChanges ongoingand servicing, the of transferor Chapter 21and - Accounting Cor rection Er ror s is obligated to remit the cash flows it collects on 22 behalf theCurr investors Chapter - Forof eign ency on a timely basis. Thus, the transferor is not entitled to reinvest such cash for itsPart benefit, except (typically) to provide a return from short-term, high-quality Chapter 23 flows - Relatedy Disclosures investments made from the Chapter 24 - Specialized I ndustr iescollection date to the date of remittance to the investors. To some, this ability service and financial assets that are the subject of a partial sale may suggest that the Chapter 25 -toI nflation Hyperinflation

transferor has not surrendered control over the contractual rights that comprise the financial assets as required by IAS 39. However, a transferor that provides servicing acts only as an agent for the Appendix A - Di sclosure Checklist investors in the beneficial interests that have been transferred if, under the servicing agreement, Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS the transferor does not have use of or benefit from the cash it collects on behalf of the investors Appendix C - Com parison of I AS, US GAAP, and UK GAAP and is required to remit to them on a timely basis, as specified in the servicing agreement, the cash I ndex it collects representing their beneficial interests in the financial assets. Chapter 26 - Gov er nm ent Gr an ts

List of Tables List TheofImplementation Ex hibits and Ex am Guidance ples Committee has also noted the following factors limit the extent to which

theoftransferred List Sidebar s portion of the financial assets qualify for derecognition: If the transferor has retained a call option on all or a portion of the transferred assets, and if the assets are not readily obtainable in the market, or the stated reacquisition price is not the fair value at the time of reacquisition, then derecognition to the full extent of the repurchase provision is prohibited. Derecognition is also prohibited if the assets are not readily obtainable in the market and the transferee holds an unconditional put option or has entered into a "total return swap" with the transferor on all or a portion of the transferred assets. Similarly, derecognition is prohibited to the extent the transferor and transferee have entered into a forward repurchase agreement on

terms that provide the transferee with a lender's return on the assets received in exchange for the transferred assets. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

If the transferor provides a guarantee to the transferees for both credit risk and interest rate risk, I n t er n at ion al Accou n t in g St an d ar ds and there are no other substantive risks, the portion of theISBN:0471227366 transferred financial assets that would by Bar r y J. Epstein and Abbas Ali otherwise qualify Mir zafor derecognition is reduced to the extent that both of these risks are not transferred. The is the© lower of pages) (1) the maximum amount of the credit guarantee or (2) Johnreduction Wi ley & Sons 2003 (952 the percentage of the transferred financial asset that is guaranteed by the transferor against This com pact and t ruly com pr ehensive qui ck - refer ence interest rate risk. IASC's IAS 39 Implementation (IGC) offers the example of pr esent s account ants with a guide to Guidance depend onCommittee for a transfer of $800,000 and retention $200,000 (value) of an asset of $1,000,000 total assistance (value) in the prepar at ion andofunder standing of financial ed in accordance with I AS. value, and a statements pledge andpresent subordination of the $200,000 retained in a credit guarantee to the transferee. In such a case, the transferred $800,000 is derecognized. On the other hand, if the T ab le of Con t en t s transferor pledges and subordinates the $200,000 retained as a guarantee for both credit risk and Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing interest rate risk and there are no other substantive risks, only $600,000 ($800,000 - $200,000) is Standar ds to be derecognized. This is referred to as a "total return swap." Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds The IGC further notes that if the underlying financial assets cannot be sold by either party, then the

Chapter 2 interests - Balance are Sheet beneficial not considered readily obtainable for the purposes of applying IAS 39. Even Ithe ncom e Statement, Stat em ent have of Chan in Equit y, or and Statem ent respective beneficial though both transferor and transferee theges right to sell pledge their Chapter 3 of Recognized Gains and Losses

interests in the underlying financial assets, if such beneficial interests are not readily obtainable in the - Cash Flow St at em ent market, they would also be considered not readily obtainable for purposes of the guidance in IAS 39. In Chapter 5 - Financial I nstr uments—Cash ables these circumstances, a transferee wouldand not Receiv be able to sell its beneficial interest if it were subject to a Chapter 6 I nventor y repurchase arrangement because the beneficial interest would not necessarily be available to be Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s repurchased to satisfy the repurchase arrangement. Chapter 4

Chapter 8

- Property , Plant , and Equipment If an entity a Asset part of Chapter 9 -transfers I ntangi ble s a financial asset to others while retaining a portion of the asset or

assumes a related liability, the carrying of the es, financial asset should I nterests in Financial Instr umamount ent s, Associat Joint Ventur es, and be allocated between the part retainedI nvestm and theent part soldtyor amount of liability retained, based on their relative fair values on the Pr oper date of 11 sale. Gain or loss should beand recognized based onStatements the proceeds for the portion sold. If the Chapter - Business Combinations Consolidat ed Finonly ancial fair value of Curr the part of the asset retained cannot be measured reliably, ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents afterthen t he a "cost recovery" approach Chapter 12 Balance Sheet Date should be used to measure profit (that is, allocate all the cost to the portion sold). If a related liability is retained13and cannot be valued, no gain should be recognized on the transfer, and the liability should be Chapter - Financial I nstr uments—LongTer m Debt measured the difference between the proceeds and the carrying amount of the part of the financial Chapter 14 -atLeases asset that sold, with a loss recognized equal to the difference between the proceeds and the sum Chapter 15 was - I ncom e Taxes of the amount for sthe liability and the previous carrying amount of the financial asset Chapter 16 - Emrecognized ploy ee Benefit transferred. Chapter 17 - Stock holder s' Equit y Chapter 10 -

Chapter 18 - Earnings Per Share

The IGC has, in addition to the foregoing broad observations, offered a number of highly specific

Chapter 19 -toI nterim Repor tingto it, regarding derecognition of financial instruments held as responses factualFinancial situations posed Chapter - Segm Repor ting assets.20 The more ent generally applicable of these are summarized in the following paragraphs. Chapter 21 - Accounting Changes and Cor rection of Er ror s

Transfers to special purpose entities (SPE). In some cases, a transferor will transfer financial Chapter 22 - For eign Curr ency assets a securitization transaction to a special purpose entity that it will be required to Chapter 23 - in RelatedPart y Disclosures consolidate and theI ndustr SPE later Chapter 24 - Specialized ies transfers a portion of those financial assets to third-party investors. The25IGC states that evaluation of whether a transfer of a portion of financial assets meets the Chapter - I nflation and the Hyperinflation

derecognition criteria under IAS 39 generally will not differ if the transfer is directly to investors or through an SPE that obtains the financial assets and then transfers a portion of those financial Appendix A - Di sclosure Checklist assets to third-party investors. If a transfer by a special purpose entity to a third-party investor Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS meets the conditions specified for derecognition in IAS 39, the transfer would be accounted for as Appendix C - Com parison of I AS, US GAAP, and UK GAAP a sale by the special purpose entity and those derecognized assets or portions thereof would not I ndex be brought back on the balance sheet in the consolidated financial statements of the enterprise. Chapter 26 - Gov er nm ent Gr an ts

List of Tables List ofDispositions Ex hibits and Ex with am ples full recourse for transferee. If an entity sells receivables and provides a List ofguarantee Sidebar s to the buyer to pay for any credit losses that may be incurred on the receivables as a

result of the failure of the debtor to pay when due, while all other substantive benefits and risks (e.g., interest rate risk) of the receivables have been transferred to the buyer, the transaction qualifies as a transfer under IAS 39. In this scenario, the transferor has lost control over the receivables because the transferee has the ability to obtain the benefits of the transferred assets, and the risk retained by the transferor is limited to credit risk in the case of default. Under IAS 39, the guarantee is treated as a separate financial instrument to be recognized as a financial liability by the transferor.

Right of first refusal. The IGC has endorsed derecognition if the transferor retains a right of first refusal that permits the transferor to purchase the transferred assets at their fair value at the date of reacquisition should transferee decide toan sell them. It is appropriate since the W ile y I ASthe 2 0 03 : I n t erp re t at ion d Ap p licat iodeemed n of reacquisitionI price is the fair value at the time of the reacquisition. n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Put option given Mir za to transferee. As noted earlier in this chapter, "factoring with recourse" is a popular formJohn of receivables financing. Under the right of recourse, the transferor is obligated to Wi ley & Sons © 2003 (952 pages) compensate This the transferee for the failure of the underlying debtors to pay when due. In addition, com pact and t ruly com pr ehensive qui ck - refer ence the recourse pr provision often entitles the transferee to sellon theforreceivables back to the transferor at esent s account ants with a guide to depend a fixed price assistance in the event instanding interest rates or credit ratings of the underlying in of theunfavorable prepar at ionchanges and under of financial statements ed in accordance withas I AS. debtors. In many cases, present such financing is promoted being a sale of the customers' accounts; however, the IGC has held that in such cases derecognition will not generally be warranted. T ab le of Con t en t s Wiley Instead, I AS 20 03—Int er pretationshould and Application of I nternational Account ing borrowing by the transferor, this transaction be accounted for as a collateralized Standar ds

since it does not qualify for derecognition. While the transferor has lost control, since the transferee has the ability to obtain the benefits of the transferred asset and is free to sell or pledge Chapter 1 - I ntr oduction to I nter national Accounting Standar ds approximately the full fair value of the transferred asset, the transferor has granted the transferee a Chapter - Balance put2option on theSheet transferred asset since the transferee may sell the receivables back to the I ncom e Statement, Statactual em entcredit of Chan ges inand Equit y, and Statem ent transferor in the event of both losses changes in underlying credit ratings or Chapter 3 of Recognized Gains and Losses interest rates. This is similar to other situations described in IAS 39, in which a transferor has not Chapter 4 - Cash Flow St at em ent lost control and therefore a financial asset is not derecognized if the transferor retains substantially Chapter Financial I nstr uments—Cash Receiv ablesput option on the transferred assets held by the all 5the-risks of ownership through anand unconditional Chapter 6 I nventor y transferee. Preface

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s Estimating fair ,values when a portion of a financial asset is sold. If an entity transfers a portion Chapter 8 - Property Plant , and Equipment

of a9 financial asset to others while retaining a part of the asset or assumes a related liability, the Chapter - I ntangi ble Asset s carryingI nterests amount of financial be allocated between in the Financial Instrasset um entshould s, Associat es, Joint Ventur es,the andportion retained and the part soldI nvestm or amount ofoper liability ent Pr ty retained, based on their relative fair values on the date of sale. The best of Combinations the fair value and of the retainededinterest in the bonds is obtained by reference to Chapter 11evidence - Business Consolidat Fin ancial Statements market quotations. Valuation models are generally used when quotations do not exist. Gain Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev entsmarket after t he Chapter 12 or loss should recognized based only on the proceeds for the portion sold. Balancebe Sheet Date Chapter 10 -

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

If the fair value of the part of the asset retained cannot be measured reliably, then a "cost recovery" approach should be used to measure profit (that is, allocate all the cost to the portion sold). If a Chapter 15 - I ncom e Taxes related liability is retained and cannot be valued, no gain should be recognized on the transfer, and Chapter 16 - Em ploy ee Benefit s the liability should be measured at the difference between the proceeds and the carrying amount of Chapter 17 - Stock holder s' Equit y the part of the financial asset that was sold, with a loss recognized equal to the difference between Chapter 18 - Earnings Per Share the proceeds and the sum of the amount recognized for the liability and the previous carrying Chapter 19 - Iof nterim Financialasset Reportransferred. ting amount the financial Chapter 14 - Leases

Chapter 20 - Segm ent Repor ting

The IGC an example in which portfolio Chapter 21cites - Accounting Changes andaCor rectionofofbonds Er ror s is partially transferred to an unrelated party, with the22balance retained by the reporting entity, with the yield to the transferee being different than that Chapter - For eign Curr ency on the underlying bonds market rates had diverged from the coupon rates). It notes two alternative Chapter 23 - RelatedPart y(i.e., Disclosures methods estimating Ithe fairies value of the retained interests in the bonds for purposes of allocating the Chapter 24for - Specialized ndustr basis in25the- Ibonds the portion sold and the portion retained. The first method, deemed most Chapter nflationbetween and Hyperinflation

suitable when there is no market evidence of the fair value of the bonds as a whole, requires making an estimate of the future cash flows of the underlying bonds based on their contractual payments, reduced Appendix A - Di sclosure Checklist by estimates of prepayments and credit losses. The cash flows are then discounted by an estimate of Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS the appropriate risk-adjusted interest rate. This method produces a fair value of the retained interests in Appendix C - Com parison of I AS, US GAAP, and UK GAAP the bonds; the transferor would recognize a gain on sale computed by subtracting from the proceeds I ndex the amount allocated to the basis sold. Chapter 26 - Gov er nm ent Gr an ts

List of Tables List Theofalternative Ex hibits and method Ex am ples is to obtain a market quotation on bonds that are similar to the bonds it

acquired previously and are the subject of the current sale. This is prorated to the portion being sold, List of Sidebar s with a gain on sale being recognized as the difference between the prorated amount and the proceeds of the sale. The IGC further notes that when the asset being partially transferred is one which has been originated by the transferor, some modifications in methodology might be necessary, due to a lack of an active market. However, reference to actual lending transactions of the transferor as a means of estimating the fair value of the retained beneficial interests in the loans might provide a more objective and reliable estimate of fair value than the discounted cash flow model described above, because it is based on

actual market transactions. While the market interest rates may have changed between the origination dates of the loans and the subsequent sales date of a portion of the loans, the corresponding change in the value of the loans be0 03 determined to pcurrent market interest rates being charged W ile ymight I AS 2 : I n t erp reby t atreference ion an d Ap licat io n of by the transferor,I or perhaps its competitors for similar loans (e.g., with similar remaining maturity, cash n t er n at ion al Accou n t in g St an d ar ds flow pattern, currency, credit risk, collateral, and interest basis). Alternatively, if there is no change in ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za the credit risk of the borrowers subsequent to the origination of the loans, an estimate of the current market interest rate might be&derived by using a benchmark interest rate of a higher quality than the John Wi ley Sons © 2003 (952 pages) loans, holding theThis credit constant, and adjustingqui forckthe change comspread pact and t ruly com pr ehensive - refer ence in the benchmark interest rate pr esent s account ants with a sales guide date. to depend on for from the origination dates to the subsequent assistance in the prepar at ion and under standing of financial statements present in accordance I AS. A detailed example of accounting foredpartial transferswith of financial assets is presented below. T ab le of Con t en t s

Examples of allocation between asset sold and asset or liability retained

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Assume that an investment in mortgages, carried at $14.5 million, is being sold, but the enterprise is retaining the "servicing rights" to these mortgages. Servicing rights entail making monthly collections of Chapter 1 and - I ntr oduction I nter national Accounting Standar principal interest andtoforwarding these to the holders ofdsthe mortgages; it also involves other Chapter 2 Balance Sheet activities such as taking legal action to compel payment by delinquent debtors, and so forth. For such I ncom e Statement, Stat em ent ofinChan in Equitthe y, and Statem ent of future servicing efforts, 3the- servicing party is compensated; thisges example, present value Chapter Gains and Losses income can of beRecognized estimated at $1.2 million, while the mortgage portfolio, without servicing, is sold for Chapter 4 - Cash Flow St at em $13.6 million. Since values of ent both components (the portion sold and the portion retained) can be Chapter 5 Financial I nstr uments—Cash and ables reliably valued, gain or loss is determined byReceiv first allocating the carrying value pro rata to the two Chapter 6 I nventor y portions, as follows: Preface

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment Selling price or fair - I ntangi ble Asset s value

Percentage of total

Allocated amount

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - without servicing Mortgages $13.6 M 91.89% I nvestm ent Pr oper ty

$13.32 M

Chapter 9

rights 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter Curr ent Liabilit ies, Prov isions, Cont after t he Servicing 1.2ingencies, and Ev ents8.11 Chapter 12 -rights Balance Sheet Date

Total 13 - Financial I nstr uments—Long- Ter $14.8 M Chapter m Debt

100.00%

1.18 $14.50 M

Chapter 14 - Leases

The sale of the portfolio, sans servicing rights, will result in a gain of $13.6 M - 13.32 M = $280,000. The servicing rights will be recorded as an asset in the amount $1.18 million.

Chapter 15 - I ncom e Taxes

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y Under other circumstances, transactions such as the foregoing will necessitate loss recognition. Chapter - Earnings Per as Share Assume18the same facts above, except that the selling price of the mortgage portfolio with servicing Chapter 19 - I nterim Reporthe tingallocation of fair values and loss recognition will be as follows: is only $13.1 million.Financial In this case, Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection ror s Selling priceoforErfair

value

Percentage of total

Allocated amount

Mortgages without servicing rights

$13.1 M

91.61%

$13.28 M

Servicing Chapter 26 -rights Gov er nm ent Gr an ts

1.2

8.39

1.22

Appendix Total A - Di sclosure Checklist

$14.3 M

100.00%

$14,50 M

Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

A loss onC the sale of theofmortgages amounting toGAAP $13.28 M - 13.1 M = $180,000 will be recognized. Appendix - Com parison I AS, US GAAP, and UK The servicing rights will be recorded as an asset in the amount $1.22 million. I ndex List of Tables

Finally, consider a sale as above, but the obligation to continue servicing the portfolio, rather than representing an asset to the seller, is a liability, since the estimate of future costs to be incurred in List of Sidebar s carrying out these duties exceeds the future revenues to be derived therefrom. Assume this net liability has a present fair value of $ 1.1 million and that the selling price of the mortgages is $14.6 million. The allocation process and resulting gain or loss recognition is as follows: List of Ex hibits and Ex am ples

Selling price or fair value

Percentage of total

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Mortgages without I n t servicing er n at ion al Accou n t$14.6 in g StM an d ar ds rights by Bar r y J. Epstein and Abbas Ali Servicing rights

Mir za (1.1) John Wi ley & Sons © 2003 (952 pages)

108.15%

Allocated amount $15.68 M

ISBN:0471227366

(8.15)

(1.18)

Total

$14.8 M 100,00% $14.50 M This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for A loss on the saleassistance of the mortgages amounting to $15.68 M - 14.6 = $1,080,000 will be recognized. in the prepar at ion and under standing of M financial statements present ed with I AS. $1.1 million. The servicing rights will be recorded asina accordance liability in the amount T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing It should be added that, for the foregoing examples in which a net asset is retained, the servicing asset Standar ds

is deemed to be an intangible and accordingly will be accounted for under the provisions of IAS 38. Normally, this asset would be reported at amortized cost, unless impairment occurs which would Chapter 1 - I ntr oduction to I nter national Accounting Standar ds necessitate a downward adjustment in carrying value. The net servicing liability would be considered Chapter 2 - Balance Sheet similar to other liabilities and accounted for at its amortized amount. Preface

Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Recognized Gains with and part Losses Transfers ofoffinancial liabilities, of the obligation retained or with a new obligation created Chapter 4 Cash Flow St at em ent pursuant to the transfer, should be accounted for in a manner analogous to the foregoing examples. Chapter 5 values - Financial nstr uments—Cash ables Using fair andI transaction prices,and the Receiv carrying amount of the obligation should be allocated so Chapter 6 or- loss I nventor that gain can ybe computed and the liability retained or created can be appropriately recorded. Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s According IAS 39,, in those circumstances in which the asset retained cannot be valued, it should be Chapter 8 -toProperty Plant , and Equipment

recorded (i.e., portion of the carrying amount of the asset sold should be allocated to the Chapter 9 at - Izero ntangi ble no Asset s asset retained). When the retained asset is valued at zero, the gain to be recognized from the

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - will be less than would have otherwise been the case, and any loss recognized will be transaction I nvestm ent Pr oper ty

greater11 than otherwise would have and beenConsolidat true. Thus, thisancial is a conservative Chapter - Business Combinations ed Fin Statements procedure to follow under these circumstances. Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Chapter 12 -

Balance Sheet Date

On the other hand, if a new financial liability is assumed but cannot be measured reliably, assigning a zero carrying amount would obviously not achieve the same conservative financial reporting objective Chapter 14 - Leases that assigning zero value to a retained asset would. Therefore, in such a situation the initial carrying Chapter 15 - I ncom e Taxes amount of the retained liability should be a large enough amount such that no gain is recognized on the Chapter 16 - Em ploy ee Benefit s transaction. Furthermore, if application of IAS 37, Provisions, Contingent Liabilities, and Contingent Chapter - Stockrecognition holder s' Equit Assets,17 requires of ya larger provision, a loss should be recognized on the transaction. Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 18 - Earnings Per Share

IAS 39 19 holds that a financial (or a part of a financial liability) should be removed from the Chapter - I nterim Financial liability Repor ting balance20sheet only it ting is extinguished, that is, when the obligation specified in the contract is Chapter - Segm entwhen Repor discharged, canceled, or expires,and or Cor when the primary Chapter 21 - Accounting Changes rection of Er ror sresponsibility for the liability (or a part thereof) is transferred party. Chapter 22 - to Foranother eign Curr ency Among other implications, this means that in-substance defeasance

(which 23 involves segregation of assets to be used for the future retirement of specific obligations of the Chapter - RelatedPart y Disclosures enterprise) may no longer be given accounting recognition, since this does not entail actual discharge of the liability.

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Initial recognition of financial assets at cost.

Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem entbe s Pr Under AS Initial recognition of financial assets is to atesent cost,edwhich is Iassumed to be equal to fair value for Appendix C Com parison of I AS, US GAAP, and UK GAAP assets acquired in arm's-length transactions. Transaction costs such as fees and commissions are to be included in the recognized amount of all financial assets and liabilities. I ndex List of Tables

For financial instruments that are carried at amortized cost (held-to-maturity investments, originated loans, and most financial liabilities) the transaction costs are included in the calculation of amortized List of Sidebar s cost using the effective interest method. In effect, transaction costs are amortized through the income statement over the life of the instrument. On the other hand, for financial instruments that are carried at fair value, such as available-for-sale investments and instruments held for trading, transaction costs are not included in the fair value measurement subsequent to acquisition. In many instances, this will cause loss recognition for the transaction costs at that time, particularly if the first reporting date is shortly after the assets were acquired. If the values have increased since acquisition, however, some or all of this loss recognition will be averted. List of Ex hibits and Ex am ples

For available-for-sale financial assets, the timing of recognizing transaction costs in net income depends on the reporting entity's policy for reporting fair value changes. As discussed in Chapter 10, each entity had aWonetime election value ile y I AS 2 0 03 : to I neither t erp rereport t at ionchanges an d Ap pin licat io nof o fthe available-for-sale securities in earnings currently or to accumulate them in an equity account. If the former were elected, the I n t er n at ion al Accou n t in g St an d ar ds transaction costs by areBar included in net profit or loss at initial remeasurement to fair value. If the enterprise ISBN:0471227366 r y J. Epstein and Abbas Ali za elected the latter Mir alternative, and the financial asset has fixed or determinable payments and a fixed maturity (i.e., it isJohn a debt investment), the transaction Wi ley & Sons © 2003 (952 pages) costs are amortized to net profit or loss using the effective interest This method recently confirmed the ence IGC). If the enterprise has elected to com(this pact has and been t ruly com pr ehensive qui ckby - refer pr esent s account with aasset guidedoes to depend on for follow the latter alternative and theants financial not have fixed or determinable payments and a assistance in theinvestment), prepar at ion and under standing of financial fixed maturity (i.e., it is an equity the transaction costs are recognized in income at the statements present ed in accordance with I AS. time of eventual sale. For trading assets, the transaction costs are included in net profit or loss at initial remeasurement T ab le of Con t en t sto fair value. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing When ds applying the fair value measure, the transaction costs which would have to be incurred if there Standar

were to be a sale of the asset are not recognized (i.e., fair value is not net of selling costs) and thus fair Preface value for reporting purposes is without the impact of transaction costs on either acquisition or assumed - I ntr oduction to I nter national Accounting Standar ds disposition.

Chapter 1 Chapter 2

- Balance Sheet

Example Chapter 3 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Chapter 4 the - Cash Flow St at em entof the acquisition of a financial asset. Assume an investment security is Consider following example Chapter 5 Financial I nstr and Receiv acquired as follows: 2,000uments—Cash shares of Ravinia Corp. ables common stock, par value $5 per share, are Chapter 6 - on I nventor y market on October 15 for $76 per share, plus total commissions and fees of purchased the open Chapter 7 Rev enue I ncluding Constr Contr actas sale at that date would entail the $1,775. At DecemberRecogni 31, thetion, shares are quoted atuction $761/2, and Chapter 8 of- commissions Property , Plantand , and Equipment payment fees of $1,550. The investment is recorded on October 15 at a total of Chapter - I ntangi ble + Asset s [($76 x 92,000 shares) $1,775 = ] $153,775. When the time comes to prepare the year-end balance

sheet, this investment be presented 1/2 x 2,000 shares = $153,000, which will necessitate a I nterests inwill Financial Instr umat ent$76 s, Associat es, Joint Ventur es, and I nvestm Pr oper write-down of $775. ent Thus, parttybut not all of the original commissions and fees will be reclassified to a Chapter 11 - Business Combinations and hand, Consolidat ed Fin ancial Statements loss account at that time. On the other the potential cost of a sale, which would make the net realizable amount Curr ent[$153,000 Liabilit ies,- Prov 1,550 isions, = $151,450] Cont ingencies, lower than and Ev fair ents value, after ast he defined by IAS 39, is to be Chapter 12 Sheet Date ignored in allBalance such remeasurements. Chapter 10 -

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

In rare 15 instances, the value of consideration given or received cannot be observed directly or Chapter - I ncom when e Taxes indirectly means of Benefit other market values, then IAS 39 directs that value be ascribed by means of Chapter 16 by - Em ploy ee s computing present ofy all future cash payments or receipts, using the prevailing market rate of Chapter 17 -the Stock holdervalue s' Equit similar 18 types of instruments as the discount rate. Chapter - Earnings Per Share Chapter 19 - I nterim Financial Repor ting

Trade date vs. settlement date accounting.

Chapter 20 - Segm ent Repor ting

Chapter - Accounting Changes Corseveral rection of Er ror s the trade date. In practice, historically, some Normal21 securities trades clear orand settle days after Chapter 22 - For eign ency have recorded suchCurr transaction son the trade date, while others have waited until the settlement date Chapter - RelatedPart y Disclosures to give 23 formal recognition to the purchase or sale transaction. Under the provisions of IAS 39, as Chapter 24 -an Specialized iesuse either trade date accounting or settlement date accounting for amended, entity mayI ndustr elect to

purchases salesand of financial assets. However, it is required that the reporting entity apply the Chapter 25 -and I nflation Hyperinflation selected in ts a consistent manner for both purchases and sales of financial assets that Chapter 26accounting - Gov er nm policy ent Gr an belong toA the balance sheet category (i.e., financial assets held for trading, those available for Appendix - Disame sclosure Checklist sale, those be heldetoFinancial maturity, and receivables by the entity). Appendix B - to I llustrativ Stand atemloans ent s Pr esent ed Under Ioriginated AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

When trade date accounting is used, the asset is recognized at the trade date and all subsequent changes in value will be reflected as required under IAS 39. On the other hand, if settlement date List of Tables accounting is used to record purchases, there would be a failure to recognize changes in value from List of Ex and Exdate, am ples trade tohibits settlement before formally recording the asset. For that reason, IAS 39 requires that List of Sidebar s fair value of the underlying security during the interval from trade date to settlement date changes in the must be given accounting 3recognition, to the extent that changes in fair value would otherwise have been accounted for, consistent with the nature of the investment. Thus, for held-to-maturity investments, fair value changes between trade and settlement dates are not reported, since these investments are accounted for at amortized historical cost, not at fair values (unless a permanent impairment occurs, which is unlikely in the brief span from trade to settlement dates). In the case of trading securities, changes in fair value between the trade and settlement dates would be taken into income. For available-for-sale investments, the changes in fair value during the time interval from trade I ndex

date to settlement date would be reported in stockholders' equity or in earnings, depending on which of these options had been elected by the enterprise. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Subsequent remeasurement I n t er n at ion al Accou issues. n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Before the issuance of IAS 39, the carrying values of financial instruments qualifying as investments Mir za were determined John by a Wi range methods, by type of instrument, with many options available for ley &ofSons © 2003 varying (952 pages) the reporting entity to select from for any given category of investment asset. This situation has been This com pact and t ruly com pr ehensive qui ck - refer ence changed significantly by IAS 39, which requires that subsequent remeasurement of financial assets be pr esent s account ants with a guide to depend on for at fair value excluding transaction costs,atexcept (1) loans andofreceivables assistance in the prepar ion andforunder standing financial originated by the entity statements present edheld-to-maturity in accordance with I AS. and not held for trading purposes, (2) investments, and (3) any financial asset whose fair value cannot be reliably measured. Held-to-maturity investments and loans and receivables T ab le of Con t en t s originated by the entity are to be reported at amortized cost; other financial assets which have Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing indeterminate fair values but fixed maturities will be measured at amortized cost using the effective Standar ds interest rate method, while those that do not have fixed maturities are to be measured at cost. In all Preface cases, periodic review for possible impairment is needed, and if impairment exists, a loss is to be Chapter 1 - I ntr oduction to I nter national Accounting Standar ds recognized in current period earnings. Derivative financial instruments that are assets must be valued Chapter 2 - Balance Sheet at fair value. Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

One issue frequently raised pertains to how fair value should be gauged when the reporting entity owns Chapter 4 - Cash Flow St at em ent a large enough fraction of the total class outstanding (or of the portion actively trading on a given day) Chapter 5 a- disposition Financial I nstr uments—Cash and such that would be expected toReceiv "moveables the market." The market could be affected in one of Chapter 6 I nventor y two ways: either the large block would fetch a premium price (in the nature of a "control premium" Chapter 7 the - Rev enue Recogni tion,could I ncluding Constr uction Contr act s although transferor's shares not truly represent a controlling interest—if it did, the investment Chapter 8 Property , Plant , and Equipment would have been accounted for under IAS 28 or 27, not under IAS 39), or it would cause a decline due Chapter 9 - I ntangi Assetand s demand. The IGC has stated that there is a presumption that a to the imbalance ofble supply published price quotation in an active market the best of fair I nterests in Financial Instr um ent s, is Associat es,estimate Joint Ventur es, value. and This should be used, Chapter 10 I nvestmfor entpossible Pr oper typremiums or discounts that might result from the (hypothetical) sale of without adjustment Chapter 11 - holdings, Business unless Combinations Consolidat ed Finreliable ancial Statements the entity's it couldand present objective, evidence validating a higher (or lower) Curr ent Liabilit ies, Prov isions, Cont ingencies, andappropriate. Ev ents after t he amount. In practice, this exception is expected to rarely be Chapter 12 Balance Sheet Date

Chapter 13 - Financial I nstr uments—LongAccounting for collateral held. Ter m Debt Chapter 14 - Leases

In many15situations lender will hold collateral, often in the form of marketable securities, as additional Chapter - I ncom eaTaxes assurance the ee obligation Chapter 16 -that Em ploy Benefit swill be repaid when due. IAS 39 required that a creditor (lender) should recognize its balance it received from a debtor (borrower) when the creditor was Chapter 17 in - Stock holder s'sheet Equit collateral y

permitted to sell or repledge the collateral without constraints. This gave rise to the circumstance, which some found both odd and incorrect, that both parties to a secured lending transaction could be Chapter 19 - I nterim Financial Repor ting reporting the same asset on their respective balance sheets simultaneously. Indeed, there was a Chapter 20 - Segm ent Repor ting substantial question as to whether, under the IASC Framework, the collateral and the related obligation Chapter 21 - Accounting Changes and Cor rection of Er ror s to return the collateral would even meet the definition of an asset or a liability from the perspective of Chapter 22 - For eign Curr ency the creditor. Chapter 18 - Earnings Per Share

Chapter 23 - Related- Part y Disclosures

Because requirement drewies a great deal of criticism, and because such a practice was found to be Chapter 24this - Specialized I ndustr rare under standards (a similar requirement under US GAAP was established by Chapter 25 -national I nflationaccounting and Hyperinflation SFAS 125 withdrawn), the IASC has deleted this requirement. However, there is a Chapter 26 -and Govwas er nmlater ent Gr an ts general requirement borrowers to disclose financial assets that are pledged as collateral, much as Appendix A - Di sclosureforChecklist now exists inventories; property, plant, equipment; and Appendix B - for I llustrativ e Financial St atem ent sand Pr esent ed Under I ASintangible assets. Also, lenders must

disclose Cthe fair value collateral that they Appendix - Com parisonofofany I AS, US GAAP, and UKhave GAAPreceived and are permitted to sell or repledge in the absence of default. If the lender sells or repledges collateral it has received, it will disclose the fair value of that collateral separately.

I ndex

List of Tables

List of Ex hibits and Ex am ples

Other issues.

List of Sidebar s

Financial assets that are hedged against exposure in changes in fair value must be accounted for at an adjusted carrying amount that reflects changes in fair value attributable to the risk designated as being hedged, with a derivative the hedging instrument likewise accounted for at fair value, as discussed later in this chapter. Financial assets which have values less than zero are to be accounted for as financial liabilities; that is, at fair value if held for trading or if a derivative instrument, otherwise at amortized cost in most cases. Changes in the value of held-to-maturity investments are generally not recognized. However, the use of

the held-to-maturity classification is strictly limited to situations in which both intent and ability to hold are present, and past behavior is to be used to evaluate whether the expression of intent is indeed sincere. Intent to W hold an 2indefinite would not a licat basis as held-to-maturity, ile yfor I AS 0 03 : I n t period erp re t at ion an d be Ap p io for n o classification f nor would a willingness to dispose of the investment if certain changes in interest rates or market risks I n t er n at ion al Accou n t in g St an d ar ds were to occur, or by if improved yields on alternative investments or other factors were to develop. ISBN:0471227366 Bar r y J. Epstein and Abbas Ali Mir za

If the issuer of theJohn instrument enterprise holds as a financial asset has the right to settle it at an Wi ley & that Sonsthe © 2003 (952 pages) amount materiallyThis below amortized cost, the use of the held-to-maturity classification is not permitted. com pact and t ruly com pr ehensive qui ck - refer ence For instance, a normal call feature will not preclude pr esent s account ants with a guide toheld-to-maturity depend on for classification if the holder would recover substantially all of the carrying if the callstanding feature of is exercised assistance in the preparamount at ion and under financial by the issuer. If the entity statements ed in(giving accordance AS.demand early redemption, but not the holding the investment has apresent put option it the with right Ito obligation to do so), classification as held-to-maturity remains possible, if the enterprise has the intent T ab le of Con t en t s and ability to hold to maturity, coupled with a positive intent not to exercise the option. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

As a practical matter, the held-to-maturity category will be reserved to debt securities held as investments, since equity securities have indefinite life (thus rendering untestable the holder's Chapter 1 - I ntr oduction to I nter national Accounting Standar ds representation of its intent to hold to maturity) or else have indeterminable returns to the holder (as with Chapter 2 and - Balance Sheet warrants options). Notwithstanding the nature of the investment, use of the held-to-maturity I ncom e Statement, em ent entity of Chan gesduring in Equit y, current and Statem ent classification is prohibited if the Stat reporting has, the reporting year or two prior years, Chapter 3 of Recognized Gains and Losses sold, transferred, or exercised the put option on a significant amount of held-to-maturity investments Chapter 4 - Cash Flow St at em ent before maturity. However, IAS 39 provides certain exceptions to the foregoing rule: sales close to Chapter Financial I nstrcall uments—Cash andmarket Receiv ables maturity5 or- an exercised date such that rate changes would not affect the asset's fair value; Chapter 6 I nventor y a sale after substantially all of the original principal had been recovered; and sales due to isolated Chapter - Revthe enue Recogni tion, I ncluding Constr Contr act s which could not have been events 7beyond enterprise's control, which are uction nonrecurring and Chapter 8 Property , Plant , and Equipment reasonably anticipated by it (e.g., a significant decline in the issuer's creditworthiness, changes in tax Chapter - I ntangi ble Asset s legal or regulatory environment). To the extent that any of these laws, or9 other changes in the conditions exist, I nterests sales infrom Financial the held-to-maturity Instr um ent s, Associat portfolio es,will Joint notVentur taint es, the and remaining assets. Chapter 10 Preface

I nvestm ent Pr oper ty

Chapter 11 - Business Combinations ed Fin ancial Statements Reclassifications from andand to Consolidat held-to-maturity. Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Under the provisions of IAS 39, the determination that there is both intent and ability to hold financial Balance Sheet Date assets 13 to maturity must beuments—Longmade not merely acquisition, but also at each subsequent balance sheet Chapter - Financial I nstr Ter matDebt date. If 14 at one of these later determination dates it is concluded that the criteria are no longer met, then Chapter - Leases the investment should be remeasured at fair value at that time. In general, the investment would be Chapter 15 - I ncom e Taxes reclassified category under such circumstances, and accordingly the Chapter 16 - to Emthe ployavailable-for-sale ee Benefit s adjustment to fair value would be recognized in stockholders' equity directly or else in earnings, Chapter 17 - Stock holder s' Equit y depending on which method was elected by the reporting enterprise (see discussion below regarding Chapter 18 - Earnings Per Share this onetime election). It is also possible, if not likely, that formerly held-to-maturity securities would be Chapter 19 - I nterim Financial Repor ting reclassified to the trading category, in which case the adjustment to fair value would be taken to current Chapter 20 - Segm ent Repor ting earnings. Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter eign Curr ency It is far 22 less- For conceivable that securities could be reclassified to the held-to-maturity category after being Chapter 23in- another Related-portfolio. Part y Disclosures first held However, IAS 39 notes that a change in intent may occur under some Chapter circumstances. 24 - Specialized Furthermore, I ndustrsecurities ies acquired for the held-to-maturity portfolio may have been

recently25valued at fairand value because the entity violated the conditions with regard to other held-toChapter - I nflation Hyperinflation maturity26investments (i.e.,Grselling Chapter - Gov er nm ent an ts before maturity, etc., without having any of the exception conditions satisfied). the two-year period during which fair value accounting was mandatorily applied Appendix A When - Di sclosure Checklist expires, Bthe be St free toent resume amortized cost Appendix - Ienterprise llustrativ e would Financial atem s Pr esent ed Under I ASaccounting with regard to the other

remaining In such Appendix C -held-to-maturity Com parison of Isecurities. AS, US GAAP, and instances, UK GAAP the then-current fair value would become the

new amortized cost basis. Any earlier gain or loss from fair value adjustments, if recognized in stockholders' equity, would be amortized over the remaining term to maturity, in the manner of premium List of Tables and discount. I ndex

List of Ex hibits and Ex am ples List of Sidebar s

Remeasurement of trading and available-for-sale financial assets.

Changes in the value of trading securities are reported currently in earnings. IAS 39 defines derivative financial instruments as being, ipso facto, financial instruments held for trading, unless held for designated hedging purposes. Regarding other investments which are neither held-to-maturity nor trading (i.e., which are available for sale), IAS 39 offers reporting entities a choice of reporting methods, election of which is limited to initial application of the standard. An entity may elect to report these gains and losses either in income, or directly in stockholders' equity—being reported in the statement of

changes in equity as set forth in IAS 1 (and discussed in Chapter 3). This position is in contrast, for example, with the requirement under the corresponding US standard W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f (SFAS 115), which does not provide the option of reporting gains or losses from fair value changes on I n t er n at ion al Accou n t in g St an d ar ds available-for-sale securities in current earnings. It is likely that a preponderance of entities reporting ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali under IAS 39 will Mir similarly choose to avoid impacting the current year's operating results and will za instead logically conclude that since©over many of these market-based value fluctuations will John Wi ley & Sons 2003 time (952 pages) reverse and offset, recordation within equity would be preferable. This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

As noted, the selection of the to at beionused account for changes in the fair value of availableassistance in method the prepar and to under standing of financial for-sale investments is to be present made when 39 is first applied. statements ed in IAS accordance with I AS. A subsequent change in method would have to be justified under the provisions of IAS 8; the IASC has stated that it is deemed to be highly T ab le of Con t en t s unlikely that a change from current earnings recognition to accumulation directly in equity could be Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing supported. Standar ds

Preface Notwithstanding the option to accumulate the effects of changes in the fair values of available-for-sale Chapter 1 assets - I ntr oduction I nter Accounting ds financial in equity,toIAS 39national does mandate thatStandar impairment losses have to be recognized in Chapter 2 This - Balance Sheet below. earnings. is described I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of Recognized Gains and Losses

Impairments of Available-for-Sale Investments - Cash Flow St at em ent

Chapter 4

Chapter 5 - Financial I nstr andclassified Receiv ables An impairment in value of uments—Cash equity securities as available-for-sale must be reflected in earnings. Chapter 6 I nventor y A financial asset is impaired if its carrying amount is greater than its estimated recoverable amount. Chapter 7 - Rev Recogni tion, Contr act s fluctuations in value characteristic of Specifically, thisenue is meant to be theI ncluding result ofConstr other uction than the normal Chapter 8 Property , Plant , and Equipment all investments, due to general movements in the underlying markets, etc. In the absence of an ability Chapter 9 - I ntangi Asset s is temporary, the conclusion must be that there is an impairment which to demonstrate thatble a decline must be recognized I nterestsininincome. FinancialDeclines Instr um ent ares,measured Associat es, at Joint the individual Ventur es,security and level, and thus, losses Chapter 10 I nvestm entcannot Pr oper ty in one security's value be offset by gains in another's value. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

While temporary declines available-for-sale are reported either in earnings or Curr ent Liabilit in ies,value Prov of isions, Cont ingencies,investments and Ev ents after t he directly in stockholders' equity Balance Sheet Date(as discussed, this was an election to be made by the reporting entity only upon IASuments—Long39), impairment Chapter 13 adoption - FinancialofI nstr Terlosses m Debtmust be included in earnings. Similarly, reversals of impairment Chapter 14 - losses Leases (if recovery can be objectively attributed to events occurring after the impairment recognition) Chapter 15 - Ishould ncom e always Taxes be reported in earnings. Chapter 12 -

Chapter 16 - Em ploy ee Benefit s

Accounting for Investments in Debt Securities

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

Under provisions of Financial the now-superseded IAS 25, the accounting for debt securities held as investments Chapter 19 - I nterim Repor ting was driven theent classification Chapter 20 - by Segm Repor ting as a current or a noncurrent asset, and within each of these categories, diverse21 accounting methods were acceptable. fors noncurrent investments, either the amortized Chapter - Accounting Changes and Cor rection Thus, of Er ror historical cost method or revaluation was allowed.

Chapter 22 - For eign Curr ency

Chapter 23 -39, RelatedPart yno Disclosures Under IAS however, optional methods are offered, and fair value is required for debt securities Chapter 24 Specialized I ndustr held for trading or available fories sale, while amortized cost is prescribed for those in the held-to-maturity Chapter 25as - Ithat nflation and Hyperinflation portfolio, is narrowly defined by the standard. The held-to-maturity category is the most Chapter 26 Gov er nm entdebt Gr aninstruments ts restrictive of the three; can be so classified only if the reporting entity has the positive Appendix A -the Di sclosure intent and ability toChecklist hold the securities for that length of time. A mere intent to hold an investment Appendix B - I llustrativ Financial St atem ent s Pr esent ed a Under I AS for an indefinite periode is not adequate to permit such classification. On the other hand, a variety of

isolated causes necessitate in a debt security from the held-forAppendix C - Com may parison of I AS, UStransferring GAAP, and an UKinvestment GAAP investment category without calling into question the investor's general intention to hold other similarly I ndex classified investments to maturity. Among these are declines in the creditworthiness of a particular List of Tables investment's change in tax law or regulatory rules. On the other hand, sales of investments List of Ex hibits issuer and Exor amaples

which were classified as held-to-maturity for other reasons will call into question the entity's assertions, List of Sidebar s both in the past and in the future, about its intentions regarding these and other similarly categorized securities. For this reason, transfers from or sales of held-to-maturity securities will be very rare, indeed.

If it cannot be established that a particular debt security held as an investment will be held for trading or held to maturity, it must be classed as available-for-sale. Whatever the original classification of the investment, however, transfers among the three portfolios will be made as intentions change.

Accounting for debt securities that are held for trading and those that are available for sale is based on fair value. For balance sheet purposes, increases or decreases in value are reflected by adjustments to the asset account; onlicat an io individual security basis. Changes in W such ile y I adjustments AS 2 0 03 : I nare t erptorebe t atdetermined ion an d Ap p n of the values of debtI nsecurities in the trading portfolio are recognized in earnings immediately, while t er n at ion al Accou n t in g St an d ar ds changes in the values of debt securities in the available-for-sale category are reported either in ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za earnings or in stockholders' equity, based on the election made when IAS 39 was first adopted. John Wi ley & Sons © 2003 (952 pages) ThisDebt com pact and t ruly com pramong ehensive quiPortfolios ck - refer ence Transfers of Securities pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial

IAS 39 says very statements little regarding the ed reclassifications of investments. Nonetheless, from the basic present in accordance with I AS. principles espoused by the standard, it is clear that transfers of any given security between T ab le of Con t enshould ts classifications be accounted for at fair market value. IAS 39 states that transfers from the Wiley I AScategory 20 03—Int er pretation andplace, Application of I nternational ing trading should not take because classificationAccount as a trading security is based on the Standar originaldsintent in acquiring it. The standard also says that transfers to the trading category would be Preface unusual but not prohibited. In the case of a transfer to the trading portfolio, any previously unrecognized Chapter 1 -gain I ntr oduction I nter national Accounting unrealized or loss istoretained in equity until the Standar asset isdsderecognized, if unrealized gains or losses Chapter 2 Balance Sheet have been included in equity. Chapter 3

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

If a debt security is being transferred from held-to-maturity to the available-for-sale portfolio, and if fair of Recognized Gains and Losses value adjustments to items in ent the available-for-sale portfolio are being accounted for as changes in Chapter 4 - Cash Flow St at em stockholders' equity without being reported earnings, Chapter 5 - Financial I nstr uments—Cash andinReceiv ablesthen the unrealized gain or loss, not previously reflected in the investment account, must be added to the appropriate equity account at the date of Chapter 6 - I nventor y transfer and reported in the statement of changes in equity at act that Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr s time. On the other hand, if fair value adjustments are reported in earnings, then transfers from the held-to-maturity portfolio to the availableChapter 8 - Property , Plant , and Equipment for-sale portfolio will trigger income or loss recognition in most cases. Chapter 9

- I ntangi ble Asset s

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and If a security Chapter 10 - is being transferred from available-for-sale to held-to-maturity, there will similarly be I nvestm ent Pr oper ty

alternative accounting ramifications depending on how the fair value adjustments had been dealt with when the security was considered to be available-for-sale. If those adjustments were taken to income, Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he as permitted Chapter 12 - by IAS 39, then no further adjustment is necessary (assuming the records are up-to-date Balance Sheet Date as of the date of the transfer). However, if the fair value adjustments were made directly to equity, then Chapter 13 - Financial I nstr uments—Long- Ter m Debt logic suggests that the unrealized holding gain or loss previously accumulated in equity should be Chapter 14 - Leases maintained in the equity account, and should prospectively be amortized to income over the remaining Chapter - I ncom Taxes term to 15 maturity ase an adjustment of yield, using the effective interest method. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit Impairments in value ofy held-to-maturity

investments.

Chapter 18 - Earnings Per Share

IAS 39 19 establishes need forRepor earnings Chapter - I nterim aFinancial ting recognition when impairment losses occur which affect investments included in theting held-to-maturity portfolio. Evaluation of whether there is objective evidence Chapter 20 - Segm ent Repor of impairment is to be made at each balance sheet Chapter 21 - Accounting Changes and Cor rection of Erdate; ror s if this exists, the recoverable amount of the

financial asset should be ascertained. Evidence of impairment could be provided by information about the financial difficulties of the issuer, an actual breach or default by the obligor, a debt restructuring by Chapter 23 - Related- Part y Disclosures the issuer, a delisting of the issuer's securities or a high probability that this will occur in the near term, Chapter 24 - Specialized I ndustr ies and similar developments. On the other hand, IAS 39 cautions that a change in status to not being Chapter 25 - I nflation and Hyperinflation publicly traded does not constitute evidence of a security's impairment, nor does a downward credit Chapter 26 - Gov er nm ent Gr an ts rating revision, taken alone, although in combination with other factors these could have significance. Chapter 22 - For eign Curr ency

Appendix A - Di sclosure Checklist Appendix For held-to-maturity B - I llustrativsecurities, e Financialthe St atem standard ent s Pr provides esent ed that Under when I AS it becomes probable that the holder will

not be able collect all of amounts are and dueUK contractually (including both interest and principal), an Appendix C - to Com parison I AS, USthat GAAP, GAAP impairment loss is to be recognized. Similarly, when loans or receivables originated by the entity and I ndex notofheld for trading have such an impairment, a bad debt loss is to be recognized currently. In List Tables determining of such loss, the carrying amount (amortized cost) is compared to its List of Ex hibitsthe andamount Ex am ples

recoverable defined as the present value of projected future cash flows, discounted using the List of Sidebar amount, s

instrument's original effective interest rate (not the current market interest rate). A write-down to this recoverable amount is indicated when impairment has been found to have occurred. Use of the current market rate of interest is prohibited because to use this rate would be to indirectly impose a fair value measure, which of course is contrary to the concept of accounting for held-to-maturity financial assets, and loans and receivables originated by the entity, at amortized historical cost. When in a later period there is a reversal of the impairment recognized earlier with regard to held-tomaturity financial assets or loans and receivables originated by the entity, this recovery should be

appropriately reported in earnings. However, the reversal cannot result in carrying the asset at an amount in excess of that which it would have been reported at on that date, considering intervening periods' amortization W ileify pertinent. I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

When the carrying value of a held-to-maturity financial asset isISBN:0471227366 reduced due to findings of impairment, by Bar r y J. Epstein and Abbas Ali future interest income Mir za must be computed on the basis used to reduce the asset to its recoverable amount. That is, the rate of the original investment (including the impact of any premium or Johneffective Wi ley & Sons © 2003 (952 pages) discount amortization) will be used, not its contractual rate. This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

Having once beenassistance reduced in value a finding of impairment, in carrying the prepar at iondue andto under standing of financial there often will be a heightened need statements to monitor further in later If such evidence is objectively presentimpairments ed in accordance withperiods. I AS. determinable, yet another computation of recoverable amount (and possibly a further adjustment to the T ab le of Con t en t s financial asset's carrying amount) will be required. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds In the case of available-for-sale securities for which adjustments due to changes in fair value have Preface been accumulated in stockholders' equity (for enterprises which had elected that optional reporting Chapter 1 - I ntrthe oduction to I nter Accounting Standar ds impairment in value will also necessitate methodology), discovery thatnational there has been a permanent Chapter 2 Balance Sheet accounting recognition. The appropriate amount of the accumulated fair value adjustment must be

removed from I ncom equity e Statement, and reported Statin emearnings ent of Chan at the gestime in Equit objective y, and evidence Statem entof impairment is of exist. Recognized Gains andbetween Losses acquisition cost and either current fair value (for equitydetermined to The difference Chapter 4 - Cash Flow St at em ent amount (for debt instruments) is the usual measure of impairment. type instruments) or recoverable Chapter 3

Chapter 5

- Financial I nstr uments—Cash and Receiv ables Recoverable amount, Chapter 6 - I nventor y as used in the context of available-for-sale financial assets, differs from the

identically concept applied to held-to-maturity assets. Chapter 7 -named Rev enue Recogni tion, I ncluding Constr uction Contr In actthe s latter case, as noted above,

projected future cash flows are to be discounted at the instrument's original effective rate, to avoid - Property , Plant , and Equipment confounding the impairment mea-sure by reference to current fair values, which would be inappropriate Chapter 9 - I ntangi ble Asset s if applied to this class of investment. In the setting of available-for-sale instruments, however, fair value I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter - appropriate and required. Thus, if debt instruments are in the available-for-sale category is both 10 quite I nvestm ent Pr oper ty and are being evaluated for impairment, future cash flows must be discounted at the current market Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements rate of interest applicable to such instruments. Chapter 8

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Remeasurement of financial liabilities.

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

The remeasurement of financial liabilities is discussed and illustrated in Chapter 12.

Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s

Hedge Accounting

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

As under the similar US standard, IAS 39 provides for special hedge accounting under defined

Chapter 19 - I nterim tingthree types of hedging relationships: fair value hedges, cash flow circumstances. The Financial standardRepor defines Chapter - Segm ent of Repor hedges,20and hedges net ting investment in a foreign entity. These are described in IAS 39 as follows: Chapter 21 - Accounting Changes and Cor rection of Er ror s

Fair hedges. A hedge, using a derivative or other financial instrument, of the exposure to Chapter 22value - For eign Curr ency changes in the fair of a recognized asset or liability, or an identified portion of such an asset Chapter 23 - RelatedPartvalue y Disclosures or liability, that is attributable Chapter 24 - Specialized I ndustr ies to a particular risk and will affect reported net income. Chapter 25 - I nflation and Hyperinflation

Cash flow hedges. A hedge, using a derivative or other financial instrument, of the exposure to variability in cash flows that is attributable to a particular risk associated with a recognized asset or Appendix A - (such Di sclosure liability as allChecklist or a portion of future interest payments on variable-rate debt) or forecasted Appendix B I llustrativ Financial St atem ent s Pr esentoredsale) Under I AS transaction (sucheas an anticipated purchase that will affect reported income or loss. A Appendix C Com parison of I AS, US GAAP, and UK GAAP hedge of an unrecognized firm commitment to buy an asset at a fixed price is treated as a cash I ndex flow hedge, although actually a fair value hedge. Chapter 26 - Gov er nm ent Gr an ts

List of Tables

a net investment in a foreign entity (as defined in IAS 21) using a derivative or other List ofHedges Ex hibits of and Ex am ples List offinancial Sidebar sinstrument.

The most contentious issue regarding hedging has been the decision to apply special hedge accounting to such transactions. If all financial instruments were marked to market (fair) values, there would be no need for special accounting except, perhaps, for hedges of unrecognized firm commitments and forecasted transactions. However, given that fair value accounting has yet to be fully accepted for financial instruments held as assets, and is even less widely accepted for financial instruments classed as liabilities, the topic of hedge accounting must be addressed. Under the provisions of IAS 39, a hedging relationship will qualify for special hedge accounting presentation if all

of the following conditions are met: 1. At the inception of the hedge there is formal documentation of the hedging relationship and the enterprise's W risk ile y management I AS 2 0 03 : I nobjective t erp re t atand ion strategy an d Ap pfor licat undertaking io n o f the hedge. That I n t er should n at ion al Accouidentification n t in g St an dof ar ds documentation include the hedging instrument, the related hedged item by Bar r y nature J. Epstein andrisk Abbas Ali hedged, and ISBN:0471227366 or transaction, the of the being how the enterprise will assess the Mir za hedging instrument's effectiveness if offsetting the exposure to changes in the hedged item's fair John Wi ley transaction's & Sons © 2003cash (952 pages) value or the hedged flows that is attributable to the hedged risk. This com pact and t ruly com pr ehensive qui ck - refer ence s account ants with effective a guide toindepend on for 2. The hedgeprisesent expected to be highly achieving offsetting changes in fair value or cash assistance in the prepar at ionconsistent and underwith standing of financial flows attributable to the hedged risk, the originally documented risk management statements present ed in accordance with I AS. strategy for that particular hedging relationship. T ab le of Con t en t s

3. For cash flow hedges, a forecasted transaction that is the subject of the hedge must be probable

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing and present an exposure to price risk that could produce variation in cash flows that will affect Standar ds Preface reported income. Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

4. The effectiveness of the hedge can be reliably measured, that is, the fair value or cash flows of Balance Sheet the -hedged item and the fair value of the hedging instrument can be reliably measured.

Chapter 2 Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

of Recognized Gains and 5. The hedge was assessed andLosses determined actually to have been effective throughout the Chapter financial 4 - Cashreporting Flow St atperiod. em ent Chapter 5

- Financial I nstr uments—Cash and Receiv ables Under IAS a hedging relationship could be designated for a hedging instrument taken as a whole, Chapter 6 -39, I nventor y

or for a7component a hedging provided that theact fairs value of each component can be Chapter - Rev enueofRecogni tion,instrument, I ncluding Constr uction Contr

measured over its ,life. an enterprise could designate the change in the intrinsic value of Chapter 8 -reliably Property , Plant andThus, Equipment an option as the hedge, while the remaining component of the option (its time value) is excluded. - I ntangi ble Asset s

Chapter 9

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and As noted, Chapter 10 to - qualify for hedge accounting, the effectiveness of a hedge would have to be subject to I nvestm ent Pr oper ty

effectiveness testing. The method an enterprise adopts for this would depend on its risk management strategy, and this could vary for different types of hedges. If the principal terms of the hedging Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - and of the entire hedged asset or liability or hedged forecasted transaction are the same, instrument Balance Sheet Date the changes in fair value and cash flows attributable to the risk being hedged offset fully, both when the Chapter 13 - Financial I nstr uments—Long- Ter m Debt hedge is entered into and thereafter until completion. An interest rate swap is likely to be an effective Chapter 14 - Leases hedge if the notional and principal amounts, term, repricing dates, dates of interest or principal receipts Chapter 15 - I ncom e Taxes and payments, and basis for measuring interest rates are the same for the hedging instrument and the Chapter - Em ploy ee Benefit s hedged16 item. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 17 - Stock holder s' Equit y

Also, to18 qualify for special hedge accounting under IAS 39's provisions, the hedge would have to relate Chapter - Earnings Per Share to a specific and designated Chapter 19 - I identified nterim Financial Repor ting risk, and not merely to overall enterprise business risks, and must ultimately affect the enterprise's net profit or loss, not just its equity. Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

The standard provides that a hedge can be judged to be highly effective if, both at inception and throughout its life, the reporting entity can expect that changes in the fair value or cash flows Chapter 23 - Related- Part y Disclosures (depending on the type of hedge) of the hedged item will be virtually fully offset by changes in the fair Chapter - Specialized I ndustr ies value or24cash flows of the underlying or hedged item, and that actual results are within a range of 80% Chapter 25 I nflation and Hyperinflation to 125% of full offset. While there is flexibility in terms of how an entity measures and monitors Chapter 26 - Gov er nm entmay Gr an ts vary within an entity regarding different types of hedges), the fact that effectiveness (and this even Appendix A Di sclosure Checklist IAS 39 provides quantified upper and lower effectiveness thresholds underlines the importance of Appendix B - I llustrativ e Financial St atem ent s Pr esentof edthe Under I AS making such a determination. The documentation enterprise's hedging strategy must stipulate how this Cwill be achieved, effectiveness must be assessed at least as often as financial Appendix - Com parison of and I AS,hedging US GAAP, and UK GAAP reports are prepared. I ndex Chapter 22 - For eign Curr ency

List of Tables

Fair value hedges. List of Ex hibits and Ex am ples List of Sidebar s

With specific regard to fair value hedges, IAS 39 prescribes the following special hedge accounting: 1. The gain or loss from remeasuring the hedging instrument at fair value is to be recognized currently in net profit or loss; and 2. The gain or loss on the hedged item attributable to the hedged risk should adjust the carrying amount of the hedged item and be recognized currently in net profit or loss. These requirements apply even if a hedged item is otherwise measured at fair value with changes in

fair value recognized directly in equity (i.e., financial instruments not held for trading purposes, for which recordation in equity had been elected by the reporting entity). Hedge accounting must be discontinued, however, the instrument or isiosold, W ile y when I AS 2 0 03 hedging : I n t erp re t at ion anexpires d Ap p licat n o f terminated, or exercised, or when the hedge no longer meets the criteria for qualification for hedge accounting. I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

When there has been Mir za an adjustment made to the carrying amount of a hedged, interest-bearing instrument, it should earnings, beginning no later than when it ceases to be adjusted Johnbe Wiamortized ley & Sonsto © 2003 (952 pages) for changes in fairThis value attributable to the risk being hedged. com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Cash flow hedges. assistance in

Gain or loss relating to the portion of a cash flow hedge that is determined to be effective is to be recognized directly in stockholders' equity, through the statement of changes in equity. The ineffective Wiley I AS if20 03—Int er pretation and Application I nternational ing portion, any, must be recognized currently inofearnings if theAccount hedging instrument is a derivative or if it Standar ds pertains to a trading instrument. If it relates to an available-for-sale instrument and in the (highly Preface unusual) event the hedging instrument is not a derivative, then the ineffective portion may be either Chapter 1 - I ntr oduction to I nter national Accounting Standar ds included in income or in equity, depending on which method the entity has elected for reporting fair Chapter 2 - Balance Sheet value changes for such instruments.

T ab le of Con t en t s

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Chapter 3

-

Chapter 9

- I ntangi ble Asset s

Gains and Losses Per IAS 39, of theRecognized separate component of equity associated with the hedged item is to be adjusted to the Chapter 4 two - Cash Flow St(1) at em lesser of amounts: theent cumulative gain or loss on the hedging instrument needed to offset the Chapter 5 - change FinancialinI expected nstr uments—Cash andflows Receiv cumulative future cash onables the hedged item from inception of the hedge, less Chapter 6 - associated I nventor y with the ineffective component, or (2) the fair value of the cumulative change in the portion expected cashRecogni flows on theI ncluding hedged item from inception of sthe hedge. Any remaining gain or loss Chapter 7 future - Rev enue tion, Constr uction Contr act (the ineffective portion) is either taken to earnings or equity as described above. Chapter 8 - Property , Plant , and Equipment

If the hedge relates to a firm commitment or forecasted transaction, and this in turn results in the I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - of an asset or liability, then when the asset or liability is first recognized the related gains or recognition I nvestm ent Pr oper ty losses previously taken directly to equity should be removed from equity and added to or deducted from Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements the basis of the asset or liability. When the asset or liability later affects earnings (e.g., when the asset Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - or depreciated), the gain or loss will likewise impact operating results. However, the is amortized Balance Sheet Date standard impairment (and other IAS) Ter aremfully applicable, so that, for example, if deferred hedging Chapter 13on - Financial I nstr uments—LongDebt losses are added to the cost of an asset, and it later fails an impairment test, some or all of that Chapter 14 - Leases deferred loss will have to be immediately recognized. Chapter 15 - I ncom e Taxes

Chapter 16 - of Emother ploy ee Benefit In the case cash flows hedges (i.e., those not resulting in recognition of assets or liabilities), Chapter 17reflected - Stock holder s' Equit amounts in equity willybe recognized in earnings in the period or periods when the hedged firm Chapter 18 - Earnings Per Share commitment or forecasted transaction also affects earnings. Chapter 19 - I nterim Financial Repor ting

Hedge 20 accounting is to be discontinued when the hedging instrument is sold, expires, is terminated or Chapter - Segm ent Repor ting exercised. the gain orChanges loss wasand accumulated Chapter 21 -IfAccounting Cor rection in of equity, Er ror s it should remain there until such time as the

forecasted transaction occurs, when it is added to the asset or liability recorded or is taken into earnings when the transaction impacts earnings. Hedge accounting is also discontinued prospectively Chapter 23 - Related- Part y Disclosures when the hedge ceases meeting the criteria for qualification of hedge accounting. The accumulated Chapter 24 - Specialized I ndustr ies gain or loss remains in equity until the committed or forecasted transaction occurs, whereupon it will be Chapter 25 - I nflation and Hyperinflation handled as discussed above. Chapter 22 - For eign Curr ency

Chapter 26 - Gov er nm ent Gr an ts

Appendix - Diforecasted sclosure Checklist Finally, ifAthe or committed transaction is no longer expected to occur, hedge accounting is Appendix prospectively B - I llustrativ discontinued. e Financial In this St atem case,ent the s Pr accumulated esent ed Under gain I AS or loss included in equity must be

immediately taken into earnings. Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Hedges List of Tablesof

a net investment in a foreign entity.

List of Ex hibits and Ex am ples

Hedges of a net investment in a foreign entity are accounted for similarly to those of cash flows. To the extent it is determined to be effective, accumulated gains or losses are reflected in equity via the statement of changes in equity. The ineffective portion is generally reported in earnings, but to the limited extent the hedging instrument is not a derivative, the gain or loss is accounted for consistent with IAS 21, which states that exchange differences arising on a foreign currency liability accounted for as a hedge of a net investment in a foreign entity should be classified as equity until the investment is disposed of, at which time it should be recognized in earnings.

List of Sidebar s

In terms of financial reporting, the gain or loss on the effective portion of these hedges should be

classified in the same manner as the foreign currency translation gain or loss. According to IAS 21, translation gains and losses are not reported in earnings but instead are reported directly in equity, with allocation being made minority the an foreign isnnot W ile ytoI AS 2 0 03 interest : I n t erpwhen re t at ion d Ap pentity licat io o f wholly owned by the reporting entity. Likewise, any hedging gain or loss would be reported in equity. When the foreign entity is I n t er n at ion al Accou n t in g St an d ar ds disposed of, the accumulated translation gain or loss would be reported in earnings, as would any ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali related deferred hedging Mir za gain or loss. John Wi ley & Sons © 2003 (952 pages)

When a hedge does not qualify for special hedge accounting (due to failure to properly document, This com pact and t ruly com pr ehensive qui ck - refer ence ineffectiveness, etc.), any gains orants losses to betoaccounted pr esent s account withare a guide depend onfor forbased on the nature of the hedging instrument. If a derivative financial instrument, theunder gainsstanding or losses be reported in earnings. assistance in the prepar at ion and of must financial statements present ed in accordance with I AS. in earnings is mandatory. If it is not a Similarly, if the item is held for trading, immediate recognition derivative, and is an available-for-sale instrument, then the provision of IAS 39 that offers a choice of T ab le of Con t en t s reporting methods comes into play. Thus, either immediate earnings recognition or recognition in equity Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing can bedselected when IAS 39 is first applied. Consistent application of the chosen methodology will be Standar required thereafter. Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Assessing hedge effectiveness.

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Under the Chapter 3 -provisions of IAS 39, assuming other conditions are also met, hedge accounting may be of Recognized Gains and Losses

applied as long as, and to the extent that, the hedge is effective. By effective, the standard is alluding - Cash Flow St at em ent to the degree to which offsetting changes in fair values or cash flows attributable to the hedged risk are Chapter 5 - Financial I nstrinstrument. uments—Cash and Receiv ables deemed effective if, at inception and achieved by the hedging A hedge is generally Chapter 6 I nventor y throughout the period of the hedge, the ratio of changes in value of the underlying to changes in value Chapter 7 - Revinstrument enue Recogni ncluding uction Contr act s of the hedging aretion, in aI range of Constr 80 to 125%. Chapter 4

Chapter 8

- Property , Plant , and Equipment Hedge 9effectiveness be sheavily impacted by the nature of the instruments used for hedging. For Chapter - I ntangi blewill Asset

example, interest rateinswaps will Instr be almost completely effective if the es, notional I nterests Financial um ent s, Associat es, Joint Ventur and and principal amounts match, and the terms, I nvestm entrepricing Pr oper ty dates, interest and principal payment dates, and basis for measurement are theCombinations same. On theand other hand, ifed theFinhedged and hedging instruments are Chapter 11 - Business Consolidat ancial Statements denominatedCurr in different currencies, effectiveness will not be 100% most ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents in after t heinstances. Also, if the rate Chapter 12 change is partially to changes in perceived credit risk, there will be a lack of perfect correlation as Balancedue Sheet Date well. 13 - Financial I nstr uments—Long- Ter m Debt Chapter Chapter 10 -

Chapter 14 - Leases

Hedges must be defined in terms of specific identified and designated risks. Overall (enterprise) risk cannot be the basis for hedging. Also, it must be possible to precisely measure the risk being hedged; Chapter 16 - Em ploy ee Benefit s thus, threat of expropriation (which may be an insurable risk) is not a risk that can be hedged, as that Chapter 17 - Stock holder s' Equit y term is used in IAS 39. Similarly, investments accounted for by the equity method cannot be hedged, Chapter 18 - Earnings Per Share since that would be inconsistent with the equity method of accounting. In contrast, a net investment in a Chapter - I nterimcan Financial Repor ting foreign 19 subsidiary be hedged, since this is a function of currency exchange rates alone. Chapter 15 - I ncom e Taxes

Chapter 20 - Segm ent Repor ting

If a hedge not qualify for special hedge accounting Chapter 21 -does Accounting Changes and Cor rection of Er ror s because it is not effective, any gains or losses arising 22 from changes in the Chapter - For eign Curr encyfair value of a hedged item measured at fair value, subsequent to initial recognition, are reported otherwise prescribed by IAS 39. That is, if an item is held for trading, Chapter 23 - RelatedPart y as Disclosures changes are reported in earnings; if available for sale, the changes are reported in earnings or Chapter 24in- value Specialized I ndustr ies in equity, the onetime election made by the reporting entity. Chapter 25 consistent - I nflation with and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Disclosures under IAS 32 and IAS 39

Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

IAS 32 was effective in 1996 and an expansive set of disclosure requirements. IAS 39, Appendix C - Com parison of I AS, USestablished GAAP, and UK GAAP

which became effective in 2001, carried forward these requirements with only minor changes and added further informational disclosure requirements. Following are the disclosures to be made, as List of Tables relevant to the reporting entity's situation, following implementation of IAS 39. These are heavily List of Ex hibits and Ex am ples oriented toward providing the users of the financial statements with clear understanding of the reporting List of Sidebar s entity's various risks, as explained in the following paragraphs. I ndex

Primacy of risk considerations. The major objective of the disclosure requirements established by IAS 32 is to give financial statement users the ability to assess on- and off-balance-sheet risks, which prominently includes risks relating to future cash flows associated with the financial instruments. The standard presents the following typology of risk: 1.

1. Price risk, which implies not merely the risk of loss but also the potential for gain, and which is in turn comprised of W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

a. Currency risk— riskn tthat value of an instrument will vary due to changes in I n t er n at ion al The Accou in g the St an d ar ds currency rates. ISBN:0471227366 by Barexchange r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

b. Interest-rate risk— The risk that the value of the instrument will fluctuate due to changes This com pact and t ruly com pr ehensive qui ck - refer ence in market interest rates. pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

c. Market risk— A broader concept that subsumes interest rate risk, this is, the risk that will fluctuate due to factors specific to the financial instrument or due to factors that T ab le of Con t enprices ts are generally affecting other securities trading in the same Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing markets. Standar ds 2. Credit risk is related to the failure of one party to perform as it is required to contractually. Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

3. Liquidity risk (also known as funding risk) is a function of the possible difficulty to be - Balance Sheet encountered in raising funds to meet commitments; it may result from an inability to sell a I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent asset at its fair value. Chapter financial 3 Chapter 2

of Recognized Gains and Losses

Chapter 4 - Cash emrisk ent that the future cash flows associated with a monetary financial 4. Cash flowFlow risk St isatthe Chapter instrument 5 - Financial uments—Cash and willI nstr fluctuate in amount, asReceiv when ables a debt instrument carries a floating interest rate, Chapter potentially 6 - I nventor y causing a change in cash flows while fair values will remain constant (absent a Chapter coincidentally 7 - Rev enue Recogni occurring tion, change I ncluding in creditworthiness). Constr uction Contr act s Chapter 8

- Property , Plant , and Equipment

The standard does address the means by which interest rate and credit risk factors are to be - I ntangi ble Asset s addressed in the financial statements, while cash flow and liquidity risk are discussed in general terms I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - matters are elaborated upon in the following paragraphs. only. These I nvestm ent Pr oper ty Chapter 9

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Interest-rate risk in greater detail. Curr ent Liabilit ies, Prov isions, Cont ingencies,

Chapter 12 -

and Ev ents after t he

Balance Sheet Date

Interest-rate risk is the risk associated with holding fixed-rate instruments in a changing interest-rate environment. As market rates rise, the price of fixed-interest-rate instruments will decline, and vice Chapter 14 - Leases versa. This relationship holds in all cases, irrespective of other specific factors, such as changes in Chapter 15 - I ncom e Taxes perceived creditworthiness of the borrower. However, with certain complex instruments such as Chapter 16 - Em ploybonds ee Benefit s mortgage-backed (a popular form of derivative instrument), where the behavior of the underlying Chapter - Stock holder s' to Equit debtors17 can be expected be yaltered by changes in the interest-rate environment (i.e., as market Chapter - Earnings Share interest18 rates decline,Per prepayments by mortgagors increase in frequency, raising reinvestment rate risk Chapter 19 - I nterim and Financial Repor ting to the bondholders accordingly tempering the otherwise expected upward movement of the bond Chapter Segm entrelationship Repor ting will become distorted. prices),20 the- inverse Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 21 - Accounting Changes and Cor rection of Er ror s

IAS 32 22 requires thatCurr for each Chapter - For eign ency class of financial asset and financial liability, both those that are

recognized (i.e., on-balance-sheet) and those that are not recognized (off-balance-sheet), the reporting entity should disclose information which will illuminate its exposure to interest-rate risk. This includes Chapter 24 - Specialized I ndustr ies disclosure of contractual repricing dates or maturity dates, whichever are earlier, as well as effective Chapter 25 - I nflation and Hyperinflation interest rates, if applicable. Chapter 23 - Related- Part y Disclosures

Chapter 26 - Gov er nm ent Gr an ts

Appendix A - provide Di sclosure These data theChecklist user of the financial statements with an ability to predict cash flows, since fixedAppendix B I llustrativ e Financial St atem ent s(if Prassets) esent ed or Under I AS (if liabilities) at a given rate until the rate instruments will generate cash inflows outflows

maturity Cdate or the earlier date, and although other features, such as optional call dates or serial Appendix - Com parison of Irepricing AS, US GAAP, UK GAAP retirements, can complicate this further. The combination of information on contractual (or coupon) I ndex rates, maturity dates, and changing market conditions (not provided by the financial statements, but List of Tables presumably toples anyone with access to the financial press) also provides insight into the price List of Ex hibitsavailable and Ex am riskofofSidebar the underlying debt instruments, while for debt having floating rates of interest, knowledge of List s market conditions provides insight into cash flow risk.

The standard also suggests, but does not require, that when expected repricings are to occur at dates that differ significantly from contractual dates, such information be provided as well. An example is when the enterprise is an investor in fixed-rate mortgage loans and when prepayments can be reliably estimated; as the funds thereby generated will need to be reinvested at then-current market rates, altering the patterns and amounts of future cash flows from what a simple reading of the balance sheet might otherwise suggest. Information based on management expectations should be clearly

distinguished from that which is based on contractual provisions. IAS 32 suggests that a meaningful way to present this information is to group financial assets and W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f financial liabilitiesI into categories as follows: n t er n at ion al Accou n t in g St an d ar ds 1. Those debt that have fixed rates and thus expose the reporting entity to interest-rate ISBN:0471227366 byinstruments Bar r y J. Epstein and Abbas Ali (price) riskMir za John Wi ley & Sons © 2003 (952 pages)

2. Those debt instruments thatt ruly havecom floating rates and expose This com pact and pr ehensive qui ckthus - refer ence the entity to cashflow risk pr esent s account ants with a guide to depend on for

3. Those instruments, equity, which notstanding interest-rate sensitive assistancetypically in the prepar at ion andare under of financial statements present ed in accordance with I AS.

Effective interest rates, as used in this standard, means the internal rate of return, which is the discount T ab le of t en t s the present value of all future cash flows associated with the instrument with its rate thatCon equates Wiley I ASmarket 20 03—Int er pretation and way, Application current price. Put another this is of theI nternational measure of Account the timeing value of money as it relates to Standar ds the financial instrument in question. Effective interest rates cannot be determined for derivative Preface financial instruments such as swaps, forwards and options, although these are often affected by Chapter 1 in- interest I ntr oduction I nter national Accounting Standar ds changes rates,toand the effective rate disclosures prescribed by IAS 32 do not apply in such Chapter 2 Balance Sheet cases. In any event, the risk characteristics of such instruments must be discussed in the footnote I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent disclosures. Chapter 3 of Recognized Gains and Losses The nature the Flow reporting enterprise's business and the extent to which it holds financial assets or is Chapter 4 - of Cash St at em ent

obligated financialI liabilities will affectand the Receiv manner in which such disclosures are presented, and no Chapter 5 by - Financial nstr uments—Cash ables single method of making such disclosures will be suitable for every entity. The standard suggests that Chapter 6 - I nventor y in many7 cases tabular disclosure of amounts of uction financial instruments exposed to interest-rate risk will Chapter - Revaenue Recogni tion, I ncluding Constr Contr act s be useful, the instruments according to repricing or maturity dates (e.g., within one year, Chapter 8 with - Property , Plant , andgrouped Equipment

from one to- Ifive years, and over five years from the balance sheet date). In other cases (for financial ntangi ble Asset s institutions, for example), finer distinctions of maturities might be warranted. Similar tabular I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 presentations of dataentonPrfloating-rate instruments (which create cash-flow risk rather than interest-rate I nvestm oper ty |price| risk) should also be presented, pertinent. risk factors are also present, such Chapter 11 - Business Combinations andwhen Consolidat ed FinWhen ancial other Statements as credit riskCurr (discussed in the following section), a series of tabular presentations, segregating ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - into risk classes and then categorizing each in terms of maturities and so on, may be instruments Balance Sheet Date necessary convey Ithe dimensionsTer adequately Chapter 13 -toFinancial nstrrisk uments—Longm Debt to readers. Chapter 9

Chapter 14 - Leases

Sensitivity analysis has been alluded to in a number of accounting standards over the years. Since it has always been presented as an optional feature, it has rarely been employed in actual disclosures, Chapter - Em ploy eepotential Benefit s for being useful to readers. In the context of financial instruments, despite16 having great Chapter 17 -analysis Stock holder s' Equit sensitivity would implyya discussion of the effect on portfolio value of a hypothetical change Chapter Earningsplus Per or Share (say, a 18 1%- change, minus) in interest rates. There are at least two reasons why such Chapter 19 - Iunless nterim accompanied Financial Reporby ting information, an adequate discussion of the particular characteristics of the Chapter 20instruments - Segm ent in Repor ting financial question, might be misleading to financial statement readers. Chapter 15 - I ncom e Taxes

Chapter 21 - Accounting Changes and Cor rection of Er ror s

First, because theCurr phenomenon known as convexity, the value change of each successive 1% Chapter 22 - Forof eign ency

interest change in rates is not a constant, but rather, a function of current market rates. For example, if the market rate at the balance sheet date is 8%, a move to 9% might cause a $20,000 decline in value Chapter 24 - Specialized I ndustr ies in a given bond portfolio, but a further 1% change in the market rate, from 9% to 10%, would not have a Chapter 25 - I nflation and Hyperinflation further $20,000 effect. Instead, the effect would be an amount greater or lesser depending on the Chapter 26 - Gov er nm ent Gr an ts coupon (contractual) rate of interest of the underlying financial instruments. A reader, however, would Appendix A - Di sclosure Checklist rarely appreciate this fact and would probably extrapolate the sensitivity data in a linear manner, which Appendix - I llustrativ e FinancialinStthe atem ent s Pr esent ed Under I AS information. could beBmaterially misleading absence of further narrative Chapter 23 - Related- Part y Disclosures

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Second, sensitivity data most often are presented in a manner that suggests that they apply I ndex symmetrically. Thus, in the foregoing example, the presumption is that a 1% market rate decline would List of Tables boost the portfolio value by $20,000 and that a 1% rate increase would depress it by a similar amount. List of Ex hibits and Ex am ples However, some List of Sidebar s instruments, most notably those with embedded options (mortgage-backed bonds,

having prepayment options, are the most common example cited, although exotic derivatives can be far more difficult to analyze) will not exhibit symmetrical price behavior, and the asymmetries will become exaggerated as hypothetical market rates stray further from the current rates. As a practical matter, the only way to convey these subtleties in a meaningful fashion would be to incorporate extensive tables of information into the footnotes, which many users would find to be impossibly confusing. For these and possibly other reasons, although recommended by IAS 32, it is not anticipated that sensitivity data will be provided widely in the near term. If provided, however, any assumptions and the

methodologies employed should be explained adequately, along with any needed caveats concerning the validity of extrapolation over greater ranges of market rate changes and over time. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Credit risk inI greater detail. n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

IAS 32 also demands Mir zathat for each class of financial asset, both recognized (i.e., on-balance-sheet) and unrecognizedJohn (off-balance-sheet), information Wi ley & Sons © 2003 (952 pages)be provided as to exposure to credit risk. Specifically, the maximum amount of credit risk exposure as of the balance sheet date, without This com pact and t ruly com pr ehensive qui ck - refer ence considering possible recoveries from any collateral that may have pr esent s account ants with a guide to depend on forbeen provided, should be stated and any significant concentrations of credit risk should be discussed. assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Disclosure is required of the amount that best represents the maximum credit risk exposure at the T ab le of Con t en t s balance sheet date. In many cases, this is simply the carrying value of such instruments; for example, Wiley I AS 20 03—Int er pretation Application of I nternationalalready Accountprovided ing accounts receivable net of anyand allowance for uncollectibles would be the measure of Standar ds credit risk associated with trade receivables. In other cases, the maximum loss would be an amount Preface less than that which is revealed on the balance sheet, as when a legal right of offset exists but the Chapter 1 - I ntr oduction to I nter national Accounting Standar ds financial asset was not presented on a net basis on the balance sheet because one of the required Chapter 2 -set Balance Sheet conditions forth in IAS 32 (intention to settle on a net basis) was not met. In yet other I ncom e maximum Statement,accounting Stat em ent loss of Chan in Equit y, and Statem circumstances, the thatges could be incurred would ent be greater, as when the Chapter 3 of Recognized Gains and Losses asset is unrecognized in the balance sheet although otherwise disclosed in the footnotes as, for Chapter 4 - Cash Flow St at em ent example, when the entity has guaranteed collection of receivables that have been sold to another party Chapter 5 - Financial and Receiv ables (often called factoringI nstr withuments—Cash recourse, discussed earlier). Chapter 6

- I nventor y There are large number of tion, potential combinations of factors that Chapter 7 a - Rev enue Recogni I ncluding Constr uction Contr act s could affect maximum credit risk

exposure, in other than, and the Equipment most basic circumstances it is likely that extended narratives will be Chapter 8 -and Property , Plant needed9to -convey in the most meaningful way to users of the financial statements. For Chapter I ntangithe ble risks Asset fully s example, when an entity has financial assets from liabilities owed to the same I nterests in Financial Instr um ent s, owed Associat es,and Jointfinancial Ventur es, and counter-party, with the of tyoffset but without having an intent to settle on a net basis, the maximum I nvestm ent right Pr oper amount11 subject to credit risk may be lower than the of the asset. However, if past Chapter - Business Combinations and Consolidat ed carrying Fin ancialvalue Statements behavior suggests that the enterprise would probably respond to the debtor's Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he difficulties by extending Chapter 12 the maturity Balance of the financial asset beyond the maturity of the related liability, it will voluntarily expose Sheet Date itself to13 greater risk since it will presumably settle Chapter - Financial I nstr uments—LongTer m Debtits obligation and thus forfeit the opportunity to offset these related instruments. Chapter 14 - Leases Chapter 10 -

Chapter 15 - I ncom e Taxes

When the maximum credit risk exposure associated with a particular financial asset or group of assets is the same as the amount presented on the face of the balance sheet, it is not necessary to reiterate Chapter 17 - Stock holder s' Equit y this fact in the footnotes. The presumption is that there will be disclosures made for all material items Chapter 18 - Earnings Per Share for which this fact does not hold, however. Chapter 16 - Em ploy ee Benefit s

Chapter 19 - I nterim Financial Repor ting Chapter In addition 20 -toSegm disclosure ent Repor of maximum ting credit risk, IAS 32 requires disclosure of concentrations of credit

risk when are notChanges otherwise apparent from financial statements. Common examples of this Chapter 21 these - Accounting and Cor rection of the Er ror s involve 22 trade accounts that are due from debtors within one geographic region or operating Chapter - For eign Currreceivable ency within one as when a large fraction of receivables are due from, say, housing Chapter 23 -industry Related-segment, Part y Disclosures construction contractorsI ndustr in the ies Netherlands, many of whom might find themselves in financial difficulty if Chapter 24 - Specialized economic deteriorated in that narrowly defined market. In addition to geographic locale and Chapter 25 conditions - I nflation and Hyperinflation

industry, other factors to consider would include the creditworthiness of the debtors (e.g., if the reporting entity targets a market such as college students not having steady employment, or third-world Appendix A - Di sclosure Checklist governments) and the nature of the activities undertaken by the counterparties. The disclosures should Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS provide a clear indication of the characteristics shared by the debtors. Chapter 26 - Gov er nm ent Gr an ts

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex Examples of disclosures of credit risk List of Tables

Note 5: Interest Rate Swap Agreements

List of Ex hibits and Ex am ples

List ofThe Sidebar s differential to be paid or received is accrued as interest rates change and is recognized over

the life of the agreements. Note 8: Foreign Exchange Contracts The corporation enters into foreign exchange contracts as a hedge against accounts payable denominated in foreign currencies. Market value gains and losses are recognized, and the resulting credit or debit offsets foreign exchange losses or gains on those payables.

Note 13: Financial Instruments with Off-Balance-Sheet Risk In the normal course of business, the corporation enters into or is a party to various financial W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f instruments and contractual obligations that, under certain conditions, could give rise to or involve I n t er n at ion al Accou n t in g St an d ar ds elements of, market or credit risk in excess of that shown in the statement of financial condition. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali These financial instruments and contractual obligations include interest rate swaps, forward foreign Mir za exchange contracts, financial and commitments to extend credit. The corporation John Wi ley & Sonsguarantees, © 2003 (952 pages) monitors andThis limits its exposure to market risk through management policies designed to identify com pact and t ruly com pr ehensive qui ck - refer ence and reduce excess risk. The corporation limits its depend credit risk through monitoring of client credit pr esent s account ants with a guide to on for exposure, reviews, and inconservative of allowances bad debt and through the prudent assistance the prepar atestimates ion and under standing of for financial statements ed in I AS. use of collateral for largepresent amounts of accordance credit. The with corporation monitors collateral values on a daily basis and requires additional collateral when deemed necessary. T ab le of Con t en t s Wiley Note I AS 20 er pretation and Application of I nternational Account ing 6:03—Int Interest Rate Swaps and Forward Exchange Contracts Standar ds Preface The corporation enters into a variety of interest rate swaps and forward foreign exchange Chapter 1 - I ntrThe oduction to Iuse nter of national Standar ds is to reduce interest rate fluctuations and contracts. primary these Accounting financial instruments Chapter 2 Balance Sheet to stabilize costs or to hedge foreign currency liabilities or assets. Interest rate swap transactions

involve- the I ncom exchange e Statement, of floating-rate Stat em ent and of Chan fixed-rate ges in interest Equit y, and payment Statem ofent obligations without the of Recognized Gains and Losses exchange of underlying notional amounts. The company is exposed to credit risk in the unlikely Chapter 4 -ofCash Flow St at em ent event nonperformance by the counterparty. The differential to be received or paid is accrued as Chapter 5 - Financial I nstr uments—Cash and Receiv ables interest rates change and is recognized over the life of the agreement. Forward foreign exchange Chapter 6 - I nventor y contracts represent commitments to exchange currencies at a specified future date. Gains (losses) on 7these contracts servetion, primarily to stabilize costs.Contr Foreign Chapter - Rev enue Recogni I ncluding Constr uction act scurrency exposure for the corporation will8result in the ,unlikely event that the other party fails to perform under the contract. Chapter - Property Plant , and Equipment Chapter 3

Chapter 9

- I ntangi ble Asset s

Note 3: Financial Guarantees

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Financial guarantees are conditional commitments to guarantee performance to third parties. These guarantees are primarily issued to guarantee borrowing arrangements. The corporation's Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he credit Chapter 12 -risk exposure on these guarantees is not material. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Balance Sheet Date

Chapter 13 8: - Financial I nstr uments—LongTer m Debt Note Commitment to Extend Credit Chapter 14 - Leases

Loan are agreements to extend credit under agreed-upon terms. The corporation's Chapter 15 commitments - I ncom e Taxes commitment toee extend credit assists customers to meet their liquidity needs. These commitments Chapter 16 - Em ploy Benefit s

generally have fixeds' expiration or other termination clauses. The corporation anticipates that not all Chapter 17 - Stock holder Equit y of these commitments will be utilized. The amount of unused commitment does not necessarily represent future funding requirements.

Chapter 18 - Earnings Per Share

Chapter 19 - I nterim Financial Repor ting

Chapter 20 9: - Segm ent Repor ting Note Summary of Off-Balance-Sheet Financial Instruments Chapter 21 - Accounting Changes and Cor rection of Er ror s

The22off-balance-sheet financial instruments are summarized as follows (in thousands): Chapter - For eign Curr ency Chapter 23 - Related- Part y Disclosures

Financial instruments whose notional or contract amounts exceed the amount of credit risk:

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation

Contract or notional amount

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Dirate sclosure Interest swapChecklist agreements

$8,765,400

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Forward foreign exchange contracts

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

7,654,300

I ndex Financial instruments whose contract amount represents credit risk: List of Tables List of Ex hibits and Ex am ples List of Sidebar s

Contract or notional amount

Financial guarantees

$6,543,200

Commitments to extend credit

5,432,100

Concentration of credit risk for certain entities. For certain corporations, industry or regional concentrations of credit risk may be disclosed adequately

by a description of the business. Some examples of such disclosure language are 1. Credit risk for these off-balance-sheet financial instruments is concentrated in Asia and in the trucking industry. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

2. All financial entered by Ali the corporation ISBN:0471227366 relate to Japanese government, byinstruments Bar r y J. Epstein and into Abbas Mir za international, and domestic commercial airline customers. John Wi ley & Sons © 2003 (952 pages)

Example of disclosure concentration risk This comofpact and t ruly comof prcredit ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for Note 5: Significant Group Concentrations of Credit Risk

assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

The corporation grants credit to customers throughout Europe and the Middle East. As of T ab le December of Con t en t31, s 2002, the five areas where the corporation had the greatest amount of credit risk

as03—Int follows: Wiley were I AS 20 er pretation and Application of I nternational Account ing Standar ds PrefaceUnited Kingdom $8,765,400 Chapter 1 - I ntr oduction to I nter national Accounting Standar ds

Germany

Chapter 2

- Balance Sheet

7,654,300

United IArab ncom Emirates e Statement, 6,543,200 Stat em ent of Chan ges in Equit y, and Statem ent -

Chapter 3

of Recognized Gains and Losses

Turkey

Chapter 4

5,432,100

- Cash Flow St at em ent

4,321,000 ChapterFrance 5 - Financial I nstr uments—Cash and Receiv ables Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 9

- I ntangi ble Asset s

Disclosure of fair values. Chapter 8 - Property , Plant , and Equipment

IAS 32 further requires that for each class of financial asset and financial liability, the reporting I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 -should disclose information about fair value. This requirement is not operative, however, in enterprise I nvestm ent Pr oper ty the case of financial assets or liabilities that are already to be carried at fair value, per IAS 39. An Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements exception is provided in the case when it is not deemed practicable within the constraints of timeliness Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter or cost 12 to determine fair value Balance Sheet Datewith sufficient reliability. However, when an entity avails itself of this option, it must disclose that fact, coupledTer with a summary of pertinent characteristics of the instrument, Chapter 13 - Financial I nstr uments—Longm Debt such that readers can make their own assessments of fair value should they so choose. Chapter 14 - Leases Chapter 15 - I ncom e Taxeshave every reason to expect that management understands the values of the Stockholders and others Chapter 16 Em ploy eethe Benefit s assets it acquires for business or of the obligations it incurs. Therefore, a confession in the financial Chapter 17 - to Stock Equit y values could not be determined, if made more than infrequently, would statements theholder effects'that fair Chapter - Earnings Per Share appear 18 either disingenuous or an admission of managerial malfeasance. For this reason, a good-faith Chapter I nterim Financial attempt19 to -determine the fair Repor value ting data requested by IAS 32, coupled with disclosures that set forth Chapter whatever 20 caveats - Segm ent areRepor deemed ting necessary to make the information not misleading, is probably the best

course 21 to follow. Chapter - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Beyond the basic concern of computing fair values, there is the further issue of what this information is intended to imply. This question arises most commonly in the context of financial obligations, which Chapter 24 - Specialized I ndustr ies represent contractual commitments to repay fixed sums at fixed points in time, that are not subject to Chapter 25 - I nflation and Hyperinflation adjustment for market-driven changes in value. Chapter 23 - Related- Part y Disclosures

Chapter 26 - Gov er nm ent Gr an ts

Appendix A - Diassume sclosure that Checklist For example, an entity owes a bank loan carrying fixed 9.5% interest, with the principal Appendix due as aB$300,000 - I llustrativ balloon e Financial payment St atem three ent syears Pr esent hence. ed Under If current I AS rates are 7%, the fair value of this

obligation something thanGAAP, its face (in fact, the computed present value of future cash Appendix C is - Com parison greater of I AS, US andvalue UK GAAP flows, discounted at 7%, is 5342,060, which will be the surrogate for fair value), yet the contractual I ndex obligation is unchanged at the original $300,000. What, then, is the purpose of communicating to List of Tables financial statement that the fair value is the higher, $342,060, amount? List of Ex hibits and Exusers am ples List of Sidebar s

The explanation of this disclosure is that the economic burden being borne by the entity is heavier than would have been the case had a floating market rate of interest been attached to the debt. The spread between the disclosed fair value, $342,060, and the face amount of the debt, $300,000, is the present value of the additional interest to be paid in the future under the fixed-rate agreement over the amount that would be payable at the current market rate. Thus, fair value disclosure does not measure future cash flows, per se, but rather is an indication of economic burden or benefit in the assumed absence of any restructuring or other alteration of the debt.

Fair value is the exchange price in a current transaction (other than in a forced or liquidation sale) between willing parties. If a quoted market price is available, it should be used, after adjustment for transaction costs Wthat incurred ad real ile ywould I AS 2normally 0 03 : I n tbe erp re t at ioninan Aptransaction p licat io n o fof this type. If there is more than one market price,I the one used should be the one from the most active market. The possible effects on n t er n at ion al Accou n t in g St an d ar ds market price frombythe sale of large holdings and/or from thinly traded issues should generally be ISBN:0471227366 Bar r y J. Epstein and Abbas Ali disregarded for purposes Mir za of this determination, since it would tend to introduce too much subjectivity into this measurement John Wi process. ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence

If quoted market prices unavailable, management's best estimate of fair value can be used. A pr esentare s account ants with a guide to depend on for number of standardized techniques, which attempt to tiestanding the prices of various financial instruments to assistance in the prepar at ion and under of financial statements present ed values, in accordance with employed I AS. those having readily determinable fair are widely for this purpose. Some bases from which an estimate may be made include T ab le of Con t en t s Matrix pricing models and Application of I nternational Account ing Wiley1.I AS 20 03—Int er pretation Standar ds 2. Option pricing models Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

3. Financial instruments with similar characteristics adjusted for risks involved

I ncom e Statement, Stat em entvaluation of Chan ges in Equit y,(i.e. andpresent Statem ent 4. Financial instruments with similar techniques value) adjusted for risks Chapter 3 of Recognized Gains and Losses involved Chapter 4

- Cash Flow St at em ent IAS 32 5notes that in some instances when instruments are not traded in active markets (or perhaps Chapter - Financial I nstr uments—Cash andthe Receiv ables

when bid-ask prices yare widely spread, as with thinly traded or unlisted securities), rather than Chapter 6 - I nventor presenting single valuetion, estimate, which might convey a act sense of precision that is not warranted Chapter 7 - aRev enuefair Recogni I ncluding Constr uction Contr s under the range of fair values should be displayed. Actually, in a number of earlier Chapter 8 circumstances, - Property , Planta, and Equipment

proposals and discussions among academics, standards setters, users, and others, the idea of matrix - I ntangi ble Asset s reporting, showing alternative valuations relating to defined conditions, this approach has been I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 -but it has rarely been seen as an attractive option. The opposition generally derives from the proposed, I nvestm ent Pr oper ty fear that readers alternativeand valuations will to cause confusion. Furthermore, it could Chapter 11offering - Business Combinations Consolidat edserve Fin ancial Statements devalue the Curr financial reporting process by alluding to an inability to ascertain a single correct answer. It ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 is the authors' expectation that few preparers will avail themselves of this suggestion and more likely Balance Sheet Date will present single fair value amount to Ter be massociated with each class of financial asset and financial Chapter 13 - a Financial I nstr uments—LongDebt liability,14 with appropriate caveats expressed, as needed, in the accompanying narrative disclosures. Chapter - Leases Chapter 9

Chapter 15 - I ncom e Taxes

Example

Chapter 16 - Em ploy ee Benefit s

Note Financial Disclosures of Fair Value Chapter 17 X: - Stock holder Instruments s' Equit y Chapter 18 - Earnings Per Share

The estimates of fair value of financial instruments are summarized as follows (in thousands):

Chapter 19 - I nterim Financial Repor ting

Chapter 20 - Segmfor entwhich Reporcarrying ting Instruments amounts approximate fair values: Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Carrying amount Chapter 23 - Related- Part y Disclosures

Cash

$987.6

Chapter 24 - Specialized I ndustr ies

876.5 ChapterCash 25 - equivalents I nflation and Hyperinflation ChapterTrade 26 - receivables Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

Trade payables

765.4 (654.3)

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Fair values approximate carrying values because of the short time until realization or liquidation.

List ofInstruments Tables for which fair values exceed carrying amounts: List of Ex hibits and Ex am ples List of Sidebar s

Short-term securities Long-term investments

Carrying amount

Fair value

$876.5

$987.6

765.4

876.5

Estimated fair values are based on available quoted market prices, present value calculations, and option pricing models. Instruments for which carrying amounts exceed fair values:

Carrying amount

Fair value

W ile y I AS 2($543.2) 0 03 : I n t erp re t at ion an d Ap p licat io n o f Long-term debt ($432.1) I n t er n at ion al Accou n t in g St an d ar ds ISBN:0471227366 Bar r y are J. Epstein Abbas Ali Estimated fairbyvalues basedand on quoted market prices, present value calculations, and the za or similar instruments after considering risk, current interest rates, and prices of the Mir same John Wi ley & Sons © 2003 (952 pages) remaining maturities.

This com pact and t ruly com pr ehensive qui ck - refer ence esent s account ants with a guide to depend on for Unrecognizedprfinancial instruments: assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Carrying amount

Fair value

(6,543.2)

(7,654.3)

T ab le of Con t en t s

Financial guarantees

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Estimated fair values after considering risk, current interest rates and remaining maturities were based on the following:

Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 4

- Cash Flow St at em ent

1. Credit commitments— Value of the same or similar instruments after considering credit I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - ratings of counterparties. of Recognized Gains and Losses Chapter 52. - Financial Financial I guarantees— nstr uments—Cash Cost and to Receiv settle or ables terminate obligations with counterparties at Chapter 6

- reporting I nventor ydate.

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Fair value not estimated:

Chapter 10 -

Carrying amount valueVentur es, and I nterests in Financial Instr um ent s, AssociatFair es, Joint I nvestm ent Pr oper ty

Long-term investment

$1,234.5

--

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit Prov isions, Cont ingencies, and Ev entscosts. after Investment t he Fair12value could not beies, estimated without incurring excessive is carried at Chapter Date an 8% investment in the common stock of a privately held untraded original Balance cost andSheet represents Chapter 13 - Financial I nstr uments—LongTer m Debt company that supplies the corporation. Management considers the risk of loss to be negligible. Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Financial assets carried

at amounts in excess of fair value.

Chapter 17 - Stock holder s' Equit y

Prior to18 the- implementation of IAS 39, there were certain circumstances in which an entity might have Chapter Earnings Per Share carried 19 one- or several financial assets Chapter I nterim Financial Repor ting at amounts that exceeded fair value, notwithstanding the general rule under theory that such declines should be formally recognized in most instances. Chapter 20 -accounting Segm ent Repor ting

Normally, failure to recognize such declines would have been justified only when there is no objective evidence of impairment.

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Chapter - Relatedy Disclosures IAS 32 23 requires that Part when one or more financial assets are reported at amounts that exceed fair value, Chapter 24 Specialized I ndustr ies carrying amount and fair value, either individually or grouped in an disclosure should be made of both Chapter 25 - Imanner, nflation and appropriate and Hyperinflation the reasons for not reducing the carrying value to fair value should be set Chapter 26 - Govthe er nm ent Grof anthe ts evidence that provides the basis for management's belief that the forth, including nature Appendix - Di sclosure Checklist The purpose is to alert the financial statement readers to the risk that carrying Avalue will be recovered.

carrying Bamounts might later be St reduced change circumstances causes management to reassess Appendix - I llustrativ e Financial atem entifsaPr esent edinUnder I AS the likelihood of recovery. Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

With the implementation of IAS 39, the issue of reporting investments or other financial assets at amounts in excess of fair value became virtually moot. Essentially, only held-to-maturity investments in List of Ex hibits and Ex am ples debt instruments, and holding of loans and receivables originated by the enterprise, might be presented List of Sidebar s at amounts in excess of fair value, for instance, when they carry a fixed interest rate that is lower than the prevailing market interest rates for similar instruments and there is no objective evidence of impairment. List of Tables

Other disclosure requirements. IAS 32 encourages financial statement preparers to make other disclosures as warranted to enhance the readers' understanding of the financial statements and hence, of the operations of the enterprise being reported on. It suggests that these further disclosures could include such matters as

1. The total amount of change in the fair value of financial assets and financial liabilities that has been recognized in income for the period W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

2. The average during I n t aggregate er n at ion alcarrying Accou namount t in g St an d ar dsthe year being reported on of recognized financial assets liabilities; principal, stated, notional, or ISBN:0471227366 by Barand r y J. financial Epstein and Abbas the Ali average aggregate Mir za of unrecognized financial assets and financial liabilities; and the average similar amounts Wi ley of & all Sons © 2003 (952 pages) aggregateJohn fair value financial assets and financial liabilities, all of which information is particularlyThis useful the tamounts onehensive hand at qui theckbalance sheet dates are not representative comwhen pact and ruly com pr - refer ence pr esent s account antsthe with a guide to depend on for of the levels of activity during period assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Categorization of financial assets and liabilities. T ab le of Con t en t s

IAS 39 establishes four categories of financial assets and liabilities, as follows:

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar 1. ds Held-for-trading; Preface

2. Available-for-sale; Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Chapter 2

- Balance Sheet

Chapter 3

-

3. Held-to-maturity; and

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Recognized Gains and Losses 4. Loansofand receivables originated by the entity and not held for trading.

Chapter 4

- Cash Flow St at em ent When relevant, the financial statements and mustReceiv disclose, Chapter 5 - Financial I nstr uments—Cash ablesfor each of these four categories of instruments,

whether6 regular wayypurchases of securities are accounted for at trade date or settlement date. Chapter - I nventor Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Also to be disclosed are a description of the reporting entity's financial risk management objectives and - Property , Plant , and Equipment policies, including its policy for each major type of forecasted transaction (for example, in the case of Chapter 9 - I ntangi ble Asset s hedges of risks relating to future sales, that description should indicate the nature of the risks being I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter hedged,10approximately how many months or years of future sales have been hedged, and the I nvestm ent Pr oper ty approximate percentage of sales in those future months or years); whether gain or loss on financial Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements assets and liabilities measured at fair value subsequent to initial recognition, other than those relating Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 -has been recognized directly in equity, and if so, the cumulative amount recognized as of to hedges, Balance Sheet Date the balance sheet date; and, when fair value cannot be reliably measured for a group of financial Chapter 13 - Financial I nstr uments—Long- Ter m Debt assets or financial liabilities that would otherwise have to be carried at fair value, that fact should be Chapter 14 - Leases disclosed together with a description of the financial instruments, their carrying amount, and an Chapter 15 - I ncom e Taxes explanation of why fair value cannot be reliably measured. Chapter 8

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' hedges, Equit y cash flow hedges, and hedges of net investment in a foreign entity, For designated fair value Chapter there are 18 to - Earnings be separate Per Share descriptions of the hedges, the financial instruments designated as hedging

instruments with fairRepor values at the balance sheet date, the nature of the risks being hedged, Chapter 19 - Itogether nterim Financial ting and for 20 forecasted transactions, Chapter - Segm ent Repor ting the periods in which the forecasted transactions are expected to occur, when they expectedChanges to enterand intoCor therection determination Chapter 21 -are Accounting of Er ror sof net profit or loss (e.g., a forecasted acquisition property may Chapter 22 - of For eign Curr encyaffect earnings over the asset's depreciable lifetime), plus a description of

any forecasted transaction for which hedge accounting was previously employed but which is no longer Chapter 23 - RelatedPart y Disclosures expected to occur.

Chapter 24 - Specialized I ndustr ies Chapter 25 - Ihas nflation Hyperinflation When there beenand a gain or loss on derivative and nonderivative financial assets or liabilities Chapter 26 Gov er nm ent Gr an ts designated as hedging instruments in cash flow hedges which has been recognized directly in equity, Appendix A -isDitosclosure Checklist disclosure be made of the amount so recognized during the current reporting period, the amount Appendix B I llustrativ e Financial St atem ent s Pr esent ed period, Under Iand AS the amount removed from equity and removed from equity and included in earnings for the Appendix Cominitial parison of I AS, US GAAP, and UK GAAP includedCin- the measurement of acquisition cost or carrying amount of the asset or liability in a I ndex hedged forecasted transaction during the current period. List of Tables

The financial statements must also disclose the following with regard to financial instruments: the amount of any gains or losses resulting from remeasuring available-for-sale instruments at fair value, List of Sidebar s included directly in equity in the current period, and the amount removed from equity and reported in current operating results; a description of any held-for-trading or available-for-sale financial assets for which fair value cannot be determined, together with (when possible) the range of possible fair values thereof; the carrying amount and gain or loss on sale of any financial assets whose fair value was not previously determinable; significant items of income, expense, gain and loss resulting from financial assets or liabilities, whether included in earnings or in equity, with separate (gross) reporting of interest income and interest expense, and with separate reporting of realized and unrealized gains and losses resulting from available-for-sale financial assets. It is not necessary to distinguish realized and List of Ex hibits and Ex am ples

unrealized gains and losses resulting from held-for-trading financial assets, however. If there are impaired loans, the amount of interest accrued but not received in cash must be disclosed. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

If the entity has participated in securitizations or repurchase agreements, these must be described, and ISBN:0471227366 Bar r y J.and Epstein and Abbas Ali made in computing the nature of any by collateral key assumptions retained or new interests are to be Mir za discussed. There must be disclosure of whether the financial assets have been derecognized. John Wi ley & Sons © 2003 (952 pages)

This of com pact and t ruly from com prcategories ehensive qui ck - referat ence Any reclassifications financial assets reported fair value to those reported at pr esent s account ants with a guide to depend on for amortized historical cost (either because now deemed held-to-maturity, or because fair values are no assistance in the prepar at ion and under standing of financial longer obtainable)statements are to be explained. present ed in accordance with I AS.

Finally, anyt impairments or reversals of impairments are to be disclosed, separately for each class T ab le of Con en t s (held-to-maturity, of investment. Wiley I AS 20 03—Intetc.) er pretation and Application of I nternational Account ing Standar ds

Proposed Changes to IAS 32 and IAS 39

Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2 has - Balance Sheet a project, Improvements to IAS 39: Recognition and Measurement , which The IASB undertaken promises to Iresult, ncom ein Statement, the early part Stat em of 2003, ent of in Chan significant ges in Equit changes y, andtoStatem both IAS ent 32 and IAS 39. Many of Chapter 3 of Recognized and Losses these changes will simplifyGains application of these standards. Chapter 4

- Cash Flow St at em ent The more these changes proposed forables IAS 32 are as follows: Chapter 5 important - Financial of I nstr uments—Cash and Receiv Chapter 6

- I nventor y

Regarding the classification of compound instruments by the issuer, the amendments will eliminate - Rev enue Recogni tion, I ncluding Constr uction Contr act s the present options in IAS 32 to measure the liability element of a compound financial instrument Chapter 8 - Property , Plant , and Equipment initially either as a residual amount, after separating the equity element, or by measuring the Chapter 9 - I ntangi bleon Asset s elements based a relative fair value method. Instead, any asset and liability elements are I nterests in Financial Instrisum ent s, es, Joint es,equity and element. This will separated first, and the residual then toAssociat be accounted forVentur as the Chapter 10 I nvestm ent Pr oper ty conform the requirements in IAS 32 relating to the separation of liability and equity elements with Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements the definition in IAS 39 of an equity instrument as a residual. Chapter 7

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balance Date Concerning the Sheet classification of derivatives based on an entity's own shares, the amendment will Chapter 13 Financial I nstr uments—LongTer m Debt provide guidance as follows: Chapter 14 - Leases

that is indexed to the price of an entity's own shares and requires net cash or net Chapter 15 A- derivative I ncom e Taxes settlement, Chapter 16 share - Em ploy ee Benefitors that gives the counterparty a choice of net cash or net share settlement, be holder treateds' as a derivative asset or derivative liability (i.e., not as an equity instrument) Chapter 17 is- to Stock Equit y and is to be accounted for as such under IAS 39.

Chapter 18 - Earnings Per Share

Chapter 19 A- derivative I nterim Financial Repor tingto the price of an entity's own shares and gives the entity a right to that is indexed Chapter 20 require - Segmnet ent cash Reporor ting net share settlement instead of gross physical settlement is to be treated Chapter 21 as - Accounting Cor rection of Er(i.e., ror s not as an equity instrument), unless the entity a derivativeChanges asset orand derivative liability Chapter 22 has - For eign Curr ency history of settling such contracts through a gross exchange of a fixed an established Chapter 23 number - RelatedDisclosures of Part the yentity's own shares for a fixed amount of cash or other financial assets. Chapter 24 - Specialized I ndustr ies

the Hyperinflation fair value of a derivative that is fully indexed to the price of an entity's own Chapter 25 Changes - I nflationinand

shares and that will result in the receipt or delivery of a fixed number of an entity's own shares in exchange for a fixed amount of cash or other financial assets are not recognized in the Appendix A - Di sclosure Checklist financial statements, since to do otherwise would be to allow changes in the value of the Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS reporting entity's equity shares to be reflected in its earnings. Chapter 26 - Gov er nm ent Gr an ts

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

When a derivative involves an obligation to pay cash in exchange for receiving an entity's own

List of Tables shares, there is a liability for the share redemption amount. The objective of this proposed List of Ex hibits and Ex amisples amendment to clarify the requirements affecting the classification of derivatives based on

an sentity's own shares to promote the consistent application of those requirements. List of Sidebar The changes to IAS 32 affecting disclosures to be made in the financial statements are as follows: The exemption in IAS 32 from the requirement to disclose fair value of certain financial assets and financial liabilities would be conformed to the exemption in IAS 39 from the requirement to measure at fair value certain unquoted financial assets and financial liabilities. Disclosure would be required of:

The extent to which fair values are estimated using a valuation technique. The extent to which valuations using valuation techniques are based on assumptions that are W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f not supported by observable market prices. I n t er n at ion al Accou n t in g St an d ar ds by Bar r yofJ.the Epstein and Abbas Ali to changes ISBN:0471227366 The sensitivity estimated fair value in those assumptions based on a range Mir za of reasonably possible alternative assumptions. John Wi ley & Sons © 2003 (952 pages)

This com pact and t ruly com pr ehensive qui ck - refer ence The change in fair values estimated using valuation techniques recognized in profit or loss pr esent s account ants with a guide to depend on for during the reporting period. assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

The nature and extent of transfers of financial assets that do not qualify for derecognition. T ab le of Con t en t s

The risks inherent in any component that continues to be recognized after a transfer of

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds financial assets that does not qualify for derecognition. Preface Chapter 1 Chapter 2

The difference between the carrying amount and settlement amount of nonderivative financial - I ntr oduction to I nter national Accounting Standar ds liabilities that are carried at fair value. - Balance Sheet

Any I ncom defaults e Statement, in the payment Stat em of entprincipal of Chan ges or interest in Equitand y, and breaches Statem ent of sinking fund or of Recognized Gains and Losses redemption provisions on loans payable, and any other breaches of loan agreements when Chapter 4 those - Cashbreaches Flow St atcan em ent permit the lender to demand repayment. Chapter 3

Chapter 5

- Financial I nstr uments—Cash and Receiv ables An6issuer of a compound instrument with multiple embedded derivative features (such as an issued Chapter - I nventor y

callable convertible bond) is required disclose information Chapter 7 - Rev enue Recogni tion, I ncludingtoConstr uction Contr act sabout the existence of those features and the effective yield of that instrument. - Property , Plant , and Equipment

Chapter 8

Chapter - I ntangi ble Asset srequirements in IAS 39 will be moved to IAS 32. The9 existing disclosure I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent certain Pr oper tySIC Interpretations would be incorporated into IAS 32, as follows: Existing elements from Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

SIC 5, but be made toingencies, the principle a financial Currno entexception Liabilit ies,would Prov isions, Cont and that Ev ents after t heinstrument that an entity could potentially be required Balance Sheet Date to settle by delivering cash or other financial assets, depending on the occurrence or nonoccurence of uncertain future events or on the outcome of uncertain Chapter 13 - Financial I nstr uments—LongTer m Debt circumstances Chapter 14 - Leases that are beyond the control of both the issuer and the holder, should be classified as a financial liability. Chapter 15 - I ncom e Taxes Chapter 12 -

Chapter 16 - Em ploy ee Benefit s

SIC 16 and SIC 17, in their entireties.

Chapter 17 - Stock holder s' Equit y

Chapter 18key - Earnings PerofShare Also, the elements proposed SIC 34, addressing the matter of financial instruments or rights that Chapter 19 - I nterim Financial Repor tingbe incorporated into IAS 32. This draft interpretation states that are redeemable by the holder, would Chapter 20 - Segm ent Repor ting

An21 issued instrument that involves right for therorholder to put the instrument back to the issuer for Chapter - Accounting Changes and Corarection of Er s

cash or another financial asset, the amount of which is determined based on an index or other item that has the potential to increase and decrease, is a liability; and

Chapter 22 - For eign Curr ency

Chapter 23 - Related- Part y Disclosures

Chapter - Specialized I ndustr ies An24 entity (such as an open-ended mutual fund or unit trust) may present a liability to repay a Chapter 25 I nflation and Hyperinflation proportionate share of the net asset value of the entity as "net asset value available to unit holders" Chapter Gov er Gr an ts sheet and the change in the value of the liability as "change in net asset on 26 the- face ofnm theent balance Appendix A available - Di sclosure Checklist value to unit holders" on the face of the income statement. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Turning now to the changes proposed for and IAS UK 39,GAAP the various amendments would affect the following Appendix C - Com parison of I AS, US GAAP, provisions:

I ndex

List ofATables specific scope exclusion would be added for loan commitments that are not designated as held List offor Ex trading hibits and Excannot am plesbe settled net. The objective would be to simplify the accounting for entities and List ofthat Sidebar s or hold loan commitments that will result in the origination of a loan asset and, in the grant

absence of a specific scope exclusion, would be accounted for as derivatives under IAS 39. Financial guarantee contracts are to be initially recognized and measured in accordance with IAS 39. Subsequently, the issuer of such a contract would measure it at the amount the entity would rationally pay to settle the obligation at the balance sheet date or transfer it to a third party, consistent with the provisions of IAS 37. The objective of the proposed amendment would be to ensure that issued financial guarantee contracts that provide for specified payments to be made to reimburse the holder for a loss it incurs because a specified debtor fails to make payment when

due are recognized as liabilities. Contracts to buy or sell nonfinancial items would have to be accounted for as derivatives if the W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f entity has a practice of taking delivery of the underlying and selling it within a short period after I n t er n at ion al Accou n t in g St an d ar ds delivery for the purpose of generating profit from short-term fluctuations in price or dealer's margin. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali The objectiveMir would za be to ensure that derivative-type contracts on nonfinancial items are accounted forJohn as derivatives when they are used for trading purposes. It is not the intent to change Wi ley & Sons © 2003 (952 pages) the accounting for entities that profit from delivery of goods rather than speculating on price This com pact and t ruly com pr ehensive qui ck - refer ence changes. pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial

There would alsostatements be changespresent to theed provisions affecting derecognition of a financial asset, as in accordance withthe I AS. follows:

T ab le of Con t en t s

Wiley The I AS 20 03—Int er pretation and in Application of I nternational ing derecognition provisions IAS 39 would be clarifiedAccount by establishing as the guiding principle a Standar ds continuing involvement approach that disallows derecognition to the extent to which the transferor Preface has continuing involvement in an asset or a portion of an asset it has transferred. A transferor Chapter 1 -be I ntr oductiontoto I nteranational Accounting Standar ds would deemed have continuing involvement when Chapter 2

Sheet 1. - ItBalance could, or could be required to, reacquire control of the transferred asset (for example, if I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - the financial asset can be called back by the transferor, the transfer does not qualify for of Recognized Gains and Losses derecognition to the extent of the asset that is subject to the call option); or Chapter 4

- Cash Flow St at em ent

Chapter 52. - Compensation Financial I nstr uments—Cash Receiv ables based on the and performance of the transferred asset will be paid (for example, Chapter 6 - ifI nventor y the transferor provides a guarantee, derecognition is precluded up to the amount of the Chapter 7

- guarantee). Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

No exceptions would be permitted to the general principle. The following existing provisions in IAS 39 - I ntangi ble Asset s accordingly would have to be eliminated:

Chapter 9

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

I nvestm entthe Pr oper ty 1. The notion that transferor must not retain substantially all of the risk and returns of particular Chapter assets 11 - Business andassets Consolidat ed Finfor ancial Statements and for anyCombinations portion of those to qualify derecognition; Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - transferee "right to sell or repledge" condition for derecognition. 2. The Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Guidance would be provided on pass-through arrangements. When the transferor continues to collect cash flows from the transferred asset, additional conditions would have to be met for a transfer to Chapter 15 - I ncom e Taxes qualify for derecognition, including Chapter 14 - Leases

Chapter 16 - Em ploy ee Benefit s

1. The transferor could have no obligation to pay cash flows to the transferee unless it collects equivalent cash flows from the transferred asset;

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

Chapter 19 - transferor I nterim Financial Repor 2. The could not useting the transferred asset for its benefit; and Chapter 20 - Segm ent Repor ting

3. The be obligated to remit a stimely basis to the transferee, any cash flows it Chapter 21 - transferor Accountingwould Changes and Cor rection of on Er ror on behalf of the transferee. Chapter collects 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures

Guidance would also be provided on the accounting for collateral, including

Chapter 24 - Specialized I ndustr ies

1. If the ability to sell or repledge collateral received, the transferor would have Chapter 25the - I transferee nflation andhas Hyperinflation to reclassify the collateral in its balance sheet (for example, as securities pledged);

Chapter 26 - Gov er nm ent Gr an ts

Appendix - Di sclosure Checklist 2. If Athe transferee were to sell the collateral received, the transferee would record a liability for the Appendixobligation B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS to return the collateral; and Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex3. If the transferor were to default and no longer be entitled to the transferred net asset, the

transferor would derecognize the asset and the transferee would recognize the asset. List of Tables List of Ex hibits and Ex am ples

The objective of these proposed amendments is to facilitate the implementation and application of IAS 39 by clarifying the guidance and eliminating internal inconsistencies. The results of applying the proposed amendments are generally consistent with the guidance that already exists in IAS 39 and the guidance that has been provided by the IAS 39 IGC regarding the matter of derecognition. However, under the proposed amendments, the assessment of derecognition is based on the continuing involvement of the transferor with the financial asset being transferred. It would not be necessary to consider risk retained and to use that as the basis for assessing whether derecognition is appropriate.

List of Sidebar s

Concerning the matter of measurement, a number of changes have been proposed.

An entity would be permitted to measure any financial asset or financial liability at fair value, with changes in fair value recognized in profit or loss, by designating it at initial recognition as held for trading. In presenting and entity could use W ile y I AS 2 0disclosing 03 : I n t erpinformation, re t at ion anan d Ap p licat io n o f an appropriate label for such instruments other than trading (such as "financial instruments at fair value [through net income]"). I n t er n at ion al Accou n t in g St an d ar ds To impose discipline on this approach, an entity would be precluded from reclassifying financial ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali instruments into Mir za (or out of) the category during the holding period. The objective would be to simplify the application John Wi ley of & Sons IAS 39 © 2003 (for (952 example, pages) for hybrid instruments and for entities with matched asset/liabilityThis positions) and to tenable consistent measurement of financial assets and financial com pact and ruly com pr ehensive qui ck - refer ence esent s account ants with a guide to the depend on for liabilities. Theprproposed designation would be at entity's option and would not require greater assistance in present the prepar at ionIAS and39. under standing of financial use of fair values than at under statements present ed in accordance with I AS.

The option to recognize gains and losses on available-for-sale financial assets in profit or loss would be eliminated (because it is no longer necessary in light of the proposed amendment just Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing noted). Under that proposed amendment, an entity is permitted by designation to measure any Standar ds financial instrument at fair value with gains and losses reported in net income. Preface

T ab le of Con t en t s

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds An entity would be permitted to designate an asset that would otherwise be classified as a loan or

Chapter 2 - Balance Sheet by the entity as an available-for-sale financial asset. receivable originated I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of Recognized Gainsbe and Losses about how to determine fair values using valuation Additional guidance would provided Chapter 4 - CashThe Flowobject St at em ent be to establish what the transaction price would have been on the techniques. would Chapter 5 - Financial I nstr and Receiv ables measurement date in uments—Cash an arm's-length exchange motivated by normal business considerations. A Chapter valuation 6 - I nventor technique y (1) incorporates all factors that market participants would consider in setting a

price, is consistent with accepted economic methodologies for pricing financial instruments. Chapter 7 -and Rev(2) enue Recogni tion, I ncluding Constr uction Contr act s In applying valuation an entity would use estimates and assumptions that are Chapter 8 - Property , Planttechniques, , and Equipment consistent withble available Chapter 9 - I ntangi Asset s information about the estimates and assumptions market participants would use in setting a price for the instrument. I nterests in Financial Instr umfinancial ent s, Associat es, Joint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty

The amendments would also address accounting for the impairment of financial assets with the following directives:

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Guidance would be provided about how to evaluate impairment that is inherent in a group of loans, receivables, or held-to-maturity investments, but cannot yet be identified with any individual Chapter 14 - Leases financial asset in the group as follows: Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 15 - I ncom e Taxes

asset is individually identified as impaired should not be included in a group of assts Chapter 16 An - Em ploy that ee Benefit s are holder collectively for impairment. Chapter 17 that - Stock s' Equitassessed y Chapter 18 - Earnings Per Share

An asset that has been individually assessed for impairment and found not to be individually impaired should be included in a collective assessment of impairment. The occurrence of an Chapter 20 - Segm ent Repor ting event or a combination of events should not be a precondition for including an asset in a Chapter 21 - Accounting Changes and Cor rection of Er ror s group of assets that are collectively evaluated for impairment. Chapter 19 - I nterim Financial Repor ting

Chapter 22 - For eign Curr ency

Chapter 23 Assets - RelatedPart ybe Disclosures should grouped by similar credit risk characteristics that are indicative of the Chapter 24 debtors' - Specialized abilityI ndustr to payies all amounts due according to the contractual terms. Chapter 25 - I nflation and Hyperinflation

Contractual cash flows and historical loss experience should provide the basis for estimating expected cash flow. Historical loss rates should be adjusted on the basis of relevant Appendix A - Di sclosure Checklist observable data that reflect current economic conditions. Chapter 26 - Gov er nm ent Gr an ts

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Appendix CThe - Com parison of I AS, US GAAP, and UK GAAPshould ensure that an impairment loss is not methodology for measuring impairment I ndex recognized immediately on initial recognition. Therefore, for the purposes of measuring List of Tables impairment in groups of assets, estimated cash flows (contractual principal and interest List of Ex hibits payments and Ex adjusted am ples for estimated credit losses) should be discounted using an original

effective interest rate that equates the present value of the originally estimated cash flows List of Sidebar s with the initial net carrying amount of those assets. The objective of the proposed amendment is to ensure that impairment losses that exist in a group of assets are recognized in the financial statements even though they cannot yet be identified with any individual assets. Guidance would also be provided on what constitutes objective evidence of impairment for investments in equity instruments.

Impairment losses recognized on investments in debt or equity instruments that are classified as available for sale could not be reversed. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Concerning the matter accounting, amendments proposed to IAS 39 would do the I n t er nofathedge ion al Accou n t in g the St an d ar ds following: ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

Hedges of firm commitments would be treated as fair value hedges rather than cash flow hedges. This forecast com pact transaction and t ruly com pr ehensive quiand ck - refer ence When a hedged actually occurs results in an asset or liability, the gain or pr esent s account ants with a guide to depend on for loss deferred in equity would not adjust the initial carrying amount of the asset or liability (basis assistance in the prepar at ion and under standing of financial adjustment), statements but remainspresent in equity and is reported in profit ed in accordance with I AS. or loss in a manner that is consistent with the reporting of gains and losses on the asset or liability. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Chapter 6: Inventory I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

za PerspectiveMirand Issues

John Wi ley & Sons © 2003 (952 pages)

The accounting for This inventories com pact and is a tmajor ruly com consideration pr ehensive qui forck many - referentities ence because of its significance on pr esent s account ants with sold) a guide depend on for both the income statement (cost of goods andtothe balance sheet. Inventories are defined by IAS 2 as items that are assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

...held for sale in the ordinary course of business; in the process of production for such sale; or in T ab le the of Con t en form oft smaterials or supplies to be consumed in the production process or in the rendering of Wiley services. I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Preface The complexity of accounting for inventories arises from several factors. Chapter 1 - I ntr oduction to I nter national Accounting Standar ds

1. The high volume of activity (or turnover) in the account

Chapter 2

- Balance Sheet

2. The- various I ncom e cost Statement, flow alternatives Stat em entthat of Chan are acceptable ges in Equit y, and Statem ent

Chapter 3

of Recognized Gains and Losses 3. The ofem inventories Chapter 4 - classification Cash Flow St at ent Chapter 5

- Financial I nstr uments—Cash and Receiv ables

There are two types of entities for which we must consider the accounting for inventories. The - I nventor y merchandising entity (generally, a retailer or wholesaler) has a single inventory account that is usually Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s titled merchandise inventory. These are the goods on hand that are purchased for resale. The other Chapter 8 - Property , Plant , and Equipment type of entity is the manufacturer. The manufacturer generally has three types of inventory: (1) raw Chapter 9 (2) - I ntangi Asset s and (3) finished goods. Raw materials inventory represents the goods materials, work ble in process, I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and purchased Chapter 10 - that will act as inputs in the production process leading to the finished product. Work in I nvestm ent Pr oper ty process (WIP) consists of the goods entered into production but not yet completed. Finished goods Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements inventory is the completed product that is on hand awaiting sale. Chapter 6

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balance In the case of either Sheet type ofDate entity we are concerned with satisfying the same basic questions.

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

1. At what point in time should the items be included in inventory (ownership)?

Chapter 14 - Leases

Chapter 15 - I ncom Taxes should be included in the valuation of inventories? 2. What costseincurred Chapter 16 - Em ploy ee Benefit s

3. What cost holder flow assumption should be used? Chapter 17 - Stock s' Equit y Chapter 18 - Earnings Per Share

4. At what value should inventories be reported (net realizable value)?

Chapter 19 - I nterim Financial Repor ting

Chapter 20 - Segm ent Repor ting standard that addresses these questions is IAS 2. This standard The promulgated international discusses definition,Changes valuation, ofs inventory. The extant standard is a modest Chapter 21 -the Accounting andand Corclassification rection of Er ror

revision22of -an standard; Chapter Forearlier eign Curr ency the principal difference is that the base stock method formerly permitted is now prohibited. International standards are somewhat less detailed than national standards issued by Chapter 23 - RelatedPart y Disclosures certain 24 jurisdictions, andI ndustr for that Chapter - Specialized iesreason the requirements of IAS 2 are supplemented with guidance from other pertinent. Chapter 25 -sources, I nflation where and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Under the provisions of IAS 2, the first-in, first-out, and weighted-average cost methods are defined as benchmark treatments, with the last-in, first-out method cast as the allowable alternative treatment. Appendix - I llustrativ e standards Financial Stwent atem to entsome s Pr esent ed Under I ASnaming certain methods as being Since theB international length to avoid Appendix C Com parison of I AS, US GAAP, and UK GAAP preferred or recommended (hence the term "benchmark," which was deemed to be more neutral), it is I ndex fair to consider all three methods as being acceptable under the IAS. An interpretation (SIC 1) by the List of Tables Standing Interpretations Committee (SIC) of the IASC states that entities should use the same cost List of Ex hibits Ex am ples formula for alland inventories having similar nature and use. It furthermore states that differences in geographic would not, ipso facto, justify the use of different cost formulas. In reaching this List of Sidebarlocation s conclusion, the SIC analogized from the guidance on consolidations provided in IAS 27, and that on property, plant, and equipment assets in IAS 16. Appendix A - Di sclosure Checklist

IASB, as part of the Improvements Project, has determined that the goals of achieving convergence among accounting standards and of promoting uniformity across entities reporting under IAS will be served by eliminating the current allowed alternative method of costing inventories by the last-in, firstout method. If adopted, this will leave the first-in, first-out and the average costing methods as the two acceptable costing techniques under IAS (now IFRS).

Sources of IAS IAS 2, 34

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f SIC 1 I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

ile yTerms I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f DefinitionsWof I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za Absorption (full) costing

John Wi ley & Sons © 2003 (952 pages)

Inclusion of all manufacturing costs (fixed and variable) in the cost of finished goods This com pact and t ruly com pr ehensive qui ck - refer ence inventory accordance withaGAAP. pr esent sinaccount ants with guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Base stock

Based on the theory that a minimal level of inventory is a permanent investment, this amount is carried on the books at its historical cost.

T ab le of Con t en t s

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

By-products

Preface

Goods that result as an ancillary product from the production of a primary good; often having minor value when compared to the value of the principal product(s).

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Ceiling Chapter 3 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Chapter 4

In Flow lowerStofatcost or market computations, market is limited to net realizable value. - Cash em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Market (replacement cost) cannot be higher than the ceiling (net realizable value). Net realizable value is selling price less selling costs and costs to complete.

Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s Consignments Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Marketing method in which the consignor ships goods to the consignee, who acts as an agent for the consignor in selling the goods. The inventory remains the property of I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 the consignor until sold by the consignee. I nvestm ent Pr oper ty

Chapter 11(variable) - Businesscosting Combinations and Consolidat ed Fin ancial Statements Direct Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Inclusion ofDate only variable manufacturing costs in the cost of ending finished goods Balance Sheet

inventory. This method is not acceptable for financial reporting purposes.

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Dollar-value LIFO

Chapter 15 - I ncom e Taxes

Variation of conventional LIFO in which layers of inventory are priced in dollars adjusted by price indexes instead of layers of inventory priced at unit prices.

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Double-extension

Chapter 19 - I nterim Financial Repor ting

Method used to compute the conversion price index. The index indicates the

Chapter 20 - Segm ent Repor ting relationship between the base year and current prices in terms of a percentage. Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter Finished 22 - For goods eign Curr ency Chapter 23 - RelatedPart y Disclosures Completed but unsold products produced by a manufacturing firm. Chapter 24 - Specialized I ndustr ies

First-in, Chapter 25 - first-out I nflation (FIFO) and Hyperinflation Chapter 26 - GovCost er nmflow ent Gr an ts assumption; the first goods purchased or produced are assumed to be the Appendix A - Di sclosure first goods Checklist sold. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Floor C - Com parison of I AS, US GAAP, and UK GAAP Appendix I ndex List of Tables

In lower of cost or market computations, market is limited to net realizable value less a normal profit, called the floor. Market (replacement cost) cannot be below the floor.

List of Ex hibits and Ex am ples

Goods in transit

List of Sidebar s

Goods being shipped from seller to buyer at year-end.

Gross profit method Method used to estimate the amount of ending inventory based on the cost of goods available for sale, sales, and the gross profit percentage. Inventory Assets held for sale in the normal course of business, or which are in the process of

production for such sale, or are in the form of materials or supplies to be consumed in the production process or in the rendering of services. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Inventory layer I n t er n at ion al Accou n t in g St an d ar ds Under the method, increase in inventory quantity during a period. ISBN:0471227366 by Bar r y LIFO J. Epstein and an Abbas Ali Mir za

Joint productsJohn Wi ley & Sons © 2003 (952 pages) Two This orcom more pact products and t ruly produced com pr ehensive jointly, where qui ck - refer neither ence is viewed as being more pr esent s in account with a guide to depend on for are applied to one or more joint important; someants cases additional production steps assistance in the prepar at ion and under standing of financial products after a split-off point. statements present ed in accordance with I AS.

Last-in, (LIFO) T ab le of Confirst-out t en t s Wiley I AS 20 03—Int Cost er flow pretation assumption; and Application the last of goods I nternational purchased Account are assumed ing to be the first goods Standar ds sold. Preface

LIFO1liquidation Chapter - I ntr oduction to I nter national Accounting Standar ds Chapter 2 Chapter 3 Chapter 4

- Balance Sheet of the LIFO base or old inventory layers when inventory quantities Liquidation I ncom decrease. e Statement, This can Statdistort em ent income of Chan since ges in old Equit costs y, and areStatem matched ent against current of Recognized revenues. Gains and Losses - Cash Flow St at em ent

LIFO5retail Chapter - Financial I nstr uments—Cash and Receiv ables Chapter 7

- I nventor y Inventory costing method that combines the LIFO cost flow assumption and the retail - Revinventory enue Recogni method. tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 6

Link-chain Chapter 9 - I ntangi ble Asset s Chapter 10 -

Method applyingInstr dollar-value LIFO byes,developing a single I nterests in of Financial um ent s, Associat Joint Ventur es, andcumulative index. This I nvestm ent may Pr oper method betyused instead of double-extension only when there are substantial

Chapter 11 - Business changes Combinations in product lines and Consolidat over the years. ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Lower of Balance cost or Sheet market Date

Chapter 13 - Financial I nstr uments—LongTerat m lower Debt of cost or market (replacement cost). Market Inventories must be valued Chapter 14 - Leases cannot exceed the ceiling (net realizable value) or be less than the floor (net Chapter 15 - I ncom realizable e Taxesvalue less a normal markup). Chapter 16 - Em ploy ee Benefit s

Markdown Chapter 17 - Stock holder s' Equit y Decrease below original retail price. A markdown cancellation is an increase (not Chapter 18 - Earnings Per Share above originalRepor retailting price) in retail price after a markdown. Chapter 19 - I nterim Financial Chapter 20 - Segm ent Repor ting

Markup

Chapter 21 - Accounting Changes and Cor rection of Er ror s

above original retail price. A markup cancellation is a decrease (not below Chapter 22 - For Increase eign Curr ency original retail price) in retail price after a markup.

Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies

Moving-average

Chapter 25 - I nflation and Hyperinflation

Inventory costing method used in conjunction with a perpetual inventory system. A weighted-average cost per unit is recomputed after every purchase. Goods sold are Appendix A - Di sclosure Checklist costed at the most recent moving-average cost. Chapter 26 - Gov er nm ent Gr an ts

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison Net realizable value of I AS, US GAAP, and UK GAAP I ndex List of Tables

Estimated selling price in the ordinary course of business less the estimated costs of completion and the estimated costs necessary to make the sale.

List of Ex hibits and Ex am ples List Periodic of Sidebar s

Inventory system where quantities are determined only periodically by physical count. Perpetual Inventory system where up-to-date records of inventory quantities are kept. Product financing arrangements Arrangements whereby an entity buys inventory for another firm that agrees to

purchase the inventory over a certain period at specified prices which include handling and financing costs; alternatively, an entity can buy inventory from another firm with that will repurchase W ile y Ithe AS understanding 2 0 03 : I n t erp re t at the ion seller an d Ap p licat io n o f the goods at the original price plus defined storage and financing costs. I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

Purchase commitments Mir za

ISBN:0471227366

John Wi ley & Sons © 2003 (952 Noncancelable commitment to pages) purchase goods. Losses on such commitments are recognized in the accounts. This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

Raw materialsassistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

For a manufacturing firm, materials on hand awaiting entry into the production T ab le of Con t en tprocess. s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Replacement cost Standar ds

Cost to reproduce an inventory item by purchase or manufacture. In lower of cost or

Preface Chapter 1 Chapter 2

- I ntrmarket oduction to I nter national Standar ds replacement cost, subject to the ceiling computations, theAccounting term market means - Balance Sheet and floor limitations. I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Chapter 3

Retail method of Recognized Gains and Losses Chapter 4 - Cash Flow St at em ent method that uses a cost ratio to reduce ending inventory (valued at Inventory costing Chapter 5 - Financial nstr uments—Cash and Receiv ables retail) Ito cost. Chapter 6

- I nventor y

Specific Chapter 7 - identification Rev enue Recogni tion, I ncluding Constr uction Contr act s Chapter 8

Inventory system where the seller identifies which specific items are sold and which - Property , Plant , and Equipment

Chapter 9

remain in ending inventory. - I ntangi ble Asset s

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - costs Standard I nvestm ent Pr oper ty Chapter 11 - Business Predetermined Combinations unit costs, and Consolidat which are ed acceptable Fin ancial Statements for financial reporting purposes if Chapter 12 -

adjusted periodically to reflect conditions. Curr ent Liabilit ies, Prov isions, Contcurrent ingencies, and Ev ents after t he Balance Sheet Date

Weighted-average Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Periodic inventory costing method where ending inventory and cost of goods sold are Chapter 15 - I ncom priced e Taxes at the weighted-average cost of all items available for sale. Chapter 16 - Em ploy ee Benefit s

Work17in- process Chapter Stock holder s' Equit y For a manufacturing firm, the inventory of partially completed products. Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS and 2 0 03 : Examples I n t erp re t at ion an d Ap p licat io n o f Concepts, Rules, I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

Basic Concept Mir za of Inventory Costing

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages)

International accounting standards (IAS 2) establish cost, not to exceed net realizable value, as the This com pact and t ruly com pr ehensive qui ck - refer ence basis for valuation of inventories. In contrast to the to standard pr esent s account ants with a guide depend for on plant for assets, there is no option for revaluing inventories to current replacement fair standing value, presumably assistance in the prepar at ioncost and or under of financial due to the far shorter period present ed in thereby accordance with the I AS.cumulative impact of inflation on reported of time over whichstatements such assets are held, limiting amounts. Furthermore, the benchmark treatment prescribes the relatively more conservative FIFO or T ab le of Con t en t s weighted-average cost methods as the means of measuring historical cost of inventories, although the Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing alloweddsalternative method, LIFO, may result in a somewhat more meaningful measure of earnings in Standar periods of rising prices. These methods are discussed fully later in this chapter. Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Ownership - Balance ofSheet Goods

Chapter 2

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Chapter 3

From the accounting perspective, concern of Recognized Gains and Losses with the ownership of inventories is to assist in the determination of the physical quantity of inventory on hand. In general, an enterprise should Chapter 4 - Cash Flowactual St at em ent record purchases andI nstr sales of inventory and when legalables title passes. Although strict adherence to this rule Chapter 5 - Financial uments—Cash Receiv may not be important in daily transactions, a proper inventory cutoff at the end of an accounting period Chapter 6 - I nventor y is crucial. Thus, for accounting purposes, to obtain an accurate of inventory quantity and Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr actmeasurement s corresponding monetary representation of inventory and cost of goods sold in the financial statements, Chapter 8 - Property , Plant , and Equipment it is necessary to determine when title has passed. Chapter 9

- I ntangi ble Asset s

I nterests in Financial ent s,isAssociat es, Joint Ventur es, and The most error made in Instr this um regard to assume that title is synonymous with possession of Chapter 10 common I nvestm ent Pr oper ty

goods on hand. This may be incorrect in two ways: (1) the goods on hand may not be owned, and (2) goods that are not on hand may be owned. There are four matters that may create a question as to Curr ent(1) Liabilit ies,inProv isions, ingencies, sales, and Ev(3) ents after t he proper 12 ownership: goods transit, (2)Cont consignment product financing arrangements, and Chapter Balance Sheet Date (4) sales made with the buyer holding the right of return. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 14 - Leases At year-end, any goods in transit from seller to buyer may properly be includable in one, and only one, Chapter - I ncom e Taxes of those15parties' inventories, based on the conditions of the sale. Under traditional legal and accounting

interpretation, goods ares included in the inventory of the firm financially responsible for Chapter 16 - Emsuch ploy ee Benefit transportation costs. This responsibility may be indicated by shipping terms such as FOB, which is used Chapter 17 - Stock holder s' Equit y in overland Chapter 18 - shipping Earnings contracts, Per Share and by FAS, CIF, C&F, and ex-ship, which are used in maritime contracts. Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

The term FOB stands for "free on board." If goods are shipped FOB destination, transportation costs are paid by the seller and title does not pass until the carrier delivers the goods to the buyer; thus these Chapter 22 - For eign Curr ency goods are part of the seller's inventory while in transit. If goods are shipped FOB shipping point, Chapter 23 - RelatedDisclosures transportation costs Part are ypaid by the buyer and title passes when the carrier takes possession; thus Chapter 24 Specialized I ndustr ies inventory while in transit. The terms FOB destination and FOB these goods are part of the buyer's Chapter 25 I nflation and Hyperinflation shipping point often indicate a specific location at which title to the goods is transferred, such as FOB Chapter 26 - means Gov er nm entthe Gr an ts retains title and risk of loss until the goods are delivered to a common Milan. This that seller Appendix - Di sclosure carrier inAMilan who willChecklist act as an agent for the buyer. Chapter 21 - Accounting Changes and Cor rection of Er ror s

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

A seller who ships FAS (free alongside) all expense and risk involved in delivering the goods Appendix C - Com parison of I AS, US GAAP,must and bear UK GAAP to the dock next to (alongside) the vessel on which they are to be shipped. The buyer bears the cost of loading and of shipment; thus title passes when the carrier takes possession of the goods.

I ndex

List of Tables

List Ex hibits Ex am ples In aofCIF (cost,and insurance, and freight) contract the buyer agrees to pay in a lump sum the cost of the List of Sidebar s goods, insurance costs, and freight charges. In a C&F contract, the buyer promises to pay a lump sum

that includes the cost of the goods and all freight charges. In either case, the seller must deliver the goods to the carrier and pay the costs of loading: thus both title and risk of loss pass to the buyer upon delivery of the goods to the carrier. A seller who delivers goods ex-ship bears all expense and risk until the goods are unloaded, at which time both title and risk of loss pass to the buyer. The foregoing is meant only to define normal terms and usage; actual contractual arrangements

between a given buyer and a given seller can vary widely. The accounting treatment should in all cases strive to mirror the substance of the legal terms established between the parties. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Inconsignments,I nthe consignor (seller) ships goods to the consignee (buyer), who acts as the agent t er n at ion al Accou n t in g St an d ar ds of the consignor in trying to sell the goods. In some consignments, the consignee receives a ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali commission; in other Mir zaarrangements, the consignee "purchases" the goods simultaneously with the sale of the goods to the customer. out on are included in the inventory of the consignor John Wi ley & Goods Sons © 2003 (952consignment pages) and excluded from the inventory of the consignee. This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

Aproduct financing arrangement is a transaction in which an entity sells and agrees to repurchase assistance in the prepar at ion and under standing of financial inventory with thestatements repurchasepresent price equal to the original ed in accordance withsales I AS. price plus the carrying and financing costs. The purpose of this transaction is to allow the seller (sponsor) to arrange financing of its original T ab le of Con t en t s purchase of the inventory. The substance of the transaction is illustrated by the diagram below. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Chapter 6 the - I nventor y 1. In initial transaction the sponsor "sells" inventoriable items to the financing entity in return for Chapter the 7 -remittance Rev enue Recogni tion, Iprice ncluding s of the sales andConstr at theuction same Contr time act agrees to repurchase the inventory at a Chapter specified 8 - Property , Plant , andthe Equipment price (usually sales price plus carrying and financing costs) over a specified period Chapter of 9 time. - I ntangi ble Asset s Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

2. The financing I nvestm ent entity Pr oper procures ty the funds remitted to the sponsor by borrowing from a bank (or financialCombinations institution) using newly purchased as collateral. Chapter other 11 - Business and the Consolidat ed Fin ancialinventory Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - financing entity actually remits the funds to the sponsor and the sponsor presumably uses 3. The Balance Sheet Date

funds toI pay off the debt incurred as a result of the original purchase of the inventoriable Chapter these 13 - Financial nstr uments—LongTer m Debt Chapter debt. 14 - Leases

Chapter 15 - I ncom e Taxes

4. The sponsor then repurchases the inventory for the specified price plus costs from the financing

Chapter entity 16 - Em ee Benefit s at ploy a later time when the funds are available. Chapter 17 - Stock holder s' Equit y

In a variant this transaction, Chapter 18 - of Earnings Per Share an entity can acquire goods from a manufacturer or dealer, with the contractual that theyting will be resold to another entity at the same price plus handling, Chapter 19 - understanding I nterim Financial Repor storage,20and financing costs. Chapter - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

The purpose of either variation of product financing arrangement is to enable the sponsor to acquire or control inventory without incurring additional reportable debt. Under international accounting standards, Chapter 23 - Related- Part y Disclosures transactions of this type are not directly addressed, and thus it would appear that, if a "form over Chapter 24 - approach SpecializedisI subscribed ndustr ies to, these transactions may successfully result in financing that is substance" Chapter 25 I nflation and Hyperinflation not reported in the balance sheet. It would therefore be instructive to look to the standard imposed in Chapter 26 Gov er nm ent Gr an ts which ruled that the substance of this type of transaction is that of a the United States by the FASB, Appendix A - Di sclosure Checklist borrowing. Chapter 22 - For eign Curr ency

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Under the US standard Appendix C -pertinent Com parison of I AS, US(SFAS GAAP,49, andAccounting UK GAAP for Product Financing Arrangements ), such

transactions are, in substance, no different from those where a sponsor obtains third-party financing to I ndex

purchase its inventory. As a result, the FASB ruled that when an entity sells inventory with a related arrangement to repurchase it, proper accounting is to record a liability when the funds are received for List of Ex hibits and Ex am ples the initial transfer of the inventory in the amount of the selling price. The sponsor is then to accrue List of Sidebar s carrying and financing costs in accordance with its normal accounting policies. These accruals are eliminated and the liability satisfied when the sponsor repurchases the inventory. The inventory is not to be taken off the balance sheet of the sponsor and a sale is not to be recorded. Thus, although legal title has passed to the financing entity, for purposes of measuring and valuing inventory, the inventory is considered to be owned by the sponsor. Although the other variation on this financing arrangement with a nominee entity acquiring the goods for the ultimate purchaser is not addressed in SFAS 49, logic suggests that an analogous accounting treatment be prescribed. List of Tables

A final issue that requires special consideration is the situation that exists when the buyer holds the right of return. Again, while international accounting standards do not address this topic directly, logical guidance is suggested the2 0US standards. SFAS 48, Revenue Recognition When Right of W ile y by I AS 03 :accounting I n t erp re t at ion an d Ap p licat io n of Return Exists, addresses the propriety of recognizing revenue at the point of sale under these I n t er n at ion al Accou n t in g St an d ar ds circumstances. Generally speaking, the sale is to be recorded if the future amount of the returns can ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za reasonably be estimated. If the ability to make a reasonable estimate is precluded, the sale is not to be recorded until theJohn returns are& unlikely. In this although legal title has passed to the buyer, the Wi ley Sons © 2003 (952 situation, pages) seller must continue include the tgoods in pr itsehensive measurement and ence valuation of inventory. Absent a Thistocom pact and ruly com qui ck - refer pr esent sunder account ants with aaccounting guide to depend on forthe "substance over form" dictum standard to the contrary international standards, the preparsuggested at ion and under standing would seemingly assistance support theinguidelines by SFAS 48. of financial statements present ed in accordance with I AS.

Accounting for Inventories

T ab le of Con t en t s

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Introduction.

Preface

Chapter 1 -objectives I ntr oduction to I nter national AccountingisStandar ds The major of accounting for inventories the matching of appropriate costs against Chapter 2 Balance Sheet revenues in order to arrive at the proper determination of periodic income, and accurate representation

of inventories on hand as assetsStat of em theent enterprise as of balance sheet date. I ncom e Statement, of Chan ges in the Equit y, and Statem ent As it happens, these of in Recognized Gains andany Losses two goals are conflict and, under system of accounting in which the financial statements are fully Chapter 4 -(i.e., Cashwhere Flow St at em ent articulated the balance sheet and income statement are linked together mechanically), it will Chapter 5 - impossible Financial I nstr uments—Cash and Receiv ables be virtually to achieve both fully. Chapter 3

Chapter 6

- I nventor y The accounting for inventories is done under either a periodic or sa perpetual system. In a periodic Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act

inventory -system, the inventory quantity is determined periodically by a physical count. The quantity Property , Plant , and Equipment so determined is then priced in accordance with the cost method used. Cost of goods sold is computed Chapter 9 - I ntangi ble Asset s by adding beginning inventory and net purchases (or cost of goods manufactured) and subtracting I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter ending 10 inventory. I nvestm ent Pr oper ty Chapter 8

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Alternatively, a perpetual inventory system keeps a running total of the quantity (and possibly the

Curr ent Prov isions,allCont ingencies, and Ev ents afteroccur. t he When inventory is cost) of12 inventory onLiabilit hand ies, by recording sales and purchases as they Chapter Balance Sheet Date

purchased, the inventory account (rather than purchases) is debited. When inventory is sold, the cost of goods sold and reduction of inventory are recorded. Periodic physical counts are necessary only to Chapter 14 - Leases verify the perpetual records and to satisfy the tax regulations (tax regulations require that a physical Chapter 15 be - I ncom Taxes inventory taken,e at least annually). Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y

Valuation of Inventories

Chapter 18 - Earnings Per Share

Chapter 19 -toI nterim Repor tingof accounting for inventories is cost. Cost is defined as the sum According IAS 2, Financial the primary basis Chapter 20 - of Segm ent Repor tingof conversion, and other costs incurred in bringing the inventories to their of all costs purchase, costs Chapter - Accounting ChangesThis and definition Cor rectionallows of Er ror present21 location and condition. fors significant interpretation of the costs to be Chapter 22in- inventory. For eign Curr ency included Chapter 23 - Related- Part y Disclosures

For raw24 materials and merchandise inventory that are purchased outright and not intended for further Chapter - Specialized I ndustr ies conversion, identification of cost is relatively straightforward. The cost of these purchased Chapter 25 - Ithe nflation and Hyperinflation

inventories will include all expenditures incurred in bringing the goods to the point of sale and putting them in a salable condition. These costs include the purchase price, transportation costs, insurance, Appendix A - Di sclosure Checklist and handling costs. Trade discounts, rebates, and other such items are to be deducted in determining Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS inventory costs; failure to do so would result in carrying inventory at amounts in excess of true historical Appendix C - Com parison of I AS, US GAAP, and UK GAAP costs. Chapter 26 - Gov er nm ent Gr an ts

I ndex

List Tables of interest costs as they relate to the valuation of inventoriable items (IAS 23) is discussed Theofimpact List inChapter of Ex hibits 8. In and general, Ex am ples even when the allowed alternative treatment prescribed by IAS 23 is

employed, borrowing costs will not be capitalized in connection with inventory acquisitions, since the List of Sidebar s period required to ready the goods for sale will not be significant. However, where a lengthy production process is required to prepare the goods for sale, the provisions of IAS 23 would be applicable and a portion of borrowing costs would become part of the cost of inventory. Conversion costs for manufactured goods should include all costs that are directly associated with the units produced, such as labor and overhead. The allocation of overhead costs, however, must be systematic and rational, and in the case of fixed overhead costs (i.e., those which do not vary directly with level of production) the allocation process should be based on normal production levels. In periods

of unusually low levels of production, a portion of fixed overhead costs must accordingly be charged directly to operations, and not taken into inventory. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Costs other than Imaterial and conversion costs are inventoriable only to the extent they are necessary n t er n at ion al Accou n t in g St an d ar ds to bring the goods to their present condition and location. Examples might include certain design costs ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali and other types ofMirpreproduction expenditures if intended to benefit specific classes of customers. On za the other hand, allJohn research costs most development costs (per IAS 38, as discussed in Chapter 8) Wi ley & Sonsand © 2003 (952 pages) would typically not become part of inventory costs. Also generally excluded from inventory would be This com pact and t ruly com pr ehensive qui ck - refer ence such costs as administrative and selling expenses, which must be pr esent s account ants with a guide to depend on fortreated as period costs; the cost of wasted materials,assistance labor, or other and most storage costs. Included in in theproduction prepar at ionexpenditures; and under standing of financial statements ed in accordance with Icategories AS. overhead, and thus allocablepresent to inventory, would be such as repairs, maintenance, utilities, rent, indirect labor, production supervisory wages, indirect materials and supplies, quality control and T ab le of Con t en t s inspection, and the cost of small tools not capitalized. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Joint products and by-products.

Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds In some production processes, more than one product is produced simultaneously. Typically, if each

Chapter - Balance Sheet product2has significant value, they are referred to as joint products; if only one has substantial value, I ncom e Statement, Stat em ent of Chan in Equit and Statem the others are known as by-products. Under IAS ges 2, when they,costs of eachentjointly produced good Chapter 3 of Recognized Gains and Losses

cannot be clearly determined, a rational allocation among them is required. Generally, such allocation is - Cash Flow St at em ent made by reference to the relative values of the jointly produced goods, as measured by ultimate selling Chapter 5 - Financial nstr uments—Cash and Receiv ables are split off, separately incurring additional prices. Often, after a Iperiod of joint production the goods Chapter 6 I nventor y costs before being completed and ready for sale. The allocation of joint costs should take into account Chapter 7 - Rev enue Recogni tion,costs I ncluding uction Contr the additional individual product yet toConstr be incurred after act thes point at which joint production ceases. Chapter 4

Chapter 8

- Property , Plant , and Equipment By-products definition ares products that have limited value when measured with reference to the Chapter 9 - I by ntangi ble Asset

primary goodI nterests being produced. IAS 2 suggests that by-products be valued at net realizable value, with in Financial Instr um ent s, Associat es, Joint Ventur es, and the costs allocated I nvestmto entby-products Pr oper ty thereby being deducted from the cost pool, being otherwise allocated to the sole severalCombinations principal products. Chapter 11 -or Business and Consolidat ed Fin ancial Statements Chapter 10 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - products A and B have the same processes performed on them up to the split-off point. For example, Balance Sheet Date

The total incurred to this point is $80,000. This cost can be assigned to products A and B using Chapter 13cost - Financial I nstr uments—LongTer m Debt

their relative sales value at the split-off point. If A could be sold for $60,000 and B for $40,000, the total sales value is $100,000. The cost would be assigned on the basis of each product's relative sales Chapter 15 - I ncom e Taxes value. Thus, A would be assigned a cost of $48,000 (60,000/100,000 x 80,000) and B a cost of Chapter 16 - Em ploy ee Benefit s $32,000 (400,000/100,000 x 80,000). Chapter 14 - Leases

Chapter 17 - Stock holder s' Equit y

Chapter 18 - is Earnings Per Share If inventory exchanged with another entity for similar goods, the earnings process is generally not Chapter 19 - IAccordingly, nterim Financial Repor ting items are recorded at the recorded, or book, value of the items culminated. the acquired Chapter given up. 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

In some jurisdictions, the categories of costs that are includable in inventory for tax purposes may differ from those that are permitted for financial reporting purposes under international accounting standards. Chapter 23 - Related- Part y Disclosures To the extent that differential tax and financial reporting is possible (i.e., that there is no statutory Chapter 24 - Specialized I ndustr ies requirement that the taxation rules constrain financial reporting) this situation will result in interperiod Chapter 25 - I nflation and Hyperinflation tax allocation. This is discussed more fully in Chapter 15. Chapter 22 - For eign Curr ency

Chapter 26 - Gov er nm ent Gr an ts Appendix - Di sclosure Checklist Direct Acosting.

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

The method of allocating both Appendix C - Com parison offixed I AS, overhead US GAAP, to and UK ending GAAP inventory and cost of goods sold is commonly known as (full) absorption costing. IAS 2 requires that absorption costing be employed. However, often I ndex for of managerial decision-making purposes an alternative to absorption costing, variable or direct costing, List Tables is utilized. Direct requires classifying only direct materials, direct labor, and variable overhead List of Ex hibits andcosting Ex am ples

related to production as inventory costs. All fixed costs are accounted for as period costs. The virtue of List of Sidebar s

direct costing is that under this accounting strategy there will be a predictable, linear effect on marginal contribution from each unit of sales revenue, which can be useful in planning and controlling the business operation. However, such a costing method does not result in inventory that includes all costs of production, and therefore this is deemed not to be in accordance with GAAP under international standards. If an entity uses direct costing for internal budgeting or other purposes, adjustments must be made to develop alternative information for financial reporting purposes.

ile y I AS 2 0 03 of : I n Inventory t erp re t at ion anCosting d Ap p licat io n o f BenchmarkW Methods I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

Specific Identification Mir za

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages)

The theoretical basis for valuing inventories and cost of goods sold requires assigning the production This com pact and t ruly com pr ehensive qui ck - refer ence and/or acquisitionprcosts the specific goods to which they relate. esent to s account ants with a guide to depend on forFor example, the cost of ending inventory for an entity in its first year, during it produced (e.g., exclusive single family assistance in the prepar at ionwhich and under standingten of items financial ed incost accordance withsixth, I AS. and eighth unit produced if those are the homes), might bestatements the actual present production of the first, actual units still on hand at the balance sheet date. This method of inventory valuation is usually T ab le of Con t en t s referred to as specific identification. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Specific identification is generally not a practical technique, as the product will generally lose its separate identity as it passes through the production and sales process. Exceptions to this would arise Chapter 1 - I ntr oduction to I nter national Accounting Standar ds in situations involving small inventory quantities with high unit value and low turnover rate. Under IAS 2, Chapter - Balance Sheet specific2identification must be employed to cost inventories that are not ordinarily interchangeable, and I ncom e Statement, Statsegregated em ent of Chan in Equit y, and For Statem ent goods and services produced and for ges specific projects. inventories meeting either of Chapter 3 of Recognized Gains and Losses these criteria, the specific identification method is mandatory and the other benchmark methods cannot Chapter 4 - Cash Flow St at em ent be used. Preface

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6 of- the I nventor y applicability of specific identification, it is more likely to be the case that certain Because limited

assumptions regarding the cost associated inventory Chapter 7 - Rev enue Recogni tion,flows I ncluding Constr with uction Contr actwill s need to be made. One of accounting's peculiarities that Equipment these cost flows may or may not reflect the physical flow of inventory. Chapter 8 - Property , Plantis , and Over the much has been given to both the flow of physical goods and the assumed flow Chapter 9 years, - I ntangi ble attention Asset s of costs associated those goods. In ent most jurisdictions, it has longes, been I nterestswith in Financial Instr um s, Associat es, Joint Ventur andrecognized that the flow of costs need not mirror actual I nvestm entthe Pr oper ty flow of the goods with which those costs are associated. For example, a key provision in an Combinations early US accounting standard thatStatements Chapter 11 - Business and Consolidat ed stated Fin ancial Chapter 10 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he ...cost Chapter 12 -for inventory purposes shall be determined under any one of several assumptions as to the Balance Sheet flow of cost factors; theDate major objective in selecting a method should be to choose the one which, Chapter 13 -the Financial I nstr uments—LongTerreflects m Debt periodic income. under circumstances, most clearly Chapter 14 - Leases

Under international standards, there are two benchmark cost flow assumptions, and one Chapter 15 - I ncom e accounting Taxes additional which is an Chapter 16 method, - Em ploy ee Benefit s allowed alternative treatment. The most common cost flow assumptions used are: first-in, first-out (FIFO), (2) weighted-average, and (3) last-in, first-out (LIFO). Additionally, Chapter 17 (1) - Stock holder s' Equit y

there are each of these assumptions that have commonly been used in practice. In certain Chapter 18 variations - EarningsofPer Share jurisdictions, other costing procedures, such as the base stock method, have also been permitted.

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

First-In, First-Out (FIFO)

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

The FIFO method of inventory valuation assumes that the first goods purchased are the first goods used or sold, regardless of the actual physical flow. This method is thought to parallel most closely the Chapter 24 - Specialized I ndustr ies physical flow of the units for most industries having moderate to rapid turnover of goods. The strength Chapter 25 - I nflation and Hyperinflation of this cost flow assumption lies in the inventory amount reported on the balance sheet. Because the Chapter 26 - Gov er nm ent Gr an ts earliest goods purchased are the first ones removed from the inventory account, the remaining balance Appendix A - Di sclosure Checklist is composed of items acquired at more recent costs. This yields results similar to those obtained under Appendix B - Iaccounting llustrativ e Financial St atem ent s Pr esent ed Under I AS method does not necessarily reflect current cost on the balance sheet. However, the FIFO Appendix C Com parison of I AS, US GAAP, and UK GAAP the most accurate income figure when viewed from the perspective of underlying economic I ndex performance, as older historical costs are being matched against current revenues. Depending on the List Tables rateofof inventory turnover and the speed with which general and specific prices are changing, this List of Ex hibits could and Expotentially am ples mismatching have a material distorting effect on reported income. At the extreme, if reported earnings are fully distributed to owners as dividends, the enterprise could be left without List of Sidebar s sufficient resources to replenish its inventory stocks due to changing prices. Chapter 23 - Related- Part y Disclosures

The following example illustrates the basic principles involved in the application of FIFO:

Units available

Units sold

Actual unit cost

Actual total cost

Beginning inventory -- an d Ap p licat $2.10 W ile y I AS 2 0100 03 : I n t erp re t at ion io n o f I n t er n at ion al Accou n t in g St an d ar ds Sale -75 --

Sale Purchase Total

--

ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali 150 -Mir za John Wi ley & Sons © 2003 (952 pages) -100

Purchase

$210

2.80

420

--

--

This com pact and t ruly com pr ehensive qui ck - refer ence 50ants with a guide -- to depend on for 3.00 pr esent s account assistance in the prepar at ion and under standing of financial 300 175 statements present ed in accordance with I AS.

150 $780

T ab le of these Con t en t s the cost of goods sold and the ending inventory balance are determined as follows: Given data, Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Units

Preface

Unit cost

Total cost

Chapter Cost of 1 goods - I ntr oduction sold 100 to I nter national $2.10Accounting $210 Standar ds Chapter 2

- Balance Sheet

Chapter 3

-

75

2.80

210

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent 175 $420 of Recognized Gains and Losses

Chapter - Cash Flow St at Ending4 inventory 50em ent 3.00 $150 Chapter 5 - Financial I nstr uments—Cash and Receiv ables

75

2.80

210

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni 125 tion, I ncluding Constr$360 uction Contr act s

Chapter 8

- Property , Plant , and Equipment Notice that totalble of Asset the units in cost of goods sold and ending inventory, as well as the sum of their Chapter 9 - the I ntangi s

total costs, isI nterests equal tointhe goods Instr available andes, their respective Financial um entfor s, sale Associat Joint Ventur es,total andcosts.

Chapter 10 -

I nvestm ent Pr oper ty

The unique characteristic of the FIFO method is that it provides the same results under either the periodic or perpetual system. This will not be the case for any other costing method.

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Weighted-Average

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

The other method of inventory valuation under IAS 2 involves averaging and is commonly Chapter 15 benchmark - I ncom e Taxes

referred16to-as weighted-average method. The cost of goods available for sale (beginning inventory Chapter Emthe ploy ee Benefit s

and net purchases) is divided by the units available for sale to obtain a weighted-average unit cost. Ending inventory and cost of goods sold are then priced at this average cost. For example, assume the Chapter 18 - Earnings Per Share following data: Chapter 17 - Stock holder s' Equit y

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

Units available

Units sold

Actual unit cost

Actual total cost

--

$2.10

$210

75

--

--

--

2.80

420

100

--

--

--

3.00

150

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - inventory For eign Curr ency 100 Beginning Chapter 23 - Related- Part y Disclosures

Sale

--

Chapter 24 - Specialized I ndustr ies

Purchase 150 Chapter 25 - I nflation and Hyperinflation Chapter Sale 26 - Gov er nm ent Gr an ts -Appendix A - Di sclosure Checklist

Purchase

50

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix Total C - Com parison of I AS,300 US GAAP, and UK175 GAAP

$780

I ndex

Theofweighted-average cost is $780/300, or $2.60. Ending inventory is 125 units at $2.60, or $325; cost List Tables of goods sold and is 175 units List of Ex hibits Ex am plesat $2.60, or $455. List of Sidebar s

When the weighted-average assumption is applied to a perpetual inventory system, the average cost is recomputed after each purchase. This process is referred to as a moving average. Sales are costed at the most recent average. This combination is called the moving average method and is applied below to the same data used in the weighted-average example above.

Unitson hand

Purchases in dollars

Salesin dollars

Total cost

Inventory unit cost

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f 100 $ -$210.00 I n t er n at ion al Accou n t in$g--St an d ar ds

Beginning inventory

by Bar r y J. Epstein and Abbas Ali Mir za

Sale (75 units @ 25 -John Wi ley & Sons © 2003 (952 pages) $2.10)

$2.10

ISBN:0471227366

157.50

52.50

2.10

Purchase (150 pr esent s175 420.00 472.50 account ants with a guide to depend --on for assistance in the prepar at ion and under standing of financial units, $420)

2.70

This com pact and t ruly com pr ehensive qui ck - refer ence

Sale (100 units T ab@ le $2.70) of Con t en t s

statements present ed in accordance with I AS.

75

--

270.00

202.50

2.70

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Purchase 125 150.00 -352.50 Standar ds (50

2.82

units, $150) Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Cost of goods sold is 75 units at $2.10 and 100 units at $2.70, or a total of $427.50.

Chapter 3

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Last-In,- ofFirst-Out (LIFO) Recognized Gains and Losses

Chapter 4

- Cash Flow St at em ent The LIFO of inventory valuation and costs the ending Chapter 5 method - Financial I nstr uments—Cash Receiv ables inventory as if the last goods purchased were

the first goods used or sold. This allows the matching of current costs with current revenue and as - I nventor y proponents of the method argue, provides the best measure of periodic income, which is a major Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s objective for periodic financial reporting. However, unless costs remain relatively unchanged, the LIFO Chapter 8 - Property , Plant , and Equipment method will usually distort the ending inventory balance for balance sheet purposes because inventory Chapter 9 - I ntangi ble Asset s usually consists of costs from earlier periods. Critics of the method also point out that LIFO does not I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter usually 10 follow - the physical flow of merchandise or materials. However, this last argument should not I nvestm ent Pr oper ty affect the selection of a cost flow assumption, because the matching of physical flow is not considered Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements to be an objective of accounting for inventories. Chapter 6

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Despite the Balance arguableSheet logic Date of using a LIFO cost flow assumption during periods of changing prices, to Chapter 13 Financial I nstr uments—LongTer m Debt achieve a more meaningful measure of income, the method actually is not truly derived from a Chapter 14 Leases promulgated accounting principle. Rather, the basis for LIFO is found in various tax codes enacted in Chapter - I ncom e from Taxestime to time. Since rising general price levels have been almost the rule during certain 15 jurisdictions Chapter 16 Em ploy ee Benefit s been enacted as a form of tax relief by a number of important tax the past half century, LIFO has Chapter 17 - Stock holder s' Equit y jurisdictions and was widely embraced for financial reporting purposes principally in those instances in Chapter which use 18 -for Earnings tax reporting Per Share purposes was linked to financial reporting. Other requirements of LIFO, largely 19 dependent local taxRepor regulations, have included restrictions on abandoning the LIFO after first Chapter - I nterimon Financial ting adopting limitations Chapter 20it,- and Segm ent Reporon tingsupplementary disclosures of income determined by alternative costing strategies. LIFO'sChanges genesisand as an Chapter 21 -Given Accounting Coroffspring rection ofof Ertax ror srules, the precise methods of applying LIFO that are permitted in different nations will vary widely; the following discussion sets forth many of the Chapter 22 - For eign Curr ency computational techniques that may validly be employed, but does not represent which, if any, may be Chapter 23 - Related- Part y Disclosures permitted in any particular circumstance. (IAS 2 does not describe how LIFO is to be operationalized.) Chapter 24 - Specialized I ndustr ies Chapter 25 - implementation I nflation and Hyperinflation The actual of LIFO requires valuation of the quantity of ending inventory at prices in Chapter 26 Gov er nm ent Grof an ts effect earlier. The quantity ending inventory on hand in the year when the method is first applied is Appendix A - base Di sclosure termed the layer.Checklist This inventory is valued at actual (full absorption) cost, and unit cost is Appendix B I llustrativ e Financial s Pr esent Under I AS determined by dividing total costStbyatem the ent quantity on ed hand. In subsequent periods, increases in the Appendix Com parison of I AS, USreferred GAAP, and UKincrements, GAAP or LIFO layers. These increments are quantity C of-inventory on hand are to as I ndex valued individually by applying one of several possible costs to the quantity of inventory representing a

layer. List of Tables List of hibits and Ex am of ples 1. ExThe actual cost the goods most recently purchased or produced List of Sidebar s

2. The actual cost of the goods purchased or produced in order of acquisition 3. An average unit cost of all goods purchased or produced during the current year 4. A hybrid method that will more clearly reflect income Thus, after using the LIFO method for five years, it is possible that an enterprise could have ending inventory consisting of the base layer and five additional layers (or increments) provided that the quantity of ending inventory increased every year.

Example of the single goods (unit) LIFO approach y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Fenetre Co. is in W itsile first year of operation and elects to use the periodic LIFO method of inventory I n t er n at ion al Accou n t in g St an d ar ds valuation. The company sells only one product. Fenetre will apply the LIFO method using the order of ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali current year acquisition Mir za cost. The following data are given for years 1 through 3: John Wi ley & Sons © 2003 (952 pages)

Year 1

Units Unit cost Total This com pact and t ruly comcost pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

Purchase

200 $2.00 assistance in the prepar$400 at ion and under standing of financial statements with I AS. 100 --present ed in accordance --

Sale

T abPurchase le of Con t en t200 s

3.00

600

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Sale ds 150 --Standar Preface Year 2 Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Purchase Sale

Chapter 3

-

Purchase

300

$3.20

$960

200e Statement, -- Stat em ent --of Chan ges in Equit y, and Statem ent I ncom of Recognized Gains and Losses 100

3.30

330

Chapter 4

- Cash Flow St at em ent

Year 35 Chapter

- Financial I nstr uments—Cash and Receiv ables

Chapter 6 - I nventor Purchase 100 y

$3.50

$350

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

--

--

Sale 9 Chapter

100 ble Asset -- I ntangi s

--

Sale

200

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter - following occurred: In year 10 1 the I nvestm ent Pr oper ty Chapter 11 - total Business Combinations Fin ancial Statements 1. The goods available forand saleConsolidat were 400edunits. Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 2. The total sales wereDate 250 units. Balance Sheet Chapter 13 - Financial I nstr uments—Long- Ter m Debt

3. Therefore, the ending inventory was 150 units.

Chapter 14 - Leases

Chapter 15 - inventory I ncom e Taxes The ending is valued at the earliest current year acquisition cost of $2.00 per unit. Thus, Chapter 16 Em ploy Benefit ending inventory is ee valued at s$300 (150 x $2.00). Chapter 17 - Stock holder s' Equit y

Another18way to look at this is to analyze both cost of goods sold and ending inventory. Chapter - Earnings Per Share Chapter 19 - I nterim Financial Repor ting

Units Chapter 20 - Segm ent Repor ting

Unit cost

Total cost

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Cost of goods sold

200

$3.00

Chapter 22 - For eign Curr ency

2.00 Chapter 23 - Related- Part y50 Disclosures Chapter 24 - Specialized I ndustr 250 ies

Ending inventory

150

100 $700

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

$600

$2.00

$300

Appendix - Dibase-year sclosure Checklist Note thatA the cost is $2.00 and that the base-year level is 150 units. Therefore, if ending Appendix B I llustrativ e Financial St atem ent s Pr esent ed Under AS will be created. inventory in the subsequent period exceeds 150 units, a newI layer Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Year 2

List of Tables

Cost of goods sold

Units

Unit cost

Toted cost

100

$3.30

$330

100

3.20

320

List of Ex hibits and Ex am ples List of Sidebar s

200 Ending inventory

$650

150

$2.00

$300

200

3.20

640

350

$940

Now, if ending inventory exceeds 350 units in the next period, a new layer will be created.

Year 3

Units

Unit cost

Total cost

Cost of goods sold $350 W ile y I AS 2 0 03100 : I n t erp re$3.50 t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

200

3.20

by Bar r y J. Epstein and Abbas Ali Mir za 300 John Wi ley & Sons © 2003 (952 pages)

Ending inventory base year

150

$2.00

640

ISBN:0471227366

$990 $300

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for Notice how the decrement 3 eliminated the entire year 2 increment. Thus, any year assistanceof in 200 the units preparinatyear ion and under standing of financial 4 increase in the statements quantity of inventory result in with a new increment that would be valued at year 4 present ed would in accordance I AS.

prices. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds In situations where the ending inventory decreases from the level established at the close of the Preface preceding year, the enterprise experiences a decrement or LIFO liquidation. Decrements will reduce Chapter 1 - Ipreviously ntr oductionestablished to I nter national Standar ds of a layer has been eliminated, it cannot or eliminate LIFOAccounting layers. Once any part Chapter 2 Balance Sheet be reinstated. For example, if in its first year after the election of LIFO an enterprise establishes a layer I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent (increment) Chapter 3 - of ten units, in the next year inventory decreases by four units, leaving the first layer at six of Recognized Gains and Losses units, the enterprise cannot reestablish the first layer (back up to ten units) in the year that inventory Chapter 4 - CashRather, Flow Stitatwill em ent next increases. be forced to create a new layer for the increase. The effect of LIFO Chapter 5 - in Financial uments—Cash and Receivcosts, ables which are significantly below the current cost liquidations periodsI nstr of rising prices is to release Chapter 6 - into I nventor being paid, cost yof goods sold from ending inventory. Thus, the resultant effect of a LIFO Chapter 7 -isRev Recogni tion, typically I ncludingfor Constr Contr act s tax purposes (since most liquidation to enue increase income, bothuction accounting and

jurisdictions demand, conformity between financial reporting and tax reporting). Because of this, LIFO is Chapter 8 - Property Plant , and Equipment most commonly used industries in which inventories are maintained or increased over time. Chapter 9 - I ntangi ble by Asset s I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 LIFO liquidations can twotyforms, voluntary or involuntary. A voluntary liquidation exists when an I nvestm enttake Pr oper

enterprise one reason and or another, to let inventory levels drop. Such a liquidation occurs Chapter 11 -decides, Businessfor Combinations Consolidat ed Fin ancial Statements

because current prices may be too high, less inventory is needed for efficient production, or because of

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - in the product lines. Involuntary LIFO liquidations stem from reasons beyond the control a transition Balance Sheet Date

of the enterprise, such as uments—Longa strike, shortages, shipping delay. Regardless of the reason, all Chapter 13 - Financial I nstr Ter m or Debt liquidations Chapter 14 - result Leasesin a corresponding increase in income (assuming a trend of rising costs). Chapter 15 - I ncom e Taxes

To compute the effect of the liquidation, the company must compute the difference between actual cost

Chapter - Em ploycost ee Benefit s would have been had the inventory been reinstated. The Internal of sales16and what of sales Chapter 17 Service - Stock holder s' Equit Revenue has ruled thaty this hypothetical reinstatement must be computed under the company's Chapter - Earnings Per Share normal 18 pricing procedures for valuing its LIFO increments. In the example above, the effect of the year Chapter - I nterimwould Financial Repor ting as follows: 3 LIFO 19 liquidation be computed Chapter 20 - Segm ent Repor ting

Inventory reinstatement:

Chapter 21 - Accounting Changes and Cor rection of Er ror s

200 units @ $3.50 - $3.20 = $60

Chapter 22 - For eign Curr ency

Chapter 23the - RelatedPartliquidated y Disclosures Because 200 units would have been stated at the year 3 price of $3.50 if there had been Chapter 24 Specialized I ndustr ies an increment, the difference between $3.50 and the actual amount charged to cost of sales for these Chapter 25 - I nflation andthe Hyperinflation units ($3.20) measures effect of the liquidation. Chapter 26 - Gov er nm ent Gr an ts

An inordinate recordkeeping is required in applying the unit LIFO method. Remember that Appendix A - Di amount sclosure of Checklist

the illustration above einvolved only one ent product. Theedrecordkeeping burden becomes much greater as Appendix B - I llustrativ Financial St atem s Pr esent Under I AS the number of products increases. For this reason, a pooling approach is generally applied to LIFO inventories.

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

List of Tables Pooling is the process of grouping items that are naturally related and then treating this group as a List of Exunit hibits and Ex am ples single in determining the LIFO cost. Because the quantity of ending inventory includes many more List of Sidebar s items, decreases in one item can be made up for by increases in others, whereas under the single

goods unit approach a decrease in any one item results in a liquidation of LIFO layers. The problem in applying the pooling method emanates from the tax regulations, not the practical side of application. In applying LIFO, the tax regulations state that each type of good in the opening inventory must be compared with a similar type in the closing inventory. These items must be similar as to character, quality, and price. This qualification has generally been interpreted to mean identical. The effect of this statement is to require a separate pool for each item under the unit LIFO method. The need for a simpler, more practical approach to using the LIFO concept and allowing for a greater use of

the pooling concept was met by dollar-value LIFO. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Dollar-Value LIFO I n t er n at ion al Accou n t in g St an d ar ds

ISBN:0471227366 Barbe r y J. Epstein and Abbasjurisdictions Ali Dollar-value LIFObymay employed in those where it is permitted by the tax or other Mir za The dollar-value LIFO method of inventory valuation determines the cost of regulatory authorities. John Wi ley & Sons © costs 2003 (952 pages) of total dollars rather than specific prices of specific inventories by expressing base-year in terms This com pact and t ruly com pr ehensive qui ck -rise referto ence units. As discussed later, the dollar-value method also gives an expanded interpretation of the pr esent s account ants with a guide to depend on for use of pools. Increments and liquidations are treated the same but are reflected only in terms of a net assistance in the prepar at ion and under standing of financial liquidation or increment for the entireedpool. statements present in accordance with I AS.

T ab le of Con t pools. en t s Creating Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar Essentially ds three alternatives exist for determining pools under dollar-value LIFO: (1) the natural

business unit, (2) multiple pools, and (3) pools for wholesalers, retailers, jobbers, and so on. Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

The natural business unit is defined by the existence of separate and distinct processing facilities and - Balance Sheet operations and the maintenance of separate income (loss) records. The concept of the natural I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 unit - is generally dependent on the type of product, not the various stages of production for business of Recognized Gains and Losses that project. Thus, the pool can (and will) contain raw materials, WIP, and finished goods. The three Chapter 4 - Cash Flow St at em ent examples below, taken from treasury regulations, illustrate the application of the natural business unit Chapter 5 - Financial I nstr uments—Cash and Receiv ables concept. Chapter 2

Chapter 6

- I nventor y

Chapter 7 1- Rev enue Recogni tion, I ncluding Constr uction Contr act s Example Chapter 8

- Property , Plant , and Equipment

Chapter A corporation 9 - I ntangi manufactures, ble Asset s in one division, automatic clothes washers and dryers of both commercial

and domestic grade as as electric ranges, mangles, The corporation I nterests in well Financial Instr um ent s, Associat es, and Jointdishwashers. Ventur es, and I nvestm ent Pr oper ty radios and television sets. The manufacturing facilities and manufactures, in another division, Chapter 11 -used Business Combinationsradios and Consolidat ed Fin ancial Statements processes in manufacturing and television sets are distinct from those used in Curr ent Liabilitclothes ies, Prov isions, Cont ingencies, and Ev these ents after t he manufacturing automatic washers, for example. Under circumstances, the enterprise Chapter 12 Balance Dateunits and two pools would be appropriate: one consisting of all of the would consist of twoSheet business Chapter 13 - Financial I nstr uments—LongTer m Debt LIFO inventories involved with the manufacture of clothes washers and dryers, electric ranges, Chapter 14 Leases mangles, and dishwashers, and the other consisting of all the LIFO inventories involved with the Chapter 15 - of I ncom e Taxes production radios and television sets. Chapter 10 -

Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y

Example Chapter 18 2- Earnings Per Share Chapter 19 - I nterim Financial Repor ting

An enterprise produces plastics in one of its plants. Substantial amounts of the production are sold as plastics. The remainder of the production is shipped to a second plant of the enterprise for the Chapter 21 - Accounting Changes and Cor rection of Er ror s production of plastic toys that are sold to customers. The company operates its plastics plant and toy Chapter 22 - For eign Curr ency plant as separate divisions. Because of the different product lines and the separate divisions, the Chapter 23 -has RelatedPart y Disclosures enterprise two natural business units. Chapter 20 - Segm ent Repor ting

Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 3- Gov er nm ent Gr an ts Example Appendix A - Di sclosure Checklist

A company engaged in the manufacture one stage Appendix B - is I llustrativ e Financial St atem ent sof Prpaper. esent edAtUnder I AS of processing, uncoated paper is produced. of uncoated are sold at this stage of processing. The remainder Appendix C -Substantial Com parisonamounts of I AS, US GAAP, andpaper UK GAAP of the uncoated paper is transferred to the company's finishing mill, where coated paper is produced I ndex

and sold. This company has only one natural business unit since coated and uncoated paper are within the same product line.

List of Tables

List of Ex hibits and Ex am ples List of Sidebar s

The multiple-pooling method is the grouping of substantially similar items. In determining substantially similar items, consideration should be given to the processing applied, the interchangeability, the similarity of use, and the customary practice of the industry. While the election of multiple pools will necessitate additional recordkeeping, it may result in a better estimation of periodic income. Depending on local tax regulations, diverse inventory types such as inventory items of wholesalers, retailers, jobbers, and distributors might be required to be placed into pools by major lines, types, or classes of goods.

All three methods of pooling allow for a change in the components of inventory. New items that properly fall within the pool may be added, and old items may disappear from the pool, but neither will necessarily effectWaile change dollar value of d theAppool. y I AS in 2 0the 03 :total I n t erp re t at ion an p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Computing dollar-value LIFO. by Bar r y J. Epstein and

ISBN:0471227366 Abbas Ali Mir za The purpose of the dollar-value LIFO method of valuing inventory is to convert inventory that is priced John Wi ley & Sons © 2003 (952 pages)

at end-of-year prices to that same inventory priced at base-year (or applicable LIFO layer) prices. The This com pact and t ruly com pr ehensive qui ck - refer ence dollar-value method achieves this ants result through thetouse of a on conversion price index. The inventory at pr esent s account with a guide depend for current year cost assistance is divided by the prepar appropriate index to arrive at the base-year cost. Thus, the main in the at ion and under standing of financial statements present in accordance I AS. focus is on the determination of the ed conversion price with index. There are three basic methods that can be used in computation of the LIFO value of a dollar-value pool: (1) double-extension, (2) link-chain, and T ab le of Con t en t s (3) the index method. Each of these is discussed below with examples provided where appropriate. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Double-extension method.

Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds This was the method originally developed to compute the conversion price index. It involves extending

Chapter 2 quantity - BalanceofSheet the entire ending inventory for the current year at both base-year prices and end-of-year I ncom e Statement, Stat emfor enteach, of Chan ges the in Equit Statem ent prices to arrive at a total dollar value hence title y, of and double-extension. The end-of-year Chapter 3 of Recognized Gains and Losses

dollar total is then divided by the base-year dollar total to arrive at the index, usually referred to as the - Cash Flow St at em ent conversion price index. This index indicates the relationship between the base-year and current Chapter 5 - Financial I nstr uments—Cash and(or Receiv ables is valued at its own percentage. Although a prices in terms of a percentage. Each layer increment) Chapter 6 I nventor y representative sample is allowed (meaning that not all of the items need be double-extended; this is Chapter 7 -inRev enue Recogni tion, I ncludingthe Constr uction Contrunder act s this method is very burdensome. discussed more detail under indexing), recordkeeping Chapter 8 Property , Plant , and Equipment The base-year price must be kept for each inventory item. Depending on the number of different items Chapter 9 in- the I ntangi ble Asset s company, the necessary records may be too detailed to keep past the included inventory of the first year. I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 Chapter 4

I nvestm ent Pr oper ty The following example illustrates the double-extension of computing the LIFO value of Chapter 11 - Business Combinations and Consolidat ed Fin method ancial Statements

inventory. The example presented is relatively simple and does not attempt Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t heto incorporate all of the complexitiesBalance of inventory Sheetaccounting. Date

Chapter 12 -

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Example the double-extension LIFO method Chapter 14 of - Leases Chapter 15 - I ncom e Taxes

Van de Voort, Inc. uses the dollar-value method of LIFO inventory valuation and computes its price index using the double-extension method. Van de Voort has a single pool that contains two inventory Chapter 17 - Stock holder s' Equit y items, A and B. Year 1 is the company's initial year of operations. The following information is given for Chapter - Earnings years 118 through 4: Per Share Chapter 16 - Em ploy ee Benefit s

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

Ending quantity (units) and current price

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Year 22 Ending Chapter - For eigninventory Curr ency current prices Chapter y Disclosures 1 23 - Related- Part $100,000

A

B

5,000

$6.00

7,000

$10.00

Chapter 25 - I nflation and Hyperinflation

120,300

6,000

6.30

7,500

11.00

Chapter 3 26 - Gov er nm ent122,220 Gr an ts

5,800

6.40

7,400

11.50

Appendix A - Di sclosure Checklist

6,200

6.50

7,800

12.00

Chapter 24 - Specialized I ndustr ies

2

4

133,900

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix - Comisparison of I AS, USofGAAP, and UK In year 1Cthere no computation an index; theGAAP index is 100%. The LIFO cost is the same as the I ndex actual current year cost. This is our base year. List of Tables

In year the first to double-extend the quantity of ending inventory at base-year and current List of Ex 2 hibits and step Ex amisples year costs. This is illustrated below.

List of Sidebar s

Item

Quantity

Base-year cost/unit

Current year cost/unit

Extended

A

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f 6,000 $ 6.00n t in g St an$d ar 36,000 $ 6.30 I n t er n at ion al Accou ds

B

by Bar r y J. Epstein and Abbas Ali 75,000 7.500 10.00

ISBN:0471227366 11.00

Mir za $111,000 John Wi ley & Sons © 2003 (952 pages)

Extended $ 37,800 82,500

$120.300[a] using theThis double-extension method and extending the ence inventory items to arrive at the com pact and t ruly com pr ehensive qui ckall - refer pr esent account withinventory a guide toatdepend for If a sampling method is used index, this number must sequal theants ending currenton prices. assistance in the at iondivided and under standing of financial (as discussed under indexing), thisprepar number by your ending inventory at current prices will statements present ed in accordance with I AS. give you the percentage sampled. [a]When

T ab le of Con t en t s

Now Iwe compute the conversion price index that is Wiley AS can 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2 - Balance Sheet In this case I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6 year - I nventor Next, the 2 layery at the base-year cost is computed by taking the current year ending inventory at Chapter 7 Rev Recogni tion, I ncluding Constr uction Contr actthis s number is arrived at by dividing the base-year pricesenue (if only a sample of the inventory is extended, Chapter - Property , Plant , year and Equipment ending 8inventory at current prices by the conversion price index) of $111,000 and subtracting the Chapter 9 I ntangi ble Asset s base-year cost of $100,000. In year 2 there is an increment (layer) of $11,000 at base-year costs. Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

The year 2 layer I nvestm of $11,000 ent Pr oper attybase-year cost must be converted so that the layer is valued at the prices in when Combinations it came into existence (i.e., at 2 prices). This is done by multiplying the Chapter 11effect - Business and Consolidat edyear Fin ancial Statements increment atCurr base-year cost by Cont the conversion price (1.08). ent Liabilit ies,($11,000) Prov isions, ingencies, and Ev index ents after t heThe result is the year 2 Chapter 12 layer at LIFOBalance prices.Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - cost Leases Base-year

$100,000

Chapter 15 - I ncom e Taxes

Year 2 layer ($11,000 x 1.084)

11,924

Chapter 17 - Stock holder s' Equit y

$111,924

Chapter 16 - Em ploy ee Benefit s

Chapter 18 - Earnings Per Share

In year 3 the same basic procedure is followed.

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

Item 21 Quantity cost/unit Extended Chapter - Accounting Base-year Changes and Cor rection of Er ror s Chapter For eign Curr ency $ 6.00 A 22 - 5,800 Chapter 23 - Related- Part y Disclosures

B

7,400

10.00

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation

Current year cost/unit

Extended

$ 34,800

$ 6.40

$ 37,120

74,000

11.50

85,100

$108,800

$122,200

Chapter 26 - Gov er nm ent Gr an ts

There has been a decrease in the base-year cost of the ending inventory, which is referred to as a decrement. A decrement results in the decrease (or elimination) of layers provided previously. In this Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS situation, computation of the index is not necessary, as there is no LIFO layer that requires valuation. If Appendix C - Com parison of I AS, US GAAP, and UK GAAP a sampling approach has been used, the index is needed to arrive at the ending inventory at base-year I ndex cost and thus to determine if there has been an increment or a decrement. Appendix A - Di sclosure Checklist

List of Tables List Now of the Ex hibits ending andinventory Ex am plesat base-year cost is $108,800. The base-year cost is still $100,000, so the

total List of increment Sidebar s is $8,800. Since this is less than the $11,000 increment of year 2, no additional increment is established in year 3. The LIFO cost of the inventory is as shown below. Base-year cost Year 2 layer ($8,800 x 1.084)

$100,000 9,539 $109,539

The fourth year then follows the same steps.

Item

Quantity

Base-year cost/unit

Extended

Current year cost/unit

A

: I n t erp re t at ion an d Ap p licat io n o$ f 6.50 6,200W ile y I AS 2 0$03 6.00 $ 37,200 I n t er n at ion al Accou n t in g St an d ar ds

B

7,800by Bar r y J. Epstein 10.00and Abbas Ali78,000 Mir za $115,200

12.00 ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages)

Extended $ 40,300 93,600 $133,900

This index com pact and t ruly(133,900/115,200). com pr ehensive qui ck - refer ence The conversion price is 116.2% pr esent s account ants with a guide to depend on for assistance in the prepar atthe ionending and under standing financial prices in year 4 of $115,200 A current year increment exists because inventory at of base-year statements present ed in accordance with I AS. exceeds the year 3 number of $108,800. The current year increment of $6,400 must be valued at year 4 le prices. Thus T ab of Con t en tthe s LIFO cost of the year 4 inventory is Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Base-year cost $100,000 Preface

Year 2 layer ($8,800 x 1.084)

9,539

Year 42 layer ($6,400 x 1.162) Chapter - Balance Sheet

7,437

Chapter 1

Chapter 3

- I ntr oduction to I nter national Accounting Standar ds

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent $116,976 of Recognized Gains and Losses

Chapter 4 - Cash Flow out St atthat em ent It is important to point once a layer is reduced or eliminated, it is never replaced (as with the Chapter 5 Financial I nstr uments—Cash and Receiv ables year 2 increment). Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8 - Property , Plant , and Equipment Link-chain method. Chapter 9

- I ntangi ble Asset s

As shown inI nterests this example, the computations application of the double-extension method become in Financial Instr um ent s,for Associat es, Joint Ventur es, and Chapter 10 arduous even if onlyent a few items I nvestm Pr oper ty exist in the inventory. Also, consider the problems that arise when there is11 a constant change in the inventory mix ored in Fin situations in which the breadth of the inventory is Chapter - Business Combinations and Consolidat ancial Statements large. The link-chain method of applying dollar-value LIFO was developed to combat these problems. Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 -

Balance Sheet Date Another13purpose served the link-chainTer method Chapter - Financial I nstrby uments—Longm Debtis to eliminate the problem created by a significant

turnover in the components of inventory. Under the double-extension or indexing method, it is presumed that any new products added to the inventory will be costed at base-year prices. If these are Chapter 15 - I ncom e Taxes not available, the earliest cost available after the base year is used. If the item was not in existence in Chapter 16 - Em ploy ee Benefit s the base year, the reporting entity will attempt to reconstruct the base cost, using a reasonable method Chapter 17 - Stock holder s' Equit y to determine what the cost would have been if the item had been in existence in the base year. Chapter 18 - Earnings Per Share Although this might not appear to be a problem upon first consideration, imagine identifying a cost from Chapter - I nterim Financial Repor ting past. Should that be impossible, a more recent cost would have a base 19 period twenty-five to fifty years Chapter 20 - Segm Repor to be identified to ent serve as ting the base-year cost value, which would eliminate some of the LIFO benefit. Chapter 14 - Leases

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Also imagine a eign situation faced by a high-tech industry where inventory is continually being replaced by Chapter 22 - For Curr ency newer, 23 more advanced The effect of this rapid change under the double-extension method Chapter - RelatedPartproducts. y Disclosures (because new products didies not exist in the base period) is to use current prices as base-year costs. Chapter 24 the - Specialized I ndustr Thus, when hasHyperinflation such a rapid turnover, the LIFO advantage is nonexistent, as current and Chapter 25 - Iinventory nflation and

base-year costs are sometimes synonymous. This is the major reason for the development of the linkchain method.

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

Appendix B - I llustrativ Financial St atem s Pr esent ed Under cumulative I AS The link-chain methode is the process ofent developing a single index that is applied to the Appendix C Com parison of I AS, US GAAP, and UK GAAP ending inventory amount priced at the beginning-of-the-year costs. A separate cumulative index is used I ndex for each pool regardless of the variations in the components of these pools over the years. List of Tables Technological change is allowed for by the method used to calculate each current year index. The List index of Ex ishibits derived andbyExdouble-extending am ples a representative sample (between 50% and 75% of the dollar

value of the pool is generally thought to be appropriate) at both beginning-of-year prices and end-ofList of Sidebar s year prices. This annual index is then applied (multiplied) to the previous period's cumulative index to arrive at the new current year cumulative index. Example of the link-chain method Notice that the end-of-year costs and inventory quantity used are the same as those used in the double-extension example. Assume the following inventory data for years 1 to 4. Year 1 is assumed to be the initial year of operation for the company. The LIFO method is elected on the first tax return.

Assume that A and B constitute a single pool. per unitio n o f W ile y I AS 2 0 03 : I n t erp re t at ion Cost an d Ap p licat I n t er n at ion al Accou n t in g St an d ar ds

Product

Ending inventory quantity Beg. of yr. by Bar r y J. Epstein and Abbas Ali

End of yr. Beginning ISBN:0471227366

Mir za John Wi ley & Sons © 2003 (952 pages)

Year 1: A

5,000

Extension

N/A

$ 6.00

N/A

30,000

N/A

70,000

36,000

37,800

75,000

82,500

6.40

36,540

37,120

11.00

11.50

81,400

85,100

6,200

6.40

6.50

39,680

40,300

7,800

11.50

12.00

89,700

93,600

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s7,000 account ants with a guide to depend on10.00 for N/A assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

B Year 2: A Con t en t s T ab le of

End

6,000

$ 6.00

6.30

Wiley IBAS 20 03—Int er pretation nternational Account 7,500and Application of I10.00 11.00 ing Standar ds

Year 3: Preface Chapter A 1

- I ntr oduction to I nter national Accounting Standar ds 5,800 6.30

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

B 6 Chapter

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

B

Year 4: A

7,400

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

The initial year (base year) does not require the computation of an index under any LIFO method. The - Property , Plant , and Equipment base-year index will always be 1.00.

Chapter 8 Chapter 9

- I ntangi ble Asset s

I nterests inventory in Financial Instr ent s, Associat es, Joint Ventur es, and Thus, the layer isum $100,000 (the end-of-year inventory restated at base-year cost). Chapter 10 base-year I nvestm ent Pr oper ty Chapter 11 - Business Combinations and Consolidat ed FinNotice ancial that Statements The second year requires the first index computation. in year 2 our extended totals are Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 Balance Sheet Date

Beginning-of -year prices

End-of-year prices

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

A $ 36,000 Chapter 14 - Leases

$ 37,800

Chapter 15 - I ncom e Taxes B 75,000

82,500

Chapter 16 - Em ploy ee Benefit s

$111,000

$120,300

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

The year 2 index is 1.084 (120,300/111,000). This is the same as computed under the double-

Chapter 19 method - I nterimbecause Financialthe Repor ting extension beginning-of-the-year prices reflect the base-year price. This will not Chapter Segm ent as Repor always 20 be -the case, newting items may sometimes be added to the pool, causing a change in the index. Chapter 21 - Accounting Changes and Cor rection of Er ror s

Thus, the index Chapter 22 cumulative - For eign Curr encyis the 1.084 current year index multiplied by the preceding year index of 1.00 to 23 arrive at a link-chain index of 1.084. Chapter - RelatedPart y Disclosures Chapter 24 - Specialized I ndustr ies

This index is then used to restate the inventory to base-year cost by dividing the inventory at end-ofyear dollars by the cumulative index: $120,300/1.084 = $111,000. The determination of the LIFO Chapter 26 - Gov er nm ent Gr an ts increment or decrement is then basically the same as the double-extension method. In year 2 the Appendix A -(layer) Di sclosure Checklistcost is $11,000 (S111,000 - 100,000). This layer must be valued at the increment at base-year Appendix B I llustrativ e Financial St atem ent s Pr ed Under I AScumulative index for that year. This prices effective when the layer was created, oresent extended at the Appendix C Com parison of I AS, US GAAP, and UK GAAP results in an ending inventory at LIFO cost of Chapter 25 - I nflation and Hyperinflation

I ndex List of Tables

Base-year cost

Index

LIFO cost

$100,000

1.00

$100,000

11,000

1.084

11,924

List of Ex hibits and Ex am ples

year s ListBase of Sidebar Year 2 layer

$111,000 The index for year 3 is computed as follows:

$111,924

Beginning-of-year prices A

End-of-year prices

$ 36,540 $ t37,120 W ile y I AS 2 0 03 : I n t erp re at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds 81,400 85,100

B

ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali

$117,940 Mir za

$122,220

John Wi ley & Sons ©=2003 (952 pages) 122,220/117,940 1.036 This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account with a guide depend on product for The next step is to determine the ants cumulative index,towhich is the of the preceding year's assistance in the prepar at ion and under standing of financial cumulative index statements and the current year index, or 1.123 (1.084 x 1.036). The new cumulative index is present ed in accordance with I AS. used to restate the inventory at end-of-year dollars to base-year cost. This is accomplished by dividing T ab le end-of-year of Con t en t sinventory by the new cumulative index. Thus, current inventory at base-year cost is the Wiley $108,833. I AS 20In 03—Int this instance er pretation we and haveApplication experienced of I a nternational decrementAccount (a decrease ing from the prior year's Standar ds $111,000). The determination of ending inventory is Preface Chapter 1

- I ntr oduction to I nter Accounting Base-year costnational Index LIFO Standar cost ds

Chapter 2

- Balance Sheet

Chapter 4

- Cash Flow St at em ent

Base year I ncom e Statement, $100,000 Stat em 1.00 $100,000 ent of Chan ges in Equit y, and Statem ent Chapter 3 of Recognized Gains and Losses Year 2 layer 8,833 1.084 9,575 Year 3 layer -1.123 -- Financial I nstr uments—Cash and Receiv ables Chapter 6 - I nventor$108,833 y $109,575 Chapter 5 Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s Finally,8perform the same for the year 4 computation. The current year index is 1.035 Chapter - Property , Plantsteps , and Equipment

(133,900/129,380). The news cumulative index is 1.162 (1.035 x 1.123). The base-year cost of the Chapter 9 - I ntangi ble Asset current inventory is $115,232 (133,900/1.162). Thus, LIFO inventory at the end of year 4 is I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty

Chapter 11 - Business Base-year Combinations cost and Index Consolidat LIFO ed cost Fin ancial Statements Chapter 12 Base year

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he $100,000 1.00 $100,000 Balance Sheet Date

Chapter Year 213layer - Financial I nstr uments—Long8,833 1.084 Ter m Debt 9,575. Chapter 14 - Leases

Year 3 layer

--

1.123

--

Year 416layer 6,399 Chapter - Em ploy ee Benefit s

1.162

7,435

Chapter 15 - I ncom e Taxes

Chapter 17 - Stock holder s' Equit y $115,232

$117,010

Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting

Notice how theting numbers used were the same as those used in the double-extension Chapter 20 - even Segm though ent Repor example, results were different 4 inventory under double-extension was $116,976); however, Chapter 21 the - Accounting Changes and(year Cor rection of Er ror s not by a22significant Chapter - For eign amount. Curr encyIt is much easier to keep track of beginning-of-the-year prices than it is to

keep base-year prices, perhaps more important, it is easier to establish beginning-of-the-year prices Chapter 23 - RelatedPartbut y Disclosures fornew items than to establish their base-year price. The latter reason is why the link-chain method is so much more desirable than the double-extension method. However, before electing or applying this Chapter 25 - I nflation and Hyperinflation method, a company must be able to establish a sufficient need as defined in the treasury regulations. Chapter 24 - Specialized I ndustr ies Chapter 26 - Gov er nm ent Gr an ts

Appendix - Di sclosure Checklist Finally, itAshould be noted that the link-chain method was originally developed for those enterprises that Appendix B I llustrativ e ent s Pr esent ed Under I AS wanted to use LIFO butFinancial becauseStofatem substantial changes in product lines over time were unable to Appendix C Com parison of I AS, US GAAP, and UK GAAP recreate or keep the historical records necessary to make accurate use of the double-extension

method. It is important to note that the double-extension and link-chain methods are not intended to be I ndex selective alternatives for the same situation. The link-chain election requires that substantial change in List of Tables product line be evident over the years, and it is not meant to be used solely because of its ease of List of Ex hibits and Ex am ples application. double-extension method, which is more accurate, should be demonstrated to be List of SidebarThe s impractical before the link-chain method is invoked as an alternative.

Indexing. The last major alternative available for computing the dollar-value LIFO inventory is indexing. These indexing methods can basically be broken down into two types: (1) an internal index, and (2) an external index.

Theinternal index is merely a variation of the double-extension method. A representative sample (or some other statistical method) of the inventory will be double extended; the representative index computed from the sample then tore restate inventory cost and to value the new W ile y I ASis2 0 03 : used I n t erp t at ionthe an d Ap p licatto iobase-year n of layer. I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Theexternal index involves using indices published by governmental or private sources and Mirmethod za applying the indexJohn chosen to inventory figures. Wi ley &the Sons © 2003 (952 pages) Because of this method's complexity and limited applicability, and This due com to the fact that local taxing authorities or other official agencies would have to pact and t ruly com pr ehensive qui ck - refer ence endorse one or more indices for such use, this application is not discussed further. pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial

The methods described for the application of LIFO, as noted statements present ed in accordance with I AS.above, have been based on tax rules rather than on financial accounting pronouncements. GAAP has tended to permit the use of LIFO when T ab le of Con t en t s it has because it had earlier been endorsed by the taxing or other relevant authorities, not because of Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing the theoretical validity of the technique, although it can be argued that LIFO does more accurately Standar ds measure periodic income. In recognition of the lack of authoritative accounting guidelines in the Preface implementation of LIFO in the United States, for example, the AICPA prepared an Issues Paper on this Chapter 1 - I ntr oduction to I nter national Accounting Standar ds topic. This paper, Identification and Discussion of Certain Financial Accounting and Reporting Issues Chapter 2 - Balance Sheet Concerning LIFO Inventories, described numerous accounting problems in the use of LIFO and I ncom e Statement, for Stat em ent of Chan ges in Equitof y, the andpossible Statem ent included advisory conclusions these problems. Because applicability of the guidance Chapter 3 of Recognized Gains and Losses in this paper to those entities that choose to use the available alternative method under IAS 2, selected Chapter 4 - Cash Flow St at em ent sections of it are detailed in the disclosure requirements at the end of this chapter. Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Interim- Rev Treatment of LIFO enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 7 Chapter 8

- Property , Plant , and Equipment IAS 34 addresses the matter of interim financial reporting. Under this standard, an entity is to employ

Chapter 9 accounting - I ntangi blepolicies Asset s for interim reporting purposes as are used for its annual financial the same I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and statements. Chapter 10 - Furthermore, the standard stipulates that revenue and costs are to be recognized when I nvestm ent Pr oper ty

they occur, and are not to be anticipated or deferred.

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he IAS 34 12 does Chapter - not specifically address LIFO costing on interim bases. Notwithstanding the directive to Balance Sheet Datestrategies to interim reporting as to annual reporting, LIFO does present apply the same measurement Chapter 13 - Financial I nstr Ter m DebtLIFO was conceived of as a measurement strategy to some special problems in uments—Longthis regard. Effectively, Chapter 14 Leases be employed for financial reporting on a full fiscal year, and certain potentially distorting anomalies Chapter 15 - Iifncom e Taxes could occur interim measurements were to be made. This principally results from liquidations of LIFO Chapter layers at 16interim - Em ploy dates ee Benefit which swould force older, lower inventory costs into cost of sales, even if the

inventory fully replenished Chapter 17 were - Stock holder s' Equit y by year-end. If the correction were then incorporated into the year-end financials, individual Chapter 18 -the Earnings Per interim Share periods might be materially distorted (e.g., with exaggerated profits in the earlier depressed in the final interim period of the year). Chapter 19 -period, I nterimand Financial Reporresults ting Chapter 20 - Segm ent Repor ting

Since international accounting standards do not, at present, address this problem, it may be instructive to look to US GAAP for advisory guidance. It suggests that, while year-end liquidations of LIFO cost Chapter 22 - For eign Curr ency layers must be dealt with as permanent declines, at interim dates these may be accounted for as Chapter 23 -(assuming Related- Part y Disclosures temporary that this is supportable by the relevant facts and circumstances), with a "reserve" Chapter 24 Specialized I ndustr ies established for replenishment, thereby avoiding absorbing old, lower costs into cost of sales. Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter 25 - I nflation and Hyperinflation

This situation perhaps Chapter 26 - Gov er nm enthighlights Gr an ts the fact that LIFO has little conceptual foundation and was actually developed a tax-saving technique in periods of rising prices. Once sanctioned by the Appendix A -principally Di sclosureas Checklist taxing authorities, LIFO eventually became accepted Appendix B - I llustrativ e Financial St atem ent s aPrgenerally esent ed Under I AS accounting principle despite the fact that, withCvery few exceptions, of costs" does not match the actual flow of goods. Appendix - Com parison of I AS, the US presumed GAAP, and "flow UK GAAP

The IASB has indicated that it plans to review inventory costing, with the possible goal of narrowing the range of acceptable alternative methods. While it has not said specifically what changes might be List of Tables forthcoming, it would not be surprising if LIFO were dropped from the ranks of approved costing List of Ex hibits and Ex am ples methods. I ndex

List of Sidebar s

Proposal to eliminate LIFO costing alternative. The IASB, as part of its Improvements Project, has determined that the goals of achieving convergence among accounting standards and of promoting uniformity across entities reporting under IAS will be served by eliminating the current "allowed alternative" method of costing inventories, which uses the last-in, first-out (LIFO) method. If adopted, this will leave the first-in, first-out (FIFO) and the average costing methods as the two acceptable costing techniques under IAS (IFRS).

This proposal is controversial, not necessarily because there are many users that believe that the LIFO convention accurately portrays the physical flow of goods (which it rarely ever does) but rather because it provides tax advantages to be W ile y I ASwhere 2 0 03 :it Iisn tpermitted erp re t at ion anused, d Ap pand licatthe io nuse o f of LIFO for tax purposes sometimes requires "conformity" in financial reporting. That is, some important taxing authorities, I n t er n at ion al Accou n t in g St an d ar ds including that in the US, have allowed the use of LIFO for tax purposes (where, as explained above, in ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir zait results in the computation of a lower taxable income amount than do FIFO or times of rising prices average costing methods) have©made it contingent on also reporting LIFO-based earnings to John Wi leybut & Sons 2003 (952 pages) shareholders andThis others. The loss LIFO a legitimate costing method for preparation of generalcom pact and tof ruly comas pr ehensive qui ck - refer ence esent s account ants would, with a guide depend on current for purpose external pr financial statements undertomany of the laws, preclude its use for tax assistance in the prepar at ion and under standing of financial purposes. statements present ed in accordance with I AS.

It is not clear at this point what may be the ramifications of the move to ban LIFO under IAS, but in some instances it is not inconceivable that in nations where the LIFO conformity rule remains in effect, Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing and which Standar ds have not yet adopted IAS as the operative standard of financial reporting, this could dampen enthusiasm for such a change. More realistically, however, the multiple other (good) reasons for Preface considering the endorsement of IAS might be manifested in efforts to effect changes to national tax Chapter 1 - I ntr oduction to I nter national Accounting Standar ds laws, so that conformity rules might be relaxed. It is, however, too early to tell whether this will occur, Chapter 2 - Balance Sheet and the most important jurisdiction where IAS are yet to be recognized—the US, where the LIFO I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 -rule is in effect—has been resistant to allowing IAS-compliant financial reporting anyhow. conformity of Recognized Gains and Losses

T ab le of Con t en t s

Chapter 4

- Cash Flow St at em ent

Comparison - Financialof I nstr Cost uments—Cash Assumptions and Receiv ables

Chapter 5 Chapter 6

- I nventor y Of the three basic cost flow assumptions, and FIFOContr produce Chapter 7 - Rev enue Recogni tion, I ncludingLIFO Constr uction act s the most extreme results, with

results using the weighted-average method generally falling somewhere in between. The selection of - Property , Plant , and Equipment one of these methods involves a detailed analysis, including a determination of the organization's Chapter 9 - I ntangi ble Asset s objectives and the current and future economic state. Chapter 8

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

As mentioned above, in periods of rising prices the LIFO method is generally thought best to fulfill the objective of providing the clearest measure of periodic income. It does not provide an accurate estimate Currvalue ent Liabilit Prov isions, Cont ingencies, and Ev this entscan afterusually t he of the inventory in anies, inflationary environment; however, be overcome by the Chapter 12 Balance Sheet Date issuance of supplementary fair value data. In periods of rising prices, a prudent business should use Chapter 13 - Financial I nstr uments—Long- Ter m Debt the LIFO method because it will result in a decrease in the current tax liability when compared to other Chapter 14 - Leases alternatives, for those jurisdictions where the use of LIFO is acceptable. Yet in a deflationary period, the Chapter 15is- true. I ncom e Taxes opposite Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 16 - Em ploy ee Benefit s

FIFO is17 a balance-sheet-oriented Chapter - Stock holder s' Equit y costing method, as it gives the most accurate estimate of the current value of18the inventoryPer account Chapter - Earnings Share during periods of changing prices. In periods of rising prices, the FIFO method19 will- result higher taxes than Chapter I nteriminFinancial Repor ting the other alternatives, while in a deflationary period FIFO provides a reduced tax burden. However, a major advantage of the FIFO method is that it is not Chapter 20for - Segm ent Repor ting subject21 to all the regulations andand requirements tax Chapter - Accounting Changes Cor rection of of the Er ror s codes as LIFO typically is. Chapter 22 - For eign Curr ency

The average methods do not provide an estimate of current cost information on either the balance

Chapter - RelatedPart y Disclosures sheet or23income statement. The average method will not serve to minimize the tax burden, nor will it Chapter 24 Specialized I ndustr ies the various alternatives. result in the highest burden among Chapter 25 - I nflation and Hyperinflation

Although andGrunderlying objectives are important in the selection of a cost flow Chapter 26 price - Govtrends er nm ent an ts assumption, other considerations, such as the risk of LIFO liquidations, cash flow, and capital Appendix A - Di sclosure Checklist maintenance, are alsoe important but were mentioned above. Appendix B - I llustrativ Financial St atem ent snot Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Net Realizable Value

I ndex

List of Tables

As of stated in IAS List Ex hibits and2Ex am ples List ofNet Sidebar realizable s value is the estimated selling price in the ordinary course of business less the

estimated costs of completion and the estimated costs necessary to make the sale. The utility of an item of inventory is limited to the amount to be realized from its ultimate sale; where the item's recorded cost exceeds this amount, GAAP requires that a loss be recognized for the difference. The logic for this requirement is twofold: first, assets (in particular, current assets such as inventory) should not be reported at amounts that exceed net realizable value; and second, any decline in value in a period should be reported in that period's results of operations in order to achieve proper matching with current period's revenues. Were the inventory to be carried forward at an amount in excess of net

realizable value, the loss would be recognized on the ultimate sale in a subsequent period. This would mean that a loss incurred in one period, when the value decline occurred, would have been deferred to a different period,Wwhich clearly with ile y I would AS 2 0 03 : I n tbe erpinconsistent re t at ion an d Ap several p licat io key n o faccounting concepts, including conservatism. I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

IAS 2 states that Mir estimates of net realizable value should be applied on an item-by-item basis in most za instances, although it makes exception for pages) those situations where there are groups of related John Wi ley &an Sons © 2003 (952 products or similar items that can be properly valued in the aggregate. As a general principle, item-byThis com pact and t ruly com pr ehensive qui ck - refer ence item comparisonsprof cost to net realizable value are required, lest esent s account ants with a guide to depend on forunrealized "gains" on some items (i.e., where the net realizable exceed costs) offset the unrealized losses on other assistance in values the prepar at ionhistorical and under standing of financial statements present I AS.recognition of unrealized gains in earnings items, thereby reducing the net loss ed to in beaccordance recognized.with Since is generally proscribed under GAAP. evaluation of inventory declines on a grouped basis would be an T ab le of Con t en t s indirect or "backdoor" mechanism to recognize gains that should not be given such recognition. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Accordingly, the basic requirement is to apply the net realizable value tests on an individual item basis. Standar ds Preface

In many jurisdictions, the term lower of cost or market is used, as contrasted to IAS 2's lower of cost - I ntr oduction to I nter national Accounting Standar ds or net realizable value. As a practical matter, this difference in terminology will have little or no impact, Chapter 2 - Balance Sheet sincemarket is usually defined operationally as being replacement cost or net realizable value. I ncom e Statement, Stat is emthat ent market of Chan ges in Equitdefined y, and Statem ent However, one important distinction is usually as a conditional term that Chapter 3 of Recognized Gains and Losses contemplates a range of values, based not only on the costs to complete and sell an item, but also, in Chapter 4 - Cash Flow St at em ent some circumstances, on the expected or normal profit to be earned on the sale. Since IAS 2 provides Chapter 5 - Financial uments—Cash and Receiv ables only general guidanceI nstr concerning the determination of net realizable value, it will be useful to look to Chapter 6 I nventor y other existing standards for insight into how these measures are to be developed in a practical Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s situation. Chapter 1

Chapter 8

- Property , Plant , and Equipment

Chapter Measuring 9 - I ntangi theble decline Asset s

to net realizable value.

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 The IAS 2 definition of net realizable value makes explicit reference only to "costs of completion and I nvestm ent Pr oper ty

costs incurred in order to make the and sale." However, below, if expected or normal profit Chapter 11 - Business Combinations Consolidat ed as Fin illustrated ancial Statements margins on sales of Liabilit inventory are not taken into account, excessive profits or losses might be Curr ent ies, items Prov isions, Cont ingencies, and Ev ents after t he recognized in future Sheet periods, due to an incomplete application of the net realizable value concept. Balance Date

Chapter 12 -

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

The application of these principles is illustrated in the following example. In this example, replacement cost will be used as the primary operational definition of inventory value when that amount is lower than Chapter 15 - I ncom e Taxes carrying value determined by historical cost. Replacement cost is a valid measure of the future utility of Chapter 16 - Em ploy ee Benefit s the inventory item since increases or decreases in the purchase price generally foreshadow related Chapter 17 - Stock holder s' Equit y increases or decreases in the selling price. Assume the following information for products A, B, C, D, Chapter 18 - Earnings Per Share and E: Chapter 14 - Leases

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

Item

Cost

Replacement cost

Est. selling price

Cost to complete

Normal profit percentage

$ 2.50

$0.50

24%

4.00

0.80

24%

10.00

1.00

18%

6.00

2.00

20%

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

A 23 $2.00 Chapter - Related- Part y$1.80 Disclosures Chapter - Specialized I ndustr B 24 4.00 1.60 ies Chapter 25 - I nflation and Hyperinflation

C

6.00

6.60

Chapter 26 - Gov er nm ent Gr an ts

D 4.75 Appendix A 5.00 - Di sclosure Checklist

Appendix B 1.00 - I llustrativ e Financial esent ed Under I AS0.25 E 1.05 St atem ent s Pr1.20 Appendix C - Com parison of I AS, US GAAP, and UK GAAP

12.5%

Consider item A: The net realizable value defined in accordance with IAS 2 is $2.50 - 0.50 = $2.00 (estimated selling price less costs to complete and sell). As it happens, this is exactly equal to List of Tables historical cost, suggesting that there would be no adjustment required. However, if no adjustment is List of Ex hibits and Ex am ples recorded, the profit realized upon the sale next period will be $2.50 - 2.00 - 0.50 = $0, which would List of Sidebar s be an unnaturally low net margin given the historical experience of a 24% margin. To preserve the normal margin, which would amount to $0.60 ($2.50 x 24%), the inventory would have to be written down to $1.40 ($2.50 - 0.50 - 0.60). However, the actual cost to replace the item in inventory is known to be $1.80, which suggests that the normal margin of 24% cannot be replicated under current conditions. I ndex

The foregoing explains why some standards setters and accounting theoreticians (but it should be stressed, not the IASC) have concluded that inventory should be reported at the lower of cost or market, where market is defined as replacement cost subject to ceiling and floor values; where ceiling

is defined as net realizable value (NRV), and floor as the NRV minus the normal profit margin. Using this approach (which is the standard in the United States, Belgium, Canada, Germany, Italy, the Netherlands, andWSpain, among other the ile y I AS 2 0 03 : I n tjurisdictions), erp re t at ion an d amount Ap p licatof ioprofit n o f to be recognized in the period of later sale, absent other changes in the marketplace after the reporting date, will not be abnormally I n t er n at ion al Accou n t in g St an d ar ds high or low. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za

To continue with this the data in(952 the pages) foregoing table are used to compute market values Johnexample, Wi ley & Sons © 2003 consistent with the definition set forth earlier. Note that the primary measure in all cases is replacement This com pact and t ruly com pr ehensive qui ck - refer ence cost; if this falls between the ceiling and the floor, it thefor measure of market, which is then pr esent s account ants with a guide tobecomes depend on compared to historical cost; inthe lower of at cost market then used to actually value the inventory assistance the prepar ion or and under is standing of financial statements ed the in accordance with item. If the replacement costpresent exceeds ceiling value (asI AS. for items D and E), the ceiling value becomes the market next to be compared to historical cost. On the other hand, if replacement cost is T ab le of Con t en t s lower than the floor (as for items B and C), the floor is used as the market value to be compared next to Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing the historical cost. Standar ds Preface Chapter Determination 1 - I ntr oduction of Net Realizable to I nter national ValueAccounting Standar ds Chapter 2

- Balance Sheet

Replacement

NRV

NRV less profit

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter Item 3 Cost cost (ceiling) (floor) of Recognized Gains and Losses

Market

LCM

$1.40

$1.80

$1.80

2.24

2.24

2.24

Chapter A 4 $2.00 - Cash Flow St at $1.80 em ent

$2.00

Chapter 5

4.00

3.20

Chapter 6

- I nventor y

6.00 6.60 9.00 uction Contr act s7.20 - Rev enue Recogni tion, I ncluding Constr Chapter - Property , Plant4.75 , and Equipment 4.00 D 8 5.00 2.80

7.20

6.00

4.00

4.00

Chapter 9

- I ntangi ble Asset s

0.95

0.95

B

C 7 Chapter E

- Financial I nstr uments—Cash and Receiv ables

1.00

Chapter 10 -

1.60

1.05

0.95

0.80

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 under - Business Combinations and 2, Consolidat ed Fin Statements Note that a strict reading of IAS NRV would beancial compared directly to historical cost; the other Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he values 12 in the Chapter - above table would not be given any consideration. However, it is the authors' opinion that Balance Sheet Date

there is sufficient flexibility in IAS 2 to permit some application of the principle of lower of cost or market as discussed above. If a strict application of the net realizable value rule were insisted upon, in Chapter 14item - Leases contrast, A would be valued at $2.00 instead of $1.80, resulting in a zero profit upon sale; and item Chapter 15 I ncom eat Taxes B would be- valued $3.20 instead of $2.24, also resulting in a zero profit upon ultimate disposition. In Chapter 16 Em ploy ee s realizable value, rather than market, would be to preclude preservation general, the impact of Benefit using net Chapter Stock holder s'amount Equit y of) profit upon later sale of the item. of some17(if-not a normal Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 18 - Earnings Per Share

Recoveries of previously Chapter 19 - I nterim Financial Reporrecognized ting

losses.

Chapter 20 - Segm ent Repor ting

IAS 2 stipulates that a new assessment of net realizable value should be made in each subsequent period; when the reason for a previous write-down no longer exists (i.e., when net realizable value has Chapter 22 - For eign Curr ency improved), it should be reversed. Since the write-down was taken into income, the reversal should also Chapter 23 - Related- Part y Disclosures be reflected in earnings. Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation

Other Valuation Methods

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

There are instances in which an accountant must estimate the value of inventories. Whether for interim financial statements or as a check against perpetual records, the need for an inventory valuation Appendix C - Com parison of I AS, US GAAP, and UK GAAP without an actual physical count is required. Some of the methods used, which are discussed below, I ndex are the retail method, the LIFO retail method, and the gross profit method. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

List of Tables List of Ex hibits and Ex am ples Retail method. List of Sidebar s

IAS 2 notes that the retail method may be used by certain industry groups but does not provide details on how to employ this method, nor does it address the many variations of the technique. The conventional retail method is used by retailers as a method to estimate the cost of their ending inventory. The retailer can either take a physical inventory at retail prices or estimate ending retail inventory and then use the cost-to-retail ratio derived under this method to convert the ending inventory at retail to its estimated cost. This eliminates the process of going back to original invoices or other documents to determine the original cost for each inventoriable item. The retail method can be used under any of the three cost flow assumptions discussed earlier: FIFO, LIFO, or average cost. As with

ordinary FIFO or average cost, the LCM rule can also be applied to the retail method when either one of these two cost assumptions is used. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

The key to applying the retail method is determining the cost-to-retail ratio. The calculation of this I n t er n at ion al Accou n t in g St an d ar ds number varies depending on the cost flow assumption selected. Essentially, the cost-to-retail ratio ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali provides a relationship Mir za between the cost of goods available for sale and the retail price of these goods. This ratio is usedJohn to convert the ending retail back to cost. Computation of the cost-to-retail Wi ley & Sons © 2003 (952inventory pages) ratio for each of the available methods is described below. The use of the LIFO cost flow assumption This com pact and t ruly com pr ehensive qui ck - refer ence next section and, therefore, is not addressed in this listing. with this method is discussed in the pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present in accordance withthe I AS. 1. FIFO cost— The concept of ed FIFO indicates that ending inventory is made up of the latest purchases; therefore, beginning inventory is excluded from computation of the cost-to-retail T ab le of Con t en t s ratio, and the computation becomes net purchases divided by their retail value adjusted for both Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing net markups and net markdowns. Standar ds Preface Chapter 1 - I (using ntr oduction to I nter national Accounting Standar dsThe computation is basically the same as 2. FIFO a lower of cost or market approach)— Chapter FIFO 2 - Balance Sheet cost except that markdowns are excluded from the computation of the cost-to-retail ratio. Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

3. Average Chapter 4 - Cashcost— Flow StAverage at em ent cost assumes that ending inventory consists of all goods available for sale. Therefore, the cost-to-retail ratio is computed by dividing the cost of goods available for - Financial I nstr uments—Cash and Receiv ables sale (Beginning inventory + Net purchases) by the retail value of these goods adjusted for both Chapter 6 - I nventor y net markups and net markdowns. Chapter 5 Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment 4. Average cost Chapter 9 - I ntangi ble(using Asset s a lower of cost or market approach)— This is computed in the same

manner as average cost except that markdowns excluded for and the calculation of the cost-toI nterests in Financial Instr um ent s, Associat es,are Joint Ventur es, retail Iratio. nvestm ent Pr oper ty

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

A simple example illustrates the computation of the cost-to-retail ratio under both the FIFO cost and

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter - methods in a situation where no markups or markdowns exist. average12cost Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt

FIFO cost

Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s

Cost

Average cost

Retail

Cost

Retail

Beginning Chapter 17 - inventory Stock holder s' Equit y

$100,000

$ 200,000

$100,000

$ 200,000

Chapter 18 - Earnings Per Share Net purchases

500,000

800,000

500,000

800,000

$600,000

1,000,000

$600,000

1,000,000

Chapter 19 - I nterim Financial Repor ting

Total goods Chapter 20 - Segm ent available Repor tingfor

sale Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter - For eign Curr ency Sales 22 at retail Chapter 23 - Related- Part y Disclosures

Ending inventory at retail

Chapter 24 - Specialized I ndustr ies

Cost-to-retail ratio and Hyperinflation Chapter 25 - I nflation

(800,000)

(800,000)

$ 200,000

$200,000

= 62.5%

= 60%

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

Ending Binventory at cost Appendix - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP $ 125,000 I ndex

200,000 x 0.625

List of Tables 200,000 x 0.60 List of Ex hibits and Ex am ples

$120,000

Note that thesonly difference in the two examples is the numbers used to calculate the cost-to-retail List of Sidebar ratio. As shown above, the lower of cost or market aspect of the retail method is a result of the treatment of net markups and net markdowns. Net markups (markups less markup cancellations) are net increases above the original retail price, which are generally caused by changes in supply and demand. Net markdowns (markdowns less markdown cancellations) are net decreases below the original retail price. An approximation of lower of cost or market is achieved by including net markups but excluding net markdowns from the cost-to-retail ratio.

To understand this approximation, assume that a toy is purchased for $6 and the retail price is set at $10. It is later marked down to $8. A cost-to-retail ratio including markdowns would be $6 divided by $8 or 75%, and ending inventory valued $8an times W ile y I AS 2 0would 03 : I nbe t erp re t atat ion d Ap 75%, p licator io n$6o f(original cost). A cost-to-retail I n t er n at ion al Accou in g St an ar dsor 60%, and ending inventory would be valued ratio excluding markdowns would be $6n tdivided byd $10 at $8 times 60%, by or Bar $4.80 r y J.(on Epstein a lower and ofAbbas cost orAlimarket basis).ISBN:0471227366 The write-down to $4.80 reflects the za loss in utility that Mir is evidenced by the reduced retail price. John Wi ley & Sons © 2003 (952 pages)

The application ofThis the com lower of and costt ruly or market is illustrated for ence both the FIFO and average cost pact com pr rule ehensive qui ck - refer methods in the example Remember, the markups and below had been included in pr esent sbelow. account ants with a ifguide to depend onmarkdowns for assistance in would the prepar ion and under standing of financial ratio. the preceding example, both haveatbeen included in the cost-to-retail statements present ed in accordance with I AS.

T ab le of Con t en t s

FIFO cost (LCM)

Average cost (LCM)

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Cost Retail Cost Standar ds Preface Beginning inventory $100,000 $ 200,000 Chapter 1 - I ntr oduction to I nter national Accounting Standar ds

Net purchases

Chapter 2

- Balance Sheet

500,000

800,000

Retail

$100,000

$ 200,000

500,000

800,000

Net markups -- of Chan ges 250,000 I ncom e Statement, Stat em ent in Equit y, and -Statem ent 250,000 -

Chapter 3

of Recognized Gains and Losses

Total goods available for sale

Chapter 4

- Cash Flow St at em ent

$600,000

1,250,000

$600,000

Net markdowns Chapter 5 - Financial I nstr uments—Cash and Receiv(50,000) ables Chapter - I nventor y Sales 6at retail

(800,000)

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

1,250,000 (50,000) (800,000)

Ending inventory at retail

$ 400,000

$ 400,000

Cost-to-retail ratioble Asset s Chapter 9 - I ntangi

= 47.6%

= 48%

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty

Ending11inventory at cost Chapter - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he $ 190,400 Chapter 12 400,000 x 0.476 Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt

400,000 x 0.48

$ 192,000

Chapter 14 - Leases

Chapter 15 - under I ncom the e Taxes Notice that FIFO (LCM) method all of the markups are considered attributable to the current Chapter 16 Em ploy ee Benefitthis s is not necessarily accurate, it provides the most conservative estimate period purchases. Although Chapter 17 - Stock holder s' Equit y of the ending inventory. Chapter 18 - Earnings Per Share

There are of additional inventory topics and issues that affect the computation of the cost-toChapter 19 a - Inumber nterim Financial Repor ting

retail ratio therefore, some discussion. Purchase discounts and freight affect only the cost Chapter 20 -and, Segm ent Repordeserve ting

column in this computation. The sales figure that is subtracted from the adjusted cost of goods available for sale in the retail column must be gross sales after adjustment for sales returns. If sales are Chapter 22 - For eign Curr ency recorded at gross, deduct the gross sales figure. If sales are recorded at net, both the recorded sales Chapter 23 - Related- Part y Disclosures and sales discount must be deducted to give the same effect as deducting gross sales (i.e., sales Chapter 24 - Specialized I ndustr ies discounts are not included in the computation). Normal spoilage is generally allowed for in the firm's Chapter 25 - I nflation and Hyperinflation pricing policies, and for this reason it is deducted from the retail column after calculation of the cost-toChapter 26 - Abnormal Gov er nm ent Gr an ts on the other hand, should be deducted from both the cost and retail retail ratio. spoilage, Appendix A Di sclosure Checklist columnsbefore the cost-to-retail calculation, as it could distort the ratio. It is then generally reported as Appendix B - I llustrativ e Financial atem ent Pr esent edAbnormal Under I AS a loss separate from the cost of St goods solds section. spoilage is generally considered to arise Appendix C Com parison of I AS, US GAAP, and UK GAAP from a major theft or casualty, while normal spoilage is usually due to shrinkage or breakage. These I ndex determinations and their treatments will vary depending on the firm's policies. Chapter 21 - Accounting Changes and Cor rection of Er ror s

List of Tables

When theExretail method, separate computations should be made for any departments that List of Exapplying hibits and am ples

experience significantly higher or lower profit margins. Distortions arise in the retail method when a department sells goods with varying margins in a proportion different from that purchased, in which case the cost-to-retail percentage would not be representative of the mix of goods in ending inventory. Also, manipulations of income are possible by planning the timing of markups and markdowns.

List of Sidebar s

The retail method is an acceptable method of valuing inventories for tax purposes in some, but not all, jurisdictions. The foregoing examples are not meant to imply that the method would be usable in any given jurisdiction; readers should ascertain whether or not it can be used.

LIFO retail method. As with other LIFO concepts, tax theangoverning force behind the LIFO retail method. W ile y I AS 2 0 03regulations : I n t erp re t are at ion d Ap p licat io n o f Readers must ascertain whether regulations in their local jurisdictions permit application of this or any I n t er n at ion al Accou n t in g St an d ar ds similar method. by Bar r y J. Epstein and Abbas Ali ISBN:0471227366 Mir za

The steps used inJohn computing value of (952 ending inventory under the LIFO retail method are listed Wi ley & the Sons © 2003 pages) below and then applied to an example for illustrative purposes. This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with guide to depend for Recall that in the base year this select) the current yeara conversion price on index. 1. Calculate (or assistance index will be 1.00. in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

T ab le2.of Calculate Con t en t s the value of the ending inventory at both cost and retail. Remember, as with other

LIFO methods, tax regulations do not permit the use of LCM, so both markups and markdowns

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing are included in computation of the cost-to-retail ratio. However, the beginning inventory is Standar ds Preface excluded from goods available for sale at cost and at retail. Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

3. Restate the ending inventory at retail to base-year retail. This is accomplished by dividing the - Balance Sheet current ending inventory at retail by the current year index determined in step 1.

Chapter 2 Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

of are Recognized Gainsinand 4. Layers then treated theLosses same fashion as they were for the dollar-value LIFO example Chapter presented 4 - Cash Flow St atIfem earlier. theent ending inventory restated to base-year retail exceeds the previous year's Chapter amount 5 - Financial I nstr uments—Cash Receiv ables at base-year retail, a newand layer is established. Chapter 6

- I nventor y 5. The of LIFO is the Constr last step andContr requires Chapter 7 - computation Rev enue Recogni tion,cost I ncluding uction act s multiplying each layer at base-year

by the appropriate index and multiplying this product by the cost-to-retail ratio in order Chapter retail 8 - Property , Plant , and price Equipment to arrive at the LIFO cost for each layer. - I ntangi ble Asset s

Chapter 9

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and The following Chapter 10 - example illustrates a two-year period to which the LIFO retail method is applied. The first I nvestm ent Pr oper ty

period represents the first year of operations for the organization, and thus, is its base year.

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Year 1 12 Chapter

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Step 1—Because this is the base year, there is no need to compute an index, as it will always be 1.00.

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Chapter 15 2— - I ncom e Taxes Step Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y

Cost

Chapter 18 - Earnings Per Share

inventory ChapterBeginning 19 - I nterim Financial Repor ting ChapterPurchases 20 - Segm ent Repor ting

$ --

$ --

582,400

988,600

--

164,400

--

(113,000)

$582,400

$1,040,000

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Markups

Chapter 22 - For eign Curr ency ChapterMarkdowns 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies

Subtotal

Retail

Chapter 25 - I nflation and Hyperinflation

available fortssale ChapterTotal 26 -goods Gov er nm ent Gr an

$1,040,000

Appendix A - at Di sclosure Checklist Sales retail Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Ending year 1 inventory at retail

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex Cost-to-retail index 582,400/1.040,000 List of Tables Ending inventory at cost $200,000 x 0.56 List of Ex hibits and Ex am ples

840,000 $ 200,000

= 56% $112,000

3—Because this is the base year, the restatement to base-year cost is not necessary; List ofStep Sidebar s however, the computation would be $200,000/1.00 = $200,000. Steps 4 and 5—The determination of layers is again unnecessary in the base year; however, the computation would take the following format.

Ending inventory Conversion at base-year price index W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f retail

Cost-to retail ratio

I n t er n at ion al Accou n t in g St an d ar ds

Base year $200,000 by Bar r y J. Epstein and Abbas Ali ($200,000/1.00) Mir za

1.00 ISBN:0471227366 0.56

LIFO cost $112,000

John Wi ley & Sons © 2003 (952 pages)

Year 2

This com pact and t ruly com pr ehensive qui ck - refer ence

esent s account ants with a guide to dependofon Step 1—Thepr assumption is made that the computation anfor internal index yields a result of 1.12 assistance in the prepar at ion and under standing of financial (obtained by statements double-extending a representative sample). present ed in accordance with I AS.

2— T ab le Step of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Cost Retail Preface

Beginning inventory

$112,000

$ 200,000

ChapterPurchases 2 - Balance Sheet

716,300

1,168,500

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

I ncom e Statement, Stat em ent of Chan y, and Statem ent --ges in Equit 87,500 ChapterMarkups 3 of Recognized Gains and Losses ChapterMarkdowns 4 - Cash Flow St at em ent

--

(21,000)

Chapter 5

- Financial I nstr uments—Cash and Receiv ables $716,300 $1,235,000

Chapter 6

- I nventor y

Subtotal

available sale $1,435,000 ChapterTotal 7 -goods Rev enue Recognifor tion, I ncluding Constr uction Contr act s ChapterSales 8 - at Property retail , Plant , and Equipment Chapter 9

- I ntangi ble Asset s

Ending year 2 inventory at retail

Chapter 10 -

1,171,800 $ 263,200

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Cost-to-retail index = 58% Chapter 11 - Business Combinations and716,300/1,235,000 Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 3—The Step restatement Balance Sheet Dateof ending inventory at current year retail to base-year retail is done using

the13 index computed step 1. In thisTer case it is $263,200/1.12 = $235,000. Chapter - Financial I nstrinuments—Longm Debt Chapter 14 - Leases

Steps 4

Chapter 15 - I ncom e Taxes

and 5—We know that there is a LIFO layer in year 2 because the $235,000 inventory at baseyear retail exceeds the year 1 amount of $200,000.

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y

The computation Chapter 18 - Earnings Per Share of the LIFO cost for each layer is shown below. Chapter 19 - I nterim Financial Repor ting

Ending inventory at Chapter 20 - Segm ent Repor ting

Conversion base-year retail Chapter 21 - Accounting Changes and Cor rection of Er ror s price index ChapterBase 22 -year For eign Curr ency

$200,000

Cost-toretail ratio

LIFO cost

1.00

0.56

$112,000

1.12

0.58

22,736

Chapter($200,000/1.00) 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies

Year 2 layer

35,000

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

$235,000

Appendix A - Diyear sclosure Checklist Ending 2 inventory at LIFO cost Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

$134,736

Appendix The treatment C - Com ofparison subsequent of I AS, increments US GAAP, and UK decrements GAAP is the same for this method as it is for the

regular dollar-value method. I ndex List of Tables

Gross profit List of Ex hibits andmethod. Ex am ples List of Sidebar s

The gross profit method is used to estimate ending inventory when a physical count is not possible or feasible. It can also be used to evaluate the reasonableness of a given inventory amount. The cost of goods available for sale is compared with the estimated cost of goods sold. For example, assume the following data:

Beginning inventory Net purchases

$125,000 450,000

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds 600,000

Sales

by Bar r y J. Epstein and Abbas Ali

Estimated grossMir profit za

32%

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages)

Ending inventory is then estimated as follows:

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial $125,000 Beginning inventory statements present ed in accordance with I AS.

Net purchases

450,000

T ab le of Con t en t s

Cost of goods available for sale

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds goods sold [$600,000 - (32% x $600,000)] or (68% x $600,000) Cost of Preface

Estimated ending inventory

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

575,000 408,000 $167,000

Chapter 2 -profit Balance Sheet The gross method is used for interim reporting estimates, analyses by auditors, and estimates of I ncom e Statement, Stat em ent of The Chanmethod ges in Equit y, and Statem ent inventory lost in fires or other catastrophes. is generally not acceptable for either tax or Chapter 3 of Recognized Gains and Losses

annual financial reporting purposes (and is not in conformity with IAS 2). Thus, its major purposes are

Chapter 4 - and Cashinterim Flow St at em ent for internal reporting. Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Other Cost Topics - Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 7 Chapter 8

- Property , Base stock.

Chapter 9

Plant , and Equipment

- I ntangi ble Asset s

I nterests in Financial ent s, Associat Joint Ventur es, and is necessary for normal The base method assumesInstr thatum a certain level ofes,inventory investment Chapter 10 stock I nvestm ent Pr oper ty

business activities and is therefore permanent. The base stock inventory is carried at historical cost.

Chapter 11 - in Business Combinations and Consolidat ed Fin ancial Statements Decreases the base stock are considered temporary and are charged to cost of goods sold at Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he replacement Chapter 12 - cost. Increases are carried at current year costs. The base stock approach is seldom used Balance Sheet Date

in practice and it is not allowed for tax purposes in many jurisdictions, and the LIFO method, which is more commonly permitted, gives similar results. Although the original IAS 2 permitted the base stock Chapter Leases method,14it -has been proscribed since revised IAS 2 became effective in 1995. Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Standard costs. Chapter 17 - Stock holder s' Equit y

Standard are predetermined unit costs used by many manufacturing firms for planning and Chapter 18 costs - Earnings Per Share control 19 purposes. Chapter - I nterimStandard Financialcosts Reporare tingoften incorporated into the accounts, and materials, work in

process, finished goods inventories are all carried on this basis of accounting. The use of standard Chapter 20and - Segm ent Repor ting costs in financial reporting is acceptable if adjustments are made periodically to reflect current conditions and if its use approximates one of the recognized cost flow assumptions.

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Chapter 23 - Related- Part y Disclosures

Purchase commitments.

Chapter 24 - Specialized I ndustr ies Chapter 25 commitments - I nflation andgenerally Hyperinflation Purchase are not recorded in the accounts because they are executory in Chapter - Gov er nm ent Grdisclosure an ts nature.26 However, footnote is required for firm purchase commitments that are material in Appendix amount in A -accordance Di sclosure Checklist with IAS 37. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Furthermore, and in conformity with the same standard, if losses have been incurred in connection with firm purchase commitments, the losses must be accrued if probable and reasonably estimable. Note I ndex that this results in recognition of loss before the asset is recognized on the books. Contingencies are List of Tables discussed in detail in Chapter 12. Appendix C - Com parison of I AS, US GAAP, and UK GAAP

List of Ex hibits and Ex am ples List of Sidebar s Inventories

valued at selling price.

In exceptional cases, inventories may be reported at sales price less disposal costs. Such treatment is justified when cost is difficult to determine, quoted market prices are available, marketability is assured, and units are interchangeable. IAS 2 stipulates that producers' inventories of livestock, agricultural and forest products, and mineral ores, to the extent that they are measured at net realizable value in accordance with well-established practices, are to be valued in this manner. When inventory is valued above cost, revenue is recognized before the point of sale; full disclosure in the financial statements would, of course, be required.

Use of more than one cost method. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

IAS 2 did not address the question of whether a single reporting entity would be justified in using a I n t er n at ion al Accou n t in g St an d ar ds multiplicity of costing methods for different components of its inventory. In practice, many reporting ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali enterprises have Mir used za different methods; for example, the uses of LIFO for raw materials and FIFO for work in process and are fairly common. In other cases, conglomerate Johnfinished Wi ley &goods Sons ©inventories 2003 (952 pages) entities have certain operations or divisions that use one method, and others that employ alternative This com pact and t ruly com pr ehensive qui ck - refer ence costing formulae.pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial

While the issue was not raised, logicedsuggests that if with a variety statements present in accordance I AS. of costing methods were employed for essentially similar inventories by a single entity, it would make an understanding of the resulting T ab le of Con t en t s financial statements more difficult for users. Accordingly, the Standing Interpretations Committee (SIC) Wiley 20 03—Int er pretation and Application of its I nternational ing inventories must be costed by of theI AS IASC addressed this matter. In reaching conclusionAccount that similar Standar ds the same method, it weighed the guidance already contained in IAS 27 (on consolidated financial Preface reporting) and IAS 16 (on property, plant, and equipment). Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2 - Balance Sheet The existing standard on consolidations provides that uniform accounting policies are to be used for like transactions other events similar logic is to avoid adding apples and I ncomand e Statement, Statinem ent of circumstances. Chan ges in EquitThe y, and Statem ent Chapter 3 of Recognized Gains and Lossesstatements that are unintelligible as a consequence. The oranges to develop consolidated financial Chapter 4 - Cash Flow St atPreparation em ent IASC'sFramework for the and Presentation of Financial Statements similarly expresses Chapter 5 -that Financial I nstr uments—Cash and Receiv ables the notion measurement of like transactions and other events should be carried out in a consistent Chapter - I nventoran y entity and over the time of its ongoing existence, for purposes of both separate manner6 throughout

and consolidated financial reporting. Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s Chapter 8

- Property , Plant , and Equipment

IAS 16 permits the use of different methods of measurement for different classes of property and - I ntangi ble Asset s equipment. Thus, for example, buildings might be depreciated by the straightline method, and I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 -may be depreciated using an accelerated method; it can be justified based on patterns of equipment I nvestm ent Pr oper ty usage and other factors, such as likely incidence of repair and maintenance costs. However, the use of Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements different methods for similar assets in similar modes of use would not be consistent with IAS. Chapter 9

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Taking these matters into account, the logical conclusion would be that inventories used in similar fashion by a given entity, even differently sited or managed operations of a given enterprise, should be Chapter 14 - Leases costed by the same formula or method. The first interpretative release by the IASC's Standing Chapter 15 - I ncom e Taxes has endorsed this position. In SIC 1, it has held that, regarding the possible Interpretations Committee Chapter 16 Em ploy Benefit s (e.g., LIFO versus FIFO) for different types of inventories, for inventories use of different costeeformulae Chapter - Stock holder s'and Equit y having 17 different natures uses, differing cost formulae could be justified. It was noted, however, that Chapter 18 - in Earnings Per Share differences geographical locations are not sufficient to warrant using different costing methods. Chapter 19 - having I nterim the Financial Repor ting Inventories same characteristics should, on the other hand, be valued by means of the same cost Chapter 20 -formulae. Segm ent Disclosure Repor ting should be made of the accounting methods used in any event. Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Disclosure Requirements

Chapter 22 - For eign Curr ency

Chapter 23 - Related- Part y Disclosures

Chapter IAS 2 sets 24 -forth Specialized certain Idisclosure ndustr ies requirements relative to inventory accounting methods employed by

the entity statements. According to this standard, the following must be Chapter 25 preparing - I nflation the andfinancial Hyperinflation disclosed: Chapter 26 - Gov er nm ent Gr an ts Appendix A - accounting Di sclosure Checklist 1. The policies adopted in measuring inventories, including the costing methods (e.g., AppendixFIFO, B - I llustrativ e Financial St entemployed s Pr esent ed Under I AS weighted-average, oratem LIFO) Appendix C - Com parison of I AS, US GAAP, and UK GAAP

I ndex2. The total carrying amount of inventories and the carrying amount in classifications appropriate to

the enterprise

List of Tables

List of hibits and Ex am ples of inventories carried at net realizable value 3. ExThe carrying amount List of Sidebar s

4. The amount of any reversal of any previous write-down that is recognized in earnings for the period 5. The circumstances or events that led to the reversal of a write-down of inventories to net realizable value 6. The carrying amount of inventories pledged as security for liabilities

The type of information to be provided concerning inventories held in different classifications is somewhat flexible, but traditional classifications, such as raw materials, work in progress, finished goods, and supplies, employed. In dthe providers, inventories (which W ileshould y I AS 2normally 0 03 : I n tbe erp re t at ion an Apcase p licatofioservice n of are really akin to Iunbilled receivables) can be described as work in progress. n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

When the cost ofMir inventories is determined in accordance with the LIFO method, which is an available za alternative under John IAS 2, the financial must disclose the difference between the amount of Wi ley & Sons © statements 2003 (952 pages) inventories shownThis on com the balance sheet and either (1) the cost determined in accordance with either pact and t ruly com pr ehensive qui ck - refer ence the FIFO or weighted-average costing methods, subject to theonnet pr esent s account ants with a guide to depend forrealizable value rule, or (2) the lower of current (i.e., replacement) as of the balance sheet date orofnet realizable value. assistance incost the prepar at ion and under standing financial statements present ed in accordance with I AS.

In addition to the foregoing, the financial statements should disclose either the cost of inventories T ab le of Con t en t s recognized as an expense during the period (i.e., reported as cost of sales or included in other expense Wiley I AS 20 03—Int pretationcosts, and Application Account ingas an expense during the categories), or the er operating applicableoftoI nternational revenues, recognized Standar ds period, categorized by their respective natures. Preface

Chapter 1 inventories - I ntr oduction to I nter national Accounting Standar ds Costs of recognized as expense includes, in addition to the costs inventoried previously and Chapter 2 Balance Sheet attaching to goods sold currently, the excess overhead costs charged to expense for the period

because, under the standard, they be deferred to future I ncom e Statement, Statcould em entnot of Chan ges in Equit y, andperiods. Statem ent -

Chapter 3

of Recognized Gains and Losses

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Chapter 7: Revenue Recognition, Including I n t er n at ion al Accou n t in g St an d ar ds ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Construction Contracts Mir za John Wi ley & Sons © 2003 (952 pages) This com pact and tPerspective ruly com pr ehensiveand qui ck - refer ence Revenue Recognition Issues pr esent s account ants with a guide to depend on for

assistance the prepar atprinciples, ion and under standing of financial The IAS addressing revenueinrecognition in general terms, is IAS 18. It prescribes the statements present ed in accordance with I AS. accounting treatment for revenue arising from certain types of transactions and events and, while useful, is not a tcomprehensive treatise on the peculiarities on all the diverse forms of revenue and of T ab le of Con t en s possible recognition strategies that could be encountered. The basic ing premise is that revenue should be Wiley I AS 20 03—Int er pretation and Application of I nternational Account measured Standar ds at the fair value of the consideration that has been received when the product or service promised has been provided to the customer. Specific guidance applies to various categories of Preface revenues. Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Chapter 2

- Balance Sheet

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Thus, in the normal sale of goods, revenue is presumed to have been realized when the significant I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 rewards risks and have been transferred to the buyer, accompanied by the forfeiture of effective control of Recognized Gains and Losses by the seller, and the amount to be received can be reliably measured. For most routine transactions Chapter 4 - Cash Flow St at em ent (e.g., by retail merchants), this occurs when the goods have been delivered to the customer. Chapter 6 - of I nventor y of services, IAS 18 provides that one of two permitted methods be used, which In the case the sale Chapter 7 Rev enue Recogni ncluding Constr Contr act s are not alternatives but rathertion, are Idependent uponuction the circumstances. In the normal instance, when the Chapter 8 of- the Property , Plant , and Equipment outcome service transaction can be measured reliably, IAS 18 requires that some variant of Chapter 9 - I of ntangi ble Asset sbe used to recognize revenue. When that threshold condition cannot be "percentage completion" I nterests in Financial um ent s, Associat Ventur and satisfied, however, then revenue Instr is recognized only to es, theJoint extent that es, expenses which are probable of entthat Pr oper ty recovery areI nvestm incurred; is, profit is deferred and recognized only after full cost recovery is achieved.

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

For interest,Curr royalties and dividends, recognition is warranted is probable that economic ent Liabilit ies, Prov isions, Cont ingencies, and Evwhen ents it after t he benefits will Balance flow to the enterprise. Specifically, interest is recognized on a time proportion basis, taking Sheet Date into account the effective yield on the asset. are recognized on an accrual basis, in Chapter 13 - Financial I nstr uments—LongTer mRoyalties Debt accordance with the terms of the underlying agreement. Dividend income is recognized when the Chapter 14 - Leases shareholder's righteto receive payment has been established. Chapter 15 - I ncom Taxes Chapter 12 -

Chapter 16 - Em ploy ee Benefit s

In recent years, particularly with the advent of web-based "e-commerce" enterprises, there has been a large increase in the occurrence of barter transactions. The more controversial of the barter Chapter 18 - Earnings Per Share transactions involve swapping of advertising services (e.g., whereby two or more e-commerce Chapter 19 - "swap" I nterimdisplay Financial Repor tingon the others' websites), particularly when these were valued by operations advertising Chapter 20 to - Segm ent Repor reference arbitrary pricesting or those seldom-equaled in cash transactions at arm's-length. The SIC has Chapter - Accounting Changes Corestablishes rection of Erthe ror srequirement that, in order for revenue to be issued 21 an interpretation, SIC 31,and which Chapter 22 - in Forsuch eign advertising Curr ency swap situations, there must be an objective measure of the value of the recognized Chapter 23provided - RelatedDisclosures services byPart they entity seeking to recognize revenue. In the absence of such reliable data, no Chapter revenue24can - Specialized be recognized. I ndustr ies Chapter 17 - Stock holder s' Equit y

Chapter 25 - I nflation and Hyperinflation

IAS 18 also establishes certain disclosure requirements, including the revenue recognition accounting policies of the reporting entity.

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

Appendix B is - Iplanning llustrativ etoFinancial atem entrecognition s Pr esent ed as Under ASits Liabilities and Revenue project. It is The IASB addressStrevenue part Iof Appendix C Com parison of I AS, US GAAP, and UK GAAP believed that this project will attempt to craft more specific guidance on how various generic types of I ndex revenue are to be given recognition. List of Tables List of Ex hibits and Ex am ples List of Sidebar s

Sources of IAS

IASC'sFramework for Preparation and Presentation of Financial Statements IAS 18, SIC 31

ile yTerms I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f DefinitionsWof I n t er n at ion al Accou n t in g St an d ar ds

Fair value

by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

An amount for which an asset could be exchanged, or a liability settled, between This com pact and t ruly com pr ehensive qui ck - refer ence knowledgeable, willing in an to arm's-length pr esent s account ants parties with a guide depend on transaction. for assistance in the prepar at ion and under standing of financial

Ordinary activities statements present ed in accordance with I AS. Those activities of an enterprise which it undertakes as part of its business and such T ab le of Con t en t s related activities in which the enterprise engages in furtherance of, incidental to, or Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing arising from those activities. Standar ds Preface

Revenue

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Gross inflow of economic benefits resulting from an enterprise's ordinary activities is considered "revenue," provided those inflows result in increases in equity, other than I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 increases relating to contributions from owners or equity participants. Revenue refers of Recognized Gains and Losses to the gross amount (of revenue) and excludes amounts collected on behalf of third Chapter 4 - Cash Flow St at em ent parties.

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS and 2 0 03 : Examples I n t erp re t at ion an d Ap p licat io n o f Concepts, Rules, I n t er n at ion al Accou n t in g St an d ar ds

ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za John Widefines ley & Sons © 2003 to (952 pages) both revenue and gains. IAS 18 deals only with The IASC's Framework "income" include This com pact and t ruly com pr ck - referactivities ence revenue. Revenue is defined as income arisingehensive from thequi ordinary of an enterprise and may be pr esent s account ants with a guide to depend on for referred to by a variety of names including sales, fees, interest, dividends and royalties. Revenue assistance in the prepar at ion and under standing of financial encompasses only the grosspresent inflow of benefits or receivable by the enterprise, on its statements ed economic in accordance with received I AS.

Revenue.

own account. This implies that amounts collected on behalf of others—such as in the case of sales tax T ab of Con t en t tax, s orlevalue added which also flow to the enterprise along with the revenue from sales—do not qualify Wiley I AS 20 03—Int pretation Application of I nternational Account ingentity's reported revenue. Put as revenue. Thus, er these otherand collections should not be included in an Standar dsway, gross revenue from sales should be shown net of amounts collected on behalf of third another Preface parties. Chapter 1

- I ntr oduction to I nter national Accounting Standar ds Similarly, an agency relationship the amounts collected on behalf of the principal is not regarded as Chapter 2 in - Balance Sheet

revenue for Ithe agent. Instead, Stat the commission earned such collections qualifies as revenue of the ncom e Statement, em ent of Chan ges in on Equit y, and Statem ent agent. For -example, in theGains case and of a Losses travel agency, the collections from ticket sales do not qualify as of Recognized revenue4 or- income from itsem ordinary activities. Instead, it will be the commission on the tickets sold by Chapter Cash Flow St at ent the travel thatI nstr will uments—Cash constitute thatand entity's gross revenue. Chapter 5 agency - Financial Receiv ables Chapter 3

Chapter 6

- I nventor y

Scope of- Rev theenue standard. Recogni tion, I ncluding

Chapter 7 Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Constr uction Contr act s

This standard applies to the accounting for revenue arising from

The saleI nterests of goods; in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty

The11rendering of Combinations services; andand Consolidat ed Fin ancial Statements Chapter - Business Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter - of the enterprise's assets by others, yielding (for the enterprise) interest, dividends and The12use Balance Sheet Date

royalties. Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

A sale of goods encompasses both goods produced by the enterprise for sale to others and goods

Chapter 15 - for I ncom e Taxes purchased resale by the enterprise. The rendering of services involves the performance by the Chapter 16 Em ploy ee Benefit stask, based on a contract, over a contractually agreed period of time. enterprise of an agreed-upon Chapter 17 - Stock holder s' Equit y

The use18of- the enterprise's assets by others gives rise to revenue for the enterprise in the form of Chapter Earnings Per Share Chapter 19 - I nterim Financial Repor ting

Interest which is a charge for the use of cash and cash equivalent or amounts due to the enterprise;

Chapter 20 - Segm ent Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter 22 - Forwhich eign Curr Royalties areency charges for the use of long-term assets of the enterprise such as patents or Chapter 23 - RelatedPartby y Disclosures trademarks owned the enterprise; and Chapter 24 - Specialized I ndustr ies

Dividends whichand areHyperinflation distributions of profit to the holders of equity investments in the share capital Chapter 25 - I nflation of other enterprises.

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di does sclosure The standard notChecklist apply to revenue arising from Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Lease are US covered IAS Appendix C -agreements Com parison that of I AS, GAAP, by and UK17; GAAP I ndex

Dividends arising from investments in associates which are accounted for using the equity method, which are dealt with in IAS 28;

List of Tables

List of Ex hibits and Ex am ples

List ofInsurance Sidebar s contracts of insurance enterprises, a topic presently not covered by any IAS although

this is on the IASC's agenda for development of a standard in future; Changes in fair values of financial instruments, which is addressed by IAS 39; Natural increases in herds, agriculture and forest products, a subject currently in Exposure Draft stage and soon to be promulgated as a standard; The extraction of mineral ores, presently not covered by any IAS but which is also on the agenda of

the IASC for development of a standard in the future; and Changes in the value of other current assets.

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Measurementbyof revenue. Bar r y J. Epstein

ISBN:0471227366 and Abbas Ali Mir za The quantum of revenue to be recognized is usually dependent upon the terms of the contract between John Wi ley & Sons © 2003 (952 pages)

the enterprise and the buyer of goods, the recipient of the services, or the users of the assets of the This com pact and t ruly com pr ehensive qui ck - refer ence enterprise. Revenue should be measured at the fair value of the consideration received or receivable, pr esent s account ants with a guide to depend on for net of any trade discounts volume rebates allowed the enterprise. assistanceand in the prepar at ion and underby standing of financial statements present ed in accordance with I AS.

When the inflow of the consideration, which is usually in the form of cash or cash equivalents, is T ab le of Con t en t s value of the consideration will be an amount lower than the nominal value of the deferred, the fair Wiley I AS 20 03—Int pretation and Application I nternational Account ing consideration. Theerdifference between the fairofvalue and the nominal value of the consideration, which Standar ds the time value of money, is recognized as interest revenue. represents Preface

When the offers to the Chapter 1 enterprise - I ntr oduction to Iinterest-free nter national extended Accountingcredit Standar ds buyer or accepts a promissory note from the buyer consideration) that bears either no interest or a below-market interest rate, such an Chapter 2 (as - Balance Sheet arrangementI ncom would construed asem a ent financing transaction. a caseent the fair value of the e be Statement, Stat of Chan ges in EquitIn y, such and Statem consideration ascertained by discounting of is Recognized Gains and Losses the future inflows using an imputed rate of interest. The imputed4 rate of interest Chapter - Cash Flow Stis ateither em ent "the prevailing rate of interest for a similar instrument of an issuer with a similar rating,I nstr or auments—Cash rate of interestand that discounts Chapter 5 credit - Financial Receiv ables the nominal amount of the instrument to the current cash sales price of the goods or services." (IAS 18, Paragraph 11) Chapter 6 - I nventor y Chapter 3

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

To illustrate this point, let us consider the following example:

Hero International is a car dealership that is known to offer excellent packages for all new models - I ntangi ble Asset s of Japanese cars. Currently, it is advertising on the television that there is a special offer for all I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 2003 Year models a certain make. The offer is valid for all purchases made on or before I nvestm ent of Pr oper ty September 30, 2002. The special deal isedeither a cash payment in full of $20,000 or a zero Chapter 11 - Business Combinations andoffer Consolidat Fin ancial Statements down payment with extended credit terms of 2 years—24 monthly installments of $1,000 each. Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 -anyone opting for the extended credit terms would pay $24,000 in total. Thus, Balance Sheet Date Chapter 9

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Since there is a difference of $4,000 between the cash price of $20,000 and the total amount payable if the car is paid for in 24 installments of $ 1,000 each, this arrangement is effectively a Chapter 15 - I ncom e Taxes financing transaction (and of course a sale transaction as well). The cash price of $20,000 would Chapter - Em ploy Benefit s of consideration attributable to the sale of the car. The difference be 16 regarded asee the amount Chapter 17 - Stock holderprice s' Equit y the aggregate amount payable in monthly installments is interest between the cash and Chapter 18 - Earnings revenue and is toPer beShare recognized over the period of 2 years on a time proportion basis (using the Chapter 19 - I nterim Repor ting effective interestFinancial method). Chapter 14 - Leases

Chapter 20 - Segm ent Repor ting

Exchanges of similar and dissimilar Chapter 21 - Accounting Changes and Cor rection ofgoods Er ror s

and services.

Chapter 22 - For eign Curr ency

When goods or services are exchanged or swapped for similar goods or services, the earning process is not considered to be complete. Thus the exchange is not regarded as a transaction that generates Chapter 24 - Specialized I ndustr ies revenue. Such exchanges are common in certain commodity industries, such as oil or milk industries, Chapter 25 - I nflation and Hyperinflation where suppliers usually swap inventories in various locations in order to meet geographically diverse Chapter 26 - Gov er nm ent Gr an ts demand on a timely basis. Chapter 23 - Related- Part y Disclosures

Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent Under I AS When goods or services of a dissimilar nature are ed swapped, the earning process is considered to be Appendix C and - Com parison of I AS, USisGAAP, and UK complete, thus the exchange regarded as aGAAP transaction that generates revenue. The revenue

thus generated is measured at the fair value of the goods or services received or receivable. If in this I ndex process cash or cash equivalents are also transferred, then the fair value should be adjusted by the List of Tables amount of cash cash equivalents (commonly referred to as "boot") transferred. In certain cases, the List of Ex hibits andorEx am ples fairofvalue of the List Sidebar s goods or services received cannot be measured reliably. Under such circumstances,

fair value of goods or services given up, adjusted by the amount of boot transferred, is the measure of revenue to be recognized. Barter arrangements are examples of such exchanges involving goods that are dissimilar in nature.

Identification of the transaction. While setting out clearly the criteria for the recognition of revenue under three categories—sale of goods, rendering of services and use of the enterprise's assets by others—the standard clarifies that

these should be applied separately to each transaction. In other words, the recognition criteria should be applied to the separately identifiable components of a single transaction consistent with the principle of "substance over form." W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

For example, a washing machine is sold with an after-sale service warranty. The selling price includes ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali a separately identifiable Mir za portion attributable to the after-sale service warranty. In such a case, the standard requiresJohn that Wi theleyselling price of the machine should be apportioned between the two & Sons © 2003 (952 washing pages) separately identifiable components and each one recognized according to an appropriate recognition This com pact and t ruly com pr ehensive qui ck - refer ence criterion. Thus, the portion of the selling price attributable to the warranty should be deferred pr esent s account ants with a guide to depend on after-sales for and recognized over the period during which is performed. The remaining selling price assistance in the prepar at ion the andservice under standing of financial statements presentif ed accordance criteria with I AS. should be recognized immediately theinrecognition for revenue from sale of goods (explained below) are satisfied. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation andare Application of I nternational Account ing Similarly, the recognition criteria to be applied to two or more separate transactions together when Standar ds

they are connected or linked in such a way that the commercial effect (or substance over form) cannot be understood without considering the series of transactions as a whole. For example, company X sells Chapter 1 - I ntr oduction to I nter national Accounting Standar ds a ship to company Y and later enters into a separate contract with company Y to repurchase the same Chapter 2 it. - Balance Sheet ship from In this case the two transactions need to be considered together in order to ascertain I ncom e Statement, em ent of Chan ges in Equit y, and Statem ent whether or not revenue is to be Stat recognized. Chapter 3 Preface

of Recognized Gains and Losses

Chapter 4 - Cash Flow St at emcriteria. ent Revenue recognition Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter According 6 -toI nventor the IASC's y Framework, revenue is to be recognized when it is probable that future

economic willRecogni flow totion, the enterprise and reliable measurement of the quantum of revenue is Chapter 7 benefits - Rev enue I ncluding Constr uction Contr act s possible. on these tenets of revenue recognition stated in the IASC's Framework, Chapter 8 Based - Property , Plantfundamental , and Equipment IAS 18 9establishes criteria Chapter - I ntangi ble Assetfor s recognition of revenue from three categories of transactions—the sale of goods, the rendering of Financial services,Instr and um theent use others the enterprise's assets. In the case of the I nterests in s, by Associat es,ofJoint Ventur es, and first two categories producing revenue, the standard prescribes certain additional I nvestmof enttransactions Pr oper ty criteria 11 for -recognition of revenue. In theConsolidat case of revenue fromStatements the use by others of the enterprise's Chapter Business Combinations and ed Fin ancial assets, the standard does not overtly prescribe additional criteria, it does Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev entsbut after t he provide guidance on the Chapter 12 bases to be Balance adoptedSheet in revenue Date recognition from this source. This may, in a way, be construed as an additional forI nstr revenue recognition this source of revenue. Chapter 13 criterion - Financial uments—LongTerfrom m Debt Chapter 10 -

Chapter 14 - Leases

Revenue Chapter 15 - Irecognition ncom e Taxes

from the sale of goods.

Chapter 16 - Em ploy ee Benefit s

Revenue from the sale of goods should be recognized if the all of the five conditions mentioned below are met.

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

Chapter - I nterim has Financial Repor ting The19enterprise transferred significant risks and rewards of ownership of the goods to the buyer; Chapter 20 - Segm ent Repor ting

The21enterprise does not retain continuing managerial involvement (akin to that usually Chapter - Accounting Changes andeither Cor rection of Er ror s associated with ownership) or effective control over the goods sold;

Chapter 22 - For eign Curr ency

Chapter - Relatedy Disclosures The23quantum ofPart revenue to be recognized can be measured reliably; Chapter 24 - Specialized I ndustr ies

The25probability benefits related to the transaction will flow to the enterprise exists; Chapter - I nflationthat andeconomic Hyperinflation and26 - Gov er nm ent Gr an ts Chapter Appendix A - Di sclosure Checklist

The costs incurred or to be incurred in respect of the transaction can be measured reliably.

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Appendix C - Com parison I AS,inUS GAAP, andanUK GAAP The determination of theofpoint time when enterprise is considered to have transferred the I ndex significant risks and rewards of ownership in goods to the buyer is critical to the recognition of revenue List of the Tables from sale of goods. If upon examination of the circumstances of the transfer of risks and rewards of List ownership of Ex hibits by and the enterprise Ex am ples it is determined that the enterprise could still be considered as having

retained significant risks and rewards of ownership, the transaction could not be regarded as a sale. List of Sidebar s Some examples of situations illustrated by the standard in which an enterprise may be considered to have retained significant risks and rewards of ownership, and thus revenue is not recognized, are set out below. A contract for the sale of an oil refinery stipulates that installation of the refinery is an integral and a significant part of the contract. Therefore, until the refinery is completely installed by the enterprise that sold it, the sale would not be regarded as complete. In other words, until the completion of the

installation, the enterprise that sold the refinery would still be regarded as the effective owner of the refinery even if the refinery has already been delivered to the buyer. Accordingly, revenue will not be recognized enterprise the W by ile ythe I AS 2 0 03 : I nuntil t erpitrecompletes t at ion an d Apinstallation p licat io n oof f the refinery. I n t er n at ion al Accou n t in g St an d ar ds

Goods are sold on approval, whereby the buyer has negotiated a limited right of return. Since there ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali is a possibility Mirthat za the buyer may return the goods, revenue is not recognized until the shipment has been formally accepted by ©the buyer, or the goods have been delivered as per the terms of the John Wi ley & Sons 2003 (952 pages) contract, andThis the com timepact stipulated in the contract for rejection has expired. and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

In the case ofassistance "layaway in sales," underat terms whichstanding the goods are delivered only when the buyer the prepar ion andofunder of financial makes the final paymentpresent in a series installments, is not recognized until the last and statements ed inof accordance withrevenue I AS. final payment is received by the enterprise. Upon receipt of the final installment, the goods are T ab le of Con t en t s delivered to the buyer and revenue is recognized. However, based upon experience, if it can Wiley reasonably I AS 20 03—Int pretation and I nternational Account ingrevenue may be recognized beerpresumed that Application most such of sales are consummated, Standar ds when a significant deposit is received from the buyer and goods are on hand, identified and ready Preface for delivery to the buyer. Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2 - Balance Sheet If the enterprise retains only an insignificant risk of ownership, the transaction is considered a sale and revenue is recognized. For example, department store has y, a policy to offer I ncom e Statement, Stat emaent of Chan ges in Equit and Statem entrefunds if a customer is Chapter 3 Recognized Gains and Losses not satisfied.ofSince the enterprise is only retaining an insignificant risk of ownership, revenue from sale Chapter 4 is- recognized. Cash Flow StHowever, at em ent since the enterprise's refund policy is publicly announced and thus of goods Chapter 5 - Financial andthe Receiv would have created aI nstr validuments—Cash expectation on part ables of the customers that the store will honor its policy

of refunds, provision Chapter 6 - aI nventor y is also recognized for the best estimate of the costs of refunds, as explained in IAS 37.7 Chapter

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Another important condition for recognition of revenue from the sale of goods is the existence of the - I ntangi ble Asset s probability that the economic benefits will flow to the enterprise. For example, for several years an I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 -has been exporting goods to a foreign country. In the current year, due to sudden restrictions enterprise I nvestm ent Pr oper ty by the foreign government on remittances of currency outside the country, collections from these sales Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements were not made by the enterprise. As long as it is uncertain if these restrictions will be removed, revenue Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter should 12 not-be recognized Balance Sheet from Date these exports, since it may not be probable that economic benefits will flow to the enterprise. Once the restrictions areDebt withdrawn and uncertainty is removed, revenue may be Chapter 13 - Financial I nstr uments—LongTer m recognized. Chapter 14 - Leases Chapter 9

Chapter 15 - Iimportant ncom e Taxes Yet another condition for recognition of revenue from the sale of goods relates to the Chapter 16 Em ploy ee Benefit reliability of measuring costs sassociated with the sale of goods. Thus, if expenses such as those Chapter Stock holder Equitpostshipment y relating17 to -warranties ors'other costs cannot be measured reliably, then revenue from the Chapter - Earnings Per Share sale of 18 such goods should also not be recognized. This rule is based on the principle of matching of Chapter 19 and - I nterim Financial Repor ting revenues expenses. Chapter 20 - Segm ent Repor ting

Revenue recognition from rendering Chapter 21 - Accounting Changes andthe Cor rection of Er rorof s

services.

Chapter 22 - For eign Curr ency

When the outcome of the transaction involving the rendering of services can be estimated reliably, revenue relating to that transaction should be recognized. The recognition of revenue should be with Chapter 24 - Specialized I ndustr ies reference to the stage of completion of the transaction at the balance sheet date. The outcome of a Chapter 25 - I nflation and Hyperinflation transaction can be estimated reliably when each of the four conditions set out below are met. Chapter 23 - Related- Part y Disclosures

Chapter 26 - Gov er nm ent Gr an ts

Appendix - Di sclosure Checklist The Aamount of revenue can be measured reliably; Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

The Cprobability that of theI AS, economic benefits related Appendix - Com parison US GAAP, and UK GAAPto this transaction will flow to the enterprise I ndex

exists;

List ofThe Tables stage of completion of the transaction at the balance sheet date can be measured reliably; and List of Ex hibits and Ex am ples

costs List ofThe Sidebar s incurred for the transaction and the costs to complete the transaction can be measured reliably. This manner of recognition of revenue, based on the stage of completion, is often referred to as the "percentage-of-completion" method. IAS 11 also mandates recognition of revenue on this basis. Revenue is recognized only when it is probable that the economic benefits related to the transaction will flow to the enterprise. However, if there is uncertainty with regard to the collectability of an amount already included in revenue, the uncollectable amount should be recognized as an expense instead of adjusting it against the amount of revenue originally recognized.

In order to be able to make reliable estimates, an enterprise should agree with the other party to the following: W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Each other's Ienforceable rights with respect the n t er n at ion al Accou n t in g St anto d ar dsservices provided; by Bar r y J. Epstein and Abbas Ali

The consideration Mir za to be exchanged; and

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages)

The manner and terms of settlement.

This com pact and t ruly com pr ehensive qui ck - refer ence esent s account ants with a guide to depend on for It is important thatprthe enterprise has in place an effective internal financial budgeting and reporting assistance in the prepar at ion and under standing of financial system. This ensures that thepresent enterprise promptlywith review statements ed in can accordance I AS. and revise the estimates of revenue as

the service is performed. It should however be noted that because there is a need for revisions it does T ab le by of itself Con t make en t s the estimate of the outcome of the transaction unreliable. not Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds payments and advances received from customers are not a measure of the stage of Progress Preface completion. The stage of completion of a transaction may be determined in a number of ways.

Depending naturetoofI nter the transaction, the method used Chapter 1 - on I ntrthe oduction national Accounting Standar ds may include Chapter 2

- Balance Sheet

Chapter 3

-

Surveys of work performed;

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Services performed to date as a percentage of total services to be performed; or

Chapter 4

- Cash Flow St at em ent

Chapter - Financialthat I nstr uments—Cash Receiv The5 proportion costs incurred toand date bearables to the estimated total costs of the transaction. (Only Chapter 6 that - I nventor costs reflecty services performed or to be performed are included in costs incurred to date or

estimated Chapter 7 - Revtotal enuecosts.) Recogni tion, I ncluding Constr uction Contr act s Chapter 8

- Property , Plant , and Equipment

In certain cases services are performed by an indeterminable number of acts over a specified period of - I ntangi ble Asset s time. Revenue in such a case should be recognized on a straight-line basis unless it is possible to I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10the - stage of completion by some other method more reliably. Similarly when in a series of acts estimate I nvestm ent Pr oper ty to be performed in rendering a service, a specific ed actFin is ancial much Statements more significant than other acts, the Chapter 11 - Business Combinations and Consolidat recognition is postponed until the significant act is performed. Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 9

Chapter 12 -

Balance Sheet Date

During the early stages of the transaction it may not be possible to estimate the outcome of the transaction reliably. In all such cases, where the outcome of the transaction involving the rendering of Chapter 14 - Leases services cannot be estimated reliably, revenue should be recognized only to the extent of the expenses Chapter 15 - I ncom e Taxes recognized that are recoverable. However, in a later period when the uncertainty that precluded the Chapter - Em ployof eethe Benefit s reliable16 estimation outcome no longer exists, revenue is recognized as usual. Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 17 - Stock holder s' Equit y

Note "percentage-of-completion" method is discussed in detail in the second part of this Chapter 18 The - Earnings Per Share numerical examples illustrating the method, please refer to the second part of Chapter 19 chapter. - I nterimFor Financial Repor ting chapter relating Chapter 20 this - Segm ent Repor tingto "Construction Contracts." Chapter 21 - Accounting Changes and Cor rection of Er ror s

Revenue recognition from interest, royalties, and dividends.

Chapter 22 - For eign Curr ency

Chapter 23 - Related- Part y Disclosures

Revenue arising from the use by others of the enterprise's assets yielding interest, royalties and

Chapter 24 should - Specialized I ndustr ieswhen both of the following two conditions are met: dividends be recognized Chapter 25 - I nflation and Hyperinflation

1. It is probable that the economic benefits relating to the transaction will flow to the enterprise; and

Chapter 26 - Gov er nm ent Gr an ts

Appendix A - amount Di sclosure Checklist 2. The of the revenue can be measured reliably. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

The bases recognition theUKrevenue Appendix C - prescribed Com parisonforofthe I AS, US GAAP, of and GAAP are the following: I ndexa. In the case of interest—the time proportion basis that takes into account the effective yield on the assets; List of Tables List of Ex hibits and Ex am ples

b. In the case of royalties—the accrual basis in accordance with the substance of the relevant agreement; and

List of Sidebar s

c. In the case of dividends—when the shareholder's right to receive payment is established. According to IAS 18, para 31, "the effective yield on an asset is the rate of interest used to discount the stream of future cash receipts expected over the life of the asset to equate to the initial carrying amount of asset." Interest revenue includes the effect of amortization of any discount, premium or other difference between the initial carrying amount of a debt security and its amount at maturity.

When unpaid interest has accrued before an interest-bearing investment is purchased by the enterprise, the subsequent receipt of interest is to be allocated between preacquisition and postacquisition periods. ofreinterest that to the acquisition by the W ile y IOnly AS 2 the 0 03portion : I n t erp t at ion an d accrued Ap p licat subsequent io n o f enterprise is recognized as income. The remaining portion of interest that is attributable to the I n t er n at ion al Accou n t in g St an d ar ds preacquisition period is treated as a reduction of the cost of the investment, as explained by IAS 39. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za Similarly, dividends on equity securities declared from preacquisition profits are treated as reduction of the cost of investment. Ifley it is&difficult make such an allocation except on an arbitrary basis, dividends John Wi Sons © to 2003 (952 pages) are recognized asThis revenue unless representquia ck recovery of part of the cost of the equity com pact and they t ruly clearly com pr ehensive - refer ence pr para esent 32). s account ants with a guide to depend on for securities (IAS 18, assistance in the prepar at ion and under standing of financial in accordance with I AS.

Disclosures. statements present ed T ab le of Con t en t s

An enterprise should disclose the following:

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

The accounting policies adopted for the recognition of revenue including the methods adopted to determine the stage of completion of transactions involving the rendering of services;

Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter - Balance Sheetsignificant category of revenue recognized during the period including revenue The2 amount of each arising from I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of Recognized Gains and Losses

saleFlow of goods; Chapter 4 The - Cash St at em ent Chapter 5 Chapter 6

- Financial I nstr uments—Cash and Receiv ables

The rendering of services; and - I nventor y

Chapter 7 Interest, - Rev enue Recogniand tion,dividends. I ncluding Constr uction Contr act s royalties, Chapter 8 - Property , Plant , and Equipment

The9 amounts from exchanges of goods or services included in each significant Chapter - I ntangirevenue ble Assetarising s categoryI nterests of revenue. in Financial Instr um ent s, Associat es, Joint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty

Accounting for barter transactions. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 The much-heralded of Date e-commerce (i.e., commerce conducted via Internet, based on commercial Balance era Sheet

websites at end ["B-to-C" business] or at intermediate consumers, such as Chapter 13directed - Financial I nstrconsumers uments—LongTer m Debt

wholesalers and manufacturers ["B-to-B" business]) began to rapidly gain favor by the late 1990s. Although profits have proven to be elusive for many early entrants, it is nonetheless true that the Chapter 15 - I ncom e Taxes majority of businesses today believe that they cannot afford to ignore e-commerce, if only to maintain a Chapter 16 - Em ploy ee Benefit s presence in that marketplace as their competitors do likewise. Chapter 14 - Leases

Chapter 17 - Stock holder s' Equit y

Chapter 18 - Earnings Per Share This phenomenon corresponded with another trend, that of investors and others finding value in new Chapter 19 - I nterim Financial Repor ting sales volume and numbers of "hits" on websites, while "performance" measures such as gross Chapter discounting 20 - Segm the importance ent Repor ting (for high technology and start-up entities in particular) of the traditional

measure namely profits. Therection confluence ofsthese two structural changes (at least as long Chapter 21of- success, Accounting Changes and Cor of Er ror as they22 both endured: the market crash in 2000 may have tempered, if not ended, the illusion of growth Chapter - For eign Curr ency and successful operations based solely on reported revenues) provided unfortunate motivation to some Chapter 23 - RelatedPart y Disclosures entities24 to seek ways toI inflate reported revenues, if not profits. In the case of e-commerce enterprises, Chapter - Specialized ndustr ies this proved be readily Chapter 25 - to I nflation and accomplished, Hyperinflation as cooperating groups of such entities could provide "banner

advertising" among themselves. With each entity "buying" advertising and "selling"" advertising, a liberal interpretation of financial reporting standards could enable each of them to inflate reported Appendix A - Di sclosure Checklist revenues. While corresponding expenses were also necessarily exaggerated and net earnings affected Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS not at all (unless revenues and expenses were reported in different fiscal periods, which also occurred), Appendix C - Com parison of I AS, US GAAP, and UK GAAP with investors mesmerized by gross revenue, the impact was to encourage overvaluation of the entities' I ndex shares in the market. Chapter 26 - Gov er nm ent Gr an ts

List of Tables List As of certain Ex hibits recently and Expublicized am ples financial reporting frauds have demonstrated, distortion of revenues via

"swap" arrangements has hardly been constrained to the providing and acquiring of advertising (e.g., List of Sidebar s the "capacity swaps" of many US telecom and energy companies). However, the bartering of advertising services has been the first to receive the attention of the SIC, which issued SIC 31 at yearend 2001 to prescribe revenue recognition principles to be applied to these transactions. This interpretation addresses how revenue from a barter transaction involving advertising services received or provided in a barter transaction should be reliably measured. The SIC agreed that the enterprise providing advertising should measure revenue from the barter transaction based on the fair value of the advertising services it has provided to its customer, and not on the value of that received.

In fact, the SIC states categorically that the value of the services received cannot be used to reliably measure the revenue generated by the services provided. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Furthermore, the IInterpretation holds that the fair value of advertising services provided in a barter n t er n at ion al Accou n t in g St an d ar ds transaction can be reliably measured only by reference to nonbarter transactions that involve ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali advertising similarMirtozathe advertising in the barter transaction, when those transactions occur frequently, are expected to continue occurring after John Wi ley & Sons © 2003the (952barter pages)transaction, represent a predominant source of revenue from advertising similar to the advertising in the barter transaction, involve cash and/or another This com pact and t ruly com pr ehensive qui ck - refer ence form of consideration (e.g., marketable securities, nonmonetary and other services) that has a pr esent s account ants with a guide to depend on assets, for reliably fair value,assistance and do not theatsame counterparty as inofthe barter transaction. All of these in involve the prepar ion and under standing financial statements present accordance with Ito AS.be recognized from the advertising barter conditions must be satisfied in ordered to invalue the revenue transaction. T ab le of Con t en t s Wiley I AS based 20 03—Int er pretation and Application of ISIC nternational Account ing Clearly, on the criteria now mandated by 31, the more common barter transactions, Standar ds

involving mere "swaps" of advertising among the members of the bartering group, will henceforth not be the basis for any revenue recognition by any of the parties thereto.

Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ileContract y I AS 2 0 03 : I Accounting n t erp re t at ion an d Perspective Ap p licat io n o f Construction and Issues I n t er n at ion al Accou n t in g St an d ar ds

by Barofr yaccounting J. Epstein and Abbas Ali construction ISBN:0471227366 The principal concern for long-term contracts involves the timing of revenue Mir za It has been well accepted that, given the long-term nature of such projects, (and profit) recognition. Wi ley & until Sonscompletion © 2003 (952 pages) deferring revenueJohn recognition would often result in the presentation of periodic financial This com pact and t ruly of com pr ehensive ck - referentity ence during the period. In extreme reports that fail to convey the true level activity of thequi reporting pr esent s account ants with a guide to depend on for cases, in fact, there could be periods of no apparent activity, and others of exaggerated amounts, when assistance in the prepar at ion and under standing of financial in fact the entity was operating at a rather constant rate production during all of the periods. To avoid statements present ed in accordance withofI AS. these distortions, the percentage of completion method was developed, which reports the revenues T ab le of Con t ento t sthe degree to which the projects are being completed, even absent full completion and, proportionally Wiley I AS cases, 20 03—Int er pretation andright Application of for I nternational Account ing in many even absent the to collect the work done to date. Standar ds

The major challenges in using percentages of completion accounting are to accurately gauge the Preface extent to the projects are national being finished, and Standar to assess Chapter 1 which - I ntr oduction to I nter Accounting ds the ability of the entity to actually bill and collect for work done. Chapter 2 the - Balance Sheet Since many projects are priced at fixed amounts, or in some other fashion prevent the passing through to the the ges full amount costStatem overruns, I ncom e Statement, Statcustomers em ent of Chan in Equit y,ofand ent the computation of periodic profits must be sensitive notLosses merely to the extent to which the project is nearing completion, of Recognized Gains and but also4 to-the terms underlying contractual arrangements. Chapter Cash FlowofStthe at em ent Chapter 3

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

IAS 11 is the salient international standard addressing the accounting for construction contracts and - I nventor y other situations in which the percentage of completion method of revenue recognition would be Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s appropriate. This standard uses the recognition criteria established by the IASC's Framework as the Chapter 8 - Property , Plant , and Equipment basis for the guidance it offers on accounting for construction contracts. The various complexities in Chapter 9 IAS - I ntangi ble Assetthe s estimation of revenues, costs, and progress toward completion, are set applying 11, including I nterests in Financial forth in 10 the- following discussion. Instr um ent s, Associat es, Joint Ventur es, and Chapter Chapter 6

I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Sources of IASStatements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date IAS 10, 11, 23, 37

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

ile yTerms I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f DefinitionsWof I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za Additional asset stipulation

John Wi ley & Sons © 2003 (952 pages)

A special provision in a construction contract which either gives the option to the This com pact and t ruly com pr ehensive qui ck - refer ence customer requireants construction of an additional or permits amendment to the pr esent stoaccount with a guide to depend on asset for construction contract so as to include an standing additional not envisioned by the assistance in the prepar at ion and under of asset financial statements present ed in witha Iseparate AS. original contract should beaccordance construed as construction contract when T ab le of Con t en t s 1. The additional asset differs significantly (in design, function, or technology)

from theand asset(s) covered the original contract; Wiley I AS 20 03—Int er pretation Application of Iby nternational Account ing or Standar ds

2. The extra contract price fixed for the construction of the additional asset is negotiated without regard to the original contract price.

Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter - Balance Sheet Back2 charges I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Billings for work of Recognized Gains performed and Lossesor costs incurred by one party that, in accordance with the

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

agreement, should have been performed or incurred by the party billed.

Chapter 5

Financial I nstr uments—Cash and Receiv ables Billings- on long-term contracts

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Accumulated billings sent to the purchaser at intervals as various milestones in the project are reached.

Chapter 9 - orders I ntangi ble Asset s Change Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Modifications of an original contract that effectively change the provisions of the I nvestm ent Pr oper ty

contract without adding new provisions; synonymous with variations.

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Claims Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Amounts in excess of the agreed-on contract price that a contractor seeks to collect from a customer (or another party) for customer-caused delays, errors in Chapter 14 - Leases specifications and designs, disputed variations in contract work, or other occurrences Chapter 15 - I ncom e Taxes that are alleged to be the causes of unanticipated costs. Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y Combining (grouping) contracts Chapter 18 - Earnings Per Share

Grouping two or more contracts, whether with a single customer or with several

Chapter 19 - I nterim Financial Repor ting profit center for accounting purposes, provided that customers, into a single Chapter 20 - Segm ent Repor ting

1. The group of contracts is negotiated as a single package;

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter 22 - For eign2.Curr ency The contracts combined are so closely interrelated that, in essence, they could Chapter 23 - Related- Part Disclosures as a single contract negotiated with an overall profit margin; and bey considered Chapter 24 - Specialized I ndustr ies

3. and TheHyperinflation contracts combined are either executed concurrently or in a sequence. Chapter 25 - I nflation Chapter 26 - Gov er nm ent Gr an ts

Construction contract

Appendix A - Di sclosure Checklist

Contract specifically entered into for the construction of an asset or a combination of assets that are closely interrelated or interdependent in terms of their design, Appendix C - Com parison of I AS, US GAAP, and UK GAAP technology, and function or their end use or purpose. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS I ndex

List Construction-in-progress of Tables (CIP) List of Ex hibits and Ex am ples List of Sidebar s

Inventory account used to accumulate the construction costs of the contract project. For the percentage-of-completion method, the CIP account also includes the gross profit earned to date.

Contract costs Comprised of costs directly related to a specific contract, costs that are attributable to the contract activity in general and can be allocated to the contract, and other costs that are specifically chargeable to the customer under the terms of the contract.

Contract revenue Comprised of initial amount of revenue stipulated by the contract plus any variations in W contract work, claims, and provided that these extra amounts ile y I AS 2 0 03 : I n t erp re incentive t at ion an payments, d Ap p licat io n of n t er n at ion al the Accou n t in g St an d ar dsset by the IASC's Framework (i.e., regarding of Irevenue meet recognition criteria ISBN:0471227366 Bar r y J. Epstein andeconomic Abbas Alibenefits flowing thebyprobability of future to the contractor and reliability of Mir za measurement). John Wi ley & Sons © 2003 (952 pages)

Cost-plus contract This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for Construction contract in which the contractor is reimbursed for allowable costs plus assistance in the prepar at ion and under standing of financial either a percentage costs or awith fixed fee. statements presentof edthese in accordance I AS. T ab le Cost-to-cost of Con t en t smethod Wiley I AS 20 03—Int er pretation and Application of I nternational Account the ing extent of progress toward Percentage-of-completion method used to determine Standar ds

completion on a contract. The ratio of costs incurred through the end of the current year divided by the total estimated costs of the project is used to recognize income.

Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter Estimated 2 - Balance cost toSheet complete I ncom e Statement, Stat emcost ent of of materials, Chan ges inlabor, Equit y, and Statem entcosts, and indirect costs Anticipated additional subcontracting of Recognized Gains and Losses

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

(overhead) required to complete a project at a scheduled time.

Chapter 5 - Financial I nstr uments—Cash and Receiv ables Fixed-price contract Chapter 6 Chapter 7 Chapter 8 Chapter 9

- I nventor y Construction contract wherein the contract revenue is fixed either in absolute terms or - Revis enue tion, ncluding Constr uction Contr act s fixedRecogni in terms of Iunit rate of output; in certain cases both fixed prices being subject - Property and Equipment to any, Plant cost ,escalation clauses, if allowed by the contract. - I ntangi ble Asset s

IncentiveI nterests payments in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr operamounts ty Any additional payable to the contractor if specified performance standards Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements are either met or surpassed. Chapter 10 -

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balance Sheet Datemethod Percentage-of-completion

Chapter 13 - Financial I nstr uments—Longm Debt Method of accounting thatTer recognizes income on a contract as work progresses by Chapter 14 - Leases matching contract revenue with contract costs incurred, based on the proportion of Chapter 15 - I ncom e Taxes work completed. However, any expected loss, which is the excess of total incurred Chapter 16 - Em and ploy ee Benefit scontract costs over the total contract revenue, is recognized expected Chapter 17 - Stock holder s' Equit y immediately, irrespective of the stage of completion of the contract. Chapter 18 - Earnings Per Share

Precontract costs Chapter 19 - I nterim Financial Repor ting Costs that are Chapter 20 - Segm ent Repor tingrelated directly to a contract and are incurred in securing a contract (e.g., architectural designs, purchase ofsspecial equipment, engineering fees, and Chapter 21 - Accounting Changes and Cor rection of Er ror Chapter 22 - For start-up eign Currcosts). ency They are included as part of contract costs if they can be identified

separately and measured reliably and it is probable that the contract will be obtained. Chapter 23 - RelatedPart y Disclosures Chapter 24 - Specialized I ndustr ies

Profit center

Chapter 25 - I nflation and Hyperinflation

Unit for the accumulation of revenues and cost for the measurement of income.

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

Segmenting contracts

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Dividing a single contract, which covers the construction of a number of assets, into two or more profit centers for accounting purposes, provided that

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

1. Separate proposals were submitted for each of the assets that are the subject matter of the single contract List of Ex hibits and Ex am ples List of Tables

List of Sidebar s

2. The construction of each asset was the subject of separate negotiation wherein both the contractor and the customer were in a position to either accept or reject part of the contract pertaining to a single asset (out of numerous assets contemplated by the contract) 3. The costs and revenues pertaining to each individual asset can be separately identified

Stage of completion

Proportion of the contract work completed, which may be determined using one of several methods that reliably measures it, including W1. ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Percentage-of-completion method I n t er n at ion al Accou n t in g St an d ar ds

Surveys of work ISBN:0471227366 by2.Bar r y J. Epstein andperformed Abbas Ali Mir za 3. Physical proportion of contract John Wi ley & Sons © 2003 (952 pages) work completed This com pact and t ruly com pr ehensive qui ck - refer ence

Subcontractorpr esent s account ants with a guide to depend on for assistance incontractor the preparwho at ionenters and under financial Second-level into astanding contractofwith a prime contractor to perform statements ed in withproject. I AS. a specific partpresent or phase of accordance a construction T ab le of Con t en t s

Substantial completion

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Point at which the major work on a contract is completed and only insignificant costs Standar ds

and potential risks remain.

Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Variation

Chapter 10 -

Instruction by theStat customer forChan a change in they,scope of the ent work envisioned by the I ncom e Statement, em ent of ges in Equit and Statem constructionGains contract. of Recognized and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS and 2 0 03 : Examples I n t erp re t at ion an d Ap p licat io n o f Concepts, Rules, I n t er n at ion al Accou n t in g St an d ar ds

ISBN:0471227366 by Bar r y J. Epstein andrecognized Abbas Ali during construction Construction contract revenue may be rather than at the completion of zaearned" approach to revenue recognition is justified because under most longthe contract. ThisMir "as Wi ley &both Sons © 2003 (952 pages) term constructionJohn contracts, the buyer and the seller (contractor) obtain enforceable rights. The This com pact and t ruly com pr ehensive qui ck - refer ence buyer has the legal right to require specific performance from the contractor and, in effect, has an pr esent s account ants with a guide to depend on for ownership claim to the contractor's work in progress. The contractor, under most long-term contracts, assistance in the prepar at ion and under standing of financial has the right to require the buyer to ed make progress payments statements present in accordance with I AS. during the construction period. The substance of this business activity is that a continuous sale occurs as the work progresses.

T ab le of Con t en t s

IAS 11 the percentage-of-completion method as the only ing valid method of accounting for Wiley I ASrecognizes 20 03—Int er pretation and Application of I nternational Account construction contracts. Prior to the 1993 revision of IAS 11, both the percentage-of-completion method Standar ds and the completed-contract method were recognized as being acceptable alternative methods of Preface accounting construction activities. Chapter 1 - for I ntrlong-term oduction to I nter national Accounting Standar ds Chapter 2

- Balance Sheet

The thinking worldwide on this issue is equivocal and rather confusing. Many countries still recognize I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter both the3 foregoing methods as being in accordance with generally accepted accounting principles of Recognized Gains and Losses (GAAP), although they may not be viewed as equally acceptable under given circumstances. The Chapter 4 - Cash Flow St at em ent United States, Canada, and Japan are usually noted as protagonists of both GAAP methods on this Chapter 5 - Financial I nstr uments—Cash and Receiv ables subject. There is another set of countries whose GAAP is in line with the current IAS on the subject. Chapter 6 - I nventor y The national accounting standards of the United Kingdom, Australia, China, and New Zealand Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s recognize only the percentage-of-completion method. Germany, on the other hand, seems to have Chapter 8 - Property , Plant , and Equipment taken the extreme viewpoint as a supporter of only the completed-contract method. Although it may Chapter 9 -the I ntangi s seem that worldble is Asset completely divided on this matter, a closer look into this contentious issue offers I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and a better10insight into the diversity in approaches. Chapter I nvestm ent Pr oper ty

Chapter 11 Germany - Businessseems Combinations and in Consolidat ed Fin Statements Although to be alone the contest of ancial alternative methods of accounting for long-term Curr ent Liabilit ies, explicable Prov isions,when Cont ingencies, andthat Ev ents after t hehas traditionally been contracts, its position is more it is recalled this country Chapter 12 Sheet Date known for itsBalance conservative approach and its emphasis on creditor protection. Thus, it seems to have Chapter 13 - Financial uments—LongTer m Debt been guided primarilyI nstr by the prudence concept in developing this accounting principle. Chapter 14 - Leases

For countries that esupport Chapter 15 - I ncom Taxes both the methods, it is well known that some also express a clear preference for the percentage-of-completion method. US GAAP, for instance, exemplifies this position. It Chapter 16 - Em ploy ee Benefit s

recommends the holder percentage-of-completion method as preferable when estimates are reasonably Chapter 17 - Stock s' Equit y dependable and the following conditions exist:

Chapter 18 - Earnings Per Share

1. Contracts executed byRepor the parties normally include provisions that clearly specify the Chapter 19 - I nterim Financial ting regarding goods or services to be provided and received by the parties, the Chapter enforceable 20 - Segm entrights Repor ting to Changes be exchanged, the of manner Chapter consideration 21 - Accounting and Corand rection Er ror s and terms of settlement. Chapter 22 - For eign Curr ency

2. The buyer can be expected to satisfy its obligations under the contract.

Chapter 23 - Related- Part y Disclosures

Chapter 24 - contractor Specializedcan I ndustr ies 3. The be expected to perform its contractual obligations. Chapter 25 - I nflation and Hyperinflation

The Accounting Standards Division of the AICPA believes that these two methods should not be used Chapter 26 - Gov er nm ent Gr an ts

as acceptable alternatives for the same set of circumstances. US GAAP states that, in general, when estimates of costs to complete and extent of progress toward completion of long-term contracts are Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS reasonably dependable, the percentage-of-completion method is preferable. When lack of dependable Appendix C - Com parison of I AS, US GAAP, and UK GAAP estimates or inherent hazards cause forecasts to be doubtful, the completed-contract method is I ndex preferable. Appendix A - Di sclosure Checklist

List of Tables

List of Ex hibits and Ex am ples

Percentage-of-Completion Method in Detail

List of Sidebar s

A number of controversial issues are encountered when the percentage-of-completion method is used in practice. In the following paragraphs, the authors' address a number of these, offering proposed approaches to follow for those matters that have not been authoritatively resolved, or in many instances, even discussed by the international accounting standards. IAS 11 defines the percentage-of-completion method as follows: The percentage of completion method recognizes income as work on a contract (or group of

closely related contracts) progresses. The recognition of revenues and expenses is generally based on the stage of completion of the contract(s), except when a loss is expected, in which case immediate recognition called theiostage W ile y I ASof2the 0 03loss : I n tiserp re t at(irrespective ion an d Ap pof licat n o f of completion). Under this method contract revenue is matched with the contract costs incurred in reaching the stage of I n t er n at ion al Accou n t in g St an d ar ds completion, resulting in the reporting of contract revenue, contract costs ISBN:0471227366and profit based on by Bar r y J. Epstein and Abbas Ali proportion of Mir work za completed. John Wi ley & Sons © 2003 (952 pages)

Under the percentage-of-completion method, the construction-in-progress (CIP) account is used to This com pact and t ruly com pr ehensive qui ck - refer ence accumulate costsprand recognized income. exceeds esent s account ants with When a guidethe to CIP depend on forbillings, the difference is reported as a current asset. Ifassistance billings exceed the difference is reported a current liability. Where more than in the CIP, prepar at ion and under standing as of financial statements present accordance I AS. one contract exists, the excess costed or in liability shouldwith be determined on a project-by-project basis, with the accumulated costs and liabilities being stated separately on the balance sheet. Assets and liabilities T ab le of Con t en t s should not be offset unless a right of offset exists. Thus, the net debit balances for certain contracts Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing shouldds not ordinarily be offset against net credit balances for other contracts. An exception may exist if Standar the balances relate to contracts that meet the criteria for combining. Preface Chapter 1

I ntr oduction to I nter national Accounting Standar ds Under the -percentage-of-completion method, income should not be based on advances (cash

Chapter 2 - or Balance Sheet collections) progress (interim) billings. Cash collections and interim billings are based on contract I ncom e Statement,measure Stat em ent of Chan ges in Equit y, and Statem ent terms that do not necessarily contract performance. Chapter 3 of Recognized Gains and Losses Chapter 4 -estimated Cash Flowearnings St at em ent Costs and in excess of billings should be classified as an asset. If billings exceed Chapter 5 estimated - Financial earnings, I nstr uments—Cash and Receiv costs and the difference shouldables be classified as a liability. Chapter 6

- I nventor y

Contract costs. Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s Chapter 8

- Property , Plant , and Equipment

Contract costs comprise costs that are identifiable with a specific contract, plus those that are - I ntangi ble Asset s attributable to contracting activity in general and can be allocated to the contract and those that are I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - chargeable to a customer. Generally, contract costs would include all direct costs, such as contractually I nvestm ent Pr oper ty direct materials, direct labor, and direct expenses and any construction overhead that could specifically Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements be allocated to specific contracts. Chapter 9

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Direct costs or costs that are identifiable with a specific contract include

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

1. Costs of materials consumed in the specific construction contract Chapter 14 - Leases Chapter 15 - I ncom e Taxes

2. Wages and other labor costs for site labor and site supervisors

Chapter 16 - Em ploy ee Benefit s Chapter 3. Depreciation 17 - Stock holder charges s' Equit ofyplant and equipment used in the contract Chapter 18 - Earnings Per Share

4. Lease rentals of hired plant and equipment specifically for the contract

Chapter 19 - I nterim Financial Repor ting

Chapter 20 - Segm ent in Repor ting of plant, equipment, and materials to and from the construction site 5. Cost incurred shifting Chapter 21 - Accounting Changes and Cor rection of Er ror s

6. Cost of design and technical assistance directly identifiable with a specific contract Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures

7. Estimated costs of any work undertaken under a warranty or guarantee

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and parties Hyperinflation 8. Claims from third Chapter 26 - Gov er nm ent Gr an ts

With regard tosclosure claims from third parties, these should be accrued if they rise to the level of "provisions" Appendix A - Di Checklist as defined recentlye promulgated standard 37ed(which to "probable" contingencies Appendix B -by I llustrativ Financial St atem ent s PrIAS esent Undercorresponds I AS under the obsolete standard 10).and ThisUKrequires Appendix C now - Com parison of I AS, USIAS GAAP, GAAP that an obligation exists at the balance sheet

date that is subject to reasonable measurement. However, if either of the above mentioned conditions I ndex is not met (and the possibility of the loss is not remote), this contingency will only be disclosed. Contingent losses are specifically required to be disclosed under IAS 11.

List of Tables

List of Ex hibits and Ex am ples

List of Sidebar s may be reduced by incidental income if such income is not included in contract revenue. Contract costs

For instance, sale proceeds (net of any selling expenses) from the disposal of any surplus materials or from the sale of plant and equipment at the end of the contract may be credited or offset against these expenses. Drawing an analogy from this principle, it could be argued that if advances received from customers are invested by the contractor temporarily (instead of being allowed to lie idle in a current account), any interest earned on such investments could be treated as incidental income and used in reducing contract costs, which may or may not include borrowing costs (depending on how the contractor is financed, whether self-financed or leveraged). On the other hand, it may also be argued

that instead of being subtracted from contract costs, such interest income should be added to contract revenue. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

In the authors' opinion, the latter argument may be valid if the contract is structured in such a manner I n t er n at ion al Accou n t in g St an d ar ds that the contractor receives lump-sum advances at the beginning of the contract (or for that matter, ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali even during the term Mir zaof the contract, such that the advances at any point in time exceed the amounts due the contractor from In (952 these cases, such interest income should, in fact, be treated John Withe ley customer). & Sons © 2003 pages) as contract revenue and not offset against contract costs. The reasoning underlying treating this This com pact and t ruly com pr ehensive qui ck - refer ence differently from the earlier instance (where idle funds from pr esent s account ants with a guide to resulting depend on for advances are invested temporarily) is that such advances were in envisioned the and terms of the contract and as such were probably fully assistance the preparby at ion under standing of financial ed that in accordance with I AS. considered in thestatements negotiationpresent process preceded fixing contract revenue. Thus, since negotiated as part of the total contract price, this belongs in contract revenues. (It should be borne in mind that the T ab le of Con t en t s different treatments for interest income will in fact have a bearing on the determination of the Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing percentage or stage of completion of a construction contract.) Standar ds Preface

Indirect costs or overhead expenses should be included in contract costs provided that they are I ntr oduction to I nter national Accounting Standar ds attributable- to the contracting activity in general and could be allocated to specific contracts. Such costs Chapter 2 Balance Sheet include construction overhead, cost of insurance, cost of design, and technical assistance that is not I ncom e Statement, Stat em ent should of Chan be gesallocated in Equit y,using and Statem ent that are systematic and related directly to specific contracts. They methods Chapter 3 of Recognized Gains and Losses rational and are applied in a consistent manner to costs having similar features or characteristics. The Chapter 4 - Cash Flow St at em ent allocation should be based on the normal level of construction activity, not on theoretical maximum Chapter 5 - Financial I nstr uments—Cash and Receiv ables capacity. Chapter 1

Chapter 6

- I nventor y

Chapter Example 7 of - Rev contract enue Recogni costs tion, I ncluding Constr uction Contr act s Chapter 8

- Property , Plant , and Equipment A construction company incurs $700,000 in annual rental expense for the office space occupied by a Chapter 9 - I ntangi ble Asset s

group of engineers and architectsInstr andum their support staff. The company this group to act as the I nterests in Financial ent s, Associat es, Joint Ventur es,utilizes and Chapter quality 10 assurance team that overlooks all contracts undertaken by the company. The company also I nvestm ent Pr oper ty incurs in aggregate another $300,000 as the annual expenditure toward electricity, water, and Chapter 11the - Business Combinations and Consolidat ed Fin ancial Statements maintenanceCurr of this office ies, space occupied by the group. and Since the group ent Liabilit Prov isions, Cont ingencies, Ev ents after tis heresponsible for quality assurance for all contracts on hand, its work, by nature, cannot be considered as being directed toward Balance Sheet Date any specific contract Ibut in support of Ter thementire Chapter 13 - Financial nstrisuments—LongDebt contracting activity. Thus, the company should allocate14the- Leases rent expense and the cost of utilities in accordance with a systematic and rational basis of Chapter allocation, be applied consistently to both types of expenditure (since they have similar Chapter 15 -which I ncomshould e Taxes characteristics). Chapter 16 - Em ploy ee Benefit s Chapter 12 -

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

Although the bases of allocation of this construction overhead could be many (such as the amounts of contract revenue, contract costs, and labor hours utilized in each contract) the basis of allocation that Chapter - Segm ent is Repor ting revenue. Further, since both expenses are similar in nature, allocating seems 20 most rational contract Chapter 21 Accounting Changes Cor rection of Er rorrevenue s both the costs on the basis of theand amount of contract generated by each construction contract Chapter 22 - satisfy For eignthe Curr ency would also consistency criteria. Chapter 19 - I nterim Financial Repor ting

Chapter 23 - Related- Part y Disclosures

Other examples of construction overhead or costs that should be allocated to contract costs are Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation 1. Costs of preparing and processing payroll of employees engaged in construction activity Chapter 26 - Gov er nm ent Gr an ts

2. Borrowing costsChecklist that are capitalized under IAS 23 in conformity with the allowed alternative Appendix A - Di sclosure treatment

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com of I AS, US GAAP, andallocation UK GAAPto the construction contract, as the standard Certain costs areparison specifically excluded from I ndex considers them as not attributable to the construction activity. Such costs may include List of Tables

1. General and administrative costs that are not contractually reimbursable

List of Ex hibits and Ex am ples

List of 2. Sidebar Costssincurred in marketing or selling

3. Research and development costs that are not contractually reimbursable 4. Depreciation of plant and equipment that is lying idle and not used in any particular contract

Types of contract costs. Contract costs can be broken down into two categories: costs incurred to date and estimated costs to

complete. The costs incurred to date include precontract costs and costs incurred after contract acceptance.Precontract costs are costs incurred before a contract has been entered into, with the expectation that the contract and costs williothereby be recoverable through W ile y I AS 2will 0 03be : I accepted n t erp re t at ionthese an d Ap p licat n of billings. The criteria for recognition of such costs are I n t er n at ion al Accou n t in g St an d ar ds by Bar r yof J. being Epstein and Abbas Ali 1. They are capable identified separately.

ISBN:0471227366

Mir za John Wi ley & Sons © 2003 (952 pages) 2. They can be measured reliably. This com pact and t ruly com pr ehensive qui ck - refer ence

3. It is probable thatsthe contract pr esent account antswill withbea obtained. guide to depend on for

assistance in the prepar at ion and under standing of financial

Precontract costsstatements include costs of architectural designs, present ed in accordance withcosts I AS. of learning a new process, cost of securing the contract, and any other costs that are expected to be recovered if the contract is T ab le of Con t en t s accepted. Contract costs incurred after the acceptance of the contract are costs incurred toward the Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing completion of the project and are also capitalized in the construction-in-progress (CIP) account. The Standar ds contract does not have to be identified before the capitalization decision is made; it is only necessary Preface that there be an expectation of the recovery of the costs. Once the contract has been accepted, the Chapter 1 - I ntr oduction to I nter national Accounting Standar ds precontract costs become contract costs incurred to date. However, if the precontract costs are already Chapter 2 - Balance Sheet recognized as an expense in the period in which they are incurred, they are not included in contract I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent costs when Chapter 3 - the contract is obtained in a subsequent period. of Recognized Gains and Losses

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Estimated costs to complete.

Chapter 6 -the I nventor y These are anticipated costs required to complete a project at a scheduled time. They would be Chapter comprised 7 -of Rev theenue same Recogni elements tion, as I ncluding the original Constr total uction estimated Contr actcontract s costs and would be based on

prices expected to be in effect the costs are incurred. The latest estimates should be used to Chapter 8 - Property , Plant , andwhen Equipment determine progress toward Chapter 9 -the I ntangi ble Asset s completion. I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 IAS - 11 does not specifically provide instructions for estimating costs to complete, practical Although I nvestm ent Pr oper ty

guidance be gleaned from other international accounting standards, as follows: The first rule is that Chapter 11 can - Business Combinations and Consolidat ed Fin ancial Statements systematic and consistent procedures should be used. These procedures should be correlated with the

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 cost accounting system and should be able to provide a comparison between actual and estimated Balance Sheet Date

costs. Additionally, determination of estimated Chapter 13 - Financialthe I nstr uments—LongTer m Debt total contract costs should identify the significant cost elements. Chapter 14 - Leases

Chapter 15 - I ncom e Taxes

A second important point is that the estimation of the costs to complete should include the same

Chapter 16 of - Em ployincluded ee Benefit elements costs insaccumulated costs. Additionally, the estimated costs should reflect any Chapter 17 price - Stock holder s' Equit y expected price increases should not be blanket provisions for all expected increases. These Chapter - Earnings Per Share contract18costs, but rather, specific provisions for each type of cost. Expected increases in each of the Chapter 19 - I nterim Repor ting cost elements such Financial as wages, materials, and overhead items should be taken into consideration Chapter 20 - Segm ent Repor ting separately. Chapter 21 - Accounting Changes and Cor rection of Er ror s

Finally,22 estimates costs to complete should be reviewed periodically to reflect new information. Chapter - For eignofCurr ency

Estimates of costs should be examined for price fluctuations and should also be reviewed for possible future problems, such as labor strikes or direct material delays.

Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies

Chapter 25 - for I nflation andcosts Hyperinflation Accounting contract is similar to accounting for inventory. Costs necessary to ready the asset Chapter 26 Gov er nm ent Gr for sale would be recorded an in ts the construction-in-progress account, as incurred. CIP would include both Appendix A -indirect Di sclosure Checklist direct and costs but would usually not include general and administrative expenses or selling Appendix B I llustrativ e Financial St atemidentifiable ent s Pr esent ed a Under I AS contract and should therefore be expenses since they are not normally with particular Appendix C - Com parison of I AS, US GAAP, and UK GAAP expensed. I ndex

Subcontractor List of Tables

costs.

List of Ex hibits and Ex am ples

Since a contractor may not be able to do all facets of a construction project, a subcontractor may be engaged. The amount billed to the contractor for work done by the subcontractor should be included in contract costs. The amount billed is directly traceable to the project and would be included in the CIP account, similar to direct materials and direct labor.

List of Sidebar s

Back charges. Contract costs may have to be adjusted for back charges. Back charges are billings for costs incurred that the contract stipulated should have been performed by another party. These charges are often

disputed by the parties involved. Example of a back charge situation

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

The contract states that the subcontractor was to raze the building and have the land ready for ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali construction; however, Mir za the contractor/seller had to clear away debris in order to begin construction. The contractor wants John to beWi reimbursed the work; therefore, the contractor back charges the ley & Sonsfor © 2003 (952 pages) subcontractor for the cost of the debris removal. This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for The contractor should treat the back charge a receivable fromofthe subcontractor and should reduce assistance in the prepar at ionas and under standing financial contract costs bystatements the amountpresent recoverable. If the subcontractor ed in accordance with I AS. disputes the back charge, the cost

becomes a claim. Claims are an amount in excess of the agreed contract price or amounts not T ab le of Con en toriginal s included in tthe contract price that the contractor seeks to collect. Claims should be recorded as Wiley I AS 20 03—Int pretation andif Application of I nternational Account ingare met. additional contracter revenue only the requirements set forth in IAS 11 Standar ds Preface The subcontractor should record the back charge as a payable and as additional contract costs if it is Chapter 1 that - I ntr oduction I nter Accounting ds of the liability is disputed, the probable the amounttowill benational paid. If the amountStandar or validity Chapter subcontractor 2 - Balance wouldSheet have to consider the probable outcome in order to determine the proper

accounting treatment. I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent -

Chapter 3 Chapter 4

of Recognized Gains and Losses

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables Fixed-Price and Cost-Plus Contracts - I nventor y

Chapter 6

Chapter - Rev enue Recogni I ncluding Constr uction Contr s IAS 11 7recognizes two types tion, of construction contracts that areact distinguished based on their pricing Chapter 8 Property , Plant , and Equipment arrangements: (1) fixed-price contracts and (2) cost-plus contracts. Chapter 9

- I ntangi ble Asset s

Fixed-priceI contracts contracts which the price not usually subject nterests in are Financial Instrfor um ent s, Associat es,isJoint Ventur es, and to adjustment because of Chapter 10 costs incurred by theent contractor. I nvestm Pr oper ty The contractor agrees to a fixed contract price or a fixed rate per unit of output. amounts are sometimes subject ed to Fin escalation clauses. Chapter 11 These - Business Combinations and Consolidat ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 two contracts. There are types Sheet of cost-plus Balance Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt

1. Cost-without-fee contract— Contractor is reimbursed for allowable or otherwise defined costs Chapter 14 - Leases provision for a fee. However, a percentage is added that is based on the foregoing Chapter with 15 - no I ncom e Taxes costs.

Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 2. Cost-plus-fixed-fee 18 - Earnings Per Share contract— Contractor is reimbursed for costs plus a provision for a fee.

price on a cost-type Chapter The 19 - contract I nterim Financial Repor ting contract is determined by the sum of the reimbursable a fee. Chapter expenditures 20 - Segm ent and Repor ting The fee is the profit margin (revenue less direct expenses) to be earned contract. Changes All reimbursable expenditures be included in the accumulated contract Chapter on 21 the - Accounting and Cor rection of Er rorshould s account. Chapter costs 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures

There are a number of possible variations of contracts that are based on a cost-plus-fee arrangement. These could include cost-plus-fixed-fee, under which the fee is a fixed monetary amount; cost-plusChapter - I nflation andincentive Hyperinflation award, 25 under which an payment is provided to the contractor, typically based on the project's Chapter 26 Gov er nm ent Gr an ts and cost-plus-a-percentage-fee, under which a variable bonus payment timely or on-budget completion; Appendix A - Dito sclosure Checklist ultimate payment based on stated criteria. will be added the contractor's Chapter 24 - Specialized I ndustr ies

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Some contracts have of bothand a fixed-price Appendix C - Com may parison of Ifeatures AS, US GAAP, UK GAAP contract and a cost-plus contract. A cost-plus contract with an agreed maximum price is an example of such a contract. I ndex List of Tables

Recognition of Contract Revenue and Expenses

List of Ex hibits and Ex am ples List of Sidebar s

Percentage-of-completion accounting cannot be employed if the quality of information will not support a reasonable level of accuracy in the financial reporting process. Generally, only when the outcome of a construction contract can be estimated reliably, should the contract revenue and contract costs be recognized by reference to the stage of completion at the balance sheet date. Different criteria have been prescribed by the standard for assessing whether the outcome can be estimated reliably for a contract, depending on whether it is a fixed-price contract or a cost-plus contract. The following are the criteria in each case: 1.

1. If it is a fixed-price contract Note All conditions should be satisfied.

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

a. It meets the recognition set I n t er n at ion al Accoucriteria n t in g St anby d arthe ds IASC's Framework; that is ISBN:0471227366 by r y J.contract Epstein revenue and Abbas 1. Bar Total canAlibe measured reliably. Mir za John & Sonsthat © 2003 (952 pages) 2. ItWi is ley probable economic benefits flow to the enterprise.

This com pact and t ruly com pr ehensive qui ck - refer ence

b. Both the contract cost towith complete and stage completion can be measured reliably. pr esent s account ants a guide to the depend onof for assistance in the prepar at ion and under standing of financial statements ed in to accordance withcan I AS. c. Contract costs present attributable the contract be identified properly and measured reliably so that comparison of actual contract costs with estimates can be done.

T ab le of Con t en t s

Wiley2.I AS er pretation and Application of I nternational Account ing If 20 it is03—Int a cost-plus contract Standar ds

Note All conditions should be satisfied.

Preface Chapter 1 Chapter 2

- I ntr to Ithat nter national Accounting Standar ds to the enterprise. a. It oduction is probable the economic benefits will flow - Balance Sheet

Chapter 3

b.I ncom The econtract costsStat attributable to theges contract, or notent reimbursable, can be Statement, em ent of Chan in Equitwhether y, and Statem of identified Recognized Gains and Losses and measured reliably.

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables When Outcome of a Contract Cannot Be Estimated Reliably

Chapter 6

- I nventor y

Chapter 7 above, - Rev enue Recogni tion, I ncluding Constr uction Contr act s As stated unless the outcome of a contract can be estimated reliably, contract revenue and Chapter 8 - Property , Plant , and by Equipment costs should not be recognized reference to the stage of completion. IAS 11 establishes the Chapter following 9 rules - I ntangi for revenue ble Assetrecognition s in cases where the outcome of a contract cannot be estimated

reliably:

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

1. Revenue should be recognized only to the extent of the contract costs incurred that are probable of being recoverable.

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balance Sheet Date 2. Contract costs should be recognized as an expense in the period in which they are incurred.

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Any expected losses should, however, be recognized immediately. Chapter 14 - Leases Chapter 15 - I ncom e Taxes

It is not unusual that during the early stages of a contract, outcome cannot be estimated reliably. This would be particularly likely to be true if the contract represents a type of project with which the Chapter 17 - Stock holder s' Equit y contractor has had limited experience in the past. Chapter 16 - Em ploy ee Benefit s

Chapter 18 - Earnings Per Share

Chapter 19 - I nterim Financial Repor ting

Contract Costs Not Recoverable Due to Uncertainties

Chapter 20 - Segm ent Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Recoverability of contract costs may be considered doubtful in the case of contracts that have any of the following characteristics:

Chapter 22 - For eign Curr ency

Chapter 23 - Related- Part y Disclosures

1. The contract is not fully enforceable.

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflationofand 2. Completion the Hyperinflation contract is dependent on the outcome of pending litigation or legislation. Chapter 26 - Gov er nm ent Gr an ts

3. The relates to properties that are likely to be expropriated or condemned. Appendix A - contract Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

4. The contract is with a customer who is unable to perform its obligations, perhaps because of financial difficulties.

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

List of 5. Tables The contractor is unable to complete the contract or otherwise meet its obligation under the List of Exterms hibits of and Excontract, am ples as when, for example, the contractor has been experiencing recurring the

lossess and is unable to get financial support from creditors and bankers and may be ready to List of Sidebar declare bankruptcy. In all such cases, contract costs should be expensed immediately. Although the implication is unambiguous, the determination that one or more of the foregoing conditions holds will be subject to some imprecision. Thus, each such situation needs to be assessed carefully on a case-by-case basis. If and when these uncertainties are resolved, revenue and expenses should again be recognized on the same basis as other construction-type contracts (i.e., by the percentage-of-completion method).

However, it is not permitted to restore costs already expensed in prior periods, since the accounting was not in error, given the facts that existed at the time the earlier financial statements were prepared. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Revenue Measurement—Determining the Stage of Completion by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za The standard recognizes that the stage of completion of a contract may be determined in many ways John Wi ley the & Sons © 2003 (952measures pages) and that an enterprise uses method that reliably the work performed. The standard This com pact and t ruly com pr qui ck - refer further stipulates that depending on the natureehensive of the contract, oneence of the following methods may be pr esent s account ants with a guide to depend on for chosen: assistance in the prepar at ion and under standing of financial

1. The proportion that contract incurred bear to Iestimated total contract cost (also referred to statements presentcosts ed in accordance with AS. as the cost-to-cost method)

T ab le of Con t en t s

Wiley2.I AS 20 03—Int er pretation and method Application of I nternational Account ing Survey of work performed Standar ds Preface 3. Completion of a physical proportion of contract work (also called units-of-work-performed) Chapter method. 1 - I ntr oduction to I nter national Accounting Standar ds Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Note Progress payments and advances received from customers often do not reflect the I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent work performed. of Recognized Gains and Losses

Each of these methods of measuring progress on a contract can be identified as being either an input - Financial I nstr uments—Cash and Receiv ables or an output measure. The input measures attempt to identify progress in a contract in terms of the Chapter 6 - I nventor efforts devoted to it. yThe cost-to-cost method is an example of an input measure. Under the cost-toChapter 7 Rev enue Recogni tion, I ncluding Constr Contr actby s comparing total costs incurred to cost method, the percentage of completion would uction be estimated Chapter 8 Property , Plant , and Equipment date to total costs expected for the entire job. Output measures are made in terms of results by Chapter 9 - to I ntangi bleprogress Asset s toward completion by physical measures. The units-of-work-performed attempting identify I nterests in Instr um ent s, Under Associat es,method, Joint Ventur es, and of completion is made in method10 is -an example ofFinancial an output measure. this an estimate Chapter I nvestm ent to Pr oper terms of achievements date.tyOutput measures are usually not considered to be as reliable as input Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements measures. Chapter 5

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balance Sheet Dateis determined by reference to the contract costs incurred to date, the When the stage of completion Chapter 13specifically - Financial refers I nstr uments—LongTer that m Debt standard to certain costs are to be excluded from contract costs. Examples of such costs Chapter 14 - are Leases Chapter 15 - I ncom e Taxes 1. Contract costs that relate to future activity (e.g., construction materials supplied to the site but Chapter not 16 -yet Emconsumed ploy ee Benefit s construction) during Chapter 17 - Stock holder s' Equit y

2. Payments made advance to subcontractors prior to performance of the work by the Chapter 18 - Earnings PerinShare Chapter subcontractor 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

Example of the percentage-of-completion method

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency method works under the principle that "recognized income (should) be The percentage-of-completion Chapter 23 - RelatedPart y Disclosures that percentage of estimated total income...that incurred costs to date bear to estimated total costs." Chapter 24 - Specialized ies The cost-to-cost methodI ndustr has become one of the most popular measures used to determine the extent of progress Chapter 25 - toward I nflationcompletion. and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Under the cost-to-cost method, the percentage of revenue to recognize can be determined by the following formula:

Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples

List Sidebar s By of slightly modifying this formula, current gross profit can also be determined.

Example of the percentage-of-completion (cost-to-cost) and completed-contract methods with

profitable contract Assume a $500,000 contract that requires 3 years to complete and incurs a total cost of $405,000. The W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f following data pertain the period: I n t erto n at ionconstruction al Accou n t in g St an d ar ds ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

Year 1

Year 2

Year 3

$150,000 $360,000 Cumulative incurred date Thiscosts com pact and tto ruly com pr ehensive qui ck - refer ence

$405,000

pr esent s account ants with a guide to depend on for

300,000 40,000 Estimated costs yetintothe be prepar incurred at yearassistance at ion and under standing of financial statements present ed in accordance with I AS. end

--

T ab le of Con t en t s billings made during year 100,000 370,000 Progress Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing 75,000 300,000 Standar dsCollections of billings

30,000 125,000

Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2 - Balance Sheet Completed-Contract and Percentage-of-Completion Methods I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 Year 1 Year 2 of Recognized Gains and Losses Chapter 4 - Cash Flow St at em ent Construction in progress 150,000 Chapter 5

210,000

- Financial I nstr uments—Cash and Receiv ables

150,000

payables, Chapter 6Cash, - I nventor y

Year 3 45,000

210,000

45,000

Chapter 7etc. - Rev enue Recogni tion, I ncluding Constr uction Contr act s Chapter 8 receivables - Property , Plant , and100,000 Equipment Contract Chapter 9

370,000

30,000

- I ntangi ble Asset s

370,000 Billings on in Financial Instr um ent100,000 I nterests s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty contracts

30,000

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Cash

75,000

300,000

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he 75,000 300,000 Balance Sheet Date Contract

125,000

Chapter 12 -

125,000

Chapter 13 - Financial I nstr uments—Long- Ter m Debt receivables Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit yOnly Completed-Contract Method Chapter 18 - Earnings Per Share

Billings on contracts

Chapter 19 - I nterim Financial Repor ting

Cost of earned Chapter 20revenues - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

Contracts revenues earned

500,000 405,000 500,000

Chapter 22 - For eign Curr ency

Chapter 23 - Related- Part y Disclosures Construction in progress Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Percentage-of-Completion Method Only

Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

405,000

Construction in progress

16,667

73,333

5,000

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Cost of revenuesI n t er n at150,000 210,000 ion al Accou n t in g St an d ar ds earned by Bar r y J. Epstein and Abbas Ali Mir za 166,667 Contract John Wi ley & Sons © 2003 (952 pages)

45,000

ISBN:0471227366

283,333

50,000

revenues This com pact and t ruly com pr ehensive qui ck - refer ence earned pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial 500,000 Billings on contracts statements present ed in accordance with I AS.

Construction T ab le of Con t en t s

500,000

in progress

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

[a]

[b] Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes [c]

Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y [d]

Since the contract was completed and title was transferred in year 3, there are no balance sheet amounts. However, if the project is complete but transfer of title has not taken place, there would Chapter 19 - I nterim Financial Repor ting be a balance sheet presentation at the end of the third year because the entry closing out the Chapter 20 - Segm ent Repor ting Construction-in-progress account and the Billings account would not have been made yet. Chapter 18 - Earnings Per Share

Chapter 21 - Accounting Changes and Cor rection of Er ror s [e]$150,000 Chapter 22 - For eign Curr ency (Gross profit) (Costs) + 16,667 Chapter 23 - Related- Part y Disclosures [f]$100,000 (Year 1 Billings) + 370,000 (Year 2 Billings) Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation [g]$360,000

(Costs) + 16,667 (Gross profit) + 73,333 (Gross profit)

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist [h]

Since the contract was completed and title was transferred in year 3, there are no balance sheet

Appendix B However, - I llustrativifethe Financial ent s Prbut esent ed Under I AS has not taken place, there would amounts. projectStisatem complete transfer of title Appendix C Com parison of I AS, US GAAP, and UK GAAP be a balance sheet presentation at the end of the third year because the entry closing out the I ndex Construction-in-progress account and the Billings account would not have been made yet. List of Tables List of Ex hibits and Ex am ples List of Sidebar s

Income Statement Presentation 2d Ap p licat io Year W ile y I AS 2Year 0 03 : 1I n t erp re t at Year ion an n o f3 I n t er n at ion al Accou n t in g St an d ar ds

Percentage-ofby Bar r y J. Epstein and Abbas Ali completion

Total

ISBN:0471227366

Mir za [a] pages) Contract revenues John Wi ley & Sons $166,667 © 2003 (952 $283,333 [b]

$ 50,000 [c]

$500,000

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for Cost of revenuesassistance in the prepar (150,000) (210,000) (45,000) at ion and under standing of financial earned statements present ed in accordance with I AS.

(405,000)

earned

profit T abGross le of Con t en t s

$16,667

$ 73,333

$ 5,000

$ 95,000

--$500,000 earned Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Chapter Cost of 2 contracts - Balance Sheet --(405,000) completed I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 -

$500,000

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Completed-contract Standar ds

Contract revenues Preface

of Recognized Gains and Losses

Gross profit

--

--

$ 95,000

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

[a]

Chapter 10 -

(405,000) $ 95,000

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases [b] Chapter 15 - I ncom e Taxes

Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s [c] Chapter 22 - For eign Curr ency

Chapter 23 - Related- Part y Disclosures [d]Since the contract was completed and title was transferred in year 3, there are no balance sheet Chapter 24 - Specialized I ndustr ies

amounts. theHyperinflation project is complete but transfer of title has not taken place, there would Chapter 25 However, - I nflation ifand be a balance sheet Chapter 26 - Gov er nmpresentation ent Gr an ts at the end of the third year because the entry closing out the Construction-in-progress account and the Billings account would not have been made yet. Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS [e]

$150,000 (Costs) + 16,667 (Gross profit)

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex [f]$100,000 (Year 1 Billings) + 370,000 (Year 2 Billings) List of Tables [g]$360,000 List of Ex hibits(Costs) and Ex am + 16,667 ples (Gross profit) + 73,333 (Gross profit)

List of Sidebar s [h]Since

the contract was completed and title was transferred in year 3, there are no balance sheet amounts. However, if the project is complete but transfer of title has not taken place, there would be a balance sheet presentation at the end of the third year because the entry closing out the Construction-in-progress account and the Billings account would not have been made yet. Balance Sheet Presentation Year 1

Year 2

Year 3

Percentage-of-completion Current assets:

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds $25,000

Contract receivables

by Bar r y J. Epstein and Abbas Ali

$ 95,000

[d]

ISBN:0471227366

Mirestimated za Costs and earnings in John Wi ley Sons © 2003 (952 pages) excess of billings on&uncompleted This com pact and t ruly com pr ehensive qui ck - refer ence contracts

pr esent s account ants with a guide to depend on for [e] assistance in the prepar at ion and 166,667 under standing of financial Construction inpresent progress statements ed in accordance with I AS.

(100,000) $66,667 T ab le of Con t en t s billings on long-term Less Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing contracts Standar ds Current liabilities: Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

$ 20,000 Billings in excess of costs and - Balance Sheet estimated earnings on uncompleted I ncom e Statement, Stat em Chapter 3contracts, year 2 ($470,000[f]- ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses [g] $450,000 ) Chapter 2

Chapter 4

- Cash Flow St at em ent

Completed-contract Chapter 5 - Financial I nstr uments—Cash and Receiv ables Chapter 6 assets: - I nventor y Current Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

receivables Chapter 8Contract - Property , Plant , and Equipment Chapter 9

$25,000

$ 95,000

[h]

- I ntangi ble Asset s

Costs in excess of billings on I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 uncompleted contracts I nvestm ent Pr oper ty Chapter 11 - Business Combinations and Consolidat ed 150,000 Fin ancial Statements

Construction in progress

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date (100,000) $50,000 Less billings on long-term Ter m Debt Chapter 13 - Financial I nstr uments—LongChapter 12 -

contracts Chapter 14 - Leases Chapter 15liabilities: - I ncom e Taxes Current Chapter 16 - Em ploy ee Benefit s

Billings in excess of costs on uncompleted contracts, year 2 ($470,000 - $360,000)

Chapter 17 - Stock holder s' Equit y

$110,000

Chapter 18 - Earnings Per Share

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures [a]

Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex [b]

List of Tables List of Ex hibits and Ex am ples List of Sidebar s

[c] [d]Since

the contract was completed and title was transferred in year 3, there are no balance sheet amounts. However, if the project is complete but transfer of title has not taken place, there would

be a balance sheet presentation at the end of the third year because the entry closing out the Construction-in-progress account and the Billings account would not have been made yet. [e]$150,000

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

(Costs) (Gross profit) I n t+ er16,667 n at ion al Accou n t in g St an d ar ds

ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali

[f]$100,000

(YearMir 1 Billings) + 370,000 (Year 2 Billings) za

[g]$360,000

(Costs) + 16,667 (Gross profit) + 73,333 (Gross profit)

John Wi ley & Sons © 2003 (952 pages)

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for [h]Since the contract was completed andattitle transferred in year 3, there are no balance sheet assistance in the prepar ion was and under standing of financial amounts. However, if the project is complete but transfer title has not taken place, there would statements present ed in accordance with of I AS.

be a balance sheet presentation at the end of the third year because the entry closing out the Construction-in-progress account and the Billings account would not have been made yet.

T ab le of Con t en t s

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Recognition of Expected Contract Losses - Balance Sheet

Chapter 2

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 current When the estimateGains of total of Recognized andcontract Losses cost exceeds the current estimate of total contract revenue,

a provision theFlow entire loss on the entire contract should be made. Provisions for losses should be Chapter 4 - for Cash St at em ent

made in the period in which they become evident under either the percentage-of-completion method or - Financial I nstr uments—Cash and Receiv ables the completed-contract method. In other words, when it is probable that total contract costs will exceed Chapter 6 - I nventor y total contract revenue, the expected loss should be recognized as an expense immediately. The loss Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s provision should be computed on the basis of the total estimated costs to complete the contract, which Chapter 8 - Property , Plant , and Equipment would include the contract costs incurred to date plus estimated costs (use the same elements as Chapter 9 - I ntangi ble Asset s contract costs incurred) to complete. The provision should be shown separately as a current liability on I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and the balance Chapter 10 - sheet. Chapter 5

I nvestm ent Pr oper ty

Chapter 11 - when Business Combinations and Consolidat ed Finhas ancial In any year a percentage-of-completion contract anStatements expected loss, the amount of the loss Curryear ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he reported in that can be computed as follows: Chapter 12 Balance Sheet Date Chapter 13 - Financial Reported I nstr uments—Longloss = Total expected Ter m Debt loss + All profit previously recognized Chapter 14 - Leases

Example percentage-of-completion and completed-contract methods with loss contract Chapter 15 of - I the ncom e Taxes Chapter 16 - Em ploy ee Benefit s

Using the previous information, if the costs yet to be incurred at the end of year 2 were $148,000, the total expected loss is $8,000 [$500,000 - (360,000 + 148,000)], and the total loss reported in year 2 Chapter 18 - Earnings Per Share would be $24,667 ($8,000 + 16,667). Under the completed-contract method, the loss recognized is Chapter 19 -total I nterim Financial Repor ting simply the expected loss, $8,000. Chapter 17 - Stock holder s' Equit y

Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

Journal entry at end of year 2

Chapter 22 - For eign Curr ency

Percentage-ofCompletion

Completed contract

Chapter 23 - Related- Part y Disclosures

Loss on Chapter 24 uncompleted - Specialized long-term I ndustr ies contract

24,667

Chapter 25 - I nflation and Hyperinflation

Construction in progress (or estimated loss on uncompleted contact)

8,000 24,667

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Profit or Loss Recognized on Contract (Percentage-of-Completion Method)

I ndex

List of Tables List of Ex hibits and Ex am ples List of Sidebar s

8,000

Year 1

Year 2

Contract price W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p$500,000 licat io n o f I n t er n at ion al Accou n t in g St an d ar ds Estimated total costs: by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

Year 3

$500,000

ISBN:0471227366

$360,000

$506,000

148,000

--

pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial $450.000 $508,000 Estimated total costs for the three-year period, statements present ed in accordance with I AS.

$506,000

Costs incurred to date

$150,000

$500,000

This com andincurred t ruly com pr ehensive qui ck - refer 300,000 ence Estimated cost yetpact to be

[a]

actual for year 3 T ab le of Con t en t s

$ 16,667

$ (8,000)

$ (6,000)

--

16,667

(8,000)

Chapter 1Amount - I ntr oduction to I nter national Accounting Standar ds$ 16,667 of estimated income (loss) recognized

$

$ 2,000

income (loss), for year 3 Wiley I AS Estimated 20 03—Int er pretation and actual Application of I nternational Account ing Standar ds Preface

Less income (loss) previously recognized

(24,667) Chapter 2in -the Balance Sheet current period, actual for year 3 I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent [a]Assumed Chapter 3 of Recognized Gains and Losses Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Profit or Loss Recognized on Contract (Completed-Contract Method)

Chapter 9 price - I ntangi ble Asset s Contract

Year 1

Year 2

$500,000

$500,000

Year 3 $500,000

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - total costs: Estimated I nvestm ent Pr oper ty Chapter 11 - Business Combinations and Consolidat ed Fin ancial $150,000 Statements $360,000 Costs incurred to date Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 Balance Sheet Date

Estimated costs to be incurred Chapter 13 - Financial I nstryet uments—LongTer m Debt Chapter 14 - Leases

Estimated total costs for the three-year period, actual for year 3

$506,000 [a]

300,000

148,000

--

$ 50,000

$ (8,000)

$ (6,000)

--

--

(8,000)

$ --

$ (8,000)

$ 2,000

Chapter 15 - I ncom e Taxes

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y

Loss previously recognized

Chapter 18 - Earnings Per Share

Chapter 19 - I nterim Financial Repor ting(loss) recognized in Amount of estimated income Chapter 20 the- current Segm entperiod, Repor ting actual for year 3 [a]Assumed Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies

Upon completion of the during year 3, it can be seen that the actual loss was only $6,000 Chapter 25 - I nflation andproject Hyperinflation

($500,000 506,000); therefore, Chapter 26 -- Gov er nm ent Gr an ts the estimated loss provision was overstated by $2,000. However,

since this is a change of an estimate, the $2,000 difference must be handled prospectively; consequently, $2,000 of income should be recognized in year 3 ($8,000 previously recognized - $6,000 Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS actual loss). Appendix A - Di sclosure Checklist

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Combining and Segmenting Contracts

List of Tables

List of Ex hibits and Ex am ples

The profit center for accounting purposes is usually a single contract, but under some circumstances the profit center may be a combination of two or more contracts, a segment of a contract, or a group of combined contracts. Conformity with explicit criteria set forth in IAS 1 I is necessary to combine separate contracts, or segment a single contract; otherwise, each individual contract is presumed to be the profit center.

List of Sidebar s

For accounting purposes, a group of contracts may be combined if they are so closely related that they are, in substance, parts of a single project with an overall profit margin. A group of contracts, whether with a single customer or with several customers, should be combined and treated as a single contract

if the group of contracts 1. Are negotiated as a single package W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

2. Require such closely activities that they are, in effect, part of a single I n t er n at ioninterrelated al Accou n tconstruction in g St an d ar ds project with overall profit margin ISBN:0471227366 byan Bar r y J. Epstein and Abbas Ali Mir za

3. Are performed in a (952 continuous John concurrently Wi ley & Sons or © 2003 pages) sequence This com pact and t ruly com pr ehensive qui ck - refer ence

Segmenting a contract is a process of breaking up a larger unit into smaller units for accounting pr esent s account ants with a guide to depend on for purposes. If the project is segmented, revenues be standing assignedoftofinancial the different elements or phases to assistance in the prepar at ion andcan under achieve different statements rates of profitability based on the relative value of each element or phase to the present ed in accordance with I AS. estimated total contract revenue. According to IAS 11, a contract may cover a number of assets. The T ab le of Con t en t s construction of each asset should be treated as a separate construction contract when Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing The contractor has submitted separate proposals on the separate components of the project 1. ds Standar Preface

2. Each asset has been subject to separate negotiation and the contractor and customer had the - I ntr oduction to I nter national Accounting Standar ds right to accept or reject part of the proposal relating to a single asset

Chapter 1 Chapter 2

- Balance Sheet

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent 3. The Chapter 3 - cost and revenues of each asset can be separately identified of Recognized Gains and Losses Chapter 4

- Cash Flow St at em ent

Contractual Stipulation for Additional Asset—Separate Contract - Financial I nstr uments—Cash and Receiv ables

Chapter 5 Chapter 6

- I nventor y The contractual stipulation for an additional asset is a special provision in the international accounting

Chapter 7 IAS - Rev enue Recogni tion, I ncludingmay Constr uction the Contr act s standard. 11 provides that a contract stipulate construction of an additional asset at the Chapter 8 Property , Plant , and Equipment option of the customer, or the contract may be amended to include the construction of an additional Chapter 9 - construction I ntangi ble Asset s additional asset should be treated as a separate construction contract if asset. The of the I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - additional asset significantly differs (in design, technology or function) from the asset or 1. The I nvestm ent Pr oper ty

assets covered by the original contract

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he 2. The Chapter 12 - price for the additional asset is negotiated without regard to the original contract price Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Changes in Estimate

Chapter 14 - Leases

Chapter 15 - I ncom e Taxes

Since the percentage-of-completion method uses current estimates of contract revenue and expenses, it is normal to encounter changes in estimates of contract revenue and costs frequently. Such changes Chapter 17 - Stock holder s' Equit y in estimate of the contract's outcome are treated on a par with changes in accounting estimate as Chapter Earnings Per Share defined18 by -IAS 8. Chapter 16 - Em ploy ee Benefit s

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

Disclosure Requirements under IAS 11

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter 22 of - For eign Curr ency A number disclosures are prescribed by IAS 11; some of them are for all the contracts and others Chapter 23 RelatedDisclosures are only for contractsPart in yprogress at the balance sheet date. These are summarized below. Chapter 24 - Specialized I ndustr ies

1. Disclosures relating to all contracts

Chapter 25 - I nflation and Hyperinflation

Aggregate amount Chapter 26 a. - Gov er nm ent Gr an ts of contract revenue recognized in the period Appendix A - Di sclosure Checklist

b. Methods used in determination of contract revenue recognized in the period

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

2. Disclosures Appendix C - Com parison relating of I to AS,contracts US GAAP,inand progress UK GAAP I ndex

a. Methods used in determination of stage of completion (of contracts in progress)

List of Tables

b. and Aggregate amount of costs incurred and recognized profits (net of recognized losses) to List of Ex hibits Ex am ples List of Sidebar s date

c. Amounts of advances received (at balance sheet date) d. Amount of retentions (at balance sheet date)

Financial Statement Presentation Requirements under IAS 11 Gross amounts due from customers should be reported as an asset. This amount is the net of 1.

1. Costs incurred plus recognized profits, less 2. The aggregate of recognized losses and progress billings.

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

This represents, in the case of contracts in progress, excess of contract costs incurred plus recognized ISBN:0471227366 by Bar r y losses, J. Epstein and Abbas Ali profits, net of recognized over progress billings. Mir za John ley & Sonsshould © 2003 be (952reported pages) as a liability. This amount is the net of Gross amounts due toWi customers This com pact and t ruly com pr ehensive qui ck - refer ence plus recognized profits, less 1. Costs incurred pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial 2. The aggregate of the present recognized and progress statements ed inlosses accordance with I AS.billings.

This represents, T ab le of Con t en t s in the case of contract work in progress, excess of progress billings over contract costsI AS incurred pluserrecognized profits, net of recognized losses. Wiley 20 03—Int pretation and Application of I nternational Account ing Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS 2 0 03 : Under I n t erp re t at ion an d ApSituations—Guidance p licat io n o f Appendix Accounting Special From I n t er n at ion al Accou n t in g St an d ar ds Us Gaap by Bar r y J. Epstein and Abbas Ali ISBN:0471227366 Mir za

A number of specialized situations are fairly common in long-term construction contracting are not John Wi ley & Sons that © 2003 (952 pages) addressed by international accounting standards. To provide guidance on certain of these matters, the This com pact and t ruly com pr ehensive qui ck - refer ence following interpretations offered, based existing practice US GAAP. pr esent sare account ants with aonguide to depend onunder for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Joint Ventures and Shared Contracts T ab le of Con t en t s

ManyI AS contracts obtained by long-term construction companies are shared by more than one contractor. Wiley 20 03—Int er pretation and Application of I nternational Account ing When ds the owner of the contract puts it up for bids, many contractors form syndicates or joint ventures Standar to bid on and obtain a contract under which each contractor could not perform individually. Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

When this transpires, a separate set of books is maintained for the joint venture. If the percentages of - Balance Sheet interest for each venture are identical in more than one contract, the joint venture might keep its I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter records3almost like another construction company. Usually, the joint venture is for a single contract and of Recognized Gains and Losses ends on completion of that contract. Chapter 2

Chapter 4

- Cash Flow St at em ent

Chapter 5 - Financial I nstr Receiv ables A joint venture is a form ofuments—Cash a partnership,and although a partnership for a limited purpose. An agreement of Chapter 6 I nventor y the parties and the terms of the contract successfully bid on will determine the nature of the accounting Chapter - Rev enue Recogni are tion,usually I ncluding Constr uction Contr actshowing s records.7 Income statements cumulative statements all totals from the date of Chapter - Property , Plant Equipment contract8 determination until, and the reporting date. Each venturer records its share of the amount from the venture's statement Chapter 9 income - I ntangi ble Asset sless its previously recorded portion of the venture's income as a single line

item similar Itonterests the equity method Instr for investments. Similarly, balance in Financial um ent s, Associat es, Joint Ventursheets es, andof the venture give rise to a I nvestm ent Prof oper ty single line asset balance investment and advances in joint ventures. In most cases, footnote Chapter 11 -isBusiness and Consolidat ed Fincondensed ancial Statements disclosure similar toCombinations the equity method in displaying financial statements of material joint ventures. Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 Chapter 10 -

Balance Sheet Date Under international (IAS 31), aTer venturer's Chapter 13 - Financialstandards I nstr uments—Longm Debt interest in a joint venture may be accounted for by

either the consolidation or the equity method of accounting. See Chapter 10 for a detailed Chapter 14 proportionate - Leases discussion joint eventure Chapter 15 - of I ncom Taxes accounting. Chapter 16 - Em ploy ee Benefit s

Accounting for Change Orders

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

Change19orders are Financial modifications specifications or provisions of an original contract. Contract Chapter - I nterim Reporof ting

revenue20and costsent should Chapter - Segm Reporbe tingadjusted to reflect change orders that are approved by the contractor and customer. According to US GAAP, the accounting for the change order depends on the scope and price of the change. If the scope and price have both been agreed on by the customer and contractor, Chapter 22 - For eign Curr ency contract revenue and cost should be adjusted to reflect the change order. Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 23 - Related- Part y Disclosures

Chapter 24 -toSpecialized ies According US GAAP,I ndustr accounting for unpriced change orders depends on their characteristics and Chapter 25 - I nflationinand Hyperinflation the circumstances which they occur. Under the completed-contract method, costs attributable to Chapter 26change - Gov erorders nm ent should Gr an ts be deferred as contract costs if it is probable that total contract costs, unpriced Appendix - Di sclosure Checklist includingAcosts attributable to the change orders, will be recovered from contract revenues. Recovery

should be probable if the event or events are Ilikely Appendix B deemed - I llustrativ e Financial St future atem ent s Pr esent ed Under AS to occur. Appendix C - Com parison of I AS, US GAAP, and UK GAAP

According to US GAAP, the following guidelines should be followed when accounting for unpriced change orders under the percentage-of-completion method:

I ndex

List of Tables

1. ExCosts to unpriced change orders should be treated as costs of contract performance List of hibits attributable and Ex am ples in the speriod in which the costs are incurred if it is not probable that the costs will be recovered List of Sidebar through a change in the contract price.

2. If it is probable that the costs will be recovered through a change in the contract price, the costs should be deferred (excluded from the cost of contract performance) until the parties have agreed on the change in contract price, or alternatively, they should be treated as costs of contract performance in the period in which they are incurred, and contract revenue should be recognized to the extent of the costs incurred. 3.

3. If an adjustment to the contract price will be made in an amount that will exceed the costs attributable to the change order, this may be given recognition under certain circumstances. Specifically, if the amount excess can an bedreliably estimated, and if realization is probable, W ile y I AS 2 0 03of : Ithe n t erp re t at ion Ap p licat io n o f then the original contract price should be so adjusted. However, since the substantiation of the I n t er n at ion al Accou n t in g St an d ar ds amount ofby future revenue is difficult, revenue in excess of the costs attributable to unpriced ISBN:0471227366 Bar r y J. Epstein and Abbas Ali change orders Mir zashould only be recorded in circumstances in which realization is assured beyond a reasonable Johndoubt, Wi ley such & Sons as©circumstances 2003 (952 pages) in which an entity's historical experience provides such assurance or pact in which has received This com and tan rulyentity com pr ehensive quiackbona - referfide encepricing offer from a customer and pr esent s account with aasguide to depend on for records only the amount ofants the offer revenue. assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Accounting for Contract Options

T ab le of Con t en t s

Wiley I AS 20to 03—Int er pretation and Application nternational Account should ing According US GAAP, an addition or option of to Ian existing contract be treated as a separate Standar ds if any of the following circumstances exist: contract Preface

1. The product or service to be provided differs significantly from the product or service provided - I ntr oduction to I nter national Accounting Standar ds under the original contract.

Chapter 1 Chapter 2

- Balance Sheet

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent 2. The Chapter 3 - price of the new product or service is negotiated without regard to the original contract and of Recognized Gains andjudgments. Losses involves different economic Chapter 4

- Cash Flow St at em ent 3. The services to be provided under the exercised option or amendment are similar to Chapter 5 - products Financial or I nstr uments—Cash and Receiv ables

under the Chapter those 6 - I nventor y original contract, but the contract price and anticipated contract cost relationship different. Chapter are 7 -significantly Rev enue Recogni tion, I ncluding Constr uction Contr act s Chapter 8

- Property , Plant , and Equipment

If the addition or option does not meet the foregoing circumstances, the contracts should be combined. I ntangi ble Asset s However, if- the addition or option does not meet the criteria for combining, they should be treated as I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and change10 orders. Chapter Chapter 9

I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Accounting Claims Curr entfor Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Chapter 12 -

Balance Sheet Date These represent amounts in excess of the Chapter 13 - Financial I nstr uments—LongTeragreed m Debt contract price that a contractor seeks to collect from

customers unanticipated additional costs. The recognition of additional contract revenue relating to Chapter 14 -for Leases claims is appropriate if it is probable that the claim will result in additional revenue and if the amount can be estimated reliably. US GAAP specifies that all of the following conditions must exist for the Chapter 16 - Em ploy ee Benefit s probable and estimable requirements to be satisfied: Chapter 15 - I ncom e Taxes

Chapter 17 - Stock holder s' Equit y

1. The other evidence provides a legal basis for the claim; or a legal opinion has been Chapter 18 - contract Earningsor Per Share

stating that under the circumstances there is a reasonable basis to support the claim. Chapter obtained, 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

2. Additional costs are caused by circumstances that were unforeseen at the contract date and are

Chapter not 21 -the Accounting andinCor rection of Er rorperformance. s result of Changes deficiencies the contractor's Chapter 22 - For eign Curr ency

3. Costs associated the claim are identifiable or otherwise determinable and are reasonable in Chapter 23 - RelatedPart ywith Disclosures of the work Iperformed. Chapter view 24 - Specialized ndustr ies Chapter 25 - I nflation and Hyperinflation

4. The evidence supporting the claim is objective and verifiable, not based on management's "feel" for the situation or on unsupported representations.

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

Appendix B foregoing - I llustrativrequirements e Financial St atem ent srevenue Pr esent ed Under I AS should be recorded only to the extent When the are met, from a claim Appendix C Com parison of I AS, US GAAP, and UK GAAP that contract costs relating to the claim have been incurred. When the foregoing requirements are not

met, a contingent asset should be disclosed in accordance with US GAAP governing contingencies. I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Chapter 8: Property, Plant, and Equipment I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

za PerspectiveMirand Issues

John Wi ley & Sons © 2003 (952 pages)

Long-lived tangible This and com intangible pact and assets t ruly com (which pr ehensive includequi plant, ck - refer property, ence and equipment as well as pr esent s account ants with a guide toand depend on forprovide economic benefits to an development costs, intellectual property intangibles, goodwill) assistance in the prepar at ion and under standing of financial enterprise for a period greater than that covered by the current year's financial statements. Accordingly, statements present ed in accordance with I AS. these assets must be capitalized and their costs must be allocated over the periods of benefit to the T ab reporting le of Con enterprise. t en t s Generally accepted accounting principles for long-lived assets address matters suchI as determination of the at which to initially record the Wiley AS the 20 03—Int er pretation andamount Application of I nternational Account ingacquisition, the amount at which Standar ds the asset at subsequent reporting dates, and the appropriate method(s) by which to allocate to present Preface their costs to future periods. Under current international accounting standards, while historical cost is identified benchmark treatment, is also acceptable to periodically revalue long-lived assets if Chapter 1 as - I the ntr oduction to I nter nationalitAccounting Standar ds certain 2defined conditions Chapter - Balance Sheet are met. I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 -assets are primarily operational in character, and they may be classified into two basic Long-lived of Recognized Gains and Losses

types: tangible and intangible. Tangible assets, which are the subject of the present chapter, have Chapter 4 - Cash Flow St at em ent physical5 substance can be further categorized as follows: Chapter - Financialand I nstr uments—Cash and Receiv ables 1. Depreciable Chapter 6 - I nventorassets y Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

2. Depletable assets

Chapter 9 - I ntangi ble assets Asset s 3. Other tangible Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

I nvestmon entthe Pr oper ty hand, have no physical substance. The value of an intangible asset is Intangible assets, other Chapter 11 of - Business Combinations ed Finconveys ancial Statements a function the rights or privilegesand thatConsolidat its ownership to the business enterprise. Intangible Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t can he be further categorized as assets, which are explored at length in the following chapter of this book, Chapter 12 Balance Sheet Date either Chapter 13 - Financial I nstr uments—Long- Ter m Debt

1. Identifiable, or

Chapter 14 - Leases

Chapter 15 - I ncom e Taxes 2. Unidentifiable (i.e., goodwill). Chapter 16 - Em ploy ee Benefit s

Property asholder factory buildings) is often constructed by an enterprise over an extended period of Chapter 17(such - Stock s' Equit y

time, and during this interval, when the property has yet to be placed in productive service, the enterprise may incur interest cost on funds borrowed to finance the construction. IAS 23 provides, as Chapter 19 - I nterim Financial Repor ting an allowed alternative treatment, that such cost be added to the carrying value of the asset under Chapter 20 - Segm ent Repor ting construction. However, the benchmark treatment is to expense such costs as period costs, as they are Chapter 21 - Accounting Changes and Cor rection of Er ror s incurred. A recently issued IASC interpretation has stipulated that once an enterprise adopts the Chapter 22 - For eign Curr ency allowed alternative as its accounting policy, interest costs should be added to the carrying value of all Chapter 23 assets. - Related- Part y Disclosures qualifying Chapter 18 - Earnings Per Share

Chapter 24 - Specialized I ndustr ies

It has long accepted that an enterprise's balance sheet should not present assets at amounts in Chapter 25 -been I nflation and Hyperinflation excess 26 of some threshold Chapter - Gov er nm ent Grlevel, an ts often described as net realizable value or fair value, even if its (amortized) cost exceeds that amount. Previously, there was no specific guidance under international Appendix A - Di sclosure Checklist accounting Appendix B - principles I llustrativ edirecting Financialpreparers St atem entofs financial Pr esent edstatements Under I AS in how to measure long-lived assets'

fair values, how to account diminution value which may have occurred during the reporting Appendix C - or Com parison of I AS,for USany GAAP, and UK in GAAP period. IAS 36, Impairment of Assets, has significantly altered the accounting landscape by providing thorough coverage of this subject. IAS 36 is equally applicable to tangible and intangible long-lived List of Tables assets, and will be accordingly addressed in both this and the immediately succeeding chapters. I ndex

List of Ex hibits and Ex am ples

List of Sidebar s Long-lived assets are sometimes acquired in nonmonetary transactions, either in exchanges of assets

between the entity and another business, or when assets are contributed by shareholders to the enterprise. Although there are no specific standards on the accounting for these transactions under existing international accounting standards, the accounting that may logically be applied to these commonly encountered transactions is also considered in this chapter. Sources of IAS

IAS 16, 23, 36

SIC 2, 14, 21, 23

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

ile yTerms I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f DefinitionsWof I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Amortization Mir za

John Wi ley & Sons © 2003 (952 pages)

In general, the allocation of the cost of a long-term asset over its useful life; the term This com pact and t ruly com pr ehensive qui ck - refer ence is pr also used specifically to define thetoallocation for intangible assets. esent s account ants with a guide depend onprocess for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Boot

A term commonly applied to monetary consideration given or received as a net settleup in what is otherwise an asset exchange situation.

T ab le of Con t en t s

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Carrying amount

Preface

The amount at which an asset is presented on the balance sheet, which is its cost (or other allowable basis, such as fair value), net of any accumulated depreciation and Chapter 2 - Balance Sheet accumulated impairment losses thereon. Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Cash generating unit

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

The smallest identifiable group of assets that generates cash inflows from continuing use, largely independent of the cash inflows associated with other assets or groups of Chapter 6 - I nventor y assets. Chapter 8 - Property Corporate assets, Plant , and Equipment Chapter 9

- I ntangi ble Asset s

Chapter 10 -

Assets, excluding goodwill, that contribute to future cash flows of both the cash

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and generating unit under review for impairment and other cash generating units. I nvestm ent Pr oper ty

Chapter Cost11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Amount of cash Balance Sheet Date or cash equivalent paid or the fair value of other consideration given

to acquire or construct an asset.

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Costs of disposal

Chapter 15 - I ncom e Taxes

The incremental costs directly associated with the disposal of an asset; these do not include financing costs or related income tax effects.

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Depreciable amount

Chapter 19 - I nterim Financial Repor ting

Cost of an asset or the other amount that has been substituted for cost, less the

Chapter 20 - Segm ent Repor tingof the asset. residual value Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter Depreciation 22 - For eign Curr ency Chapter 23 - RelatedPart y Disclosures Systematic and rational allocation of the depreciable amount of an asset over its Chapter 24 - Specialized I ndustr economic life. ies Chapter 25 - I nflation and Hyperinflation

Exchange Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Reciprocal Checklist transfer between an enterprise and another entity that results in the

acquisition of assets or services, or the satisfaction Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS of liabilities through a transfer of other assets, services, or other obligations. Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Fair value

List of Tables

Amount that would be obtained for an asset in an arm's-length exchange transaction List of Ex hibits and Ex am ples List of Sidebar s between knowledgeable, willing parties.

Fixed assets Assets used in a productive capacity that have physical substance, are relatively longlived, and provide future benefit that is readily measurable. Also referred to as property, plant, and equipment. Impairment loss The excess of the carrying amount of an asset over its recoverable amount.

Intangible assets Nonmonetary assets, without physical substance, held for use in the production or W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f supply of goods or services or for rental to others, or for administrative purposes, I n t er n at ion al Accou n t in g St an d ar ds which are identifiable and are controlled by the enterprise as a result of past events, ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali and Mirfrom za which future economic benefits are expected to flow. John Wi ley & Sons © 2003 (952 pages)

Monetary assets

This com pact and t ruly com pr ehensive qui ck - refer ence

Assets whose amounts are fixed in terms of units of currency. Examples are cash, pr esent s account ants with a guide to depend on for assistance in the prepar ion and under standing of financial accounts receivable, and atnotes receivable. statements present ed in accordance with I AS.

Net selling price

T ab le of Con t en t s

Theeramount that could be realized from the sale of aning asset by means of an arm'sWiley I AS 20 03—Int pretation and Application of I nternational Account length transaction, less costs of disposal. Standar ds Preface

Nonmonetary assets

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

Assets other than monetary assets. Examples are inventories; investments in - Balance Sheet

Chapter 3

-

common stock; and plant,ges andin equipment. I ncom e Statement, Stat property, em ent of Chan Equit y, and Statem ent of Recognized Gains and Losses

Nonmonetary transactions - Cash Flow St at em ent

Chapter 4 Chapter 5

Exchanges and nonreciprocal transfers - Financial I nstr uments—Cash and Receiv ablesthat involve little or no monetary assets or

Chapter 6

liabilities. - I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Nonreciprocal transfer

Transfer of assets or services in one direction, either from an enterprise to its owners or another entity, or from owners or another entity to the enterprise. An enterprise's I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 reacquisition oftyits outstanding stock is a nonreciprocal transfer. I nvestm ent Pr oper Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Property, plant, and equipment

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Tangible assets Balance Sheet Date with an expected useful life of more than one year, that are held for

use inIthe of producing goods or services for sale, that are held for rental to Chapter 13 - Financial nstrprocess uments—LongTer m Debt others, or that are held for administrative purposes; also referred to commonly as Chapter 14 - Leases fixed assets. Chapter 15 - I ncom e Taxes

Chapter 16 - Em ploy ee Benefit s

Recoverable amount

Chapter 17 - Stock holder s' Equit y

The greater of an asset's net selling price or its value in use.

Chapter 18 - Earnings Per Share

Chapter 19 - Ivalue nterim Financial Repor ting Residual Chapter 20 - Segm ent Repor ting

Estimated net amount expected to be obtained on ultimate disposition of the asset after its useful life has ended, net of estimated costs of disposal.

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Chapter 23 -productive Related- Partassets y Disclosures Similar Chapter 24 - Specialized I ndustr ies that are of the same general type, that perform the same function, Productive assets Chapter 25 - I nflation and Hyperinflation or that are employed in the same line of business. Chapter 26 - Gov er nm ent Gr an ts

UsefulA life Appendix - Di sclosure Checklist Appendix B - I llustrativ Financial atem ent swill Pr esent ed Under in I AS Periodeover whichStan asset be employed a productive capacity, as measured Appendix C - Com parison of I AS, US GAAP, and UK GAAP either by the time over which it is expected to be used, or the number of production I ndex

units expected to be obtained from the asset by the enterprise.

List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS and 2 0 03 : Examples I n t erp re t at ion an d Ap p licat io n o f Concepts, Rules, I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

Property, Plant, and Equipment Mir za

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages)

Property, plant, and equipment (also variously referred to as plant assets, or fixed assets, or as PP&E) is the This com pact and t ruly com pr ehensive qui ck - refer ence term most often used to sdenote tangible property used in productive capacity that will benefit the pr esent account ants with a guidetotobe depend onafor enterprise for a period of greater one year. term is meant to distinguish these assets from assistance in thethan prepar at ion andThis under standing of financial present ed in accordance I AS. that do not have physical substance, or whose intangibles, whichstatements are long-term, generally identifiablewith assets value is not fully indicated by their physical existence. T ab le of Con t en t s Wiley I AS 03—Int er pretation Application of I nternational Account ing There are20four concerns to beand addressed in accounting for fixed assets. Standar ds

1. The amount at which the assets should be recorded initially on acquisition; Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

2. How value changes subsequent to acquisition should be reflected in the accounts, including questions - Balance Sheet of both value increases and possible decreases due to impairments;

Chapter 2 Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

of Recognized Gains and Losses 3. The rate at which the amount the assets are recorded should be allocated to future periods; and

Chapter 4

- Cash Flow St at em ent 4. The the subsequent and disposal ofables the assets. Chapter 5 - recording Financial Iof nstr uments—Cash Receiv Chapter 6

- I nventor y

Chapter 8

- Property , Plant , and Equipment

Initial7measurement. Chapter - Rev enue Recogni tion, I ncluding Constr uction Contr act s All costs required to bring an asset into working condition should be recorded as part of the cost of the asset ble Asset s Examples -ofI ntangi such costs include sales or other nonrefundable taxes or duties, finders' fees, freight costs, site I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and preparation Chapter 10 - and other installation costs, and setup costs. Thus, any reasonable cost incurred prior to using th I nvestm ent Pr oper ty asset in actual production involved in bringing the asset to the buyer is capitalized. These costs are not to be Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements expensed in the period in which they are incurred, as they are deemed to add value to the asset and indeed Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter were necessary 12 expenditures to obtain the asset, provided that this does not lead to recording the asset at a Balance Sheet Date amount greater than fair value. Chapter 9

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 14 -costs Leases Estimated to dismantle or remove spent equipment or to restore property, when subject to accurate Chapter 15 I ncom determination andeif Taxes constituting a legal or constructive commitment by the reporting entity, are to be Chapter 16 - over Em ploy Benefit recognized theeelife of thes related asset. Before IAS 16 was amended in 1998, this was accomplished by Chapter one of two 17 -acceptable Stock holdermeans. s' Equit yFirst, these costs could have been estimated and used to reduce the estimate

residual18value of the asset, thereby increasing periodic depreciation charges (potentially even to the extent th Chapter - Earnings Per Share a negative book Financial value would result, Chapter 19 -net I nterim Repor ting representing the net obligation for costs associated with asset retirement, salvage value). Chapter 20 - less Segm ent Repor ting Alternatively, the estimated costs could have been accrued periodically, by a charge 21 to current operations andand a credit to a provision Chapter - Accounting Changes Cor rection of Er ror s for an estimated liability. The overall impact on the financial would have been equivalent under either approach. Chapter 22statements - For eign Curr ency Chapter 23 - Related- Part y Disclosures

In order to conform to the requirements set forth in IAS 37, Provisions, Contingent Liabilities, and Contingent

Chapter - Specialized I ndustr with ies regard to the accounting for estimated costs of asset retirement obligation Assets,24 IAS 16 was amended Chapter 25 I nflation and Hyperinflation Under the current standard, the elements of cost to be incorporated in the initial recognition of an asset are Chapter Gov er nm ent Gr an include26 the- estimated costs oftsits eventual dismantlement. That is, the cost of the asset is "grossed up" for Appendix A - Di sclosure Checklist these estimated terminal costs, with the offsetting credit being posted to a liability account. It is important to Appendix B I llustrativ e Financial atem s Pr esent Under I AS37 for the recognition of provisions are met. stress that this only applies whenStall theent criteria set ed forth in IAS Appendix These criteria C - Com are parison that a of provision I AS, US will GAAP, be recognized and UK GAAP when (1) the reporting entity has a present obligation,

whether legal or only constructive, as a result of a past event; (2) it is probable that an outflow of resources I ndex embodying List of Tables economic benefits will be required to settle the obligation; and (3) a reliable estimate can be mad of the amount of the obligation. List of Ex hibits and Ex am ples List of Sidebar s

For example, assume that it were necessary to secure a government license in order to construct a particula asset, such as a power generating plant, and a condition of said license would be that at the end of the expected life of the property the owner would dismantle it, remove any debris, and then restore the land to its previous condition. These conditions would qualify as a present obligation resulting from a past event (the plant construction), which will probably result in a future outflow of resources. The cost of doing this, while perhaps challenging due to the long time horizon and the possible intervening evolution of technology, can normally be estimated. Per IAS 37, a best estimate is to be made of the future costs, which is then to be discounted to present value. This present value is to be recognized as an additional cost of acquiring the ass

The cost of dismantlement and similar legal or constructive obligations do not extend to operating costs to be incurred in the future, since those would not qualify as "present obligations." The precise mechanism for making these computations 12. W ile y I AS is 2 0addressed 03 : I n t erpin reChapter t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

If estimated costsbyofBar dismantlement, removal, included in the cost of the asset, the effect ISBN:0471227366 r y J. Epstein and Abbas and Ali restoration are will be to allocateMir this zacost over the life of the asset through the depreciation process. While not explicitly addressed by either 37 or the revisions topages) IAS 16, logic suggests that, if originally recorded at discounted JohnIAS Wi ley & Sons © 2003 (952 present value, each theand provision (i.e., the estimate liability) should be accreted, so that at the expecte Thisperiod com pact t ruly com pr ehensive qui ck - refer ence date on which theprexpenditure is to be with incurred it will appropriately stated. The offset to this accretion sho esent s account ants a guide to be depend on for assistance in theorprepar at ionfinancing and under standing of financial be reported as interest expense a similar cost. It should not be added to the cost of the asset to statements present ed in accordance which the estimated dismantlement costs related. with I AS. T ab le of Con t en t s

In certain cases, other costs will be incurred during the initial break-in period. These costs may, alternatively,

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing be referred to as start-up or preproduction costs. Under the provisions of IAS 16, these costs are not to be Standar ds

added to the amount recorded for the asset unless they are absolutely necessary to bring the asset to a workable condition. Notwithstanding this rule, this remains an area of subjective judgment; under many Chapter 1 - I ntr oduction to I nter national Accounting Standar ds circumstances there will be justification for adding certain costs, such as those associated with materials use Chapter 2 - Balance Sheet in testing or adjusting the machinery or equipment in order to place it into actual production. If these amounts I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter are significant 3 and incurrence of the costs is a necessary precedent to using the asset, they should be added of Recognized Gains and Losses to the carrying amount of the asset. On the other hand, losses incurred in the early stages of actually Chapter 4 - Cash Flow St at em ent employing the asset in its intended use clearly cannot be capitalized, but instead must be charged to expens Chapter 5 - Financial I nstr uments—Cash and Receiv ables as incurred, as these are not assets (i.e., these do not represent economic benefits that will later be received Chapter 6 - I nventor y by the entity). Preface

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter While interest 8 - Property costs ,incurred Plant , and during Equipment the construction of certain assets may be added to the cost of the asset

(as described below), an asset is purchased on deferred payment terms, the interest cost, whether made Chapter 9 - I ntangi ble ifAsset s explicit or imputed, is innot part of Instr the cost of s, the asset.es, Accordingly, such costs should be expensed currently I nterests Financial um ent Associat Joint Ventur es, and I nvestm ent Pr oper ty as interest charges. If the purchase price for the asset incorporates a deferred payment scheme, only the ca Chapter 11 -price Business Combinations andas Consolidat Fin ancialamount Statements equivalent should be capitalized the initialedcarrying of the asset. If the cash equivalent price not explicitlyCurr stated, the deferred payment amount shouldand beEv reduced to present value by the application of a ent Liabilit ies, Prov isions, Cont ingencies, ents after t he Chapter 12 Balance Sheet Date would normally be best approximated by use of the enterprise's incremental appropriate discount rate. This Chapter 13 -cost Financial I nstr uments—Longm Debt borrowing for debt having a maturityTer similar to the deferred payment term. Chapter 10 -

Chapter 14 - Leases

Administrative costs, as well as other categories of overhead, are not normally allocated to fixed asset Chapter 15 - I ncom e Taxes

acquisitions, despite the fact that some such costs, such as the salaries of the personnel who evaluate asse for proposed acquisitions, are in fact incurred as part of the acquisition process. As a general principle, Chapter 17 - Stock holder s' Equit y administrative costs are expensed in the period incurred. On the other hand, truly incremental costs, such as Chapter 18 - Earnings Per Share consulting fee or commission paid to an agent hired specifically to assist in the acquisition, may be treated as Chapter 19 - I nterim Financial Repor ting part of the initial amount to be recognized. Chapter 16 - Em ploy ee Benefit s

Chapter 20 - Segm ent Repor ting

Chapter - Accounting Changes and Cor rection of Er ror s Initial21 recognition of self-constructed assets. Chapter 22 - For eign Curr ency

Essentially samePart principles that have been established for recognition of the cost of purchased assets al Chapter 23 - the Relatedy Disclosures apply to24self-constructed assets. Chapter - Specialized I ndustr ies All costs that must be incurred to complete the construction of the asset can be added amount be recognized initially, subject only to the constraint that if these costs exceed the Chapter 25 to - Ithe nflation and to Hyperinflation recoverable amount fully later in this chapter), the excess must be expensed currently. This ru Chapter 26 - Gov er nm(as ent discussed Gr an ts is necessary avoid the "gold-plated hammer syndrome," whereby a misguided or unfortunate asset Appendix A - Dito sclosure Checklist

construction project incurs excessive costs that then find their way onto the balance sheet, consequently overstating the entity's current net worth and distorting future periods' earnings. Of course, internal Appendix C - Com parison of I AS, US GAAP, and UK GAAP (intracompany) profits cannot be allocated to construction costs. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS I ndex

List of Tables Self-constructed assets may include, in addition to the range of costs discussed earlier, the cost of borrowed List of Ex hibits and Ex amperiod ples of construction. Capitalization of borrowing costs, as set forth by IAS 23, is funds used during the List of Sidebar discussed in sa later section of this chapter.

The other issue that arises most commonly in connection with self-constructed fixed assets relates to overhe allocations. While capitalization of all direct costs (labor, materials, and variable overhead) is a well-settled matter in accounting thought, a controversy exists regarding the proper treatment of fixed overhead. Two alternative views of how to treat fixed overhead are to 1. Charge the asset with its fair share of fixed overhead (i.e., use the same basis of allocation used for inventory); or 2.

2. Charge the fixed asset account with only the identifiable incremental amount of fixed overhead. While international standards do not address this concern, it may be instructive to consider nonbinding W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f guidance includedI nint erUS GAAP. AICPA Accounting Research Monograph 1 has suggested that n at ion al Accou n t in g St an d ar ds ... in the absence evidence costs considered to have "discernible ISBN:0471227366 by Barofr ycompelling J. Epstein and Abbasto Alithe contrary, overhead Mir za future benefits" for the purposes of determining the cost of inventory should be presumed to have John Wi ley & Sons 2003 (952 pages) "discernible future benefits" for ©the purpose of determining the cost of a self-constructed depreciable asset. This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for in theisprepar ion and under of applied financialto determining which acquisition The implication ofassistance this statement that aatlogic similar tostanding what was statements presentmight ed in accordance AS.applied to the costing of fixed assets. Also, costs may be included in inventory reasonably with also Ibe consistent T ab le of Conwith t en t the s standards applicable to inventories, if the costs of fixed assets exceed realizable values, any excess costs should be written off to expense and not deferred to future periods. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Costs Preface

Chapter 1

incurred subsequent to purchase or self-construction. - I ntr oduction to I nter national Accounting Standar ds

Costs that are incurred subsequent to the purchase, such as those for repairs, maintenance, or betterments, Balance Sheet are treated- in one of the following ways:

Chapter 2

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 1. Expensed; of Recognized Gains and Losses Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

2. Capitalized; or

Chapter 6 - I nventorby y a reduction of accumulated depreciation. 3. Recognized Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s

Costs can added ,toPlant the, carrying value of the related asset only when it is probable that future economic Chapter 8 -be Property and Equipment benefits9 beyond those originally anticipated for the asset will be received by the entity. For example, Chapter - I ntangi ble Asset s

modifications to the asset made to extend its useful life (measured either in years or in units of potential

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - or to increase its capacity (e.g., as measured by units per hour) would be capitalized. Similarly, if production) I nvestm ent Pr oper ty

the expenditure results in an improved of output, or permits a reduction in other cost inputs (e.g., wou Chapter 11 - Business Combinations and quality Consolidat ed Fin ancial Statements

result in labor savings), it isies, a candidate capitalization. AsEv with assets, if the costs incurre Curr ent Liabilit Prov isions,for Cont ingencies, and entsself-constructed after t he Chapter exceed12 the- defined Balance threshold, Sheet Datethey must be expensed currently. Chapter 13 - Financial I nstr uments—Long- Ter m Debt

It can usually be assumed that ordinary maintenance and repair expenditures will occur on a ratable basis ov the life of the asset and should be charged to expense as incurred. Thus, if the purpose of the expenditure is Chapter 15 - I ncom e Taxes either to maintain the productive capacity anticipated when the asset was acquired or constructed, or to resto Chapter 16 - Em ploy ee Benefit s it to that level, the costs are not subject to capitalization. Chapter 14 - Leases

Chapter 17 - Stock holder s' Equit y

A partial is Per encountered if an asset is acquired in a condition that necessitates that certain Chapter 18exception - Earnings Share expenditures be incurred in order put it into the appropriate state for its intended use. For example, a Chapter 19 - I nterim Financial Reporto ting deteriorated building purchased with the intention that it be restored and then utilized as a factory or Chapter 20 - Segm ent may Reporbe ting office facility. In such cases, costs Chapter 21 - Accounting Changes andthat Corotherwise rection of would Er ror s be categorized as ordinary maintenance items might be subject capitalization, Chapter 22 -toFor eign Curr encysubject to the constraint that the asset not be presented at a value that exceeds

recoverable amount.Part Once the restoration is completed, further expenditures of similar type would be viewed Chapter 23 - Relatedy Disclosures as being ordinary repairs or maintenance, and thus expensed as incurred.

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation

Extraordinary repairs.

Chapter 26 - Gov er nm ent Gr an ts Appendix A - to Dinormal sclosuremaintenance Checklist In contrast costs, extraordinary repairs or maintenance increase the value (utility) of t Appendix B I llustrativ e Financial St atemlife ent sofPrthe esent ed Under I AS asset or increase the estimated useful asset. Extraordinary repairs may also be referred to various Appendix C - Com parison of or I AS, US GAAP,ultimately, and UK GAAP as overhauls, betterments renewals; it is not the term used, but the substance of what has been performed that is of most concern. There has long been widespread recognition that such expenditures can I ndex

validly be used to increase the net carrying value of the asset, and that these costs are not to be immediately List of Tables expensed. However, IAS 16 did not directly address this subject (it does set forth an economic benefit criterio List of Ex hibits and Ex am ples for of subsequent List Sidebar s expenditures on plant assets already deployed), nor did it stipulate how these were to be accounted for. Two methods of accounting for extraordinary repairs have been advocated. The more direct approach is to simply add these costs to the gross carrying value of the asset. The alternative is to reduce the previously accumulated depreciation, thereby also increasing the net book value. There is a logical basis for increasing the asset account for those repairs that increase the value of the asset, while decreasing the accumulated depreciation account for those repairs that extend the useful life of the asset. In effect, those that extend the life of the asset have "recovered" some of the depreciation previously recorded, and the asset will be

depreciated again over its new, lengthier, lifetime. While the appropriateness of these methods has yet to be addressed by the IASC, the issuance of SIC 23, W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Property, Plant, and Equipment—Major Inspection or Overhaul Costs, has for the first time offered official I n t er n at ion al Accou n t in g St an d ar ds support for the concept of capitalizing extraordinary repair costs. SIC 23 states that while the costs of a majo ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali inspection or overhaul Mir za of property, plant, and equipment occurring subsequent to the acquisition of that property, plant, and equipment are generally such costs are capitalized under certain John Wi ley & Sons © 2003 (952expensed, pages) circumstances. Specifically, if the entity has already depreciated a component to reflect the consumption of This com pact and t ruly com pr ehensive qui ck - refer ence benefits which areprreplaced or restored by the major inspection or esent s account ants with a guide to depend on foroverhaul, and the capitalized overhaul cos are identified as aassistance separate in component the and asset, then such costs can be added to the carrying value of th the preparof at ion under standing of financial statements present edfor in capitalization accordance with I AS. asset. Thus, a qualified endorsement of overhaul (or, also, presumably extraordinary repairs and similar) costs has now been granted. T ab le of Con t en t s Wiley I AS 20on 03—Int er pretation andsummarizes Application the of I nternational ing The chart the following page treatment ofAccount expenditures subsequent to acquisition Standar ds

consistent with the foregoing discussion.

Preface

Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Depreciation of fixed assets. Chapter 2

- Balance Sheet

In accordance I ncom withe one Statement, of the more Stat em important ent of Chan basic gesaccounting in Equit y, and concepts, Statemthe ent matching principle, the costs o Recognized Losses fixed assets ofare allocated Gains to the and periods benefited through depreciation. Whatever the method of depreciatio Chapter - Cashresult Flow in St at emsystematic ent chosen,4 it must the and rational allocation of the cost of the asset (less its residual value Chapter - Financial I nstr uments—Cash Receiv ables of the useful life must take a number of factors into over the5 asset's expected useful life. Theand determination Chapter 6 - I nventor consideration. Thesey factors include technological change, normal deterioration, actual physical use, and leg or other7 limitations onRecogni the ability use the property. TheContr method Chapter - Rev enue tion,toI ncluding Constr uction act sof depreciation is based on whether the useful life determined as, aand function of time (e.g., technological change or normal deterioration) or as a Chapter 8 is - Property , Plant Equipment function9 of-actual physical Chapter I ntangi ble Assetusage. s Chapter 3

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 Since depreciation I nvestmaccounting ent Pr oper tyis intended as a strategy for cost allocation, it does not necessarily reflect

changes in the value of the asset being amortized. Thus, with the exception of land, which has infinite life, al tangible fixed assets must be depreciated, even if (as sometimes occurs, particularly in periods of general pr Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12their inflation) nominal or real values increase. Balance Sheet Date Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Furthermore, if the recorded amount of the asset is allocated over a period of time (as opposed to units of production), it should be the expected period of usefulness to the entity, not the physical life of the property Chapter 15 governs. - I ncom e Thus, Taxes such concerns as technological obsolescence, as well as normal wear and tear, itself, that Chapter 16 Em ploy ee s determination of the period over which to allocate the asset cost. The reporti must be addressed in Benefit the initial Chapter - Stock holder s' Equit entity's 17 strategy for repairs andymaintenance will also affect this computation, since the same physical asset Chapter 18 - aEarnings Pershorter Share economic useful life in the hands of differing owners, depending on the care w might have longer or Chapter - I nterim to Financial Repor ting which it19 is intended be maintained. Chapter 14 - Leases

Chapter 20 - Segm ent Repor ting

Similarly, same asset may have longer or of shorter Chapter 21 the - Accounting Changes and aCor rection Er ror seconomic life, depending on its intended use. A

particular building, for example, may have a fifty-year expected life as a facility for storing goods or for use in light manufacturing, but as a showroom would have a shorter period of usefulness, due to the anticipated Chapter 23 - Related- Part y Disclosures disinclination of customers to shop at enterprises housed in older premises. Again, it is not physical life, but Chapter 24 - Specialized I ndustr ies useful economic life, that should govern. Chapter 22 - For eign Curr ency

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Accounting for CostsChecklist Incurred Subsequent to Acquisition of Property, Plant, and Equipment Appendix A - Di sclosure Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Normal accounting treatment Capitalize

I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

Type of expenditure 1.

Additions

Characteristics Extensions, enlargements, or expansions made to an existing asset

Expense when incurred

Charge to asset x

Charge to accum. deprec.

Other

2.

Repairs and maintenance W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

a.

Ordinary I n t er n at ion al Accou n t in g St an d ar ds Recurring, by Bar r y J. Epstein and Abbas Ali relatively small Mir za expenditures

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages)

This com pact and t ruly1.comMaintain pr ehensive qui ckx- refer ence pr esent s account ants with a guide to depend on for normal assistance in the prepar at ion and under standing of financial operating with I AS. statements present ed in accordance

condition

T ab le of Con t en t s

x

2. Doofnot Wiley I AS 20 03—Int er pretation and Application I nternational Account ing Standar ds add materially

Preface Chapter 1

to use Standar ds - I ntr oduction to I nter national Accounting

Chapter 2

- Balance Sheet

Chapter 3

-

value

I ncom e Statement, Stat em ent of Chan ges in Equitx y, and Statem ent 3. Do not of Recognized Gains and Losses

extend useful Chapter 5 - Financial I nstr uments—Cash and Receiv ables life Chapter 4

- Cash Flow St at em ent

Chapter 6

- I nventor y

Chapter 7

-b.RevExtraordinary enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment (major)

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

Not recurring, relatively large expenditures

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty x

1.

Primarily increase Curr ent Liabilit ies, Prov isions, Cont and Ev ents after t he theingencies, use Chapter 12 Balance Sheet Date value Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

2.

Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

Primarily extend the useful life

Chapter - I nterim Financial Repor ting 3. 19 Replacements Chapter 20 - Segm ent Repor ting and betterments

Major

Chapter 21 - Accounting Changes and component Cor rection ofofEr ror s

asset is Chapter 23 - Related- Part y Disclosuresremoved and replaced with Chapter 24 - Specialized I ndustr ies the same type Chapter 25 - I nflation and Hyperinflation of component Chapter 26 - Gov er nm ent Gr an ts with Appendix A - Di sclosure Checklist comparable Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS performance Appendix C - Com parison of I AS, US GAAP, and UK GAAP capabilities I ndex (replacement) List of Tables or a different List of Ex hibits and Ex am ples type of List of Sidebar s component having superior performance capabilities (betterment) Chapter 22 - For eign Curr ency

x

a.

Book value of old W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f component I n t er n at ion al Accou n t in g St an d ar ds is known

Remove old asset cost and accum. deprec.

ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

Recogniz any loss (or gain) on old asset

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Charge asset for replacem compone

Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Chapter 7

b.of Recognized Book valueGains and Losses 1. Primarily of Flow old St at em ent increase - Cash component use ables - Financial I nstr uments—Cash andthe Receiv is not value - I nventor y - Revknown enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 4 Chapter 5 Chapter 6

x

2.

Primarily extend I nterests in Financial Instr um entthe s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty useful Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements life Chapter 12 -

4.

Chapter Chapter Chapter Chapter Chapter

x

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Reinstallations Balance Sheet Date Provide greater and 13 - Financial I nstr uments—Long- Ter m Debt efficiency in rearrangements 14 - Leases production or 15 - I ncom e Taxes reduce 16 - Em ploy ee Benefit s production 17 - Stock holder s' Equit y costs

Chapter 18 - Earnings Per Share

x

Chapter 19 - I nterim Financial Repor ting 1. Chapter 20 Chapter 21 Chapter 22 Chapter 23 Chapter 24 Chapter 25 -

Material costs Segm ent Repor ting incurred; Accounting Changes and Cor rection of Er ror s benefits For eign Curr ency extend Related- Part y Disclosures into future Specialized I ndustr ies accounting I nflation and Hyperinflation periods

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

2.

No

x

Appendix B - I llustrativ e Financial St atem ent smeasurable Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP future I ndex

benefit

List of Tables List of Ex hibits and Ex am ples

Compound such as buildings containing such disparate components as heating plant, roofs, and othe List of Sidebarassets, s structural elements, are most commonly recorded in several separate accounts, to facilitate the process of amortizing the different elements over varying periods. Thus, a heating plant may have an expected useful lif of twenty years, the roof a life of fifteen years, and the basic structure itself a life of forty years. Recordation i separate accounts eases the calculation of periodic depreciation in such situations, although for financial reporting purposes certain of these categories might be combined, based on materiality or other considerations.

Originally, a stand-alone IAS addressed depreciation accounting. However, the guidance formerly located in

that standard was absorbed by or superseded by IAS 16 for tangible long-lived assets, and IAS 38 for intangible assets. The allocation of the costs of intangibles to the periods benefited is addressed in Chapter Methods of allocating costs of:tangible assets discussed in nthe W ile ythe I AS 2 0 03 I n t erp re t at ionare an d Ap p licat io o f following section of this chapter. I n t er n at ion al Accou n t in g St an d ar ds

Depreciation by methods based time. Bar r y J. Epstein andon Abbas Ali

ISBN:0471227366

Mir za 1. Straight-line—Depreciation expense is incurred evenly over the life of the asset. The periodic charge John ley & depreciation is Wi given asSons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. T ab le of Con t en t s

2. Accelerated methods—Depreciation expense is higher in the early years of the asset's useful life and

Wiley I AS 20 03—Int pretation of I nternational Account ing lower in theerlater years.and IASApplication 16 only mentions one accelerated method, the diminishing balance metho Standar ds Preface

but other methods have been employed in various countries under earlier or other contemporary accounting standards.

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

a. Diminishing balance—A multiple of the straight-line rate times the net carrying value at the - Balance Sheet beginning of the year.

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6 Chapter 7

- I nventor y Example - Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

Double-declining - I ntangi ble Asset s balance depreciation (if salvage value is to be recognized, stop when book

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

value =inestimated value) I nterests Financial salvage Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Depreciation = 2 x Straight-line rateed x Book value at beginning of year Chapter 11 - Business Combinations and Consolidat Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Another method to accomplish a diminishing charge for depreciation is the sum-of-the-years' Balance Sheet Date

digits method, that is commonly employed in the United States and certain other venues.

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Chapter 15 b. - I ncom e Taxes Sum-of-the-years' digits (SYD) depreciation = Chapter 16 - Em ploy ee Benefit s

(Cost lesss'salvage Chapter 17 - Stock holder Equit y value) x Applicable fraction Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Relatedand Part y Disclosuresand n = estimated useful life Chapter 24 - Specialized I ndustr ies Chapter Example 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

An asset having a useful economic life of 5 years and no salvage value would have 5/15 (= 1/3) of its cost allocated to year 1, 4/15 to year 2, and so on.

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

List of Present value methods—A characteristic of this method of depreciation is that expense will be lower i 3. Tables List of Exthe hibits andyears Ex amand pleshigher in the later years. The effect of this pattern results in having the rate of retu early List of Sidebar on thes investment remain constant over the life of the asset. Time value of money formulas are used t

effect this method of depreciation. a. Sinking fund method—Uses the future value of an annuity formula. b. Annuity fund method—Uses the present value of an annuity formula. The present value approach is rarely encountered in practice, due to computational complexity, despite what many consider to be its theoretical validity. IAS 16 is silent regarding these methods, and the fact that the standard refers only to straight-line, diminishing balance, and sum-of-the-units methods may suggest that

increasing charge methods would not be acceptable. However, the statement in IAS 16 that a "variety of depreciation methods can be used to allocate the depreciable amount of an asset on a systematic and ration basis over its useful life" would at :the seemingly W ile y I AS 2 0 03 I n tsame erp retime t at ion an d Ap psupport licat io nother o f unnamed methods, albeit that they are not explicitly discussed in that standard. Clearly, it would be incumbent upon those choosing to employ I n t er n at ion al Accou n t in g St an d ar ds such methods to by demonstrate why these better represented the actual economic depreciation of the assets i ISBN:0471227366 Bar r y J. Epstein and Abbas Ali question. Mir za John Wi ley & Sons © 2003 (952 pages)

Partial-year depreciation. This com pact and t ruly

com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for Although IAS 16 is silent oninthe an asset either acquired or disposed of during the year, the f assistance thematter, preparwhen at ion and underis standing of financial accordance with Ithe AS. accounting periods involved. This is necessary year depreciationstatements calculationpresent shoulded beinprorated between

achieve proper matching. However, if individual assets in a relatively homogeneous group are regularly acquired and disposed of, one of several conventions can be adopted, as follows:

T ab le of Con t en t s

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar 1. ds Record a full year's depreciation in the year of acquisition and none in the year of disposal. Preface

2. Record depreciation in the year of acquisition and one-half year's depreciation in the Chapter 1 - I ntrone-half oductionyear's to I nter national Accounting Standar ds year- of disposal. Balance Sheet

Chapter 2

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter Example 3 of - partial-year depreciation of Recognized Gains and Losses Chapter 4

- Cash Flow St at em ent Assume the following:

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter Taj Mahal 6 Milling - I nventor Co., y a calendar-year entity, acquired a machine on June 1, 2002, that cost $40,000 with an

estimated life of four years a $2,500 salvage value.act The Chapter 7 useful - Rev enue Recogni tion, Iand ncluding Constr uction Contr s depreciation expense for each full year o the asset's is calculated as follows: Chapter 8 - life Property , Plant , and Equipment Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I nterests in Financial Instr um entDouble s, Associat -declining es, Joint Ventur es, and IStraight-line nvestm ent Pr oper ty balance

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

37,500 [a] ÷4 =

Sum-of-years' digits

40,000

=

20,000

4/10

x

37,500 [a]

=

15,000

Chapter uments—LongDebt Year 13 - Financial I nstr 9,375 50% x Ter m20,000 Chapter 14 Leases 2

=

10,000

3/10

x

37,500

=

11,250

Year

Chapter 12 1

50%

x

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he 9,375 Balance Sheet Date

Chapter 15 - I ncom e Taxes

Year 3

9,375

Chapter 16 - Em ploy ee Benefit s

50%

Chapter 17 - Stock holder s' Equit y

Year 18 - Earnings Per 9,375 Chapter Share 50%

x

10,000

=

5,000

2/10

x

37,500

=

7,500

x

5,000

=

2,500

1/10

x

37,500

=

3,750

4 Chapter 19 - I nterim Financial Repor ting [a]$40,000 - $2,500. Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

Because the first full year of the asset's life does not coincide with the company's year, the amounts shown above must be prorated as follows:

Chapter 22 - For eign Curr ency

Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies

Straight-line

Chapter 25 - I nflation and Hyperinflation

2002 267/12 x er 9,375 = Gr an ts 7/12 Chapter - Gov nm ent

Double -declining balance x

20,000

=

Sum-of-years' digits

11,667

7/12

x

15,000

=

8,750

Appendix - I llustrativ e Financial St atem ent ed Under 2003 B9,375 5/12 x s Pr esent 20,000 - I AS8,333 Appendix C - Com parison of I AS, US GAAP, and UK GAAP

5/12

x

15,000

=

6,250

7/12

x

11,250

=

6,563

Appendix A5,469 - Di sclosure Checklist

7/12

I ndex

x

10,000

=

14,166

List of Tables List2004 of Ex hibits and Ex am ples 9,375 List of Sidebar s

5,833

12,813

5/12

x

10,000

=

4,167

5/12

x

11,250

=

4,687

7/12

x

5,000

=

2,917

7/12

x

7,500

=

4,375

7,084 2005

9,375

9,062

5/12

x

5,000

=

2,083

5/12

x

7,500

=

3,125

7/12

x

2,500

=

1,458

7/12

x

3,750

=

2,188

3,541 2006

5/12 x 9,375= 3,906

5/12

x

2,500

=

1,042

5,313 5/12

x

3,750

=

1,562

Depreciation Wmethod based on actual physical use—Sum-of-the-units (or units of ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds production) method. by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Depreciation mayMir also za be based on the number of units produced by the asset in a given year. IAS 16 identif this as the sum-of-the-units John Wi ley method, & Sons © but 2003it(952 is also pages) commonly known as the units of production approach. It is best suited to those such machinery, that have an- refer expected Thisassets, com pact andas t ruly com pr ehensive qui ck ence life that is most rationally defined in pr esent s account ants of with a guideproduction to depend(such on foras economic recession) the machinery is terms of productive output; in periods reduced assistanceitsinlife thewhen prepar at ion and in under used less, thus extending measured unitsstanding of time.ofIt financial would not be rational to charge the same statements present ed in accordance with I AS. depreciation expense to such periods, as would be the case if straight-line or diminishing balance depreciatio were if the depreciation finds its way into inventory, the unit cost in periods of reduced T ab le ofused. Con tFurthermore, en t s production would be exaggerated and could even exceed netAccount realizable Wiley I AS 20 03—Int er pretation and Application of I nternational ing value unless a units of production Standar approach ds to depreciation were taken. Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Other depreciation methods. - Property , Plant , and Equipment

Chapter 8

Chapter 9 IAS - I ntangi ble Asset s Although 16 does not discuss other methods of depreciation (nor even all the variations noted in the I nterests in Financial Instr um ent Joint Venturother es, and foregoing at different times ands,inAssociat variouses,jurisdictions methods have been used. Some o Chapter 10 paragraphs), I nvestm ent Pr oper ty

these are summarized as follows:

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent method— Liabilit ies, Prov Cont Ev entsinafter t heit is retired. 1. Retirement Costisions, of asset isingencies, expensedand in period which Chapter 12 Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt

2. Replacement method— Original cost is carried in accounts and cost of replacement is expensed in t Chapter 14 - Leases of replacement. Chapter period 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock s' Equit ymethod— Averages the service lives of a number of assets using a weighted 3. Group (orholder composite) Chapter average 18 - Earnings Share of thePer units and depreciates the group or composite as if it were a single unit. A group consis Chapter of 19 similar - I nterim Financial ting assets, whileRepor a composite is made up of dissimilar assets. Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies

Depreciation expense = Depreciation rate x Total group (composite) cost

Chapter 25 - I nflation and Hyperinflation

Chapter 26 - Gov er nm ent Gr an tsapproach is that gains and losses are not recognized on the disposal of an A peculiarity of the composite Appendix A Di sclosure Checklist asset, but rather, are netted into accumulated depreciation. This is because it is a presumption of this metho Appendix B - I llustrativ e Financial St atemassets ent s Pr esent ed Under I AS greater than or less than their respective that although dispositions of individual may yield proceeds Appendix C Com parison of I AS, US GAAP, and UK GAAP book values, the ultimate gross proceeds from a group of assets will not differ materially from the aggregate I ndex book value thereof, and accordingly, recognition of those individual gains or losses should be deferred and effectively List of Tablesnetted out. List of Ex hibits and Ex am ples

Residual List of Sidebarvalue. s

Most depreciation methods discussed above require that a factor be applied to the net depreciable cost of th asset, where net depreciable cost is the historical cost or amount substituted therefor (i.e., fair value) less the estimated residual value of the asset. Although residual value is often not material and in practice is frequent ignored, the concept should nonetheless be understood, particularly since it is defined differently in the conte of the benchmark and allowed alternative methods described by IAS 16. If the benchmark method (historical cost) is used, residual value is defined as the expected worth of the asse

in present dollars (i.e., without any consideration of the impact of future inflation), at the end of its useful life. Residual value should, however, be net of any expected costs of disposition. In some cases, assets will have negative residualWvalue, when the incur out-of-pocket costs to dispose of the asse ile y Ias ASfor 2 0example 03 : I n t erp re t at ionentity an d must Ap p licat io n of or to return the property to an earlier condition, as in the case of certain operations, such as strip mines, that I n t er n at ion al Accou n t in g St an d ar ds are subject to environmental protection or other laws. In such instances, periodic depreciation should total ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za original cost, such that at the expected disposal date, an estimated liability has been more than the asset's accrued equal to John the negative Wi ley & Sons residual © 2003 value. (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence

If the alternative (revaluation) method elected, residual value pr esent s account ants is with a guide to depend on takes for on a rather different meaning. Under th scenario, residualassistance value must anew the standing date of each revaluation of the asset. This is in be theassessed prepar at ion and at under of financial ed in accordance with I AS. accomplished by statements using data present on realizable values for similar assets, ending their respective useful lives at the time of the revaluation, after having been used for purposes similar to the asset being valued. Again, no T ab le of Con t en t s consideration can be paid to anticipated inflation, and expected future values are not to be discounted to Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing present Standar dsvalues to give recognition to the time value of money. As with historical cost based accounting for pla assets, if a negative residual value is anticipated, this should be effectively recognized over the useful life of Preface the asset by charging extra depreciation, such that the estimated liability will have been accrued by the Chapter 1 - I ntr oduction to I nter national Accounting Standar ds disposal date. Chapter 2

- Balance Sheet

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of - depreciation method. Choice of Recognized Gains and Losses Chapter 4

- Cash Flow St at em ent While a number of different methods have been officially endorsed by international accounting standards, an

Chapter 5 - Financial I nstr uments—Cash Receiv ablesone method will be best in any given fact situation at others might be rationally supportable asand well, in theory Chapter 6 I nventor y reporting on the expiration of the service potential of the asset. Thus, straight-line presumes that the same Chapter 7 value - Rev enue Recognifrom tion, use I ncluding Contr act s economic is obtained of the Constr asset uction each period, while such accelerated approaches as the Chapter 8 Property , Plant , and Equipment diminishing balance method are intended to combine decreasing periodic charges for depreciation with Chapter 9 - Iincreasing ntangi ble Asset presumably costss for repairs and maintenance as the asset ages, for an approximately level total cost of use across the I nterests inyears. Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty

In practice, amount of real support forFin the particular depreciation method employed will vary Chapter 11 - the Business Combinations and marshaled Consolidat ed ancial Statements significantly,Curr andent it isLiabilit very ies, unusual for certifying (i.e., outside) accountants to dispute any entity's choice of Prov isions, Cont ingencies, and Ev ents after t he method, as long as itSheet is among Balance Date those deemed to be GAAP. It is presumed that full disclosure of the methods used will the financial statement reader to interpret the financial statements meaningfully, in any event Chapter 13permit - Financial I nstr uments—LongTer m Debt Chapter 12 -

Chapter 14 - Leases

IAS 16 requires that the method of depreciation be critically reviewed periodically. If the expected pattern of utility of the asset has changed from when the method used was decided on, a different and more appropriat Chapter 16 - Em ploy ee Benefit s method should be selected. This change would be accounted for as a change in an accounting estimate and Chapter 17 - Stock holder s' Equit y would affect financial reporting only on a prospective basis. Chapter 15 - I ncom e Taxes

Chapter 18 - Earnings Per Share

Chapter - I nterim Financial Repor ting Useful19lives. Chapter 20 - Segm ent Repor ting

Irrespective of the method of depreciation used,ofthe estimate of useful life must be revisited periodically. Use Chapter 21 - Accounting Changes and Cor rection Er ror s life is defined ineign terms ofency expected utility to the enterprise, and as such may differ from both the physical life Chapter 22 - For Curr and economic life ofPart the yasset. Useful life is affected by such things as the entity's practices regarding repairs Chapter 23 - RelatedDisclosures and maintenance of its Iassets, as well as the pace of technological change and the market demand for good Chapter 24 - Specialized ndustr ies produced sold byand theHyperinflation entity using the assets as productive inputs. If it is determined that the estimated li Chapter 25 and - I nflation

is greater or less than previously believed, the change is handled as a change in accounting estimate, not as correction of fundamental error. Accordingly, no restatement is made to previously reported depreciation; Appendix A - Di sclosure Checklist rather, the change is accounted for strictly on a prospective basis, being reflected in the period of change an Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS all subsequent periods. Chapter 26 - Gov er nm ent Gr an ts

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex Example of estimating the useful life List of Tables

To of illustrate consider an asset costing $100,000 and originally estimated to have a productive li List Ex hibitsthis andconcept, Ex am ples of 10 years. The straight-line method is used, and there was no residual value anticipated. After 2 years, List of Sidebar s management revises its estimate of useful life to a total of 6 years. Since the net carrying value of the asset i $80,000 after 2 years ($100,000 x 8/10), and the remaining expected life is 4 years (2 of the 6 revised total years having already elapsed), depreciation in years 3 through 6 will be $20,000 ($80,000/4) each.

Tax methods. The methods of computing depreciation discussed in the foregoing sections relate only to financial reporting

under international accounting standards. Tax laws in different nations of the world vary widely in terms of the acceptability of depreciation methods, and it is not possible for a general treatise such as this to address tho in any detail. However, the2 0extent that allowable tax reporting purposes differs from W ile y to I AS 03 : I n t erpdepreciation re t at ion an d Ap p licatfor io nincome of that required or permitted for financial statement purposes, deferred income taxes might have to be presente I n t er n at ion al Accou n t in g St an d ar ds Chapter 15. Interperiod income tax allocation is discussed more fully in ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

Revaluation of Fixed Assets

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on IAS 16 establishes two alternative approaches to accounting for for fixed assets. The first of these is the assistance in the prepar at ion and under standing of financial benchmark treatment, under which acquisition or construction statements present ed in accordance with I AS. cost is used for initial recognition, subject to

depreciation over the expected economic life and to possible write-down in the event of a permanent T ab le of Con tin envalue. ts impairment The allowed alternative treatment is to recognize upward revaluations. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar The logic ds of recognizing revaluations relates to both the balance sheet and the measure of periodic

performance provided by the income statement. Due to the effects of inflation (which even if quite moderate Preface when measured on an annual basis can Accounting compound Standar dramatically during the lengthy period over which fixed Chapter 1 - I ntr oduction to I nter national ds assets 2remain in use) the balance sheet can become a virtually meaningless agglomeration of dissimilar cos Chapter - Balance Sheet I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - if income is determined by reference to historical costs of assets acquired in earlier periods, the Furthermore, of Recognized Gains and Losses

replacement of those assets in the normal course of events may well require more resources than are provid - Cash Flow St at em ent by depreciation. Under these circumstances, even a nominally profitable enterprise might find that it has selfChapter 5 - Financial I nstr uments—Cash and Receiv ables liquidated and is unable to continue in existence, at least not with the same level of productive capacity, with Chapter 6 - I nventor y new debt or equity infusions. In fact, a number of enterprises in many capital-intensive industries have suffer Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s just such a fate over the past generation. Chapter 4

Chapter 8

- Property , Plant , and Equipment

Chapter 9 -times I ntangi Asset s regulatory and other authorities and private sector standard setters in differen At varying theblesecurities nations have proposed even required a range of alternative adjusted or current cost methods o I nterests in or Financial Instr um ent s, Associat es, Joint price Venturlevel es, and Chapter 10 I nvestm entthis Pr oper ty accounting to address problem. Notwithstanding these efforts, no uniform approach has ever gained the Chapter 11 - Business ed Fin ancial Statements wide acceptance thatCombinations would create and a deConsolidat facto standard. In certain jurisdictions, less complex and less useful Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t heaccelerated depreciation methods methods have been tried to crudely compensate for the effects of inflation; Chapter 12 Balance Sheet in Date (including 100% write-offs the year of acquisition, in some cases) and LIFO inventory costing are the most Chapter 13 -ofFinancial I nstr uments—LongDebtsubstitutes for a comprehensive system of inflation-adjuste prominent these. Of course, these areTer notmtrue Chapter 14 Leases financial reporting. Chapter 15 - I ncom e Taxes

Fair value. Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y

As a practical yet reasonably effective alternative, IAS 16 promotes the concept of asset revaluation. The standard stipulates that fair value (defined as the amount for which the asset could be exchanged between Chapter 19 - I nterim Financial Repor ting knowledgeable, willing parties in an arm's-length transaction) be used in any such revaluations. Furthermore Chapter 20 - Segm ent Repor ting the standard requires that, once an entity undertakes revaluations, they must continue to be made with Chapter 21 - Accounting Changes and Cor rection of Er ror s sufficient regularity that the carrying amounts in any subsequent balance sheet are not materially at variance Chapter 22 - For eign Curr ency with then-current fair values. In other words, if the reporting entity adopts the allowed alternative treatment, it Chapter - RelatedPart y Disclosures cannot 23 report balance sheets that contain obsolete fair values, since that would not only obviate the purpose Chapter 24 Specialized I ndustr ies actually make it impossible for the user to meaningfully interpret the financia the allowed treatment, but would Chapter 25 I nflation and Hyperinflation statements. Chapter 18 - Earnings Per Share

Chapter 26 - Gov er nm ent Gr an ts

Fair value defined IAS 16 as generally being the market value of assets such as land and buildings, as Appendix A -isDi sclosureinChecklist determined appraisers employing normal commercial valuation Appendix B - by I llustrativ e Financial St atem ent s Pr esent ed Under I AS techniques. Market values can also be use for machinery and equipment, often do not have readily determinable market values, Appendix C - Com parison of I AS,but US since GAAP,such and items UK GAAP

particularly if intended for specialized applications, they may instead be valued at depreciated replacement cost.

I ndex

List of Tables

List of Exits hibits and Ex am ples Before 1998 revision, IAS had specified that the estimated fair value of an asset was to be made in the List of Sidebar context of thes same type of service for which it has been deployed. Thus, the fair value of a factory building

could only be ascertained by reference to the replacement cost or other measure of a factory building. This would be true even if, for example, the factory building being valued had alternative use as residential lofts, d to the ongoing evolution of the area in which it was sited. Revised IAS 16 clarified the determination of fair value in such situations. Conforming to the guidance in revised IAS 22, it defines fair value as the amount at which the property would be exchanged between partie in an arm's-length transaction. Since this does not restrict the hypothetical buyer to utilize the asset in the same manner as the present owner of the property, accordingly, the operative definition of fair value is not

restricted as it was previously. Fair value should be understood now to denote the amount at which the property could be exchanged, whether or not this usage would conform to that currently in effect. Fair values land and buildingsWare determined, mostaninstances, to appraisals made by qualified ile ystill I ASto2be 0 03 : I n t erp re tin at ion d Ap p licatby io reference n of personnel. I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

The logic of the change Mir za is clear. If a given property has a "higher and better" use, then current operations should bear the extra (if (952 the pages) revaluation method is used) necessitated by, in effect, John depreciation Wi ley & Sonscost © 2003 underutilizing theThis property. This accounting could well inform owners and managers that potentially greater com pact and t ruly com pr ehensive qui ck - refer ence financial performance has been forgone due to explicit or implicit decisions which have created a suboptimal pr esent s account ants with a guide to depend on for return on investment. This isinprecisely the sortand of insight that proponents of various "current value" approach assistance the prepar at ion under standing of financial statements in accordance I AS. have long held would be the present benefit ed from dispensing with with historical cost conventions. T ab le of Con t en t s

Alternative concepts of current value.

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

A number of different concepts have been proposed over the years to achieve inflation accounting. Methods that address changes in specific prices, in contrast to those that attempt to adjust for general purchasing pow Chapter 1 - I ntr oduction to I nter national Accounting Standar ds changes, have measured reproduction cost, replacement cost, sound value, exit value, entry value, and net Chapter - Balance Sheet present2value. Preface

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Chapter 3

-

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

of Recognized Gains and cost refers to Losses the actual current cost of exactly reproducing the asset, essentially In brief, reproduction Chapter - Cash Flow St at em entin favor of a strict bricks-and-mortar concept. Since the same service potenti ignoring4 changes in technology Chapter 5 obtained - Financial I nstr uments—Cash and without Receiv ables could be currently, in many cases, a literal reproduction of the asset, this method fails to full Chapter - Ieconomic nventor y reality that accounting should ideally attempt to measure. address6 the

Replacement cost, in contrast, deals with the service potential of the asset, which is after all what truly - Property , Plant , and Equipment represents value for its owner. An obvious example can be found in the realm of computers. While the cost t Chapter 9 - I ntangi ble Asset s reproduce a particular mainframe machine exactly might be the same or somewhat lower today versus its I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter original10 purchase price, the computing capacity of the machine might easily be replaced by one or a small I nvestm ent Pr oper ty group of microcomputers that could be obtained for a fraction of the cost of the larger machine. To gross up Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements balance sheet by reference to reproduction cost would be distorting, at the very least. Instead, the replaceme Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter cost of 12 the-service of the owned asset should be used to accomplish the revaluation contemplated b Balancepotential Sheet Date IAS 16. Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 8

Chapter 14 - Leases

Furthermore, even replacement cost, if reported on a gross basis, would be an exaggeration of the value

Chapter - I ncom e Taxes implicit 15 in the reporting entity's asset holdings, since the asset in question has already had some fraction of it Chapter 16 Em ploy ee Benefit s of sound value addresses this concern. Sound value is the equivalent of the service life expire. The concept Chapter - Stock holder s' Equit y cost of 17 replacement of the service potential of the asset, adjusted to reflect the relative loss in its utility due to Chapter 18 - Earnings Per Share the passage of time or the fraction of total productive capacity that has already been utilized. Chapter 19 - I nterim Financial Repor ting

Example depreciated cost (sound value) Chapter 20 of - Segm ent Reporreplacement ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

An asset acquired January 1, 2001, at a cost of $40,000 was expected to have a useful economic life of 10 years. On January 1, 2004, it is appraised as having a gross replacement cost of $50,000. The sound value, Chapter 23 - Related- Part y Disclosures depreciated replacement cost, would be 7/10 x $50,000, or $35,000. This compares with a book, or carrying, Chapter 24 - Specialized I ndustr ies value of $28,000 at that same date. Mechanically, to accomplish a revaluation at January 1, 2004, the asset Chapter 25 - I nflation and Hyperinflation should be written up by $10,000 (i.e., from $40,000 to $50,000 gross cost) and the accumulated depreciation Chapter - Gov er nm ent written Gr an ts up by $3,000 (from $12,000 to $15,000). Under IAS 16, the net amount of the should 26 be proportionally Appendix A Di sclosure Checklist revaluation adjustment, $7,000, would be credited to revaluation surplus, an additional equity account. Chapter 22 - For eign Curr ency

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

An alternative accounting procedure is also permitted by the standard, under which the accumulated I ndex depreciation List of Tables at the date of the revaluation is written off against the gross carrying value of the asset. In the foregoing example, would mean that the $12,000 of accumulated depreciation at January 1, 2004, List of Ex hibits and Exthis am ples immediately to the revaluation, would be credited to the gross asset amount, $40,000, thereby reducing List of Sidebar prior s to $28,000. Then the asset account would be adjusted to reflect the valuation of $35,000 by increasing the asset account by $7,000 ($35,000 - $28,000), with the offset again in stockholders' equity. In terms of total assets reported in the balance sheet, this has exactly the same effect as the first method.

However, many users of financial statements, including credit grantors and prospective investors, pay heed t the ratio of net property and equipment as a fraction of the related gross amounts. This is done to assess the relative age of the enterprise's productive assets and, indirectly, to estimate the timing and amounts of cash needs for asset replacements. There is a significant diminution of information under the second method.

Accordingly, the first approach described above, preserving the relationship between gross and net asset amounts after the revaluation, is recommended as being the preferable alternative if the goal is meaningful financial reporting. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Application of allAbbas assets by revaluation Bar r y J. Epsteinto and Ali in class.ISBN:0471227366 Mir za

IAS 16 prudently John requires that if any©assets are revalued, all other assets in those groupings or categories al Wi ley & Sons 2003 (952 pages) be revalued. ThisThis is necessary to avert the presentation of a balance sheet that contains an unintelligible com pact and t ruly com pr ehensive qui ck - refer ence mixture of historical costs and current values. Coupled with that revaluations take place with pr esent s account ants with a guide to dependthe on requirement for sufficient frequency to approximate fair values as of each balance date, this preserves the integrity of t assistance in the prepar at ion and under standing of sheet financial ed in accordance withsheet I AS. prepared under the benchmark method of financial reportingstatements process. Inpresent fact, given that a balance historical cost will, in fact, contain different historical costs (due to assets being acquired at varying times usi T ab le of Con t en t s dollars having different general and specific purchasing powers) the allowable alternative approach has the Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing promise Standar ds of providing even more consistent financial reporting. Offsetting this potential improvement somewh of course, is the greater subjectivity applied in determining fair values, vs. actual historical costs. Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds Although the requirement of IAS 16 is to revalue all assets in a given class, the standard recognizes that it m

Chapter - Balance be more2 practical to Sheet accomplish this on a rolling, or cycle, basis. This would be done by revaluing one-third o I ncom e Statement, Stat emsuch ent of ges in Equit y, and Statem ent as of any balance sheet date the assets in a given asset category, asChan machinery, in each year, so that Chapter 3 of Recognized Gains and Losses

one-third of the group is valued at current fair value, another one-third is valued at amounts that are one yea - Cash Flow St at em ent obsolete, and another one-third are valued at amounts that are two years obsolete. Unless values are Chapter 5 - Financial nstr uments—Cash and sheet Receivwould ables not be materially distorted, and therefore, this changing rapidly, it isI likely that the balance Chapter 6 I nventor y approach would in all likelihood be a reasonable means to facilitate the revaluation process. Chapter 4

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8 - Property , Plant , and Equipment Revaluation adjustments taken into Chapter 9

income.

- I ntangi ble Asset s

While, in general, revaluation adjustments to be shown directly in es, stockholders' equity as revaluation I nterests in Financial Instr um entare s, Associat es, Joint Ventur and surplus, if a Idownward had previously been made to the asset and was recognized as an expens nvestm ent adjustment Pr oper ty the later11upward revaluation would and alsoConsolidat be reported Any revaluation receiving this treatment woul Chapter - Business Combinations ed as Fin income. ancial Statements be limited toCurr the ent amount of expense recognized previously. As a practical matter this should be a rare Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 occurrence, Balance since if the asset Sheet Datewas revalued downward, the reference for that measurement would have been the estimated recoverable amount, and given Chapter 13 - Financial I nstr uments—LongTer m what Debt was judged to be a permanent impairment at an earlier date, it 14 is very unlikely that there could be a later upward revaluation that could recover more than a minor Chapter - Leases portion 15 of that impairment. Chapter - I ncom e Taxes However, in these unusual situations, a gain would be taken through the income statement. Chapter 16 - Em ploy ee Benefit s Chapter 10 -

Chapter 17 - Stock holder s' Equit y

The converse of the foregoing is also true: If an asset's carrying amount is decreased by recognition of a permanent impairment, but the asset had previously been revalued upward by crediting revaluation surplus, Chapter - I nterim FinancialasRepor ting decline19 should be reported a reduction of that surplus account rather than being reported as income. Any Chapter - Segm Reporof ting decline20 in value inent excess the amount previously recognized as an upward revaluation should be reported Chapter 21currently. - Accounting Changes and Cor rection of Er ror s earnings Chapter 18 - Earnings Per Share

Chapter 22 - For eign Curr ency

Under the of IAS 16, the amount credited to revaluation surplus can either be amortized to retaine Chapter 23 -provisions Related- Part y Disclosures not through the income statement!) as the asset is being depreciated, or it can be held in the earnings Chapter 24(but - Specialized I ndustr ies surplus25 account untiland such time as the asset is disposed of or retired from service. In the example below, Chapter - I nflation Hyperinflation periodic amortization is utilized.

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

Example of revaluation and later downward adjustment

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix - Com parisonexample of I AS, US GAAP, and GAAP ConsiderCthe following to illustrate theUKforegoing: I ndex

Anofasset was acquired January 1, 2001, for $10,000 and is expected to have a 5-year life. Straight-line List Tables

depreciation At January 1, 2003, the asset is appraised as having a sound value (depreciated List of Ex hibits will andbe Exused. am ples replacement cost) of $9,000. On January 1, 2005, the asset is appraised at a sound value of $1,500. The entries to reflect these events are as follows:

List of Sidebar s

1/1/01

Asset

10,000 10,000

etc. W ile y I AS 2 0 03Cash, : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

12/31/01

Depreciation expense

2,000

by Bar r y J. Epstein and Abbas Ali Mir za Accumulated John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

2,000

depreciation

This com pact and t ruly com pr ehensive qui ck - refer ence Depreciation expense 2,000 pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial 2,000 Accumulated statements present ed in accordance with I AS.

12/31/02

depreciation

T ab le of Con t en t s

Asseter pretation and Application of I5,000 Wiley1/1/03 I AS 20 03—Int nternational Account ing Standar ds 2,000 Accumulated depreciation Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Chapter 2 - Balance Sheet 3,000 Revaluation surplus Preface

Chapter 3 12/31/03

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent expense 3,000 ofDepreciation Recognized Gains and Losses

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

Revaluation surplusConstr 1,000 - Rev enue Recogni tion, I ncluding uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

3,000

Accumulated depreciation

1,000

Retained earnings

12/31/04 I nterests Depreciation expense 3,000 es, Joint Ventur es, and in Financial Instr um ent s, Associat

Chapter 10 -

I nvestm ent Pr oper ty

3,000

Accumulated Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements depreciation

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date Revaluation surplus 1,000

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Retained earnings

Chapter 15 - I ncom e Taxes depreciation 1/1/05 Accumulated Chapter 16 - Em ploy ee Benefit s

Revaluation surplus

Chapter 17 - Stock holder s' Equit y

Loss Per fromShare asset impairment Chapter 18 - Earnings

6,000 1,000 500

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

1,000

Asset

7,500

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Certain of the entries in the foregoing example may need elaboration. The entries at 2001 and 2002 year-end are to record depreciation based on original cost, since there had been no revaluations through that point in Chapter 24January - Specialized I ndustr time. On 1, 2003, the ies revaluation is recorded; the appraisal of sound value ($9,000) suggests a 50% Chapter 25 I nflation and Hyperinflation increase in value over depreciated historical cost ($6,000), which in turn means that the gross asset should b Chapter - Gov er nm ent Gr an ts written 26 up to $15,000 (a 50% increase over the historical cost, $10,000) and the accumulated depreciation Appendix A Di sclosure Checklist should be written up proportionately (from $4,000 to $6,000). Had the appraisal revealed that the useful life o Appendix B - I llustrativ e Financial atemits entoriginally s Pr esent estimated ed Under I AS the equipment had also changedStfrom amount, that would have been dealt with Appendix prospectively, C - Com asparison prescribed of I AS, by US IASGAAP, 8 (seeand Chapter UK GAAP 21 for a discussion of this matter). Chapter 23 - Related- Part y Disclosures

I ndex

In 2003 and 2004, depreciation must be provided on the new higher value recorded at the beginning of 2003 (assuming that no additional appraisal is obtained in 2004). Since the asset has been written up by 50%, the List of Ex hibits and Ex am ples periodic charge for depreciation must reflect the higher cost of doing business. However, while the income List of Sidebar s statements in each year must absorb greater depreciation expense, within the equity section of the balance sheet there will be an offsetting adjustment to transfer revaluation surplus to retained earnings, in the amoun of the extra depreciation recognized each year. List of Tables

As of January 1, 2005, the book value of the equipment is $3,000, which reflects the fact that the asset, havi a gross replacement cost when last appraised of $15,000, is now 80% used up. A new appraisal reveals that the fair value is only $1,500 at this time. However, rather than charging the $1,500 decline in value ($3,000 $1,500) to income, the portion of the decline that represents a retracing of the value increase previously

recognized should be accounted for as a reversal of the revaluation surplus, not as a realized loss. To effect the foregoing, the gross asset and related accumulated depreciation should be written down from W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f amounts based on the 2003 appraisal (updated, in the case of accumulated depreciation, to the current I n t er n at ion al Accou n t in g St an d ar ds balance) to original cost. Thus, the asset should be written down from $15,000 to $10,000, and the ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali accumulated depreciation adjusted downward from $12,000 to $8,000. The further reduction in book value Mir za (from $2,000 to $1,500, the latest appraisal) will be taken into income as a realized loss. The John Wias leyindicated & Sons © by 2003 (952 pages) offset will be to accumulated depreciation, since the decline in value effectively means that the amount This com pact and t ruly com pr ehensive qui ck - refer ence recognized as depreciation in prior periods had been pr esent s account ants with a guide to understated; depend on forassuming no change in useful life, the depreciation charge for the final (2005) $1,500, reducing the book value to zero at year-end. assistance in theyear prepar at ionwill andbeunder standing of financial statements present ed in accordance with I AS.

Exchanges of assets.

T ab le of Con t en t s

Wiley I ASdiscusses 20 03—Intthe er pretation and to Application I nternational Account ing IAS 16 accounting be appliedof to those situations in which assets are exchanged for other Standar ds

similar or dissimilar assets, with or without the additional consideration of monetary assets. This topic is addressed later in this chapter, under the heading "Nonmonetary (Exchange) Transactions."

Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2 - Balance Sheet Revisions to estimated

residual value.

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of Recognized Gains and Losses by IAS 16, the amount estimated for residual value is made at th Under the benchmark treatment prescribed Chapter - Cash Flow St at em ent date of 4acquisition (or date a self-constructed asset is placed in service) and is not revised subsequently. In Chapter 5 - the Financial I nstr uments—Cash and Receiv this regard international standard departs from ables what has been the common practice of treating changes i Chapter 6 residual - I nventor estimated ory salvage value as a change in an accounting estimate, and accounting for it prospective

by altering depreciation charge for lateruction years.Contr act s Chapter 7 -the Revannual enue Recogni tion, I ncluding Constr Chapter 8

- Property , Plant , and Equipment

If the allowable alternative treatment is elected, at the date of each revaluation of the asset the expected - I ntangi ble Asset s residual amount should also be reassessed. The standard suggests that reference be made to actual residua I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter values 10 of similar assets reaching I nvestm ent Pr oper ty the end of their useful economic lives about the time the reevaluation is bei conducted. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 9

Chapter 12 Deferred

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he tax effects of revaluations. Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

As described in great detail in Chapter 15, the tax effects of temporary differences must be provided for by th process commonly referred to as deferred tax accounting. Thus, if depreciable plant assets are depreciated Chapter 15 - lives I ncomfor e Taxes over longer financial reporting purposes than for tax reporting purposes, a deferred tax liability will be Chapter 16 Em ploy Benefit created in the earlyee years ands then drawn down in later years. Generally speaking, the deferred tax provided Chapter 17 - Stock holder Equit y future tax rate applied to the temporary difference at the time it reverses; will be measured by thes'expected Chapter - Earnings Share have already been enacted, the current rate structure is used as an unbiased unless 18 future tax ratePer changes Chapter 19 of - Ithose nterimfuture Financial Repor ting estimator effects. Chapter 14 - Leases

Chapter 20 - Segm ent Repor ting

In the case revaluation of plant assets, it will of almost Chapter 21 - of Accounting Changes and Cor rection Er ror suniversally be true that taxing authorities will not perm

the higher revalued amounts to be depreciated for purposes of computing tax liabilities. Instead, only the act cost incurred can be used to offset tax obligations. On the other hand, since revaluations are intended to Chapter 23 - Related- Part y Disclosures reflect actual current fair values or values in use, they do portend that taxes will be imposed at some future Chapter 24 - Specialized I ndustr ies date, typically when the assets are disposed of at gains (when measured against historical costs). According Chapter 25 - I nflation and Hyperinflation a deferred tax liability is still required to be recognized, even though it does not relate to temporary difference Chapter 26 - Gov er nm ent Gr an ts arising from periodic depreciation charges. Chapter 22 - For eign Curr ency

Appendix A - Di sclosure Checklist Appendix The IASC's B - Standing I llustrativ eInterpretation Financial St atem Committee ent s Pr esent has ed confirmed, Under I AS in SIC 21, that measurement of the deferred ta

effects relating the revaluation nondepreciable assets must be made with reference to the tax Appendix C - Comtoparison of I AS, USofGAAP, and UK GAAP consequences that would follow from recovery of the carrying amount of that asset through an eventual sale. I ndex This necessary because the asset will not be depreciated, and hence, no part of its carrying amount is List of is Tables considered toand be recovered List of Ex hibits Ex am ples through use. As a practical matter this means that if there are differential capital gain ordinary income tax rates, deferred taxes will be computed with reference to the former. List of and Sidebar s

Impairment of Tangible Long-Lived Assets Until the promulgation of IAS 36, Impairment of Assets, there was very limited guidance available under international accounting standards to deal with the possible diminution in value that might be associated with long-lived assets. It had long been established under various national accounting standards that permanent impairments (sometimes called "other than temporary" impairments) in long-lived assets necessitated writedowns in carrying values, but in general the two critical questions—when to test for impairment and how to

measure it—were left unaddressed. IAS 16 did state that property, plant, and equipment items should be periodically reviewed for possible impairment—defined as having occurred when an asset's recoverable amount fell belowWits value. While some reporting ilecarrying y I AS 2 0 03 : I n t erp re t at ion an d Apenterprises p licat io n o fundoubtedly did apply the spirit as wel as the letter of IAS 16, particularly when a significant event had occurred which made economic viability of I n t er n at ion al Accou n t in g St an d ar ds major assets an obvious issue, in general, the lack of specific guidance more likely was an impediment to ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali application of theMir impairment za requirements of that standard. Now, however, with a comprehensive standard, the process of considering will bepages) greatly facilitated. John Wi leyimpairments & Sons © 2003 (952 This com pact and t ruly com pr ehensive qui ck - refer ence for assistance in the prepar at ion and under standing of financial edthat in accordance with I AS. The standard on statements impairment present requires the recoverable amount of tangible (and intangible—discussed in t

Principal requirements ofants IASwith 36.a guide to depend on pr esent s account

following chapter) long-lived assets be estimated, for purpose of identifying and measuring impairments, whenever there are indications that such a circumstance might exist. There is no fixed requirement to make Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing this determination on a regular schedule (as there is for certain intangible assets), but a fairly extensive set o Standar ds criteria is included in IAS 36 to assist entities in making the determination of when such a review might be Preface warranted. If an asset or a group of assets which comprise what is now called a "cash generating unit" is fou Chapter 1 - I ntr oduction to I nter national Accounting Standar ds to be impaired, which means that the carrying amount exceeds the net recoverable amount as determined by Chapter 2 - Balance Sheet reference to net selling prices and value in use, a write-down is required. Thus, IAS 36 responds to the two k I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 that, questions because they were left unanswered, made it difficult to formally address impairmen of Recognized Gains andheretofore Losses concerns. Chapter 4 - Cash Flow St at em ent

T ab le of Con t en t s

Chapter 5 - is Financial uments—Cash and Receiv ables Impairment definedI nstr as the excess of carrying value over recoverable amount; recoverable amount is the Chapter 6 I nventor y greater of net selling price or value in use. Net selling price is essentially fair value less costs of disposal (i.e. Chapter 7 - be Revnetted enue Recogni Constr uction Contr act s or what is sometimes referred to as "exit what would by the tion, entityI ncluding in an arm's-length transaction, Chapter 8 Property , Plant , and Equipment value") and value in use is most commonly defined as the net present value of future cash flows associated Chapter - I ntangi ble Asset s with the9 asset or group of assets. Under different circumstances, it may be more or less difficult to obtain the data, but IAS 36 offers guidance withes, most situations likely I nterests in sufficient Financial Instr um enttos,deal Associat Joint Ventur es, andto be encountered in practice. Chapter 10 I nvestm ent Pr oper ty

When it11is -determined that an assetand (or Consolidat cash generating unit) Statements has indeed been impaired, IAS 36 requires tha Chapter Business Combinations ed Fin ancial its carrying value beLiabilit reduced. declineCont in value is recognized currently in income, for assets accounted fo Curr ent ies, Any Prov isions, ingencies, and Ev ents after t he Balance(amortized Sheet Datehistorical cost) method as set forth in IAS 16. Declines affecting assets by the benchmark accounted by the allowed alternative Ter (revaluation) method are recognized in the revaluation (stockholders Chapter 13 -for Financial I nstr uments—Longm Debt equity) 14 account. Recoveries in value, not to exceed pre-impairment carrying value, are also given recognition Chapter - Leases consistent thee accounting applied to the decline in value. Chapter 15 -with I ncom Taxes Chapter 12 -

Chapter 16 - Em ploy ee Benefit s

Identifying impairments.

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

According to IAS 36, at each financial reporting date the reporting entity should determine whether there are

Chapter 19 -that I nterim Financial conditions would indicateRepor that ting impairments may have occurred. Note that this is not a requirement that Chapter - Segm ent Repor ting possible20impairments be calculated for all assets at each balance sheet date, which would be a formidable Chapter 21 - Accounting Changes and Cor rection of Er ror s undertaking for most enterprises. Rather, it is the existence of conditions that might be suggestive of a Chapter 22 - risk For eign Curr ency that must be evaluated. However, if such indicators are present, then further heightened of impairment Chapter - RelatedPart y Disclosures analysis23will be necessary. Chapter 24 - Specialized I ndustr ies

The standard provides a Hyperinflation set of indicators of potential impairment and suggests that these represent a minimu Chapter 25 - I nflation and array of factors to be given consideration. Other more industry- or entity-specific gauges can and should be devised and employed by the reporting enterprise, particularly when the more general indicators are found ov Appendix A - Di sclosure Checklist time to be less sensitive than is deemed desirable. As experience with IAS 36 is gained, it is likely that more Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS tailored indicators will evolve for some industries. Chapter 26 - Gov er nm ent Gr an ts

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

I ndex At a minimum, the following external and internal signs of possible impairment are to be given consideration List Tablesbasis: an of annual List of Ex hibits and Ex am ples

declines for specific assets or cash generating units, beyond the declines expected as a List ofMarket Sidebarvalue s function of asset aging and use;

Significant changes in the technological, market, economic, or legal environments in which the enterpris operates, or the specific market to which the asset is dedicated; Increases in the market interest rate or other market-oriented rate of return such that increases in the discount rate to be employed in determining value in use can be anticipated, with a resultant enhanced likelihood that impairments will emerge;

Declines in the (publicly owned) entity's market capitalization suggest that the aggregate carrying value o assets exceeds the perceived value of the enterprise taken as a whole; W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

There is specific evidence of obsolescence or of physical damage to an asset or group of assets; I n t er n at ion al Accou n t in g St an d ar ds ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali to the organization There have been significant internal changes or its operations, such as product Mir za discontinuation decisions or restructurings, so that the expected remaining useful life or utility of the asse John Wi ley & Sons © 2003 (952 pages) has seemingly been reduced; and

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with guide to depend on for of the asset or group of assets is, or will Internal reporting data suggest that theaeconomic performance assistance in the prepar at ion and under standing of financial become, worse than previously anticipated. statements present ed in accordance with I AS.

The indicators are derived from information internally generated by the reporting entity are the more T ab le of Con t en twhich s difficult also the which, of should it be so inclined to do so, may be subject to greater Wiley I ASto20interpret, 03—Int erand pretation andones Application I nternational Account ing obfuscation by the entity. Information such as the cash flows being generated by an asset or group of assets Standar ds or the future cash needs to operate or maintain the asset, for example, may be rather subjective and not Preface immediately of national the information is likely to only Chapter 1 - Iapparent. ntr oductionSome to I nter Accounting Standar ds be accessible "off-line" (i.e., from budgets and forecasts, than from the entity's actual accounting system) and thus may lack the credibility of historica Chapter 2 rather - Balance Sheet data. Finally,I ncom the financial performance of individual will never e Statement, Stat em ent of Chan gesassets in Equit y, almost and Statem entbe ascertainable even from historical accounting records, and theLosses minimum level of aggregation of bookkeeping information will almost of Recognized Gains and always 4be -higher than St theat level Chapter Cash Flow em entrequired by IAS 36 (discussed below). Thus, in practical terms, there will be many instances in which are at best only vague intimations of impairment, and whether further Chapter 5 - Financial I nstrthere uments—Cash and Receiv ables corroborating or disconfirming data is sought out will be a matter of judgment. Chapter 6 - I nventor y Chapter 3

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

The mere fact that one or more of the foregoing indicators suggests that there might be cause for concern - Property , Plant , and Equipment about possible asset impairment does not necessarily imply that formal impairment testing must proceed. Fo Chapter 9 - I ntangi Asset s an increase in the market rate of interest would not trigger a formal impairment example, as noted ble in IAS 36, I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and evaluation Chapter 10 -if either (1) the relevant discount rate to be applied in the determination of the value in use of an I nvestm ent Pr oper ty asset (via the present value of future net cash flows) would not be expected to track the general changes in Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements market rates of interest, or (2) the effects of changes in the discount rate, tracking changes in market rates o Currtend ent Liabilit ies, Prov Cont ingencies, andcash Ev ents after t he an entity has a history of interest,12would to be offset by isions, other changes in future flow, as when Chapter Balance Sheet Date adjusting revenues (and thus cash inflows) to compensate for interest rate rises. However, in the absence of Chapter 13 - Financial I nstr uments—Long- Ter m Debt plausible explanation of why the signals of possible impairment should not be further considered, the Chapter 14 - Leases implication is that the presence of one or more of these would necessitate some follow-up investigation. Chapter 8

Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Computing recoverable

amounts—General concepts.

Chapter 17 - Stock holder s' Equit y

IAS 36 18 defines impairment as the excess of carrying value over recoverable amount, and goes on to define Chapter - Earnings Per Share recoverable as the greater of two alternative measures, net selling price and value in use. The Chapter 19 - Iamount nterim Financial Repor ting objective recognize anting impairment only when the economic value of an asset (or cash generating unit Chapter 20 is- to Segm ent Repor consisting a group ofChanges assets) is truly value. In theory, and for the most part in Chapter 21 -ofAccounting and Corbelow rectionitsofbook Er ror(carrying) s

practice also, an entity making rational choices would sell an asset if its net selling price (fair value less costs of disposal) were greater than the asset's value in use, and would continue to employ the asset if value in us Chapter 23 - Related- Part y Disclosures exceeded salvage value. Thus, the economic value of an asset is most meaningfully measured with referenc Chapter 24 - Specialized I ndustr ies to the greater of these two amounts, since the entity will retain or dispose of the asset consistent with what Chapter 25 - I nflation and Hyperinflation appears to be its highest and best use. Once recoverable amount has been determined, this is to be compar Chapter 26 - Gov er nm ent Gr an ts to carrying value; if recoverable amount is lower, the asset has been impaired, and under the new rules this Appendix A - must Di sclosure Checklist impairment be given accounting recognition. Chapter 22 - For eign Curr ency

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP Determining net selling prices. I ndex

While the concept of recoverable amount has a clear meaning, the actual determination of both the net sellin List of Tables price and the and value List of Ex hibits Exin amuse plesof the asset being evaluated will typically present some difficulties. For actively

traded assets, List of Sidebar s net selling price can be ascertained by reference to publicly available information (e.g., from

price lists or dealer quotations), and costs of disposal will either be implicitly factored into those amounts (su as when a dealer quote includes pick-up, shipping, etc.) or can be readily estimated. Most productive tangibl assets, such as machinery and equipment, will not be easily priced in active markets, however. While IAS 36 offers only limited guidance for such situations, it is clear that it will often be necessary to reason by analogy (i.e., to draw inferences from recent transactions in similar assets), making adjustments for age, condition, productive capacity, and other variables. In many industries, trade publications and other data sources can provide a great deal of insight into the market value of key assets, and if there is a sincere effort to tap into these resources, much could be accomplished. On the other hand, some work will be required and it is not

difficult to imagine that there may be reluctance to undertake this, although an entity's ability to claim compliance with IAS will encourage it to do so. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Despite the concerns noted above, the difficulties in identifying net selling prices should not be overstated. I n t er n at ion al Accou n t in g St an d ar ds Experience with SFAS 144, the US GAAP requirement for determining, measuring, and reporting on asset ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali impairments (which replaced the earlier, but very similar, SFAS 121), suggests that there is a wealth of Mir za information to be John used.WiInleythis era of© Internet & Sons 2003 (952access pages) and vast amounts of published industry data, from both governmental andThis private sources, estimating net selling prices for a wide range of productive assets should com pact and t ruly com pr ehensive qui ck - refer ence quite feasible. Furthermore, in many nations for which persistent inflation has been a problem for decades, pr esent s account ants with a guide to depend on for some form of inflation-adjusted financial reporting may have beenofpracticed, assistance in the prepar at ion and under standing financial as indeed it was for a period in statements ed in accordance with I AS. both the US and the UK, andpresent that experience taught many corporate and public accountants how to develop similar information. Finally, in many (perhaps most) cases, there will either be no signs of possible impairmen T ab le of Con t en t s in which case no effort to compute recoverable amounts will be needed, or despite one or more indicators of Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing possible Standar ds impairment the asset's value in use will clearly exceed carrying amount, thus dispensing with any need to measure impairment. Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Computing value in use.

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent The second Chapter 3 - component of recoverable amount is value in use, and when there are indicators of impairment of Recognized Gains and Losses

and no clear evidence that either net selling price or value in use exceed carrying value, then value in use wi Cash Flow St at em ent often need- to be estimated. The computation of value in use involves a two-step process: first, future cash Chapter 5 Financial I nstr and uments—Cash and Receivvalue ables of these cash flows must be calculated by applicatio flows must be estimated; second, the present Chapter 6 I nventor y of an appropriate discount rate. These will be discussed in turn in the following paragraphs. Chapter 4

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s Projection future cash flows be based on reasonable assumptions; exaggerated revenue growth rate Chapter 8 -ofProperty , Plant , andmust Equipment

significant or unreasonable useful lives for plant assets must be avoided. In Chapter 9 -anticipated I ntangi ble cost Assetreductions, s general, recent past experience a fair to the near-term future,es, butand a recent growth spurt should not b I nterests in Financial is Instr um guide ent s, Associat es, Joint Ventur extrapolatedI nvestm to moreent than the ty near-term future. Industry patterns as well as the experiences of the entity itse Pr oper usually 11 must be considered, since no company, matter how well managed or fortunate, can long Chapter - Business Combinations andsingle Consolidat ed Finno ancial Statements escape fromCurr theent implications of industry or economy-wide trends. For example, consider an entity which Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 produces goods thatSheet are becoming, or are reasonably forecast to become, obsolete, but which are currently Balance Date quite profitable. GivenI nstr these facts, a limited horizon Chapter 13 - Financial uments—LongTer m Debt of usefulness should be imposed upon the equipment us for the production Chapter 14 - Leasesof these goods, which might imply an impairment should be recognized. Chapter 10 -

Chapter 15 - I ncom e Taxes

Typically, extrapolation to future periods cannot exceed the amount of "base period" data upon which the projection is built. Thus, a five-year projection, to be mathematically sound, must be based on at least five Chapter 17 - Stock holder s' Equit y years of actual historical performance data. Also, since no business can exponentially grow forever, even if, Chapter 18 - Earnings Per Share example, a five-year historical analysis suggests a 20% annual (inflation adjusted) growth rate, beyond a Chapter I nterim Repor ting horizon19 of -two years,Financial a moderation of that growth must be hypothesized. This is even more true for a single Chapter - Segm entgenerating Repor ting unit, since physical constraints and the ironclad law of diminishing marginal asset or20small cash Chapter - Accounting Changes andthat Cor a rection of will Er ror s reached, beyond which further growth will be tightly returns 21 makes it virtually inevitable plateau be Chapter 22 - For eign Curr ency constrained. If exceptional returns are being reaped from the assets used to produce a product line, Chapter 23 - RelatedDisclosures competitors will enterPart they market and ultimately this, too, will restrict future cash flows. Chapter 16 - Em ploy ee Benefit s

Chapter 24 - Specialized I ndustr ies

For purposes of determining value in use, cash flow projections must represent management's best estimate Chapter 25 - I nflation and Hyperinflation

not its most optimistic view of the future. Externally sourced data is considered to be more valid than purely internal information. To the extent that internal sources such as budgets and forecasts are employed, these w Appendix A - Di sclosure Checklist have greater probative value if they have been reviewed and approved by upper levels of management, and Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS similar budgets and forecasts used in prior periods have been shown to be accurate. More modest Appendix C - Com parison of I AS, US GAAP, and UK GAAP assumptions should be made when projecting beyond the periods covered in the formally prepared and I ndex reviewed budgets, since not only are estimates about the future inherently less reliable as the horizon is List of Tablesbut also the absence of a formal budgeting process regarding the "out years" reduces the credibili extended, List of Exsuch hibitsprojections. and Ex am ples of any Chapter 26 - Gov er nm ent Gr an ts

List of Sidebar s

IAS 36 stipulates that steady or declining growth rates must be utilized for periods beyond those covered by most recent budgets and forecasts. It further states that, barring an ability to demonstrate why a higher rate i appropriate, the growth rate should not exceed the long-term growth rate of the industry in which the entity participates. Finally, with regard to cash flow projections, it is clear that projections for a period longer than the asset's remaining depreciable life would not be credible. Since the cost of tangible long-lived assets should be rationally allocated over their useful lives, it is implicitly management's representation that no cash flows will

occur after the estimated lives are completed. On the other hand, an insistence that there will be work produced by the asset after its nominal terminal date would imply that IAS governing depreciation accounting was not conformed with. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

With reference to cash flow projections, the guidance offered by IAS 36 suggests that only normal, recurring ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali cash inflows fromMir the zacontinuing use of the asset being evaluated should be considered, plus the estimated salvage value at the of its useful life, if(952 any. Cash outflows needed to generate the cash inflows must als Johnend Wi ley & Sons © 2003 pages) be included in theThis analysis, including any cash outflows needed to prepare the asset for its intended producti com pact and t ruly com pr ehensive qui ck - refer ence use. Noncash costs, such as depreciation of the asset, obviously must be excluded, inasmuch as these do n pr esent s account ants with a guide to depend on for affect cash flows,assistance and in theincase of depreciation, this would in effect "double count" the very thing being the prepar at ion and under standing of financial statements present edexclude in accordance with related I AS. measured. Projections should always cash flows to financing the asset, for example, interest and principal repayments on any debt incurred in acquiring the asset, since operating decisions (e.g., keepin T ab le of Con t en t s or disposing of an asset) are separate from financing decisions (borrowing, leasing, buying with equity capita Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing funds).dsAlso, cash flow projections must pertain to the asset that exists and is in use, not to hypothetical futu Standar assets or assets currently in use but to be value enhanced by later overhauls or redesigns. Income tax effect Preface are also to be disregarded (i.e., the entire analysis should be on a pretax basis). Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Chapter 2 to - Balance The need identify Sheet specific cash flows is the reason why an asset-by-asset approach will most often be I ncom e Statement, Stat em ent of Chan ges in Equit y, and ent ineffective or impossible to perform, since few individual assets haveStatem identifiable cash flows. For example, a Chapter 3 of Recognized Gains and Losses

factory which employs dozens of drill presses, lathes, grinding machines, and other related types of equipme Cash Flow St at em ent to produce- precision components for the automobile industry cannot possibly identify the contribution to cash Chapter 5 Financial nstr uments—Cash Receiv ables flow made by a givenI drill press. For thisand reason, IAS 36 has developed the concept of the "cash generating Chapter 6 I nventor y unit." Chapter 4

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter - Property , Plant , and Equipment Cash 8generating units. Chapter 9

- I ntangi ble Asset s

Under IAS 36, when cash flows cannot with assets, these may need to be grouped in I nterests in Financial Instr umbe entidentified s, Associat es, individual Joint Ventur es, and Chapter 10 order to conduct an ent impairment I nvestm Pr oper ty test. The requirement is that this grouping be performed at the lowest level possible, wouldCombinations be the smallest assets which discrete cash flows can be identified, Chapter 11 which - Business andaggregation Consolidat edofFin ancial for Statements and which are independent of other groups of assets. In practice, this may be a department, a product line, o Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 factory, for which theSheet output of product and the input of raw materials, labor, and overhead can be identified. Balance Date While the contribution to overall cash Chapter 13 precise - Financial I nstr uments—LongTer m flow Debtmade by a given drill press may be impossible to surmise, the cash and outflows of a department which produces and sells a discrete product line to an identifie Chapter 14inflows - Leases group of can be readily determined. Chapter 15customers - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s

An obvious temptation would be to essentially aggregate the entire enterprise into a single cash generating unit, arguing perhaps that it represents an integrated operation. While in some instances this may be correct Chapter 18 - Earnings Per Share most cases it will not. The risk in too-generously aggregating long-lived assets into cash generating units is Chapter 19 -possible I nterim impairments Financial Repor that many willting be concealed, as the subunits having recoverable amounts in excess of Chapter - Segm ent carrying20amounts will Repor offsetting those having the opposite circumstance. In this, the effect is identical to applying Chapter - Accounting and Cor rection of Er lower of21cost or market Changes to the aggregate inventory ofror ans entity, rather than to component groups or to each Chapter 22 item - Fortaken eign Curr ency Thus IAS 36 is clear that care must be exercised to be sure that all aggregation inventory by itself. Chapter 23 - RelatedPart y Disclosures is conducted at the lowest feasible level. Chapter 17 - Stock holder s' Equit y

Chapter 24 - Specialized I ndustr ies

Some expansion of the process will become necessary when an entity's operations are vertically Chapter 25 - I nflation andaggregation Hyperinflation

integrated. IAS 36 provides one such example of a mining enterprise which has a private railway to haul its o since the railway has no external customers and thus no independent cash inflows, impairment can only be Appendix A - Di sclosure Checklist assessed by grouping the mine and the railway into a single cash generating unit. Another such example is a Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS bus line that is a contract provider to a municipality; evaluation of subunits, such as individual bus routes, is n Appendix C - Com parison of I AS, US GAAP, and UK GAAP feasible since the contractual arrangement precludes taking individual decisions, such as discontinuing I ndex service, regarding any single route. IAS 36 requires that cash generating units be defined consistently from List of Tables period to period. Chapter 26 - Gov er nm ent Gr an ts

List of Ex hibits and Ex am ples List of Sidebar srate. Discount

The other part of the challenge in computing value in use comes from identifying the appropriate discount rat to apply to projected future cash flows. There are actually two key issues to address. The first is to determine an appropriate rate, ignoring inflation effects. IAS 36 stipulates that a risk rate must be used which is pertinen to the type of asset being valued. Thus, arguably at least, the discount rate to be applied to projected cash flows relating to a steel mill might be somewhat lower than that used to compute the present value of cash flows arising from the use of a piece of high-technology equipment, since the latter may be subject to far greater risk of sudden, unanticipated obsolescence than the former. This concept is supported by market dat

which prices debt offerings by entities in riskier industries at higher yields than those in more stable industrie IAS 36 suggests that identifying the appropriate risk-adjusted cost of capital to employ as a discount rate can W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f be accomplished Iby reference to the implicit rates in current market transactions (e.g., leasing transactions), n t er n at ion al Accou n t in g St an d ar ds from the weighted-average cost of capital of publicly traded enterprises in the same industry grouping. There ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali are such statisticsMiravailable in many markets, and the entity's own recent transactions, typically in leasing or za borrowing to buy John otherWi long-lived assets, highly salient information. ley & Sons © 2003 will (952be pages) This com pact and t ruly com pr ehensive qui ck - refer ence When risk-adjusted rates are not available, however, it will become necessary to develop a rate from surroga pr esent s account ants with a guide to depend on for data. The two aspects of thisin are (1) identify theunder pure standing time value of money for the requisite time horizon ov assistance the to prepar at ion and of financial which the asset will be utilized—short almost always a lower rate than intermediate or long term statements present ed term in accordance with Icarrying AS. and (2) to add an appropriate risk premium to the pure interest factor, which is related to the variability of futu T ab le of Con t en t s cash flows, with greater variability (the technical definition of risk) being associated with higher risk premiums Wiley I AS 20 03—Int pretation and Application I nternational Account ing Of these two tasks,erthe latter is likely to proveofthe more difficult in practice. IAS 36 provides a fairly extended Standar ds discussion of the methodology to utilize, however, addressing such factors as country risk, currency risk, cas Preface flow risk, and pricing risk. As with all aspects of the impairment analysis, this must be done on a pretax basis Chapter 1 - I ntr oduction to I nter national Accounting Standar ds and is independent of any considerations regarding how the asset was financed. Chapter 2

- Balance Sheet

The second Iaspect ncom e of Statement, determining Statan emappropriate ent of Chan ges discount in Equit rate y, and is somewhat Statem entmore subtle than that discussed of Recognized above. The rate used mustGains eitherand beLosses inflation-adjusted or inflation-unadjusted, consistent with how the future Chapter 4 - were Cash determined. Flow St at em If ent cash flows the future cash flows were developed in nominal currency units, and if (as has Chapter 5 - true, Financial I nstr uments—Cash Receiv ables often been although for much of theand developed world less so now than for any time over the past Chapter generation) 6 - there I nventor is an y expectation that prices will inflate over time, future cash inflows and outflows will be projected grow even if input andI ncluding output factors will remain If nominal currency units are used, thu Chapter 7 to - Rev enue Recogni tion, Constr uction Contrconstant. act s inflating8 the- Property gross amounts net cash flows increasingly over the years due to the compounding effect of Chapter , Plant , and and Equipment annual 9inflation assumptions, Chapter - I ntangi ble Asset s the discount rate must be similarly increased. Chapter 3

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter - hand, if future cash inflows and outflows are projected in real currency units, the appropriate On the 10 other I nvestm ent Pr oper ty

discount rate will be a lower, inflation-unadjusted rate. If consistent assumptions are used for cash flows and the discount rate, the net result, that is, the present value of future cash flows, will be identical, and thus eith Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 -if properly applied, is acceptable. The practical risk is that in performing the analyses inconsistent approach, Balance Sheet Date assumptions will be made, thus making the results Chapter 13 - Financial I nstr uments—LongTer m Debt of little worth. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 14 - Leases

The interest rate to apply must reflect current market conditions as of the balance sheet date. This means th

Chapter 15 - I ncom e Taxes rates (e.g., from the early 1990s to the present date, rates have been generally during periods of changing Chapter 16 Em ploy ee Benefitnations) s declining in many industrial the computed value in use of assets will change, perhaps markedly, eve Chapter 17 - cash Stockflows holderbefore s' Equitdiscounting y if projected are stable. This reflects economic reality; however, as rates declin Chapter 18of- productive Earnings Per Sharebecome more valuable, holding all other considerations constant; and as rates holdings assets Chapter 19 holdings - I nterim lose Financial ting rise, such valueRepor as alternative market-priced investments (such as fixed-income securities) become20more attractive. The accounting implication is that long-lived assets that were unimpaired one year Chapter - Segm ent Repor ting

earlier may an impairment test in Cor therection currentofperiod Chapter 21 - fail Accounting Changes and Er ror sif rates have risen during the interim. Since accounta tend not22to- contemplate such economic matters, however, the risk is that impairments may be overlooked wh Chapter For eign Curr ency they are23due only to Part market rate changes, as contrasted to those which result from more attention-getting Chapter - Relatedy Disclosures events 24 such as technological or macroeconomic trends such as recessions. Chapter - Specialized I ndustrobsolescence ies Chapter 25 - I nflation and Hyperinflation

Corporate assets.

Chapter 26 - Gov er nm ent Gr an ts Appendix - Di sclosure Checklist Another Aissue that is prone to being ignored has to do with corporate assets, such as headquarters buildings Appendix B I llustrativ e Financial St atem entas s Pr esent ed Under I equipment, AS and other long-lived tangible assets such data processing which do not generate identifiable Appendix C - It Com parison I AS,that USall GAAP, UK GAAP cash flows. should be of clear suchand assets need to be tested for impairment, and it should be equally I ndex clear that these cannot be tested in the abstract, since there are no cash inflows to weigh against the cash List of Tables outflows and the net result of any stand-alone test would be to indicate severe impairment. List of Ex hibits and Ex am ples

To of cope withsthe foregoing matter, IAS 36 requires that corporate assets be allocated among or assigned to List Sidebar

cash generating units with which they are most closely associated. For a large and diversified enterprise, this probably implies that corporate assets will be allocated among all the cash generating units, perhaps in proportion to annual turnover (revenue). Failure to do this will not only ignore the possible impairment of the corporate assets, per se, but also will distort the impairment testing for the operating assets, since in effect they will be held accountable for shouldering too light a burden, as in reality the cash generating units in the aggregate must cover not only their own costs, but the corporate overhead as well. (The issue of impairment corporate assets is similar to the matter of impairment of goodwill, which is discussed later in this chapter.)

Accounting for impairments. After computing net selling use, W ile y I ASprice 2 0 03and : I nvalue t erp reint at ion and an dthen Ap p comparing licat io n o f the greater of these to carrying value an asset or cash Igenerating unit, and assuming an impairment is indicated, this must be reflected in the n t er n at ion al Accou n t in g St an d ar ds financial statements. The mechanism for recording an impairment depends upon whether the entity adheres ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali the benchmark orMir the zaallowed alternative treatment prescribed by IAS 16. The benchmark treatment is amortized historical John cost, Wi ley and& any Sonsimpairments © 2003 (952 pages) computed under this scenario will be reported as a charge against current period earnings, either with depreciation set forth separately in the income This com pact and t rulyincluded com pr ehensive qui ck - referor ence pr esent s account ants with a guide to depend on for statement. assistance in the prepar at ion and under standing of financial statements present in accordance I AS. For assets for which impairment waseddetermined on awith stand-alone basis, the write-down in carrying value is accomplished directly. However, for assets grouped into cash generating units, it will not be determinable T ab le of Con t en t s which specific assets have suffered the impairment loss, and thus a formulaic approach is prescribed by IAS Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing 36. If goodwill (discussed later in this chapter) was allocated to the cash generating unit, any impairment Standar ds should be allocated fully to that intangible asset until its carrying value has been reduced to zero. Any further Preface impairment would be allocated proportionately to all the other assets in the cash generating unit. While IAS 3 Chapter 1 - I ntr oduction to I nter national Accounting Standar ds is silent on this point, presumably the pro rata allocation would also include any corporate assets that had be Chapter 2 - Balance Sheet assigned to that cash generating unit. The standard also does not provide guidance regarding whether the I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - should be credited to the asset account or to the accumulated depreciation (contra asset) accoun impairment of Recognized Gains and Losses in either event, the net result would be the same, although for certain analytical purposes (such as computing Chapter 4 - Cash Flow St at em ent return on gross investment in the operations of the business) some prefer to leave the gross asset balances Chapter 5 - Financial I nstr uments—Cash and Receiv ables intact. Chapter 6

- I nventor y

Chapter 7 - Rev enuefrom Recogni tion, I ncluding uction will Contr s The charge arising a recognition of an Constr impairment beact reflected either in earnings or directly in Chapter 8 Property , Plant , and Equipment stockholders' equity, depending on whether the reporting entity applies the benchmark or the allowable Chapter 9 -method I ntangi ble Asset s alternative of accounting for its long-lived assets. If the benchmark method (amortized historical cost is used, then I nterests impairments in Financial must be Instr recognized um ent s, Associat as current es, period Joint Ventur expenses es, and and charged against earnings. Chapter 10 I nvestm ent Pr oper ty charge could be merged with depreciation expense, since the impairment Logically, it would seem that the Chapter 11 - Business Combinations Consolidat ed Fin Statements does represent part of the process and of cost allocation to ancial operations over the period of the asset's use. Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t hethe charge for impairments be Presumably a separate caption could also be presented, if it is desired that Chapter 12 Balance Sheet made distinct from that for Date depreciation. It would not be appropriate, however, to imply that impairment losse Chapter - Financial I nstr uments—Longm Debt are not13 part of recurring operations costsTer (i.e., to suggest that these expenses are somehow extraordinary or Chapter 14 Leases unusual in nature). Whether part of depreciation or a separate charge, therefore, impairment costs should be Chapter 15in- income I ncom e from Taxes included operations. Chapter 16 - Em ploy ee Benefit s

If the entity applied the allowed alternative method of revaluation of long-lived assets, the impairment Chapter 17 - has Stock holder s' Equit y

adjustment will be accounted for as the partial reversal of a previous upward revaluation. Thus, the charge w be made against the revaluation account in stockholders' equity and not shown in the current period's income Chapter 19 - I nterim Financial Repor ting statement. However, if the entire revaluation account is eliminated due to recognition of an impairment, any Chapter 20 - Segm ent Repor ting excess impairment should be charged to expense. In other words, the revaluation account cannot contain a Chapter 21 - Accounting Changes and Cor rection of Er ror s debit balance. Chapter 18 - Earnings Per Share

Chapter 22 - For eign Curr ency

Chapter 23 of - RelatedPart y for Disclosures Example accounting impairment Chapter 24 - Specialized I ndustr ies

Xebob 25 Corp. has oneand (of Hyperinflation its many) departments that performs machining operations on parts that are sold to Chapter - I nflation contractors. A group of machines have an aggregate book value at the latest balance sheet date (December Chapter 26 - Gov er nm ent Gr an ts 31, 2002) $123,000. It has been determined that this group of machinery constitutes a cash generati Appendix A totaling - Di sclosure Checklist unit for purposes of applying IASSt36. Appendix B - I llustrativ e Financial atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Upon analysis, the following facts about future expected cash inflows and outflows become apparent, based

I ndex the diminishing productivity expected of the machinery as it ages, and the increasing costs that will be incurre List of Tables output from the machines: to generate List of Ex hibits and Ex am ples List of Sidebar s

Year

Revenues

Costs, excluding depreciation

2003

$ 75,000

$ 28,000

2004

80,000

42,000

2005

65,000

55,000

2006

20,000

15,000

Totals

$240.000

$140,000

The net selling price of the machinery in this cash generating unit is determined by reference to used machinery quotation sheets obtained from a prominent dealer. After deducting estimated disposition costs, th ile y I AS 2as 0 03$84,500. : I n t erp re t at ion an d Ap p licat io n o f net selling price isWcalculated I n t er n at ion al Accou n t in g St an d ar ds

Value in use is determined reference to theAliabove-noted expected ISBN:0471227366 cash inflows and outflows, discounte by Bar r y J.with Epstein and Abbas Mir za at a risk rate of 5%. This yields a present value of about $91,981, as shown below. John Wi ley & Sons © 2003 (952 pages)

Year

This com PV pactfactors and t ruly com ehensive ck - refer ence Cash flows NetprPV of cashquiflows pr esent s account ants with a guide to depend on for

2003

assistance in the prepar at ion and under standing of financial 47,000 .95238 $44,761.91

2004

38,000

statements present ed in accordance with I AS.

T ab le of Con t en t s

2005

10,000

.90703

34,467.12

.86384

8,638.38

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar 2006 ds 5,000 .82270 4,113,51 Preface

Total

Chapter 1

$91,980,91

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2 - Balance Sheet net selling price, value in use is selected to represent the recoverable amount of Since value in use exceeds I ncom e Statement, em ent of the Chan ges in Equit and this cash unit. This isStat lower than carrying valuey,of theStatem groupent of assets, however, and thus an Chapter 3 generating of Recognized Gains and Losses

impairment must be recognized as of the end of 2002, in the amount of $123,000 - $91,981 = $31,019. This Flow St at em ent be included- Cash in operating expenses (either depreciation or a separate caption in the income statement) for 20

Chapter 4 Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7 - Rev Recogni tion,recognized I ncluding Constr uction Contr act s Reversals ofenue previously impairments—Benchmark Chapter 8

- Property , Plant , and long-lived assets.

Chapter 9

method used for

Equipment

- I ntangi ble Asset s

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Recoveries Chapter 10 - in value of previously impaired assets are also to be given recognition, provided that criteria nvestm entare Pr oper established Iby IAS 36 met.tyIn order to recognize what is ostensibly a recovery of a previously recognized Chapter 11 - Business and Consolidat ancial Statements impairment, a processCombinations similar to that which led to ed theFin original loss recognition must be followed. This begins Curr ent Liabilit ies, Prov isions, sheet Cont ingencies, and Ev ents after with a consideration, as of each balance date, of whether there aret he indicators of possible impairment Chapter 12 Balance Sheet Date

recoveries, utilizing external and internal sources of information including that pertaining to material market

Chapter 13 - Financial I nstr uments—LongTer m Debt value increases; changes in the technological, market, economic or legal environment or the market in which Chapter 14 Leases the asset is employed; and the occurrence of a favorable change in interest rates or required rates of return Chapter - I ncom e Taxes assets 15 which would imply changes in the discount rate used to compute value in use. Also to be given Chapter 16 Em ploy ee Benefit consideration are data about sany changes in the manner in which the asset is employed, as well as evidence Chapter - Stock holder s' Equit y of the asset has exceeded expectations and/or is expected to do so in the that the17 economic performance Chapter 18one - Earnings Share indicators is present, it will be necessary to compute the recoverable amount o future. If or morePer of these

the asset or, if appropriate, Chapter 19 in - Iquestion nterim Financial Repor ting the cash generating unit containing that asset, to determine if the current20 recoverable exceeds the carrying amount of the asset, which had been reduced for the Chapter - Segm entamount Repor ting impairment. Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

If the current recoverable amount exceeds the carrying amount of the asset or cash generating unit, a recove can be recognized. The amount of recovery to be given accounting recognition is limited to the difference Chapter 24 - Specialized I ndustr ies between the carrying value and the amount which would have been the current carrying value had the earlier Chapter 25 - not I nflation Hyperinflation impairment been and given recognition. Note that this means that restoration of the full amount at which the Chapter 26 Gov er nm ent Gr an ts asset was carried at the time of the earlier impairment cannot be made, since time has elapsed between thes Appendix A - and Di sclosure two events further Checklist depreciation of the asset would have been recognized in the interim. Chapter 23 - Related- Part y Disclosures

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

ExampleC of impairment method Appendix - Com parison ofrecovery—Benchmark I AS, US GAAP, and UK GAAP I ndex

To illustrate, assume an asset had a carrying value of $40,000 at December 31, 2002, based on its original cost of $50,000, less accumulated depreciation representing the one-fifth, or 2 years, of its projected useful l List of Ex hibits and Ex am ples of 10 years which already has elapsed. The carrying value of $40,000 is after depreciation for 2002 has been List of Sidebar s computed, but before impairment has been addressed. At that date, a determination was made that the asse recoverable amount was only $32,000 (assume this was properly computed and that recognition of the impairment was warranted), so that an $8,000 adjustment must be made. For simplicity, assume this was added to accumulated depreciation, so that at December 31, 2002, the asset cost remains $50,000 and accumulated depreciation is stated as $18,000. List of Tables

At December 31, 2003, before any adjustments are posted, the carrying value of this asset is $32,000. Depreciation for 2003 would be $4,000 ($32,000 book value ÷ 8 years remaining life), which would leave a ne

book value, after current period depreciation, of $28,000. However, a determination is made that the asset's recoverable amount at this date is $37,000. Before making an adjustment to reverse some or all of the impairment loss previously therecarrying value December W ile y I ASrecognized, 2 0 03 : I n t erp t at ion an d Apat p licat io n o f 31, 2003, as it would have existed ha the impairment not been recognized in 2002 must be computed. I n t er n at ion al Accou n t in g St an d ar ds ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali Mir zapreimpairment carrying value December 31, 2002

$40,000

John Wi ley & Sons © 2003 (952 pages)

2003 depreciation based on above

5,000

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent account ants with a guide to depend Indicated December 31,s 2003 carrying value $35,000on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

The December 31, 2003 carrying value would have been $40,000 - $5,000 = $35,000; this is the maximum carrying value can be reflected on the December 31, 2003 balance sheet. Thus, the full recovery cann T ab le of Con t enwhich ts be recognized; instead, the 2003 statement will reflect (net) aing negative depreciation charge of $35,00 Wiley I AS 20 03—Int er pretation and income Application of I nternational Account - $32,000 Standar ds = $3,000, which can be thought of (or recorded) as follows: Preface Chapter Actual1December - I ntr oduction 31, 2002 to I nter carrying national value Accounting$32,000 Standar ds Chapter 2

- Balance Sheet 2003 depreciation based on above

4,000

(a)

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Indicated December 31, 2003 value $28,000 of Recognized Gainscarrying and Losses

Chapter 3

-

Chapter 4 -December Cash Flow 31, St at2003 em entcarrying value Indicated $28,000 Chapter 5 - Financial I nstr uments—Cash and Receiv ables

Actual December 31, 2003 carrying value 35,000 - I nventor y Chapter Recovery 7 - of Rev previously enue Recogni recognized tion, I ncluding impairment Constr uction $ 7,000 Contr act (b)s Chapter 6 Chapter 8

- Property , Plant , and Equipment Thus, the effectble onAsset the 2003 income statement is (a) - (b) = $(3,000). The asset cannot be restored to its Chapter 9 net - I ntangi s

indicated recoverable at Instr December 31,Associat 2003, amounting to $37,000, I nterests inamount Financial um ent s, es, Joint Ventur es, and as this exceeds the carrying Chapter - would have existed at this date had the impairment in 2002 never been recognized. amount10 that I nvestm ent Pr oper ty Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

ReversalsBalance of previously Sheet Date recognized impairments—Allowed alternative method use Chapter 13 Financial I nstr uments—Long- Ter m Debt for long-lived assets. Chapter 14 - Leases

Reversals impairments Chapter 15 -ofI ncom e Taxes are accounted for differently if the reporting entity used the allowed alternative method16 of -accounting for long-lived assets. Under this approach, assets are periodically adjusted to reflect Chapter Em ploy ee Benefit s current17 fair- values, with s'the write-up being recorded in the asset accounts and the corresponding credit Chapter Stock holder Equit y reported in stockholders' Chapter 18directly - Earnings Per Share equity and not included in earnings. Impairments are viewed as being

downward adjustments of fair value in this scenario, and accordingly are reported as reversals of previous revaluations, not reported in income unless the entire remaining, undepreciated portion of the revaluation is Chapter 20 - Segm ent Repor ting eliminated as a consequence of the impairment; any further impairment is reported in earnings in such case. Chapter 19 - I nterim Financial Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter 22 asset - For eign Curr ency When an (or cash generating group of assets) was first revalued upward, then written down to reflect a Chapter 23 - Relatedy Disclosures impairment, and thenPart later adjusted to convey a recovery of the impairment, the procedure is to report the Chapter 24as - Specialized I ndustr ies recovery a reversal of the impairment, as with the historical cost (benchmark) method. Since in most Chapter instances 25 impairments - I nflation and were Hyperinflation accounted for as reversals of upward revaluations, a still-later reversal of the

impairment seen yettsanother upward revaluation and accounted for as an addition to an equity Chapter 26 - will Govbe er nm ent as Gr an account,Anot Appendix - Direported sclosure through Checklistearnings. In the event that the impairment had eliminated the entire revaluation capital account, and the excess St loss was Appendix B - I llustrativ e Financial atem entreported s Pr esentin edearnings, Under I ASthe later recovery will be reported in earnings the extent earlier write-down had beenand so UK reported, Appendix C -the Com parison of I AS, US GAAP, GAAP with the balance taken to stockholders' equity. I ndex

Example of impairment recovery—Allowed alternative method

List of Tables

List Ex hibits assume and Ex am To of illustrate, anples asset was acquired January 1, 2001, and it had a net carrying value of $45,000 at List of Sidebar s 2002, based on its original cost of $50,000, less accumulated depreciation representing the on December 31,

fifth, or 2 years, of its projected useful life of 10 years, which has already elapsed, plus a revaluation write-up $5,000, net. The increase in carrying value was recorded a year earlier, based on an appraisal showing the asset's then fair value was $56,250. At December 31, 2003, an impairment is detected, and the recoverable amount at that date is determined to $34,000. Had this not occurred, depreciation for 2003 would have been $45,000 ÷ 8 years remaining life = $5,625; book value after recording 2003 depreciation would have been $45,000 - $5,625 = $39,375. Thus the impairment loss recognized in 2003 is $39,375 - $34,000 = $5,375. Of this loss amount, $4,375 represents a

reversal of the net amount of the previously recognized valuation increase remaining (i.e., undepreciated) at the end of 2003, as shown below. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f t er n at ion al n t in g31, St an d ar ds Gross amount ofI nrevaluation atAccou December 2001 by Bar r y J. Epstein and Abbas Ali Portion of the above allocable to accumulated depreciation Mir za John Wi ley Sons © 2003 (952 pages) Net revaluation increase at &December 31, 2001

$6,250 ISBN:0471227366

This com pact and t ruly com pr ehensive qui ck - refer ence Depreciation taken on appreciation for 2002 pr esent s account ants with a guide to depend on for assistanceatinDecember the prepar31, at ion and under standing of financial Net revaluation increase 2002 statements present ed in accordance with I AS.

Depreciation taken on appreciation for 2003 T ab le of Con t en t s

Net revaluation increase at December 31, 2003, before recognition of impairment

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Impairment recognized as reversal of earlier revaluation Preface

Net revaluation increase at December 31, 2003

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

625 5,625 625 5,000 625 4,375 4,375 $0

Chapter 2

- Balance Sheet The remaining $1,000 impairment recognized at December 31, 2003, is reported as a current period expense I ncom e Statement, Stat em of entrevaluation of Chan gessurplus. in Equit y, and Statem ent since it3exceeds the available amount Chapter of Recognized Gains and Losses

Chapter - Cash St at em In 20044there is aFlow recovery of ent value that pertains to this asset; at December 31, 2004, it is valued at $36,500 Chapter 5 - Financial I nstr increase uments—Cash and Receiv ables This represents a $2,500 in carrying amount from the earlier year's balance, net of accumulated Chapter 6 - I nventor y $1,000 of this recovery in value is credited to income, since this is the amount of depreciation. The first Chapter previously 7 -recognized Rev enue Recogni impairment tion, I that ncluding was Constr charged uction against Contr earnings; act s the remaining $1,500 of recovery is

accounted as revaluation, and thus is to be credited to a stockholders' equity (revaluation surplus) accoun Chapter 8 -for Property , Plant , and Equipment Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

nvestm ent Pr oper ty Deferred Itax effects.

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Recognition Curr of an financial reporting purposes most likely entimpairment Liabilit ies, for Prov isions, Cont ingencies, and Evisents after t heto not be accompanied by a deduction forBalance currentSheet tax purposes. As a consequence of the nondeductibility of most impairments, the book Date value and basis ofI nstr theuments—Longimpaired assets diverge, with the difference thus created to gradually be Chapter 13 tax - Financial Terwill m Debt eliminated the remaining life of the asset, as depreciation for tax purposes varies from that which is Chapter 14 -over Leases recognized financial reporting. Following the dictates of IAS 12, deferred taxes must be recognized for thi Chapter 15 - for I ncom e Taxes new discrepancy. accounting for deferred taxes is discussed at great length in Chapter 14 and will not be Chapter 16 - Em ployThe ee Benefit s addressed here. Chapter 17 - Stock holder s' Equit y Chapter 12 -

Chapter 18 - Earnings Per Share

Impairments which will be mitigated by recoveries or compensation from third parties. Chapter 20 - Segm ent Repor ting Chapter 19 - I nterim Financial Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Impairments of tangible long-lived assets may result from natural or other damages, such as from floods or

Chapter 22 - For ency windstorms; in eign someCurr such instances, there will be the possibility that payments from third parties (typically Chapter 23 RelatedPart y Disclosures commercial insurers) will mitigate the gross loss incurred. A reasonable question in such circumstances is Chapter - Specialized I ndustr ies whether24the gross impairment must be recognized, or whether it may be offset by the actual or estimated Chapter I nflation andtoHyperinflation amount25 of -the recovery be received by the reporting entity. Chapter 26 - Gov er nm ent Gr an ts

An interpretation from the Standing Interpretations Committee of the IASC (SIC 14) holds that when property Appendix A - Di sclosure Checklist

damagedB or impairments claims should be accounted for separately. Impairmen Appendix - I lost, llustrativ e Financialand St atem entfor s Prreimbursements esent ed Under I AS are to be accounted for per IAS 36 as discussed above; disposals (of damaged or otherwise impaired assets should be accounted for consistent with guidance in IAS 16. Compensation from third parties should be I ndex recognized as income when the funds become receivable. The cost of replacement items or of restored item List of Tables is determined in accordance with IAS 16. Appendix C - Com parison of I AS, US GAAP, and UK GAAP

List of Ex hibits and Ex am ples List of Sidebar s Disclosure

requirements.

IAS 36 has set forth an array of new disclosure requirements pertaining to impairments. For each class of lon lived asset, the amount of impairment losses recognized in earnings for each period being reported upon mu be stated, with indication of where in the income statement it is included (i.e., depreciation or other charges). For each class of asset, the amount of any reversals of previously recognized impairment must also be stipulated, again with an identification of where in the income statement this is included. If any impairment losses were recognized in stockholders' equity directly (i.e., as a reversal of previously recognized upward revaluation), this must be disclosed. Finally, any reversals of impairment losses that were recognized in equi

must be stated. If the reporting entity applies IAS 14, the amounts of impairments, and the amounts of reversals of W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f impairments, recognized in income and in stockholders' equity during the year must be stipulated also. Note I n t er n at ion al Accou n t in g St an d ar ds that the segment disclosures pertaining to impairments need not be categorized by asset class, and the ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali income statementMir location of the charge or credit need not be stated (but will be understood from the za disclosures relating to Wi theleyprimary statements themselves). John & Sonsfinancial © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence IAS 36 further provides that if an impairment loss for an individual asset or group of assets categorized as a pr esent s account ants with a guide to depend on for cash generating unit is either during the period, in an amount which is material to the assistance in recognized the prepar ator ionreversed and under standing of financial financial statements taken aspresent a whole, disclosures should statements ed in accordance with I be AS.made of the following: T ab le The of Con t en t sor circumstances that caused the loss or recovery of loss; events Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar The ds amount of the impairment loss recognized or reversed; Preface

If for an individual asset, the nature of the asset and the reportable segment to which it belongs, using th - I ntr oduction to I nter national Accounting Standar ds primary format as defined under IAS 14;

Chapter 1 Chapter 2

- Balance Sheet

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent If for Chapter 3 a- cash generating unit, a description of that unit (e.g., defined as a product line, a plant, geographic of Recognized Gains and Losses

area, etc.), the amount of impairment recognized or reversed by class of asset and by reportable segme Cash Flow St at em ent based-on the primary format, and, if the unit's composition has changed since the previous estimate of th Chapter 5 Financial I nstr uments—Cash and Receiv unit's recoverable amount, a description of the ables reasons for such changes; Chapter 4 Chapter 6

- I nventor y Whether net selling pricetion, or value in use was uction employed compute the recoverable amount; Chapter 7 - Rev enue Recogni I ncluding Constr Contrtoact s Chapter 8

- Property , Plant , and Equipment

If recoverable amount is net selling price, the basis used to determine it (e.g., whether by reference to - I ntangi ble Asset s active market prices or otherwise); and

Chapter 9

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

If recoverable amount is value in use, the discount rate(s) used in the current and prior period's estimate

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Furthermore, Chapter 12 - when impairments recognized or reversed in the current period are material in the aggregate, th Balance Sheet Date a description of the main classes of assets affected by impairment losses or reporting entity should provide Chapter 13 of - Financial I nstr uments—LongTer m Debt reversals losses, as well as the main events and circumstances that caused recognition of losses or Chapter 14 Leases reversals. This information is not required to the extent that the disclosures above are given for individual Chapter - I ncom e Taxes units. assets 15 or cash generating Chapter 16 - Em ploy ee Benefit s

Retirements and Other Dispositions

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

Chapter 19 - when I nterim Repor ting employed by an entity it is removed from the balance sheet. In the cas In general, anFinancial asset is no longer Chapter - Segm ent the Repor ting and the related contra asset, accumulated depreciation, should be eliminated. of fixed20 assets, both asset

The difference betweenChanges the net carrying amountofand any Chapter 21 - Accounting and Cor rection Er ror s proceeds received will be given immediate recognition gainCurr or ency loss on the disposition. Chapter 22 - as Foraeign Chapter 23 - Related- Part y Disclosures

If the allowed alternative treatment has been employed, the asset and the related accumulated depreciation account have been adjusted upward, and the asset is subsequently disposed of before the asset is fully Chapter 25 - I nflation and Hyperinflation depreciated, note that the gain or loss computed will be identical to what would have been determined had th Chapter 26 - Gov er nm ent Gr an ts benchmark treatment been used. That is because at any point in time the net amount of the revaluation (the Appendix A -gross Di sclosure step-up in asset Checklist amount less the present balance in the step-up in accumulated depreciation) will be Appendix B I llustrativ e Financialbalance St atem ent s Pr esent ed Under I AS account. Elimination of the asset, contra offset exactly by the remaining in the revaluation surplus Appendix C Com parison of I AS, US GAAP, and UK GAAP asset, and equity accounts will balance precisely and there will be no gain or loss on this part of the dispositi I ndex transaction. The gain or loss will be determined by the discrepancy between the net book value, based on List of Tables historical cost, and the proceeds from the disposition. Chapter 24 - Specialized I ndustr ies

List of Ex hibits and Ex am ples

Examples ofs accounting for asset disposition List of Sidebar On January 1, 2001, Zara Corp. acquired a machine at a cost of $12,000; it had an estimated life of 6 years, residual value, and was expected to provide a level pattern of utility to the enterprise. Thus, straight-line depreciation in the amount of $2,000 was charged to operations. At the end of 4 years, the asset was sold fo $5,000. Accounting in conformity with the IAS 16 benchmark approach was elected. The entries to record depreciation and to report the ultimate disposition on January 1, 2005, are as follows:

1/1/01

Machinery

12,000 12,000

etc. W ile y I AS 2 0 03Cash, : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

12/31/01

Depreciation expense

2,000

by Bar r y J. Epstein and Abbas Ali Mir za Accumulated John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

2,000

depreciation

This com pact and t ruly com pr ehensive qui ck - refer ence Depreciation expense 2,000 pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial 2,000 Accumulated statements present ed in accordance with I AS.

12/31/02

depreciation

T ab le of Con t en t s

12/31/03 Depreciation expense Wiley I AS 20 03—Int er pretation and Application of I2,000 nternational Account ing Standar ds 2,000 Accumulated depreciation Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Chapter 12/31/04 2 - Balance Depreciation Sheet expense 2,000 Preface

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent 2,000 of Recognized GainsAccumulated and Losses

Chapter 3

-

Chapter 4

depreciation - Cash Flow St at em ent

Chapter 5 - Financial ables 1/1/05 Cash I nstr uments—Cash and Receiv 5,000 Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment Machinery - I ntangi ble Asset s

Chapter 9

Accumulated depreciation

Chapter 10 -

8,000

12,000 1,000

Gain onum asset I nterests in Financial Instr ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty disposition

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Now assumeCurr theent same facts above, but that the allowed method is used. At the beginning of Liabilit ies,as Prov isions, Cont ingencies, andalternative Ev ents after t he year 4 (2004) the asset is revalued at a gross replacement cost of $15,000. A year later it is sold for $5,000. Balance Sheet Date The entries as follows (note in particular the gain on the sale is identical to that reported under the Chapter 13 - are Financial I nstr uments—LongTer mthat Debt benchmark Chapter 14 - approach): Leases Chapter 12 -

Chapter 15 - I ncom e Taxes

1/1/01 Machinery Chapter 16 - Em ploy ee Benefit s

12,000

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

12,000

Cash, etc.

12/31/01 Depreciation expense Chapter 19 - I nterim Financial Repor ting

2,000

Chapter 20 - Segm ent Repor ting

2,000

Accumulated depreciation

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

12/31/02 Depreciation expense Chapter 23 - RelatedPart y Disclosures

2,000

Chapter 24 - Specialized I ndustr ies

2,000

Accumulated depreciation

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

12/31/03 expense Appendix A - DiDepreciation sclosure Checklist

2,000

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS 2,000

Accumulated depreciation

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

List of1/1/04 Tables Machinery

3,000 Accumulated depreciation

1,500

Revaluation surplus

1,500

List of Ex hibits and Ex am ples List of Sidebar s

12/31/04

Depreciation expense

2,500 2,500

W ile y I AS 2 0Accumulated 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion aldepreciation Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Revaluation surplus 500 Mir za John Wi ley & Sons earnings © 2003 (952 pages) Retained

ISBN:0471227366

500

This com pact and t ruly com pr ehensive qui ck - refer ence Cash 5,000 pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial Accumulated depreciation 10,000 statements present ed in accordance with I AS.

1/1/05

T ab le of Con t en t s

Revaluation surplus

1,000

15,000 Wiley I AS 20 03—Int er pretation andMachinery Application of I nternational Account ing Standar ds Gain on asset

Preface

1,000

Chapter 1

- I ntr oduction to I nter national disposition Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Depletion - Cash Flow St at em ent

Chapter 4 Chapter 5

- Financial I nstr uments—Cash and Receiv ables

IAS 16 specifically excludes forests and other regenerative natural resources, as well as mineral rights and - I nventor y other nonregenerative resources, from applicability. No other international accounting standard addresses Chapter 7 - Reveither. enue Recogni tion,given I ncluding Constr uction Contr s assets, the allocation of cost to periods these matters, However, the long-lived nature of act those Chapter 8 Property , Plant , and Equipment benefited by a process similar to depreciation is an obvious necessity. Chapter 6

Chapter 9

- I ntangi ble Asset s

For example, under US GAAP, depletion is s, theAssociat annuales, charge the es, useand of natural resources. The depletion I nterests in Financial Instr um ent Joint for Ventur Chapter 10 I nvestm ent Pr oper tycosts, such as exploring, drilling, excavating, and other preparatory costs. The base includes all development Chapter amount11 of -the Business depletion Combinations base charged and to Consolidat income is eddetermined Fin ancial Statements by the following formula: Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

The unit15depletion is revised frequently due to the uncertainties surrounding the recovery of natural Chapter - I ncom erate Taxes

resources. revision is made prospectively; the remaining undepleted cost is allocated over the remaining Chapter 16 -The Em ploy ee Benefit s recoverable units.

Chapter 17 - Stock holder s' Equit y Chapter 18 absence - EarningsofPer Given the an Share international standard on the matter of depletion, and given the need for rational Chapter 19 of - I the nterim Repormineral ting allocation costFinancial of long-lived and other natural resource assets to the periods to be benefited, it Chapter 20 - to Segm ent the Repor ting reasonable follow guidelines set forth above, which are based on US GAAP. For natural resource Chapter - Accounting Changes and Cor rectionorofotherwise Er ror s assets,21 which are typically harvested, mined, placed into production or sold in patterns that are Chapter 22 - time For eign Curr ency stable over (demand for commodities typically being far more volatile than demand for manufactured Chapter goods),23 the- units Relatedof production Part y Disclosures method of depletion is almost always superior to straight-line methods. Chapter 24 - Specialized I ndustr ies

Example costs Chapter 25 of - I computing nflation and depletion Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Assume that the rights to extract oil from a field are obtained for an initial payment of $2 million at the start of 2001, plus a commitment to restore the topography of the land, for an estimated cost of $1 million, after the Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS extraction process has run its course. Geological surveys have suggested that the field contains 1,000,000 Appendix C - Com parison of I AS, GAAP, and UK GAAP recoverable barrels of crude oil.US Actual recoveries are 300,000 barrels in 2001 and 400,000 barrels in 2002. I ndex the end of 2002, the estimated remaining recoverable crude oil was thought to be 400,000 barrels, and the c List of Tables to restore the condition of the land was now believed to be $900,000. Recovery in 2003 is 140,000 barrels, List of which Ex hibits Ex am ples after theand field is abandoned and agreed-upon restoration is performed at a cost of $850,000 in early List of Sidebar s 2004. The entries to record these events are as follows: Appendix A - Di sclosure Checklist

1/1/01

Drilling rights

2,000,000 2,000,000

W ile y I AS 2 0 03 : I Cash n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

12/31/01

Depletion expense

900,000

by Bar r y J. Epstein and Abbas Ali Mir za Accumulated John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

900,000

depletion

This com pact and t ruly com pr ehensive qui ck - refer ence Depletion pr esentexpense s account ants with a 1,200,000 guide to depend on for assistance in the prepar at ion and under standing of financial statements Accumulated present ed in accordance with I1,100,000 AS.

12/31/02

T ab le of Con t en t s

depletion

Wiley I AS 20 03—Int er pretation Application of I nternational100,000 Account ing Landand restoration Standar ds liability Preface

12/31/03 - I ntr Depletion expense 280,000 oduction to I nter national Accounting Standar ds Chapter 2 - Balance SheetLand restoration 280,000 Chapter 1

Chapter 3

-

I ncom e Statement, Statliability em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

2/15/04 LandFlow restoration liability Chapter 4 - Cash St at em ent Chapter 5

380,000

Chapter 6

- Financial I nstr uments—Cash ables Depletion expenseand Receiv 470,000 - I nventor y

Chapter 7

Cash Constr uction Contr act s - Rev enue Recogni tion, I ncluding

Chapter 8

- Property , Plant , and Equipment

850,000

The annual depletion costs in 2001 and 2002 are based on estimates of recoverable oil of 1,000,000 barrels - I ntangi ble Asset s and total costs of $3 million, including estimated land restoration (which is effectively negative salvage value) I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 in - 2003 is based on remaining accruable cost of $800,000 (the newly estimated land recovery cost Depletion I nvestm ent Pr oper ty $900,000, less the already accrued $100,000) and revised recoverable oil of 400,000 barrels. When the facts Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements ultimately become known in 2004 (that the recoverable oil was less than forecast and the restoration costs Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 differ somewhat fromSheet the estimate made in 2003), the adjustment is really a change in an accounting estimat Balance Date and thus must be reflected as an operating cost in 2004. Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 9

Chapter 14 - Leases Chapter 15 - I ncom e Taxes

Disclosure Requirements: Tangible Long-Lived Assets

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y

The disclosures required under IAS 16 for property, plant, and equipment, and under IAS 38 for intangibles, Chapter 18 - Earnings Per Share are similar. IASRepor 36 requires extensive disclosures when assets are impaired or when formerly Chapter 19 - Furthermore, I nterim Financial ting

recognized impairments are being reversed. The requirements that pertain to property, plant, and equipment are as follows:

Chapter 20 - Segm ent Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter 22 class - For eign Curr ency For each of tangible asset, disclosure is required of Chapter 23 - Related- Part y Disclosures

1. The measurement basis used (benchmark or alternative approaches)

Chapter 24 - Specialized I ndustr ies

Chapter 25 - depreciation I nflation and method(s) Hyperinflation 2. The used Chapter 26 - Gov er nm ent Gr an ts

3. Useful or depreciation rates used Appendix A - Di lives sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

4. The gross carrying amount and accumulated depreciation at both the beginning and end of the period

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

I ndex5. A reconciliation of the carrying amount at the beginning and end of the period, showing additions, dispositions, acquisitions by means of business combinations, increases or decreases resulting from List of Tables

reductions to recognize impairments, amounts written back to recognize recoveries of pr List of Exrevaluations, hibits and Ex am ples impairments, depreciation, the net effect of translation of foreign entities' financial statements, and an List of Sidebar s other material items. (An example of such a reconciliation is presented below.) This reconciliation is to be provided for only the current period if comparative financial statements are being presented. In addition, the statements should also disclose the following facts: 1. Any restrictions on titles and any assets pledged as security for debt 2. The accounting policy regarding restoration costs for items of property, plant, and equipment 3.

3. The expenditures made for property, plant, and equipment, including any construction in progress 4. The amount of outstanding commitments for property, plant, and equipment acquisitions W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

In addition, the statements should also disclose the following facts:

ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali

recoverable amounts, future projected cash flows have been discounted to 1. Whether, in Mirdetermining za present values John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence

2. Any restrictions on titles and any assets pledged as security for debt pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial

3. The amount of outstanding commitments for property, statements present ed in accordance with I AS.plant, and equipment acquisitions T ab Example le of Con oft en reconciliation ts of asset carrying amounts Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Date

Gross cost

Accumulated depreciation

Net book value

$4,500,000 - I ntr oduction to I nter national Accounting$2,000,000 Standar ds

$2,500,000

Preface

1/1/031 Chapter

Chapter 2 - Balance3,000,000 Sheet Acquisitions

3,000,000

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 Disposals (400,000) (340,000) (60,000) of Recognized Gains and Losses Chapter 4 - Cash Flow St at em ent Impairment

600,000

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Depreciation

200,000

12/31/03 $7,100,000 $2,460,000 Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

(600,000) (200,000) $4,640,000

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Nonmonetary (Exchange) Transactions I nvestm ent Pr oper ty

Chapter 10 -

Chapter 11 international - Business Combinations Consolidat ed Fin ancial the Statements Currently, accounting and standards do not address accounting which would be appropriate to Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he apply when Chapter 12 - nonmonetary exchanges are engaged in, such as occurs when an item of machinery and Balance Sheet Date

equipment is exchanged for another similar item. Because of the absence of guidance, that provided under US GAAP is discussed in this section, not as authoritative literature, but rather to inform decision making wh Chapter 14 - to Leases might have occur until IAS has been established for such economic events. Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 15 - I ncom e Taxes

Recently, IASB has exposed a series of amendments to a number of extant standards under the banner Chapter 16 the - Em ploy ee Benefit s its Improvements Project. Some Chapter 17 - Stock holder s' Equit y of these will, for the first time, if adopted (as seems likely to occur by 2003), establish standards Chapter 18 accounting - Earnings Per Share for the non-monetary exchanges of similar long-lived assets. This amendmen would provide that the cost ofRepor the asset Chapter 19 - I nterim Financial ting obtained in the exchange is to be measured by the fair value of the asset given up, adjusted byting the amount of any cash or cash equivalents transferred. In those situations Chapter 20 - Segm ent Repor

(expected to be very uncommon) where the fair value of neither of the assets exchanged can be determined reliably, then the carrying amount of the asset given up would be used as the cost of the asset acquired. The Chapter 22 - For eign Curr ency proposed language of the revised standard suggests that this would occur when, for example, comparable Chapter 23 - Related- Part y Disclosures market transactions are infrequent and alternative estimates of fair value (for example, based on discounted Chapter 24 - Specialized I ndustr ies cash flow projections) cannot be calculated. Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter 25 - I nflation and Hyperinflation

Chapter 26 -GAAP Gov erthere nm entexist Gr anvery ts detailed rules (APB Opinion 29) governing accounting for nonmonetary Under US Appendix transactions. A - DiBy sclosure contrast, Checklist under international standards, this topic is dealt with only superficially. Both IAS 16

and the new standardefor intangibles, IAS accounting Appendix B - I llustrativ Financial St atem ent38, s Pr note esentthe ed Under I AS implications of exchanges of one item of property,Cplant, equipment, one intangible, another of similar nature. The rules are simply that Appendix - Comor parison of I AS,orUS GAAP, and UKfor GAAP I ndex1. The value is to be ascertained by reference to the asset received in the exchange, adjusted for any List of Tables cash or equivalents paid or received. List of Ex hibits and Ex am ples

2. Sidebar If the sexchange involves similar assets to be used by the enterprise in essentially the same manner a List of for the same purpose as the item given up in the exchange, the exchange is not deemed to be the culmination of an earnings process, and accordingly, no gain or loss is recognized; the new asset will recorded as the carrying amount of the asset given up, adjusted for any cash or equivalent given or received.

3. If dissimilar assets are exchanged, the cost of the item received is measured by reference to its fair value, which is generally the fair value of the asset given up, adjusted for any cash or cash equivalent received or given.

Dissimilar assets. An exchange is deemed to be theanearnings process W ile y I AS 2 0the 03 :culmination I n t erp re t atof ion d Ap p licat io n o fwhen dissimilar assets are exchanged The general rule is the fair market value of the asset given received (unless the fa I nto t ervalue n at ion al transaction Accou n t in gatStthe an d ar ds value of the assetbygiven more clearly evident) the gain or loss. If there is a settle-up pa ISBN:0471227366 Bar r yup J. is Epstein and Abbas Ali and to recognize Miror za cash equivalent, this is often referred to as boot. or received in cash John Wi ley & Sons © 2003 (952 pages)

Example of an exchange involving dissimilar assetsqui and boot This com pact and t ruly com pr ehensive ck -no refer ence pr esent s account ants with a guide to depend on for

Assume the following: assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

1. Jamok, Inc. exchanges an automobile with a carrying value of $2,500 with Springsteen & Co. for a with a fair market value of $3,200. T ab le of tooling Con t enmachine ts Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing 2. ds No boot is exchanged in the transaction. Standar Preface

3. The fair value of the automobile is not readily determinable.

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2 - Balance In this case, Jamok, Sheet Inc. has recognized a gain of $700 ($3,200 - $2,500) on the exchange. Because the I ncom e dissimilar Statement, Stat emthe entearnings of Chan ges in Equit y, culminated and Statem ent exchange involves assets, process has and the gain should be included in Chapter 3 of Recognized Gains and the determination of net income. TheLosses entry to record the transaction would be as follows: Chapter 4

- Cash Flow St at em ent

Chapter 5 - Financial I nstr uments—Cash and Receiv ables Machine 3,200 Chapter 6

- I nventor y

2,500

Chapter 7Automobile - Rev enue Recogni tion, I ncluding Constr uction Contr act s Chapter 8

- Property , Plant , and Equipment

Gain on exchange of - I ntangi ble Asset s automobile

700

Chapter 9

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Similar assets. Curr ent Liabilit ies,

Chapter 12 -

Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Similar 13 assets are those are used forTer the Chapter - Financial I nstrthat uments—Longm same Debt general purpose, are of the same general type, and are

employed in the same line of business. Thus, it is not necessary to exchange identical assets. The treatment described applies to those assets that are exchanged as a result of technological advancement as well as to Chapter 15 - I ncom e Taxes those that are exchanged as a result of wearing out. The general rule involving the exchange of similar asse Chapter 16 - Em ploy ee Benefit s involving a gain is to value the transaction at the book value of the asset given up. In this situation, the gain i Chapter 17 - Stock holder s' Equit y effectively deferred over the life of the new asset by causing a lesser amount of annual depreciation to be Chapter 18 - Earnings Per Share charged to operations. Chapter 14 - Leases

Chapter 19 - I nterim Financial Repor ting Chapter If cash 20 or an - Segm equivalent ent Repor is also ting included in the transaction, this suggests that the non-monetary assets

exchanged not haveChanges equivalent If there that the asset given up was impaired as to Chapter 21 - did Accounting andvalues. Cor rection of Eris rorevidence s value, as be suggested Chapter 22 might - For eign Curr ency if cash was needed to even up the trade, the impairment must be recognized. fail to do would result in an overstatement of the carrying amount of the new asset and excessive period Chapter 23this - RelatedPart y Disclosures depreciation charges over the ies term of its use. Chapter 24 - Specialized I ndustr Chapter 25 - I nflation and Hyperinflation

Example of an exchange involving similar assets and boot

Chapter 26 - Gov er nm ent Gr an ts Appendix - Di sclosure Checklist Assume Athe following:

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

1. Metronome exchanged a casting machine for a technologically newer model. The cost of the old machine was $75,000, and the accumulated depreciation was $5,000.

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

List of 2. Tables The fair value of the machine received was $90,000. List of Ex hibits and Ex am ples

3. Sidebar Boot was paid in the amount of $40,000. List of s

A loss in the amount of $20,000 is recognized in connection with this transaction. This amount is the differen between the fair value of the asset received less the boot paid ($90,000 - $40,000 = $50,000) and the carryin value of the asset surrendered ($70,000). The entry required to record the transaction is as described below.

Loss on trade of machine

20,000

New machine

90,000

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al 5,000 Accou n t in g St an d ar ds Accumulated depreciation ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali 75,000 Mir za Old machine John Wi ley & Sons © 2003 (952 pages)

40,000

Cash

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements presentdo ed not in accordance with I AS.the accounting for other types of nonmonetary International accounting standards presently address

exchanges T ab le of Con tthat en t sare nonreciprocal in nature. Under US GAAP, nonreciprocal transfers with owners and with nonowners are dealt with as described below.

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Nonreciprocal Preface Chapter 1

transfers.

- I ntr oduction to I nter national Accounting Standar ds

Examples of nonreciprocal transfers with owners include dividends-in-kind, nonmonetary assets exchanged f - Balance Sheet common stock, split-ups, and spin-offs. An example of a nonreciprocal transaction with other than the owner I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent is a donation Chapter 3 - of property either by or to the enterprise. Chapter 2

of Recognized Gains and Losses

Chapter 4 - Cash Flow nonreciprocal St at em ent The valuation of most transfers should be based on the fair market value of the asset given (or Chapter 5 if- the Financial I nstrof uments—Cash and Receiv received, fair value the nonmonetary assetables is both objectively measurable and would be clearly Chapter 6 - I nventor y recognizable). However, nonmonetary assets distributed to owners of an enterprise in a spin-off or other form Chapter of reorganization 7 - Rev enue or liquidation Recogni tion, should I ncluding be based Constr onuction the recorded Contr act samount. Where there is no asset given, the

valuation the transaction be based on the fair value of the asset received. Chapter 8 of - Property , Plant , should and Equipment Chapter 9

- I ntangi ble Asset s

Example ofI accounting for a nonreciprocal transfer nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty

Assume the following:

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

1. XYZ donated property book Cont value of $10,000 aents charity during Curr ent Liabilit ies, with Provaisions, ingencies, andtoEv after t he the current year.

Chapter 12 -

Balance Sheet Date 2. The fair market value of Debt $17,000 at the date of the transfer. Chapter 13 - property Financial had I nstrauments—LongTer m Chapter 14 - Leases

According to the US GAAP requirements, the transaction is to be valued at the fair market value of the prope transferred, and any gain or loss on the transaction is to be recognized. Thus, XYZ should recognize a gain o Chapter - Em ploy ee Benefitins the determination of the current period's net income. The entry to record the $7,000 16 ($17,000 - $10,000) Chapter 17 - would Stock holder Equit y transaction be ass'follows: Chapter 15 - I ncom e Taxes

Chapter 18 - Earnings Per Share Chapter 19 - donations I nterim Financial Repor ting Charitable 17,000 Chapter 20 - Segm ent Repor ting

10,000

Property Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Gain on transfer of property

7,000

Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Capitalization of Borrowing Costs

Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Logic suggests the cost of an Appendix C - Comthat parison of I AS, US asset GAAP,should and UKinclude GAAP all the costs necessary to get the asset set up and

functioning properly for its intended use. For some years there has been a question of whether such costs should be included in the definition of all costs necessary or whether such costs should continue to be treate List of Tables as purely a period expense. A corollary issue is whether an imputed cost of capital for equity financing should List of Ex hibits and Ex am ples similarly be treated as a cost to be capitalized: The implicit argument is that the cost of a self-constructed List of Sidebar s asset, for example, should not differ between two entities simply because one finances it internally while another finances the asset with externally supplied (debt) capital. I ndex

This question was resolved in the United States with the promulgation of SFAS 34, which established US GAAP concerning the capitalization of interest. Borrowing costs, under defined conditions, are added to the cost of fixed assets (and inventory, in very limited circumstances), but the cost of equity capital may not be imputed. The principal purposes to be accomplished by the capitalization of interest costs are as follows:

1. To obtain a more accurate original asset investment cost 2. To achieve a better matching of costs deferred to future periods with revenues of those future periods W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

International accounting standards differ from US GAAP in that both benchmark and allowed alternative ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali treatments have been prescribed; the alternative treatment is very similar to that which is mandatory in the Mir za United States. John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence Benchmark treatment. pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial

The IAS 23 benchmark remains the ed method formerly with universally followed in the United States and elsewhere statements present in accordance I AS. All borrowing costs are treated as period costs and expensed as incurred. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Alternative treatment. Standar ds Preface Interest actually incurred on borrowed funds used to finance the acquisition, construction, or production of a Chapter 1 asset - I ntr oduction I nter national Standar ds of the asset. The amount of interest so qualifying (defined to below) is addedAccounting to the carrying value

accounted depends on whether funds were borrowed specifically for the project in question or whether a Chapter 2 -for Balance Sheet pool of borrowed was deployed of projects, of which I ncomfunds e Statement, Stat emfor entaofvariety Chan ges in Equit y,some and Statem entmay be subject to the interest Recognized Gains and Losses capitalizationofrules.

Chapter 3 Chapter 4

- Cash Flow St at em ent Qualifying areI those that normallyand take an extended period of time to prepare for their intended uses. Chapter 5 -assets Financial nstr uments—Cash Receiv ables

While IAS -23 does not give further insight into the limitations of this definition, over fifteen years of experienc I nventor y with SFAS 34 yields certain insights that may be germane to this matter. In general, interest capitalization ha Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s been applied to those asset acquisition and construction situations in which Chapter 6 Chapter 8

- Property , Plant , and Equipment 1. Assets are being constructed for an entity's own use or for which deposit or progress payments are Chapter 9 - I ntangi ble Asset s

madeI nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty

2. Assets are produced as discrete projects that are intended for lease or sale

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Curr ent are Liabilit ies, made Prov isions, Cont ingencies, for andbyEvthe ents after method, t he 3. Investments being that are accounted equity where the investee is using Chapter 12 Balance Sheet Date

funds to acquire qualifying assets for its principal operations which have not yet begun

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 14 -inventories Leases Generally, and land that are not undergoing preparation for intended use are not qualifying assets When land in the process of being developed, it is a qualifying asset. If land is being developed for lots, th Chapter 15 - is I ncom e Taxes

capitalized cost is added to the cost of the land. The related borrowing costs are then matched again Chapter 16 - interest Em ploy ee Benefit s revenues the lots s'are sold. Chapter 17 when - Stock holder Equit y If, on the other hand, the land is being developed for a building, the capitalized cost Chapter 18 - interest Earnings Per should Share instead be added to the cost of the building. The interest is then matched against19 revenues the building isting depreciated. Chapter - I nterimasFinancial Repor Chapter 20 - Segm ent Repor ting

The capitalization of interest costs would probably not apply to the following situations:

Chapter 21 - Accounting Changes and Cor rection of Er ror s

1. The routine production of inventories in large quantities on a repetitive basis

Chapter 22 - For eign Curr ency

Chapter 23 -any Relatedy Disclosures 2. For assetPart acquisition or self-construction, when the effects of capitalization would not be material, Chapter compared 24 - Specialized I ndustrof iesexpensing interest to the effect Chapter 25 - I nflation and Hyperinflation

3. When qualifying Chapter 26 - Gov er nm entassets Gr an tsare already in use or ready for use Appendix A - Di sclosure Checklist

4. When qualifying assets are not being used and are not awaiting activities to get them ready for use

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Appendix C - Com parison assets of I AS, are US not GAAP, and UKinGAAP 5. When qualifying included a consolidated balance sheet I ndex

6. Tables When principal operations of an investee accounted for under the equity method have already begun List of List of Ex hibits and Ex am ples

7. When regulated investees capitalize both the cost of debt and equity capital

List of Sidebar s

8. When assets are acquired with grants and gifts restricted by the donor to the extent that funds are available from those grants and gifts If funds are borrowed specifically for the purpose of obtaining a qualified asset, the interest costs incurred thereon should be deemed eligible for capitalization, net of any interest earned from the temporary investmen of idle funds. It is likely that there will not be a perfect match between funds borrowed and funds actually applied to the asset production process, at any given time, although in some construction projects funds are drawn from the lender's credit facility only as vendors' invoices, and other costs, are actually paid. Only the

interest incurred on the project should be included as a cost of the project, however. In other situations, a variety of credit facilities may be used to generate a pool of funds, a portion of which is W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f applied to the asset construction or acquisition program. In those instances, the amount of interest to be I n t er n at ion al Accou n t in g St an d ar ds capitalized will be determined by applying an average borrowing cost to the amount of funds committed to th ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali project. Interest cost could include the following: Mir za ley & Sons © 2003 (952 pages) 1. Interest onJohn debtWi having explicit interest rates This com pact and t ruly com pr ehensive qui ck - refer ence

2. Interest related tosfinance pr esent accountleases ants with a guide to depend on for

assistance in the prepar at ion and under standing of financial

3. Amortization of any related discount or premium onI AS. borrowings, or of other ancillary borrowing costs statements present ed in accordance with such as commitment fees

T ab le of Con t en t s

Wiley I AS 20 03—Int er pretation and Application of portion I nternational Account ingbeen avoided if the qualifying asset ha The amount of interest to be capitalized is that that could have Standar ds acquired. Thus, the capitalized amount is the incremental amount of interest cost incurred by the not been Preface entity to finance the acquired asset. A weighted-average of the rates of the borrowings of the entity should be Chapter 1 -selection I ntr oduction to I nter national Accounting ds of the weighted-average of rates requires used. The of borrowings to be used in the Standar calculation Chapter 2 -InBalance Sheet judgment. resolving this problem, particularly in the case of consolidated statements, the best criterion to I ncom e Statement, Stat em ent of ges in Equit y, and that Statem ent have been avoided if the use is the identification and determination of Chan that portion of interest could Chapter 3 of Recognized Gainsacquired. and Losses qualifying assets had not been Chapter 4

- Cash Flow St at em ent The base should be used to multiply rateables by) is the average amount of accumulated net capital Chapter 5 (which - Financial I nstr uments—Cash and the Receiv

expenditures incurred Chapter 6 - I nventor y for qualifying assets during the relevant time frame. Capitalized costs and expenditure are not7the- same terms. Theoretically, a capitalized cost Contr financed Chapter Rev enue Recogni tion, I ncluding Constr uction act s by a trade payable for which no interest is recognized not a capital to which the capitalization rate should be applied. Reasonable Chapter 8 - is Property , Plant ,expenditure and Equipment

approximations of net capital expenditures are acceptable, however, and capitalized costs are generally used - I ntangi ble Asset s in place of capital expenditures unless there is a material difference.

Chapter 9

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

If the average capitalized expenditures exceed the specific new borrowings for the time frame involved, the excess expenditures amount should be multiplied by the weighted-average of rates and not by the rate Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter associated 12 - with the specific debt. This requirement more accurately reflects the interest cost incurred by the Balance Sheet Date entity to bring the fixed asset to a properly functioning position. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 14 - Leases The interest being paid on the debt may be simple or compound. Simple interest is computed on the principa Chapter 15 - I ncom e Taxes interest is computed on principal and on any interest that has not been paid. alone, whereas compound Chapter 16 - Emmay ploy ee Compounding be Benefit yearly,s monthly, or daily. Most fixed assets will be acquired with debt having interest Chapter compounded, 17 - Stock andholder that feature s' Equit yshould be considered when computing the amount of interest to be capitalized Chapter 18 - Earnings Per Share

The total amount of interest actually incurred by the entity during the relevant time frame is the ceiling for the amount of interest cost capitalized. Thus, the amount capitalized cannot exceed the amount actually incurred Chapter 20 - Segm ent Repor ting during the period involved. On a consolidated basis, the ceiling is defined as the total of the parent's interest Chapter 21 - Accounting Changes and Cor rection of Er ror s cost plus that of the consolidated subsidiaries. If financial statements are issued separately, the interest cost Chapter 22 - For eign Curr ency capitalizedshould be limited to the amount that the separate entity has incurred, and that amount should Chapter 23 - Related- Part y Disclosures include interest on intercompany borrowings. The interest incurred is a gross amount and is not netted again Chapter - Specialized I ndustr ies interest24 earned except in rare cases, such as when there are externally restricted tax-exempt borrowings in Chapter 25 I nflation and Hyperinflation certain jurisdictions. Chapter 19 - I nterim Financial Repor ting

Chapter 26 - Gov er nm ent Gr an ts

IAS 23, while choice between immediate expensing and capitalization of qualifying borrowing costs Appendix A - Dioffering sclosure aChecklist did not indicate whether a given St enterprise use procedures, for different qualifying properties. In S Appendix B - I llustrativ e Financial atem ent scould Pr esent ed both Under I AS 2, the Standing hasUK responded to this previously unanswered question. The Appendix C - ComInterpretations parison of I AS, Committee US GAAP, and GAAP

consensus stipulates that if capitalization (the allowed alternative treatment under the standard) is elected, it I ndex should be used for all qualifying assets and for all periods. It also states that if interest is capitalized, the ass must not be reflected at an amount in excess of recoverable amount—any excess is an impairment to be List of Ex hibits and Ex am ples recognized immediately. List of Tables

List of Sidebar s

Example of accounting for capitalized interest costs Assume the following: 1. On January 1, 2003, Gemini Corp. contracted with Leo Company to construct a building for $2,000,00 on land that Gemini had purchased years earlier. 2. Gemini Corp. was to make five payments in 2003, with the last payment scheduled for the date of

2. completion. 3. The building was completed December 31, 2003.

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

4. Gemini Corp. made the following payments during 2003:

ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali Mir za January 1, 2003 $ 2,000,000 John Wi ley & Sons © 2003 (952 pages)

March 31,This 2003 com pact and 4,000,000 t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

June 30, assistance 2003 6,100,000 in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

September 30, 2003

4,400,000

T ab le of Con t en t s 31, 2003 December 3,500,000 Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing $20.000,000 Standar ds Preface

5. Gemini Corp. had the following debt outstanding at December 31, 2003: - I ntr oduction to I nter national Accounting Standar ds

Chapter 1 Chapter 2

- Balance Sheet

Chapter 3

-

a.I ncom A 12%, 4-year note compounded quarterly. Both e Statement, Stat dated em ent 1/1/03 of Chanwith ges interest in Equit y, and Statem ent principal and interest due 12/31/06 (relates specifically to building project) of Recognized Gains and Losses

$8,500,000

Chapter 4 Chapter 5

-b.Cash Flow St at em entnote dated 12/31/99 with simple interest and interest A 10%, 10-year - Financial I nstr uments—Cash and Receiv payable annually on December 31 ables

$6,000,000

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

c.

A 12%, 5-year note dated 12/31/01 with simple interest and interest payable annually on December 31

$7,000,000

Chapter 9 - I of ntangi ble Asset The amount interest to bes capitalized during 2003 is computed as follows: I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty

Average Accumulated Expenditures

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Date

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t heAverage accumulated BalanceExpenditure Sheet Date Capitalization period [a] expenditures

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

1/1/03

$ 2,000,000

12/12

$2,000,000

Chapter3/31/03 15 - I ncom e Taxes 4,000,000

9/12

3,000,000

Chapter 16 - Em ploy ee Benefit s

6/12

3,050,000

Chapter9/30/03 18 - Earnings Per 4,400,000 Share

3/12

1,100,000

Chapter 19 - I nterim Financial Repor ting 12/31/03 3,500,000

0/12

--

Chapter 14 - Leases

6/30/03

6,100,000

Chapter 17 - Stock holder s' Equit y

Chapter 20 - Segm ent Repor ting

$20,000,000 $9,150,000 The number of months between the date when expenditures were made and the date on which interest Chapter 22 - For eign Curr ency capitalization stops (December 31, 2003). Chapter 21 - Accounting Changes and Cor rection of Er ror s [a] Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies

Potential Interest Cost to Be Capitalized

Chapter 25 - I nflation and Hyperinflation

Chapter 26 ($8,500,000 - Gov er nm ent Grxan ts 1.12551) [a] Appendix A - Di sclosure Checklist [b]

650,000

x

-

0.1108

$850,000

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C $9,150,000 - Com parison of I AS, US GAAP, and UK GAAP

=

$1,066,840

=

72,020 $1,138,860

[a]The principal, $8,500,000, is multiplied by the factor for the future amount of $1 for 4 periods at 3% to I ndex

determine List of Tablesthe amount of principal and interest due in 2003. List of Ex hibits and Ex am ples [b]

Weighted-average interest rate

List of Sidebar s

Principal 10%, 10-year note 12%, 5-year note

Interest

$ 6,000,000

$ 600,000

7,000,000

840,000

$13,000,000

$1,440,000

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

The actual interest I nis t er n at ion al Accou n t in g St an d ar ds

ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali Mir za 12%, 4-year note [($8,500,000 ×1.12551) - $8,500,000] John Wi ley & Sons © 2003 (952 pages)

10%, 10-year note ($6,000,000 x 10%)

=

$1,066,840

=

600,000

This com pact and t ruly com pr ehensive qui ck - refer ence 12%, 5-year note x 12%) pr($7,000,000 esent s account ants with a guide to depend= on for 840,000 assistance in the prepar at ion and under standing of financial $2,506,840 statements present ed in accordance with I AS. Total interest T ab le of Con t en t s

The interest cost to be capitalized is the lesser of $1,138,860 (avoidable interest) or $2,506,840 (actual

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing interest). The remaining $1,367,980 ($2,506,840 - $1,138,860) would be expensed. Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds Determining the time period for interest capitalization.

Chapter 2

- Balance Sheet

I ncommust e Statement, Stat emthe entcapitalization of Chan ges inperiod Equit y,should and Statem Three conditions be met before begin.ent Chapter 3 of Recognized Gains and Losses

1. Expenditures for the asset are being incurred - Cash Flow St at em ent

Chapter 4

Chapter 5 - Financial I nstr uments—Cash and Receiv ables 2. Borrowing costs are being incurred Chapter 6

- I nventor y 3. Activities that Recogni are necessary to prepare theuction asset Contr for itsact intended use are in progress Chapter 7 - Rev enue tion, I ncluding Constr s Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

As long as these conditions continue, interest costs can be capitalized.

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Necessary Chapter 10 - activities are interpreted in a very broad manner. They start with the planning process and continu I nvestm ent Pr oper ty

until the qualifying asset is substantially complete and ready to function as intended. These may include technical and administrative work prior to actual commencement of physical work, such as obtaining permits Currand ent may Liabilit ies, Provafter isions, Cont ingencies, Ev entsBrief, after normal t he and approvals, continue physical work hasand ceased. interruptions do not stop the Chapter 12 Balance Sheet Date capitalization of interest costs. However, if the entity intentionally suspends or delays the activities for some Chapter 13 - Financial I nstr uments—Long- Ter m Debt reason, interest costs should not be capitalized from the point of suspension or delay until substantial activiti Chapter 14 - Leases in regard to the asset resume. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 15 - I ncom e Taxes

If the asset in a spiecemeal fashion, the capitalization of interest costs stops for each part as it Chapter 16 - is Emcompleted ploy ee Benefit becomes toholder function as intended. An asset that must be entirely complete before the parts can be used Chapter 17 ready - Stock s' Equit y as intended can continue to capitalize interest costs until the total asset becomes ready to function. Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting

Suspension cessation Chapter 20 - Segmand ent Repor ting

of capitalization.

Chapter 21 - Accounting Changes and Cor rection of Er ror s

If there is an extended period during which there is no activity to prepare the asset for its intended use, capitalization of borrowing costs should be suspended. As a practical matter, unless the break in activity is Chapter 23 - itRelatedPartignored. y Disclosures significant, is usually Also, if delays are normal and expected given the nature of the construction Chapter 24 Specialized I ndustr ies project (such as a suspension of building construction during the winter months), this would have been Chapter 25 - as I nflation anticipated a costand andHyperinflation would not warrant even a temporary cessation of borrowing cost capitalization. Chapter 22 - For eign Curr ency

Chapter 26 - Gov er nm ent Gr an ts

Capitalization would cease when the project has been substantially completed. This would occur when the Appendix A - Di sclosure Checklist asset is ready for its intended use or forent sale a customer. Appendix B - I llustrativ e Financial St atem s Prto esent ed Under The I AS fact that routine minor administrative matter

still needCto- Com be attended toIwould mean that project had not been completed, however. The measure Appendix parison of AS, USnot GAAP, and UKthe GAAP should be substantially complete, in other words, not absolutely finished.

I ndex

List of Tables

Costs in excess of recoverable amounts.

List of Ex hibits and Ex am ples

List of Sidebar s If the capitalization of borrowing costs causes the carrying value of the asset to exceed its recoverable value

property, plant, or equipment) or its net realizable value (if an item held for resale), it will be necessary to record an adjustment to write the asset carrying value down. In the case of plant, property, and equipment, a later write-up may occur due to use of the allowed alternative (i.e., revaluation) treatment, recognizing fair va increases, in which case, as described earlier, recovery of a previously recognized loss will be reported in earnings.

Consistency of application.

IAS 23 did not address the question of whether an entity would be justified in capitalizing interest costs (i.e., using the allowed alternative treatment) for some qualifying assets, while expensing currently (i.e., applying t benchmark treatment) in the acquisition, W ile yinterest I AS 2 0incurred 03 : I n t erp re t at ion an d Apconstruction, p licat io n o f or production of other qualifying asse While the issue was not raised at the time, logic suggested that if both methods were employed for qualifying I n t er n at ion al Accou n t in g St an d ar ds assets by a singlebyentity, it would make meaningful interpretation of the resulting financial statements more ISBN:0471227366 Bar r y J. Epstein and Abbas Ali difficult for users.Mir Subsequently, za the IASC's Standing Interpretations Committee (SIC) addressed this matter. concluded that if John the allowed (i.e., capitalizing borrowing costs) is used for some qualifyin Wi ley &alternative Sons © 2003method (952 pages) assets, the method should be used for all such assets. qui ck - refer ence This com pact and t ruly com pr ehensive pr esent s account ants with a guide to depend on for

In reaching this conclusion, thethe committee weighed the standing guidanceofalready contained in IAS 27 (on consolidate assistance in prepar at ion and under financial statements present ed in with I AS. financial reporting) and the Framework foraccordance the Preparation and Presentation of Financial Statements. The existing standard on consolidations provides that uniform accounting policies are to be used for like T ab le of Con t en t s transactions and other events in similar circumstances. The logic is to avoid having consolidated financial Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing statements that are the summation of dissimilar measurements of like transactions or other economic Standar ds phenomena. The IASC's Framework for the Preparation and Presentation of Financial Statements similarly Preface expresses the notion that measurement of like transactions and other events should be carried out in a Chapter 1 - I ntr oduction to I nter national Accounting Standar ds consistent manner throughout an entity and over the time of its ongoing existence, for purposes of both Chapter 2 - Balance Sheet separate and consolidated financial reporting. Finally, as IAS 23 stipulates only one alternative methodology, I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - of interest costs, the SIC was led to conclude that the intention was to not leave financial capitalization of Recognized Gains and Losses statement preparers with any further discretion. Accordingly, the Committee's finding was that it would not be Chapter 4 - Cash Flow St at em ent appropriate to apply capitalization to some but not all qualifying assets. Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y Disclosure requirements.

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8 - Property , Plant ,accounting and Equipment With respect to an entity's for borrowing costs, the financial statements must disclose which polic Chapter 9 - Ior ntangi ble Asset s (benchmark allowed alternative) is being utilized, as well as the actual borrowing costs capitalized during t

period and the I nterests rate used in Financial to determine Instr um theent amount s, Associat of such es, Joint costsVentur eligible es, for andcapitalization. As noted above, th I nvestm ent Pr oper ty of rates on all borrowings included in an allocation pool or the actual rate o rate will be the weighted-average Chapter - Business Combinations Consolidat ed Fin Statements specific11 debt identified with a given and asset acquisition or ancial construction project. Chapter 10 -

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Proposed Changes to IAS 16

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

As part of its current Improvements Project, the IASB has proposed a number of changes to the requirement

Chapter 15 -16. I ncom e Taxes under IAS Since these are anticipated to be approved and enacted, probably by 2003, they are Chapter 16 Em ploy Benefitparagraphs. s summarized in the ee following Chapter 17 - Stock holder s' Equit y

The revised standardPer willShare amend the definition of residual value to clarify that the reporting entity is to use Chapter 18 - Earnings current19 (i.e., date)ting prices for assets of an age and condition similar to the estimated age an Chapter - I asset nterimacquisition Financial Repor condition the asset whenting it reaches the end of its useful life. It is not expected to project future salvage Chapter 20 of - Segm ent Repor

values,21 which would inevitably accountoffactors Chapter - Accounting Changestake andinto Cor rection Er ror s such as price level changes that would not be releva to the cost allocation process.

Chapter 22 - For eign Curr ency

Chapter 23 - RelatedPart yIAS Disclosures Importantly, the revised 16 will stress that a component approach to depreciation is required, and also to Chapter 24 Specialized I ndustr iesreplace or renew a component of an item or property, plant, and equipment. the treatment of expenditures to Chapter 25 -component I nflation and Hyperinflation Under the approach, each material component of an asset with a different useful life or different Chapter 26 Gov er nm ent Gr anbe ts depreciated separately, and expenditures for replacing or renewing the pattern of depreciation must Appendix A - are Di sclosure Checklist While this principle is already established under existing IAS, the revised component to be capitalized. Appendix languageB would - I llustrativ provide e Financial greater St consistency atem ent s Pr ofesent application, ed Underit Iis ASbelieved. Appendix C - Com parison of I AS, US GAAP, and UK GAAP

The cost of long-lived assets includes all costs necessary to bring them to the place where they are to be use and includes such ancillary costs as testing and calibrating, where relevant. The revised standard will state th List of Tables to be netted against such costs are any revenues received during the installation process. As an example, it List of Ex hibits and Ex am ples cites the sales of prototypes or samples produced during this procedure. Absent this rule, the cost of the List of Sidebar s equipment could have been "grossed up" for all the installation and testing costs, while the revenues produce as a by-product of the efforts would be taken into current earnings, thereby creating a mismatching of costs and revenues. I ndex

The revised standard will distinguish the situation in the preceding paragraph from other situations where incidental operations may occur before or during the construction or development activities. For example, it notes that income may be earned through using a building site as a car parking lot until construction begins. Because incidental operations such as this are not necessary to bring the asset to the location and working

condition necessary for it to be capable of operating in the manner intended by management, the income and related expenses of incidental operations are to be recognized in current earnings, and included in their respective classifications of income expense the W ile y I AS 2 0 03 : I and n t erp re t at ioninan d income Ap p licatstatement. io n o f I n t er n at ion al Accou n t in g St an d ar ds

There will be further guidance provided on the matter of including the estimated cost of dismantlement, ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali disposition, or rehabilitation to the cost of the assets to which these pertain, as is already required under IAS Mir za 16 (discussed earlier Specifically, John in Withis ley chapter). & Sons © 2003 (952 pages)it would establish that if the costs relate to land, the costs must be amortized over the expected period of use of the land, even though land is, itself, a nondepreciating This com pact and t ruly com pr ehensive qui ck - refer ence asset. It further states that when the expected termtoofdepend use of the land is limited, it may also be necessary to pr esent s account ants with a guide on for depreciate the cost of the land. This probably applies most obviously to situations where the land will be assistance in the prepar at ion and under standing of financial ed in for accordance with minerals, I AS. damaged throughstatements use, as in present strip mining coal or other and thus suffer from both a limited period use and diminished value at the termination of that period. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of IIAS nternational Account ingexchanges of similar items of propert As discussed earlier in this chapter, the revised 16 will specify that Standar ds

plant, and equipment are to be measured at fair value, except that when the fair value of neither of the asset exchanged can be determined reliably, the cost of the asset acquired in the exchange is measured at the Chapter 1 - I ntr oduction to I nter national Accounting Standar ds carrying amount of the asset given up. Exchanges of dissimilar property items is already addressed by the Chapter - Balancewith Sheet existing2 standard, fair value being the required mode of measurement. Preface

Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

of Recognized Gains Losses IAS 16 addresses the criteria forand adding subsequent expenditures to the capitalized cost of long-lived assets Chapter 4 - Cashwould Flow St at em ent An amendment replace the "originally assessed standards of performance" as a criterion with the Chapter 5 of - Financial I nstr uments—Cash and Receiv ables the expenditure was made." "standard performance assessed immediately before Chapter 6

- I nventor y The amendment will also make it clear that Constr the residual of san asset is to be reviewed at each balance Chapter 7 - Rev enue Recogni tion, I ncluding uction value Contr act

sheet date-whether the asset is being carried at amortized historical cost (the benchmark treatment) or at a Property , Plant , and Equipment revalued amount (the allowed alternative). A change in the asset's residual value, other than a change Chapter 9 - I ntangi ble Asset s reflected in an impairment loss recognized under IAS 36, would be accounted for prospectively as an I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - to future depreciation. Furthermore, it will be mandated that reviews of useful life and depreciatio adjustment I nvestm ent Pr oper ty method must occur at least at each financial year-end. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 8

Curr ent will Liabilit Prov Cont ingencies, and Ev ents after t he A new requirement be ies, added toisions, the effect that compensation received from third parties (e.g., insurers) fo Chapter 12 Balance Sheet Date

items of property, plant, and equipment that were impaired, lost, or given up is to be reported in earnings in t period received, with separate disclosure made in the financial statements. In other words, these payments Chapter 14 - Leases cannot be used to reduce the capitalized cost of the replacement asset. This principal was already establishe Chapter by SIC 15 14.- I ncom e Taxes Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 16 - Em ploy ee Benefit s

Under the revision toyIAS 16, depreciation of an item of property, plant, and equipment will not ceas Chapter 17 -expected Stock holder s' Equit when it18 becomes temporarily idle or is retired from active use and held for disposal. This will conflict with the Chapter - Earnings Per Share requirement GAAP,Repor which holds that it would be mismatching to depreciate equipment not being Chapter 19 - I under nterim US Financial ting used to20 produce which Chapter - Segmgoods ent Repor tingare currently available for sale. Chapter 21 - Accounting Changes and Cor rection of Er ror s

The amendment to IAS 16 would delete certain currently required disclosures, add new disclosures, and eliminate several currently outstanding interpretations.

Chapter 22 - For eign Curr ency

Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Chapter 9: Intangible Assets I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

za PerspectiveMirand Issues

John Wi ley & Sons © 2003 (952 pages)

Long-lived assetsThis are com those pact that and will t ruly provide com pr economic ehensive benefits qui ck - refer to ence an enterprise for a number of future pr esent s account ants withlong-lived a guide to depend on fordetermination of the appropriate cost periods. Accounting standards regarding assets involve the prepar at ion and under standing of financial at which to recordassistance the assetsin initially, the amount at which to present the assets at subsequent statements present ed in accordance with I AS. reporting dates, and the appropriate method(s) to be used to allocate the cost or other recorded values T ab le of t en t s being benefited. Under international accounting standards, while historical cost is the over theCon periods defined revalued amounts may also beAccount used for Wiley I ASbenchmark 20 03—Int ertreatment, pretation and Application of I nternational ingpresenting long-lived assets in Standar ds the statement of financial position if certain conditions are met. Preface

Long-lived are primarily in character, anddsthey may be classified into two basic Chapter 1 -assets I ntr oduction to I nteroperational national Accounting Standar

types: tangible and intangible. Tangible assets have physical substance, while intangible assets either Chapter 2 - Balance Sheet have no physical substance, or have a value that is not conveyed by what physical substance they do

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - the value of computer software is not reasonably measured with reference to the cost of the have (e.g., of Recognized Gains and Losses

diskettes whichFlow these Chapter 4 on - Cash St atare em contained). ent Chapter 5

- Financial I nstr uments—Cash and Receiv ables

The value of an intangible asset is a function of the rights or privileges that its ownership conveys to the - I nventor y business enterprise. Intangible assets can be further categorized as either

Chapter 6 Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

1. Identifiable, or

Chapter 9 - I ntangi ble(i.e., Asset s 2. Unidentifiable goodwill). Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

nvestm ent Princlude oper ty patents, copyrights, brand names, customer lists, trade names, and Identifiable Iintangibles Chapter 11 - Business Combinations andbeConsolidat ancial Statements other specific rights that typically can conveyededbyFinan owner without necessarily also transferring related physical Curr ent assets. Liabilit Goodwill, ies, Prov isions, on the Cont other ingencies, hand, cannot and Evbe ents meaningfully after t he transferred to a new Chapter 12 Balance Sheet the Dateother assets and/or the operations of the business. owner without also selling Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Research development costs are also addressed in this chapter. Formerly the subject of a Chapter 14 and - Leases separate standard (IAS 9), but more recently guided by the standard covering all Chapter 15international - I ncom e Taxes

intangibles 38), Chapter 16 - (IAS Em ploy eeresearch Benefit s costs must be expensed as incurred, whereas development costs, as

defined and subject to certain limitations, are to be classified as assets and amortized over the period to be benefited.

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

Chapter 19 - I nterim Financial of Repor ting (IAS 36) pertains to both tangible and intangible long-lived The standard on impairment assets Chapter - Segm ent will Repor ting assets.20 This chapter consider the implications of this standard for the accounting for intangible Chapter - Accounting Changesan and Cor rection ofintangible Er ror s assets.21 The matter of goodwill, unidentifiable asset deemed to be the residual cost of a Chapter 22 combination - For eign Curr ency business accounted for as an acquisition, has been addressed by IAS 22 and is covered in Chapter Chapter2311; - Relatedaccounting Part yforDisclosures all other intangibles, addressed in IAS 38, is discussed in this chapter. Chapter 24 - Specialized I ndustr ies

As part of its twin projects considering revisions to the standards on business combinations and related topics, the IASB is reviewing the accounting for intangibles in general, so that the accounting for Chapter 26 - Gov er nm ent Gr an ts acquired intangibles, including goodwill and in-process research and development, will be consistent Appendix A - Di sclosure Checklist with that prescribed for intangibles acquired by other means or internally generated by the reporting Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS entity. These projects may result in changes as early as 2003. Chapter 25 - I nflation and Hyperinflation

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

I ndex It is highly likely that, among other possible changes, the IASB will adopt the new US GAAP approach List to goodwill of Tablesaccounting, under which goodwill is no longer subject to periodic amortization, but rather is

tested forExpossible List of Exannually hibits and am ples impairment. With such an exemption from amortization, the separate recognition List of Sidebarofs other intangibles, often acquired together with goodwill (e.g., customer lists), becomes much more critical, since the other intangibles would continue to be subject to amortization, with a possible new exception. That exception would be for intangibles having indefinite lives; IASB is inclined to permit such categorization for the first time (again, following closely the US GAAP standard issued in 2001), which would postpone amortization until a finite life could be assessed for each such asset. The expected revised IAS 38 would also ease the process of assigning lives longer than twenty years to intangibles by removing the current requirement to impairment test such intangibles annually if certain defined conditions are met. Finally, changes might be made to the criteria for capitalization of development costs, including acquired in-process research and development, although it appears that

some discrepancies in the criteria for deferral as between internally generated and acquired development efforts might be unavoidable. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Sources I n t er n at ion al Accou n t in g St an d ar dsof IAS by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

za 6, 32 IAS 36, 38 MirSIC John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

ile yTerms I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f DefinitionsWof I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Amortization Mir za

John Wi ley & Sons © 2003 (952 pages)

In general, the systematic allocation of the cost of a long-term asset over its useful This com pact and t ruly com pr ehensive qui ck - refer ence economic the term is also used to specifically define the allocation process for pr esent slife; account ants with a guide depend ontofor intangible assets. assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Carrying amount T ab le of Con t en t s

The amount at which an asset is presented on the balance sheet, which is its cost (or

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing other allowable basis), net of any accumulated depreciation and impairment losses. Standar ds Preface

Cash generating unit

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter Cost8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

The smallest identifiable group of assets that generates cash inflows from continuing use, largely independent of the cash inflows associated with other assets or groups of I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 assets. of Recognized Gains and Losses Corporate assets

Assets, excluding goodwill, that contribute to future cash flows of both the cash generating unit under review for impairment and other cash generating units.

Chapter 10 -

Amount of cash or cash equivalent paid or the fair value of other consideration given

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and to acquire or construct an asset. I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Depreciable amount Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Cost Sheet of an asset Balance Date or the other amount that has been substituted for cost, less the

residual value of the asset.

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Depreciation

Chapter 15 - I ncom e Taxes

Systematic and rational allocation of the depreciable amount of an asset over its economic life.

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Development

Chapter 19 - I nterim Financial Repor ting

The application of research findings or other knowledge to a plan or design for the

Chapter 20 - Segm ent Reporof ting production new or substantially improved materials, devices, products, processes, Chapter 21 - Accounting Changes and prior Cor rection of Er ror s systems, or services to commencement of commercial production or use. This Chapter 22 - For should eign Curr beency distinguished from research. Chapter 23 - Related- Part y Disclosures

Fair 24 value Chapter - Specialized I ndustr ies Chapter 25 - I nflation andthat Hyperinflation Amount would be obtained for an asset in an arm's-length exchange transaction Chapter 26 - Govbetween er nm ent knowledgeable Gr an ts willing parties. Appendix A - Di sclosure Checklist

Goodwill Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS The excess of aand business combination accounted for as an acquisition Appendix C - Com parison of Iof AS,the UScost GAAP, UK GAAP I ndex List of Tables

over the fair value of the net assets thereof, to be amortized over its useful economic life that, as a rebuttable presumption, is no greater than twenty years.

List of Ex hibits and Ex am ples

Impairment loss

List of Sidebar s

The excess of the carrying amount of an asset over its recoverable amount.

Intangible assets Nonmonetary assets without physical substance that are held for use in the production or supply of goods or services or for rental to others, or for administrative purposes, which are identifiable and are controlled by the enterprise as a result of past events, and from which future economic benefits are expected to flow.

Monetary assets Assets whose amounts are fixed in terms of units of currency. Examples are cash, accounts notes W ile y I receivable, AS 2 0 03 : I and n t erp re t atreceivable. ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Net selling price ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Miramount za The which could be realized from the sale of an asset by means of an arm'sJohn transaction, Wi ley & Sonsless © 2003 (952of pages) length costs disposal. This com pact and t ruly com pr ehensive qui ck - refer ence esent s account ants with a guide to depend on for Nonmonetary pr transactions

assistance in the prepar at ion and under standing of financial

Exchanges and nonreciprocal transfers that involve little or no monetary assets or statements present ed in accordance with I AS. liabilities. T ab le of Con t en t s Wiley Nonreciprocal I AS 20 03—Int transfer er pretation and Application of I nternational Account ing Standar ds

Transfer of assets or services in one direction, either from an enterprise to its owners or another entity, or from owners or another entity to the enterprise. An enterprise's Chapter 1 - I ntrreacquisition oduction to I nter national Accounting ds of its outstanding stock Standar is a nonreciprocal transfer. Preface

Chapter 2

- Balance Sheet

Recoverable I ncom amount e Statement, Stat em ent of Chan ges in Equit y, and Statem ent -

Chapter 3 Chapter 4

of Recognized Gains and Losses

The greater of an asset's net selling price or its value in use.

- Cash Flow St at em ent

Chapter 5 - Financial I nstr uments—Cash and Receiv ables Research Chapter 6 Chapter 7

- I nventor y The original and planned investigation undertaken with the prospect of gaining new - Revscientific enue Recogni tion, I ncluding Constr uction Contr act s This should be distinguished or technical knowledge and understanding.

Chapter 8

- Property , Plant , and Equipment fromdevelopment.

Chapter 9

- I ntangi ble Asset s

Residual Ivalue nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr amount oper ty expected to be obtained on ultimate disposition of the asset after Estimated Chapter 11 - Business Combinations and Consolidat ed Fin ancial its useful life has ended, net of estimated costsStatements of disposal. Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balance Sheet Date Useful life

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Period over which an asset will be employed in a productive capacity, as measured

Chapter 14 - Leases either by the time over which it is expected to be used, or the number of production Chapter 15 - I ncom e Taxes units expected to be obtained from the asset by the enterprise. Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS and 2 0 03 : Examples I n t erp re t at ion an d Ap p licat io n o f Concepts, Rules, I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

Background Mir za

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages)

Over the years, the role of intangible assets has grown more important for the operations and This com pact and t ruly com pr ehensive qui ck - refer ence prosperity of many types businesses, as athe "knowledge-based" pr esent sof account ants with guide to depend on for economy becomes more dominant. However, until recently, accounting standards have tended to give attention to, or ignore entirely, assistance in the prepar at ion and under standing of scant financial statements presentupon ed in such accordance the appropriate means of reporting assets.with As IaAS. consequence, practice has been exceptionally diverse, with enterprises in nations whose standards had not addressed accounting for T ab le of Con t en t s intangibles typically being much more aggressive in capitalizing a range of intangibles, including Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing internally Standar ds generated goodwill, vis-a-vis those entities operating under more strictly defined rules limiting cost deferral and requiring rapid amortization of those costs which could be deferred. Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds Thus, in many countries it has been common practice to defer recognition of certain types of

Chapter 2 - Balance Sheet expenditures, including advertising costs and setup costs, the future benefits of which are very difficult I ncom eaddition, Statement, Statintangibles em ent of Chan Equit y, and Statem ent to demonstrate. In when suchges as in "brand names" and "internally generated Chapter 3 of Recognized Gains and Losses

goodwill" have been capitalized, there has often been a great reluctance to amortize the costs against - Cash Flow St at em ent earnings over a reasonable time horizon, on the basis that these have either indefinite or infinite lives.

Chapter 4 Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6 - I nventor While advocates for ysuch practices have made the claim that future benefits will flow from such

expenditures (else, incurtion, those costs?),Constr experience has shown Chapter 7 - Rev enuewhy Recogni I ncluding uction Contr act s that these deferrals often result in a subsequent year in large bath" write-offs. This pattern of foregone periodic expense and sporadic Chapter 8 - Property , Plant"big , and Equipment charge-offs impedes Chapter 9 - clearly I ntangi ble Asset sthe utility of financial statements for one of their primary purposes, namely, the predicting of future performance (both ines, terms earnings and cash flows) of the I nterests in economic Financial Instr um ent s, Associat JointofVentur es, and reporting entity. While that predicting the useful economic lives of certain intangibles is I nvestm entall Prcan operagree ty exceptionally challenging, the needand to honor the matching principle and to provide relevant information Chapter 11 - Business Combinations Consolidat ed Fin ancial Statements for use by investors, creditors and others has driven most standard setters Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t heto impose rather stringent Chapter 12 Balance Date and measurement of intangible assets. requirements on the Sheet recognition Chapter 10 -

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

International accounting standards first addressed accounting for intangibles in a thorough way with IAS 38, which was promulgated after a rather long and contentious gestation period that included the Chapter 15 - I ncom e Taxes issuance of two Exposure Drafts. IAS 38 is a comprehensive standard which superseded an earlier Chapter 16 - Em ploy ee Benefit s standard dealing solely with research and development expenditures. It establishes recognition criteria, Chapter 17 - Stock holder s' Equit y measurement bases, and disclosure requirements for intangible assets. The standard also prescribes Chapter 18 - Earnings Per Share impairment testing for intangible assets, to be undertaken on a regular basis. This is to ensure that only Chapter - I nterim Financialvalues Repor ting assets 19 having recoverable are capitalized and carried forward to future periods. Chapter 14 - Leases

Chapter 20 - Segm ent Repor ting

It is interesting to note that in prescribing the amortization Chapter 21 - Accounting Changes and Cor rection of Er ror s period, IAS 38 has ruled out the concept of intangible having infinite or indefinite lives. In fact, by imposing additional burdens on those who Chapter 22 assets - For eign Curr ency would assign lives greater than twenty years to such assets, the standard set a rather conservative Chapter 23 - RelatedPart y Disclosures approach recognitionI ndustr and measurement of intangibles. However, the IASB is currently weighing Chapter 24 to - Specialized ies

revisions would remove the refutable presumption of a twenty-year maximum economic life and Chapter 25 that - I nflation and Hyperinflation

would further acknowledge the existence of indefinite-life intangibles, not subject to amortization at all (at least, until a finite life was determinable). These potential revisions are being pondered largely as Appendix A - Di sclosure Checklist part of IASB's effort to "converge" its standards, in this case to the recently revised US GAAP Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS standards on business combinations and intangibles. (See further discussion in Chapter 11.) Chapter 26 - Gov er nm ent Gr an ts

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

I ndex Also, by simultaneously withdrawing the existing standard on research and development costs (the List of Tables former IAS 9) and revising the standard on business combinations (IAS 22), the former IASC List considerably of Ex hibits streamlined and Ex am ples and rationalized the accounting standards relating to accounting for intangible

assets. As the List of Sidebar s rules presently exist, therefore, they do form a coherent and consistent set of requirements for the financial reporting on all such assets.

Scope of the standard. The standard applies to all enterprises. It prescribes the accounting treatment for intangible assets, including development costs. However, it does not apply to intangible assets covered by other IAS; for instance, deferred tax assets covered under IAS 12, leases that fall within the purview of IAS 17, goodwill arising on a business combination and dealt with by IAS 22, assets arising from employee

benefits that are covered by IAS 19, and financial assets as defined by IAS 32 and covered by IAS 27, 28, 31, and 39. This standard does not apply to intangible assets arising in insurance companies from contracts with policyholders, theApcosts for, or development and W ile y I AS 2nor 0 03to: Imineral n t erp rerights t at ionand an d p licatofioexploration n of extraction of, minerals, oil, natural gas, and similar nonregenerative resources. However, the standard I n t er n at ion al Accou n t in g St an d ar ds does apply to intangible assets that are used to develop or maintain these activities. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za

Identifiable intangible licenses, customer lists, brand names, import John assets Wi ley &include Sons © patents, 2003 (952 copyrights, pages) quotas, computerThis software, leasehold improvements, marketing rights, and specialized know-how. com pact and t ruly com pr ehensive qui ck - refer ence These items haveprinesent common the fact that there is little or no tangible substance to them, they have an s account ants with a guide to depend on for economic life of greater thaninone they a standing decline inofutility over that period which can be assistance the year, preparand at ion andhave under financial statements presentIn edmany in accordance with I AS. the asset is separable; that is, it could be measured or reasonably assumed. but not all cases, sold or otherwise disposed of without simultaneously disposing of or diminishing the value of other T ab le of Con t en t s assets held. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Intangible assets are, by definition, assets that have no physical substance. However, there may be instances where intangibles also have some physical form. For example

Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2 -may Balance Sheet evidence of an asset's existence, such as a certificate indicating that a There be tangible patent had been granted, but the asset itself; I ncom e Statement, Statthis em does ent ofconstitute Chan ges in Equit y, and Statem ent Chapter 3 of Recognized Gains and Losses

Some Chapter 4 -intangible Cash Flowassets St at emmay ent be contained in or on a physical substance such as a compact disc (in the5case of computer software); andand Receiv ables Chapter - Financial I nstr uments—Cash Chapter 6

- I nventor y

Identifiable assets that result from research and development activities are intangible assets - Rev enue Recogni tion, I ncluding Constr uction Contr act s because the tangible prototype or model is secondary to the knowledge that is the primary outcome Chapter 8 - Property , Plant , and Equipment of those activities. Chapter 7 Chapter 9

- I ntangi ble Asset s

In the case of I nterests assets in that Financial have both Instrtangible um ent s,and Associat intangible es, Joint elements, Ventur es, there andmay be some confusion Chapter 10 I nvestm ent Prthem oper tyas tangible or intangible assets. Considerable judgment is required in about whether to classify Chapter - Businesssuch Combinations Consolidat ed or Fintangible ancial Statements properly11classifying assets asand either intangible assets. As a rule of thumb, the asset Curr ent Liabilit ies, an Prov isions, Cont ingencies, and Evasset ents after t heon the relative or should be classified as either intangible asset or a tangible based Chapter 12 Sheet comparativeBalance dominance orDate significance of the tangible or the intangible component (or element) of the Chapter 13 -instance, Financial computer I nstr uments—LongTer m asset. For software that is Debt not an integral part of the related hardware equipment is Chapter 14 Leases treated as software (i.e., as an intangible asset). Conversely, certain computer software, such as the Chapter 15 system, - I ncom ethat Taxes operating is essential and an integral part of a computer, is treated as part of the hardware Chapter equipment 16 -(i.e., Em ploy as ee property, Benefit plant, s and equipment as opposed to an intangible asset). Chapter 17 - Stock holder s' Equit y

The concept embodied in this standard is somewhat controversial, and in some respects also vague and unclear, being subjective and open to interpretation. In various attempts to explain this concept, Chapter 19 - I nterim Financial Repor ting different techniques have been used by commentators. Some have restricted themselves to detailed Chapter 20 - Segm ent Repor ting examples, while others (perhaps exhibiting over enthusiasm to clarify the concept) have gone further, Chapter 21 - Accounting Changes and Cor rection of Er ror s even so far as to argue that IAS 38 draws a distinction between an "intangible asset" and an "intangible Chapter 22 - For eign Curr ency resource." In this typology, the latter expression has been conceived of a broader concept that includes Chapter 23 assets - Relatedy Disclosures intangible (asPart defined by IAS 38), as well as other hypothetical assets. For example, intangible Chapter 24 Specialized I ies items such as patents and copyrights (which would meet the resources would includendustr not only Chapter 25 I nflation and Hyperinflation qualifying criteria set forth for intangible assets in IAS 38), but also items such as customer lists and Chapter 26 generated - Gov er nmbrands ent Gr an ts internally (which do not meet the definition of intangible assets). While this may serve Appendix A - Di sclosure the Checklist some useful purpose, coining of a phrase such as "intangible resources" (which is found neither in Appendix the IASCB Framework - I llustrativ enor Financial in IAS St 38) atem to be entused s Pr esent in distinction ed Under from I AS the term "intangible asset," is illadvised.CGiven fact that IASUS 38GAAP, (paragraph 7)GAAP has defined an asset as a "resource... controlled by Appendix - Comthe parison of I AS, and UK the enterprise...", the creation of alternative definitions and concepts is probably not appropriate. I ndex Chapter 18 - Earnings Per Share

List of Tables

Recognition Criteria

List of Ex hibits and Ex am ples List of Sidebar s

Identifiable intangible assets have much similarity to tangible long-lived assets (property, plant, and equipment), and the accounting for them is accordingly very similar. The key criteria for determining whether intangible assets are to be recognized are 1. Whether the intangible asset has an identity separate from other aspects of the business enterprise; 2. Whether the use of the intangible asset is controlled by the enterprise as a result of its past actions and events;

3. Whether future economic benefits can be expected to flow to the enterprise; and W ile y I AS 2 0 03 : I ncan t erpbe re tmeasured at ion an d reliably. Ap p licat io n o f 4. Whether the cost of the asset I n t er n at ion al Accou n t in g St an d ar ds

Identifiability.by Bar r y J.

ISBN:0471227366 Epstein and Abbas Ali Mir za Johnthe Wiprincipal ley & Sons © 2003 (952 As to the first issue, concern is topages) distinguish these intangibles from goodwill arising from a business combination, thepact accounting which is addressed by IAS 22. Goodwill is the residual cost of This com and t rulyfor com pr ehensive qui ck - refer ence pr esent s account with a guide to depend on for a business acquisition that cannotants be assigned either to tangible assets, net of any liabilities assumed, assistance in the prepar at ion and under standing of financial or to identifiable intangibles. Unlike identifiable intangibles, goodwill cannot be separated from the statements present ed in accordance with I AS.

assets (the physical as well as the identifiable intangible) it was acquired with. Since goodwill cannot be T ab le of Con t s its real value is often questioned and the period over which it can be amortized is, severed andt en sold,

accordingly, often made as brief possible. of (But note that goodwill Wiley I AS 20 03—Int er pretation andas Application I nternational Accountmay ing become a nonamortizing, Standar ds impairment-tested asset under a revised or superseded IAS 22; see Chapter 11 for a discussion.) Preface

To capitalize theoduction cost of to an Iintangible asset other than goodwill, it must have an independently Chapter 1 - I ntr nter national Accounting Standar ds

observable and a cost that can be assigned to it. Independently observable existence can be Chapter 2 - existence Balance Sheet

established if the enterprise can rent, sell, exchange, or distribute the future economic benefits from the

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter assets 3without also disposing of and other assets; that is, that an owner can convey them without of Recognized Gains Losses

necessarily physical assets. Goodwill, on the other hand, cannot be Chapter 4 - also Cash transferring Flow St at emrelated ent

meaningfully transferred a new owner and without also selling other assets, and hence, will not meet the Chapter 5 - Financial I nstrtouments—Cash Receiv ables recognition- criteria for intangible assets as defined by IAS 38. I nventor y

Chapter 6

Chapter 7 - Rev Recogni tion, I ncluding Constr Contr act sor by the fact that the asset is Identifiability canenue be demonstrated by a legal rightuction over an asset Chapter 8 Property , Plant , and Equipment separable from the rest of the business. It is worth noting that while IAS 38 does not regard Chapter 9 - I ntangi Asset s recognition criterion, some national standards (UK GAAP, for instance) "separability" as anble additional I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and still retain Chapter 10 it - as one of the qualifying criteria for recognition. At the time it adopted IAS 38, the IASC I nvestm ent Pr oper ty Board rejected the views of commentators on the antecedent Exposure Drafts who had advocated the Chapter 11of- "separability" Business Combinations and Consolidat ed Fin ancial Statements inclusion as an additional recognition criterion. In setting forth the basis for its Curr ent Liabilit ies,several Prov isions, Contfor ingencies, and Ev ents after t he perhaps the most conclusions, the Board cited reasons this rejection. Among these, Chapter 12 Balance Sheet Date

noteworthy is the following:

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

...if a "separability" criterion was applicable to all intangible assets, many intangible assets (for example, a license to operate a radio station) would not be shown separately in the financial Chapter 15 - I ncom e Taxes statements even if they meet the (IASC) Framework's definition of, and recognition criteria for, an Chapter 16 - Em ploy ee Benefit s asset. Chapter 14 - Leases

Chapter 17 - Stock holder s' Equit y

Chapter 18 supportive - Earnings Per Share While not of imposing separability as a threshold criterion for intangible assets, IASC Chapter supported 19 -the I nterim view that Financial Repor ting Chapter 20 - Segm ent Repor 1. Demonstration of theting separability of an asset can assist an enterprise in identifying an intangible Chapter asset; 21 - Accounting Changes and Cor rection of Er ror s and Chapter 22 - For eign Curr ency

2. The any enterprise Chapter 23 - inability Related-of Part Disclosuresto demonstrate the separability of an asset will make it harder to thatI ndustr there ies is an identifiable intangible asset. Chapter demonstrate 24 - Specialized Chapter 25 - I nflation and Hyperinflation

Currently, IASB is embarked upon a thorough review of accounting for business combinations, a corollary of which is the accounting for intangibles (including goodwill and in-process research and Appendix A - Di sclosure development) acquiredChecklist in such combinations. Based on deliberations to mid-2002, it appears that the Appendix B I llustrativ Financial Stasset atem ent s Pr esent will ed Under I AS existing philosophy fore intangible recognition be essentially continued. A replacement for IAS Appendix C Com parison of I AS, US GAAP, and UK GAAP 22 will likely stipulate that intangible assets acquired in a business combination should be recognized I ndex separately from goodwill if they arise as a result of contractual or legal rights or are separable from the List of Tables business. The existence of contractual or legal rights and separability will not, however, form part of the List of Ex hibits Ex ambut ples definition of anand asset, rather, will serve as indicators that an entity controls the future economic benefits embodied in the item. It would appear, therefore, that neither of these characteristics are List of Sidebar s intended to be absolute requirements, which would continue current practice in this area. Chapter 26 - Gov er nm ent Gr an ts

Control. The provisions of IAS 38 require that an enterprise should be in a position to control the use of the intangible asset. Control implies the power to both obtain future economic benefits from the asset as well as restrict the access of others to those benefits. Normally enterprises register patents, copyrights, etc. to ensure its control over an intangible asset. A patent gives the holder the exclusive right to use

the underlying product or process without any interference or infringement from others. Intangible assets arising from technical knowledge of staff, customer loyalty, long-term training benefits, etc., will have difficulty meeting criteria spite ofAp expected W ile ythis I ASrecognition 2 0 03 : I n t erp re t atinion an d p licat iofuture n o f economic benefits from them. This is due to theI fact that the enterprise would find it impossible to fully control these resources or to n t er n at ion al Accou n t in g St an d ar ds prevent others from controlling them. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za

For instance, even if an considerable expenditure on training that will supposedly John Wienterprise ley & Sonsincurs © 2003 (952 pages) increase staff skills, the economic benefits from skilled staff cannot be controlled, since trained This com pact and t ruly com pr ehensive qui ck - refer ence employees could pr leave their current employment and move their career to other employers. esent s account ants with a guide to dependon oninfor Hence, staff training expenditures, no matter in amount, do not qualify as an intangible assistance in the prepar at ion how and material under standing of financial statements presentofeddeferring in accordance with I AS.based on the reasoning that future asset. In other words, the practice training costs economic benefits from enhanced staff skills will flow to the enterprise can no longer be justified, after T ab le of Con t en t s the promulgation of the IAS on Intangible Assets. Other often-quoted examples of expenses that do not Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing qualifyds as intangible assets based on the criterion of control are market share, customer relationships, Standar customer loyalty (unless protected by enforceable legal rights), and portfolio of clients. Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Future economic benefits.

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Under IAS Chapter 3 -38, it is mandated that an intangible asset be recognized only if it is probable that future of Recognized Gains and Losses

economic benefits specifically associated therewith will flow to the reporting entity, and the cost of the - Cash Flow St at em ent asset can be measured reliably. The recognition criteria for intangible assets are derived from the Chapter 5 - Financial I nstr Receiv ables and areuments—Cash similar to the and recognition criteria for tangible assets (property, plant, and (IASC)Framework Chapter 6 I nventor y equipment). Chapter 4

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s The future envisaged by the standard may take the form of revenue from the sale of Chapter 8 -economic Property , benefits Plant , and Equipment

products or other benefits resulting from the use of the intangible asset by the Chapter 9 or- services, I ntangi blecost Assetsavings, s enterprise. AI nterests good example of other from theVentur use ofes, theand intangible asset is the use by in Financial Instrbenefits um ent s,resulting Associat es, Joint an enterprise of a secret I nvestm ent Prformula oper ty (which the enterprise has protected legally) that leads to reduced future production costs (as opposedand to Consolidat increased ed future revenue). Chapter 11 - Business Combinations Fin ancial Statements Chapter 10 -

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balance Sheet Date Measurement of Cost of Intangibles

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 14 - Leases The conditions under which the intangible asset has been acquired will determine the measurement of Chapter cost. 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s

The cost intangible Chapter 17of- an Stock holder s' asset Equit yacquired separately is determined in the same manner used for tangible assets as described in Chapter 8. Cost comprises the purchase price itself and any directly attributable costs of preparing the asset for its intended use.

Chapter 18 - Earnings Per Share

Chapter 19 - I nterim Financial Repor ting

Chapter - Segm entidentifiable Repor ting intangibles are acquired as part of a business combination or other In some20situations, Chapter 21 - Accounting Changes and Cor of Er ror sof IAS 38, the cost of an intangible asset bulk purchase transaction. According to rection the provisions Chapter 22as - For eign ency combination is its fair value as at the date of acquisition. If the intangible acquired part of aCurr business Chapter 23 be - RelatedPart y Disclosures asset can freely traded in an active market, then the quoted market price is the best measurement Chapter - Specialized ndustrhas ies no active market, then cost is determined based on the amount that of cost.24 If the intangibleI asset

the enterprise would and haveHyperinflation paid for the asset in an arm's-length transaction at the date of acquisition. If Chapter 25 - I nflation the cost26of-an intangible Chapter Gov er nm ent asset Gr an tsacquired as part of a business combination cannot be measured reliably, then thatAasset is not recognized, but rather, is included in goodwill. Appendix - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Under US GAAP, the aggregate purchase cost is to be allocated to assets acquired and liabilities assumed. If one or more of the assets are intangibles, the extent of judgment required in the allocation I ndex process becomes somewhat greater than would otherwise be the case; in extreme situations it may be List of Tablesto determine how much, if any, of the aggregate cost should be allocated to intangibles. It is impossible List of Ex hibits Ex am ples most likely to and be determinable when the intangibles were actually negotiated for in the transaction List of Sidebar s rather than being thrown in to the deal. Furthermore, if the allocation of the purchase price to individual assets is accomplished by applying discounted present value measures to future revenue streams, unless this same process is usable with regard to the intangibles, it is likely that any unallocated purchase price will have to be assigned to goodwill. Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Internally generated goodwill is not recognized as an intangible asset because it fails to meet the recognition criteria of Reliable measurement at cost,

Lack of an identity separate from other resources, and Control by the W reporting ile y I AS 2enterprise. 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

In practice, accountants are usually confronted with the desire ISBN:0471227366 to recognize internally generated by Bar r y J. Epstein and Abbas Ali goodwill based onMir the za premise that at a certain point in time the market value of an enterprise exceeds the carrying valueJohn of itsWiidentifiable net assets. However, as IAS 38 categorically points out, such ley & Sons © 2003 (952 pages) differences cannot be considered to represent the cost qui of intangible assets controlled by the This com pact and t ruly com pr ehensive ck - refer ence enterprise, and hence, would not meet the criteria for recognition (i.e., capitalization) of such an asset pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial on the books of the enterprise. statements present ed in accordance with I AS.

Intangibles acquired by means of government grants.

T ab le of Con t en t s

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing If the intangible is acquired free of charge or by payment of nominal consideration, as by means of a Standar ds

government grant (e.g., when the government grants the right to operate a radio station) or similar program, and assuming the benchmark accounting treatment (historical cost) is employed, obviously Chapter 1 - I ntr oduction to I nter national Accounting Standar ds there will be little or no amount reflected as an asset. If the asset is important to the reporting entity's Chapter 2 - Balance Sheet operations, however, it must be adequately disclosed in the notes to the financial statements. If the I ncom e (fair Statement, Stat em ent of Chan Equit should y, and Statem ent allowed3alternative value) method is used, theges fairinvalue be determined by reference to an Chapter of Recognized Gains and Losses active market. However, given the probable lack of an active market, since government grants are Chapter 4 - Cash Flow St at em ent generally not transferable, it is unlikely that this situation will be encountered. If an active market does Chapter 5 - Financial I nstr uments—Cash and Receiv ables not exist for this type of an intangible asset, the enterprise must recognize the asset at cost. Cost would Chapter - I nventor y directly attributable to preparing the asset for its intended use. include6those that are Preface

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Intangibles Acquired through an Exchange of Assets - I ntangi ble Asset s

Chapter 9

I nterests Financial Instr um ent s, or Associat Joint Ventur es,dissimilar and If an intangible asset in is acquired in exchange partiales, exchange for a intangible or other Chapter 10 I nvestm ent Pr oper ty

asset, then the cost of the asset is measured at its fair value. This amount is to be ascertained by reference to the fair value of the asset received, which is equivalent to the fair value of the asset given Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he up in the adjusted for any cash or cash equivalents transferred. Chapter 12exchange, Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Balance Sheet Date

Chapter 13 - Financial I nstrsimilar uments—LongTerbe m used Debt by the enterprise in essentially the same manner If the exchange involves assets to Chapter 14 Leases and for the same purpose as the item given up in the exchange, the exchange is not deemed to be the Chapter 15 - Iof ncom e Taxes process, and accordingly, no gain or loss is recognized. The new asset will culmination an earnings Chapter 16 Em ploy ee Benefitamount s be recorded at the carrying of the asset given up, adjusted for any cash or cash equivalent Chapter (often called 17 - Stock "boot") holder given s' Equit or received. y Chapter 18 - Earnings Per Share

Internally Generated Intangibles other than Goodwill

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

Chapter In many21instances, - Accounting intangibles Changesare andgenerated Cor rectioninternally of Er ror sby an entity, rather than being acquired via a

business orency some other purchase transaction. Because of the nature of intangibles, the Chapter 22 combination - For eign Curr actual measurement of the cost (i.e., the initial amounts at which these could be recognized as assets) Chapter 23 - Related- Part y Disclosures can prove be rather challenging Chapter 24 -toSpecialized I ndustr ies in practice, and for that reason, historically there was somewhat of a bias against internally generated intangible assets. However, a failure to recognize such Chapter 25 - I recognition nflation and of Hyperinflation assets 26 would noteronly cause Chapter - Gov nm ent Gr anthe ts entity's balance sheet to underreport its economic resources, but

would also result in a mismatching of income and expense in both the period of expenditure and later periods when the related benefits would be reaped. Accordingly, IAS 38 provides that internally Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS generated intangible assets, provided certain criteria are met, are to be capitalized and amortized over Appendix C - Com parison of I AS, US GAAP, and UK GAAP the projected period of economic utility. Appendix A - Di sclosure Checklist

I ndex

List of Tables Under the now-superseded IAS 9, it was established that research costs were to be expensed as List of Ex hibits and development Ex am ples incurred, but that costs were to be deferred (i.e., capitalized) and expensed over the List of Sidebar s periods of expected benefit. IAS 38 absorbed the guidance formerly found in IAS 9 and expanded it to

cover other internally generated intangible assets. Thus, expenditures pertaining to the creation of intangible assets are to be classified alternatively as being indicative of, or analogous to, research activity or development activity. The former costs are expensed as incurred; the latter are capitalized, if future economic benefits are reasonably likely to be received by the reporting entity. Per IAS 38, 1. Costs incurred in the research phase are expensed immediately; and 2. If costs incurred in the development phase meet the recognition criteria for an intangible asset, such costs should be capitalized. However, once costs have been expensed during the

development phase, they cannot later be capitalized. In practice, distinguishing research-like expenditures from development-like expenditures may not be W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f easily accomplished. This would be especially true in the case of intangibles for which the I n t er n at ion al Accou n t in g St an d ar ds measurement of economic benefits cannot be performed in anything approximating a direct manner. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Assets such as brand Mir za names, mastheads, and customer lists can prove quite resistant to such direct observation of value in many industries there are benchmark monetary amounts commonly John(although Wi ley & Sons © 2003 (952 pages) associated with such items, such as the oft-expressed notion that a customer list in the securities This com pact and t ruly com pr ehensive qui ck - refer ence brokerage business is worth $1,500 per name, implying the amount pr esent s account ants with a guide to depend on for of avoidable promotional costs each qualified name is worth). assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Thus, entities may incur certain expenditures in order to enhance brand names, such as engaging in T ab le of Con t en t s image-advertising campaigns, but these costs will also have ancillary benefits, such as promoting Wiley I AS products 20 03—Intthat er pretation and Application I nternational Account ing specific are being sold currently,ofand possibly even enhancing employee morale and Standar ds performance. While it may be argued that the expenditures create or add to an intangible asset, as a Preface practical matter it would be difficult to determine what portion of the expenditures relate to which Chapter 1 - I ntr oduction to I nter national Accounting Standar ds achievement, and to ascertain how much, if any, of the cost may be capitalized as part of brand names. Chapter - Balance Sheet Thus, it2is considered to be unlikely that threshold criteria for recognition can be met in such a case. I ncom e standard Statement, Stat em ent of Chan ges in the Equitcapitalization y, and Statemofent For this reason the has specifically disallowed internally generated assets Chapter 3 of Recognized Gains and Losses like brands, mastheads, publishing titles, customer lists, and items similar to these in substance. Chapter 4

- Cash Flow St at em ent

Chapter 5 - the Financial I nstritems, uments—Cash and Receiv ables recognition of internally created intangible Apart from prohibited however, IAS 38 permits Chapter assets 6to the - I nventor extent ythe expenditures can be analogized to the development phase of a research and

development program. Thus,tion, internally developed patents, copyrights, trademarks, franchises, and Chapter 7 - Rev enue Recogni I ncluding Constr uction Contr act s other assets will be recognized the cost of creation, exclusive of costs which would be analogous to Chapter 8 - Property , Plant , and at Equipment research, furtherble explained Chapter 9 as - I ntangi Asset s in the following paragraphs. I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - IAS 38 was issued, IAS 9 was withdrawn to avoid having two mostly, but not completely, At the time I nvestm ent Pr oper ty

similar standards effective simultaneously. Had this not been done, there was the risk that the accounting for certain internally generated assets that would have met the criteria of both standards Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - been unclear. For example, software programs developed in-house as a result of research would have Balance Sheet Date and development activities would be covered Chapter 13 - Financial I nstr uments—LongTer m under Debt IAS 9, while patented software programs developed in-house would meet the recognition criteria of IAS 38 also. In order to avoid confusion Chapter 14 - Leases caused by the modest differences in accounting treatments prescribed by the two standards, the Chapter 15 - I ncom e Taxes provisions of the two standards were combined into one. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 16 - Em ploy ee Benefit s

Chapter 17 internally - Stock holder s' Equitintangible y When an generated asset meets the recognition criteria, the cost is determined Chapter 18 same - Earnings Per Share using the principles as for an acquired tangible asset. Thus, cost comprises all costs directly Chapter 19 - to I nterim Financial Repor ting attributable creating, producing, and preparing the asset for its intended use. IAS 38 closely follows IAS 16 20 with- Segm regardent to Repor elements Chapter ting of cost that may be considered as part of the asset, and the need to

recognize cash equivalent the acquisition Chapter 21 the - Accounting Changesprice and when Cor rection of Er ror s transaction provides for deferred payment terms. As tangible assets, elements of profit must be eliminated from amounts Chapter 22 with - Forself-constructed eign Curr ency capitalized, incremental administrative and other overhead costs can be allocated to the intangible Chapter 23 - but RelatedPart y Disclosures and included in the asset's cost. Chapter 24 - Specialized I ndustr iesInitial operating losses, on the other hand, cannot be deferred by being added to the cost the intangible, but must be expensed as incurred. Chapter 25 - I nflation andof Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

As noted above, the standard presents the concepts of the research phase and the development phase

Appendix A - Di and sclosure Checklist project. IAS 38 mandates that the expenditure incurred during the of a research development Appendix B I llustrativ e Financial St atem ent s Pr esent ed Underas I AS research phase of an internal project should be recognized an expense when incurred (as opposed Appendix C - Com of I AS, US GAAP,The andstandard UK GAAPtakes this view based on the premise that an to recognizing it parison as an intangible asset). I ndex enterprise cannot demonstrate that the expenditure incurred in the research phase will generate List of Tables probable future economic benefits, and consequently, that an intangible asset exists (thus, such List of Ex hibitsshould and Exbe am expensed). ples expenditure Examples of research activities include: activities aimed at obtaining

new the search for, evaluation, and final selection of applications of research findings; and List of knowledge; Sidebar s the search for and formulation of alternatives for new and improved systems, etc. The standard recognizes that the development stage is further advanced than the research stage, and that an enterprise can possibly, in certain cases, identify an intangible asset and demonstrate that this asset will probably generate future economic benefits for the organization. Thus, the standard allows recognition of an intangible asset during the development phase, provided the enterprise can demonstrateall the following:

Technical feasibility of completing the intangible asset so that it will be available for use or sale; Its intention to complete the intangible asset and either use it or sell it; W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Its ability to use or sell the intangible asset;

by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za The mechanism by which the intangible will generate probable future economic benefits; John Wi ley & Sons © 2003 (952 pages)

The availability ofcom adequate technical, andqui other resources This pact and t ruly comfinancial pr ehensive ck - refer ence to complete the development esent ants with and a guide to depend on for and to use orprsell thes account intangible asset; assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. The entity's ability to reliably measure the expenditure attributable to the intangible asset during its development. T ab le of Con t en t s Wiley I AS 20of 03—Int er pretation and Application of Idesign nternational Account Examples development activities include: the and testing ofing preproduction models; design of Standar ds

tools, jigs, molds, and dies; design of a pilot plant which is not otherwise commercially feasible; design and testing of a preferred alternative for new and improved systems, etc.

Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2 - Balance Sheet Recognition of internally

generated computer software costs.

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of Recognized Gains and Losses The recognition of computer software costs poses several questions. Chapter 4

- Cash Flow St at em ent

1. In the case of a company developing software programs for sale, should the costs incurred in - Financial I nstr uments—Cash and Receiv ables developing the software be expensed, or should the costs be capitalized and amortized?

Chapter 5 Chapter 6

- I nventor y

Chapter 2. Is 7 the - Rev treatment enue Recogni for developing tion, I ncluding software Constr programs uction Contr different act s if the program is to be used for in-

applications Chapter house 8 - Property , Plant only? , and Equipment Chapter 9

- I ntangi ble Asset s

3. In the case of purchased software, should the cost of the software be capitalized as a tangible I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter asset 10 - or as an intangible asset, or should it be expensed fully and immediately? I nvestm ent Pr oper ty Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

In view of the current IAS on intangible assets, the position can be clarified as follows:

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 the - case of a software-developing company, the costs incurred in the development of 1. In Balance Sheet Date

programs are research and development costs. Accordingly, all expenses incurred in Chapter software 13 - Financial I nstr uments—LongTer m Debt Chapter the 14 -research Leases phase would be expensed. Thus, all expenses incurred until technological

the product has been established should be expensed. The enterprise would have Chapter feasibility 15 - I ncom for e Taxes to demonstrate technical feasibility and probability of its commercial success. Technological feasibility would be established if the enterprise has completed a detailed program design or 17 - Stock holder s' Equit y working model. The enterprise should have completed the planning, designing, coding, and 18 - Earnings Per Share testing activities and established that the product can be successfully produced. Apart from 19 - I nterim Financial Repor ting being capable of production, the enterprise should demonstrate that it has the intention and 20 - Segm ent Repor ting ability to use or sell the program. Action taken to obtain control over the program in the form of 21 - Accounting Changes andsupport Cor rection of Er ror s of these costs. At this stage the software copyrights or patents would capitalization 22 For eign Curr ency program would be able to meet the criteria of identifiability, control, and future economic 23 - RelatedDisclosures benefits, and Part canythus be capitalized and amortized as an intangible asset.

Chapter 16 - Em ploy ee Benefit s Chapter Chapter Chapter Chapter Chapter Chapter Chapter

Chapter 24 - Specialized I ndustr ies

2. In case of and software internally developed for in-house use, for example, a payroll program Chapter 25 the - I nflation Hyperinflation by ent the Gr reporting enterprise itself, the accounting approach would be different. While Chapter developed 26 - Gov er nm an ts developed Appendixthe A -program Di sclosure Checklistmay have some utility to the enterprise itself, it would be difficult to

demonstrate how the program would generate future economic benefits to the enterprise. Also, in the absence of any legal rights to control the program or to prevent others from using it, the Appendix C - Com parison of I AS, US GAAP, and UK GAAP recognition criteria would not be met. Further, the cost proposed to be capitalized should be I ndex recoverable. In view of the impairment test prescribed by the standard, the carrying amount of List of Tables the asset may not be recoverable and would accordingly have to be adjusted. Considering the List of Ex hibits and Ex am ples above facts, such costs may need to be expensed. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

List of Sidebar s

3. In the case of purchased software, the treatment would differ on a case-to-case basis. Software purchased for sale would be treated as inventory. However, software held for licensing or rental to others should be recognized as an intangible asset. On the other hand, cost of software purchased by an enterprise for its own use and which is integral to the hardware (because without that software the equipment cannot operate), would be treated as part of cost of the hardware and capitalized as property, plant, or equipment. Thus, the cost of an operating system purchased for an in-house computer, or cost of software purchased for computercontrolled machine tool, are treated as part of the related hardware.

Cost of other software programs should be treated as intangible assets (as opposed to being capitalized along with the related hardware), as they are not an integral part of the hardware. For W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f example, the cost of payroll or inventory software (purchased) may be treated as an intangible I n t er n at ion al Accou n t in g St an d ar ds asset provided it meets the capitalization criteria under IAS 38 (in practice, the conservative ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali approach would Mir za be to expense such costs as they are incurred, since their ability to generate future economic is always questionable). John Wibenefits ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence

pr esent s account the ants with a guide to depend on for Costs Not Satisfying IAS 38 Recognition Criteria assistance in the prepar at ion and under standing of financial

ed in accordance with I AS. The standard hasstatements specificallypresent provided that expenditures incurred for nonmonetary intangible assets should be recognized as an expense unless T ab le of Con t en t s Wiley1.I AS 03—Int andasset Application of I nternational Account ing It 20 relates to er anpretation intangible dealt with in another IAS; Standar ds

2. The cost forms part of the cost of an intangible asset that meets the recognition criteria Preface by IASto38; or national Accounting Standar ds Chapter prescribed 1 - I ntr oduction I nter Chapter 2

- Balance Sheet

3. It is acquired in a business combination and cannot be recognized as an identifiable intangible I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter asset. 3 - In this case, this expenditure should form part of the amount attributable to goodwill as at of Recognized Gains and Losses the date of acquisition. Chapter 4 - Cash Flow St at em ent Chapter 5 - Financial nstr uments—Cash Receiv ables As a consequence ofI applying the aboveand criteria, the following costs are expensed as they are incurred: Chapter 6 - I nventor y

Research Chapter 7 - Revcosts; enue Recogni tion, I ncluding Constr uction Contr act s Chapter 8

- Property , Plant , and Equipment

Preopening costs to open a new facility or business, and plant start-up costs incurred during a - I ntangi ble Asset s period prior to full-scale production or operation, unless these costs are capitalized as part of the I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10of- an item of property, plant, and equipment; cost I nvestm ent Pr oper ty Chapter 9

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Organization costs such as legal and secretarial costs, which are typically incurred in establishing a

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he legal Chapter 12 entity; Balance Sheet Date Chapter 13 - Financial I nstr uments—Longm Debt or a product line; Training costs involved in operating Ter a business Chapter 14 - Leases

Advertising and related costs; Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s

Relocation, restructuring, and other costs involved in organizing a business or product line;

Chapter 17 - Stock holder s' Equit y

Chapter 18 - Earnings Per Share Customer lists, brands, mastheads, and publishing titles that are internally generated. Chapter 19 - I nterim Financial Repor ting

Thus, the has the controversy regarding the potential deferral of costs like Chapter 20 IASC - Segm entfinally Reporresolved ting

preoperating expenses.Changes In the past, enterprises been known to defer setup costs and Chapter 21 - Accounting and many Cor rection of Er rorhave s

preoperating costs on the premise that benefits from them flow to the enterprise over future periods as well. Due to the unequivocal stand taken by the IASC on this contentious issue, enterprises can no Chapter 23 - Related- Part y Disclosures longer defer such costs. Further, by adding the provision relating to annual impairment testing of all Chapter 24 - Specialized I ndustr ies internally generated intangible assets being amortized (over a period exceeding twenty years), the Chapter 25 - I nflation and Hyperinflation IASC has ensured that all such costs capitalized in the past would need to be adjusted for impairment. Chapter 22 - For eign Curr ency

Chapter 26 - Gov er nm ent Gr an ts

Appendix A - for Di sclosure Checklist The criteria recognition of intangible assets as provided in IAS 38 are rather stringent, and many Appendix B - will I llustrativ e Financial St atemeither ent s Pr ed Under I AS enterprises find that expenditures toesent acquire or to develop intangible assets will fail the test

for capitalization. In suchofinstances, all these must be expensed currently as incurred. Appendix C - Com parison I AS, US GAAP, and costs UK GAAP Furthermore, once expensed, these costs cannot be resurrected and capitalized in a later period, even I ndex if the conditions for such treatment are later met. This is not meant, however, to preclude correction of List of Tables an of error madeand in an earlier List Ex hibits Ex am ples period if the conditions for capitalization were met but interpreted incorrectly by of theSidebar reporting List s entity at that time.)

Subsequently Incurred Costs Under the provisions of IAS 38, the capitalization of any subsequent costs incurred on intangible assets is difficult to justify. This is because the nature of an intangible asset is such that, in many cases, it is not possible to determine whether subsequent costs are likely to enhance the specific economic benefits that will flow to the enterprise from those assets. Thus, subsequent costs incurred on an intangible asset should be recognized as an expense when they are incurred unless

1. It is probable that those costs will enable the asset to generate specifically attributable future economic benefits in excess of its originally assessed standard of performance; and W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

2. Those costs beion measured reliably and attributed to the asset reliably. I n tcan er n at al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Thus, if the aboveMir two criteria are met, any subsequent expenditure on an intangible after its purchase za or its completion should be capitalized along with its cost. The following example should help to John Wi ley & Sons © 2003 (952 pages) illustrate this point better. Example

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

An enterprise is developing a new product. Costs incurred by the R&D department in 2002 on the T ab le of Conphase" t en t s amounted to $200,000. In 2003, technical and commercial feasibility of the product "research Wiley AS 20 03—IntCosts er pretation andinApplication I nternational Account ingand $15,000 legal fees to was Iestablished. incurred 2003 wereof$20,000 personnel costs Standar registerdsthe patent. In 2004, the enterprise incurred $30,000 to successfully defend a legal suit to Preface protect the patent. The enterprise would account for these costs as follows: Chapter 1 - I ntr oduction to I nter national Accounting Standar ds

Research and development costs incurred in 2002, amounting to $200,000, should be expensed, Chapter 2 - Balance Sheet as they Ido notemeet the recognition forges intangible assets. The costs ncom Statement, Stat em entcriteria of Chan in Equit y, and Statem ent do not result in an identifiable asset capable ofand generating of Recognized Gains Losses future economic benefits.

Chapter 3 Chapter 4

- Cash Flow St at em ent

Personnel and legal costs incurred in 2003, amounting to $35,000, would be capitalized as patents. - Financial I nstr uments—Cash and Receiv ables The company has established technical and commercial feasibility of the product, as well as Chapter 6 - I nventor y obtained control over the use of the asset. The standard specifically prohibits the reinstatement of Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s costs previously recognized as an expense. Thus $200,000, recognized as an expense in the Chapter 8 - Property , Plant , and Equipment previous financial statements, cannot be reinstated and capitalized. Chapter 5

Chapter 9

- I ntangi ble Asset s

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Legal Chapter 10 -costs of $30,000 incurred in 2004 to defend the enterprise in a patent lawsuit should be I nvestm entUS Pr oper ty legal fees and other costs incurred in successfully defending a patent expensed. Under GAAP, Chapter 11 - can Business Combinations and Consolidat ed Fintoancial Statements lawsuit be capitalized in the patents account, the extent that value is evident, because such Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he However, in view of the costs are incurred to establish the legal rights of the owner of the patent. Chapter 12 Sheet Date by IAS 38 concerning the recognition of subsequent costs, the IASC stringentBalance conditions imposed Chapter 13 - to Financial I nstrof uments—LongTer mapproach Debt seems be in favor the conservative of expensing such costs. Only such subsequent Chapter 14 Leases costs should be capitalized which would enable the asset to generate future economic benefits in Chapter 15 - Iof ncom Taxes excess thee originally assessed standards of performance. This represents, in most Chapter 16 Em ploy ee Benefit s instances, a very high, possibly insurmountable hurdle. Thus, legal costs incurred in connection

with the patent, Chapter 17defending - Stock holder s' Equit ywhich could be considered as expenses incurred to maintain the asset at its assessed Chapter 18 originally - Earnings Per Sharestandard of performance, would not meet the recognition criteria under IAS1938. Chapter - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

Alternatively, if the enterprise were to lose the patent lawsuit, then the useful life and the recoverable amount of the intangible asset would be in question. The enterprise would be required Chapter 22 - For eign Curr ency to provide for any impairment loss, and in all probability, even to fully write off the intangible asset. Chapter 23 - Related- Part y Disclosures What is required must be determined by the facts of the specific situation. Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Measurement subsequent to Initial Recognition

Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Benchmark treatment.

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex After initial recognition, an intangible asset should be carried at its cost less any accumulated List of Tables and any accumulated impairment losses. amortization List of Ex hibits and Ex am ples List of Sidebar s Allowed alternative

treatment—revaluation.

As with tangible assets under IAS 16, the standard for intangibles permits revaluation subsequent to original acquisition, with the asset being written up to fair value. Inasmuch as most of the particulars of IAS 38 follow IAS 16 to the letter, and were described in detail in Chapter 8, these will not be repeated here. The unique features of IAS 38 are as follows: 1. If the intangibles were not initially recognized (i.e., they were expensed rather than capitalized) it would not be possible to later recognize them at fair value. 2.

2. Deriving fair value by applying a present value concept to projected cash flows (a technique that can be used in the case of tangible assets under IAS 16) is deemed to be too unreliable in the realm of intangibles, ition would commingle W ile y I AS primarily 2 0 03 : I nbecause t erp re t at an dtend Ap pto licat io n o f the impact of identifiable assets andI ngoodwill. Accordingly, fair value of an intangible asset should only be determined by t er n at ion al Accou n t in g St an d ar ds reference by to an active market in that type of intangible asset. Active markets providing ISBN:0471227366 Bar r y J. Epstein and Abbas Ali za are not expected to exist for such unique assets as patents and trademarks, meaningfulMir data and thus itJohn is presumed that ©revaluation will not be applied to these types of assets in the normal Wi ley & Sons 2003 (952 pages) course of business. As a consequence, the IASCquihas effectively This com pact and t ruly com pr ehensive ck - refer ence restricted revaluation of esent stoaccount ants tradable with a guide to depend on for intangible pr assets only freely intangible assets. assistance in the prepar at ion and under standing of financial in accordance with I AS. under IAS 16, if some intangible assets in As with the rules statements pertaining topresent plant, ed property, and equipment a given class are subjected to revaluation, all the assets in that class should be consistently accounted T ab le of Con t en t s for unless fair value information is not or ceases to be available. Also in common with the requirements Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing for tangible fixed assets, IAS 38 requires that revaluations be taken directly to equity through the use of Standar ds a revaluation surplus account, except to the extent that previous impairments had been recognized by Preface a charge against income. Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Chapter 2

- Balance Sheet Example of revaluation of intangible assets

Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

of Recognized Gains and Losses A patent right is acquired July 1, 2002, for $250,000; while it has a legal life of 15 years, due to rapidly Chapter 4 Cash Flow management St at em ent changing technology, estimates a useful life of only 5 years. Straight-line amortization will Chapter 5 Financial I nstr uments—Cash andisReceiv ablesthat the process can actually be made be used. At January 1, 2003, management uncertain Chapter 6 I nventor y economically feasible, and decides to write down the patent to an estimated market value of $75,000. Chapter 7 - Rev Recogni tion, I ncluding uctionOn Contr act s 1, 2005, having perfected the Amortization willenue be taken over 3 years fromConstr that point. January Chapter - Property , Plant , and Equipment related 8production process, the asset is now appraised at a sound value of $300,000. Furthermore, the estimated lifebleis Asset now sbelieved to be 6 more years. The entries to reflect these events are as Chapter 9 useful - I ntangi follows: I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 -

I nvestm ent Pr oper ty

Chapter Fin ancial Statements 7/1/0211 - Business Patent Combinations and Consolidat ed 250,000 Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 250,000 Balance Sheet Cash, Date etc. Chapter 13 - Financial I nstr uments—Long- Ter m Debt

12/31/02

Amortization expense

Chapter 14 - Leases

25,000 25,000

Chapter 15 - I ncom e Taxes Patent Chapter 16 - Em ploy ee Benefit s

1/1/03

Loss from asset impairment

Chapter 17 - Stock holder s' Equit y

150,000 150,000

Chapter 18 - Earnings Patent Per Share Chapter 19 - I nterim Financial Repor ting

12/31/03

Amortization expense

Chapter 20 - Segm ent Repor ting

25,000

Chapter 21 - Accounting Changes and Cor rection of Er ror s Patent Chapter 22 - For eign Curr ency

12/31/04

Amortization expense

Chapter 23 - Related- Part y Disclosures

25,000 25,000

Chapter 24 - Specialized I ndustr ies Patent Chapter 25 - I nflation and Hyperinflation

1/1/05

Patent

Chapter 26 - Gov er nm ent Gr an ts

25,000

275,000

100,000 Appendix A - Di sclosure Checklist Gain on asset value Appendix B - I llustrativrecovery e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Revaluation surplus

175,000

List of Tables

Certain of the entries in the foregoing example will be explained further. The entry at year-end 2002 is to record amortization based on original cost, since there had been no revaluations through that time; List of Sidebar s only a half-year amortization is provided [($250,000/5) x 1/2. On January 1, 2003, the impairment is recorded by writing down the asset to the estimated value of $75,000, which necessitates a $150,000 charge to income (carrying value, $225,000, less fair value, $75,000). List of Ex hibits and Ex am ples

In 2003 and 2004, amortization must be provided on the new lower value recorded at the beginning of 2003; furthermore, since the new estimated life was 3 years from January 2003, annual amortization will be $25,000. As of January 1, 2005, the carrying value of the patent is $25,000; had the January 2003 revaluation

not been made, the carrying value would have been $125,000 ($250,000 original cost, less 2.5 years amortization versus an original estimated life of 5 years). The new appraised value is $300,000, which will fully recover the earlier andreadd evenanmore asset value W ile y I ASwrite-down 2 0 03 : I n t erp t at ion d Ap p licat io n o f than the originally recognized cost. Under the guidance of IAS 38, the recovery of $100,000 that had been charged to expense I n t er n at ion al Accou n t in g St an d ar ds should be taken into income; the excess will be credited to stockholders' equity. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

Development costs pose special terms of the application This comapact and tproblem ruly com in pr ehensive qui ck - refer ence of the allowed alternative method under IAS 38. The of theants allowed methodonoffor accounting for long-lived intangibles pr utilization esent s account with aalternative guide to depend assistance in the prepar at ion are andmet under standing ofthe financial is only permissible when stringent conditions concerning availability of fair value statements in accordance with information. In general, it willpresent not beed possible to obtain fairI AS. value data from active markets, as is required by tIAS T ab le of Con en t s38, and this is particularly true with regard to development costs. Accordingly, the expectation is that er the benchmark (historical cost) method willAccount be almost Wiley I AS 20 03—Int pretation and Application of I nternational ing universally applied for development costs. The use of the available alternative method for development costs, while Standar ds theoretically valid, is expected to be very unusual in practice. Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Example of development cost capitalization

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Assume3 that Chapter - Creative, Incorporated incurs substantial research and development costs for the of Recognized Gains and Losses

invention of new products, many of which are brought to market successfully. In particular, Creative has - Cash Flow St at em ent incurred costs during 2002 amounting to $750,000, relative to a new manufacturing process. Of these Chapter 5 - Financial I nstr uments—Cash and Receiv ables costs, $600,000 were incurred prior to December 1, 2002. As of December 31, the viability of the new Chapter - I nventor process6 was still notyknown, although testing had been conducted on December 1. In fact, results were Chapter 7 Rev Recogni tion, I ncluding Constr uction Contr act s not conclusivelyenue known until February 15, 2003, after another $75,000 in costs were incurred postChapter 8 Property , Plant , and Equipment January 1. Creative, Incorporated's financial statements for 2002 were issued February 10, 2003, and Chapter - I ntangi Asset s and development costs were expensed, since it was not yet known the full 9S750,000 inble research I nterests in Financial Instr ent s, Associat es, Joint Ventur whether10a -portion of these qualified asum development costs under IAS es, 38. and When it is learned that Chapter I nvestm entbeen Pr oper ty feasibility had, in fact, shown as of December 1, Creative management asks to restore the Chapter 11 of - Business Combinations ed Fin asset. ancial Statements $150,000 post-December 1 costsand as Consolidat a development Under IAS 38 this is prohibited. However, Curr($75,000 ent Liabilit ies, far) Provwould isions,qualify Cont ingencies, and Ev ents after t he the 2003 costs thus for capitalization, in all likelihood, based on the facts Chapter 12 Balance Sheet Date known. Chapter 4

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter If, however, 15 - Iitncom is determined e Taxes that fair value information derived from active markets is indeed available,

and the16 enterprise to sapply the allowed alternative (revaluation) method of accounting to Chapter - Em ploydesires ee Benefit development costs, thens' itEquit will ybe necessary to perform revaluations on a regular basis, such that at Chapter 17 - Stock holder any reporting date thePer carrying Chapter 18 - Earnings Share amounts are not materially different from the current fair values. From a mechanical the adjustment Chapter 19 - perspective, I nterim Financial Repor ting to fair value can be accomplished either by "grossing up" the cost and accumulated accounts proportionally, or by netting the accumulated Chapter 20the - Segm ent Reporamortization ting

amortization, prerevaluation, against the asset account and then restating the asset to the net fair value as of the revaluation date. In either case, the net effect of the upward revaluation will be recorded in Chapter 22 - For eign Curr ency stockholders' equity as revaluation surplus; the only exception would be when an upward revaluation is Chapter 23 - Related- Part y Disclosures in effect a reversal of a previously recognized impairment which was reported as a charge against Chapter 24 - Specialized I ndustr ies earnings or a revaluation decrease (reversal or a yet earlier upward adjustment) which was reflected in Chapter 25 - I nflation and Hyperinflation earnings. Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter 26 - Gov er nm ent Gr an ts Appendix The accounting A - Di sclosure for revaluations Checklist is illustrated as follows: Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

ExampleC of accounting revaluation of development cost Appendix - Com parison offor I AS, US GAAP, and UK GAAP I ndex

Assume Breakthrough, Inc. has accumulated development costs that meet the criteria for capitalization at December 31, 2002, amounting to $39,000. It is estimated that the useful life of this intangible asset List of Ex hibits and Ex am ples will be 6 years; accordingly, amortization of $6,500 per year is anticipated. Breakthrough uses the List of Sidebar s allowed alternative method of accounting for its long-lived tangible and intangible assets. At December 31, 2004, it obtains market information regarding the then-current fair value of this intangible asset, which suggests a current fair value of these development costs is $40,000; the estimated useful life, however, has not changed. There are two ways to apply IAS 38: the asset and accumulated amortization can be "grossed up" to reflect the new fair value information, or the asset can be restated on a "net" basis. These are both illustrated below. For both illustrations, the book value (amortized cost) immediately prior to the revaluation is $39,000 - (2 × $6,500) = $26,000. The net upward revaluation is given by the difference between fair value and book value, or $40,000 - $26,000 = $14,000. List of Tables

If the "gross up" method is used: Since the fair value after 2 years of the 6-year useful life have already elapsed is found to be $40,000, the gross fair value must be 6/4 × $40,000 = $60,000. The entries to record this W ilewould y I AS be 2 0as 03 :follows: I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Development cost by (asset) Bar r y J. Epstein and Abbas Ali

21,000

ISBN:0471227366

Mir za Accumulated John amortization—development Wi ley & Sons © 2003 (952 pages)

7,000

cost

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for 14,000 Revaluation surplusin(stockholders' equity) assistance the prepar at ion and under standing of financial statements present ed in accordance with I AS.

If the "netting" method is used: Under this variant, the accumulated amortization as of the date of the revaluation is eliminated against the asset account, which is then adjusted to reflect the net fair value.

T ab le of Con t en t s

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Accumulated amortization—development cost Preface

13,000

- I ntr oduction to I nter national Accounting Standar ds13,000 Development cost (asset)

Chapter 1 Chapter 2

- Balance Sheet

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Development coste (asset) 14,000 I ncom Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of Recognized Gains and Losses 14,000 Revaluation surplus (stockholders' equity)

Amortization - Property , Period Plant , and Equipment

Chapter 8 Chapter 9

- I ntangi ble Asset s

As with tangible assets depreciation or depletion, theVentur cost (or carrying amount) of I nterests in subject FinancialtoInstr um ent s, Associat es, Joint es, revalued and Chapter 10 assets intangible is subject to rational and systematic amortization. Given that the useful economic life I nvestm ent Pr oper ty of many intangibles would be difficult to assess, the rule is that a maximum twenty-year life is Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements permissible,Curr withent amortization being over a shorter useful life if known. The only exceptions would occur Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 in those instances legal right has a life of greater than twenty years and either of the Balancewhere Sheetthe Date following Chapter 13conditions - Financialexists: I nstr uments—Long- Ter m Debt Chapter 14 - intangible Leases 1. The has an existence that is not separable from a specific tangible asset, the useful Chapter life 15 -ofI ncom Taxes whiche can be reliably determined to exceed twenty years, or Chapter 16 - Em ploy ee Benefit s

2. There is anholder active market for the intangible. Chapter 17 - Stock s' secondary Equit y Chapter 18 - Earnings Per Share

The thrust of these requirements is to make the twenty-year life an upper limit for most intangibles.

Chapter 19 - I nterim Financial Repor ting Chapter If there 20 is persuasive - Segm ent Repor evidence ting that the useful life of an intangible asset is longer than twenty years,

then the21twenty-year presumption is rebutted and therorenterprise must Chapter - Accounting Changes and Cor rection of Er s Chapter 22 - For eign Curr ency

Amortize the intangible asset over that longer period;

Chapter 23 - Related- Part y Disclosures

Chapter 24 - Specialized I ndustramount ies Estimate the recoverable of the intangible asset at least annually in order to identify any Chapter 25 I nflation and Hyperinflation impairment loss; and Chapter 26 - Gov er nm ent Gr an ts

Disclose reasons why the presumption has been rebutted. Appendix A - Dithe sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Note that IAS 38 provides for amortization of all intangible assets; it does not subscribe to the view that any intangible asset can possess an infinite life. The thrust of these requirements is to make the I ndex twenty-year life an upper limit for most intangibles. Appendix C - Com parison of I AS, US GAAP, and UK GAAP List of Tables List If control of Ex hibits overand the Ex future am ples economic benefits from an intangible asset is achieved through legal rights for

a finite period, List of Sidebar s then the useful life of the intangible asset should not exceed the period of legal rights, unless the legal rights are renewable and the renewal is a virtual certainty. Thus, as a practical matter, the shorter legal life will set the upper limit for an amortization period in most cases. The amortization method used should reflect the pattern in which the economic benefits of the asset are consumed by the enterprise. Amortization should commence when the asset is available for use and the amortization charge for each period should be recognized as an expense unless it is included in the carrying amount of another asset (e.g., inventory). Intangible assets may be amortized by the same systematic and rational methods that are used to depreciate tangible fixed assets. Thus, IAS 38

would seemingly permit straight-line, diminishing balance, and units of production methods. If a method other than straight-line is used, it must accurately mirror the expiration of the asset's economic service potential. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Residual Value Mir za

ISBN:0471227366

John Wi ley a& positive Sons © 2003 (952 pages) Tangible assets often have residual value before considering the disposal costs because This com pact and t ruly com pr ehensive qui ckbe - refer ence tangible assets can generally be sold for scrap, or possibly transferred to another user that has less pr esent s account ants with a guide to depend on for need for or ability to afford new assets of that type. Intangibles, on the other hand, lacking the physical assistance in the prepar at ion and under standing of financial attributes that would make scrap value a meaningful concept, statements present ed in accordance with I AS. often have little or no residual worth. Accordingly, IAS 38 requires that a zero residual value be presumed unless an accurate measure of T ab le of Con t en t s residual is possible. Thus, the residual value is presumed to be zero unless Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar There ds is a commitment by a third party to purchase the asset at the end of its useful life; or Preface

There -isI ntr anoduction active market for that type of intangible asset, and residual value can be measured to I nter national Accounting Standar ds reliably by reference to that market and it is probable that such a market will exist at the end of the Chapter 2 - Balance Sheet useful life. Chapter 1

Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Periodic- review of useful life assumptions and amortization methods Cash Flow St at em ent employed. Chapter 5 - Financial I nstr uments—Cash and Receiv ables Chapter 4 Chapter 6

- I nventor y

As for fixed assets accounted for in conformity with IAS 16, the newer standard on intangibles suggests - Rev enue Recogni tion, I ncluding Constr uction Contr act s that the amortization period be reconsidered at the end of each reporting period, and that the method of Chapter 8 - Property , Plant , and Equipment amortization also be reviewed at similar intervals. There is the expectation that due to their nature Chapter 9 - are I ntangi blelikely Assettos require revisions to one or both of these judgments. In either case, a intangibles more I nterests in Financial Instr um ent s,inAssociat es, affecting Joint Ventur es, and change10 would be accounted for as a change estimate, current and future periods' reported Chapter I nvestm ent Pr oper ty earnings but not requiring restatement of previously reported periods. Chapter 7

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Impairment BalanceLosses Sheet Date

Chapter 12 -

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

IAS 38 has provided that

Chapter 14 - Leases

Chapter 15 - I ncomof e Taxes Amortization an asset should commence when the asset is available for use; and Chapter 16 - Em ploy ee Benefit s

The17amortization period should not exceed twenty years, although this presumption is rebuttable. Chapter - Stock holder s' Equit y Chapter 18 - Earnings Per Share

In view of the above, some enterprises may be tempted to

Chapter 19 - I nterim Financial Repor ting

Chapter 20 - Segm ent Repor ting and defer amortization for long periods on the grounds that the assets Capitalize intangible assets Chapter AccountingforChanges and Cor rection of Er ror s are21 not- available use; and/or Chapter 22 - For eign Curr ency

Rebut presumption of twenty-year life and amortize assets over a longer period. Chapter 23 -the RelatedPart y Disclosures Chapter 24 - Specialized I ndustr ies

To combat the risk that either of these strategies might be employed, the standard provides that in addition to the universal provisions of IAS 36 (which require that the recoverable amount of an asset Chapter 26 - Gov er nm ent Gr an ts should be estimated when certain indications of impairment exist, as described in detail in Chapter 8), Appendix A - Di sclosure IAS 38 requires that anChecklist enterprise should estimate the recoverable amount of the following intangible Appendix B I llustrativ e Financial atem enteven s Pr esent ed Under I AS assets at least at each financial St year-end if there is no indication of impairment: Chapter 25 - I nflation and Hyperinflation

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

1. Intangible assets that are not yet ready for use; and

I ndex

List of 2. Tables Other intangible assets that are amortized over a period exceeding twenty years from the date List of Exwhen hibits the andasset Ex ambecomes ples available for use. List of Sidebar s

Apart from the special case of assets not yet in use, or being amortized over greater than twenty years, the major complication arises in the context of goodwill. Unlike other intangible assets that are individually identifiable, goodwill is amorphous and cannot exist, from a financial reporting perspective, apart from the tangible and identifiable intangible assets with which it was acquired. Thus, a direct evaluation of the recoverable amount of goodwill is not actually feasible; accordingly, the standard requires that goodwill be combined with other assets which together define a cash generating unit, and that an evaluation of any potential impairment (if warranted by the facts and circumstances) be conducted on an aggregate basis. A more detailed consideration of goodwill is presented in Chapter

11. The impairment of intangible assets other than goodwill (such as patents, copyrights, trade names, W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f customer lists, and franchise rights) should be considered in precisely the same way that long-lived I n t er n at ion al Accou n t in g St an d ar ds tangible assets are dealt with. Carrying amounts must be compared to the greater of net selling price or ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali value in use whenMirthere za are indications that an impairment may have been suffered. Reversals of impairment lossesJohn under defined conditions also recognized. The effects of impairment recognitions Wi ley & Sons © 2003 (952are pages) and reversals willThis be reflected in current period operating results, if the intangible assets in question are com pact and t ruly com pr ehensive qui ck - refer ence being accounted pr foresent in accordance with the benchmark method s account ants with a guide to depend on set for forth in IAS 38 (i.e., at historical cost). On the other hand, if the allowed method (presenting intangible assets at revalued assistance in the preparalternative at ion and under standing of financial statements presentwill ed normally in accordance with I AS. amounts) is followed, impairments be charged to stockholders' equity to the extent that revaluation surplus exists, and only to the extent that the loss exceeds previously recognized valuation T ab le of Con t en t s surplus will the impairment loss be reported as a charge against earnings. Recoveries are handled Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing consistent Standar ds with the method by which impairments were reported, in a manner entirely analogous to the explanation earlier in this chapter dealing with impairments of plant, property, and equipment. Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Disposals - Balance of Sheet Intangible Assets

Chapter 2

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Chapter 3

With regard to Recognized questions of accounting for the disposition of assets, the guidance of IAS 38 virtually of Gains and Losses mirrors 4that- Cash of IASFlow 16. St Gain orent loss recognition will be for the difference between carrying amount (net, Chapter at em if applicable, of any remaining revaluation surplus) and the net proceeds from the sale. Chapter 5 - Financial I nstr uments—Cash and Receiv ables Chapter 6

- I nventor y

- Rev enue Recogni tion,Software I ncluding Constr uction Contr act sand Similar Costs Year 2000 Computer Revisions

Chapter 7 Chapter 8

- Property , Plant , and Equipment The months upAsset to the Chapter 9 - Ileading ntangi ble s start of the year 2000 were characterized by a great deal of consternation

caused by the fact that large fraction ofent "mainframe" computer software was unable to differentiate I nterests in a Financial Instr um s, Associat es, Joint Ventur es, and the year 2000 from 1900, sincety only the last two digits were used in date fields during the era when I nvestm ent Pr oper computer costs were high. and ThisConsolidat led to theed expectation that many programs would "crash" when Chapter 11 storage - Business Combinations Fin ancial Statements the last century ended, causing widespread mayhem. To obviate thisafter risk,t he many companies committed Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents Chapter 12 enormous resources to acquiring Balance Sheet Date replacement software or reprogramming existing software. This gave rise to the issue: wereTer such costs capitalizable? Chapter 13 -financial Financialreporting I nstr uments—Longm Debt Chapter 10 -

Chapter 14 - Leases

The Standing Interpretations Committee ruled in SIC 6 that costs incurred to maintain or restore the benefits originally intended when software systems were installed were to be expensed as incurred. Chapter 16 - Em ploy ee Benefit s That is, assuming the carrying values of software had not been written down for the impairment of not Chapter 17 - Stock holder s' Equit y being able to cope with the year 2000, any costs would not add to the utility of the software, but would Chapter 18 - Earnings Per Share only maintain or preserve it at the amounts already reflected in the financial statements. Chapter 15 - I ncom e Taxes

Chapter 19 - I nterim Financial Repor ting

While the passed Chapter 20 "Y2K" - Segmcrisis ent Repor ting(with surprisingly little problem, in fact), the guidance of SIC 6 remains relevant. it extends to any costs incurred software to its original value. For Chapter 21Logically, - Accounting Changes and Cor rection of Erto rorrestore s example, cost anyency software modifications necessitated by the more recent introduction of the Chapter 22 the - For eignofCurr euro currency wouldPart alsoy have to be expensed as incurred. Chapter 23 - RelatedDisclosures Chapter 24 - Specialized I ndustr ies

A related question is whether the cost of upgrading or repairing the software should be accrued in anticipation of engaging in this effort. It appears that accrual in anticipation of these expenses is not Chapter 26 - Gov er nm ent Gr an ts warranted, however, since a legal or constructive obligation to incur such costs does not exist in Appendix - Dithe sclosure advance.A On other Checklist hand, if a reporting entity were not planning to make necessary modifications to Appendix B I llustrativ e Financial St atemas ent s Pr esent ed of Under I AS were going to cause to become software which external factors (such the adoption the euro) Appendix C Com parison of I AS, US GAAP, and UK GAAP obsolete, then clearly a reduction in useful life (handled prospectively) or even an impairment charge, I ndex would be warranted. Chapter 25 - I nflation and Hyperinflation

List of Tables List of Ex hibits and Ex am ples

Website development and operating costs

List of Sidebar s

With the advent of the Internet and growing popularity of "e-commerce," many businesses now have their own websites. Websites have become integral to doing business and may be designed either for external or internal access. Those designed for external access are developed and maintained for the purposes of promotion and advertising of an entity's products and services to their potential consumers. On the other hand, those developed for internal access may be used for displaying company policies and storing customer details. With substantial costs being incurred by many entities for website development and maintenance, the

need for accounting guidance became evident. The recently promulgated interpretation, SIC 32, concluded that such costs represent an internally generated intangible asset that is subject to the requirements of IAS costs bedrecognized if, oand only if, an enterprise can W ile38, y Iand AS 2that 0 03such : I n t erp re tshould at ion an Ap p licat io n f satisfy the requirements of IAS 38, paragraph 45. Therefore, website costs have been likened to I n t er n at ion al Accou n t in g St an d ar ds "development phase" (as opposed to "research phase") costs. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za

Thus the stringent qualifying applicable John Wi ley &conditions Sons © 2003 (952 pages)to the development phase, such as "ability to generate future economic benefits," have to be met if such costs are to be recognized as an intangible This com pact and t ruly com pr ehensive qui ck - refer ence asset. If an enterprise is not able to demonstrate a website solely or primarily for pr esent s account ants with a guidehow to depend on developed for promoting and advertising products and services will generate probable future economic assistanceits in own the prepar at ion and under standing of financial statements present ed in accordance with I AS. be recognized as an expense when benefits, all expenditure on developing such a website should incurred. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application I nternational ingshould be accounted for in Any internal expenditure on development andofoperation of theAccount website Standar ds

accordance with IAS 38. Comprehensive additional guidance is provided in the Appendix to the Interpretation and is summarized below.

Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

1. Planning stage expenditures, such as undertaking feasibility studies, defining hardware and - Balance Sheet software specifications, evaluating alternative products and suppliers, and selecting I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter preferences, 3 shouldGains be expensed; of Recognized and Losses Chapter 2

Chapter 4

- Cash Flow St at em ent

2. Application and infrastructure development costs pertaining to acquisition of tangible assets, - Financial I nstr uments—Cash and Receiv ables such as purchasing and developing hardware, should be dealt with in accordance with IAS 16;

Chapter 5 Chapter 6

- I nventor y

Chapter 3. Other 7 - Rev application enue Recogni and tion, infrastructure I ncluding development Constr uction Contr costs,actsuch s as obtaining a domain name,

operating software, developing code for the application, installing developed Chapter developing 8 - Property , Plant , and Equipment on Asset the web Chapter applications 9 - I ntangi ble s server and stress testing, should be expensed when incurred unless the conditions prescribed by IAS 38, 19es, and 45,Ventur are met; I nterests in Financial Instr umparagraphs ent s, Associat Joint es, and

Chapter 10 -

I nvestm ent Pr oper ty 4. Graphical design development suched asFin designing the appearance of web pages, should Chapter 11 - Business Combinations andcosts, Consolidat ancial Statements

be expensed when incurred unless conditions prescribed by IAS 38, paragraphs 19 and 45, are Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Chapter met; 12 -

Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

5. Content development costs, such as creating, purchasing, preparing, and uploading information on the website before completion of the website's development should be expensed when Chapter 15 - I ncom e Taxes incurred under IAS 38, paragraph 57(c), to the extent content is developed to advertise and Chapter promote 16 - Em ploy ee Benefit s own products or services; otherwise, expensed when incurred, unless an enterprise's Chapter expenditure 17 - Stock holder s' Equit y meets conditions prescribed by IAS 38, paragraphs 19 and 45; Chapter 14 - Leases

Chapter 18 - Earnings Per Share

6. Operating costs, suchRepor as updating graphics and revising content, adding new functions, Chapter 19 - I nterim Financial ting website Chapter registering 20 - Segm ent Reporwith ting search engines, backing up data, reviewing security access and usage Changes of the website should when incurred, unless in rare circumstances Chapter analyzing 21 - Accounting and Cor rectionbe of expensed Er ror s costs the criteria prescribed in IAS 38, paragraph 60, in which case such Chapter these 22 - For eign meet Curr ency expenditure is capitalized as a cost of the website; and

Chapter 23 - Related- Part y Disclosures

Chapter 24 - Specialized I ndustr ies and administrative overhead (excluding expenditure which can be 7. Other costs, such as selling Chapter directly 25 - I nflation and Hyperinflation attributed to preparation of website for use), initial operating losses and inefficiencies Chapter incurred 26 - Gov er nm entthe Grwebsite an ts before achieves planned performance, and training costs of employees to Appendixoperate A - Di sclosure Checklist the website, should be expensed when incurred. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

This interpretation became effective in March 2002. The effects of adopting this Interpretation should Appendix C - Com parison of I AS, US GAAP, and UK GAAP

be accounted for using the transition provisions originally established by IAS 38. For instance, when a I ndex website does not meet the requirements of this SIC but was previously recognized as an asset, the item should be derecognized at the date when this SIC becomes effective. If previously capitalized List of Ex hibits and Ex am ples costs are written off due to the imposition of SIC 32, the expense may be handled under either the List of Sidebar s benchmark or alternative treatments specified by IAS 8. List of Tables

Disclosure Requirements The disclosure requirements set out in IAS 38 for intangible assets and those imposed by IAS 16 for property, plant, and equipment are very similar, and both demand extensive details to be disclosed in the financial statement footnotes. Another marked similarity is the exemption from disclosing "comparative information" with respect to the reconciliation of carrying amounts at the beginning and

end of the period. While this may be misconstrued as a departure from the well-known principle of presenting all numerical information in comparative form, it is worth noting that it is in line with the provisions of IASW 1.ile IAS thatio"(u)nless an International Accounting y I 1, ASparagraph 2 0 03 : I n t38, erpcategorically re t at ion an dstates Ap p licat n of Standard permitsI or requires otherwise, comparative information should be disclosed in respect of the n t er n at ion al Accou n t in g St an d ar ds previous period for all numerical information in the financial statements...." (Another standard that ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali za contains a similarMir exemption from disclosure of comparative reconciliation information is IAS 37—please refer John to theWirelevant chapter thepages) book for details.) ley & Sons © 2003of(952 This com pact and t ruly com pr ehensive qui ck - refer ence

For each class ofprintangible assets (distinguishing esent s account ants with a guide between to dependinternally on for generated and other intangible assets), disclosure is required of prepar at ion and under standing of financial assistance in the statements present ed in accordance with I AS.

1. The amortization method(s) used; T ab le of Con t en t s

2. Useful lives or amortization rates used;

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

3. The gross carrying amount and accumulated amortization (including accumulated impairment losses) at both the beginning and end of the period;

Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2 reconciliation - Balance Sheet 4. A of the carrying amount at the beginning and end of the period showing additions, I ncom e disposals, Statement,acquisitions Stat em ent of ges of in business Equit y, and Statem ent increases or decreases retirements, byChan means combinations, Chapter 3 of Recognized Gains andreductions Losses resulting from revaluations, to recognize impairments, amounts written back to Chapter recognize 4 - Cash Flow St at emof ent recoveries prior impairments, amortization during the period, the net effect of Chapter translation 5 - Financial I nstr uments—Cash and Receiv ables and any other material items; and of foreign entities' financial statements, Chapter 6

- I nventor y 5. The item of the income statement in which the amortization charge of intangible assets is Chapter 7 - line Rev enue Recogni tion, I ncluding Constr uction Contr act s Chapter included. 8 - Property , Plant , and Equipment Chapter 9

- I ntangi ble Asset s The standard explains the concept of "class of intangible assets" as a "grouping of assets of similar I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and nature and Chapter 10 - use in an enterprise's operations." Examples of intangible assets that could be reported as I nvestm ent Pr oper ty separate classes (of intangible assets) are Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

1. BrandCurr names; ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Chapter 12 -

Balance Sheet Date

2. Licenses and franchises;

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases and publishing titles; 3. Mastheads Chapter 15 - I ncom e Taxes

4. Computer software; Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y

5. Copyrights, patents and other industrial property rights, service and operating right;

Chapter 18 - Earnings Per Share

Chapter 19 - I nterim Financial Repor ting 6. Recipes, formulae, models, designs and prototypes; and Chapter 20 - Segm ent Repor ting

7. Intangible assetsChanges under development. Chapter 21 - Accounting and Cor rection of Er ror s Chapter 22 - For eign Curr ency

The above list is only illustrative in nature. Intangible assets may be combined (or disaggregated) to report larger classes (or smaller classes) of intangible assets if this results in more relevant information Chapter 24 - Specialized I ndustr ies for financial statement users. Chapter 23 - Related- Part y Disclosures

Chapter 25 - I nflation and Hyperinflation

In addition, should also disclose the following: Chapter 26 - the Govfinancial er nm ent statements Gr an ts Appendix - Di sclosure Checklist 1. If Athe amortization period for any intangibles exceeds twenty years, the justification therefor; Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

2. The carrying amount, and remaining amortization period of any individual intangible Appendix C - nature, Com parison of I AS, US GAAP, and UK GAAP I ndex

asset that is material to the financial statements of the enterprise as a whole;

List of Tables

3. For intangible assets acquired by way of a government grant and initially recognized at fair value, the fair value initially recognized, their carrying amount, and whether they are carried List of Sidebar s under the benchmark or allowed alternative treatment for subsequent measurement; List of Ex hibits and Ex am ples

4. Any restrictions on titles and any assets pledged as security for debt; and 5. The amount of outstanding commitments for the acquisition of intangible assets. In addition, the financial statements should disclose the aggregate amount of research and development expenditure recognized as an expense during the period.

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Chapter 10: Interests in Financial Instruments, I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Associates, Joint Ventures, andISBN:0471227366 Investment Mir za Wi ley & Sons © 2003 (952 pages) PropertyJohn This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for in the prepar at ion and under standing of financial Perspectiveassistance and Issues statements present ed in accordance with I AS.

A le number IAS T ab of Conof t en t s address varying aspects of accounting for investments. The now-superseded

standard, 25, had offered and reporting entities very wide array of options, ranging from historical Wiley I AS 20[AS 03—Int er pretation Application of a I nternational Account ing costingdsto full market value; this contributed to the non-comparability across reporting entities that was Standar the subject of severe criticism of the international accounting standard-setting process in its earlier Preface incarnation. the move (mostly) value accounting for financial assets, this problem has Chapter 1 - IWith ntr oduction to Ito nter nationalfair Accounting Standar ds faded. 2 Chapter

- Balance Sheet

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter Under current 3 standards, accounting for passive investments in financial instruments is generally at fair of Recognized Gains and Losses

value (an exception is made for held-to-maturity investments in debt instruments), although how the - Cash Flow St at em ent changes in fair value are recognized still depends on management's intentions. Accounting for Chapter 5 - Financial I nstr uments—Cash and Receiv ables investments over which the investor has significant influence is generally by the equity method, Chapter 6 - I nventor y although for the special case of joint ventures the proportional consolidation method is also permitted. Chapter 7 - Rev enueestate, Recogni tion,than I ncluding Constr uction Contr s Investments in real other as productive assets or act goods held for sale in the ordinary course Chapter 8 Property , Plant , and Equipment of business, is optionally accounted for at either fair value or historical cost. Chapter 4

Chapter 9

- I ntangi ble Asset s

The relevantI nterests standards are IAS 39, which provides guidance passive investments in debt and equity in Financial Instr um ent s, Associat es, Jointfor Ventur es, and Chapter 10 Pr oper tythe accounting for active investments in equity securities; IAS 31, instruments;I nvestm IAS 28,ent governing Chapter - Business Combinations ed Fin ancial Statements dealing11 with joint ventures; and IASand 40,Consolidat covering investments in real property other than as productive capacity or goods be sold customers. A number of SIC (interpretations) Curr enttoLiabilit ies,toProv isions, Cont ingencies, and Ev ents after t he are also relevant to the Chapter 12 Sheet Date discussion inBalance the following pages. Chapter 13 - Financial I nstr uments—Long- Ter m Debt

The IASB currently deliberating a number of revisions to standards addressed in this chapter, under Chapter 14 is - Leases both its15 Improvements Project and a separate proposed revision to IAS 32 and 39. These important Chapter - I ncom e Taxes changes, which are anticipated to be enacted essentially as proposed, will be summarized in the appropriate sections of this chapter.

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

Chapter 19 - I nterim Financial Repor ting

Sources of IAS

Chapter 20 - Segm ent Repor ting

IAS 28, 31, 39, 40

SIC 3, 13, 20, 33

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

ile yTerms I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f DefinitionsWof I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

Associate

ISBN:0471227366

An enterprise over which an investor has significant influence but which is neither a This com pact and t ruly com pr ehensive qui ck - refer ence subsidiary a joint venture the investor company. pr esent s nor account ants with a of guide to depend on for assistance in the prepar at ion and under standing of financial

Available-for-sale financial assets statements present ed in accordance with I AS. Those financial assets that are not held for trading or held to maturity, and are not T ab le of Con t en t s loans and receivables originated by the entity. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Control

Preface

Chapter 1

The power to obtain the future economic benefits that flow from an asset.

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet Cost method I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent A method ofGains accounting for investment whereby the investment is recorded at cost; of Recognized and Losses

Chapter 3

-

Chapter 4

theFlow income statement reflects income from the investment only to the extent that the - Cash St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

investor receives distributions from the investee's accumulated net profits arising after the date of acquisition.

Chapter 7 -investment Rev enue Recogni tion, I ncluding Constr uction Contr act s Current Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

An investment that is, by its nature, readily realizable and is intended to be held for not more than one year.

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Derecognize

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Remove a financial asset or liability, or a portion thereof, from the entity's balance

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he sheet.Sheet Date Balance

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Derivative

Chapter 14 - Leases

A financial instrument (1) whose value changes in response to changes in a specified interest rate, security price, commodity price, foreign exchange rate, index of prices or Em ploy ee Benefit s rates, a credit rating or credit index, or similar variable (which is known as the Stock holder s' Equit y "underlying"), (2) that requires no initial net investment or little initial net investment Earnings Per Share relative to other types of contracts that have a similar response to changes in market I nterim Financial Repor ting is settled at a future date. conditions, and (3) that

Chapter 15 - I ncom e Taxes Chapter 16 Chapter 17 Chapter 18 Chapter 19 -

Chapter 20 - Segm ent Repor ting

Differential Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For The eign difference Curr ency between the carrying value of common stock investment and the book Chapter 23 - Relatedy Disclosures valuePart of underlying net assets of the investee; this should be allocated between Chapter 24 - Specialized I ndustr ies excess (or deficiency) of fair value over (or under) book value of net assets and Chapter 25 - I nflation goodwill and(aHyperinflation negative goodwill) and amortized appropriately against earnings from Chapter 26 - Govinvestee. er nm ent Gr an ts Appendix A - Di sclosure Checklist

Equity method

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Aparison methodofofI AS, accounting whereby investment is initially recorded at cost and Appendix C - Com US GAAP, and UKthe GAAP subsequently adjusted for the postacquisition change in the investor's share of net assets of the investee. The investor's income statement reflects the investor's share List of Tables of the investee's results of operations. List of Ex hibits and Ex am ples I ndex

List of Sidebar s

Fair value

The amount for which an asset could be exchanged between a knowledgeable, willing buyer and seller in an arm's-length transaction. Goodwill The excess of the cost of the acquired enterprise over the sum of the amounts assigned to identifiable assets acquired net of any liabilities assumed.

Hedge effectiveness The degree to which offsetting changes in fair values or cash flows attributable to the hedged achieved by hedging instrument. W ile y risk I ASare 2 0 03 : I n t erp rethe t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Hedged item by Bar r y J. Epstein and Abbas Ali ISBN:0471227366 za AnMir asset, liability, firm commitment, or forecasted future transaction that (1) exposes Wi ley & Sons © 2003 (952 theJohn entity to risk of changes in pages) fair value or changes in future cash flows, and that (2) This com pact and t ruly com pr ehensive qui ck -as refer encehedged. for hedge accounting purposes is designated being pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Hedging

Designating one or more hedging instruments such that the change in fair value is an T ab le of Con t en toffset, s in whole or part, to the change in the fair value or the cash flows of a hedged Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing item. Standar ds Preface Hedging instrument Chapter 1 Chapter 2

- I ntrFor oduction I nter national Accounting Standar ds derivative or (in limited instances) hedgetoaccounting purposes, a designated - Balance Sheet another financial asset or liability whose fair value or cash flows are expected to offset

Chapter 3

-

Chapter 4 Chapter 5

- Cash Flow St at em ent accounting purposes only if they hedge the risk of changes in foreign currency - Financial I nstr uments—Cash and Receiv ables exchange rates.

Chapter 6

- I nventor y

I ncom e Statement, Statvalue em ent Chan ges in y, and Statem ent item. Nonderivative changes in the fair orofcash flows ofEquit a designated hedged of Recognized Gains and Losses

financial assets or liabilities may be designated as hedging instruments for hedge

Held-for-trading Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s - Property , Plantasset , and Equipment A financial which is acquired principally for the purpose of generating a profit - I ntangi Asset s fluctuations in price or dealer's margin. Regardless of why acquired, a fromble short-term I nterests financial in Financial asset should Instrbe um denoted ent s, Associat as held-for-trading es, Joint Venturifes, there andis a pattern of short-term Chapter 10 I nvestm Pr oper profitent taking by ty the entity. Derivative financial assets are always deemed held-forChapter 8 Chapter 9

Chapter 11 - Business and Consolidat ed Finas ancial Statements tradingCombinations unless designated and effective hedging instruments. Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balance Sheet Date Held-to-maturity investments

Chapter 13 - Financial I nstrassets uments—LongDebt Financial with fixedTer ormdeterminable payments and fixed maturities, that entity Chapter 14 - Leases has positive intent and ability to hold to maturity, except for loans and receivables Chapter 15 - I ncom e Taxes by the entity. originated Chapter 16 - Em ploy ee Benefit s

Investee Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings An enterprise Per Share that issued voting stock that is held by an investor. Chapter 19 - I nterim Financial Repor ting

Investee capital Chapter 20 - Segm enttransaction Repor ting

The purchase or sale by rection the investee ofsits own common shares, which alters the Chapter 21 - Accounting Changes and Cor of Er ror ownership interest and is accounted for by the investor as if the investee Chapter 22 - For investor's eign Curr ency were Part a consolidated Chapter 23 - Relatedy Disclosuressubsidiary. Chapter 24 - Specialized I ndustr ies

Investment

Chapter 25 - I nflation and Hyperinflation

An asset held by an enterprise for purposes of accretion of wealth through distributions of interest, royalties, dividends, and rentals, or for capital appreciation or Appendix A - Di sclosure Checklist other benefits to be obtained. Chapter 26 - Gov er nm ent Gr an ts

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP Investment property I ndex

According to IAS 40, investment property is land or a building, or part of a building, or both, held by the owner or by the lessee under a finance lease, to earn rentals or for List of Ex hibits and Ex amappreciation ples capital purposes or both, as opposed to being held as List of Tables

List of Sidebar s

An owner-occupied property (i.e. for use in the production or supply of goods or services or for administrative purposes); or Property held for sale in the ordinary course of business. Investor A business enterprise that holds an investment in the voting stock of another enterprise.

Joint control The contractually agreed-on joint sharing of control over the operations and/or assets W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f of Ian economic activity. n t er n at ion al Accou n t in g St an d ar ds Joint venture by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za A John contractual whereby Wi ley &arrangement Sons © 2003 (952 pages) two or more parties undertake an economic

activity subject their joint This com pact to and t ruly comcontrol. pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

Long-term investment assistance in the prepar at ion and under standing of financial ed in aaccordance with I AS. Anstatements investmentpresent other than current investment. T ab le of Con t en t s

Market value

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing The amount obtainable from the sale of an investment in an active market. Standar ds Preface

Marketable - I ntr oduction to I nter national Accounting Standar ds Assets for which there are active markets and from which market values, or other Chapter 2 - Balance Sheet indicators that permit determination thereof, are I ncom e Statement, Stat em ent of Chan ges in Equit y, available. and Statem ent Chapter 1

Chapter 3

-

of Recognized Gains and Losses

Owner-occupied Chapter 4 - Cash Flowproperty St at em ent Chapter 5

Property held by the owner (i.e., the ables enterprise itself) or by a lessee under a finance - Financial I nstr uments—Cash and Receiv

Chapter 6

leaseyfor use in the production or supply of goods or services or for administrative - I nventor

Chapter 7

- Revpurposes. enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Significant influence

Chapter 10 -

The power of the investor to participate in the financial and operating policy decisions

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and of theent investee; I nvestm Pr oper tyhowever, this is less than the ability to control those policies.

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Subsidiary

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he An enterprise that is controlled by another enterprise (its parent). Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Undistributed investee earnings

Chapter 14 - Leases

Thee investor's share of investee earnings in excess of dividends paid. Chapter 15 - I ncom Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS And 2 0 03 : Examples I n t erp re t at ion an d Ap p licat io n o f Concepts, Rules, I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

AccountingMirfor za Debt and Equity Investments John Wi ley & Sons © 2003 (952 pages)

IAS 39, which was effective in 2001, provides an entirely different strategy for the recognition and This com pact and t ruly com pr ehensive qui ck - refer ence measurement of financial debttoand equityonsecurities held as investment assets. pr esent s instruments account ants such with aas guide depend for IAS 39 also addresses accounting for financial liabilities (see Chapter 12) and the matter of hedging assistance in the prepar at ion and under standing of financial statements present in accordance withwas I AS.introduced in Chapter 5 and which will be using financial derivatives and othered instruments, which further explored later in the present chapter. T ab le of Con t en t s Wiley I AS 20provisions 03—Int er pretation and Application of I nternational Account ing Under the of IAS 39, the formerly important distinction between current and noncurrent Standar ds

investments is eliminated completely. Instead, the issue of "management intent" is manifested in the tripartite distinction of investments into those held for trading, those available for sale albeit not held for Chapter 1 - I ntr oduction to I nter national Accounting Standar ds trading purposes, and those intended to be held to maturity. The accounting for debt and equity Chapter 2 held - Balance Sheet securities as investments is dependent upon which of these categories they are placed in, as I ncom einStatement, Stat em ent of Chan ges in Equit y, and Statem ent described in detail Chapter 5. In the following sections of this chapter, illustrations of the accounting Chapter 3 of Recognized Gains and Losses for such investments will be presented. Preface

Chapter 4

- Cash Flow St at em ent

Chapter 5 - Financial I nstr and Receiv For convenience, some ofuments—Cash the key provisions of IASables 39 are repeated in the following discussion, but Chapter 6 less - I nventor y these are extensive than the presentation in Chapter 5, which should be referred to by the reader. Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 9

- I ntangi ble Asset s

Determining the, Plant cost, and of debt and Chapter 8 - Property Equipment

equity investments.

Debt and equity securities held as investment assets are recorded at cost, including transactions costs,

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10date as of the when ent the Pr investor I nvestm oper ty entity becomes a party to the contractual provisions of the instrument.

In general this date is readily determinable and unambiguous. For securities purchased "regular way" (when settlement date follows the trade date by several days), however, recognition may be on either Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 or - the settlement date. Any change in fair value between these dates must be recognized the trade Balance Sheet Date (strictly13 speaking, regular-way trades involve forward contract, which is a derivative financial Chapter - Financial I nstr uments—LongTer maDebt instrument, but IAS 39 does not require that these be actually accounted for as derivatives). Chapter 14 - Leases Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 15 - I ncom e Taxes

Carrying amount for investments—general considerations.

Chapter 16 - Em ploy ee Benefit s

Chapter 17 equity - Stocksecurities holder s' Equit Debt and heldyas investments are to be accounted for at fair value, if held for trading Chapter 18 - Earnings Per for Share or if otherwise available sale. Transaction costs are excluded from the fair value determinations, and Chapter 19 - I there nterimhas Financial Repor ting in value since acquisition date, there will often be a loss thus, unless been an increase Chapter recognized 20 - in Segm the ent firstRepor holding tingperiod, due to the fact that when originally recorded, transaction costs

were included. Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

In the case of investments held for trading purposes, changes in fair value from period to period are included in operating results. On the other hand, in the case of investments classified as available-forChapter 24 - Specialized I ndustr ies sale, the changes in fair value may either be included in current operating results, or recognized directly Chapter 25 - I nflation and Hyperinflation in equity through the statement of changes in equity, but each reporting entity must make a onetime Chapter 26 - Gov er nm ent Gr an ts election of which of these alternatives it will conform to thereafter. While apparently a change from Appendix Di sclosure Checklistin current operating results would be tolerated, IAS 39 makes it quite reportingAin- equity to inclusion Appendix B I llustrativ e atem ent s Prunder esent ed ASIAS 8. In other words, it is implicit that clear that the converseFinancial could notStbe justified theUnder termsI of Appendix C Com parison of I AS, US GAAP, and UK GAAP inclusion of these gains and losses in earnings is deemed a preferable method of financial reporting. Chapter 23 - Related- Part y Disclosures

I ndex

Debt securities to be held to maturity (assuming that the conditions for this as set forth by IAS 39 are List of Tables met; that Ex management has demonstrated both the intent and the ability to hold the securities List of namely, Ex hibits and am ples until maturity date) are maintained at amortized historical cost, unless objective evidence of List of the Sidebar s

impairment exists. The transaction costs included in the originally recorded basis are not eliminated, but are typically amortized as part of any premium or discount.

Constraints on use of held-to-maturity classification. It is clear that an enterprise cannot have a demonstrated ability to hold to maturity an investment if it is subject to a constraint that could frustrate its intention to hold the financial asset to maturity. The question arises as to whether this means that a debt security that has been pledged as collateral or

transferred to another party under a "repo" or securities lending transaction and continues to be recognized, cannot be classified as a held-to-maturity investment. The IGC has expressed the opinion that an enterprise's intent and hold securities maturity W ile y I AS 2 0ability 03 : I ntot erp re debt t at ion an d Ap pto licat io n o fis not necessarily constrained if those securities have been pledged as collateral or are subject to a repurchase agreement or securities I n t er n at ion al Accou n t in g St an d ar ds lending agreement. However, according to the IGC, an enterprise does not have the positive intent and ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali ability to hold the Mir debt za securities until maturity if it does not expect to be able to maintain or recover access to the securities. John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence

The strictures against early sales ants of securities that to had been classified as held-to-maturity are quite pr esent s account with a guide depend on for severe. The IASC's IGC hasinobserved that if an sells a significant assistance the prepar at ion andinvestor under standing of financialamount of financial assets statements present ed in accordance with I AS.assets acquired after that date as held-toclassified as held-to-maturity, does not classify any financial maturity, but maintains that it still intends to hold the remaining held-to-maturity investments to maturity T ab le of Con t en t s and accordingly does not reclassify them, the investor will be deemed not in compliance with IAS 39. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing According Standar ds to the this interpretation, whenever a sale or transfer of more than an insignificant amount of financial assets classified as held-to-maturity results in the conditions in IAS 39 not being satisfied, no Preface instruments should continue to be classified in that category. Thus, any remaining held-to-maturity Chapter 1 - I ntr oduction to I nter national Accounting Standar ds assets are to be reclassified as either available-for-sale (most likely) or held-for-trading (very unlikely). Chapter 2 - Balance Sheet The reclassification is recorded in the reporting period in which the sales or transfers occurred and is I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 -for as a change in classification as prescribed by the standard. Once this violation has accounted of Recognized Gains and Losses occurred, at least two full financial years must pass before an enterprise can again classify financial Chapter 4 - Cash Flow St at em ent assets as held-to-maturity. Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter - I nventor y Another6 question concerning the ability to continue classification of investments as held-to-maturity Chapter 7 Rev enue Recogni tion, Iby ncluding Constr uction Contr act s of the investor entity. According to relates to sales that are triggered a change in the management Chapter 8 such - Property Plant ,definitely and Equipment the IGC, sales ,would compromise the classification of other financial assets as held-toChapter 9 A- change I ntangi ble Asset s maturity. in management is not identified under IAS 39 as an instance where sales or

transfers from I nterests held-to-maturity in Financial doInstr not um compromise ent s, Associat thees, classification Joint Venturas es,held-to-maturity. and Sales that are I nvestm Pr oper ty made in response toent such a change in management would, therefore, call into question the enterprise's Chapter - Business Combinations Consolidat ed Fin ancial Statements intent to11hold any of its investmentsand to maturity. Chapter 10 -

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balance Sheet Date The IGC cites an example similar to the following, of a company that held a portfolio of financial assets that was asI nstr held-to-maturity. InTer them current Chapter 13classified - Financial uments—LongDebt period, at the direction of the board of directors, the entire management team has been replaced. The new management wishes to sell a portion Chapter 14 senior - Leases of the held-to-maturity financial assets in order to carry out an expansion strategy designated and Chapter 15 - I ncom e Taxes approved theploy board, as part Chapter 16 by - Em ee Benefit s of its recovery strategy. Although the previous management team had been in place since the enterprise's inception and the company had never before undergone a major Chapter 17 - Stock holder s' Equit y restructuring, the sale will nevertheless call into question this entity's intent to hold remaining held-toChapter 18 - Earnings Per Share maturity financial assets to maturity. If the sale goes forward, all held-to-maturity securities would have Chapter 19 - I nterim Financial Repor ting to be reclassified. Chapter 20 - Segm ent Repor ting

Chapter - Accounting andofCor of Er ror sfor classifying securities as held-to-maturity is Another21example of theChanges stringency therection requirements Chapter 22 -by Foran eign Curr ency on sales made to satisfy regulatory authorities. In some countries, suggested IGC position Chapter 23 -ofRelatedPart y Disclosures regulators banks or other industries may set capital requirements on an entity-specific basis based Chapter 24 - Specialized I ndustr on an assessment of the risk inies that particular entity. IAS 39 indicates that an enterprise that sells held-

to-maturity response to an unanticipated significant increase by the regulator in the Chapter 25 - investments I nflation andinHyperinflation industry's requirements Chapter 26 - capital Gov er nm ent Gr an ts may do so under that standard without necessarily raising a question about itsAintention to hold other investments to maturity. The IGC has ruled, however, that sales of heldAppendix - Di sclosure Checklist to-maturity that are St due to ent a significant increase Appendix B - investments I llustrativ e Financial atem s Pr esent ed Under Iin ASentity-specific capital requirements

imposedCby- Com regulators industry-wide requirements) will indeed "taint" the enterprise's Appendix parison(contrasted of I AS, US to GAAP, and UK GAAP

intent to hold other financial assets as held-to-maturity unless it can be demonstrated that the sales fulfill the condition in IAS 39 in that they result from an increase in capital requirements which is an List of Tables isolated event that is beyond the enterprise's control and that is nonrecurring and could not have been List of Ex hibits and Ex am ples reasonably anticipated by the enterprise. I ndex

List of Sidebar s

Held-to-maturity investments can be disposed of before maturity under certain conditions. As noted above, an enterprise may not classify any financial asset as held-to-maturity unless it has both the positive intent and ability to hold it to maturity. To put teeth into this threshold criterion, IAS 39 stipulates that, if a sale of a held-to-maturity financial asset occurs, it calls into question the enterprise's intent to hold all other held-to-maturity financial assets to maturity. Exceptions are allowed for sales

"close enough to maturity," and after collection of "substantially all" of the original principal. Questions have arisen in practice on how these conditions be interpreted. In response, the IASC's IAS W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f 39 Implementation Guidance Committee (IGC) has offered certain insights into the application of these I n t er n at ion al Accou n t in g St an d ar ds exception criteria. According to the IGC, these conditions relateISBN:0471227366 to situations in which an enterprise can by Bar r y J. Epstein and Abbas Ali be expected to beMir indifferent whether to hold or sell a financial asset because movements in interest za rates after substantially original John Wiall leyof&the Sons © 2003 principal (952 pages)has been collected or when the instrument is close to maturity will not have a significant impact on its fair value. Thus, in such situations, a sale would not This com pact and t ruly com pr ehensive qui ck - refer ence affect reported net profit or loss and no price volatility would be during the remaining period to pr esent s account ants with a guide to depend onexpected for maturity. assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

More specifically, the condition "close enough to maturity" addresses the extent to which interest rate T ab le of Con t en t s risk is substantially eliminated as a pricing factor. According to the IGC, if an enterprise sells a financial Wiley 20than 03—Int er pretation and Application of I nternational Account ing generally qualify for use of this assetI AS less three months before its scheduled maturity, which would Standar ds exception. The impact on the fair value of the instrument for a difference between the stated interest Preface rate and the market rate generally would be small for an instrument that matures in three months, Chapter 1 - I ntr oduction to I nter national Accounting Standar ds relative to an instrument that matures in several years, for example. Chapter 2

- Balance Sheet

The condition I ncom of having e Statement, collected Stat "substantially em ent of Chan all"ges of in theEquit original y, and principal Statem provides ent guidance as to Losses when a saleofis Recognized for not moreGains thanand an insignificant amount. Thus, if an enterprise sells a financial asset Chapter 4 - collected Cash Flow90% St ator emmore ent of the financial asset's original principal through scheduled payments after it has Chapter 5 - Financial I nstr uments—Cash or prepayments, the requirements of IASand 39 Receiv would ables probably not be deemed to have been violated. Chapter However, 6 if- the I nventor enterprise y has collected only 10% of the original principal, then that condition clearly is not met.7 The 90% threshold apparently meant to be absolute, Chapter - Rev enue Recogni is tion, I ncludingnot Constr uction Contr act s so that some judgement is still needed8to -operationalize exception. Chapter Property , Plantthis , and Equipment Chapter 3

Chapter 9

- I ntangi ble Asset s

In some cases a debt instrument will have a put option associated with it; this gives the holder (the I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10the - right, but not the obligation, to require that the issuer redeem the debt, under defined investor) I nvestm ent Pr oper ty conditions. IAS 39 permits an enterprise to classify a puttable debt instrument as held-to-maturity, Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements provided that the investor has the positive intent and ability to hold the investment until maturity and Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12intend does not to exercise the put option. However, if an enterprise has sold, transferred, or exercised Balance Sheet Date a put option on more than an insignificantTer amount Chapter 13 - Financial I nstr uments—Longm Debtof other held-to-maturity investments, the standard prohibits continued use of the held-to-maturity classification, subject to exceptions for certain sales Chapter 14 - Leases (very close to maturity, after substantially all principal has been recovered, and due to certain isolated Chapter 15 - I ncom e Taxes events). The IGC has stated that these same exceptions apply to transfers and exercises (rather than Chapter 16 - Em ploy ee Benefit s outright sales) of put options in similar circumstances. The IGC cautions, however, that classification of Chapter 17 - Stock holder s' Equit y puttable debt as held-to-maturity requires great care, as it seems inconsistent with the likely intent of Chapter 18 - Earnings Per Share purchasing a puttable debt instrument. Given that the investor presumably would have paid extra for Chapter - I nterim Financial tingintuitive that the investor would be willing to represent that it does the put 19 option, it would seemRepor counter Chapter 20 -toSegm ent Repor ting not intend exercise that option. Chapter 21 - Accounting Changes and Cor rection of Er ror s

In addition debt Chapter 22 -toFor eignsecurities Curr ency being held to maturity, any financial asset that does not have a quoted market 23 price in an active and the fair value of which cannot be reliably measured, will of Chapter - RelatedPart y market, Disclosures necessity be maintained Chapter 24 also - Specialized I ndustrat ieshistorical cost, again absent any evidence of impairment in value.

Furthermore, loans orand receivables which are originated by the reporting entity, and which are not held Chapter 25 - I nflation Hyperinflation

for trading purposes, are also to be maintained at historical cost, per IAS 39. Loans or receivables that are acquired from others, however, are accounted for in the same manner as other debt securities (i.e., Appendix A - Di sclosure Checklist they must be classified as held-for-trading, available-for-sale, or held-to-maturity, and accounted for Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS accordingly). Chapter 26 - Gov er nm ent Gr an ts

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

I ndex Under IAS 39, held-to-maturity financial assets (i.e., debt instruments held for long-term investment) List Tables andoforiginated loans are measured at amortized cost, using the effective interest method. This requires List Ex hibits and Ex ples be amortized not on the straight-line basis, but rather by the effective thatofany premium or am discount

interest method List of Sidebar s to achieve a constant yield. A question arises as to how discount or premium arising in connection with the purchase of a variable-rate debt instrument should be amortized (i.e., whether it should be amortized to maturity or to the next repricing date.) The IGC has ruled that this depends generally on whether, at the next repricing date, the fair value of the financial asset will be its par value. In theory, of course, a constantly re-pricing variable-rate instrument will sell at par value, since it offers a current yield fully reflective of market rates and the issuer's credit risk. Accordingly, the IGC notes that there are two potential reasons for the discount or premium: it either (1) could reflect the timing of interest payments—for instance, because interest

payments are in arrears or have otherwise accrued since the most recent interest payment date or market rates of interest have changed since the debt instrument was most recently repriced to par—or (2) the market's required yield the rate, foro instance, because the credit W ile y I AS 2 0differs 03 : I nfrom t erp re t atstated ion anvariable d Ap p licat io n f spread required by the market for the specific instrument is higher or lower than the credit spread that I n t er n at ion al Accou n t in g St an d ar ds is implicit in the variable rate. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za

Thus, a discount John or premium reflects interest that has accrued on the instrument since interest was Wi ley &that Sons © 2003 (952 pages) last paid or changes in market rates of interest since the debt instrument was most recently repriced to This com pact and t ruly com pr ehensive qui ck - refer ence par is to be amortized to the date that the accrued interest willonbefor paid and the variable interest rate is pr esent s account ants with a guide to depend reset to market. On the other to the extent discount or of premium assistance in hand, the prepar at ion andthe under standing financialresults from a change in the present ed in accordance with I AS. it is to be amortized over the remaining credit spread overstatements the variable rate specified in the instrument, term to maturity of the instrument. In this case, the date the interest rate is next reset is not a marketT ab le of Con t en t s based repricing date of the entire instrument, since the variable rate is not adjusted for changes in the Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing credit spread for the specific issue. Standar ds Preface

To illustrate, a twenty-year bond is issued at $10,000,000, which is the principal (i.e., par) amount. The - I ntr oduction to I nter national Accounting Standar ds debt requires quarterly interest payments equal to current three-month LIBOR plus 1% over the life of Chapter 2 - Balance Sheet rate reflects the market-based required rate of return associated with the the instrument. The interest I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent bond issue Chapter 3 - at issuance. Subsequent to issuance, the credit quality of the issuer deteriorates, resulting of Recognized Gains and Losses in a bond rating downgrade. Thereafter, the bond trades at a significant discount. Columbia Co. Chapter 4 - Cash Flow St at em ent purchases the bond for $9,500,000 and classifies it as held-to-maturity. In this case, the discount of Chapter 5 is - Financial uments—Cash and Receiv $500,000 amortizedI nstr to net profit or loss over the ables period to the maturity of the bond. The discount is Chapter 6 I nventor y not amortized to the next date interest rate payments are reset. At each reporting date, Columbia Chapter 7 the - Rev enue Recogni ncluding Constr uctionall Contr act s due (principal and interest) assesses likelihood that ittion, will Inot be able to collect amounts Chapter 8 Property , Plant , and Equipment according to the contractual terms of the instrument, to determine the need for recognizing an Chapter 9 - loss I ntangi Asset s against earnings. impairment asble a charge Chapter 1

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

Example ofI accounting nvestm ent Prfor oper investments ty in equity securities

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Assume thatCurr Raphael Corporation purchases following securities ent Liabilit ies, Prov isions, Cont the ingencies, andequity Ev ents after t hefor investment purposes during 2003:Balance Sheet Date

Chapter 12 -

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Security Leases description Chapter 15 - I ncom e Taxes

Acquisition cost

Fair value at year-end

$ 34,500

$ 37,000

125,000

109,500

74,250

88,750

1,000 shares Belarus Steel common stock

Chapter 16 - Em ploy ee Benefit s

2,000 17 shares Wimbledon pfd.y"A" stock Chapter - Stock holder s' Equit Chapter - Earnings Percommon Share stock 1,000 18 shares Hillcrest Chapter 19 - I nterim Financial Repor ting

Assume20that, at the Chapter - Segm entrespective Repor ting dates of acquisition, management of Raphael Corporation designated the Belarus and Hillcrest stock investments as being for trading purposes, while the Chapter 21 - Steel Accounting Changescommon and Cor rection of Er ror s Wimbledon shares Chapter 22 - preferred For eign Curr ency were designated as having been purchased for long term-investment purposes will thus categorized as available-for-sale rather than trading). Accordingly, the Chapter 23 (and - RelatedPartbe y Disclosures entries 24 to record the purchases were as follows: Chapter - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation

Investment in equity securities—held-for-trading Chapter 26 - Gov er nm ent Gr an ts

108,750

Appendix A - Di sclosure Checklist

Cash

108,750

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Investment in equity securities—available-for-sale Appendix C - Com parison of I AS, US GAAP, and UK GAAP125,000 I ndex

Cash

125,000

List of Tables

List of Ex hibits both and Ex am ples are adjusted to fair market value; the decline in Wimbledon preferred stock, At year-end, portfolios List of Sidebar s series A, is judged to be a temporary market fluctuation because there is no objective evidence of

impairment. Raphael Corporation makes a onetime election to report these changes in fair value in equity, rather than in earnings. The entries to adjust the investment accounts at December 31, 2003, are

Investment in equity securities—held-for-trading

17,000 17,000

Gain on holding securities W ile y I equity AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Unrealized loss on securities—available-for-sale (an equity account) by Bar r y J. Epstein and Abbas Ali Mir za Investment in equity securities—available-for-sale John Wi ley & Sons © 2003 (952 pages)

15,500

ISBN:0471227366

15,500

com pact and t ruly com ehensive qui ck - refer ence Thus, the changeThis in value of the portfolio of pr trading securities is recognized in earnings, whereas the pr esent s account ants with a guide to depend on for change in the value of the available-for-sale securities is reflected directly in stockholders' equity, after assistance in the prepar at ion and under standing of financial being reported in statements equity, via the statement of changeswith in equity present ed in accordance I AS. T ab le of Con t en t s Wiley I AS 20 03—Int andin Application Accounting forer pretation changes value. of I nternational Account ing Standar ds Preface Changes in the value of held-for-trading securities are taken into income currently. Changes in the Chapter - I ntr oduction to securities I nter national Standar ds value of1 available-for-sale are Accounting reflected either in earnings or directly in equity, depending on

which method had been initially elected by the reporting entity. Changes in value of held-to-maturity Chapter 2 - Balance Sheet securities, unless to beStat impairments, are ges ignored. Values normally I ncom deemed e Statement, em ent of Chan in Equit y, andare Statem ent determined with Recognized Losses reference toofmarket prices,Gains but inand some circumstances other approaches will need to be used, such as Chapter 4 - cash Cash flow Flowanalysis, St at em ent discounted using the discount rate apropos to the instrument's risk characteristics, term to 5maturity, and Iso forth. Chapter - Financial nstr uments—Cash and Receiv ables Chapter 3

Chapter 6

- I nventor y

When an investment in bonds is classified as available-for-sale, and the enterprise has adopted the - Rev enue Recogni tion, I ncluding Constr uction Contr act s policy of reporting fair value changes in equity until the investment is sold, the amortization of premium Chapter 8 - Property , Plant , and Equipment or discount on such an investment should be reported in net profit or loss as part of interest income or Chapter 9 - I ntangi ble Asset s expense. The IGC has rejected the conceptual alternative mode of presentation in equity as part of the I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and recognized Chapter 10 - fair value change. The IGC notes that, under other provisions of this standard, as well as I nvestm ent Pr oper ty under provisions of IAS 18 and IAS 32, these amounts are measured using the effective interest Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements method, which means that the amortization of premium or discount is part of interest income or interest Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12and, expense therefore, included in determining net profit or loss. Balance Sheet Date Chapter 7

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Accounting for changes in classification.

Chapter 14 - Leases

Chapter I ncom ability e Taxes There is15a -limited to revise the classification of certain investments in financial instruments under Chapter 16 Em ploy eeare Benefit IAS 39. Those which firstsdenoted as held-for-trading, however, can almost never be later defined Chapter 17 - Stock holder Equit y as held-to-maturity or ass' available-for-sale, since it has been held by the IASC that an initial Chapter categorization 18 - Earnings as held-for-trading Per Share must be based on the original objective for the investment's

acquisition. denoted available-for-sale may be reclassified to trading only if there is Chapter 19 - Investments I nterim Financial Reporas ting sufficient of Repor a recent Chapter 20 evidence - Segm ent ting actual pattern of short-term profit-taking to warrant this change. Chapter 21 - Accounting Changes and Cor rection of Er ror s

Investments are also very unlikely to be reclassified to held-to-maturity after acquisition, since here, too, the original intent will be of great importance. Furthermore, investments classified as held-toChapter 23 - Related- Part y Disclosures maturity may be mandatorily reclassified to available-for-sale if the entity, during the current year or the Chapter 24 - Specialized I ndustr ies two prior years, has sold, transferred, or exercised a put option on more than an insignificant amount of Chapter - I nflation and Hyperinflation similarly25classified securities before maturity date. However, sales very close to the maturity dates (or Chapter 26 Gov er nm an"taint" ts exercised call dates) ent will Gr not the classification of other held-to-maturity securities, nor will sales Appendix A Di sclosure Checklist occurring after substantially all of the asset's principal has been collected (e.g., in the case of serial Appendix - I llustrativ e Financialor Stwhen atem ent s Pr esent ed Under AS bonds orBmortgage securities), made in response to Iisolated events beyond the entity's control Appendix C Com parison of I AS, US GAAP, and UK GAAP (e.g., the debtor's impending financial collapse) when nonrecurring in nature and not subject to having I ndex been forecast by the entity. Chapter 22 - For eign Curr ency

List of Tables

Transfers outExofamthe List of Ex hibits and plesheld-to-maturity

category jeopardizes all other similar

List classifications. of Sidebar s

IAS 39 requires that a held-to-maturity investment must be reclassified (to either available-for-sale or trading) and remeasured at fair value if there is a change of intent or ability. The IGC has addressed the issue of whether such a reclassification might call into question the classification of other held-tomaturity investments. It finds that such reclassifications could well raise the specter of having to reclassify all similarly categorized investments. IAS 39's requirements concerning early sales of some held-to-maturity investments applies not only to sales, but also to transfers of such investments. The term "transfer" comprises any reclassification out of the held-to-maturity category. Thus, the transfer of

more than an insignificant portion of held-to-maturity investments into the available-for-sale or trading category would not be consistent with an intent to hold other held-to-maturity investments to maturity. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Transfers to held-to-maturity I n t er n at ion al Accou ncategory. t in g St an d ar ds

ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali

Under IAS 39's provisions, intent and ability to hold to maturity should be assessed at each balance Mir za sheet date. WhileJohn normally to(952 be pages) held to maturity are acquired with that intention Wi ley investments & Sons © 2003 specifically in mind, it is not inconceivable that investments first classified as available-for-sale would This com pact and t ruly com pr ehensive qui ck - refer ence later be reclassified as held-to-maturity. If so, the fair value becomes the cost basis of the pr esent s account ants with a guidethen to depend on for investment, whichassistance thereafterinisthe reported ation amortized cost. For example, if bonds with a face value of prepar at and under standing of financial statements present ed in accordance with I AS. $100,000 were acquired as an available-for-sale investment at a cost of $82,000 and have since risen in value to $87,500 are recategorized as held-to-maturity, the $87,500 will be the new cost basis. The T ab le of Con t en t s $12,500"discount" from face value will be amortized, using the effective interest method, to the Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing projected Standar ds maturity date. Preface

The accounting for the $5,500 difference between the original acquisition cost and the fair value at the - I ntr oduction to I nter national Accounting Standar ds date of transfer to the held-to-maturity portfolio depends upon whether the entity had elected to report Chapter 2 - Balanceon Sheet fair value changes available-for-sale securities in earnings or in equity. If the former, the $5,500 gain Ibeen ncom e Statement,inStat em ent of Chan ges in Equit andnot Statem ent had already recognized results of operations, and thisy,will be revised on a retrospective Chapter 3 of Recognized Gains and Losses basis. However, if the gain had been reported in shareholders' equity (after being included in a Chapter 4 - Cash Flow St at em ent statement of changes in equity), it will be accounted for by amortizing it to earnings over the remaining Chapter - Financial nstr uments—Cash and Receiv ables in equity had been chosen, the effective holding5period. In theI present case, assuming recognition Chapter 6 I nventor y discount on the bonds will be $18,000, all of which will be amortized to earnings over the term to Chapter 7 so - Rev enue Recogni tion, I ncluding Contr act s value of the investment. maturity, as to produce a constant returnConstr on theuction increasing book Chapter 1

Chapter 8

- Property , Plant , and Equipment

Chapter Transfers 9 - I ntangi between ble Asset available-for-sale s

and trading investment categories.

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 Under the provisions of Pr IAS 39, I nvestm ent oper ty investments held first for trading purposes cannot later be reclassified

to available-for-sale; transfers to the trading portfolio are expected to be infrequent, Chapter 11 - Business conversely, Combinations and Consolidat ed Fin ancial Statements occurring only when there ies, is evidence of trading behaviorand by Ev the enterprise Curr ent Liabilit Prov isions, Cont ingencies, ents after t hewhich strongly suggests that the investment question Balance in Sheet Date will indeed be traded in the short term.

Chapter 12 -

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Under IAS 39, if there is evidence of a recent actual pattern of short-term profit-taking, the reporting entity is to reclassify a financial asset into the trading category. However, the method by which gains Chapter 15 - I ncom e Taxes and losses on an equity investment that have been deferred in equity are be recognized was not Chapter 16 - Em ploy ee Benefit s specified in that standard. The IGC has resolved this issue, reasoning by analogy from another Chapter 17 - Stock holder s' Equit y provision in IAS 39, which deals with a different reclassification situation (whereby a financial asset Chapter 18 - Earnings Per Share formerly carried at fair value is to be reported henceforth at amortized cost). Chapter 14 - Leases

Chapter 19 - I nterim Financial Repor ting

The IGC that Chapter 20holds - Segm entwhere Reporthe tingchanges in fair value subsequent to initial recognition have been recognized in equity for the investment, it is inappropriate to recognize Chapter 21 - directly Accounting Changes andavailable-for-sale Cor rection of Er rorequity s a gain or theCurr transfer Chapter 22loss - Foron eign ency since this would allow too much flexibility in the timing of revenue recognition net profit loss. Instead, the gain or loss upon the transfer is recognized as follows: the Chapter 23 - in RelatedPartor y Disclosures cumulative fair value change Chapter 24 - prior Specialized I ndustr ies on that asset that had been recognized directly in equity is left in equity until financial is sold or otherwise disposed of, at which time it enters into the Chapter 25 - the I nflation andasset Hyperinflation determination of net profit or loss.

Chapter 26 - Gov er nm ent Gr an ts

Appendix - Di sclosure Checklist The IGCAderived comfort from the fact that this prescription is consistent with a provision of IAS 39 that Appendix B I llustrativ e Financial St atem ent s Pr esent ed provision Under I ASrequires that the cumulative prior fair addresses discontinuance of hedge accounting. That Appendix C - Com parison of I AS, US GAAP, remains and UK GAAP value change that was reported in equity in equity until the forecasted transaction occurs for I ndex cash flow hedging relationships. In any event, if there is evidence of a recent actual pattern of shortList of profit-taking Tables term that justifies reclassification, the turnover in the portfolio would often result in the List of Ex and Ex amrecognized ples gains orhibits losses being in net profit or loss within a reasonably short period after

reclassification. List of Sidebar s To illustrate, consider Raphael Corporation's investment in Hillcrest common stock, which was assigned to the trading portfolio and at December 31, 2003, was marked to fair value of $88,750. If in April 2004 management were to determine that this investment will not be traded, but rather will continue to be held indefinitely, it would be constrained by IAS 39 from altering the accounting for the investment. Thus, it would have to be maintained as a trading investment, continually marked to fair value, with value changes reflected in current operating results, notwithstanding the intent to not trade it.

To illustrate, consider the investment in Wimbledon preferred stock, which was held as an available-forsale asset, and which in March 2004 was adjusted to a fair value of $112,000 (as illustrated above). The increase from reflected changes Wadjusted ile y I AS cost 2 0 03($109,500) : I n t erp re twas at ion an d Apin p licat io n o in f equity rather than in earnings, I nentity's t er n at ion al Accou n t in g Stmethod, an d ar dsand given that the security was not at the time consistent with the elected accounting by BarNow r y J. assume Epstein and Ali 2004, there isISBN:0471227366 being held for trading. that,Abbas in June evidence of a recent actual pattern of Mir za in the portfolio in which the investment was held which justifies its short-term profit-taking John ley & Sons © 2003 (952 pages) reclassification into theWitrading category. Further, the value of the shares held, at the date of this This com pact and t ruly com pr ehensive qui ckavailable-for-sale - refer ence decision, is $114,700. The entry to record the transfer from to trading is as follows: pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial Investment in equity securities—held-for-trading statements present ed in accordance with I AS.

114,700 112,000

T ab le of Con t en t s Investment in equity securities—available-for-sale Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar dsUnrealized gain on securities—available-for-sale (an equity Preface

2,700

account)

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds There is2 no- recognized gain or loss at the time of transfer because where changes in fair value Chapter Balance Sheet

subsequent to initial recognition have been recognized directly in equity for an available-for-sale equity

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - it is inappropriate to recognize a gain or loss on the transfer to trading. The gain or loss investment, of Recognized Gains and Losses

recorded equity remains there until such time as the security is ultimately sold. While this Chapter 4 in- an Cash Flow account St at em ent rule was explicit inI nstr IASuments—Cash 39, it was subsequently set forth by the IGC, which analogized from another Chapter 5 not - Financial and Receiv ables requirement of the standard. - I nventor y

Chapter 6

Chapter 7 - gains Rev enue Recogni tion,the I ncluding Contr act s will be handled as earlier described Any further or losses after transferConstr to theuction trading portfolio Chapter 8 Property , Plant , and Equipment (i.e., recognized in income currently). When the asset is sold or otherwise derecognized, the cumulative Chapter bleisAsset s gain or 9loss- Iinntangi equity removed from equity and included in net profit or loss. I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper Transfers among portfolios, totythe extent permitted, are to be made at fair value as of the date of Chapter transfer. 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Example ofBalance accounting debt securities Sheetfor Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Marseilles purchases the following debt securities as investments in 2002: Chapter 14 -Corporation Leases Chapter 15 - I ncom e Taxes

Issue 16 - Em ploy ee Benefit s Chapter Chapter 17 - Chemical Stock holder s' Equit y DeLacroix 8% due 2007 Chapter 18 - Earnings Per Share

Forsythe Pharmaceutical 9.90% due 2019

Chapter 19 - I nterim Financial Repor ting

Luckystrike Mining dueting 2004 Chapter 20 - Segm ent6% Repor

Face value

Price paid [a]

$200,000

$190,000

500,000

575,000

100,000

65,000

[a]Accrued Chapter 21 - interest Accounting is ignored Changes in and theseCor amounts; rection ofthe Er ror normal s entries for interest accrual and receipt

are assumed. Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures

Management has statedI ndustr that Marseilles's objectives differed among the various investments. Thus, the Chapter 24 - Specialized ies

DeLacroix bonds are considered to be suitable as a long-term investment, with the intention that they will be held until maturity. The Luckystrike bonds are a speculation; the significant discount from par Chapter 26 - Gov er nm ent Gr an ts value was seen as very attractive, despite the low coupon rate. Management believes the bonds were Appendix A - Di sclosure Checklist depressed because mining stocks and bonds have been out of favor, but believes the economic Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS recovery will lead to a surge in market value, at which point the bonds will be sold for a quick profit. The Appendix C - Com parison of I AS, US GAAP, and UK GAAP Forsythe Pharmaceutical bonds are deemed a good investment, but with a maturity date sixteen years I ndex in the future, management is unable to commit to holding these to maturity. Chapter 25 - I nflation and Hyperinflation

List of Tables

Based the and foregoing, the appropriate accounting for the three investments in bonds would be as List of Exon hibits Ex am ples follows: List of Sidebar s DeLacroix Chemical 8% due 2007 These should be accounted for as held-to-maturity; maintain at historical cost, with the discount ($10,000) to be amortized over term to maturity using the effective interest method. Forsythe Pharmaceutical 9.90% due 2019 Account for these as available-for-sale, since neither the held-for-trading nor held-to-maturity

criteria apply. These should be reported at fair market value at each balance sheet date, with any unrealized gain or loss included in the equity account (consistent with the entity's normal accounting practice), unless occurs. W ile y I AS 2 0 03an : I impairment n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Luckystrike Mining 6% due 2004

ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za As an admitted speculation, these should be accounted for as part of the trading portfolio, and also John Wi ley & Sons © 2003 (952 pages)

reported at fair market value on the balance sheet. All adjustments to carrying value will be This com pact and t ruly com pr ehensive qui ck - refer ence included in earnings each year, whether the fair value fluctuations are temporary or permanent in pr esent s account ants with a guide to depend on for nature. assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. T ab le of Con t en t s

Accounting for Transfers between Portfolios

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Transfers between portfolio categories are to be accounted for at fair market value at the date of the Preface transfer, above. However, certainStandar types ofdstransfers are permitted under IAS 39, as Chapter 1 as- described I ntr oduction to I nter national only Accounting the standard has been interpreted by the IGC. For example, transfers to or from the trading category Chapter 2 - Balance Sheet are almost never permitted, since there is a strong presumption that trading securities are properly

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter defined3at -the of theirGains acquisition. (In rare cases, securities available-for-sale will be recategorized of date Recognized and Losses

as trading very similar Chapter 4 -when Cashother, Flow St at em ent securities have in fact been actively traded by the reporting entity.) Chapter 5

- Financial I nstr uments—Cash and Receiv ables

To better understand the limited opportunity for reclassification of securities held as trading, availableI nventor y for-sale or -held-to maturity investments by the entity, and the accounting for such transfers as are Chapter 7 Rev enuethe Recogni tion, events: I ncluding Constr uction Contr act s permitted, consider following Chapter 6 Chapter 8

- Property , Plant , and Equipment

1. Marseilles management decides in 2003, when the Forsythe bonds have a market (fair) value of - I ntangi ble Asset s $604,500, that the bonds will be disposed of in the short term, hopefully when the price hits I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter $605,000. 10 While it might previously have been acceptable to reclassify these to the trading I nvestm ent Pr oper ty account based on management's current intentions, the IGC has held that a decision to sell a Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements financial asset does not make it a financial asset held for trading. The rare exception to this Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter general 12 principle, to the IGC, would occur when there is a portfolio of very similar Balance Sheetaccording Date assets for which there is a recent pattern of trading; in such case, reclassification of the Chapter 13 - Financial I nstr uments—Long- Ter m Debt remaining items to trading would be justified. In this present example, there are no other Chapter 14 - Leases holdings that are virtually the same as the Forsythe bonds; accordingly, no reclassification can Chapter 15 - I ncom e Taxes be permitted. Chapter 9

Chapter 16 - Em ploy ee Benefit s

Chapter 17 2003, - Stock holder s' Equit y 2. In Marseilles management also made a decision about its investment in DeLacroix Chapter Chemical 18 - Earnings Per These Share bonds, which were originally designated as held-to-maturity, were bonds. Chapter accounted 19 - I nterimforFinancial at amortized Repor historical ting cost. Assume the amortization in 2002 was $2,000

were not held for a full year), so that the book value of the investment at Chapter (because 20 - Segmthe ent bonds Repor ting 2002 was $192,000. In rection 2003, atofaErtime Chapter year-end 21 - Accounting Changes and Cor ror s when the value of these bonds was $198,000, concluded that it was no longer certain that they would be held to maturity. While Chapter management 22 - For eign Curr ency inPart management's Chapter the 23 -change Relatedy Disclosuresintention could be seen as providing support for a reclassification investment to theies available-for-sale portfolio, to do so would raise a tainting concern Chapter of 24 this - Specialized I ndustr which would jeopardize any classification of further investments as held-to-maturity.

Chapter 25 - I nflation and Hyperinflation

Chapter 26 -toGov nm ent Gr an ts According IASer39, investments in debt instruments may be categorized as held-to-maturity only when Appendix A Di sclosure Checklist there is a positive intent to do so. The intent is absent when the reporting entity stands ready to sell that Appendix - I llustrativ e Financial atem ent s Pr esentor ed the Under I AS liquidity needs, among other asset in Bresponse to changes in St market conditions entity's Appendix C Com parison of I AS, US GAAP, and UK GAAP considerations. As described here, Marseilles management seemingly has reacted to either market I ndex conditions or its own liquidity needs in effectively retracting its commitment to hold the DeLacroix bonds List to maturity. of Tables If reclassification were effected, there would be a presumption that no other fixed maturity

investment could List of Ex hibits and thereafter Ex am ples be classified as held-to-maturity—there would be tainting which would preclude usage List of Sidebar s of that classification. This would apply even to other investments being held currently, where no intent to dispose before maturity was manifested. Thus (as interpreted by the IGC), the tainting issue must be taken extremely seriously. It should also be understood that transfers into the held-to-maturity category would not be feasible, since essentially the characteristics of intent and ability as of the date of acquisition would not have been satisfied. Thus, the guidance under IAS 39 is substantially more rigid than the superficially identical set of criteria under US GAAP.

Accounting for impairments in value. A financial asset W willilebe become whenever y Ideemed AS 2 0 03to: Ihave n t erp re t at ionimpaired an d Ap p licat io n othe f carrying amount exceeds the recoverable amount. This is to be assessed at each balance sheet date, making reference, for I n t er n at ion al Accou n t in g St an d ar ds example, to any significant financial difficulties of the issuer, a contractual breach by the issuer, the ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za probability of a bankruptcy or financial reorganization, or the disappearance of an active market for the issuer's securitiesJohn (although enterprise which has "gone private" does not create the presumption of Wi ley &anSons © 2003 (952 pages) impairment). This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

In general, trading securitiesinwill carried at and fair value and any of impairment assistance thebe prepar at ion under standing financial will have been recognized statements present edrecognition in accordance with I AS. as it was developing, with immediate in the operating results of the investor. Available-forsale securities will similarly have been adjusted to fair value, with any loss given recognition in T ab le of Con t en t s earnings, even if the reporting enterprise had elected to report normal value changes (i.e., those not Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing due to ds permanent impairments) in equity. In this latter instance, the amount of value decline previously Standar reported in equity must also be removed from equity and reported in current operations. Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds For securities being reported at amortized historical cost (those held to maturity, plus loans or

Chapter 2 - originated Balance Sheet receivables by the enterprise), the amount of the impairment to be recognized will be the I ncom e the Statement, em entand of Chan ges in Equit and Statem ent difference between carryingStat amount the present valuey, of expected future cash flows, Chapter 3 of Recognized Gains and Losses

discounted using the instrument's original discount rate. The current market discount rate is not to be St at em ent used, since- Cash to do Flow so would introduce an element of fair value accounting, which is not pertinent to such Chapter 5 Financial I nstr uments—Cash and Receiv investments. Any write-down for impairment, which ables may be made directly or via an allowance account, Chapter 6 I nventor y must be reported in current operating results. If later events, such as a revision in the obligor's credit Chapter 7 - Rev Recogni tion, I ncluding Constr uction Contr act s recognized impairment may be rating, result in aenue lessened measure of impairment, the previously Chapter 8 Property , Plant , and Equipment partially or fully reversed, also through reported earnings. Chapter 4

Chapter 9

- I ntangi ble Asset s

Securities that are notincarried at fair of es, theJoint absence ofes, fairand value information are I nterests Financial Instrvalue um entbecause s, Associat Ventur Chapter 10 nonethelessI nvestm subjectent to review for possible impairments. These are measured as the difference between Pr oper ty carrying11amount and Combinations the present value of expected cash flows, discounted using the current Chapter - Business and Consolidat ed future Fin ancial Statements market interest rate for similar instruments. Note that current rates, Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents not afterthe t heoriginal effective rate, are Chapter 12 Sheet Date the relevant Balance reference, since these investments were being maintained at cost by default (i.e., due to the absence of reliable fairuments—Longvalue data), not because Chapter 13 - Financial I nstr Ter m Debt they qualified for amortized historical cost due to being held maturity. Accordingly, the application of fair value accounting, or a reasonable surrogate Chapter 14 -toLeases for it, is15 valid in such instances. Chapter - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s

Once an asset is deemed impaired and written down to its estimated recoverable amount, future interest is accreted using the same discount rate used to compute the impaired value. Thus, for heldChapter 18 - Earnings Per Share to-maturity investments, after being adjusted to recoverable amount, the interest accruals will continue Chapter 19 - I nterim Repor ting to be consistent withFinancial the original effective rate. For securities not carried at fair value due to lack of Chapter 20 information, - Segm ent Repor ting future interest income, if any, will be accrued using the current rate sufficient however, Chapter 21 to - Accounting and Cor rection ror s the asset's carrying value was adjusted. employed determine Changes the recoverable amountoftoErwhich Chapter 17 - Stock holder s' Equit y

Chapter 22 - For eign Curr ency Chapter Market 23 value - Relateddecline Part y Disclosures is not necessarily

evidence of impairment.

Chapter 24 - Specialized I ndustr ies

The fair25(i.e., market)and value of an equity security that is classified as available-for-sale may fall below its Chapter - I nflation Hyperinflation cost. As interpreted by the IGC, this is not necessarily evidence of impairment. When an entity reports fair value changes on available-for-sale financial assets in equity in accordance with IAS 39, it Appendix A - Di sclosure Checklist continues to do so until there is objective evidence of impairment, such as the circumstances identified Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS in the standard. If objective evidence of impairment exists, any cumulative net loss that has been Appendix C - Com parison of I AS, US GAAP, and UK GAAP recognized directly in equity is removed and recognized in net profit or loss for the period. Chapter 26 - Gov er nm ent Gr an ts

I ndex

List of Tables Value increases

in some portfolio assets cannot be used to offset impairment losses from other assets.

List of Ex hibits and Ex am ples List of Sidebar s

IAS 39 requires that impairment be recognized for financial assets carried at amortized cost. IAS 39 states that impairment may be measured and recognized individually or, for a group of similar financial assets, on a portfolio basis. The IGC has ruled that if one asset in the group is impaired but the fair value of another asset in the group is above its amortized cost, nonrecognition of the impairment of the first asset is not permitted. If an enterprise knows that an individual financial asset carried at amortized cost is impaired, IAS 39 requires that the impairment of that asset be recognized. Measurement of impairment on a portfolio basis under IAS 39 is applicable only when there is indication of impairment in

a group of similar assets, and impairment cannot be identified with an individual asset in that group.

Assessment W ofileloan impairment must take into consideration related interest y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f rate swap. I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

An originated loanMirwith za fixed interest rate payments is hedged against the exposure to interest rate risk by a "receive-variable pay-fixed" interest John Wi ley & Sons © 2003rate (952 swap. pages) The hedge relationship qualifies for fair value hedge accountingThis andcom is reported a fair hedge.qui Thus, theence carrying amount of the loan includes pact and as t ruly comvalue pr ehensive ck - refer esent s account antsattributable with a guide depend on in forinterest rates. According to an an adjustment forprfair value changes totomovements assistance in the at ion and under standing of financial interpretive finding by the IGC, an prepar assessment of impairment in the loan should take into account the statements present ed in accordance with I AS. fair value adjustment for interest rate risk. The IGC has stated that, since the loan's original effective interest ratet en prior T ab le of Con t s to the hedge is made irrelevant once the carrying amount of the loan is adjusted for any changes in its er fair value attributable to interest rate movements, the original effective interest rate Wiley I AS 20 03—Int pretation and Application of I nternational Account ing and amortized cost of the loan are adjusted to take into account recognized fair value changes. The Standar ds adjusted effective interest rate is calculated using the adjusted carrying amount of the loan. An Preface impairment on the hedged should therefore be calculated as the difference between its Chapter 1 - loss I ntr oduction to I nterloan national Accounting Standar ds carrying2 amount afterSheet adjustment for fair value changes attributable to the risk being hedged and the Chapter - Balance expected future cash flows of the loan discounted at the adjusted effective interest rate. I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3

-

of Recognized Gains and Losses

Recognition impairment of loans. Chapter 4 - Cash of Flow St at em ent Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Assume that, due to financial difficulties of Knapsack Co., one of its customers, the Galactic Bank, - I nventor y becomes concerned that Knapsack will not be able to make all principal and interest payments due on Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s an originated loan when they become due. Galactic negotiates a restructuring of the loan, and it now Chapter 8 - Property , Plant , and Equipment expects that Knapsack will be able to meet its obligations under the restructured terms. Whether Chapter - I ntangi ble Asset s an impairment loss—and in what magnitude—will depend, according to the Galactic9 Bank will recognize I nterests Instr um ent s, Associat es, offers Joint Ventur es, and guidelines: IGC, on10the- specifics in of Financial the restructured terms. The IGC the following Chapter Chapter 6

I nvestm ent Pr oper ty

Chapter 11the - Business and Consolidat Finwill ancial If, under terms of Combinations the restructuring, Knapsacked Co. payStatements the full principal amount of the original Currafter ent Liabilit ies, Prov isions, Cont ingencies, and Ev entsdue after t he the original terms, an loan five years the original due date, but none of the interest under Chapter 12 Balance Date since the present value of the future principal and interest payments impairment must be Sheet recognized, Chapter 13 - at Financial I nstr uments—Longm Debtrate (i.e., the recoverable amount) will be lower than discounted the loan's original effectiveTer interest Chapter 14 Leases the carrying amount of the loan. Chapter 15 - I ncom e Taxes

If, on the hand, Chapter 16 other - Em ploy ee Knapsack Benefit s Co.'s restructuring agreement calls for it to pay the full principal amount of the original loanholder on the original Chapter 17 - Stock s' Equit y due date, but none of the interest due under the original terms, the

same result as the foregoing will again hold. The impairment will be measured as the difference between the former carrying amount and the present value of the future principal and interest payments Chapter 19 - I nterim Financial Repor ting discounted at the loan's original effective interest rate. Chapter 18 - Earnings Per Share

Chapter 20 - Segm ent Repor ting

Chapter 21 - Accounting and Cor rection of Er ror s As yet another variationChanges on the restructuring theme, if Knapsack will pay the full principal amount on the Chapter - For eign Curr ency only at a lower interest rate than the interest rate inherent in the original original22 due date with interest, Chapter 23 - the Relatedy Disclosures loan, again samePart guidance is offered by the IGC, so that an impairment must be recognized. Chapter 24 - Specialized I ndustr ies

This same if Knapsack agrees to pay the full principal amount five years after the Chapter 25 -outcome I nflation prevails and Hyperinflation

original due date and all interest accrued during the original loan term, but no interest for the extended term. Since the present value of future cash flows is lower than the loan's carrying amount, impairment Appendix A - Di sclosure Checklist is to be recognized. Chapter 26 - Gov er nm ent Gr an ts

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Appendix - Com parison I AS, US and UK GAAPsituation whereby Knapsack is to pay the full As a finalC option, the IGCofoffers theGAAP, loan restructuring I ndex principal amount five years after the original due date and all interest, including interest for both the List of Tables original term of the loan and the extended term. In this scenario, even though the amount and timing of List payments of Ex hibits hasand changed, Ex am ples Galactic Bank will nonetheless receive interest on interest, so that the present

value of the future principal and interest payments discounted at the loan's original effective interest List of Sidebar s rate will equal the carrying amount of the loan. Therefore, there is no impairment loss. Example of impairment of investments Given the foregoing, assume now, with reference again to the Raphael Corporation example first presented earlier in this chapter, that in January 2004 new information comes to Raphael Corporation management regarding the viability of Wimbledon Corp. Based on this information, it is determined that the decline in Wimbledon preferred stock is probably not a temporary one, but rather is an impairment

of the asset as that term is used in IAS 39. The standard prescribes that such a decline be reflected in earnings. The stock's fair value has remained at the amount last reported, $109,500, but this value is no longer viewedWasilebeing a market Accordingly, the to recognize the fact of the y I ASonly 2 0 03 : I n t erpfluctuation. re t at ion an d Ap p licat io n oentry f investment's permanent impairment is as follows: I n t er n at ion al Accou n t in g St an d ar ds ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali

Impairment loss Mir onza holding equity securities

15,500

John Wi ley & Sons © 2003 (952 pages)

Unrealized loss onpact securities—available-for-sale This com and t ruly com pr ehensive qui(an ck -equity refer ence account) pr esent s account ants with a guide to depend on for

15,500

assistance in the prepar at ion and under standing of financial statements present in accordance with I AS. Any recovery in this value would be ed recognized in earnings if it can be objectively demonstrated that the recovery was based on subsequent developments. Otherwise, later market fluctuations will be reported T ab le of Con t en t s in either equity or earnings, based on the accounting method the entity elected for reporting normal Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing changes Standar ds in the fair value of available-for-sale investments. Preface

To illustrate this point, assume that in March 2004 further information comes to management's - I ntr oduction to I nter national Accounting Standar ds attention, which now suggests that the decline in Wimbledon preferred had indeed been only a Chapter 2 - Balance Sheet temporary decline; in fact, the value of Wimbledon now rises to $112,000. There is no evidence of any I ncom Statement, Statimpairment em ent of Chan in Equit y, and ent specific3event aftere the date of the thatges is responsible forStatem this recovery in value. Since the Chapter of Recognized Gains and Losses carrying value after the recognition of the impairment was $109,500, the increase to $112,000 will be Chapter 4 - Cash Flow St at em ent accounted for as an increase to be reflected in earnings. Accordingly, the entry now required is Chapter 1

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Investment in equity securities—available-for-sale

Chapter 8Reversal - Property Plant , and Equipment of ,impairment loss—available-for-

2,500

2,500

Chapter 9sale - I ntangi ble Asset s Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

I nvestm ent Pr oper ty Note that increases in value above the original cost basis are not taken into earnings, since the Chapter 11 - is Business Combinations Consolidat ed Fin ancialthan Statements investment still considered to be and available-for-sale, rather a part of the trading portfolio. Increases inCurr value to the original cost basis are recognized current entup Liabilit ies, Prov isions, Cont ingencies, and Ev in ents after earnings. t he Chapter 12 -

Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Structured notes

as held-to-maturity investments.

Chapter 15 - I ncom e Taxes

Among16 the- more complex of swhat are commonly referred to as "engineered" financial products, which Chapter Em ploy ee Benefit

have become commonplace over Chapter 17 - Stock holder s' Equit y the last decade, are "structured notes." Structured notes and related

products are privately negotiated and not easily marketable once acquired. These instruments often appear to be straightforward debt investments, but in fact contain provisions which have the potential to Chapter 19 - I nterim Financial Repor ting greatly increase or decrease the return to the investor, based on (typically) the movement of some Chapter 20 - Segm ent Repor ting index related to currency exchange rates, interest rates, or, in some cases, stock price indices. The Chapter 21 - Accounting Changes and Cor rection of Er ror s IGC has addressed the question of whether these assets can be considered as held-to-maturity Chapter 22 - For eign Curr ency investments. The IGC offers as an example a structured note tied to an equity price index, upon which Chapter 23 - RelatedPart is y Disclosures the following illustration based. Chapter 18 - Earnings Per Share

Chapter 24 - Specialized I ndustr ies

Cartegena purchases a five-year "equity-index-linked note" with an original issue price of Chapter 25 -Co. I nflation and Hyperinflation $1,000,000 a er market of $1,200,000 at the time of purchase. The note requires no interest Chapter 26 - at Gov nm ent price Gr an ts payments to maturity. At maturity, the note requires payment of the original issue price of Appendix A prior - Di sclosure Checklist $1,000,000 a supplemental redemption amount depends Appendix B - plus I llustrativ e Financial St atem ent s Pr esent edthat Under I AS on whether a specified stock price

index (e.g. Dow Jones Average) exceeds Appendix C - the Com parison of IIndustrial AS, US GAAP, and UK GAAP a predetermined level at the maturity date. If the stock index does not exceed or is equal to the predetermined level, no supplemental redemption amount is paid. If the stock index exceeds the predetermined level, the supplemental redemption List of Tables amount will equal 1.15 times the difference between the level of the stock index at maturity and the List of Ex hibits and Ex am ples level of the stock index at original issuance of the note divided by the level of the stock index at original List of Sidebar s issuance. I ndex

Obviously, the investment is largely a gamble on an increase in the Dow Jones average over the fiveyear term, since Cartegena is paying a substantial premium and, as a worst case scenario, could lose its entire premium plus the opportunity cost of lost interest over the five years. Structured notes such as this are very difficult to dispose of on the secondary (i.e., resale) market, having been created (structured) to fit the unique needs or desires of the issuer and investor. Determining a fair value at any intermediate point in the five-year holding period would be difficult or impossible, absent arm's-length

bids, particularly if the underlying index has yet to advance to a level at which a gain will be reaped by the investor. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

In the present example, assume that Cartegena has the positive intent and ability to hold the note to I n t er n at ion al Accou n t in g St an d ar ds maturity. According to guidance issued by the IGC, it can indeed classify this note as a held-to-maturity ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali investment, because Mir zait has a fixed payment of $1,000,000 and a fixed maturity, and because Cartegena Co. has theWi positive intent and(952 ability to hold it to maturity. However, the equity index feature John ley & Sons © 2003 pages) is a call option not closely related to the debt host, and accordingly, it must be separated as an This com pact and t ruly com pr ehensive qui ck - refer ence embedded derivative under IAS 39. The purchase price of $1,200,000 must be allocated between the pr esent s account ants with a guide to depend on for host debt instrument and thein embedded derivative. For standing instance,ofif financial the fair value of the embedded assistance the prepar at ion and under statements present in accordance with I AS. option at acquisition is $400,000, theedhost debt instrument is measured at $800,000 on initial recognition. In this case, the discount of $200,000 that is implicit in the host bond is amortized to net T ab le of Con t en t s profit or loss over the term to maturity of the note using the effective interest method. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

A similar situation arises if the investment is a bond with a fixed payment at maturity and a fixed maturity date, but with variable interest payments indexed to the price of a commodity or equity Chapter 1 - I ntr oduction to I nter national Accounting Standar ds (commodity-indexed or equity-indexed bonds). If the enterprise has the positive intent and ability to hold Chapter 2 to- maturity, Balance Sheet the bond it can be classified as held-to-maturity. However, as confirmed in an interpretation I ncom e the Statement, Stat em ent ofor Chan ges in Equit y,interest and Statem ent result in an embedded offered by the IGC, commodity-indexed equity-indexed payments Chapter 3 of Recognized Gains and Losses derivative that is separated and accounted for as a derivative at fair value. The special exception in IAS Chapter 4 - Cash Flow St at em ent 39, under which, if the two components cannot be reasonably separated the entire financial asset is Chapter 5 as - Financial nstr uments—Cash Receiv classified held for Itrading purposes, isand found notables to be applicable. According to the IGC, it should be Chapter 6 I nventor y straightforward to separate the host debt investment (the fixed payment at maturity) from the embedded Chapter 7 (the - Revindex-linked enue Recogniinterest tion, I ncluding Constr uction Contr act s derivative payments). Preface

Chapter 8

- Property , Plant , and Equipment

Chapter Accounting 9 - I ntangi forblesales Asset sof

investments in financial instruments.

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 In general, sales of investments I nvestm ent Pr oper ty are accounted for by eliminating the carrying value and recognizing a

gain or 11 loss- Business for the difference between amount and sales proceeds. Derecognition will occur Chapter Combinations and carrying Consolidat ed Fin ancial Statements only when the entity loses ies, control theCont contractual which Curr ent Liabilit Provover isions, ingencies,rights and Ev ents comprise after t he the financial asset, or a portion thereof. IAS 39 setsDate forth certain conditions to define loss of control. Thus, for example, in most Balance Sheet cases if13the- Financial transferorI nstr hasuments—Longthe right to reacquire the transferred asset, derecognition will not be Chapter Ter m Debt warranted, Chapter 14 - unless Leasesthe asset is readily obtainable in the market or reacquisition is to be at then-fair value. Arrangements which are essentially repurchase (repo) arrangements are similarly not sales and Chapter 15 - I ncom e Taxes do not result in ploy derecognition. Chapter 16 - Em ee Benefit s In general, the transferee must obtain the benefits of the transferred asset in17order to warrant by the transferor. Chapter - Stock holder s' derecognition Equit y Chapter 12 -

Chapter 18 - Earnings Per Share

In some instances, the asset will be sold as part of a compound transaction in which the transferor

Chapter 19 - I nterim Repor ting another financial instrument, or incurs a financial liability. If the either retains part ofFinancial the asset, obtains Chapter 20 -ofSegm ent Repor ting fair values all components of the transaction (asset retained, new asset acquired, etc.) are known, Chapter 21 -the Accounting Changes rection However, of Er ror s if one or more elements are not subject to an computing gain or loss will beand no Cor problem. Chapter 22 assessment, - For eign Currspecial ency requirement apply. In the unlikely event that the fair value of the objective Chapter 23 - retained Related- Part y Disclosures component cannot be determined, it should be recorded at zero, thereby conservatively Chapter measuring 24 - the Specialized gain (or loss) I ndustr onies the transaction. Similarly, if a new financial asset is obtained and it

cannot 25 be -objectively valued, it must be recorded at zero value. Chapter I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

On the other hand, if a financial liability is assumed (e.g., a guarantee) and it cannot be measured at fair value, then the initial carrying amount should be such (i.e., large enough) that no gain is recognized Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS on the transaction. If necessitated by IAS 39's provisions, a loss should be recognized on the Appendix C - Com parison of I AS, US GAAP, and UK GAAP transaction. For example, if an asset carried at $4,000 is sold for $4,200 in cash, with the transferor I ndex assuming a guarantee obligation which cannot be valued (admittedly, this is unlikely to occur in the List of Tables context of a truly "arm's-length" transaction), no gain would be recognized and the financial liability List of Ex hibits and Ex ples recorded at $200. On the other hand, if the selling price were instead only would accordingly beam initially List of Sidebar s of $200 would be immediately recognized, and the guarantee obligation would be given $3,800, a loss no value (but would be disclosed). Appendix A - Di sclosure Checklist

Presentation and Disclosure Issues Income statement presentation. Under IAS 39, significant items of income, expense, gain and loss deriving from financial assets and

financial liabilities are to be given sufficient disclosure. This applies equally to those items included in the income statement, and those reflected directly in equity. Interest income and interest expense are to be disclosed on interest income to be against interest expense). Wa ile"gross" y I AS 2basis 0 03 : (i.e., I n t erp re t at ion an d is Apnot p licat io nnetted of Additional disclosure is required of interest accrued on impaired loans. I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

With regard to available-for-sale financial assets which have been adjusted to fair value, a distinction is Mir za to be maintained John between the total or(952 loss associated with derecognition (typically, from Wi ley & Sons gain © 2003 pages) disposition) whichThis is included in net income or loss for the period, and gains and losses which are value com pact and t ruly com pr ehensive qui ck - refer ence adjustments being made for the period. The most common terminology is to denote the former as pr esent s account ants with a guide to depend on for realized and the latter as unrealized gains andand losses. assistance in the prepar at ion under standing of financial statements present ed in accordance with I AS.

Other disclosures required.

T ab le of Con t en t s

Wiley I AS 20 to 03—Int er pretation to and of income I nternational Account In addition the distinctions beApplication made in the statement or ing the notes thereto, IAS 39 also Standar ds

specifies a number of other mandatory disclosures. These include

Preface

Chapter - I ntr oduction to assumptions I nter national used Accounting Standar dsfair values of financial assets and The1 methods and key in determining Chapter 2 Balance Sheet liabilities, separately by major class as suggested in IAS 32 I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Chapter 3

A statement as to whether value changes in earnings or directly in equity was elected for of Recognized Gainsreporting and Losses available-for-sale Chapter 4 - Cash Flow securities St at em ent Chapter 5

- Financial I nstr uments—Cash and Receiv ables

A statement as to whether trade date or settlement date accounting is used for "regular way" - I nventor y trades, for each of the four categories of financial assets

Chapter 6 Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8 - Property , Plant , to and Equipment Disclosures pertaining hedging, including describing the entity's risk management objectives and Chapter 9 - Iand ntangi ble Asset s policies policy for hedging each major type of forecasted transaction Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

For designated fair Pr value cash flow hedges, and hedges of net investments in a foreign I nvestm ent oper hedges, ty entity descriptionsand of the hedgesedand the Statements hedging instruments used, and the fair Chapter 11 (separately), - Business Combinations Consolidat Fin of ancial values thereof, the nature of the risks being hedged, and forecasted Curr ent Liabilit ies, Prov isions, Cont ingencies, and Evfor ents after t he transactions that are Chapter 12 expected to occur, when the forecasted transactions are expected to enter into the determination Balance Sheet Date of net as Iwell as descriptionsTer ofmhedges Chapter 13 -income Financial nstr uments—LongDebt of forecasted transactions that are no longer anticipated Chapter 14 - Leases Chapter 15 - I ncom e Taxes

For gains and losses on financial assets and liabilities designated as hedges that have been taken directly to equity, the amount so recognized in the current reporting period, the amount removed Chapter 17 - Stock holder s' Equit y from equity and reported in earnings, and the amount removed from equity and added to the Chapter 18 - Earnings Per Share carrying value of an acquired asset or incurred liability during the reporting period Chapter 16 - Em ploy ee Benefit s

Chapter 19 - I nterim Financial Repor ting Chapter The20amounts - Segm ent of fair Repor value ting adjustments pertaining to available-for-sale financial assets recognized

in or fromChanges equity during therection periodof Er ror s Chapter 21removed - Accounting and Cor Chapter 22 - For eign Curr ency

The carrying amount and description of any trading or available-for-sale securities for which fair values could not be determined, with an explanation of why such assessments could not be made, Chapter 24 - Specialized I ndustr ies including (where possible) ranges of likely fair values, as well as the amount of any gain or loss Chapter 25 - I nflation and Hyperinflation incurred on sales of assets for which previously fair values could not be determined Chapter 23 - Related- Part y Disclosures

Chapter 26 - Gov er nm ent Gr an ts

Appendix A - Di securitization sclosure Checklist For each or repo agreement occurring during the period, and for remaining retained Appendix interests B - I llustrativ in earliere such Financial transactions, St atem entthe s Prnature esent edand Under extent I ASof those transactions, including

descriptions of collateral and information about key assumptions used in calculating Appendix C - Com parison of I AS, USquantitative GAAP, and UK GAAP I ndex fair values therefor, and a statement as to whether the financial assets had been derecognized List of Tables

Information about reclassifications of securities previously carried at fair value to the amortized cost basis

List of Ex hibits and Ex am ples List of Sidebar s

The nature and amount of any impairment loss or reversals thereof, separately for each significant class of financial asset

Accounting for Hedging Activities The topic of hedging is almost inextricably intertwined with the subject of financial derivatives, since most (but not all) hedging is accomplished using derivatives. IAS 39 addresses both of these matters

extensively, and the IGC has provided yet more instructional materials on these issues. In the following sections, a basic review of, first, derivative financial instruments, and second, hedging activities, will he presented. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Derivatives.

I n t er n at ion al Accou n t in g St an d ar ds

ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za As defined by IASJohn 39, Wi a derivative financial instrument with all the following characteristics: ley & Sonsis© a 2003 (952 pages)

1. Its value changes response to com the pr change in aqui specified interest rate, security price, This comin pact and t ruly ehensive ck - refer ence esent sforeign account ants with rate, a guide to depend onorfor commodityprprice, exchange index of prices rates, a credit rating or credit index, assistance in the prepar at ionthe and under standing of financial or similar variable (sometimes called underlying); statements present ed in accordance with I AS.

requires T ab le2.of It Con t en t s no initial net investment or little initial net investment relative to other types of contracts that have a similar response to changes in market conditions; and

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

3. It is settled at a future date.

Preface

Chapter 1 -ofI ntr oduction to I nter national Accounting Standardefinition ds Examples financial instruments that meet the foregoing include the following, along with the Chapter 2 Balance Sheet underlying variable which affects the derivative's value. I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Type of contract

Chapter 5

Main pricing—settlement variable (underline variable)

- Financial I nstr uments—Cash and Receiv ables Interest swap y Interest rates Chapter 6 rate - I nventor

Chapter 7 -swap Rev enue Recogni tion, I ncluding Contr act s Currency (foreign exchange swap) Constr uction Currency rates Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Commodity swap

Commodity prices

Equity swapI nterests (equity of Equity prices in another Financialenterprise) Instr um ent s, Associat es, Joint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty

Credit swap

Credit rating, credit index, or credit price

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Total returnCurr swap Total fairEvvalue of thet he reference asset and ent Liabilit ies, Prov isions, Cont ingencies, and ents after interest rates Balance Sheet Date

Chapter 12 -

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Purchased or written treasury bond option (call

Interest rates

Chapter or put)14 - Leases Chapter 15 - I ncom e Taxes

Purchased or written currency option (call or put)

Chapter 16 - Em ploy ee Benefit s

Currency rates

Chapter 17 - Stock holder s' Equit y

Purchased or writtenPer commodity option (call or Chapter 18 - Earnings Share

Commodity prices

put) 19 - I nterim Financial Repor ting Chapter Chapter 20 - Segm ent Repor Purchased or written stockting option (call or put) Equity prices (equity of another enterprise) Chapter 21 - Accounting Changes and Cor rection of Er ror s

Interest rate futures linked to government debt (treasury futures)

Chapter 22 - For eign Curr ency

Interest rates

Chapter 23 - Related- Part y Disclosures

Currency Chapter 24 -futures Specialized I ndustr ies

Currency rates

Chapter 25 - I nflation Commodity futures and Hyperinflation

Commodity prices

Chapter 26 - Gov er nm ent Gr an ts

Interest rate forward linked to government debt (treasury forward)

Appendix A - Di sclosure Checklist

Interest rates

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Currency Currency rates Appendix C -forward Com parison of I AS, US GAAP, and UK GAAP I ndex Commodity forward List of Tables

Equity forward

List of Ex hibits and Ex am ples List of Sidebar s

Commodity prices Equity prices (equity of another enterprise)

The issue of what is meant by "little or no net investment" has been explored by the IGC. According to the IGC, professional judgement will be required in determining what constitutes little or no initial net investment, and is to be interpreted on a relative basis—the initial net investment is less than that needed to acquire a primary financial instrument with a similar response to changes in market conditions. This reflects the inherent leverage features typical of derivative agreements compared to the underlying instruments. If, for example, a "deep in the money" call option is purchased (that is, the option's value consists mostly of intrinsic value), a significant premium is paid. If the premium is equal or close to the amount required to invest in the underlying instrument, this would fail the "little initial net

investment" criterion. A margin account is not part of the initial net investment in a derivative instrument. Margin accounts are W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f a form of collateral for the counterparty or clearinghouse and may take the form of cash, securities, or I n t er n at ion al Accou n t in g St an d ar ds other specified assets, typically liquid ones. Margin accounts are separate assets that are to be ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali accounted for separately. Accordingly, in determining whether an arrangement qualifies as a derivative, Mir za the margin deposit is not a factor in©assessing whether the "little or no net investment" criterion has John Wi ley & Sons 2003 (952 pages) been met. This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

A financial instrument can qualify a derivative the settlement amount does not vary assistance in the as prepar at ion andeven underifstanding of financial proportionately. The IAS 39 Implementation Guidancewith Committee offers an example of this statements present ed in accordance I AS. phenomenon, similar to the following: Accurate Corp. enters into a contract that requires it to pay T ab le of Con t en t s Aimless Co. $2 million if the stock of Reference Corp. rises by $5 per share or more during a six-month Wiley I ASConversely, 20 03—Int erAccurate pretation Corp. and Application of from I nternational ing period. will receive Aimless Account Co. a payment of $2 million if the stock of Standar ds Reference Corp. declines by $5 or more during that same six-month period. If price changes are within Preface the ±$5 collar range, no payments will be made or received by the parties. This arrangement would Chapter 1 - I ntr oduction to I nter national Accounting Standar ds qualify as a derivative instrument, the underlying being the price of Reference Corp. common stock. Chapter - Balance IAS 39 2provides thatSheet "a derivative could require a fixed payment as a result of some future event that is Iancom e Statement, unrelated to notional amount."Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of Recognized Gains and Losses

Chapter - Cash Flow St might at em ent In some4 instances what first appear to be normal financial instruments are actually derivative Chapter 5 - Financial uments—Cash ables transactions. The IGCI nstr offers the exampleand of Receiv offsetting loans, which serve the same purpose and should Chapter 6 - I nventor be accounted for as yan interest rate swap. The example is as follows: Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Aguilar S.A. makes a five-year fixed-rate loan to Battapaglia Spa, while Battapaglia at the same time - Property , Plant , and Equipment makes a five-year variable-rate loan for the same amount to Aguilar. There are no transfers of principal Chapter 9 - I ntangi ble Asset s at inception of the two loans, since Aguilar and Battapaglia have a netting agreement. Since this meets I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - of a derivative (that is, there is an underlying variable, no or little initial net investment, the definition I nvestm ent Pr oper ty and future settlement), the contractual effect of the loans is the equivalent of an interest rate swap Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements arrangement with no initial net investment. Nonderivative transactions are aggregated and treated as a Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 when derivative the transactions Balance Sheet Date result, in substance, in a derivative. Chapter 8

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Indicators of this would include: (1) they are entered into at the same time and in contemplation of one another, (2) they have the same counterparty, (3) they relate to the same risk, and (4) there is no Chapter 15 economic - I ncom e need Taxes or substantive business purpose for structuring the transactions separately apparent Chapter 16 Em ploy ee Benefit that could not also have beens accomplished in a single transaction. Note that even in the absence of a Chapter - Stock holder s' Equit y arrangement would be deemed to be a derivative. netting 17 agreement, the foregoing Chapter 14 - Leases

Chapter 18 - Earnings Per Share Chapter Difficulty 19 - Iof nterim identifying Financial Repor whether ting

certain transactions involve derivatives.

Chapter 20 - Segm ent Repor ting

The definition of derivatives has and already been addressed. Chapter 21 - Accounting Changes Cor rection of Er ror s While seemingly straightforward, the almost

limitless and still expanding variety of "engineered" financial products often makes definitive categorization more difficult than this at first would appear to be. The IGC illustrates this with examples Chapter 23 - Related- Part y Disclosures of two variants on interest rate swaps, both of which involve prepayments. The first of these, a prepaid Chapter 24 - Specialized I ndustr ies interest rate swap (fixed-rate payment obligation prepaid at inception or subsequently) qualifies as a Chapter 25 - I nflation and Hyperinflation derivative; the second, a variable-rate payment obligation prepaid at inception or subsequently) would Chapter 26 - Gov er nm ent Gr an ts not be a derivative. The reasoning is set forth in the next paragraphs, which are adapted from the IGC Appendix A - Di sclosure Checklist guidance. Chapter 22 - For eign Curr ency

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

First consider theparison "pay-fixed, receive-variable" interest Appendix C - Com of I AS, US GAAP, and UK GAAP rate swap that the party prepays at inception. Assume Agememnon Corp. enters into a $100 million notional amount five-year pay-fixed, receiveI ndex variable interest rate swap with Baltic Metals, Inc. The interest rate of the variable part of the swap List of Tables resets a quarterly basis List of Exon hibits and Ex am ples to the three-month LIBOR. The interest rate of the fixed part of the swap is 10% year. List of per Sidebar s Agememnon Corp. prepays its fixed obligation under the swap of $50 million (= $100

million x 10% x five years) at inception, discounted using market interest rates, while retaining the right to receive interest payments on the $100 million reset quarterly based on three-month LIBOR over the life of the swap. The initial net investment in the interest rate swap is significantly less than the notional amount on which the variable payments under the variable leg will be calculated. The contract requires little initial net investment relative to other types of contracts that have a similar response to changes in market conditions, such as a variable-rate bond. Therefore, the contract fulfills the "no or little initial net

investment" provision of IAS 39. Even though Agememnon Corp. has no future performance obligation, the ultimate settlement of the contract is at a future date and the value of the contract changes in response to changes to be a derivative W ilein y Ithe AS LIBOR 2 0 03 : Iindex. n t erp Accordingly, re t at ion an dthe Ap contract p licat io nisoconsidered f contract. The IGCI nfurther notes that if the fixed-rate payment obligation is prepaid subsequent to initial t er n at ion al Accou n t in g St an d ar ds recognition, whichbywould be considered a termination of the old swap and an origination of a new ISBN:0471227366 Bar r y J. Epstein and Abbas Ali instrument, whichMir would za have to be evaluated under IAS 39. John Wi ley & Sons © 2003 (952 pages)

Now consider theThis opposite situation, a prepaid pay-variable, receive-fixed interest rate swap, which the com pact and t ruly com pr ehensive qui ck - refer ence IGC concludes ispr not a derivative. Thiswith result obtains because provides a return on the prepaid esent s account ants a guide to depend onit for (invested) amountassistance comparable to the return a debt instrument fixed cash flows. For example, in the prepar at iononand under standing ofwith financial present in accordance with I AS. notional amount five-year "pay-variable, assume now thatstatements Synchronous Ltd. ed enters into a $100 million receive-fixed" interest rate swap with counterparty Cabot Corp. The variable leg of the swap resets on a T ab le of Con t en t s quarterly basis to the three-month LIBOR. The fixed interest payments under the swap are calculated Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing as 10% Standar dstimes the swap's notional amount, or $10 million per year. Synchronous Ltd. prepays its obligation under the variable leg of the swap at inception at current market rates, while retaining the Preface right to receive fixed interest payments of 10% on $100 million per year. The cash inflows under the Chapter 1 - I ntr oduction to I nter national Accounting Standar ds contract are equivalent to those of a financial instrument with a fixed annuity stream, since Chapter 2 - Balance Sheet Synchronous Ltd. knows it will receive $10 million per year over the life of the swap. Therefore, all else I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - the initial investment in the contract should equal that of other financial instruments that being equal, of Recognized Gains and Losses consist of fixed annuities. Thus, the initial net investment in the pay-variable, receive-fixed interest rate Chapter 4 - Cash Flow St at em ent swap is equal to the investment required in a nonderivative contract that has a similar response to Chapter 5 - Financial I nstr uments—Cash and Receiv ables changes in market conditions. For this reason, the instrument fails the "no or little net investment" Chapter 6 - I nventor y criterion of IAS 39. Therefore, the contract is not accounted for as a derivative under IAS 39. By Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s discharging the obligation to pay variable interest rate payments, Synchronous Ltd. effectively extends Chapter 8 - Property , Plant , and Equipment an annuity loan to Cabot Corp. In this situation, the instrument is accounted for as a loan originated by Chapter 9 - I ntangi bleSynchronous Asset s the enterprise unless Ltd. has the intent to sell it immediately or in the short term. Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

I nvestm entaccording Pr oper ty to the IAS 39 Implementation Guidance Committee, arrangements In yet other instances, Chapter 11 - Business and Consolidatare ed Fin that technically meet Combinations the definition of derivatives notancial to beStatements accounted for as such. For example, Curr ent Liabilit ies, Prov isions, Continto ingencies, and Ev ents after t he assume National Wire Products Corp. enters a fixed-price forward contract to purchase two million Chapter 12 Date kilograms ofBalance copper.Sheet The contract permits National Wire to take physical delivery of the copper at the Chapter 13 - Financial end of twelve monthsI nstr or touments—Longpay or receiveTer am netDebt settlement in cash, based on the change in fair value of Chapter 14 Leases copper. While such a contract meets the definition of a derivative, it is not necessarily accounted for as Chapter 15 - I ncom e Taxes is a derivative instrument because there is no initial net investment, the a derivative. The contract Chapter contract16is -based Em ploy oneethe Benefit prices of an underlying, copper, and it is to be settled at a future date. However, if National Wire intends to settle Chapter 17 - Stock holder s' Equit y the contract by taking delivery and has no history of settling in cash, the contract is not accounted for Chapter 18 - Earnings Per Share as a derivative under IAS 39. Instead, it is accounted for as an executory the purchase of inventory. Chapter 19 contract - I nterim for Financial Repor ting Chapter 20 - Segm ent Repor ting

Just as some seemingly derivative transactions may be accounted for as not involving a derivative instrument, the opposite situation can also occur, where some seemingly nonderivative transactions Chapter 22 - For eign Curr ency would be accounted for as being derivatives. For example, Argyle Corp. enters into a forward contract Chapter 23 - RelatedPart y Disclosures to purchase a commodity or other nonfinancial asset that contractually is to be settled by taking Chapter 24 Specialized ndustr ies pattern of settling such contracts prior to delivery by contracting with delivery. Argyle has an Iestablished Chapter 25 - I nflation and Hyperinflation a third party. Argyle settles any market value difference for the contract price directly with the third Chapter 26 Gov er nm entpattern Gr an ts of settlement prohibits Argyle Corp. from qualifying for the exemption party. Per the IGC, this Appendix - Di sclosure Checklist based onA normal delivery; the contract is accounted for as a derivative. IAS 39 applies to a contract to Appendix I llustrativ e Financial atem ent s Prmeets esent ed I AS of a derivative and the contract does purchaseB a- nonfinancial asset if St the contract theUnder definition not qualify theparison exemption forUS delivery theUK normal Appendix C -for Com of I AS, GAAP, in and GAAPcourse of business. In this case, Argyle does not expect to take delivery. Under the standard, a pattern of entering into offsetting contracts that I ndex effectively List of Tablesaccomplishes settlement on a net basis does not qualify for the exemption for delivery in the normal of business. List of Ex course hibits and Ex am ples Chapter 21 - Accounting Changes and Cor rection of Er ror s

List of Sidebar s

Forward contracts to purchase fixed-rate debt instruments (such as mortgages) at fixed prices are to be accounted for as derivatives. They meet the definition of a derivative because there is no or little initial net investment, there is an underlying variable (interest rates), and they will be settled in the future. (Such transactions are to be accounted for as a regular way transaction, however, if regular way delivery is required. Regular way delivery is defined by IAS 39 to include contracts for purchases or sales of financial instruments that require delivery in the time frame generally established by regulation or convention in the marketplace concerned. Regular way contracts are explicitly defined as not being derivatives.)

Interest rate (and currency) swaps have become widely used financial arrangements. The IGC has noted that whether an interest rate swap settles gross or net does not impact defining a swap as a derivative. Some W had expressed that settlement, ile y I AS 2 0 03the : I nconcern t erp re t at iongross an d Ap p licat io nwith o f each party paying the gross amount due based defined notional amounts I non t er the n at ion al Accou n t in g St an d arand ds interest rates, would cause the arrangement to not qualify under by theBar definition for derivatives. the IGC has clarified that, regardless of how ISBN:0471227366 r y J. Epstein and Abbas However, Ali zabe settled, the three key defining characteristics are present in all interest rate the arrangement Mir is to Wi ley changes & Sons © are 2003in (952 pages) to changes in an underlying variable (interest swaps—namely, John that value response rates or an index This of rates), thatand there is little orehensive no initialqui netckinvestment, com pact t ruly com pr - refer ence and that settlements will occur pr esent s account ants with a guide to depend on for at future dates. Thus, swaps are always derivatives. assistance in the prepar at ion and under standing of financial presentinstruments. ed in accordance with ICorboy AS. Not all derivativesstatements involve financial Consider Co., which owns an office building and enters into a put option, with a term of five years, with an investor that permits it to put the building T ab le of Con t en t s to the investor for $15 million. The current value of the building is $17.5 million. The option, if exercised, Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing may bedssettled through physical delivery or net cash, at Corboy's option. Corboy's accounting depends Standar on Corboy's intent and past practice for settlement. Although the contract meets the definition of a Preface derivative, does not account for Accounting it as a derivative if ds it intends to settle the contract by delivering Chapter 1 -Corboy I ntr oduction to I nter national Standar the building if it exercises its option, and there is no past practice of settling net. Chapter 2 - Balance Sheet I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent The investor, Chapter 3 - however, cannot conclude that the option was entered into to meet the investor's of Recognized Gains and Losses

expected purchase, sale, or usage requirements because the investor does not have the ability to - Cash Flow St at em ent require delivery. Therefore, the investor has to account for the contract as a derivative. Regardless of Chapter 5 - Financial I nstr uments—Cash and Receiv ables past practices, the investor's intention does not affect whether settlement is by delivery or in cash. The Chapter - I nventor y option, and a written option in which the holder has the choice of physical investor6 has written an Chapter 7 Rev enue Recogni tion, I ncluding Constrthe uction Contr act s delivery or net cash settlement can never satisfy normal delivery requirement for the exemption Chapter 8 Property , Plant , and Equipment from IAS 39 for the investor. However, if the contract required physical delivery and the reporting Chapter 9 -had I ntangi ble Asset s enterprise no past practice of settling net in cash, the contract would not be accounted for as a I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and derivative. Chapter 10 Chapter 4

I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Embedded derivatives. Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balance Date that an embedded derivative be separated from a host contract. The In certain cases, IASSheet 39 requires Chapter 13 - derivative Financial Imust nstr uments—LongTer m Debt embedded then be accounted for separately as a derivative, at fair value. That does not, however, require separating them in the balance sheet; IAS 39 does not address the presentation Chapter 14 - Leases in the balance sheet of embedded derivatives. However, IAS 32 requires separate disclosure of Chapter 15 - I ncom e Taxes financial carried at cost Chapter 16assets - Em ploy ee Benefit s and financial assets carried at fair value, although this could be in the notes rather than on the face Chapter 17 - Stock holder s' Equitofy the balance sheet. Chapter 18 - Earnings Per Share

The concept of embedded derivatives embraces such elements as conversion features, such as found in convertible debts. For example, an investment in a bond (a financial asset) may be convertible into Chapter - Segm ent Repor ting or another enterprise at any time prior to the bond's maturity, at the shares 20 of the issuing enterprise Chapter 21 Accounting Changes andofCor rection of Er ror s option of the holder. The existence the conversion feature in such a situation generally precludes Chapter 22 - For Curr ency classification aseign a held-to-maturity investment because that would be inconsistent with paying for the Chapter 23 - feature—the Related- Part yright Disclosures conversion to convert into equity shares before maturity. Chapter 19 - I nterim Financial Repor ting

Chapter 24 - Specialized I ndustr ies

An investment in a convertible bond can be classified as an available-for-sale financial asset provided it Chapter 25 - I nflation and Hyperinflation is not purchased purposes. The equity conversion option is an embedded derivative. If the Chapter 26 - Gov erfor nmtrading ent Gr an ts

bond is classified as available-for-sale with fair value changes recognized directly in equity until the bond is sold, the equity conversion option (the embedded derivative) is generally separated. The Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS amount paid for the bond is split between the debt security without the conversion option and the equity Appendix C - Com parison of I AS, US GAAP, and UK GAAP conversion option itself. Changes in the fair value of the equity conversion option are recognized in the I ndex income statement unless the option is part of a cash flow hedging relationship. If the convertible bond List of Tables is carried at fair value with changes in fair value reported in net profit or loss, separating the embedded List of Ex hibits and am ples derivative from theExhost bond is not permitted. Appendix A - Di sclosure Checklist

List of Sidebar s

When an evaluation is made, using the criteria in IAS 39, which leads to the conclusion that the embedded derivative must be separately accounted for, the initial carrying amounts of a host and the embedded derivative must be determined. Since the embedded derivative must be recorded at fair value with changes in fair value reported in net profit or loss, the initial carrying amount assigned to the host contract on separation is determined as the difference between the cost (fair value of the consideration given) for the hybrid (combined) instrument and the fair value of the embedded derivative.

IAS 32 suggests, as one method of separating the liability and equity components contained in a compound financial instrument, allocating the aggregate carrying amount based on the relative fair values of the liability equity components. However, isio not to the separation of a W ileand y I AS 2 0 03 : I n t erp re t at ion an d IAS Ap p32 licat n oapplicable f derivative from a Ihybrid instrument under IAS 39. It would be inappropriate to allocate the basis in the n t er n at ion al Accou n t in g St an d ar ds hybrid instrumentby under IAS 39 to the derivative and nonderivative components based on their relative ISBN:0471227366 Bar r y J. Epstein and Abbas Ali zamight result in an immediate gain or loss being recognized in net profit or loss on fair values, since Mir that the subsequent measurement of the© derivative at fair value. John Wi ley & Sons 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence

For example, Erewohn acquires a five-year floating-rate instrument issued by Spacemaker Co. pr esentAG s account ants with a guide to dependdebt on for At the same time,assistance it enters into a five-year "pay-variable, receive-fixed" interest rate swap with the St. in the prepar at ion and under standing of financial statements present edcombination in accordance I AS. instrument and swap to be a "synthetic Helena Bank. Erewohn considers the of with the debt fixed-rate instrument" and classifies the instrument as a held-to-maturity investment, since it has the T ab le of Con t en t s positive intent and ability to hold it to maturity. Erewohn contends that separate accounting for the swap Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing is inappropriate, since IAS 39 requires an embedded derivative to be classified together with its host Standar ds instrument if the derivative is linked to an interest rate that can change the amount of interest that Preface would otherwise be paid or received on the host debt contract. Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Chapter 2 -toBalance Sheet According the IGC, however, the company's analysis is not correct. Embedded derivative Iare ncom e Statement, Stat emthat ent are of Chan ges inin Equit y, and Statem entcontracts. It is generally instruments terms and conditions included nonderivative host Chapter 3 of Recognized Gains and Losses

inappropriate to treat two or more separate financial instruments as a single combined instrument - Cash Flow St at em ent (synthetic instrument accounting) for the purposes of applying IAS 39. Each of the financial instruments Chapter 5 Financial uments—Cash andmay Receiv has its own- terms andI nstr conditions and each be ables transferred or settled separately. Therefore, the Chapter 6 I nventor y debt instrument and the swap are classified separately. Chapter 4

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8 - accounting Property , Plant , under and Equipment Hedging IAS 39. Chapter 9

- I ntangi ble Asset s

When there Iis a hedging relationship a hedging another item (the underlying), nterests in Financial Instr between um ent s, Associat es, instrument Joint Venturand es, and Chapter 10 and certain conditions met,tythen special "hedging accounting" will be applied. The purpose is to I nvestm entare Pr oper relate the changes in the hedging instrument the underlying so that these affect earnings in Chapter 11 value - Business Combinations and Consolidat edand Fin ancial Statements the same period. Hedging instruments are often financial derivatives, such as options or futures, but Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 Sheet Date Hedging may be engaged in to protect against changes in fair values, this is not a Balance necessary condition. changes flows, or changes the value of an investment in a foreign operation, such Chapter 13in- expected Financial Icash nstr uments—LongTer minDebt as a subsidiary, due to currency rate movements. There is no requirement that enterprises engage in Chapter 14 - Leases hedging, the principles Chapter 15but - I ncom e Taxes of good management will often dictate that this be done. Chapter 16 - Em ploy ee Benefit s

For a simplistic example of the need for, and means of, hedging, consider an entity that holds US Treasury bonds as an investment. The bonds have a maturity some ten years in the future, but the Chapter 18 - Earnings Per Share entity actually intends to dispose of these in the intermediate term, for example, within four years to Chapter - I nterim Financial Repor ting partially19finance a plant expansion currently being planned. Obviously, an unexpected increase in Chapter - Segm ent Repor ting general20 interest rates during the projected four-year holding period would be an unwelcome Chapter 21 - Accounting Changes anda Cor rection ror s development, since it would cause decline in of theErmarket value of the bonds and could accordingly Chapter For eign Curr ency result in22an- unanticipated loss of principal. One means of guarding against this would be to purchase a Chapter 23 -on RelatedPart y Disclosures put option these bonds, permitting the enterprise to sell them at an agreed-upon price, which would Chapter - Specialized be most24valuable shouldI ndustr there ies be a price decline. If interest rates do indeed rise, the increasing value of the "put" (if properly structured) offset the declining value of the bonds themselves, thus Chapter 25 - will I nflation and Hyperinflation providing effective fairGrvalue Chapter 26 an - Gov er nm ent an ts hedge. (Other hedging strategies are also available, including selling short Treasury bond futures, and the entity of course could have reduced or eliminated the need to Appendix A - Di sclosure Checklist hedge entirely by having invested Treasury bondsedhaving maturity more closely matched to its Appendix B - I llustrativ e Financial St in atem ent s Pr esent Under aI AS anticipated need.) of I AS, US GAAP, and UK GAAP Appendix C - cash Com parison Chapter 17 - Stock holder s' Equit y

I ndex

Special hedge accounting is necessitated by the fact that fair value changes in not all financial

List of Tables are reported in current earnings. Thus, if the entity in the foregoing example holding the instruments List of Ex hibits and Ex am ples Treasuries has elected to report changes in available-for-sale investments (which would include the List of Sidebar s in this instance) directly in equity, but the changes in the hedging instrument's fair Treasury bonds

value were to be reported in current operations, there would be a fundamental mismatching which would distort the real hedging relationship that had been established. To avoid this result, the entity may elect to apply special hedge accounting as prescribed by IAS 39, as was discussed in some detail inChapter 5. It should be noted, though, that hedge accounting is optional. An entity that carries out hedging activities for risk management purposes may well decide not to apply hedge accounting for some hedging transactions if it wishes to reduce the cost and burden of complying with the hedge accounting requirements in IAS 39.

Accounting for gains and losses from fair value hedges. The accounting for qualifying losses value W ile y I AS 2 gains 0 03 : Iand n t erp re t aton ionfair an d Ap p hedges licat io n is o fas follows: I n t er ninstrument, at ion al Accou t in grecognized St an d ar dsin earnings. 1. On the hedging theynare by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za item, they are recognized in earnings even if the gains or losses would normally 2. On the hedged Wi ley & directly Sons © 2003 (952 pages) have beenJohn recognized in equity if not hedged. This com pact and t ruly com pr ehensive qui ck - refer ence

The foregoing rule even inants the with caseaofguide investments (classified as available-for-sale) for which pr applies esent s account to depend on for thebeing prepar at ion and under standing of financial unrealized gains assistance and lossesinare accumulated directly in equity, if that method was appropriately statements presentas ed permitted in accordance with39. I AS. elected by the reporting enterprise, by IAS In all instances, to the extent that there are differences between the amounts of gain or loss on hedging and hedged items, these will be due either T ab le of Con t en t s to amounts excluded from assessment effectiveness, or to hedge ineffectiveness; in either event, these Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing are recognized currently in earnings. Standar ds Preface

As an example, consider an available-for-sale security, the carrying amount of which is adjusted by the - I ntr oduction to I nter national Accounting Standar ds amount of gain or loss resulting from the hedged risk, a fair value hedge. It is assumed that the entire Chapter 2 - Balance Sheet investment was hedged, but it is also possible to hedge merely a portion of the investment. The facts I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent are as follows: Chapter 3 Chapter 1

of Recognized Gains and Losses

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Hedged item:

Hedging Chapter 6 instrument: - I nventor y

Available-for-sale security Put option

Chapter 7 - Rev enue Recogni I ncluding Constr uction Contr act s Underlying: Pricetion, of the security Chapter 8 - Property , Plant , and Equipment

Notional amount: 100 shares of the security - I ntangi ble Asset s

Chapter 9

Chapter 10 1Example

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

On July 1, 2003, Gardiner Company purchased 100 shares of Disney Co. common stock at a cost of

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter $15 per12share and classified it as an available-for-sale security. On October 1, Gardiner Company Balance Sheet Date

purchased an at-the-money put on Disney with an exercise price of $25 and an expiration date of April 2004. This put purchase locks in a profit of $650, as long as the price is equal to $25 or lower, but Chapter 14 - Leases allows continued profitability if the price of the Disney stock goes above $25. (In other words, the put Chapter 15 - I ncom e Taxes cost a premium of $350, which if deducted from the locked-in gain [$2,500 market value less $1,500 Chapter 16 - Em ploy ee Benefit s cost] leaves a net gain of $650 to be realized.) Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings The premium paid forPer an Share at-the-money option (i.e., where the exercise price is current market value of

the underlying) is theFinancial price paid forting the right to have the entire remaining option period in which to Chapter 19 - I nterim Repor exercise option. the present example, Gardiner Company specifies that only the intrinsic value of Chapter 20the - Segm entInRepor ting the option to be usedChanges to measure Chapter 21 -isAccounting and effectiveness. Cor rection of ErThus, ror s the time value decreases of the put will be charged22against theCurr income Chapter - For eign ency of the period, and not offset against the change in value of the underlying, hedged23 item. Gardiner then documents the hedge's strategy, objectives, hedging Chapter - RelatedPartCompany y Disclosures

relationships, and method of measuring effectiveness. The following table shows the fair value of the hedged item and the hedging instrument.

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

Case One

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

10/1/03

12/31/03

3/31/04

4/17/04

Hedged item: W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds $ 25 Disney share price $ 22

$ 20

$ 20

100

100

100

$2,200

$2,000

$2,000

$ 300

$ 500

$ 500

Time value 350Account ing215 Wiley I AS 20 03—Int er pretation and Application of I nternational Standar ds

53

0

$ 553

$ 500

$ 200

$0

by Bar r y J. Epstein and Abbas Ali Number of shares Mir za John Wi ley & Sons © 2003 (952 pages) Total value of shares

100

ISBN:0471227366

$2,500

This com pact and t ruly com pr ehensive qui ck - refer ence Hedging instrument: pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial Put option (100 shares) statements present ed in accordance with I AS.

Intrinsic value

$0

T ab le of Con t en t s

Total

$ 350

Preface

$ 515

Intrinsic Chapter 1 value - I ntr oduction to I nter national Accounting Standar ds Chapter 2 - Balance Sheetlast measurement date Gain (loss) on put from $0 $ 300 I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of Recognized Gains and Losses

Chapter - Cash the Flowforegoing St at em ent Entries 4to record changes in value, ignoring tax effects and transaction costs, are as Chapter follows:5 - Financial I nstr uments—Cash and Receiv ables Chapter 6

- I nventor y

Chapter 7/1/037

- Rev enue Recogni tion, I ncluding Constrsecurities uction Contr act s Purchase: Available-for-sale

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

9/30/03 Chapter 10 -

1,500 1,500

Cash

I nterests Instr um ent s, Associat es, Joint Ventur es,securities and End of in Financial Valuation allowance—available-for-sale I nvestm quarter:ent Pr oper ty

1,000

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

10/1/03

Shareholders' equity Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date Put purchase:

Put option

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

12/31/03

End of year:

Chapter 16 - Em ploy ee Benefit s

Put option

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

350 300 300

Hedge gain/loss (intrinsic value gain)

Gain/loss

Chapter 19 - I nterim Financial Repor ting

135 135

Put option (time value loss)

Chapter 20 - Segm ent Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

350

Cash

Chapter 14 - Leases Chapter 15 - I ncom e Taxes

1,000

Hedge gain/loss

300 300

Chapter 23 - Related- Part y Disclosures Available-for-sale securities (market value Chapter 24 - Specialized I ndustr ies loss) Chapter 25 - I nflation and Hyperinflation

3/31/04

End of quarter:

Put option

Chapter 26 - Gov er nm ent Gr an ts

200

Appendix A - Di sclosure Checklist

200

Appendix B - I llustrativ e Financial St atem Hedge ent s Prgain/loss esent ed Under (intrinsic I ASvalue changes) Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Gain/loss

162

I ndex

162

Put option (time value loss)

List of Tables List of Ex hibits and Ex am ples

Hedge gain/loss

200

List of Sidebar s

200

Available-for-sale securities (market value loss) 4/17/04

Put expires:

Put option

0 0

Hedge gain/loss (intrinsic value changes) Gain/loss

53

53

Put option (time value changes) W ile y I AS 2 0Hedge 03 : I n tgain/loss erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

0 0

Available-for-sale securities (market value ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali changes) Mir za John Wi ley & Sons © 2003 (952 pages)

An option is said This to becom "in-the-money" if the exercise price is above the market value (for a put option) pact and t ruly com pr ehensive qui ck - refer ence or below the market value (for a call option). or before expiration, pr esent s account ants with a At guide to depend on for an in-the-money put should be sold or exercised (to let it simply in expire wouldatbe effectively discardofa financial valuable asset). It should be assistance the prepar iontoand under standing present ed"American in accordance with I which AS. stressed that thisstatements applies to so-called options," may be exercised at any time prior to expiration; so-called "European options" can only be exercised at the expiration date. Assuming that T ab le of Con t en t s the put option is sold immediately before its expiration date, the entry would be Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

4/17/04 Preface

Put sold:

Cash

500

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds 500

Chapter 2

- Balance Sheet

Chapter 3

-

Put option

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

On the other hand, if the put is exercised (i.e., the underlying security is delivered to the counterparty, Chapter 4 - Cash Flow St at em ent which is obligated to pay $25 per share for the stock), the entry would be Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Shareholders' Property , Plant equity , and Equipment

Chapter 9

- I ntangi ble Asset s

4/17/04

Cash

Chapter 10 -

2,500 1,000

Valuation allowance—available-for-sale

1,000

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and securities I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Available-for-sale securities Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 BalancePut Sheet Date option Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Gain on sale of securities

1,000 500 1,000

Chapter 15 - I ncom e Taxes

The cumulative effect on retained earnings of the hedge and sale is a net gain of $650 ($1,000-$350).

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

Example 2

Chapter 19 - I nterim Financial Repor ting Chapter 20 illustrate - Segm entfair Repor ting To further value hedge accounting, the facts in the preceding example will now be slightly Chapter 21 Now, - Accounting Changes and Cor rection of Er ror option s modified. the share price increases after the put is purchased, thus making the put

worthless, theCurr shares Chapter 22 -since For eign encycould be sold for a more advantageous price on the open market. Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies

Case Two Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

10/1/03

12/31/03

3/31/04

4/17/04

Hedged item: W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds $ 25 Disney share price $ 28

$ 30

$ 31

100

100

100

$2,800

$3,000

$3,100

$0

$0

$0

Time value 350Account ing100 Wiley I AS 20 03—Int er pretation and Application of I nternational Standar ds

25

0

$ 25

$0

$0

$0

by Bar r y J. Epstein and Abbas Ali Number of shares Mir za John Wi ley & Sons © 2003 (952 pages) Total value of shares

100

ISBN:0471227366

$2,500

This com pact and t ruly com pr ehensive qui ck - refer ence Hedging instrument: pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial Put option (100 shares) statements present ed in accordance with I AS.

Intrinsic value

$0

T ab le of Con t en t s

Total

$ 350

Preface

$ 100

Intrinsic Chapter 1 -value I ntr oduction to I nter national Accounting Standar ds Chapter 2 - Balance Sheetlast measurement date Gain (loss) on put from $0 $0 I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of Recognized Gains and Losses

Chapter - Cash the Flowforegoing St at em ent Entries 4to record changes in value, ignoring tax effects and transaction costs, are as Chapter follows:5 - Financial I nstr uments—Cash and Receiv ables Chapter 6

- I nventor y

Chapter 7/1/037

- Rev enue Recogni tion, I ncluding Constr uction Contr act s Purchase: Available-for-sale securities

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

9/30/03 Chapter 10 -

1,500 1,500

Cash

I nterests in FinancialValuation Instr um ent s, Associat es, Joint Ventur es,security and End of quarter: allowance—available-for-sale I nvestm ent Pr oper ty

1,000 1,000

equity Chapter 11 - Business Combinations and Shareholders' Consolidat ed Fin ancial Statements 10/1/03 Chapter 12 -

Curr Liabilit ies, Prov Putent purchase: Putisions, optionCont ingencies, and Ev ents after t he Balance Sheet Date

350 350

Chapter 13 - Financial I nstr uments—LongTer m Debt Cash Chapter 14 - Leases

12/31/03

End of year:

Chapter 15 - I ncom e Taxes

Put option

Chapter 16 - Em ploy ee Benefit s

Hedge gain/loss

Chapter 19 - I nterim Financial Repor ting Put option (time value loss) Chapter 20 - Segm ent Repor ting

Available-for-sale security

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

End of quarter:

Put option

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation Hedge gain/loss (intrinsic value change) Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

250 250 300 300

Shareholders' equity

Chapter 23 - Related- Part y Disclosures

3/31/04

0

Hedge gain/loss (intrinsic value gain)

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

0

Hedge gain/loss

0 0 75 75

Appendix B - I llustrativ e Financial St atemPut ent soption Pr esent ed Under AS (time valueIloss) Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Available-for-sale securities

I ndex List of Tables

200

Shareholders' equity

List of Ex hibits and Ex am ples

4/17/04

200

Put expires:

List of Sidebar s

Put option

0 0

Hedge gain/loss (intrinsic value change) Hedge gain/loss

25 25

Put option (time value change) Available-for-sale securities Shareholders' equity

100 100

The put expired unexercised and Gardiner Company must decide whether to sell the security. If it continues to hold, normal IAS 39 accounting would apply. In this example, since it was hypothesized ile y I AS 0 03 : Ithe n t erp re t atof ion an d changes Ap p licat (apart io n o f from those which were hedging that Gardiner hadWelected to 2record effects value t er n at ion al Accou g St an d ar ds to apply this accounting after the expiration of related) directly inI nshareholders' equity,n titinwould continue by Bar r y J. Epstein and Ali the put option. Assuming, however, that Abbas the security is instead ISBN:0471227366 sold, the entry would be Mir za John Wi ley & Sons © 2003 (952 pages)

4/17/04

Cash

3,100

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account Shareholders' equity ants with a guide to depend on for 1,600 assistance in the prepar at ion and under standing of financial statements present edsecurities in accordance with I AS. Available-for-sale

T ab le of Con t en t s

Valuation allowance—available-for-sale

1,500 1,600

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing securities Standar ds Preface

Gain on sale of securities

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

1,600

I ncom e Statement, Statlosses em ent offrom Chan ges in Equit y, and Statem ent Accounting for gains and cash flow hedges. Chapter 3 of Recognized Gains and Losses Chapter 4 -hedges Cash Flow St at eminvolve ent Cash flow generally forecasted transactions or events. The intention is to defer the Chapter 5 - of Financial I nstr uments—Cash and Receiv ablesactivity itself until the forecasted transaction recognition gains or losses arising from the hedging

takes place, then Chapter 6 - I and nventor y to have the formerly deferred gain or loss affect earnings when the forecasted transaction earnings. While overwhelmingly it willContr be derivative financial instruments that are Chapter 7 - affects Rev enue Recogni tion, I ncluding Constr uction act s used to8hedge cash ,flows to forecasted transactions, IAS 39 contemplates the use of nonChapter - Property Plantrelating , and Equipment derivatives this ble purpose Chapter 9 - for I ntangi Asset sas well in the case of hedges of foreign currency risk. Forecasted transactionsI nterests may include future cash fromes,presently existing, recognized assets or in Financial Instr flows um entarising s, Associat Joint Ventur es, and liabilities—for example, future interest rate payments to be made on debt carrying floating interest rates I nvestm ent Pr oper ty are subject cash flow hedging. and Consolidat ed Fin ancial Statements Chapter 11 - to Business Combinations Chapter 10 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 The accounting for qualifying gains and losses on cash flow hedges is as follows: Balance Sheet Date Chapter 1. On 13 -the Financial hedging I nstr instrument, uments—Longthe portion Ter m Debt of the gain or loss that is determined to be an effective

will he recognized directly in equity. Chapter hedge 14 - Leases Chapter 15 - I ncom e Taxes

2. Also on the hedging instrument, the ineffective portion should be reported in earnings, if the instrument is a derivative; otherwise, it should be reported in a manner consistent with the Chapter 17 - Stock holder s' Equit y accounting for other financial assets or liabilities as set forth in IAS 39. Thus, if an available-forChapter 18 - Earnings Per Share sale security has been used as the hedging instrument in a particular cash flow hedging Chapter 19 - I nterim Financial Repor ting situation, and the enterprise has elected to report value changes in equity, then any ineffective Chapter portion 20 - Segm ent hedge Repor ting of the should continue to be recorded in equity. Chapter 16 - Em ploy ee Benefit s

Chapter 21 - Accounting Changes and Cor rection of Er ror s

According IAS 39,Curr theency separate component of equity associated with the hedged item should be Chapter 22 -toFor eign adjusted lesser (iny absolute terms) of either the cumulative gain or loss on the hedging Chapter 23to- the RelatedPart Disclosures instrument offset ies the cumulative change in expected future cash flows on the hedged item Chapter 24 - necessary SpecializedtoI ndustr from hedge excluding the ineffective portion, or the fair value of the cumulative change in Chapter 25 - Iinception, nflation and Hyperinflation expected cash flows ontsthe hedged item from inception of the hedge. Furthermore, any Chapter 26 future - Gov er nm ent Gr an

remaining gain or loss on the hedging instrument (i.e., the ineffective portion) must be recognized currently in earnings or directly in equity, as dictated by the nature of the instrument and entity's Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS accounting policy (for available-for-sale instruments, where there is a choice of reporting directly in Appendix C - Com parison of I AS, US GAAP, and UK GAAP equity or in earnings). If the entity's policy regarding the hedge is to exclude a portion from the measure I ndex of hedge effectiveness (e.g., time value of options in the preceding example in this section of Chapter List of Tables 10), then any related gain or loss must be incorporated into either earnings or equity based on the List of Exof hibits and Ex amthe pleselected policy. nature the item and Appendix A - Di sclosure Checklist

List of Sidebar s

Example of "plain vanilla" interest rate swap On July 1, 2003, Abbott Corp. borrows $5 million with a fixed maturity (no prepayment option) of June 30, 2007, carrying interest at the US prime interest rate + 1/2%. Interest payments are due semiannually; the entire principal is due at maturity. At the same date, Abbott Corp. enters into a "plainvanilla-type" swap arrangement, calling for fixed payments at 8% and the receipt of prime + 1/2%, on a notional amount of $5 million. At that date prime is 7.5%, and there is no premium due on the swap arrangement since the fixed and variable payments are equal. (Note that swaps are privately

negotiated and, accordingly, a wide range of terms will be encountered in practice; this is simply intended as an example, albeit a very typical one.) W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

The foregoing swap qualifies as a cash flow hedge under IAS 39. Given the nature of this swap, it is I n t er n at ion al Accou n t in g St an d ar ds reasonable to assume no ineffectiveness, but in real world situations this must be carefully evaluated ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali with reference to Mir thezaspecific circumstances of each case; IAS 39 does not provide a short-cut method (which contrasts with corresponding GAAP John the Wi ley & Sons © 2003US (952 pages) standard). IAS 39 defines effectiveness in terms of results: if at inception and throughout the life of the hedge, the enterprise can expect an almost This com pact and t ruly com pr ehensive qui ck - refer ence complete offset ofprcash flow variations, and in fact esent s account ants with a guide (retrospectively) to depend on for actual results are within a range of 80 to 125%, the hedge will be judged highly assistance in the prepar at ioneffective. and under standing of financial statements present ed in accordance with I AS.

In the present example, assume that in fact the hedge proves to be highly effective. Also, assume that T ab le of Con t en t s the prime rate over the four-year term of the loan, as of each interest payment date, is as follows, along Wiley AS fair 20 03—Int er pretation and Application I nternational Account with Ithe value of the remaining term of theofinterest swap at thoseing dates: Standar ds Preface Chapter 1

Date

Prime rate (%)

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2 - Balance December 31, 2003Sheet

6.5

Fair value of swap

[a]

$(150,051)

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 2004 June 30, 6.0 (196,580) of Recognized Gains and Losses Chapter December 4 - Cash 31, 2004 Flow St at em ent

6.5

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

7.0

Chapter 6

- I nventor y

June 30, 2005

December 31, enue 2005 Recogni tion, I ncluding Constr 7.5uction Contr act s Chapter 7 - Rev Chapter 8 2006 - Property , Plant , and Equipment June 30, Chapter 9 - I ntangi ble Asset s

December 31, 2006

(111,296) (45,374) 0

8.0

23,576

8.5

24,038

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and June 30, 2007 I nvestm ent Pr oper ty 8.0

Chapter 10 -

0

[a]Fair values Chapter 11 - Business Combinations Consolidat ed of Finfuture ancial cash Statements are determined as theand present values flows resulting from expected interest rule Curr differentials, ent Liabilitbased ies, Prov on isions, current Cont prime ingencies, rate, discounted and Ev entsatafter 8%. t he Chapter 12 Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 -the Leases Regarding fair values presented in the foregoing table, it should be assumed that the market (fair) values 15 of the swape contract Chapter - I ncom Taxes are precisely equal to the present value, at each valuation date (assumed

to be the payment dates), of the differential future cash flows resulting from utilization of the Chapter 16interest - Em ploy ee Benefit s swap. Future variable interest (prime + 1/2%) are assumed to be the same as the existing rates at Chapter 17 - Stock holder s' Equitrates y each valuation date (i.e., the yield curve is flat and there is no basis for any expectation of rate Chapter 18 - Earnings Per Share changes, therefore, the best estimate at any given moment is that the current rate will persist over Chapter 19 and - I nterim Financial Repor ting time). The 8%, Chapter 20 -discount Segm entrate, Repor tingis assumed to be constant over time. Chapter 21 - Accounting Changes and Cor rection of Er ror s

Thus, for example, the fair value of the swap at December 31, 2003, would be the present value of an

Chapter - For eign Curr ency(the number of remaining semiannual interest payments due) of $25,000 annuity22 of seven payments Chapter 23 RelatedPart7%, y Disclosures each (pay 8%, receive based on then-existing prime rate of 6.5%) to be made to the swap Chapter 24 - Specialized I ndustr counterparty, discounted at anies annual rate of 8%. (Consistent with the convention for quoting interest Chapter - I nflation and Hyperinflation rates as25bond-equivalent yields, 4% is used for the semiannual discounting, rather than the rate that Chapter 26 - Gov erto nm8% ent annually.) Gr an ts would compound The present value of a stream of seven $25,000 payments to the Appendix swap counterparty A - Di sclosure amounts Checklist to $150,051 at December 31, 2003, which is the swap liability to be

reportedBby- Abbott Corp. at that St date. is aeddebit to Iequity, since the hedge is continually Appendix I llustrativ e Financial atemThe ent soffset Pr esent Under AS judged toC be 100% effective in this case. and UK GAAP Appendix - Com parison of I AS, US GAAP, I ndex

The semiannual accounting entries will be as follows:

List of Tables

List of Ex hibits and Ex am ples List of Sidebar s

December 31,2003 Interest expense W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f 175,000 I n t er n at ion al Accou n t in g St an d ar ds by Barinterest r y J. Epstein and Abbas Ali Accrued (or cash)

ISBN:0471227366

Mir za John Wi ley & Sons 2003debt (952 at pages) To accrue or pay interest on© the the variable rate of prime + 1/2% (7.0%) This com pact and t ruly com pr ehensive qui ck - refer ence 25,000 Interest expense pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Accrued interest (or cash)

175,000

25,000

T ab le of Con t en t s

To record net settle-up on swap arrangement [8.0 - 7.0%]

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds 150,051 Preface

Shareholders' equity

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

150,051

Obligation under swap contract

To- record I ncom ethe Statement, fair valueStat of the em ent swap of contract Chan gesas in of Equit thisy, date and (a Statem net liability ent because fixed Recognized Gains and Losses rateofpayable is below expected variable rate based on current prime rate)

Chapter 3 Chapter 4

- Cash Flow St at em ent June 530, -2004 Chapter Financial I nstr uments—Cash and Receiv ables Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Interest expense

162,500 162,500

Accrued interest (or cash)

To accrue I nterests or in pay Financial interestInstr on the um ent debt s, at Associat the variable es, Joint rate Ventur of prime es, and + 1/2% (6.5%)

Chapter 10 -

I nvestm ent Pr oper ty

Interest expense Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

37,500

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date(or cash) Accrued interest

37,500

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

To- record Chapter 14 Leasesnet settle-up on swap arrangement [8.0 - 6.5%] Chapter 15 - I ncom e Taxes

Shareholders' equity

46,529

Chapter 16 - Em ploy ee Benefit s

46,529

Chapter 17 - Stock holder s'under Equit yswap contract Obligation Chapter 18 - Earnings Per Share

To- record fair value of the Chapter 19 I nterimthe Financial Repor ting swap contract as of this date (increase in obligation because decline in prime rate) Chapter 20 - Segm of entfurther Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

December 31,2004

Chapter 22 - For eign Curr ency Chapter 23 - RelatedPart y Disclosures Interest expense

175,000

Chapter 24 - Specialized I ndustr ies

175,000

Chapter 25 - I nflation Hyperinflation Accruedand interest (or cash) Chapter 26 - Gov er nm ent Gr an ts

or pay interest on the debt at the variable rate of prime + 1/2% (7.0%) Appendix To A - accrue Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Interest expense

25,000

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

25,000

Accrued interest (or cash)

List of Tables

To record net on swap arrangement [8.0 - 7.0%] List of Ex hibits and Ex amsettle-up ples List of Sidebar s

Obligation under swap contract Shareholders' equity

85,284 85,284

To record the fair value of the swap contract as of this date (decrease in obligation due to increase in prime rate)

June 30, 2005 Interest expense W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f 187,500 I n t er n at ion al Accou n t in g St an d ar ds by Barinterest r y J. Epstein and Abbas Ali Accrued (or cash)

187,500

ISBN:0471227366

Mir za John Wi ley & Sons 2003debt (952 at pages) To accrue or pay interest on© the the variable rate of prime + 1/2% (7.5%) This com pact and t ruly com pr ehensive qui ck - refer ence 12,500 Interest expense pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Accrued interest (or cash)

12,500

T ab le of Con t en t s

To record net settle-up on swap arrangement [8.0 - 7.5%]

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds 65,922 Obligation under swap contract Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

65,922

Shareholders' equity

To- record I ncom ethe Statement, fair valueStat of the em ent swap of contract Chan gesas in of Equit thisy,date and (further Statem ent increase in prime rate of Recognized and Losses reduces fair value Gains of derivative)

Chapter 3 Chapter 4

- Cash Flow St at em ent

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

December 31, 2005I nstr uments—Cash and Receiv ables Chapter 5 - Financial Interest expense

200,000 200,000

Accrued interest (or cash)

To accrue I nterests or in pay Financial interestInstr on the um ent debt s, at Associat the variable es, Joint rate Ventur of prime es, and + 1/2% (8.0%)

Chapter 10 -

I nvestm ent Pr oper ty

0

Interest expense Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date(or cash) Accrued interest

0

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

To- record Chapter 14 Leasesnet settle-up on swap arrangement [8.0 - 8.0%] Chapter 15 - I ncom e Taxes

Obligation under swap contract

45,374

Chapter 16 - Em ploy ee Benefit s

45,374

Chapter 17 - Stock holder s' Equit y Shareholders' equity Chapter 18 - Earnings Per Share

To- record fair value of the Chapter 19 I nterimthe Financial Repor ting swap contract as of this date (further increase in prime rate eliminates fairRepor valueting of the derivative) Chapter 20 - Segm ent Chapter 21 - Accounting Changes and Cor rection of Er ror s

June 30, 2006

Chapter 22 - For eign Curr ency Chapter 23 - RelatedPart y Disclosures Interest expense

212,500

Chapter 24 - Specialized I ndustr ies

212,500

Chapter 25 - I nflation Hyperinflation Accruedand interest (or cash) Chapter 26 - Gov er nm ent Gr an ts

or pay interest on the debt at the variable rate of prime + 1 /2% (8.5%) Appendix To A - accrue Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Accrued interest (or cash)

12,500

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

12,500

Interest expense

List of Tables

To record net on swap arrangement [8.0 - 8.5%] List of Ex hibits and Ex amsettle-up ples List of Sidebar s

Receivable under swap contract Shareholders' equity

23,576 23,576

To record the fair value of the swap contract as of this date (increase in prime rate creates net asset position for derivative)

December 31, 2006 Interest expense W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f 225,000 I n t er n at ion al Accou n t in g St an d ar ds by Barinterest r y J. Epstein and Abbas Ali Accrued (or cash)

ISBN:0471227366

Mir za John Wi ley & Sons 2003debt (952 at pages) To accrue or pay interest on© the the variable rate of prime + 1/2% (9.0%) This com pact and t ruly com pr ehensive qui ck - refer ence 25,000 Accrued pr interest cash)ants with a guide to depend on for esent s(or account assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Interest expense

225,000

25,000

T ab le of Con t en t s

To record net settle-up on swap arrangement [8.0 - 9.0%]

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface

462

Receivable under swap contract

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

462

Shareholders' equity

To- record I ncom ethe Statement, fair valueStat of the em ent swap of contract Chan gesas in of Equit thisy,date and (increase Statem entin asset value due to of Recognized Gains further rise in prime rate)and Losses

Chapter 3 Chapter 4

- Cash Flow St at em ent June 530, -2007 Chapter Financial I nstr uments—Cash and Receiv ables Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Interest expense

212,500 212,500

Accrued interest (or cash)

To accrue I nterests or in pay Financial interestInstr on the um ent debt s, at Associat the variable es, Joint rate Ventur of prime es, and + 1/2% (8.5%)

Chapter 10 -

I nvestm ent Pr oper ty

Accrued interest (or cash) and Consolidat ed Fin ancial Statements Chapter 11 - Business Combinations Chapter 12 -

12,500

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Date InterestSheet expense

12,500

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

To- record Chapter 14 Leasesnet settle-up on swap arrangement [8.0 - 8.5%] Chapter 15 - I ncom e Taxes

Shareholders' equity

24,038

Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' under Equit y swap contract Receivable

24,038

Chapter 18 - Earnings Per Share

To- record fair value of the Chapter 19 I nterimthe Financial Repor ting swap contract as of this date (value declines to zero as expiration date approaches) Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

Example option on an interest rate swap Chapter 22 of - For eign Curr ency Chapter 23 - Related- Part y Disclosures

The facts of this example are a further variation on the previous one (the "plain vanilla" swap). Abbott Corp. anticipates, as of June 30, 2003, that as of June 30, 2005, it will become a borrower of $5 million Chapter 25 - I nflation and Hyperinflation with a fixed maturity four years hence (i.e., at June 30, 2009). Based on its current credit rating, it will Chapter Gov er nm ent US Gr anprime ts be able26 to -borrow at the interest rate + 1/2%. As of June 30, 2003, it is able to purchase a Appendix A Di sclosure Checklist "swaption" (an option on an interest rate swap, calling for fixed pay at 8% and variable receipt at prime Appendix B - aI llustrativ Financial ent s for Pr esent ed of Under AS + 1/2%, on notionaleamount of St $5atem million, a term four Iyears) for a single payment of $25,000. Appendix C Com parison of I AS, US GAAP, and UK GAAP The option will expire in two years. At June 30, 2003, the prime is 7.5%. Chapter 24 - Specialized I ndustr ies

I ndex List of Tables

Note The interest rate behavior in this example differs somewhat from the prior example, to better illustrate the "one-sideness" of options, versus the obligation under a plain vanilla swap List of Sidebar s arrangement or of other nonoption contracts, such as futures and forwards. List of Ex hibits and Ex am ples

It will be assumed that the time value of the swaption expires ratably over the two years. This swaption qualifies as a cash flow hedge under IAS 39. However, while the change in fair value of the contract is an effective hedge of the cash flow variability of the prospective debt issuance, the premium paid is a reflection of the time value of money and would not be an effective part of the hedge. Accordingly, it is to be expensed as incurred, rather than being deferred.

The table below gives the prime rate at semiannual intervals including the two-year period prior to the debt issuance, plus the four years during which the debt (and the swap, if the option is exercised) will be outstanding, as ofre the (and later, W well ile y as I ASthe 2 0fair 03 :value I n t erp t atswaption ion an d Ap p licat io nthe o f swap itself) at these points in time. I n t er n at ion al Accou n t in g St an d ar ds ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali

Date Mir za

Prime rate (%)

Fair value of swaption/swap

John Wi ley & Sons © 2003 (952 pages)

December 31, 2003 7.5 This com pact and t ruly com pr ehensive qui ck - refer ence June 30, 2004 pr esent s account ants with 8.0a guide to depend on for

[a]

$0 77,925

assistance in the prepar at ion and under standing of financial statements present ed in6.5 accordance with I AS. December 31, 2004 0 T abJune le of 30, Con2005 t en t s

7.0

Wiley I AS 20 03—Int er pretation and Application December 31, 2005 7.5 of I nternational Account ing Standar ds

June 30, 2006 Preface

8.0

Chapter 1 - I31, ntr oduction to I nter national Accounting Standar ds December 2006 8.5 Chapter 2

- Balance Sheet

June 30, 2007

(84,159) 0 65,527 111,296

8.0

45,374

7.5

0

7.5

0

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Gains and Losses December of 31,Recognized 2007 8.0 34,689 Chapter 4 - Cash Flow St at em ent Chapter 3

-

June 30, 2008

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

December 2008y Chapter 6 - I31, nventor

Chapter 7 2009 - Rev enue Recogni tion, I ncluding June 30, 7.0Constr uction Contr act s

0

Chapter 8 - Property , Plant , as and Equipment [a]Fair value is determined the present value of future expected interest rate differentials, based Chapter 9 I ntangi ble Asset s on current prime rate, discounted at 8%. An "out-of-the-money" swaption is valued at zero, since the I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and option does Chapter 10 - not have to be exercised. Since the option is exercised on June 30, 2005, the value at I nvestm ent Pr oper ty

that date is recorded, although negative.

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he The value Chapter 12 -of the swaption contract is only recorded (unless and until exercised, of course, at which Balance Sheet Date binding swap) if it is positive, since if "out-of-the-money," the holder point it becomes a contractually Chapter 13 - Financial uments—LongDebtthere is no liability by the holder to be reported. This would forego exerciseI nstr in most instances Ter andm thus Chapter 14 Leases illustrates the asymmetrical nature of options, where the most that can be lost by the option holder is Chapter 15 - I ncom Taxesexercise by the holder is never required, unlike the case with futures and the premium paid,esince Chapter 16 Em ploy ee s are obligated to perform. forwards, in which bothBenefit parties Chapter 17 - Stock holder s' Equit y

The present examplePer is an illustration of counterintuitive (but not really illogical) behavior by the holder Chapter 18 - Earnings Share of an out-of-the-money option. Despite having a negative value, the option holder determines that exercise is advisable, presumably because it expects that over the term of the debt unfavorable Chapter 20 - Segm ent Repor ting movements in interest rates will occur. Chapter 19 - I nterim Financial Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter eignthe Curr ency At June2230,- For 2004, swaption is an asset, since the reference variable rate (prime + 1/2%) is greater Chapter - RelatedDisclosures than the23fixed swap Part rate,y and thus the expectation is that the option will be exercised at expiration. This Chapter 24present - Specialized I ndustr ies which is the naïve assumption) result in a series of eight would (if rates hold steady, Chapter semiannual 25 - Ipayments nflation and from Hyperinflation the swap counterparty in the amount of $12,500. Discounting this at a

nominal268%, theerpresent value Chapter - Gov nm ent Gr an ts as of the debt origination date (to be June 30, 2005) would be $84,159, which, when discounted Appendix A - Difurther sclosure Checklist to June 30, 2004, yields a fair value of $74,925. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Note that the following period (at December 31, 2004) prime drops to such an extent that the value of the swaption evaporates entirely. Actually, the value becomes negative, which will not be reported I ndex since the holder is under no obligation to exercise the option under unfavorable conditions; the carrying List of Tables value is therefore eliminated as of that date. Appendix C - Com parison of I AS, US GAAP, and UK GAAP

List of Ex hibits and Ex am ples List of Sidebar s At the expiration of the swaption contract, the holder does (for this example) exercise, notwithstanding

a negative fair value, and from that point forward the fair value of the swap will be reported, whether positive (an asset) or negative (a liability). Once exercised, the swap represents a series of forward contracts, the fair value of which must be fully recognized under IAS 39. (Note that, in the real world, the holder would have likely had another choice: to let the unfavorable swaption expire unexercised, but to negotiate a new interest rate swap, presumably at more favorable terms given that prime is only 7% at that date; for example, a swap of 7.5% fixed versus prime + 1/2% would likely be available at little or no cost.)

As noted above, assume that, at the option expiration date, despite the fact that prime + 1/2% is below the fixed pay rate on the swap, the management is convinced that rates willclimb over the four-year term of the loan, and it does the at that date. Given this, the accounting journal W ilethus y I AS 2 0 03 exercise : I n t erp re t atswaption ion an d Ap p licat io n o f entries over the entire six years are as follows: I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

June 30, 2003 Mir za John Wi ley & Sons © 2003 (952 pages)

25,000 SwaptionThis contract com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

assistance in the prepar at ion and 25,000 under standing of financial Cash statements present ed in accordance with I AS.

To trecord T ab le of Con en t s purchase premium on swaption

Wiley I AS contract 20 03—Int er pretation and Application of I nternational Account ing Standar ds

December 31, 2003

Preface

6,250

Chapter 1Gain/loss - I ntr oduction to I nter national Accounting Standar ds on hedging arrangement Chapter 2

- Balance Sheet

Chapter 3

-

I ncom e Statement, Swaption contractStat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

6,250

Chapter 4To- record Cash Flow change St at in emtime ent value of swaption contract—charge premium to income since

represents payment for timeand value of money, Chapter 5this - Financial I nstr uments—Cash Receiv ables which expires ratably over two-year term Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

June 30, 2004

Chapter 8Swaption - Property , Plant , and Equipment contract Chapter 9

77,925

- I ntangi ble Asset s

Chapter 10 -

I nterests in Financial Shareholders' equityInstr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

77,925

Chapter 11 To- record Business theCombinations fair value of the andswaption Consolidat contract ed Fin ancial as ofStatements this date Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 6,250 Gain/loss onSheet hedging Balance Datearrangement Chapter 13 - Financial I nstr uments—Long- Ter m Debt

6,250

Swaption contract Chapter 14 - Leases Chapter 15 - I ncom e Taxes

To record change in time value of swaption contract—charge premium to income since this represents payment for time value of money, which expires ratably over two-year term

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y

December 31, 2004Per Share Chapter 18 - Earnings Chapter 19 - I nterim Financial Repor ting

Shareholders' equity

77,925

Chapter 20 - Segm ent Repor ting

77,925

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Swaption contract

Chapter 22 - For eign Curr ency

Chapter 23 RelatedPart y Disclosures To- record the change in fair value of the swaption contract as of this date; since contract is Chapter 24 Specialized I ndustr out-of-the-money, it is ies not written down below zero (i.e., a net liability is not reported) Chapter 25 - I nflation and Hyperinflation

Gain/loss on ent hedging Chapter 26 - Gov er nm Gr an tsarrangement Appendix A - Di sclosure Checklist

Swaption contract St atem ent s Pr esent ed Under I AS Appendix B - I llustrativ e Financial Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

6,250 6.250

To record change in time value of swaption contract —charge premium to income since this represents payment for time value of money, which expires ratably over two-year term

List of Tables List of Ex hibits and Ex am ples List of Sidebar s

June 30, 2005 Shareholders' W ile yequity I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

84,159

I n t er n at ion al Accou n t in g St an d ar ds

84,159

ISBN:0471227366

by Bar contract r y J. Epstein and Abbas Ali Swaption

Mir za Wi ley & Sons © 2003 (952 pages) To recordJohn the fair value of the swaption contract as of this date—a net liability is reported since swap This option com pact wasand exercised t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for in arrangement the prepar at ion and under standing of financial 6,250 Gain/lossassistance on hedging statements present ed in accordance with I AS.

6,250

Swaption contract T ab le of Con t en ts

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar dsTo record change in time value of swaption contract—charge premium to income since Preface

this represents payment for time value of money, which expires ratably over two-year term

Chapter 1 - I 31, ntr oduction December 2005 to I nter national Accounting Standar ds Chapter 2

- Balance Sheet

Chapter 4

- Cash Flow interest St at em ent Accrued (or cash) - Financial I nstr uments—Cash and Receiv ables

200,000 Interest expense I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of Recognized Gains and Losses

Chapter 5

200,000

ory pay interest on the debt at the variable rate of prime + 1/2% Chapter 6To- accrue I nventor (8.0%) - Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 7

0

Chapter 8Interest - Property , Plant , and Equipment expense Chapter 9

- I ntangi ble Asset s

Chapter 10 -

0

I nterests Financial um ent s, Associat es, Joint Ventur es, and Accruedininterest (orInstr cash) I nvestm ent Pr oper ty

Chapter 11 Business and Consolidat ed Fin[8.0 ancial Statements To- record netCombinations settle-up on swap arrangement - 8.0%] Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Swap contract Balance Sheet Date

84,159

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

84,159

Shareholders' equity Chapter 14 - Leases Chapter 15 - I ncom e Taxes

To record the change in the fair value of the swap contract as of this date

Chapter 16 - Em ploy ee Benefit s

Chapter Stock holder s' Equit y June 17 30, -2006 Chapter 18 - Earnings Per Share

Interest expense Chapter 19 - I nterim Financial Repor ting

212,500

Chapter 20 - Segm ent Repor ting

212,500

Accrued interest (orand cash) Chapter 21 - Accounting Changes Cor rection of Er ror s Chapter 22 - For eign Curr ency

To accrue or pay interest on the debt at the variable rate of prime + 1/2% (8.5%)

Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies

Chapter 25 Accrued - I nflation interest and Hyperinflation (or cash)

12,500

Chapter 26 - Gov er nm ent Gr an ts

12,500

Appendix A - DiInterest sclosureexpense Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

To record net settle-up on swap arrangement [8.0 - 8.5%]

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Swap contract

65,527

List of Tables List of Ex hibits Shareholders' and Ex am ples equity List of Sidebar s

To record the fair value of the swap contract as of this date

65,527

December 31, 2006 225,000 Interest expense W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds by Barinterest r y J. Epstein and Abbas Ali Accrued (or cash)

ISBN:0471227366

225,000

Mir za John Wi ley & Sons 2003debt (952 at pages) To accrue or pay interest on© the the variable rate of prime + 1/2% (9.0%) This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for 25,000 the prepar at ion and under standing of financial Accrued assistance interest (orincash) statements present ed in accordance with I AS.

25,000

Interest expense T ab le of Con t en ts Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar dsTo record net settle-up on swap arrangement [8.0 - 9.0%] Preface

Swap contract

Chapter 1

45,769

- I ntr oduction to I nter national Accounting Standar ds

45,769 - Balance Sheet equity Shareholders' I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of Recognized Gains of and Losses To record the fair value the swap contract as of this date Chapter 2

Chapter 4

- Cash Flow St at em ent June 530, -2007 Chapter Financial I nstr uments—Cash and Receiv ables Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Interest expense

212,500 212,500

Accrued interest (or cash)

To accrue I nterests or in pay Financial interestInstr on the um ent debt s, at Associat the variable es, Joint rate Ventur of prime es, and + 1/2% (8.5%)

Chapter 10 -

I nvestm ent Pr oper ty

12,500

Accrued interest (cash) Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Date InterestSheet expense

12,500

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

To- record Chapter 14 Leasesnet settle-up on swap arrangement [8.0 - 8.5%] Chapter 15 - I ncom e Taxes

Shareholders' equity

65,922

Chapter 16 - Em ploy ee Benefit s

65,922

Chapter 17 - Stock holder s' Equit y Swap contract Chapter 18 - Earnings Per Share

To- record changeRepor in theting fair value of the swap contract as of this date (declining prime Chapter 19 I nterimthe Financial rate causes lose value) Chapter 20 - Segm ent swap Reporto ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

December 31, 2007

Chapter 22 - For eign Curr ency Chapter 23 - RelatedPart y Disclosures Interest expense

212,500

Chapter 24 - Specialized I ndustr ies

212,000

Chapter 25 - I nflation Hyperinflation Accruedand interest (or cash) Chapter 26 - Gov er nm ent Gr an ts

or pay interest on the debt at the variable rate of prime + 1/2% (8.5%) Appendix To A - accrue Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Accrued interest (or cash)

12,500

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

12,500

Interest expense

List of Tables

To record net on swap arrangement [8.0 - 8.5%] List of Ex hibits and Ex amsettle-up ples List of Sidebar s

Shareholders' equity Swap contract

10,685 10,685

To record the fair value of the swap contract as of this date (decline is due to passage of time, as the prime rate expectations have not changed from the earlier period)

June 30, 2008 200,000 Interest expense W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds ISBN:0471227366

by Barinterest r y J. Epstein and Abbas Ali Accrued (or cash)

200,000

Mir za John Wi ley & Sons 2003debt (952 at pages) To accrue or pay interest on© the the variable rate of prime + 1/2% (8.0%) This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for 0 the prepar at ion and under standing of financial Accrued assistance interest (orincash) statements present ed in accordance with I AS.

Interest expense T ab le of Con t en ts

0

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar dsTo record net settle-up on swap arrangement [8.0- 8.5%] Preface

34,689

Shareholders' equity

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

34,689 - Balance Sheet Swap contract I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of Recognized Gains of and Losses To record the fair value the swap contract as of this date Chapter 2

Chapter 4

- Cash Flow St at em ent

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

December 31, 2008I nstr uments—Cash and Receiv ables Chapter 5 - Financial Interest expense

200,000 200,000

Accrued interest (or cash)

To accrue I nterests or in pay Financial interestInstr on the um ent debt s, at Associat the variable es, Joint rate Ventur of prime es, and + 1/2% I nvestm ent Pr oper ty (8.0%)

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

0 Accrued interest Curr ent Liabilit(or ies,cash) Prov isions, Cont ingencies, and Ev ents after t he

Chapter 12 -

Balance Sheet Date

0

Chapter 13 - Financial Interest Iexpense nstr uments—Long- Ter m Debt Chapter 14 - Leases

To record net settle-up on swap arrangement [8.0 - 8.0%]

Chapter 15 - I ncom e Taxes

0

Chapter 16 - Emcontract ploy ee Benefit s Swap Chapter 17 - Stock holder s' Equit y

0

Chapter 18 - Earnings Per Share Shareholders' equity Chapter 19 - I nterim Financial Repor ting

No- change the fair Chapter 20 Segm enttoRepor tingvalue of the swap contract as of this date Chapter 21 - Accounting Changes and Cor rection of Er ror s

June 30, 2009

Chapter 22 - For eign Curr ency Chapter 23 - RelatedPart y Disclosures Interest expense

187,500

Chapter 24 - Specialized I ndustr ies

187,500

Chapter 25 - I nflation Hyperinflation Accruedand interest (or cash) Chapter 26 - Gov er nm ent Gr an ts

or pay interest on the debt at the variable rate of prime + 1/2% Appendix To A - accrue Di sclosure Checklist (7.5%)

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix Interest C - Com expense parison of I AS, US GAAP, and UK GAAP

12,500

I ndex List of Tables

12,500

Accrued interest (or cash)

List of Ex hibits and Ex am ples

To record net settle-up on swap arrangement [8.0 - 7.5%] List of Sidebar s Shareholders' equity

0

Swap contract No change to the fair value of the swap contract, which expires as of this date

0

Example of using options to hedge a future purchase of inventory Friendly Chemicals Corp. uses petroleum from which it fproduces a range of chemicals W ile y I AS 2 0 03 : I n t erp as re t a atfeedstock ion an d Ap p licat io n o I n t er at ion al Accou n t in g St an d consumer ar ds for sale to producers ofnsynthetic fabrics and other goods. It is concerned about the rising ISBN:0471227366 by Bar rto y J. Epstein and Abbas Ali it plans to make price of oil and decides hedge a major purchase in mid-2004. Oil futures and options za York Mercantile Exchange and in other markets; Friendly decides to use options are traded on theMir New John Wi ley & Sons © interested 2003 (952 pages) rather than futures because it is only in protecting itself from a price increase; if prices This com pact and t ruly com than pr ehensive - refer encewould result from holding a decline, it wishes to reap that benefit rather suffer qui theckloss which pr esent s account ants with a guide to depend on for futures contract in a declining market environment. assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

At December 31, 2003, Friendly projects a need for 10 million barrels of crude oil of a defined grade to belepurchased T ab of Con t enby t s mid-2004; this will suffice for production through mid-2005. The current world price for this grade crudeerispretation $14.50 per but prices have beenAccount rising recently. Management desires to Wiley I AS 20of 03—Int andbarrel, Application of I nternational ing Standar limit itsdscrude oil costs to no higher than $15.75 per barrel, and accordingly purchases, at a cost of $2 million, an option to purchase up to 10 million barrels at a cost of $15.55 per barrel, at any time through Preface December When the premium is addedStandar to thisds $15.55 per barrel cost, it would make the Chapter 1 -2004. I ntr oduction to I option nter national Accounting total cost perSheet barrel if the full 10 million barrels are acquired. Chapter 2 $15.75 - Balance I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - has studied the behavior of option prices and has concluded that changes in option prices Management of Recognized Gains and Losses

that relate -toCash timeFlow valueStare not correlated to price changes and hence are ineffective in hedging price at em ent changes. On the other hand, changes in option prices that pertain to pricing changes (intrinsic value Chapter 5 - Financial I nstr uments—Cash and Receiv ables changes) are highly effective as hedging vehicles. The table below reports the value of these options, Chapter 6 - I nventor y analyzed in terms of time value and intrinsic value, over the period from December 2003 through Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s December 2004. Chapter 4

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Fair value of option relating to

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper tyPrice of oil/barrel Date Time value [a] Intrinsic value Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 10 -

December Curr 31, 2003 $14.50 $2,000,000 ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date January 31, 2004 14.90 1,900,000

$0

Chapter 12 -

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

February 28, 2004

0

15.30

1,800,000

0

March15 31,- 2004 Chapter I ncom e Taxes

15.80

1,700,000

2,500,000

Chapter 16 2004 - Em ploy ee Benefit s April 30,

16.00

1,600,000

4,500,000

Chapter 14 - Leases

Chapter 17 - Stock holder s' Equit y

May 31, 2004

15.85

1,500,000

3,000,000

[b] Chapter June 30, 19 2004 - I nterim Financial Repor ting

16.00

700,000

2,250,000

Chapter 20 - Segm ent Repor ting

15.60

650,000

250,000

Chapter 18 - Earnings Per Share

July 31, 2004

Chapter 21 - Accounting Changes and Cor rection of Er ror s

August2231, 2004 Chapter - For eign Curr ency

15.50

600,000

0

Chapter 23 - RelatedPart y Disclosures September 30, 2004

15.75

550,000

1,000,000

Chapter 24 - Specialized I ndustr ies

15.80

500,000

1,250,000

November 30, er 2004 Chapter 26 - Gov nm ent Gr an ts

15.85

450,000

1,500,000

Appendix A - Di sclosure December 31, 2004[c]Checklist

15,90

400,000

1,750,000

October 31, 2004

Chapter 25 - I nflation and Hyperinflation

[a]This example Appendix B - I llustrativ Financial St atem Pr esent ed of Under I AS would be computed in practice. doesenot address how ent thestime value options Appendix C - Com parison of I AS, US GAAP, and UK GAAP [b]Options for five million barrels exercised: remainder held until end of December, then sold. I ndex

List of Tables

[c] citedand areEximmediately prior to sale of remaining options. List Values of Ex hibits am ples

List of Sidebar s

At the end of June 2004, Friendly Chemicals exercises options for five million barrels, paying $15.55 per barrel for oil that is then selling on world markets for $16.00 each. It holds the remaining options until December, when it sells these for an aggregate price of $2.1 million, a slight discount to the nominal fair value at that date. The inventory acquired in mid-2004 is processed and included in goods available for sale. Sales of these goods, in terms of the five million barrels of crude oil which were consumed in their production, are as follows:

Date

Equivalent barrels sold in month

Equivalent barrels on hand at month end

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

June 30, 2004 I n t er n at ion al Accou 300,000 n t in g St an d ar ds

4,700,000

ISBN:0471227366 4,450,000

by Bar r y J. Epstein 250,000 and Abbas Ali Mir za August 31, 2004John Wi ley & Sons ©400,000 2003 (952 pages)

July 31, 2004

4,050,000

com pr ehensive qui ck - refer ence September 30, This com pact and t ruly 350,000 3,700,000 pr esent s account ants with a guide to depend on for 2004 assistance in the prepar at ion and under standing of financial statements present550,000 ed in accordance with I AS. October 31, 2004 3,150,000 T abNovember le of Con t 30, en t s

500,000

2,650,000

Wiley 2004 I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

December 31, 2004

Preface

Chapter 1

650,000

2,000,000

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2 the - Balance Sheet Based on foregoing facts, the journal entries prepared on a monthly basis (for illustrative purposes) I ncom e Statement, Stat em ent of Chan ges in are Equit and Statem ent for the period December 2003 through December 2004 asy, follows: Chapter 3 of Recognized Gains and Losses Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

December 31, 2003

Chapter 6Option - I nventor y contract

2,000,000

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property Cash , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

2,000,000

To record purchase premium on ent option contract up to 10 million I nterests in Financial Instr um s, Associat es,for Joint Ventur es, andbarrels of oil at price of Chapter 10 I nvestm ent Pr oper ty $15.55 per barrel Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

January 31, 2004

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date 100,000

Gain/loss on hedging transaction

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

100,000

Chapter 14 - Leases

Option contract

Chapter 15 - I ncom e Taxes

Chapter 16 Em ploychange ee Benefit s To- record in time value of option contract—charge premium to income since this Chapter 17 - Stock holder s' Equit represents payment fory time value of money, which expires ratably over two-year term and Chapter 18 does - Earnings not qualify Per for Share hedge accounting treatment Chapter 19 - I nterim Financial Repor ting

Option contract

0

Chapter 20 - Segm ent Repor ting

0

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Shareholders' equity

Chapter 22 - For eign Curr ency

Chapter 23 RelatedPart y Disclosures To- reflect change in intrinsic value of option contracts (no value at this date) Chapter 24 - Specialized I ndustr ies

February 2004 and Hyperinflation Chapter 25 - 28, I nflation Chapter 26 - Gov er nm ent Gr an ts

Gain/loss on hedging transaction

100,000

Appendix A - Di sclosure Checklist

100,000

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Option contract

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

To record change in time value of option contract—charge premium to income since this

List of Tables represents payment for time value of money, which expires ratably over two-year term and

does and not qualify for hedge accounting treatment List of Ex hibits Ex am ples List of Sidebar s

Option contract

0

Shareholders' equity To reflect change in intrinsic value of option contracts (no value at this date)

0

March 31, 2004 Gain/lossWon ilehedging y I AS 2 0transaction 03 : I n t erp re t at ion an d Ap p licat io n 100,000 of I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Option contract

ISBN:0471227366

100,000

Mir za Wi leyin &time Sons © 2003 pages) To recordJohn change value of (952 option contract —charge premium to income since this represents This payment com pactforand time t ruly value comofprmoney, ehensivewhich qui ckexpires - refer ence ratably over two-year term and esent sfor account with a guide to depend on for does not pr qualify hedgeants accounting treatment assistance in the prepar at ion and under standing of financial 2,500,000 statements present ed in accordance with I AS. Option contract T ab le of Con t en t s

Shareholders' equity Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface

2,500,000

To reflect change in intrinsic value of option contracts

Chapter 1 -2004 I ntr oduction to I nter national Accounting Standar ds April 30, Chapter 2

- Balance Sheet

Chapter 4

- Cash Flowcontract St at em ent Option

100,000 Gain/loss hedging transaction I ncom eonStatement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of Recognized Gains and Losses

100,000

Chapter 5

- Financial I nstr uments—Cash and Receiv ables change in time value of option contract —charge premium to income since this Chapter 6To- record I nventor y

represents payment for time value of money, which expires ratably over two-year term and - Rev enue Recogni tion, I ncluding Constr uction Contr act s does not qualify for hedge accounting treatment

Chapter 7 Chapter 8

- Property , Plant , and Equipment

Chapter 9Option - I ntangi ble Asset s contract

2,000,000

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty

Shareholders' equity

2,000,000

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr entchange Liabilit in ies,intrinsic Prov isions, ingencies, and Ev(further ents after t he To- reflect valueCont of option contracts increase in value) Chapter 12 Balance Sheet Date

May 31, Chapter 13 2004 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Gain/loss on hedging transaction

100,000

Chapter 15 - I ncom e Taxes

100,000

Chapter 16 - Em ploy ee Benefit s

Option contract

Chapter 17 - Stock holder s' Equit y Chapter 18 Earnings Per Share To- record change in time value of option contract—charge premium to income since this Chapter 19 - I nterim payment Financial for Repor ting represents time value of money, which expires ratably over two-year term and Chapter 20 does - Segm not qualify ent Repor forting hedge accounting treatment Chapter 21 - Accounting Changes and Cor rection of Er ror s

Shareholders' equity

1,500,000

Chapter 22 - For eign Curr ency

Chapter 23 - Related- Part y Disclosures

Option contract

Chapter 24 - Specialized I ndustr ies Chapter 25 I nflation and Hyperinflation To- reflect change in intrinsic value of option contracts (decline in value) Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

1,500,000

June 30, 2004 Gain/lossWon ilehedging y I AS 2 0transaction 03 : I n t erp re t at ion an d Ap p licat io n 800,000 of I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Option contract

ISBN:0471227366

800,000

Mir za Wi leyin &time Sons © 2003 pages) To recordJohn change value of(952 option contract—charge premium to income since this represents This payment com pactforand time t ruly value comofprmoney, ehensivewhich qui ckexpires - refer ence ratably over two-year term and esent sfor account with a guide to depend for does not pr qualify hedgeants accounting treatment; sinceonone-half the options were in the prepar at ion and under standing of financial exercisedassistance in June, the remaining unexpensed time value of that portion is also entirely statements present ed in accordance with I AS.

written off at this time T ab le of Con t en t s

1,500,000

contracts Wiley I AS Option 20 03—Int er pretation and Application of I nternational Account ing Standar ds Shareholders' equity

Preface Chapter 1

1,500,000

- I ntr oduction to I nter national Accounting Standar ds

To reflect change in intrinsic value of option contracts (further increase in value) before - Balance Sheet accounting for exercise of options on five million barrels

Chapter 2

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

4,500,000

Recognized Gains and Losses Juneof30 value of options before exercise

Chapter 5Allocation - Financial to Ioil nstr purchased uments—Cash at $15.55 and Receiv ables

2,250,000

Chapter 6

2,250,000

- I nventor y

Remaining option valuation adjustment - Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 7

Chapter 8The - Property , Plant , and Equipment allocation of exercised options will be used to adjust the carrying value of the Chapter 9inventory, - I ntangiand ble Asset s ultimately will be transferred to cost of goods sold as a contra cost, as the I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and five Chapter 10 - million barrels are sold, at the rate of 45¢ per equivalent barrel. I nvestm ent Pr oper ty

77,750,000 Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Inventory Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Cash Sheet Date

77,750,000

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

To- record Chapter 14 Leasespurchase of five million barrels of oil at option price of $15.55/barrel Chapter 15 - I ncom e Taxes

Inventory

2,250,000

Chapter 16 - Em ploy ee Benefit s

2,250,000

Chapter 17 - Stock holder s' Equit y

Option contract

Chapter 18 - Earnings Per Share Chapter 19 I nterim Financial Reporvalue ting of the inventory to include the fair value of options given To- increase the recorded Chapter 20 ent Repor up- inSegm acquiring the ting oil (taken together, the cash purchase price and the fair value of Chapter 21 options - Accounting surrendered Changes addand to $16 Cor rection per barrel, of Erthe ror sworld market price at date of purchase) Chapter 22 - For eign Curr ency

Shareholders' equity

2,250,000

Chapter 23 - Related- Part y Disclosures

2,250,000

Chapter 24 - Specialized I ndustr ies

Inventory

Chapter 25 - I nflation and Hyperinflation Chapter 26 Gov er nm ent Gr angain ts from equity and include in initial measurement of inventory To- remove deferred Appendix A - Di sclosure Checklist

of goodse sold Appendix Cost B - I llustrativ Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Inventory

I ndex List of Tables

To record cost of goods sold

List of Ex hibits and Ex am ples List of Sidebar s

4,935,000

4,935,000

July 31, 2004 Gain/lossWon ilehedging y I AS 2 0transaction 03 : I n t erp re t at ion an d Ap p licat io n o50,000 f I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Option contract

50,000

ISBN:0471227366

Mir za Wi leyin &time Sons © 2003 pages) To recordJohn change value of(952 option contract—charge premium to income since this represents This payment com pactforand time t ruly value comofprmoney, ehensivewhich qui ckexpires - refer ence ratably over two-year term, esent s account ants with a guide treatment to depend on for and doesprnot qualify for hedge accounting assistance in the prepar at ion and under standing of financial 2,000,000 statements Shareholders' equitypresent ed in accordance with I AS. T ab le of Con t en t s

Option contract and Application of I nternational Account ing Wiley I AS 20 03—Int er pretation Standar ds Preface

2,000,000

To reflect change in intrinsic value of remaining option contracts (decline in value) 3,887,500

Chapter 1Cost - I ntr to I nter national Accounting Standar ds of oduction goods sold Chapter 2

- Balance Sheet

Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Inventory of Recognized Gains and Losses

3,887,500

Chapter 4To- record Cash Flow em ent sold costStofatgoods Chapter 5

- Financial I nstr uments—Cash and Receiv ables

August 31, 2004 - I nventor y

Chapter 6 Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s Loss on hedging transaction

Chapter 8

50,000

- Property , Plant , and Equipment

50,000 - I ntangi Asset s Optionblecontract I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty value of option contract—charge premium to income since this To record change in time Chapter 11 - Business Combinations and Consolidat ed Fin ancialexpires Statements represents payment for time value of money, which ratably over two-year term, Chapter 9

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he and Chapter 12 - does not qualify for hedge accounting treatment Balance Sheet Date

Shareholders' equity Chapter 13 - Financial I nstr uments—Long- Ter m Debt

250,000

Chapter 14 - Leases

250,000

Option contract Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s

To reflect change in intrinsic value of remaining option contracts (decline in value)

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Cost of goods sold

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Inventory Chapter 21 - Accounting Changes and Cor rection of Er ror s

To- record goods sold Chapter 22 For eigncost Currof ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

6,220,000 6,220,000

September 30, 2004 Gain/lossWon ilehedging y I AS 2 0transaction 03 : I n t erp re t at ion an d Ap p licat io n o50,000 f I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Option contract

50,000

ISBN:0471227366

Mir za Wi leyin &time Sons © 2003 pages) To recordJohn change value of (952 option contract —charge premium to income since this represents This payment com pactforand time t ruly value comofprmoney, ehensivewhich qui ckexpires - refer ence ratably over two-year term, esent s account ants with a guide treatment to depend on for and doesprnot qualify for hedge accounting assistance in the prepar at ion and under standing of financial 1,000,000 statements present ed in accordance with I AS. Option contract T ab le of Con t en t s

Shareholders' equity Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface

1,000,000

To reflect change in intrinsic value of remaining option contracts (increase in value)

Chapter 1Cost - I ntr to I nter national Accounting Standar ds of oduction goods sold Chapter 2

- Balance Sheet

Chapter 3

-

5,442,500

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Inventory of Recognized Gains and Losses

5,442,500

Chapter 4To- record Cash Flow em ent sold costStofatgoods Chapter 5

- Financial I nstr uments—Cash and Receiv ables

October -31, 2004 I nventor y

Chapter 6 Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s Gain/loss on hedging transaction

Chapter 8

50,000

- Property , Plant , and Equipment

50,000 - I ntangi Asset s Optionblecontract I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty value of option contract—charge premium to income since this To record change in time Chapter 11 - Business Combinations and Consolidat ed Fin ancialexpires Statements represents payment for time value of money, which ratably over two-year term, Chapter 9

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he and Chapter 12 - does not qualify for hedge accounting treatment Balance Sheet Date

Option contract Chapter 13 - Financial I nstr uments—Long- Ter m Debt

250,000

Chapter 14 - Leases

250,000

Shareholders' Chapter 15 - I ncom e Taxes equity Chapter 16 - Em ploy ee Benefit s

To reflect change in intrinsic value of remaining option contracts (further increase in value)

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Cost of goods sold

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Inventory Chapter 21 - Accounting Changes and Cor rection of Er ror s

To- record goods sold Chapter 22 For eigncost Currof ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

8,552,500 8,552,500

November 30, 2004 Gain/lossWon ilehedging y I AS 2 0transaction 03 : I n t erp re t at ion an d Ap p licat io n o50,000 f I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Option contract

50,000

ISBN:0471227366

Mir za Wi leyin &time Sons © 2003 pages) To recordJohn change value of(952 option contract—charge premium to income since this represents This payment com pactforand time t ruly value comofprmoney, ehensivewhich qui ckexpires - refer ence ratably over two-year term, esent s account ants with a guide treatment to depend on for and doesprnot qualify for hedge accounting assistance in the prepar at ion and under standing of financial 250,000 statements present ed in accordance with I AS. Option contract T ab le of Con t en t s

Shareholders' equity Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface

250,000

To reflect change in intrinsic value of remaining option contracts (further increase in value) 7,775,000

Chapter 1Cost - I ntr to I nter national Accounting Standar ds of oduction goods sold Chapter 2

- Balance Sheet

Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Inventory of Recognized Gains and Losses

7,775,000

Chapter 4To- record Cash Flow em ent sold costStofatgoods Chapter 5

- Financial I nstr uments—Cash and Receiv ables

December 31, 2004 - I nventor y

Chapter 6 Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s Gain/loss on hedging transaction

Chapter 8

50,000

- Property , Plant , and Equipment

50,000 - I ntangi Asset s Optionblecontract I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty value of option contract —charge premium to income since this To record change in time Chapter 11 - Business Combinations and Consolidat ed Fin ancialexpires Statements represents payment for time value of money, which ratably over two-year term, Chapter 9

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he and Chapter 12 - does not qualify for hedge accounting treatment Balance Sheet Date

250,000

Option contract Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

250,000

Shareholders' Chapter 15 - I ncom e Taxes equity Chapter 16 - Em ploy ee Benefit s

To reflect change in intrinsic value of remaining option contracts (further increase in value) before sale of options

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

Chapter 19 - I nterim Financial Cost of goods sold Repor ting

10,107,500

Chapter 20 - Segm ent Repor ting

10,107,500

Chapter 21 - Accounting Inventory Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

To- record cost sold Chapter 23 RelatedPartof y goods Disclosures Chapter 24 - Specialized I ndustr ies

Cash

Chapter 25 - I nflation and Hyperinflation Chapter 26 Loss - Gov onersale nm ent of options Gr an ts

2,100,000 50,000

Appendix A - Di sclosure Checklist

2,150.000

Option contract Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Shareholders' equity

List of Tables

Gain on sale of options

1,750,000 1,750,000

List of Ex hibits and Ex am ples

List of Sidebar s To record sale of remaining option contracts; the cash price was $50,000 lower than

carrying value of asset sold (options having unexpired time value of $400,000 plus intrinsic value of $1,750,000), but transfer of shareholders' equity to income recognizes formerly deferred gain; since no further inventory purchases are planned in connection with this hedging activity, the unrealized gain is taken into income

Hedging on a "net" basis.

The IGC has addressed the issue of whether an enterprise can group financial assets together with financial liabilities for the purpose of determining the net cash flow exposure to be hedged for hedge accounting purposes. anre enterprise's W ile yIt Ifinds AS 2 that 0 03 :while I n t erp t at ion an dhedging Ap p licatstrategy io n o f and risk management practices may assess flow risk onnat innet basis, IAS I n t ercash n at ion al Accou g St an d ar ds 39 does not permit designating a net cash flow exposure as a hedged hedge accounting 39 provides an example of how a bank ISBN:0471227366 by Baritem r y J. for Epstein and Abbas Ali purposes. IAS Mir za might assess its risk on a net basis (with similar assets and liabilities grouped together) and then qualify John by Wi ley & Sons (952basis. pages) for hedge accounting hedging on©a2003 gross This com pact and t ruly com pr ehensive qui ck - refer ence a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance I AS. IAS 39 indicates that a hedging relationship may not with be designated for only a portion of the time period pr esent s account ants with Partial term hedging.

in lewhich a hedging T ab of Con t en t s instrument is outstanding. On the other hand, it is permitted to designate a

derivative as hedging only a portion of the time period to maturity of a hedged item. For example, if

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Aquarian Standar ds Corp. acquires a 10% fixedrate government bond with a remaining term to maturity of ten

years, and classifies the bond as available-for-sale, it may hedge itself against fair value exposure on Preface the bond withtothe present value of the interest rate Chapter 1 associated - I ntr oduction I nter national Accounting Standar ds payments until year five by acquiring a

five-year "pay-fixed, receive-floating" swap. The swap may be designated as hedging the fair value - Balance Sheet exposure of the interest rate payments on the government bond until year five and the change in value I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of the principal payment due at maturity to the extent affected by changes in the yield curve relating to of Recognized Gains and Losses the five years of the swap. Chapter 4 - Cash Flow St at em ent Chapter 2

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Interest -rate risk managed on a net basis should be designated as hedge of I nventor y gross exposure. Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s Chapter 6 Chapter 8

- Property , Plant , and Equipment

If an enterprise manages its exposure to interest rate risk on a net basis, a number of complex financial - I ntangi ble Asset s reporting issues must be addressed, regarding the ability to use hedge accounting. The IGC has I nterests in Financial um ent Associatthe es, Joint es, and offered 10 substantial guidance on aInstr number ofs,matters, more Ventur generally applicable of which are Chapter I nvestm ent Pr oper ty summarized in the following paragraphs. Chapter 9

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he The IGC Chapter 12has - concluded that a derivative that is used to manage interest rate risk on a net basis be Balance Sheetinstrument Date designated as a hedging in a fair value hedge or a cash flow hedge of a gross exposure Chapter 13 -39. Financial I nstr uments—LongTer m under IAS An enterprise may designate theDebt derivative used in interest rate risk management Chapter 14 Leases activities either as a fair value hedge of assets or liabilities or as a cash flow hedge of forecasted Chapter 15 - I ncom Taxes transactions, sucheas the anticipated reinvestment of cash inflows, the anticipated refinancing or Chapter 16 Em ploy ee Benefit sand the cash flow consequences of the resetting of interest rates for an rollover of a financial liability, Chapter asset or17a -liability. Stock holder s' Equit y Chapter 18 - Earnings Per Share

The IGC also notes that firm commitments to purchase or sell assets at fixed prices create fair value exposures, but are accounted for as cash flow hedges. In economic terms, it does not matter whether Chapter 20 - Segm ent Repor ting the derivative instrument is considered a fair value hedge or a cash flow hedge. Under either Chapter 21 - Accounting Changes and Cor rection of Er ror s perspective of the exposure, the derivative has the same economic effect of reducing the net exposure. Chapter 22 - For eign Curr ency For example, a receive-fixed, pay-variable interest rate swap can be considered to be a cash flow Chapter 23 - Related- Part y Disclosures hedge of a variable-rate asset or a fair value hedge of a fixed-rate liability. Under either perspective, the Chapter 24 or - Specialized ndustr ies fair value cash flows Iof the interest rate swap offsets the exposure to interest rate changes. Chapter 25 I nflation and Hyperinflation However, accounting consequences differ depending on whether the derivative is designated as a fair Chapter 26 - Gov nm entflow Gr an ts value hedge or aercash hedge, as discussed below. Chapter 19 - I nterim Financial Repor ting

Appendix A - Di sclosure Checklist

ConsiderB the followinge illustration. Among Appendix - I llustrativ Financial St atem ent its s Prfinancial esent ed resources Under I AS and obligations, a bank has the followingCassets and liabilities maturities two years: Appendix - Com parison of I AS,having US GAAP, and UKofGAAP I ndex List of Tables

Variable interest

ListAssets of Ex hibits and Ex60,000 am ples List of Sidebar s

Liabilities Net

Fixed interest 100,000

(100,000)

(60,000)

(40,000)

40,000

The bank enters into a two-year interest rate swap with a notional principal of $40,000 to receive a variable interest rate and pay a fixed interest rate, in order to hedge the net exposure of the twoyear maturity financial assets and liabilities. According to the IGC, this may be designated either as a fair value hedge of $40,000 of the fixed-rate assets or as a cash flow hedge of $40,000 of the variable-rate liabilities. It cannot be designated as a hedge of the net exposure, however.

Determining whether a derivative that is used to manage interest rate risk on a net basis should be designated as a hedging instrument in a fair value hedge or a cash flow hedge of a gross exposure is based on a number ofycritical considerations. These include the assessment of hedge effectiveness in W ile I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ionrisk, al Accou n t inability g St an ar ds the presence of prepayment and the ofdthe information systems to attribute fair value or cash flow changes by of Bar hedging r y J. Epstein instruments and Abbas to fair Ali value or cashISBN:0471227366 flow changes, respectively, of hedged Mir za purposes, the designation of the derivative as hedging a fair value exposure or a items. For accounting John ley & Sons © 2003 both (952 pages) cash flow exposure is Wi important because the qualification requirements for hedge accounting and com pact and t ruly com pr ehensive qui ck the recognition ofThis hedging gains and losses differ for each of- refer theseence categories. The IGC has observed esent s to account ants withhigh a guide to dependfor onafor that it will often bepreasier demonstrate effectiveness cash flow hedge than for a fair value assistance in the prepar at ion and under standing of financial hedge. statements present ed in accordance with I AS. Another important T ab le of Con t en t s issue involves the effects of prepayments on the fair value of an instrument and the timing of 20 its03—Int cash flows, as welland as Application the impactsofon the effectiveness Wiley I AS er pretation I nternational Accounttest ing for fair value hedges and the probability Standar ds test for cash flow hedges, respectively. Effectiveness is often more difficult to achieve for fair value hedges than for cash flow hedges when the instrument being hedged is subject to prepayment Preface risk. For1 a -fair value hedge qualify for Accounting hedge accounting, the changes in the fair value of the Chapter I ntr oduction to Ito nter national Standar ds derivative must be expected to be highly effective in offsetting the changes in the Chapter 2 hedging - Balanceinstrument Sheet

fair value of Ithe hedged item. This may difficult meet forStatem example, ncom e Statement, Stattest em ent ofbe Chan ges intoEquit y, if, and ent the derivative hedging Chapter 3 - is a forward contract having a fixed term, and the financial assets being hedged are subject instrument of Recognized Gains and Losses to prepayment byFlow the borrower. Chapter 4 - Cash St at em ent Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Also, it may be difficult to conclude that, for a portfolio of fixed-rate assets that are subject to - I nventor y prepayment, the changes in the fair value for each individual item in the group will be expected to be Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s approximately proportional to the overall changes in fair value attributable to the hedged risk of the Chapter 8 - Property , Plant , and Equipment group. Even if the risk being hedged is a benchmark interest rate, to be able to conclude that fair value Chapter 9 I ntangi ble Asset s changes will be proportional for each item in the portfolio, it may be necessary to disaggregate the I nterests in Financial Instron umterm, ent s, coupon, Associat es, Jointtype Ventur es, and asset portfolio into categories based credit, of loan, and other characteristics. Chapter 10 Chapter 6

I nvestm ent Pr oper ty

Chapter 11 - Business and Consolidat edcould Fin ancial Statements In economic terms, aCombinations forward derivative instrument be used to hedge assets that are subject to Curr ent Liabilitbe ies, Prov isions, Cont ingencies, and Ev ents after t he prepayment, but it would effective only for small movements in interest rates. A reasonable estimate Chapter 12 Balance Datefor a given interest rate environment and the derivative position can be of prepayments can Sheet be made Chapter 13as - Financial I nstr uments—Longm Debt However, for accounting purposes, the expectation adjusted the interest rate environmentTer changes. Chapter 14 Leases of effectiveness has to be based on existing fair value exposures and the potential for interest rate Chapter 15 - I ncom e Taxes movements, without consideration of future adjustments to those positions. The fair value exposure

attributable risk Chapter 16 - to Emprepayment ploy ee Benefit s can generally be hedged with options. Chapter 17 - Stock holder s' Equit y

For a cash flow hedge to qualify for hedge accounting, the forecasted cash flows, including the reinvestment of cash inflows or the refinancing of cash outflows, must be highly probable, and the Chapter 19 - I nterim Financial Repor ting hedge expected to be highly effective in achieving offsetting changes in the cash flows of the hedged Chapter 20 - Segm ent Repor ting item and hedging instrument. Prepayments affect the timing of cash flows and, therefore, the probability Chapter 21 - Accounting Changes and Cor rection of Er ror s of occurrence of the forecasted transaction. If the hedge is established for risk management purposes Chapter - For eign Curr ency may have sufficient levels of highly probable cash flows on a gross basis on a net22basis, an enterprise Chapter 23 RelatedPart y Disclosures to support the designation for accounting purposes of forecasted transactions associated with a portion Chapter 24 Specialized ndustr of the gross cash flows Ias the ies hedged item. In this case, the portion of the gross cash flows designated Chapter 25hedged - I nflation as being mayand be Hyperinflation chosen to be equal to the amount of net cash flows being hedged for risk Chapter 26 - Gov er nm ent Gr an ts management purposes. Chapter 18 - Earnings Per Share

Appendix A - Di sclosure Checklist

The IAS B39- Implementation Guidance that there are important Appendix I llustrativ e Financial St atemCommittee ent s Pr esenthas ed also Underemphasized I AS

systems considerations relating to the use of hedge accounting. It notes that the accounting differs for fair value hedges and cash flow hedges. It is usually easier to use existing information systems to I ndex manage and track cash flow hedges than it is for fair value hedges. Appendix C - Com parison of I AS, US GAAP, and UK GAAP List of Tables

List of Exfair hibits andhedge Ex am ples Under value accounting, the assets or liabilities that are designated as being hedged are List of Sidebar sfor those changes in fair values during the hedge period that are attributable to the risk remeasured

being hedged. Such changes adjust the carrying amount of the hedged items and, for interest-sensitive assets and liabilities, may result in an adjustment of the effective yield of the hedged item. As a consequence of fair value hedging activities, the changes in fair value have to be allocated to the hedged assets or liabilities being hedged in order to be able to recompute their effective yield, determine the subsequent amortization of the fair value adjustment to net profit or loss, and determine the amount that should be recognized in net profit or loss when assets are sold or liabilities extinguished. To comply with the requirements for fair value hedge accounting, it generally will be necessary to establish a system to track the changes in the fair value attributable to the hedged risk,

associate those changes with individual hedged items, recompute the effective yield of the hedged items, and amortize the changes to net profit or loss over the life of the respective hedged item. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Under cash flow hedge accounting, the cash flows relating to the forecasted transactions that are I n t er n at ion al Accou n t in g St an d ar ds designated as being hedged reflect changes in interest rates. The adjustment for changes in the fair ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali value of a hedging instrument is initially recognized in equity. To comply with the Mirderivative za requirements for cash flow it is necessary to determine when the adjustments to John Wi leyhedge & Sonsaccounting, © 2003 (952 pages) equity from changes in the fair value of a hedging instrument should be recognized in net profit or loss. This com pact and t ruly com pr ehensive qui ck - refer ence For cash flow hedges, it is not necessary to create a separate system to make this determination. The pr esent s account ants with a guide to depend on for system used to determine extent of the netand exposure provides basis for scheduling out the assistancethe in the prepar at ion under standing of the financial statements ed in accordance with I AS. of such changes in net profit or loss. changes in the cash flows of present the derivative and the recognition The timing of the recognition in earnings can be predetermined when the hedge is associated with the T ab le of Con t en t s exposure to changes in cash flows. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

The forecasted transactions that are being hedged can be associated with a specific principal amount in specific future periods, composed of variable-rate assets and cash inflows being reinvested or Chapter 1 - I ntr oduction to I nter national Accounting Standar ds variable-rate liabilities and cash outflows being refinanced, each of which create a cash flow exposure Chapter 2 - in Balance Sheet to changes interest rates. The specific principal amounts in specific future periods are equal to the I ncom e the Statement, Stat em ent instruments of Chan ges inand Equit and Statem notional amount of derivative hedging arey, hedged onlyent for the period that Chapter 3 of Recognized Gains and Losses corresponds to the repricing or maturity of the derivative hedging instruments so that the cash flow Chapter 4 - Cash Flow St at em ent changes resulting from changes in interest rate are matched with the derivative hedging instrument. Chapter - Financial nstramounts uments—Cash and Receiv ablesshould be included in net profit or loss in the IAS 39 5specifies that Ithe recognized in equity Chapter 6 I nventor y same period or periods during which the hedged item affects net profit or loss. Preface

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s If a hedging relationship is ,designated as a cash flow hedge relating to changes in cash flows resulting Chapter 8 - Property , Plant and Equipment

from interest rate changes, Chapter 9 - I ntangi ble Asset the s documentation required by IAS 39 would include information about the hedging relationship; theFinancial enterprise's riskent management objective and es, strategy I nterests in Instr um s, Associat es, Joint Ventur and for undertaking the hedge; the type of hedge; the ty hedged item; the hedged risk; the hedging instrument; and the method of I nvestm ent Pr oper assessing Chapter 11 -effectiveness. Business Combinations and Consolidat ed Fin ancial Statements Chapter 10 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - about the hedging relationship would include the maturity schedule of cash flows used for Information Balance Sheet Date

risk management purposes, to determineTer exposures Chapter 13 - Financial I nstr uments—Longm Debt to cash flow mismatches on a net basis would

provide part of the documentation of the hedging relationship. The enterprise's risk management objective and strategy for undertaking the hedge would be addressed in terms of the enterprise's Chapter 15 - I ncom e Taxes overall risk management objective and strategy for hedging exposures to interest rate risk would Chapter 16 - Em ploy ee Benefit s provide part of the documentation of the hedging objective and strategy. The fact that the hedge is a Chapter 17 - Stock holder s' Equit y cash flow hedge would also be noted. Chapter 14 - Leases

Chapter 18 - Earnings Per Share

Chapter 19 - I item nterim Repor tingas a group of forecasted transactions (interest cash flows) that The hedged willFinancial be documented Chapter 20 - Segm ent Repor are expected to occur with ting a high degree of probability in specified future periods, for instance,

scheduled a monthlyChanges basis. The itemofmay interest cash flows resulting from the Chapter 21 -on Accounting andhedged Cor rection Er rorinclude s reinvestment ofeign cashCurr inflows, Chapter 22 - For ency including the resetting of interest rates on assets, or from the refinancing of cash23 outflows, including the resetting of interest rates on liabilities and rollovers of financial liabilities. Chapter - RelatedPart y Disclosures The forecasted transactions meet Chapter 24 - Specialized I ndustr ies the probability test if there are sufficient levels of highly probable

cash flows the specified future periods to encompass the amounts designated as being hedged on a Chapter 25 - inI nflation and Hyperinflation gross basis.

Chapter 26 - Gov er nm ent Gr an ts Appendix - Di sclosure The risk Adesignated asChecklist being hedged is documented as a portion of the overall exposure to changes in Appendix B I llustrativ e Financial atemthe entrisk-free s Pr esentinterest ed Under I ASor an interbank offered rate, common to a specified market interest rate, St often rate Appendix C Com parison of I AS, US GAAP, and UK GAAP all items in the group. To help ensure that the hedge effectiveness test is met at inception of the hedge I ndex and subsequently, the designated hedged portion of the interest rate risk could be documented as List of Tables being based off the same yield curve as the derivative hedging instrument List of Ex hibits and Ex am ples

Each derivative List of Sidebar s hedging instrument is documented as a hedge of specified amounts in specified future time periods corresponding with the forecasted transactions occurring in the specified future periods designated as being hedged.

The method of assessing effectiveness is documented by comparing the changes in the cash flows of the derivatives allocated to the applicable periods in which they are designated as a hedge to the changes in the cash flows of the forecasted transactions being hedged. Measurement of the cash flow changes is based on the applicable yield curves of the derivatives and hedged items.

When a hedging relationship is designated as a cash flow hedge, the entity might satisfy the requirement for an expectation of high effectiveness in achieving offsetting changes by preparing an analysis demonstrating expected future correlation W ile y high I AS 2historical 0 03 : I n tand erp re t at ion an d Ap p licat io n o fbetween the interest rate risk designated as being hedged and the interest rate risk of the hedging instrument. Existing I n t er n at ion al Accou n t in g St an d ar ds documentation ofby theBar hedge ratio used in establishing the derivative contracts may also serve to ISBN:0471227366 r y J. Epstein and Abbas Ali Mir za demonstrate an expectation of effectiveness. John Wi ley & Sons © 2003 (952 pages)

If the hedging relationship is designated as a cash flow hedge, an enterprise may demonstrate a high This com pact and t ruly com pr ehensive qui ck - refer ence probability of the pr forecasted transactions bydepend preparing a cash flow maturity schedule showing esent s account ants withoccurring a guide to on for that there exist sufficient aggregate gross expected cash including the effects of the assistance in the prepar at levels ion andofunder standing of flows, financial statements in accordance with I AS.that the forecasted transactions that are resetting of interest rates for present assets ed or liabilities, to establish designated as being hedged are highly probable of occurring. Such a schedule should be supported by T ab le of Con t en t s management's stated intent and past practice of reinvesting cash inflows and refinancing cash Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing outflows. Standar ds Preface

For instance, an enterprise may forecast aggregate gross cash inflows of $10,000 and aggregate gross - I ntr oduction to I nter national Accounting Standar ds cash outflows of $9,000 in a particular time period in the near future. In this case, it may wish to Chapter 2 - Balance Sheetreinvestment of gross cash inflows of $1,000 as the hedged item in the future designate the forecasted I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent time period. Chapter 3 - If more than $1,000 of the forecasted cash inflows are contractually specified and have low of Recognized Gains and Losses credit risk, the enterprise has very strong evidence to support an assertion that gross cash inflows of Chapter 4 - Cash Flow St at em ent $1,000 are highly probable of occurring and support the designation of the forecasted reinvestment of Chapter 5 - flows Financial I nstr uments—Cash and Receivportion ables of the reinvestment period. A high probability those cash as being hedged for a particular Chapter 6 I nventor y of the forecasted transactions occurring may also be demonstrated under other circumstances. Chapter 1

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s If the hedging relationship designated as a cash flow hedge, an enterprise will assess and measure Chapter 8 - Property , Plant ,isand Equipment

effectiveness underble IAS 39,sat a minimum, at the time an enterprise prepares its annual or interim Chapter 9 - I ntangi Asset financial reports. However, an enterprise may wish to measure it morees,frequently on a specified I nterests in Financial Instr um ent s, Associat es, Joint Ventur and periodic basis, at theent end of each I nvestm Pr oper ty month or other applicable reporting period. It is also measured whenever designated as hedging instruments are changed or hedges are Chapter 11 derivative - Business positions Combinations and Consolidat ed Fin ancial Statements terminated to ensure that the recognition in net profit or loss of the Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev entschanges after t he in the fair value amounts Chapter 12 Balance Sheet Date on assets and liabilities and the recognition of changes in the fair value of derivative instruments designated cash flow are appropriate. Chapter 13 - as Financial I nstrhedges uments—LongTer m Debt Chapter 10 -

Chapter 14 - Leases

Changes in the cash flows of the derivative are computed and allocated to the applicable periods in which the derivative is designated as a hedge and are compared with computations of changes in the Chapter 16 - Em ploy ee Benefit s cash flows of the forecasted transactions. Computations are based on yield curves applicable to the Chapter 17 - Stock holder s' Equit y hedged items and the derivative hedging instruments and applicable interest rates for the specified Chapter 18 - Earnings Per Share periods being hedged. The schedule used to determine effectiveness could be maintained and used as Chapter 19 for - I nterim Financial the basis determining the Repor periodting in which the hedging gains and losses recognized initially in equity Chapter 20 - Segm entofRepor ting are reclassified out equity and recognized in net profit or loss. Chapter 15 - I ncom e Taxes

Chapter 21 - Accounting Changes and Cor rection of Er ror s

If the hedging is designated as a cash flow hedge, an enterprise will account for the hedge Chapter 22 - Forrelationship eign Curr ency as follows: the portion of gains and losses on hedging derivatives determined to result from effective Chapter 23 - (1) RelatedPart y Disclosures hedges24 is recognized equity ies whenever effectiveness is measured and (2) the ineffective portion of Chapter - SpecializedinI ndustr gains and resulting from hedging derivatives is recognized in net profit or loss. Chapter 25 losses - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

The amounts recognized in equity should be included in net profit or loss in the same period or periods

Appendix A - Dithe sclosure Checklist during which hedged item affects net profit or loss. Accordingly, when the forecasted transactions Appendix B I llustrativ e Financialrecognized St atem ent sinPr esent ed I AS occur, the amounts previously equity areUnder recognized in net profit or loss. For instance, if Appendix C - rate Comswap parison of I AS, US GAAP, and UK GAAP an interest is designated as a hedging instrument of a series of forecasted cash flows, the I ndex changes in the cash flows of the swap are recognized in net profit or loss in the periods when the List of Tablescash flows and the cash flows of the swap offset each other. forecasted List of Ex hibits and Ex am ples

If the hedgings relationship is designated as a cash flow hedge, the treatment of any net cumulative List of Sidebar

gains and losses recognized in equity if the hedging instrument is terminated prematurely, the hedge accounting criteria are no longer met, or the hedged forecasted transactions are no longer expected to take place, will be as described in the following. If the hedging instrument is terminated prematurely or the hedge no longer meets the criteria for qualification for hedge accounting (for instance, the forecasted transactions are no longer highly probable), the net cumulative gain or loss reported in equity remains in equity until the forecasted transaction occurs. If the hedged forecasted transactions are no longer expected to occur, the net cumulative gain or loss is reported in net profit or loss for the period.

IAS 39 states that a hedging relationship may not be designated for only a portion of the time period in which a hedging instrument is outstanding. If the hedging relationship is designated as a cash flow hedge, and the hedge foran being highly effective, IAS 39 does not preclude W ile ysubsequently I AS 2 0 03 : I nfails t erpthe re t test at ion d Ap p licat io n of n t er n at ion al Accou The n t in g St an d arindicates ds redesignating theI hedging instrument. standard that a derivative instrument may not be ISBN:0471227366 by Bar r y instrument J. Epstein and Abbas Ali designated as a hedging for only a portion of its remaining period to maturity but does not Mir zainstrument's original period to maturity. If there is a hedge effectiveness failure, refer to the derivative John Wi Sons 2003on (952 pages) the ineffective portion of ley the &gain or©loss the derivative instrument is recognized immediately in net This com pact and t ruly com pr ehensive qui ck - refer ence of the hedge relationship cannot profit or loss and hedge accounting based on the previous designation pr esent s account ants with a guide to depend on for be continued. In this case, the derivative instrument may be redesignated prospectively as a hedging assistance in the prepar at ion and under standing of financial instrument in a new hedging present relationship, provided this hedging statements ed in accordance with I AS. relationship satisfies the necessary conditions. The derivative instrument must be redesignated as a hedge for the entire time period it T ab le of Con t en t s remains outstanding. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds flow hedges, IAS 39 states that "if the hedged firm commitment or forecasted transaction For cash results in the recognition of an asset or liability, then at the time the asset or liability is recognized the Preface

associated or losses recognized directly in equity, should enter into the initial Chapter 1 - gains I ntr oduction to Ithat nterwere national Accounting Standar ds measurement of the Sheet carrying amount of the asset or liability" (basis adjustment). If a derivative is used Chapter 2 - Balance to manage aI ncom net exposure to interest andges theinderivative is designated e Statement, Stat emrate ent risk of Chan Equit y, and Statem ent as a cash flow hedge of forecasted interest cash flows orand portions thereof on a gross basis, there will be no basis adjustment of Recognized Gains Losses when the flowent occurs. There is no basis adjustment because the hedged forecasted Chapter 4 forecasted - Cash Flowcash St at em transactions do not result in the recognition assets or liabilities and the effect of interest rate changes Chapter 5 - Financial I nstr uments—Cash and of Receiv ables that are6 designated Chapter - I nventoras y being hedged is recognized in net profit or loss in the period in which the forecasted occur. Although theConstr typesuction of hedges herein would not result in basis Chapter 7 - transactions Rev enue Recogni tion, I ncluding Contrdescribed act s adjustment if instead the derivative is designated as a hedge of a forecasted purchase of a financial Chapter 8 - Property , Plant , and Equipment asset or issuance of a liability, the derivative gain or loss would be an adjustment to the basis of the Chapter 9 - I ntangi ble Asset s asset or liability upon the occurrence of the transaction. Chapter 3

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

IAS 39 permits a portion of a cash flow exposure to be designated as a hedged item. While IAS 39 does not specifically address a hedge of a portion of a cash flow exposure for a forecasted transaction, Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he it specifies Chapter 12 - that a financial asset or liability may be a hedged item with respect to the risks associated Balance Sheet Date with only a portion of its cash flows or fair value, if effectiveness can be measured. The ability to hedge Chapter 13 - Financial I nstr uments—Long- Ter m Debt a portion of a cash flow exposure resulting from the resetting of interest rates for assets and liabilities Chapter 14 - Leases suggests that a portion of a cash flow exposure resulting from the forecasted reinvestment of cash Chapter 15 - I ncom e Taxes inflows or the refinancing or rollover of financial liabilities can also be hedged. The basis for Chapter 16 - Em ee Benefit qualification as ploy a hedged items of a portion of an exposure is the ability to measure effectiveness. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 17 - Stock holder s' Equit y

Furthermore, IAS 39 Per specifies Chapter 18 - Earnings Share that a nonfinancial asset or liability can be hedged only in its entirety or for foreign risk but not for ting a portion of other risks because of the difficulty of isolating and Chapter 19 -currency I nterim Financial Repor measuring risks Chapter 20 - the Segm entattributable Repor ting to a specific risk. Accordingly, assuming effectiveness can be measured, portion of Changes a cash flow ofofforecasted transactions associated with, for example, Chapter 21 - aAccounting andexposure Cor rection Er ror s

the resetting ofeign interest Chapter 22 - For Currrates ency for a variable-rate asset or liability can be designated as a hedged item. Chapter 23 - Related- Part y Disclosures

Since forecasted transactions will have different terms when they occur, including credit exposures,

Chapter 24 -and Specialized I ndustr ies maturities, option features, there may be an issue over how an enterprise can satisfy the tests in Chapter 25 I nflation and IAS 39 requiring that the Hyperinflation hedged group have similar risk characteristics. According to the IGC, the Chapter 26provides - Gov er nm Gr an tsa group of assets, liabilities, firm commitments, or forecasted standard forent hedging Appendix A Di sclosure Checklist transactions with similar risk characteristics. IAS 39 provides additional guidance and specifies that Appendix - I llustrativ e Financial St atem ent s Pr esent ed Under I ASthe individual items in the portfolio portfolio Bhedging is permitted if two conditions are met, namely: Appendix - Com risk parison of I AS,they US GAAP, and UK GAAP share theC same for which are designated and the change in the fair value attributable to the

hedged risk for each individual item in the group will be expected to be approximately proportional to I ndex theofoverall List Tableschange in fair value. List of Ex hibits and Ex am ples

When an enterprise associates a derivative hedging instrument with a gross exposure, the hedged item typically is a group of forecasted transactions. For hedges of cash flow exposures relating to a group of forecasted transactions, the overall exposure of the forecasted transactions and the assets or liabilities that are repricing may have very different risks. The exposure from forecasted transactions may differ based on the terms that are expected as they relate to credit exposures, maturities, option, and other features. Although the overall risk exposures may be different for the individual items in the group, a specific risk inherent in each of the items in the group can be designated as being hedged.

List of Sidebar s

The items in the portfolio do not necessarily have to have the same overall exposure to risk, providing

they share the same risk for which they are designated as being hedged. A common risk typically shared by a portfolio of financial instruments is exposure to changes in the risk-free interest rate or to changes in a specified has a tcredit to the highest credit-rated instrument in the W ile yrate I AS that 2 0 03 : In erp re texposure at ion an dequal Ap p licat io n of portfolio (that is, the instrument with the lowest credit risk). If the instruments that are grouped into a I n t er n at ion al Accou n t in g St an d ar ds portfolio have different credit exposures, they may be hedged as a group for a ISBN:0471227366 portion of the exposure. by Bar r y J. Epstein and Abbas Ali Mirinzacommon that is designated as being hedged is the exposure to interest rate The risk they have changes from theJohn highest credit-rated instrument in the portfolio. This ensures that the change in fair Wi ley & Sons © 2003 (952 pages) value attributableThis to the hedged risk for each item theence group is expected to be com pact and t ruly com prindividual ehensive qui ck -inrefer pr esent s account with a guide on for approximately proportional to the ants overall change in to fairdepend value attributable to the hedged risk of the assistance in some the prepar at ion and under financial has a credit quality that is group. It is likely there will be ineffectiveness if thestanding hedgingofinstrument statements present ed in accordance with I AS. inferior to the credit quality of the highest credit-rated instrument being hedged, since a hedging relationship is designated for a hedging instrument in its entirety. T ab le of Con t en ts Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing For example, if a portfolio of assets consists of assets rated A, BB, and B, and the current market Standar ds

interest rates for these assets are LIBOR+ 20 basis points, LIBOR+ 40 basis points, and LIBOR+ 60 Preface

basis points, respectively, an enterprise may use a swap that pays fixed interest rate and for which - I ntr oduction to I nter national Accounting Standar ds variable interest payments are made based on LIBOR to hedge the exposure to variable interest rates. Chapter 2 - Balance Sheet If LIBOR is designated as the risk being hedged, credit spreads above LIBOR on the hedged items are I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 from excluded the designated hedge relationship and the assessment of hedge effectiveness. of Recognized Gains and Losses Chapter 1

Chapter 4

- Cash Flow St at em ent

Proposed - Financial Changes I nstr uments—Cash to Accounting and Receiv ables for Financial Instruments Held Chapter 6 - I nventor y for Investment Chapter 5 Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter Property , Plant and Equipment IAS 32 8and- IAS 39 are the ,major pronouncements that deal with accounting for financial Chapter instruments—with 9 - I ntangithe ble former Asset s standard addressing matters of reporting and disclosure, and the latter

being directed to issues of recognition, andJoint measurement. When IAS 39 was issued, as I nterests in Financial Instr umderecognition, ent s, Associat es, Ventur es, and I nvestm Pr oper ty to complete the "core set of standards" as it had agreed to do in order the former IASC wasent hastening Chapter - Business Combinations Consolidat Fin ancialdiscussion), Statementsit was viewed as a mere way to gain 11 IOSCO's consideration (seeand Chapter 1 fored complete station in the Curr journey ent Liabilit toward ies,a Prov comprehensive isions, Cont ingencies, fair value and measurement Ev ents after standard t he to be applicable to all Chapter 12 Balance DateThe new IASB, however, has discovered that fundamental issues, not to financial assets and Sheet liabilities. Chapter - Financialopposition I nstr uments—LongTer m Debt mention13substantial from certain important constituencies, remain to be solved, and that this Chapter 14 Leases process will perhaps take several more years. In the interim, the need for certain improvements to Chapter - I32 ncom e Taxes existing15IAS and IAS 39 has become evident. Hence, the short-term product of making these standards workable hass been undertaken. Chapter 16 -more Em ploy ee Benefit Chapter 10 -

Chapter 17 - Stock holder s' Equit y

The IASB has exposed for comment a substantial revision to IAS 32 and 39, which, if adopted, would be issued as early as Spring 2003, for possible application by year-end. The revised standards would Chapter 19 - I nterim Financial Repor ting be more coherent (e.g., all disclosure requirements, including those currently found in IAS 39, would be Chapter 20 - Segm ent Repor ting relocated to IAS 32) and would incorporate some guidance currently found in SIC pronouncements Chapter 21 - Accounting Changes and Cor rection of Er ror s (which would be withdrawn) and in interpretive matter offered by the IAS 39 Implementation Guidance Chapter 22 - (which For eignwould Curr ency Committee continue to offer nonauthoritative assistance; to date, over 200 suggestions in Chapter 23 Relatedy Disclosures question-and-answerPart format have been published). The following paragraphs will survey the more Chapter 24 -changes Specialized ieswrought by these revisions which might affect the accounting by an significant thatI ndustr may be Chapter 25(Matters - I nflation and Hyperinflation investor. pertaining to accounting by the issuer of the instrument are addressed in Chapter Chapter 17.) 26 - Gov er nm ent Gr an ts Chapter 18 - Earnings Per Share

Appendix A - Di sclosure Checklist

One veryB important proposed change to compound instruments (i.e., those having Appendix - I llustrativ e Financial St atempertains ent s Pr esent ed Under financial I AS

characteristics of both liabilities and equity). When an instrument is compound, the liability and equity components must be separately accounted for under IAS 32. Currently, the allocation to the liability I ndex component may be accomplished either as a residual amount after separating the equity element, or by List of Tables measuring the elements based on a relative-fair-value method. The proposal is to eliminate this choice List of Ex hibits and Ex am ples and substitute a method which would require that any asset and liability elements be separated first, List of Sidebar s with the residual allocated to the equity element. This will conform to the definition of an equity instrument as a residual, as set forth in IAS 39. Appendix C - Com parison of I AS, US GAAP, and UK GAAP

The proposed revised IAS 32 would clarify certain disclosure requirements for investments in financial assets. Disclosure will be required of the extent to which fair values are estimated using a valuation technique and the extent to which valuations using valuation techniques are based on assumptions that are not supported by observable market prices. Also to be set forth would be the sensitivity of the estimated fair value to changes in those assumptions, based on a range of reasonably possible alternative assumptions, and the change in fair values estimated using valuation techniques and

recognized in profit or loss during the reporting period. Furthermore, the nature and extent of transfers of financial assets that do not qualify for derecognition W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f will be subject to Idisclosure, along with an explanation of the risks inherent in any component that n t er n at ion al Accou n t in g St an d ar ds continues to be recognized after a transfer of financial assets that does not qualify for derecognition. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za Conditions for derecognition of a financial asset would be elucidated by the proposed changes to IAS John Wi ley & Sons © 2003 (952 pages)

39. A guiding principle would become a "continuing involvement approach" that disallows derecognition This com pact and t ruly com pr ehensive qui ck - refer ence to the extent to which the transferor has continuing involvement in an asset or a portion of an asset it pr esent s account ants with a guide to depend on for has transferred. The transferor would beatdeemed have a continuing involvement when: (1) it could, assistance in the prepar ion and to under standing of financial or could be required to. reacquire control of the transferred asset (e.g., it has a call option); or (2) statements present ed in accordance with I AS. compensation based on the performance of the transferred asset will be paid (e.g., a guarantee is T ab le of Con t en t s provided to the transferee). IASB states that there will be no exceptions to this general principle. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar dsexisting provisions in IAS 39 are to be eliminated, consistent with the proposed move to a Several Preface "continuing involvement approach" as a derecognition threshold. First, the idea that the transferor must Chapter 1 substantially - I ntr oductionalltoofI nter Standar dsassets for any portion of those assets to not retain the national risk andAccounting returns of particular Chapter 2 Balance Sheet qualify for derecognition will be dispensed with. And, second, the transferee "right to sell or repledge"

condition for I ncom derecognition e Statement, will be Statdropped. em ent of Chan ges in Equit y, and Statem ent -

Chapter 3

of Recognized Gains and Losses Guidance alsoFlow be provided Chapter 4 will - Cash St at em enton pass-through arrangements. When the transferor continues to collect

cash flows the transferred asset, additional conditions must be met for a transfer to qualify for Chapter 5 - from Financial I nstr uments—Cash and Receiv ables derecognition. Thesey new conditions are that the transferor have no obligation to pay cash flows to the Chapter 6 - I nventor transferee it collects cashConstr flowsuction from the transferred asset; that the transferor not be Chapter 7 -unless Rev enue Recogniequivalent tion, I ncluding Contr act s permitted to use the transferred asset for its benefit; and that the transferor be obligated to remit on a - Property , Plant , and Equipment timely basis to the transferee any cash flows it collects on behalf of the transferee.

Chapter 8 Chapter 9

- I ntangi ble Asset s

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and At present, Chapter 10 - disclosures are required when financial assets are pledged as collateral for borrowings. I nvestm ent Pr oper ty

Under the revised IAS 39, this will be expanded somewhat. If the transferee has the ability to sell or repledge collateral received, the transferor will be required to reclassify the collateral in its balance Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he sheet (e.g., Chapter 12 - as securities pledged). If the transferor defaults on the related obligation and is no longer Balance Sheet Date entitled to the transferred asset, the transferor will derecognize the asset. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 14 -39, Leases Under IAS changes in the fair value of financial assets held for trading are reflected currently in Chapter 15 I ncom e Taxes earnings. The proposed amendment to the standard would preclude transfers into or out of the trading Chapter category, 16 to - Em eliminate ploy ee Benefit the opportunity s for manipulation of reported results of operations (e.g., by

removing from trading account when unrealized losses are being experienced). There Chapter 17 securities - Stock holder s' the Equit y would be change, Per however Chapter 18 no - Earnings Share in the criteria used to classify the securities as either trading or availablefor-sale,19and designation as held-for-trading would be freely selectable. For that reason, the current Chapter - I nterim Financial Repor ting option to and Chapter 20recognize - Segm entgains Repor tinglosses on available-for-sale financial assets in earnings (a choice made only at 21 inception) is to be eliminated. More guidance would be added regarding the means of Chapter - Accounting Changes and Cor rection of Er ror s determination of fair values.

Chapter 22 - For eign Curr ency Chapter 23 - RelatedDisclosures New guidance wouldPart be yprovided relative to identification of impairment of available-for-sale Chapter 24 Specialized I ndustr ies being proposed is the elimination of the option to reverse previously investments. An important change Chapter 25 - impairments; I nflation and Hyperinflation recognized under revised IAS 39, any impairment to available-for-sale investments would Chapter 26 - Gov er nm ent Gr an ts be permanent. Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Equity Method of Accounting for Investments

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

I ndex The preceding discussion addressed investments in which the investor has essentially a passive List of Tables position, due to holding only a small minority ownership interest (or, in the case of debt, no actual List ownership of Ex hibits interest and Ex atam all). ples In such situations, the investor is unable to control or materially influence

decisions to be List of Sidebar s made by management of the investee. The use of fair value accounting has been deemed most appropriate in such circumstances. In other situations an investor will have active control over the decisions taken by the management of the investee, or have joint control over those decisions, to be made in conjunction with its co-investors. A third logical possibility is that the investor will have something less than control (or joint control), but will clearly also not be a mere passive investor. This last named circumstance is that where there is significant influence over an investee.

The notion of applying what is now known as equity-method accounting to investment situations where the investor is able to exercise significant influence developed in the early 1950s, as an application of the "substance over form" philosophy financial reporting. wasionot made mandatory, W ile y I AS 2 0 03 : I n tof erp re t at ion an d Ap pItlicat n o actually f however, until theI nlate 1960s, in the US. Because the actual determination of the existence of t er n at ion al Accou n t in g St an d ar ds significant influence was anticipated to be difficult, a somewhat arbitrary, refutable presumption of such ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali influence was setMir at za a 20% voting interest in the investee. This became the de facto standard for all later accounting requirements seeking to emulate John Wi ley & Sons © 2003 (952 pages)the pioneering one set forth under US GAAP. This com pact and t ruly com pr ehensive qui ck - refer ence

The necessity of applying a method of with accounting as theonequity pr esent s account ants a guide such to depend for method, when significant influence over theassistance investee is by theatinvestor, can easily be of understood in held the prepar ion and under standing financial when one considers how statements present edfinancial in accordance readily manipulation of the investor's positionwith andI AS. results of operations could be achieved in its absence. If an investee has substantial income, but the investor, employing the cost method of T ab le of Con t en t s accounting for the investment, uses its influence to defer the investee's declaration of dividends, the Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing result would be that the investor would not be reporting its share of the investee's economic operating Standar ds results, even though it had been in a position to cause a distribution of dividends, had it chosen to do Preface so. This might be motivated, for example, by a desire to put aside future earnings to compensate for an Chapter 1 - I ntr oduction to I nter national Accounting Standar ds expected, or feared, decline in the investor's own operations. Chapter 2

- Balance Sheet

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Conversely, Chapter 3 - the investor could effect or encourage a dividend distribution even in the absence of of Recognized Gains and Losses

earnings by the investee. This could be motivated by a need for reportable earnings, perhaps to offset - Cash Flow St at em ent disappointing performance in the investor's own operations. In either case, the opportunity to Chapter 5 Financial results I nstr uments—Cash Receiv manipulate- reported of operationsand would be ables of great concern. Chapter 4 Chapter 6

- I nventor y More importantly, however, use of the cost method simply not reflect the economic reality of Chapter 7 - Rev enue Recognithe tion, I ncluding Constr uctionwould Contr act s

the investor's interest in an, entity whose operations were indicative, in part at least, of the reporting Chapter 8 - Property , Plant and Equipment entity's 9(i.e., investor's) decisions and operational skills. Thus, the clearly Chapter - I the ntangi ble Assetmanagement s demonstrable need toinreflect substance, rather than mere form,Ventur madees, theand development of the equity I nterests Financial Instr um ent s, Associat es, Joint method highly desirable. I nvestm ent Pr oper ty

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

The pure equity method is not the only possible means of accomplishing the goal of reporting the

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 performance economic of the Balance Sheet Dateinvestor. Other suggested solutions include the expanded equity method

and proportionate consolidation. International standards and the various national standardChapter 13 - Financial I nstr uments—LongTer m accounting Debt

setting bodies have directed differing levels of attention to these alternatives over the years; the simple equity method has received the most universal support.

Chapter 14 - Leases

Chapter 15 - I ncom e Taxes

Chapter 16 - method Em ploy ee Benefit The equity permits ans entity (the investor) controlling a certain share of the voting interest in Chapter - Stock s' Equit another17entity (theholder investee) to yincorporate its pro rata share of the investee's operating results into its Chapter 18 However, - Earningsrather Per Share earnings. than include its share of each component of the investee's revenues, Chapter 19 -assets I nterimand Financial Repor expenses, liabilities intoting its financial statements, the investor will only include its share of Chapter 20 - Segm Reporas ting the investee's netent income a separate line item in its income. Similarly, only a single line in the

investor's is presented, but this reflects,of toErarordegree, the investor's share in each of the Chapter 21 balance - Accounting Changes and Cor rection s investee's and liabilities. For this reason, the equity method has been referred to as "one-line Chapter 22 -assets For eign Curr ency consolidation." Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies

It is important to recognize that the bottom-line impact on the investor's financial statements is identical whether the equity method or full consolidation is employed; only the amount of detail presented within Chapter 26 - Gov er nm ent Gr an ts the statements will differ. An understanding of this principle will be useful as the need to identify the Appendix A component - Di sclosure of Checklist "goodwill" the cost of the investment is explained, below. Chapter 25 - I nflation and Hyperinflation

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parisonmethod. of I AS, US GAAP, and UK GAAP Expanded equity I ndex

Less commonly presented than the pure equity method of accounting are the expanded equity method List of Tables andofthe proportionate method. These alternative approaches effectively are successive List Ex hibits and Ex amconsolidation ples points along sa continuum ranging from a pure historical cost basis to full consolidation. In contrast to List of Sidebar

the one-line consolidation approach of the simple equity method, the expanded equity method is an attempt to provide more meaningful detail about the various assets and liabilities, and revenues and expenses, in which the investor has an economic interest. Thus, if using the expanded equity method, the investor's interest in the investee's aggregate current assets would be presented, as a single number, in the current asset section of the investor's balance sheet. Similarly, the investor's share of the investee's noncurrent assets, current liabilities, and noncurrent liabilities would be captioned separately in the corresponding section of the investor's balance sheet.

On the income statement, using this expanded equity method, the investor's share of significant items of revenue, expense, gains, and losses would be set forth separately. This would not extend to every item of the income highlight or lesser degrees of detail W statement, ile y I AS 2 0but 03 :would I n t erp re t at ionthe anmajor d Ap pones. licat ioGreater n of would be possible, depending on the investor's preferences, since there are no definitive standards I n t er n at ion al Accou n t in g St an d ar ds governing this method. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za

A major advantage of this method an investor's interest in the investee is that the investor's John Wi ley & Sonsof © reporting 2003 (952 pages) financial statements will provide a more meaningful insight into the true economic scope of its This com pact and t ruly com pr ehensive qui ck - refer ence operations, including indications of the gross volume business being transacted. Furthermore, pr esent s account ants with a guide to of depend on for financial position assistance will not be in distorted by,atfor effectively merging the investee's current assets the prepar ionexample, and under standing of financial edwhich in accordance AS. of placing equity in investee in the with the investor'sstatements noncurrentpresent assets, would bewith the Iresult noncurrent asset section, as is required under common practice. As the amount of detail expands, the T ab le of Con t en t s expanded equity method edges into proportionate consolidation, however. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

The expanded equity method has not been endorsed, as such, although the equity method as defined by US GAAP (in APB Opinion 18) does incorporate elements of this approach. Specifically, APB 18 Chapter 1 - I ntr oduction to I nter national Accounting Standar ds mandates one-line consolidation for the balance sheet, but requires that certain components of the Chapter 2 -income Balancestatement Sheet investee's (such as extraordinary items) retain their character when incorporated into I ncom e Statement, Stat em ent of18's Chanrequirements ges in Equit y,do and enta strict application of the the investor's income statement. Thus APB goStatem beyond Chapter 3 of Recognized Gains and Losses equity method. Preface

Chapter 4

- Cash Flow St at em ent

Chapter 5 - Financial I nstr uments—Cash and Receiv ables Proportionate consolidation. Chapter 6

- I nventor y This is 7a more variant of theConstr expanded method, whereby the investor's share of Chapter - Revfully enuedeveloped Recogni tion, I ncluding uctionequity Contr act s

each element of the ,investee's sheet and income statement is reported in the investor's Chapter 8 - Property Plant , andbalance Equipment statements. Chapter 9 - IAlthough ntangi ble there Asset sis nonauthoritative GAAP in the United States supporting this method of accounting for investments in joint ventures, underes,international standards (as I nterests in Financial Instr um ent s,and Associat Joint Venturaccounting es, and discussed later in the I nvestm entchapter) Pr oper tythis method is prescribed optionally for joint ventures, it has not been widely advocated for Combinations investments inand which the investor exercise, at a minimum, joint control. Chapter 11 - Business Consolidat ed Fin does ancial not Statements Nonetheless, from a conceptual perspective, it does have appeal since convey the full scope of Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents afterit twould he Chapter 12 Balance over Sheetwhich Date the reporting entity could be said to have either direct control or indirect economic activities yet significant impact.I nstr uments—Long- Ter m Debt Chapter 13 - Financial Chapter 10 -

Chapter 14 - Leases

Equity15method as prescribed Chapter - I ncom e Taxes

by IAS 28.

Chapter 16 - Em ploy ee Benefit s

The equity method is generally not available to be used as a substitute for consolidation. Consolidation is required when a majority voting interest is held by the reporting entity (the parent) in another entity Chapter 18 - Earnings Per Share (the subsidiary). The equity method is intended for use where the reporting entity (the investor) has Chapter 19 -influence I nterim Financial ting of the other entity (the investee), but lacks control. significant over the Repor operations Chapter 17 - Stock holder s' Equit y

Chapter 20 - Segm ent Repor ting

In general, inferred whenofthe investor owns between 20% and 50% of the Chapter 21 - significant Accountinginfluence Changes is and Cor rection Er ror s investee's common stock. However, the 20% threshold stipulated in IAS 28 is not an absolute Chapter 22 -voting For eign Curr ency one. Specific circumstances may suggest that significant influence exists even though the investor's Chapter 23 - RelatedPart y Disclosures level of24 ownership is under 20%, Chapter - Specialized I ndustr ies in which case the equity method should be applied. In other instances, significant he absent despite a level of ownership above 20%. Therefore, the existence Chapter 25 -influence I nflation may and Hyperinflation of significant influence in the 20% to 50% ownership range should be treated as a refutable presumption. This 20% lower threshold is identical to that prescribed under US GAAP.

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St influence atem ent s exists, Pr esentIAS ed Under I AS In considering whether significant 28 identifies the following factors as evidence Appendix C Com parison of I AS, US GAAP, and UK GAAP that such influence is present: (1) investor representation on the board of directors or its equivalent, (2) I ndex participation in policy-making processes, (3) material transactions between the investor and investee, List Tables (4)ofinterchange of managerial personnel, and (5) provision of essential technical information. There List of be Ex hibits Ex am ples that suggest a lack of significant influence, such as organized opposition may other and factors present

by of theSidebar other shareholders, majority ownership by a small group of shareholders not inclusive of the List s investor, and inability to achieve representation on the board or to obtain information on the operations of the investee. Whether sufficient contrary evidence exists to negate the presumption of significant influence is a matter of judgment and requires a careful evaluation of all pertinent facts and circumstances, over an extended period of time in some cases.

When equity method is required. IAS 28 stipulates that the equity method should be employed by the investor for all investments in

associates, unless the investment is acquired and held exclusively with a view to its disposal in the near term, or if it operates under severe long-term restrictions that would preclude making distributions to investors. In the cases, the ofre the of accounting would not be deemed W latter ile y I AS 2 0 03 : Iuse n t erp t atequity ion anmethod d Ap p licat io n o f appropriate; rather, the investment would be carried at its historical cost. I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

The standard does something of a distinction between the accounting for investments in Mirmake za associates in consolidated versus in separate financials of the investor. As amended by John Wi leyfinancials & Sons © 2003 (952that pages) IAS 39, IAS 28 provides that in the separate financials of the investor the investment in the associate This com pact and t ruly com pr ehensive qui ck - refer ence may be carried atpreither cost, by the equity method, or as an available-for-sale financial asset esent s account ants with a guide to depend on for consistent with IAS 39's provisions, if theatinvestor also prepares financial statements. If assistance in the prepar ion and under standing consolidated of financial present ed in financial accordance with I AS. the choices are expanded to include, if the investor doesstatements not issue consolidated statements, warranted by the facts, treating the investment as a trading security as well. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ingaccounting to subsidiaries and In practice, many parent-only financial statements apply equity method Standar ds

significant influence investees alike. This probably does provide the most meaningful reporting, avoiding detailed inclusion of any assets, liabilities, revenues, or expenses other than the parent Chapter 1 - I ntr oduction to I nter national Accounting Standar ds company's own in its financial statements, while not distorting the bottom line measure of economic Chapter 2 - Balance Sheet performance. Preface

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

of Recognized Gains and Losses Complications in applying equity method accounting.

Chapter 5 - Financial I nstr and Receiv ables Complexities in the use ofuments—Cash the equity method arise in two areas. First, the cost of the investment to the Chapter - I nventor investor6 might not bey equal to the fair value of the investor's share of investee net assets; this is

analogous theenue existence goodwill in a purchase business combination. Or the fair value of the Chapter 7 -toRev Recognioftion, I ncluding Constr uction Contr act s investor's of the investee's net assets may not be equal to the book value thereof; this situation is Chapter 8 share - Property , Plant , and Equipment analogous the purchase allocation problem in consolidations. Since the ultimate income Chapter 9 -toI ntangi ble Assetcost s statement result frominthe use of equity method accounting must generally be the same as full I nterests Financial Instr um ent s, Associat es, Joint Ventur es, and consolidation, an adjustment be made for each of these differentials. I nvestm ent Pr opermust ty

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

The second major complexity relates to interperiod income tax allocation. The equity method causes

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - to reflect current earnings based on the investee's operating results; however, for income the investor Balance Sheet Date

tax purposes the investor reports only dividends received and gains or losses on disposal of the Chapter 13 - Financial I nstr uments—LongTer m Debt

investment. Thus, temporary differences result, and IAS 12 provides guidance as to the appropriate method of computing the deferred tax effects of these differences.

Chapter 14 - Leases

Chapter 15 - I ncom e Taxes

Chapter 16 - Em ploy ee Benefit s In the absence of these complicating factors, use of the equity method by the investor is Chapter 17 - Stock holder s' Equit y of the investment is increased by the investor's share of the investee's straightforward: The original cost Chapter 18and - Earnings Per Share earnings is decreased by its share of investee losses and by dividends received. The basic Chapter 19 -isI nterim Financial procedure illustrated below.Repor ting Chapter 20 - Segm ent Repor ting

Example a simple case ignoring deferred taxes Chapter 21 of - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Assume the following information:

Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies On January 2, 2003, Regency Corporation (the investor) acquired 40% of Elixir Company's (the Chapter 25 voting - I nflation and Hyperinflation investee) common stock on the open market for $100,000. Unless demonstrated otherwise, it is Chapter 26 that - Gov er nm entCorporation Gr an ts assumed Regency can exercise significant influence over Elixir Company's operating Appendix and financing A - Di sclosure policies. Checklist On January 2, Elixir's stockholders' equity is comprised of the following

accounts: Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex Common stock, par $1, 100,000 shares authorized, 50,000 shares issued and

$ 50,000

Listoutstanding of Tables ListAdditional of Ex hibits and Ex am ples paid-in capital List of Sidebar s

Retained earnings Total stockholders' equity

150,000 50.000 $250,000

Note that the cost of Elixir Company common stock was equal to 40% of the book value of Elixir's net assets. Assume also that there is no difference between the book value and the fair value of Elixir Company's assets and liabilities. Accordingly, the balance in the investment account in Regency's records represents exactly 40% of Elixir's stockholders' equity (net assets). Assume further that Elixir

Company reported a 2003 net income of $30,000 and paid cash dividends of $10,000. Its stockholders' equity at year-end would be as follows: W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f n t er at ion al Accou n t in g St an d ar 50,000 ds Common stock, Ipar $ n1,100,000 shares authorized, shares issued and ISBN:0471227366 outstanding by Bar r y J. Epstein and Abbas Ali Mir za

Additional paid-in capital John Wi ley & Sons © 2003 (952 pages) Retained earnings This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance equity in the prepar at ion and under standing of financial Total stockholders' statements present ed in accordance with I AS.

$ 50,000 150,000 70,000 $270,000

Regency Corporation would record its share of the increase in Elixir Company's net assets during 2003 as follows:

T ab le of Con t en t s

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Investment in Elixir Company Preface

12,000

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Equity in Elixir income ($30,000 x 40%)

Cash

Chapter 3

-

12,000

4,000 I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

in Elixir Company ($10,000 x Chapter 4Investment - Cash Flow St at em ent

4,000

40%) - Financial I nstr uments—Cash and Receiv ables

Chapter 5 Chapter 6

- I nventor y

When Regency's balance sheet is prepared at December 31, 2003, the balance reported in the Rev enue Recogni tion, I ncluding Constr uction Contr act s investment- account would be $108,000 ($100,000 + $12,000 - $4,000). This amount represents 40% of Chapter 8 Property , Plant , and Equipment the book value of Elixir's net assets at the end of the year (40% x $270,000). Note also that the equity Chapter 9 I ntangi ble Asset s in Elixir income is reported as one amount on Regency's income statement under the caption "Other I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and income10 and Chapter - expense." Chapter 7

I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr entrevised Liabilit ies, Prov isions,after Contfirst ingencies, and Ev ents after t he IAS 12 12 (which was substantially being promulgated) established the requirement that Chapter Balance Sheet Date deferred income taxes be provided for the tax effects of timing differences. Under this standard, Chapter 13 -inFinancial nstr uments—LongTer m method Debt discussed detail in IChapter 15, the liability must be employed, under which the provision of a Chapter 14 Leases net deferred tax asset or liability is adjusted at each balance sheet date to reflect the current Chapter 15 - I ncom e Taxes expectations regarding the amount that ultimately is to be received or paid. Chapter 16 - Em ploy ee Benefit s

In order17to -compute the s'deferred Chapter Stock holder Equit y tax effects of income recognized by an investor employing the equity method18 of -accounting forShare its investment, it must make an assumption regarding the means by which Chapter Earnings Per

undistributed earnings of its investee will be realized. Earnings can generally be realized either through subsequent receipt of dividends, or by disposition of the investment at a gain, which presumably would Chapter 20 - Segm ent Repor ting reflect the investee's undistributed earnings as of that date. In many jurisdictions, these alternative Chapter 21 - Accounting Changes and Cor rection of Er ror s modes of income realization will have differing tax implications. For example, in many jurisdictions the Chapter 22 - For eign Curr ency assumption of future dividends would result in taxes at the investor's marginal tax rate on ordinary Chapter 23 - Related- Part y Disclosures income (net of any dividends received deduction or exclusion permitted by the local taxing authorities). Chapter 24 of - Specialized I ndustr If the sale the investment is ies expected to be the route by which earnings are realized, this would Chapter 25 I nflation and Hyperinflation commonly result in a capital gain, which in some jurisdictions is taxed at a different rate, or not taxed at Chapter 26 - Gov er nm ent Gr an ts all. Chapter 19 - I nterim Financial Repor ting

Appendix A - Di sclosure Checklist

ExampleB of simpleecase including taxes Appendix - Ia llustrativ Financial St atemdeferred ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Assume the same information as in the example above. In addition, assume that Regency Corporation has a combined (federal, state, and local) marginal tax rate of 34% on ordinary income and that it List of Tables anticipates realization of Elixir Company earnings through future dividend receipts. In Regency's tax List of Ex hibits and Ex am ples jurisdiction, there is an 80% deduction for dividends received from non-subsidiary investees, meaning List of Sidebar s that only 20% of the income is subject to ordinary tax. Regency Corporation's entries at year-end 2003 will be as follows: I ndex

1.

Investment in Elixir Company

12,000 12,000

Equity in W Elixir ile yincome I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f 2.

I n t er n at ion al Accou n t in g St an d ar ds

Income tax expense

ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali za Deferred Mir taxes John Wi ley & Sons © 2003 (952 pages)

816 816

(Taxable portionThis of investee bepr received the as dividends times marginal tax com pactearnings and t ruly tocom ehensiveinqui ck future - refer ence rate: $12,000 x 20% x 34% = $816) pr esent s account ants with a guide to depend on for 3.

Cash

assistance in the prepar at ion and under standing of financial 4.000 statements present ed in accordance with I AS.

4,000

Investment in Elixir Company T ab le of Con t en t s Wiley4. I AS Deferred 20 03—Inttaxes er pretation and Application of I nternational Account ing Standar ds Preface

272 272

Taxes payable—current

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

[Fraction of investee earnings currently taxed ($4,000/12,000) × 816 = $272]

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Under the Chapter 3 -liability method of interperiod income tax allocation, as required by IAS 12, the tax provision of Recognized Gains and Losses

should be based on the projected tax effect of the temporary difference reversal, and this may be - Cash Flow St at em ent subsequently adjusted for a variety of reasons, including alterations in tax rates and revision to Chapter 5 - Financial I nstr uments—Cash Receiv ables 15 for a complete discussion). management expectations (see Chapterand Chapter 4 Chapter 6

- I nventor y Furthermore, when taxable income (from dividends the act sale Chapter 7 - Rev enuethe Recogni tion, I ncluding Constr uctionor Contr s of the investment) is ultimately

realized, actual incidence of Equipment tax may still differ from the amount of deferred tax provided, as Chapter 8 the - Property , Plant , and adjusted. mayble occur because, assuming graduated rates and other complexities apply, the actual Chapter 9 This - I ntangi Asset s tax effect is Ianterests functioninofFinancial the entity's current items income andes,expense in the year of Instrother um ent s, Associat es,ofJoint Ventur and realization. Also, notwithstanding I nvestm ent Pr oper ty good-faith expectations, the realization of the investee's earnings may come in11a manner other than anticipated (e.g., a sudden decision to sell rather than hold the investment Chapter - Business Combinations and Consolidat ed Fin ancial Statements could precipitate capital gains when future dividend income was planned Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after tfor). he Chapter 10 -

Chapter 12 -

Balance Sheet Date To illustrate this last point, assume that in 2004, before any further earnings or dividends are reported Chapter 13 - Financial I nstr uments—LongTer m Debt

by the investee, the investor sells the entire investment for $115,000. The tax impact is

Chapter 14 - Leases

Chapter 15 - I ncom e Taxes

Selling16price Chapter - Em ploy ee Benefit s

$115,000

Chapter 17 - Stock holder s' Equit y Less cost

100,000

Chapter 18 - Earnings Per Share

Gain

$ 15,000

Chapter 19 - I nterim Financial Repor ting

Capital20gain rate ent (marginal corporate rate) Chapter - Segm Repor ting

x 34%

Chapter 21 - Accounting Changes and Cor rection of$ Er ror s Tax liability 5,100 Chapter 22 - For eign Curr ency

The entries recordPart they sale, the tax thereon, and the amortization of deferred taxes provided Chapter 23 - to RelatedDisclosures previously the undistributed 2003 earnings are as follows: Chapter 24 -on Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation

1. 26 Cash Chapter - Gov er nm ent Gr an ts

115,000

Appendix A - Di sclosure Checklist

108,000

Investment in Elixir Company

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

7,000

Gain on sale of List of Tables investment I ndex

List of Ex hibits and Ex am ples

2.

Income tax expense

List of Sidebar s

Deferred tax liability Taxes payable—current

4,556 544 5,100

In the above, income tax expense of $4,556 is the sum of two factors: (1) the capital gains rate of 34% applied to the actual book gain realized ($115,000 selling price less $108,000 carrying value), for a tax of $2,380, and (2) the difference between the capital gains tax rate (34%) and the effective rate on dividend income (20% x 34% = 6.8%) on the undistributed 2003 earnings of Elixir Company previously

recognized as ordinary income by Regency Corporation [$8,000 x (34% - 6.8%) = $2,176]. Note that if the realization through a sale of the investment had been anticipated at the time the 2003 W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f balance sheet was being prepared, the deferred tax liability account would have been adjusted I n t er n at ion al Accou n t in g St an d ar ds (possibly to the entire $5,100 amount of the ultimate obligation), with the offsetting entry applied to ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali 2003 ordinary taxMir expense. The example above explicitly assumes that sale of the investment was not za anticipated prior to 2004. John Wi ley & Sons © 2003 (952 pages)

Accounting

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under of financial for a differential between coststanding and book value. statements present ed in accordance with I AS.

The simple examples presented thus far avoided the major complexity of equity method accounting, the allocation of the differential between the cost to the investor and the investor's share in the net equity Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing (net assets at book value) of the investee. Since the net impact of equity method accounting must Standar ds equal that of full consolidation accounting, this differential must be analyzed into the following Preface components and accounted for accordingly:

T ab le of Con t en t s

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds 1. The between the book and fair values of the investee's net assets at the date the Chapter 2 - difference Balance Sheet

investment made. I ncom eisStatement, Stat em ent of Chan ges in Equit y, and Statem ent -

Chapter 3

of Recognized Gains and Losses

2. The remaining difference between the fair value of the net assets and the cost of the investment, - Cash Flow St at em ent that is generally attributable to goodwill.

Chapter 4 Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6 -toI nventor According IAS 28,yany difference between the cost of the investment and the investor's share of the Chapter 7 Rev tion,assets I ncluding Constr uction Contr actbe s identified and accounted for in fair values of theenue net Recogni identifiable of the associate should Chapter 8 - Property Plant , and Equipment accordance with IAS, 22 (as detailed in Chapter 11). Thus, the differential should be allocated to specific9asset categories, and Chapter - I ntangi ble Asset s these differences will then be amortized to the income from investee

account as appropriate, for example, economic fixed es, assets I nterests in Financial Instr over um entthe s, Associat es,lives Jointof Ventur and whose fair values I nvestm ent Pr oper ty exceeded book values. The difference between fair value and cost will be treated like goodwill and, in Chapter 11 - Business Combinations and 22, Consolidat ed Fin ancial Statements accordance with the provisions of IAS amortized over a period generally not to exceed five years, but potentially Curr as ent long Liabilit as twenty ies, Prov years. isions, Cont ingencies, and Ev ents after t he Chapter 12 Chapter 10 -

Balance Sheet Date

Example a complex case ignoring deferred taxes Chapter 13 of - Financial I nstr uments—LongTer m Debt Chapter 14 - Leases

Assume15again thate Regency Corporation acquired 40% of Elixir Company's shares on January 2, 2003, Chapter - I ncom Taxes but that the price paid was $140,000. Elixir Company's assets and liabilities at that date had the following book and fair values:

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

Book value

Fair value

$ 10,000

$ 10,000

40,000

40,000

Inventories (FIFO cost) Chapter 23 - RelatedPart y Disclosures

80,000

90,000

Chapter Land 24 - Specialized I ndustr ies

50,000

40,000

140,000

220,000

$320,000

$400,000

Chapter 19 - I nterim Financial Repor ting Chapter Cash 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

Accounts receivable (net)

Chapter 22 - For eign Curr ency

Chapter 25 - I nflation and Hyperinflation

Plant and equipment (net of accumulated depreciation)

Chapter 26 - Gov er nm ent Gr an ts Appendix Total A - Di assets sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Liabilities

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Net assets (stockholders' equity) I ndex

(70,000)

(70,000)

$250,000

$330,000

List of Tables

The first order of business is the calculation of the differential, as follows:

List of Ex hibits and Ex am ples List of Sidebar s

Regency's cost for 40% of Elixir's common stock

$140,000

Book value of 40% of Elixir's net assets ($250,000 × 40%)

(100,000)

Total differential

$ 40,000

Next, the $40,000 is allocated to those individual assets and liabilities for which fair value differs from book value. In the example, the differential is allocated to inventories, land, and plant and equipment, as follows:

Book value

Item Inventories Land Plant and equipment Differential allocated

Fair value

Difference debit (credit)

40% of difference debit (credit)

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f $ n90,000 $ 10,000 I n t er n$at80,000 ion al Accou t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali 50,000 40,000 Mir za John Wi140,000 ley & Sons © 2003 220,000 (952 pages)

$ 4,000

ISBN:0471227366

(10,000)

(4,000)

80,000

32,000

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

$32,000

T ab le of Con t en tbetween s The difference the allocated differential of $32,000 and the total differential of $40,000 is Wiley I AS of 20 03—Int pretation Application I nternationalgoodwill Account represents ing goodwill $8,000.erAs shown and by the followingofcomputation, the excess of the cost Standar ds of the investment over the fair value of the net assets acquired. Preface Chapter 1

ntr oduction to I nter national Accounting Standar ds Regency's- Icost for 40% of Elixir's common stock $140,000

Chapter 2

- Balance Sheet

Chapter 4

- Cash Flow St at em ent

40% of Elixir's nete assets ($330,000 40%) I ncom Statement, Stat em×ent of Chan ges (132,000) in Equit y, and Statem ent Chapter 3 of Recognized Gains and Losses Excess of cost over fair value (goodwill) $ 8,000 Chapter 5 - Financial I nstr uments—Cash and Receiv ables At this point it is important to note that the allocation of the differential is not recorded formally by either Chapter Regency 6 Corporation - I nventor y or Elixir Company. Furthermore, Regency does not remove the differential from

the investment and allocate it to theConstr respective the use of the equity method Chapter 7 - Revaccount enue Recogni tion, I ncluding uction assets, Contr actsince s (one-line does notEquipment involve the recording of individual assets and liabilities. Regency Chapter 8 consolidation) - Property , Plant , and leaves 9the -differential $40,000 in the investment account, as part of the balance of $140,000 at Chapter I ntangi ble of Asset s January 2, 2003. Accordingly, information pertaining theJoint allocation of the I nterests in Financial Instr um ent s, Associattoes, Ventur es, anddifferential is maintained by the investor,I nvestm but thisent information Pr oper ty is outside the formal accounting system, which is comprised of journal entries 11 and- account Chapter Businessbalances. Combinations and Consolidat ed Fin ancial Statements Chapter 10 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12differential After the has been Balance Sheet Dateallocated, the amortization pattern is developed. To develop the pattern

in this example, assume Elixir's plantTer and equipment have 10 years of useful life remaining and Chapter 13 - Financial I nstrthat uments—Longm Debt

that Elixir depreciates its fixed assets on a straight-line basis. Furthermore, assume that Regency amortizes goodwill over a 20-year period. Regency would prepare the following amortization schedule:

Chapter 14 - Leases

Chapter 15 - I ncom e Taxes

Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit yDifferential debit Chapter 18 Item - Earnings Per Share (credit) Chapter 19 - I nterim Financial Repor ting

Inventories (FIFO)

Chapter 20 - Segm ent Repor ting

$ 4,000

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Amortization Useful life

2003

2004

2005

Sold in 2002

$4,000

$ --

$ --

Land 22 - For eign Curr ency Chapter

(4,000)

Indefinite

--

--

--

Chapter 23 - equipment Related- Part y Disclosures Plant and

32,000

10 years

3.200

3,200

3,200

8.000

20 years

400

400

400

$7,600

$3,600

$3,600

Chapter (net) 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation

Goodwill

Chapter 26 - Gov er nm ent Gr an ts

Totals A - Di sclosure Checklist Appendix

$40,000

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Note that the entire differential allocated to inventories is amortized in 2003 because the cost flow assumption used by Elixir is FIFO. If Elixir had been using LIFO instead of FIFO, no amortization would I ndex take place until Elixir sold some of the inventory that existed at January 2, 2003. Since this sale could List of Tables be delayed for many years under LIFO, the differential allocated to LIFO inventories would not be List of Ex hibits and Ex am ples amortized until Elixir sold more inventory than it manufactured/purchased. Note also that the differential List of Sidebar s allocated to Elixir's land is not amortized, because land is not a depreciable asset. Appendix C - Com parison of I AS, US GAAP, and UK GAAP

The amortization of the differential is recorded formally in the accounting system of Regency Corporation. Recording the amortization adjusts the equity in Elixir's income that Regency recorded based on Elixir's income statement. Elixir's income must be adjusted because it is based on Elixir's book values, not on the cost that Regency incurred to acquire Elixir. Regency would make the following entries in 2003, assuming that Elixir reported net income of $30,000 and paid cash dividends of $10,000:

1.

Investment in Elixir

12,000

12,000 Equity in W Elixir x re 40%) ile yincome I AS 2 0 ($30,000 03 : I n t erp t at ion an d Ap p licat io n o f 2.

I n t er n at ion al Accou n t in g St an d ar ds

Equity in Elixir income (amortization of by Bar r y J. Epstein and Abbas Ali differential) Mir za

7,600

ISBN:0471227366

7,600

John Wi ley & Sons © 2003 (952 pages) Investment in Elixir

3.

This com pact and t ruly com pr ehensive qui ck - refer ence Cash pr esent s account ants with a guide to depend on4,000 for assistance in the prepar at ion and under standing of financial 4,000 Investment in Elixir ($10,000 40%) statements present edx in accordance with I AS.

T ab le of Con t en s investment account on Regency's records at the end of 2003 is $140,400 [$140,000 The balance intthe Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing + $12,000 - ($7,600 + $4,000)], and Elixir's stockholders' equity, as shown previously, is $270,000. The Standar ds

investment account balance of $140,000 is not equal to 40% of $270,000. However, this difference can easily be explained, as follows:

Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Balance in investment account at December 31, 2003

$140,400

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent 40% of Elixir's net assetsGains at December 31, 2003 108,000 of Recognized and Losses

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Difference at December 31, 2003 - Financial I nstr uments—Cash and Receiv ables Chapter Differential 6 - Iat nventor January y 2, 2003

$ 32,400

Chapter 5

$40,000

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Differential amortized during 2003

(7,600)

Chapter 9Unamortized - I ntangi bledifferential Asset s at December 31,

$ 32,400

2003 I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty As the years go by, the balance in the account willStatements come closer and closer to representing Chapter 11 - Business Combinations and investment Consolidat ed Fin ancial

40% of the book value of Elixir's net assets. After twentyand years, the remaining Curr ent Liabilit ies, Prov isions, Cont ingencies, Ev ents after t he difference between these Sheet Date solely to the original differential allocated to land (a $4,000 credit). two amountsBalance would be attributed Chapter This $4,000 13 - Financial difference I nstr would uments—Longremain untilTer Elixir m Debt sold the property. Chapter 12 -

Chapter 14 - Leases

To illustrate how the sale of land would affect equity method procedures, assume that Elixir sold the land in the year 2023 for $80,000. Since Elixir's cost for the land was $50,000, it would report a gain of Chapter 16 - Em ploy ee Benefit s $30,000, of which $12,000 ($30,000 x 40%) would be recorded by Regency. when it records its 40% Chapter 17 - Stock holder s' Equit y share of Elixir's reported net income, ignoring income taxes. However, from Regency's viewpoint, the Chapter 18 - Earnings Per Share gain on sale of land should have been $40,000 ($80,000 - $40,000) because the cost of the land from Chapter 19 - I nterim Financial Repor ting Regency's perspective was $40,000 at January 2, 2003. Therefore, besides the $12,000 share of the Chapter 20 - Segm ent Repor ting should record an additional $4,000 gain [($40,000 - $30,000) x 40%] by gain recorded above, Regency Chapter 21 Accounting Changes rectionthe of Er ror s in Elixir income account. This $4,000 debit to debiting the investment account and and Cor crediting equity Chapter 22 - For eign Curr will encynegate the $4,000 differential allocated to land on January 2, 2003, since the investment account Chapter 23 - differential Related- Partwas y Disclosures the original a credit (the fair market value of the land was $10,000 less than its book Chapter value). 24 - Specialized I ndustr ies Chapter 15 - I ncom e Taxes

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

ExampleA of a sclosure complexChecklist case including deferred taxes Appendix - Di Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

The impact of interperiod income tax allocation in the foregoing example is similar to that demonstrated earlier in the simplified example. However, a complication arises with regard to the portion of the I ndex differential allocated to goodwill, since in some jurisdictions amounts representing goodwill are not List of Tables amortizable for tax purposes and, therefore, will be a permanent (not a timing) difference that does not List of Ex hibits and Ex am ples give rise to deferred taxes. The other components of the differential in this example are all generally List of Sidebar s defined as being timing differences. Appendix C - Com parison of I AS, US GAAP, and UK GAAP

The entries recorded by Regency Corporation in 2003 would be

1.

Investment in Elixir

12,000

12,000 Equity in W Elixir ile yincome I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f 2.

I n t er n at ion al Accou n t in g St an d ar ds

Income tax expense

by Bar r y J. Epstein and Abbas Ali Deferred Mir taxzaliability ($12,000 × 20% × John Wi ley & Sons © 2003 (952 pages)

816

ISBN:0471227366

816

34%) 3.

This com pact and t ruly com pr ehensive qui ck - refer ence 4,000 pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial 4,000 Investment in Elixir present ed in accordance with I AS. statements

Cash

Deferred T ab le 4. of Con t en t s tax liability

272

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing 272 Standar dsTaxes payable—current ($4,000/12,000 × Preface

816)

Chapter - I ntrin oduction to I nter national Accounting Standar ds 5. 1Equity Elixir income 7,600 Chapter 2

- Balance Sheet

Chapter 4

- Cash Flow St at em ent

7,600 Investment Elixir I ncom e in Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of Recognized Gains and Losses 6. Deferred tax liability 490 tax expense ($7,200 × 20% × 34%)ables Chapter 5Income - Financial I nstr uments—Cash and Receiv

490

Chapter 6

- I nventor y Note that taxenue effect of thetion, amortization the differential isact based on $7,200, not $7,600, since the Chapter 7 the - Rev Recogni I ncluding of Constr uction Contr s

$400 goodwill amortization would not have been tax deductible. - Property , Plant , and Equipment

Chapter 8 Chapter 9

- I ntangi ble Asset s

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - disparate elements of the investee's income statement. Reporting I nvestm ent Pr oper ty Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

As suggested earlier in this section, the expanded equity method would require that the major captions

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 in the investee's income statement maintain their character when reported, pro rata, by the investor. Balance Sheet Date

IAS 28 does not mandate use of the expanded equity method, although it notes in its disclosure requirements that the investor's share of extraordinary and prior period items should be noted. Although Chapter 14 - Leases the standard is silent on separate reporting on the face of the financial statements themselves, the Chapter 15 - I ncom e Taxes authors are of the opinion that, to the extent that certain items would be a material part of the investor's Chapter 16 - Em ploy ee Benefit s income statement and thus have the potential to mislead users of those financial statements, it would Chapter 17 - and Stock holder s' Equit ywith the spirit of IAS 28 to report these separately. For example, if the be prudent fully consistent Chapter 18reports - Earnings Per Share investee a correction of a fundamental error according to IAS 8, or an extraordinary gain or Chapter 19 - I nterim Financial ting loss, it would be distortive to Repor include the investor's share of these in equity in earnings of investee Chapter - Segm that ent Repor without20 signaling theseting are not normal, recurring items of income or loss. Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 21 - Accounting Changes and Cor rection of Er ror s

The solution, ofeign course, is to include the investor's share of these items with similar items in the Chapter 22 - For Curr ency

investor's That is, the expanded equity method concept should be applied, Chapter 23 financial - Related-statements. Part y Disclosures

judiciously, to the investor's income statement. This would not extend, however, to separate reporting of any items of operating income or expense (gross sales, salaries, depreciation, etc.).

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation

Chapter 26 of - Gov er nm ent Gr anseparately ts Example accounting for reportable items Appendix A - Di sclosure Checklist Appendix - I llustrativ Financial St atem s Pr Under I AS Assume Bthat both an eextraordinary itement and a esent prior ed period adjustment reported in an investee's income Appendix and retained C - Com earnings parisonstatements of I AS, US are GAAP, individually and UK GAAP considered material from the investor's viewpoint. I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

Investee's income statement: $ 80,000

Income before W ile y extraordinary I AS 2 0 03 : I nitem t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

(18,000)

Extraordinary earthquake (net ISBN:0471227366 by Barloss r y J.from Epstein and Abbas Aliof taxes of $ 12,000) Mir za

$ 62,000

Net income John Wi ley & Sons © 2003 (952 pages) Investee's retained Thisearnings com pact statement: and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

$250,000

in January the prepar ion and standing of financial Retainedassistance earnings at 1,at2003, as under originally reported statements present ed in accordance with I AS.

Add prior period adjustment—correction of an error made in 2002 (net of taxes of $10,000)

20,000

T ab le of Con t en t s

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

$270,000

Retained earnings at January 1, 2003, as restated

Preface Chapter 1 - I ntr oduction Accounting Standar dsinvestee, the investor would make the If an investor owned 30%toofI nter the national voting common stock of this Chapter 2 Balance Sheet following journal entries in 2003: Chapter 3

1.

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

of Recognized Gains and Losses Investment in investee company

Chapter 4

24,000

- Cash Flow St at em ent

24,000

Chapter 5Equity - Financial in investee I nstr uments—Cash income beforeand extraordinary Receiv ablesitem ($80,000 × Chapter 630%) - I nventor y Chapter - Revin enue Recogni tion, I ncluding 2. 7Equity investee extraordinary lossConstr uction Contr act s Chapter 8

5,400

- Property , Plant , and Equipment

5,400

in investee Chapter 9Investment - I ntangi ble Asset s company ($180,000 × 30%) I nterestsinininvestee Financialcompany Instr um ent s, Associat es, Joint Ventur es, and 3. 10 Investment Chapter I nvestm ent Pr oper ty Chapter 11 - Business Combinations and adjustment Consolidat ed Fin ancial×Statements Equity in investee prior period ($20,000 30%) Chapter 12 -

6,000 6,000

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Sheet Date The equity inBalance the investee's prior period adjustment should be reported on the investor's retained Chapter 13 Financial I nstrthe uments—Longm Debt earnings statement, and equity in theTer extraordinary loss should be reported separately in the Chapter 14 Leases appropriate section on the investor's income statement. Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s

Intercompany transactions Chapter 17 - Stock holder s' Equit y

between investor and investee.

Chapter 18 - Earnings Per Share

Transactions between the investor and the investee may require that the investor make certain adjustments when it records its share of the investee earnings. According to the realization concept, Chapter 20 - Segm ent Repor ting profits can be recognized by an entity only when realized through a sale to outside (unrelated) parties in Chapter 21 - Accounting Changes and Cor rection of Er ror s arm's-length transactions (sales and purchases) between the investor and investee. Similar problems Chapter 22 - For eign Curr ency can arise when sales of fixed assets between the parties occur. In all cases, there is no need for any Chapter 23 - Related- Part y Disclosures adjustment when the transfers are made at book value (i.e., without either party recognizing a profit or Chapter 24 separate - Specialized I ndustr ies loss in its accounting records). Chapter 19 - I nterim Financial Repor ting

Chapter 25 - I nflation and Hyperinflation

In preparing consolidated statements, all intercompany (parent-subsidiary) transactions are Chapter 26 - Gov er nm ent Grfinancial an ts eliminated. the equity method is used to account for investments, only the profit Appendix A - However, Di sclosurewhen Checklist component intercompany (investor-investee) transactions is eliminated. This is because the equity Appendix B - I of llustrativ e Financial St atem ent s Pr esent ed Under I AS method does notparison result in all UK income Appendix C - Com of the I AS,combining US GAAP, of and GAAPstatement accounts (such as sales and cost of sales) and therefore will not cause the financial statements to contain redundancies. In contrast, I ndex consolidated statements would include redundancies if the gross amounts of all intercompany transactions were not eliminated.

List of Tables

List of Ex hibits and Ex am ples

List Sidebar s explicit regarding the percentage of unrealized profits on investor-investee transactions IASof28 was not

that were to be eliminated. Logical arguments can be made either to eliminate 100% of intercompany profits not realized through a subsequent transaction with unrelated third parties, that would follow the model of consolidated financial statements, or to eliminate only the percentage held by the investor. In SIC 3, the Standing Interpretations Committee has held that when applying the equity method, unrealized profits should be eliminated for both "upstream" and "downstream" transactions (i.e., sales from investee to investor, and from investor to investee) to the extent of the investor's interest in the investee. This proportional method is set forth in IAS 31, dealing with joint ventures, which does

address this issue. The logic is that in an investor-investee situation, the investor does not have control (as would be the case with a subsidiary), and thus the nonowned percentage is effectively realized through an arm's-length joint ventures, prescribes proportionate consolidation, W ile y Itransaction. AS 2 0 03 : I nFor t erp re t at ion an d IAS Ap p31 licat io n o f which implies likewise that profits on intercompany transactions be eliminated only to the extent of the I n t er n at ion al Accou n t in g St an d ar ds investor's interestbyinBar ther yventure. However, to the extent that losses are indicative of impairment in the ISBN:0471227366 J. Epstein and Abbas Ali Mir za the rule that profit elimination be limited to the investor's ownership percentage value of the investment, would not apply. John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence

Example of accounting intercompany pr esent sfor account ants with a transactions guide to depend on for

assistance in the prepar at ion and under standing of financial present ed in the accordance I AS. and also assume that Elixir Company Continue with thestatements same information from previouswith example sold inventory to Regency Corporation in 2004 for $2,000 above Elixir's cost. Thirty percent of this T ab le of Con t en t s inventory remains unsold by Regency at the end of 2004. Elixir's net income for 2004, including the Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing gross profit on the inventory sold to Regency, is $20,000; Elixir's income tax rate is 34%. Regency Standar ds should make the following journal entries for 2004 (ignoring deferred taxes): Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

1. 2Investment Elixir Chapter - Balance in Sheet

8,000

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent 8,000 Chapter 3Equity in Elixir income ($20,000 x 40%) of Recognized Gains and Losses

2. 4Equity in Flow Elixir St income (amortization of Chapter - Cash at em ent

3,600

Chapter 5differential) - Financial I nstr uments—Cash and Receiv ables Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

3,600

Investment in Elixir

3. 8Equity in Elixir income Chapter - Property , Plant , and Equipment Chapter 9

158

- I ntangi ble Asset s

Investment in Elixir ($2,000 x 30% x 66% x 40%)

Chapter 10 -

158

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

The amount in the last entry needs further elaboration. Since 30% of the inventory remains unsold, only $600 of the intercompany profit is unrealized at year-end. This profit, net of income taxes, is $396. Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 -share of this profit ($158) is included in the first ($8,000) entry recorded. Accordingly, the Regency's Balance Sheet Date third entry is needed to adjust or correct the equity in the reported net income of the investee. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 14 - entries Leases for intercompany profits in fixed assets are similar to those in the examples above. Eliminating Chapter 15 I ncom e Taxes However, intercompany profit is realized only as the assets are depreciated by the purchasing entity. In Chapter 16 - Em ploy ee Benefit s or sells fixed assets from or to an investee at a price above book value, other words, if an investor buys Chapter - Stock holder s' Equit ypiecemeal over the asset's remaining depreciable life. Accordingly, in the gain17would only be realized Chapter the year18of- sale Earnings the pro Perrata Share share (based on the investor's percentage ownership interest in the

investee, of whether theting sale is upstream or downstream) of the unrealized portion of the Chapter 19 regardless - I nterim Financial Repor intercompany profit Chapter 20 - Segm entwould Reporhave ting to be eliminated. In each subsequent year during the asset's life, the pro rata21share of the gain realized in Cor therection period of would Chapter - Accounting Changes and Er rorbe s added to income from the investee. Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures

Example of eliminating intercompany profit on fixed assets

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation

Assume that Radnor Co., that owns 25% of Empanada Co., sold to Empanada a fixed asset having a

Chapter 26remaining - Gov er nmlife, ent at Graangain ts of $100,000. Radnor Co. expects to remain in the 34% marginal tax five-year Appendix A Di sclosure Checklist bracket. The sale occurred at the end of 2002; Empanada Co. will use straight-line depreciation to Appendix - I llustrativ e Financial St 2003 atem ent s Pr esent ed Under I AS amortizeBthe asset over the years through 2007. Appendix C - Com parison of I AS, US GAAP, and UK GAAP

The entries related to the foregoing are I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

2002: 1.

Gain on sale W ileof y Ifixed AS 2 0 03 : I n t25,000 erp re t at ion an d Ap p licat io n o f asset I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali25,000

Deferred Mir gain za

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages) To defer the unrealized portion of the gain

2.

This com pact and t ruly com pr ehensive qui ck - refer ence

Deferred pr tax benefit 8,500 esent s account ants with a guide to depend on for assistance in the prepar at ion and 8,500 under standing of financial Income tax expense statements present ed in accordance with I AS.

effect T abTax le of Con tof engain t s deferral Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Alternatively, the 2002 events could have been reported by this single entry. Standar ds Preface

Equity1in Empanada income 16,500 Chapter - I ntr oduction to I nter national Accounting Standar ds - Balance Sheet 16,500 Investment in Empanada I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3Co. Chapter 2

of Recognized Gains and Losses

Chapter 4

- Cash Flow St at em ent

2003 through 2007 I(each year): Chapter 5 - Financial nstr uments—Cash and Receiv ables Chapter - I nventor y 1. 6Deferred gain Chapter 7

5,000

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

on sale, of fixed Chapter 8Gain - Property Plant , and Equipment

5,000

Chapter 9assets - I ntangi ble Asset s I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and To amortize Chapter 10 - deferred gain I nvestm ent Pr oper ty

2. 11 Income tax expense 1,700 Chapter - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont1,700 ingencies, and Ev ents after t he Chapter 12 Deferred tax benefit Balance Sheet Date Chapter Tax effect 13 - of Financial gain realization I nstr uments—Long- Ter m Debt Chapter 14 - Leases

The alternative treatment Chapter 15 - I ncom e Taxes would be Chapter 16 - Em ploy ee Benefit s

Investment in Empanada Co. y Chapter 17 - Stock holder s' Equit

3,300

Chapter 18 - Earnings Per Share

Equity in Empanada income

3,300

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor paid rection Er ror s Co. (34% x $25,000 taxable gain on the In the example above, the tax currently by of Radnor Chapter 22 - For eign Curr ency transaction) is recorded as a deferred tax benefit in 2002 since taxes will not be due on the book gain Chapter 23 - in RelatedPart y2003 Disclosures recognized the years through 2007. Under provisions of IAS 12, deferred tax benefits should be Chapter 24 to - Specialized I ndustr ies of all deductible timing differences. Unless Radnor Co. could recorded reflect the tax effects

demonstrate that future amounts arising from existing temporary differences exist, this deferred Chapter 25 - I nflation andtaxable Hyperinflation tax benefit an equivalent valuation allowance in Radnor Co.'s balance sheet at yearChapter 26 -might Gov erbe nmoffset ent Grby an ts end 2002, of the doubt that it will ever be realized. Thus, the deferred tax benefit might not be Appendix A -because Di sclosure Checklist recognizable, net of the valuationStallowance, financial reporting purposes unless other temporary Appendix B - I llustrativ e Financial atem ent s Prfor esent ed Under I AS

differences the example future taxable amounts to offset the net deductible Appendix C - not Comspecified parison ofinI AS, US GAAP,provided and UK GAAP effect of the deferred gain.

I ndex

List of Tables List ofNote Ex hibits Theand deferred Ex am ples tax impact of an item of income for book purposes in excess of tax is the same

as sa deduction for tax purposes in excess of book. List of Sidebar This is discussed more fully in Chapter 15.

Accounting for a partial sale or additional purchase of the equity investment. This section covers the accounting issues that arise when the investor either sells some or all of its equity or acquires additional equity in the investee. The consequence of these actions could involve

discontinuation of the equity method of accounting, or resumption of the use of that method. Example of accounting for a discontinuance of the equity method

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Assume that Plato Corp. owns 10,000 shares (30%) of Xenia Co. common stock for which it paid ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali $250,000 ten years On July 1, 2003, Plato sells 5,000 Xenia shares for $375,000. The balance in Mir ago. za the Investment inJohn Xenia January 1, 2003, was $600,000. Assume that all the original WiCo. ley &account Sons © at 2003 (952 pages) differential between cost and book value has been amortized. To calculate the gain (loss) on this sale This com pact and t ruly com pr ehensive qui ck - refer ence of 5,000 shares, itpris necessary first to with adjust the investment esent s account ants a guide to depend account on for so that it is current as of the date of sale. Assumingassistance that the investee had net of $100,000 forfinancial the six months ended June 30, in the prepar at ionincome and under standing of present in accordance 2003, the investorstatements should record theed following entries:with I AS. T ab le of Con t en t s

Xenia Co. 30,000 Account ing Wiley1. I AS Investment 20 03—Int erin pretation and Application of I nternational Standar ds 30,000 Preface

Equity in Xenia income ($100,000 x 30%)

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

2. 2Income tax expense Chapter - Balance Sheet

2,040

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent 2,040 Chapter 3Deferred tax liability ($30,000 x 20% x of Recognized Gains and Losses Chapter 434%) - Cash Flow St at em ent Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

The gain on sale can now be computed, as follows: Proceeds on sale of 5,000 shares

$375,000

Book value of the ble 5,000 shares ($630,000 x 50%) Chapter 9 - I ntangi Asset s

315,000

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Gain from $ 60,000 Chapter 10 - sale of Xenia common I nvestm ent Pr oper ty Chapter 11 - Business Combinations and ancialthe Statements Two entries will be needed to reflect theConsolidat sale: oneedtoFin record proceeds, the reduction in the Curr ent Liabilit ies,gain Prov(or isions, Cont ingencies, and Evthe entstax after t he thereof. Recall that the investment account, and the loss); the other to record effects Chapter 12 Balance Sheet Date

investor must have computed the deferred tax effect of the undistributed earnings of the investee that it

Chapter 13 - Financial I nstron uments—LongTerthose m Debt had recorded each year, the basis that earnings either would eventually be paid as dividends Chapter 14 Leases or would be realized as capital gains. When those dividends are ultimately received or when the Chapter 15 - is I ncom e Taxes investment disposed of, the deferred tax liability recorded previously must be amortized. Chapter 16 - Em ploy ee Benefit s

To illustrate, assume that the investor in this example, Plato Corp., provided deferred taxes at an Chapter 17 - Stock holder s' Equit y effective for dividends (considering the assumed 80% exclusion of intercorporate dividends) of Chapter 18rate - Earnings Per Share 6.8%. The gain willting be taxed at an assumed 34%. For tax purposes, this gain is Chapter 19 -realized I nterim capital Financial Repor

computed as $375,000 - $125,000 = $250,000, giving a tax effect of $85,000. For accounting purposes, the deferred taxes already provided are 6.8% x ($315,000 - $125,000), or $12,920. Accordingly, an Chapter 21 - Accounting Changes and Cor rection of Er ror s additional tax expense of $72,080 is incurred on the sale, due to the fact that an additional gain was Chapter 22 - For eign Curr ency realized for book purposes ($375,000 - $315,000 = $60,000; tax at 34% = $20,400) and that the tax Chapter 23 - Related- Part y Disclosures previously provided for at dividend income rates was lower than the real capital gains rate [$190,000 x Chapter 24 - Specialized I ndustr ies (34% - 6.8%) = $51,680 extra tax due]. The entries are as follows: Chapter 20 - Segm ent Repor ting

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

1.

Cash

Appendix A - Di sclosure Checklist

375,000

315,000 Appendix Investment B - I llustrativ Financial Under I AS ineXenia Co.St atem ent s Pr esent ed Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Gain on sale of Xenia Co. stock List of Tables List of2.Ex hibits Deferred and tax Ex am liability ples

60,000

I ndex

List of Sidebar s

Income tax expense Taxes payable—current

12,920 72,080 85,000

The gains (losses) from sales of investee stock are reported on the investor's income statement in the other income and expense section, assuming that a multistep income statement is presented. According to IAS 28, an investor should discontinue use of the equity method when (1) it ceases to

have significant influence in an associate while retaining some or all of its investment, or (2) the use of the equity method is no longer deemed to be appropriate because the associate is operating under severe and long-lasting willrelimit its an ability transfer to the investor entity. W ile y Irestrictions AS 2 0 03 : Ithat n t erp t at ion d Aptop licat io n funds of I n t er n at ion al Accou n t in g St an d ar ds

In the foregoing example, the sale of stock reduced the percentage of the investee owned by the ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali investor to 15%. In Mirazasituation such as this, discontinuation of the equity method is generally prescribed, although is ley not&inconceivable that significant influence can still be demonstrated at that JohnitWi Sons © 2003 (952 pages) ownership level, which would require continued application of equity method accounting. This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

The balance in the investment account theand dateunder the equity method is suspended ($315,000 in the assistance in the preparon at ion standing of financial example) continues as an asset, butedit then becomeswith subject statements present in accordance I AS.to the IAS 39 requirement that it be accounted for at fair value. Passive equity investments are classified as either held-for-trading or T ab le of Con t en t s available-for-sale; in this fact situation, categorization as available-for-sale is most likely. Under IAS 39, Wiley I AS 20 er pretation and Application of I nternational Accounteither ing in earnings or directly in changes in 03—Int fair value of available-for-sale investments are reported Standar ds equity, depending on the election made by the reporting entity upon first adoption. For purposes of this Preface example, assume election of reporting changes in the fair value of available-for-sale investments will be Chapter 1 - I ntr oduction to I nter national Accounting Standar ds shown in equity. Chapter 2

- Balance Sheet

The change Iin ncom ownership e Statement, precipitates Stat em a ent change of Chan inges accounting in Equit y,principle and Statem froment equity method to fair value. Recognized Gains and Losses of a cumulative effect or any retroactive disclosures in the This changeofdoes not require computation Chapter 4 financial - Cash Flow St at em entIn periods subsequent to this change, the investor records cash investor's statements. Chapter 5 received - Financial I nstr uments—Cash anddividend Receiv ables dividends from the investment as revenue. Any dividends received in excess of the Chapter investor's 6 share - I nventor of post-disposal-date y earnings of the investee (which are unlikely) should be credited to the investment account rather to income, theyContr would a return of capital, rather than Chapter 7 - Rev enue Recogni tion, than I ncluding Constras uction actrepresent s income.8 - Property , Plant , and Equipment Chapter Chapter 3

Chapter 9

- I ntangi ble Asset s

An entity may hold an investment in another enterprise's common stock that is below the level that I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - a presumption of significant influence, which it later increases so that the threshold for would create I nvestm ent Pr oper ty application of the equity method is exceeded. The guidance of IAS 28 would suggest that when the Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements equity method is first applied, the difference between the carrying value of the investment and the fair Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter - underlying net identifiable assets must be computed (as described earlier in the chapter). value of12the Balance Sheet Date Even though IAS 39'sI nstr fair uments—Longvalue provisions being applied, there will likely be a difference between Chapter 13 - Financial Terwere m Debt the fair value of the passive investment (gauged by market prices for publicly-traded securities) and the Chapter 14 - Leases fair value of the investee's underlying net assets (which are driven by the ability to generate cash flows, Chapter 15 - I ncom e Taxes etc.). Thus, when the equity method accounting threshold is first exceeded for a formerly passively held Chapter 16 - Em ploy ee Benefit s investment, determination of the "goodwill-like" component of the investment will typically be necessary. Chapter 17 - Stock holder s' Equit y

Chapter 18 of - Earnings Per Share Example accounting for a return to the equity method of accounting Chapter 19 - I nterim Financial Repor ting

Continuing same example, Chapter 20 - the Segm ent Repor ting Xenia Co. reported earnings for the second half of 2003 and all of 2004, respectively, of $150,000 and $350,000; Xenia of paid dividends of $100,000 and $150,000 in December Chapter 21 - Accounting Changes and Cor rection Er ror s of those22years. During the period from July 2003 through December 2004, Plato Corp. accounted for its Chapter - For eign Curr ency investment Xenia Part Co. yasDisclosures an investment in marketable securities, at fair value, with changes in Chapter 23 - in Related-

carrying24value being reflected in equity. At December 31, 2003, the fair value of Plato's holding Chapter - Specialized I ndustrdirectly ies of Xenia's stock is assessed at $335,000; at December 31, 2004, the fair value is $365,000.

Chapter 25 - I nflation and Hyperinflation

Chapter 26 - 2005. Gov erthe nm ent Gr an ts purchased 10,000 Xenia shares in the open market for $700,000, In January Plato Corp. Appendix A Di sclosure Checklist thereby increasing its ownership share to 45% and necessitating a return to equity method accounting. Appendix B - I llustrativ e Financial ent s Pr esent ed Under Inet AS assets of Xenia at this date is The fair value of Plato's interest St in atem the underlying identifiable Appendix C Com parison of I AS, US GAAP, and UK GAAP $1,000,000. The relevant entries are as follows: I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

1.

Cash

15,000 15,000

Income from W ileXenia y I AS dividends 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

To report dividends paid in 2003

by Bar r y J. Epstein and Abbas Ali

2.

ISBN:0471227366

Mir in za Xenia Corp. Investment

20,000

John Wi ley & Sons © 2003 (952 pages)

20,000

Unrealized gain available-for-sale This comon pact and t ruly com prinvestment ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for To reflect increased value of investment

assistance in the prepar at ion and under standing of financial

3.

statements Income tax expense present ed in accordance with I AS.

1,020

T abUnrealized le of Con t en gain t s on available-for-sale investment

6,800

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar dsTaxes payable—current

1,020

Preface

6,800

Taxes payable—deferred

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

To record on Sheet dividends at current effective tax rate [$15,000 × .068] and deferred taxes on Chapter 2 - taxed Balance value increase [$20,000 × .34] Stat in 2003 I ncom e Statement, em ent of Chan ges in Equit y, and Statem ent -

Chapter 3

4.

of Recognized Gains and Losses

Cash

Chapter 4

- Cash Flow St at em ent

22,500 22,500

Chapter 5Income - Financial nstr uments—Cash from IXenia dividends and Receiv ables Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

To report dividends paid in 2004

5. 8Investment Xenia Corp. Chapter - Propertyin , Plant , and Equipment Chapter 9

30,000 30,000

- I ntangi ble Asset s

Unrealized gain on available-for-sale investment

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and To reflect increased I nvestm ent value Pr oper of investment ty

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

6.

Income tax expense

1,530

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Unrealized Balance gain on Sheet available-for-sale investment 10,200 Date

Chapter 12 -

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

1,530

Taxes payable—current

Chapter 14 - Leases

10,200

Chapter 15 - I ncom e Taxes Taxes payable—deferred Chapter 16 - Em ploy ee Benefit s

To record taxes on dividends at current effective tax rate [$22,500 × .068] and deferred taxes on value increase [$30,000 × .34] in 2004

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

7. 19 Investment in Xeniu Co. Chapter - I nterim Financial Repor ting

700,000

Chapter 20 - Segm ent Repor ting

700,000

Cash

Chapter 21 - Accounting Changes and Cor rection of Er ror s

To record investment in Xenia Chapter 22 - additional For eign Curr ency Chapter - Related-gain Part yon Disclosures 8. 23 Unrealized available-for-sale investment Chapter 24 - Specialized I ndustr ies

Income fromand investment Chapter 25 - I nflation Hyperinflation

33,000 33,000

Chapter 26 - Gov er nm an tsbelow See explanation for ent this Gr entry Appendix A - Di sclosure Checklist Appendix The explanation B - I llustrativ for the e Financial last entryStabove atem ent is sasPrfollows. esent ed IAS Under 28I does AS not suggest that a return to the

previously equity would in a restatement of the investment account and the Appendix C -discontinued Com parison of I AS, method US GAAP, and result UK GAAP additional equity and retained earnings accounts to "catch up" to what the balances would have been I ndex hadofthat not taken place. Accordingly, the authors believe that the new cost basis of the investment at List Tables theoftime the equity List Ex hibits and Exmethod am ples is reestablished should be the adjusted carrying amount immediately prior thereto. In the List of Sidebar s present example, the carrying amount was as follows:

Balance 6/30/03 Adjust to fair value 12/03

$ 315,000 20,000

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds Adjust to fair value 12/04 30,000 ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Balance, 12/04 Mir za $ 365,000 John Wi1/05 ley & Sons700,000 © 2003 (952 pages) Additional investment, This com pact and t ruly com pr ehensive qui ck - refer ence

Carrying value, 1/05 $1,065,000 pr esent s account ants with a guide to depend on for

assistance in the prepar at ion and under standing of financial

The difference between the new cost $1,065,000, statements present edbasis, in accordance with and I AS.Plato's equity in Xenia's net identifiable assets, ($1,065,000 - $1,000,000 =) $65,000, would be treated similar to goodwill and amortized T ab le of Con t en t s (generally over a maximum of twenty years), as illustrated earlier in this chapter. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar dsnot be appropriate to carry forward the amount reflected in the additional equity account, It would Preface $33,000, since the investment is no longer to be accounted for under IAS 39. Accordingly, in the Chapter - I ntr oduction to I nter ds authors'1 opinion, this should be national reportedAccounting as current Standar period earnings, analogous to how the disposition Chapter 2 Balance Sheet of any other available-for-sale investment would be accounted for (where the unrealized gain or loss

had been reported I ncom ein Statement, equity, notStat in earnings em ent of during Chan ges theinholding Equit y, period). and Statem Theent income will have been of Recognized Gains andofLosses realized by adoption or readoption the equity method. Note that the $33,000 balance is the net of the Chapter 4 - $50,000 Cash Flow St at emrevaluation ent cumulative upward recognized in 2003 and 2004, and the $17,000 tax provision, at Chapter I nstr uments—Cash and to Receiv ables which was expected to pertain to the ultimate capital 5gain- Financial rates (assumed in this example be 34%), Chapter 6 -ofI nventor y increase. If, at the time the equity method is resumed, the effective tax rate is realization this value expected differ from that used computeConstr deferred taxes earlier Chapter 7 to - Rev enue Recogni tion, to I ncluding uction Contr act s (e.g., due to the effect of the significant investee's dividend decisions), then there would be a need for an Chapter 8 -influence Property ,over Plantthe , and Equipment adjustment the deferred Chapter 9 - to I ntangi ble Assettax s provision. Chapter 3

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - the latter point, assume that Plato now expects to realize all its income from Xenia in the To illustrate I nvestm ent Pr oper ty

form of dividends, to be taxed at an effective rate of 6.8%. The entry to adjust the deferred tax liability would be

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Taxes13 payable—deferred 13,600 Chapter - Financial I nstr uments—LongTer m Debt Chapter 14 - Leases

13,600

Tax expense

Chapter 15 - I ncom e Taxes

To record to deferred taxes Chapter 16 - adjustment Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y

Note that the offset to the deferred tax adjustment is to current period (i.e., 2005) tax expense, under the rules of IAS 12, as described more fully in Chapter 15.

Chapter 18 - Earnings Per Share

Chapter 19 - I nterim Financial Repor ting

Chapter 20 - Segm ent Repor ting the additional equity account to earnings, since the resumption of The foregoing illustration adjusts Chapter 21 - Accounting Changes and of Erevent ror s of that period, similar to an outright sale of the equity method accounting is seen asCor an rection economic Chapter 22 - For eign Curr ency investment. However, IAS 28 is silent on this matter and an argument could perhaps be made that this Chapter 23 - should RelatedPart y Disclosures adjustment be made to retained earnings directly, in effect as an adjustment to prior periods' Chapter earnings. 24 This - Specialized is the accounting I ndustr iesprescribed under US GAAP. Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Investor for Appendix A - accounting Di sclosure Checklist

investee capital transactions.

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Investor accounting for investee capital transactions that affect the worth of the investor's investment is not addressed by IAS 28. However, given that ultimately the effect of using equity method accounting is I ndex intended to mirror full consolidation, it is logical that investee transactions of a capital nature, which List of Tables affect the investor's share of the investee's stockholders' equity, should be accounted for as if the List of Ex hibits and Ex am ples investee were a consolidated subsidiary. These transactions principally include situations where the List of Sidebar s investee purchases treasury stock from, or sells unissued shares or shares held in the treasury to, outside shareholders (i.e., owners other than the reporting entity). (Note that, if the investor participates in these transactions on a pro rata basis, its percentage ownership will not change and no special accounting would be necessary.) Similar results will be obtained when holders of outstanding options or convertible securities acquire additional investee common shares via exercise or conversion. Appendix C - Com parison of I AS, US GAAP, and UK GAAP

When the investee engages in one of the foregoing capital transactions, the investor's ownership percentage will be altered. This gives rise to a gain or loss, depending on whether the price paid (for treasury shares acquired) or received (for shares issued) is greater or lesser than the per share

carrying value of the investor's interest in the investee. However, since no gain or loss can be recognized on capital transactions, these purchases or sales will be reflected in paid-in capital and/or retained earningsWdirectly, without reported through investor's ile y I AS 2 0 03 :being I n t erp re t at ion an d Apthe p licat io n o f income statement. This method is consistent withI the treatment that would be accorded to a consolidated subsidiary's capital n t er n at ion al Accou n t in g St an d ar ds transactions. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za

Example of accounting for&an investee capital transaction John Wi ley Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence

Assume that Roger Corp. purchases, 1/2/03, 25% (2,000 shares) pr esent s account ants on with a guide to depend on for of Energetic Corp.'s outstanding shares for $80,000. The cost equal to at both fair values of Roger's interest in Energetic's assistance in is the prepar ion the and book underand standing of financial statements present ed differential in accordance with I AS. underlying net assets (i.e., there is no to be accounted for as goodwill). One week later, Energetic Corp. acquires 1,000 shares of its stock from other shareholders, in a treasury stock T ab le of Con t en t s transaction, for $50,000. Since the price paid ($50/share) exceeded Roger Corp.'s per share carrying Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing value of Standar ds its interest, ($80,000 ÷ 2,000 shares =) $40, Roger Corp. has in fact suffered economic harm by this transaction. Also, Roger's percentage ownership of Energetic Corp. has increased, because the Preface number of shares held by third parties, and total shares outstanding, have been reduced. Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2 - Balance Sheet in Energetic's net assets is Roger Corp.'s new interest I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of Recognized Gains and Losses Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y The interest held by Roger Corp. thus been diminished byact $80,000 - $77,143 = $2,857. Therefore, Chapter 7 - Rev enue Recogni tion, has I ncluding Constr uction Contr s

Roger Corp. should make the following entry: - Property , Plant , and Equipment

Chapter 8 Chapter 9

- I ntangi ble Asset s

Paid-in capital (or retained earnings) 2,857 I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty 2,857 Investment in Energetic Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Corp.

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Roger Corp. should charge the loss against paid-in capital only if paid-in capital from past transactions of a similar nature exists; otherwise, the debit must be made to retained earnings. Had the transaction Chapter 14 - Leases given rise to a gain, it would have been credited to paid-in capital only (never to retained earnings) Chapter 15 - I ncom e Taxes following the accounting principle that transactions in one's own shares cannot produce reportable Chapter 16 - Em ploy ee Benefit s earnings. Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 17 - Stock holder s' Equit y

Note that amountPer of the charge to paid-in capital (or retained earnings) in the entry above can be Chapter 18 the - Earnings Share verified19 as -follows: Corp.'s Chapter I nterim Roger Financial Reporshare ting of the posttransaction net equity (2/7) times the excess price paid to 20 outside interests ($50 Chapter - Segm ent Repor ting- $40 = $10) times the number of shares purchased = 2/7 x $10 x 1,000 = $2,857.21 - Accounting Changes and Cor rection of Er ror s Chapter Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures

Other than temporary impairment in value of equity method investments.

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation

IAS 28 provides that if there is a decline in value of an investment accounted for by the equity method

Chapter - Gov er nmto entbeGr"other an ts than temporary" in nature, the carrying value of the investment should which is26determined Appendix A Di sclosure Checklist be adjusted downward. This criterion must be applied on an individual investment basis. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of Iof AS,IAS US GAAP, Other requirements 28. and UK GAAP I ndex

Theofstandard List Tables requires that there be disclosure of the percentage of ownership that is held by the

investor in each List of Ex hibits andinvestment Ex am ples and, if it differs, the percentage of voting rights that are controlled. The method of accounting that is being applied to each significant investment should also be identified.

List of Sidebar s

In addition, there may have been certain assumptions or adjustments made in developing information so that the equity method was applied. For example, the investee may have used different accounting principles than the investor, for which the investor made allowances in determining its share of the investee's operating results. The reported results of an investee that used LIFO inventory accounting, for instance, may have been adjusted by the investor to conform to its FIFO costing method. Also, the investee's fiscal year may have differed from the investor's, and the investor may have converted this to its fiscal year by adding and subtracting stub period data. In any such case, if the impact is material, the

fact of having made these adjustments should be disclosed, although it would be unusual to report the actual amount of such adjustments to users of the investor's financial statements. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

If an associate has outstanding cumulative preferred stock, held by interests other than the investor, I n t er n at ion al Accou n t in g St an d ar ds the investor should compute its equity interest in the investee'sISBN:0471227366 earnings after deducting dividends due by Bar r y J. Epstein and Abbas Ali to the preferred shareholders, whether or not declared. If material, this should be explained in the Mir za investor's financial statements. John Wi ley & Sons © 2003 (952 pages) com pact and t ruly com pr ehensive qui ck - refer ence When, due to theThis investor's recognition of recurring investee losses, the carrying value of the equity pr esent s account ants with a guide to depend on for method investment has been toatzero, normally the investor will not recognize any share of assistance in reduced the prepar ion and under standing of financial further investee losses. If an present investoredceases recognition its share of losses of an investee, SIC 20 statements in accordance with of I AS. requires that disclosure be made in the notes to the financial statements of the unrecognized share of T ab le of Con t en t s losses, both incurred during the current reporting period and cumulatively to date. The reason for the Wiley I AS 20of 03—Int er pretation and Application nternational ingof the amount of future investee disclosure cumulative unrecognized lossesofisI that this is a Account measure Standar ds earnings that will have to be realized before any further income will be reported in earnings by the Preface investor. Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2 certain - Balance Sheet There are exceptions to this rule. If the investor has incurred obligations or made payments on behalf of the associate to satisfy obligations theges associate theStatem investor I ncom e Statement, Stat em ent of of Chan in Equit that y, and ent has guaranteed or to Chapter 3 of Recognized Gains and Losses which it is otherwise committed, whether funded or not, it should record further losses up to the amount Chapter 4 - Cash or Flow St atcommitment. em ent of the guarantee other Chapter 5

- Financial I nstr uments—Cash and Receiv ables There are common situations in which this occurs. For example, in the case of some closely held Chapter 6 many - I nventor y

companies negotiates banking Constr facilities (both funded Chapter 7 - the Revinvestor enue Recogni tion, I ncluding uction Contr act s and unfunded) on the basis of the

financial strength of the entire controlled group, not solely on the basis of the financial condition of the - Property , Plant , and Equipment investee utilizing the borrowed funds. Where the investor has participated in the lending arrangements, Chapter 9 - I ntangi ble Asset s even if its commitment is only moral, rather than contractual, it should be assumed that it will suffer I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 losses beyond the nominal limit I nvestm ent Pr oper ty of its actual investment in the investee's shares, should that be necessary. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 8

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balance Sheet DateVoting Interests on Application of Equity Impact of Potential Chapter 13 - Financial I nstr uments—Long- Ter m Debt Method Accounting for Investments in Associates Chapter 14 - Leases Chapter 15 - Iactual ncom evoting Taxes interests in equity method investees has been the criterion used to determine Historically, Chapter 16 Em ploy ee Benefit s for investees is to be employed; and (2) what percentage to apply in (1) if equity method accounting Chapter 17 - Stock holder s' Equit y equity method investee's earnings to be included in the earnings of the determining the allocation of the Chapter 18 - Earnings Per However, Share equity method investor. the SIC has now addressed the situation in which the equity method Chapter investor19has, - I nterim in addition Financial to itsRepor actual ting voting shareholder interest, a further potential voting interest in the

investee. Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

The potential interest may exist in the form of options, warrants, convertible shares, or a contractual arrangement to acquire additional shares, including shares that it may have sold to another shareholder Chapter 23 - Related- Part y Disclosures in the investee or to another party, with a right or contractual arrangement to reacquire the shares Chapter 24 - Specialized I ndustr ies transferred. Chapter 22 - For eign Curr ency

Chapter 25 - I nflation and Hyperinflation

Chapter 26 - Gov er nm ent Gr an ts As to whether the potential shares should be considered in reaching a decision as to whether Appendix A -influence Di sclosure significant is Checklist present, and thus whether reporting entity is to be regarded as the equity

method investor and should therefore equity accounting, SIC 33 holds that this is indeed Appendix B - I llustrativ e Financial St atemapply ent s Pr esentmethod ed Under I AS a factor to It has concluded that the existence and effect of potential voting rights that are Appendix C -weigh. Com parison of I AS, US GAAP, and UK GAAP presently exercisable or presently convertible should be considered, in addition to the other factors set I ndex forth IAS 28, when assessing whether an enterprise significantly influences another enterprise. All List of in Tables

potential voting rights List of Ex hibits and Ex amshould ples be considered, including potential voting rights held by other enterprises (which would counter the impact of the reporting entity's potential voting interest).

List of Sidebar s

For example, an entity holding a 15% voting interest in another entity, but having options, not counterbalanced by options held by another party, to acquire another 15% voting interest, would thus effectively have a 30% current and potential voting interest, making use of the equity method of accounting for the investment required, under the provisions of SIC 33. Regarding whether the potential share interest should be considered when determining what fraction of the investee's income should be allocated to the investor, the general answer is no. SIC 33 states that the proportion allocated to an investor that accounts for its investment using the equity method under

IAS 28 should be determined based solely on present ownership interests. However, the enterprise may, in substance, have a present ownership interest when it sells and W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f simultaneously agrees to repurchase some of the voting shares it had held in the investee, but does not I n t er n at ion al Accou n t in g St an d ar ds lose control of access to economic benefits associated with anISBN:0471227366 ownership interest. In this circumstance, by Bar r y J. Epstein and Abbas Ali the proportion allocated Mir za should be determined taking into account the eventual exercise of potential voting rights and John otherWi derivatives in (952 substance, presently give access to the economic benefits ley & Sonsthat, © 2003 pages) associated with an ownership interest. Note that the right to reacquire shares alone is not enough to This com pact and t ruly com pr ehensive qui ck - refer ence have those shares included for purposes of determining the of the investee's income to be pr esent s account ants with a guide to dependpercentage on for reported by the investor. Rather, investor havestanding ongoingofaccess to the economic benefits of assistance in thethe prepar at ion must and under financial statements ownership of those shares. present ed in accordance with I AS. T ab le of Con t en t s

Accounting for Investments in Joint Ventures

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

International accounting standards address accounting for interests in joint ventures as a topic Preface separate other investments. Joint ventures Chapter 1 from - I ntraccounting oduction tofor I nter national Accounting Standar ds share many characteristics with investments that areSheet accounted for by the equity method: The investor clearly has significant influence Chapter 2 - Balance over the investee does not have absolute control, and hence fullStatem consolidation is typically I ncom but e Statement, Stat em ent of Chan ges in Equit y, and ent unwarranted. the provisions of IAS 31, two different methods of accounting are possible, ofAccording RecognizedtoGains and Losses although as true Chapter 4 not - Cash Flowalternatives St at em ent for the same fact situations: the proportional consolidation method and the equity Chapter 5 method. - Financial I nstr uments—Cash and Receiv ables Chapter 3

Chapter 6

- I nventor y

Joint ventures can take many forms and structures. Joint ventures may be created as partnerships, as - Rev enue Recogni tion, I ncluding Constr uction Contr act s corporations, or as unincorporated associations. The standard identifies three distinct types, referred to Chapter 8 - Property , Plant , and Equipment as jointly controlled operations, jointly controlled assets, and jointly controlled entities. Notwithstanding Chapter 9 -structure, I ntangi bleallAsset the formal jointsventures are characterized by certain features: having two or more I nterests in Instr um ent s, Associat es,and Joint es,that andthe contractual agreement venturers are boundFinancial by a contractual arrangement, byVentur the fact Chapter 10 that I nvestm ent Pr oper ty establishes joint control of the enterprise. Chapter 7

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Curr provision(s) ent Liabilit ies,establishing Prov isions, joint Cont ingencies, andclearly Ev entsdifferentiates after t he The contractual control most joint ventures from Chapter 12 Balance Sheet Date other investment scenarios in which the investor has significant influence over the investee. In fact, in Chapter 13 - Financial uments—LongTer mjoint Debtventure accounting would not be appropriate, even in the absence of such aI nstr contractual provision, Chapter 14 -inLeases a situation which two parties each have 50% ownership interests in an investee. The actual Chapter 15 of - I such ncom e existence a Taxes contractual provision can be evidenced in a number of ways, although most

typically16it is in ploy writing and often Chapter - Em ee Benefit s addresses such matters as the nature, term of existence, and reporting obligations the holder joint venture; Chapter 17 - of Stock s' Equit ythe governing mechanisms for the venture; the capital contributions by the respective venturers; and the intended division of output, income, expenses, or net results of the Chapter 18 - Earnings Per Share venture.19 - I nterim Financial Repor ting Chapter Chapter 20 - Segm ent Repor ting

The contractual arrangement also establishes joint control over the venture. The thrust of such a provision is to ensure that no venturer can control the venture unilaterally. Certain decision areas will Chapter 22 - For eign Curr ency be stipulated as requiring consent by all the venturers, while other decision areas may be defined as Chapter - Relatedy Disclosures needing23the consentPart of only a majority of the venturers. There is no specific set of decisions that must Chapter 24 Specialized I ndustr ies fall into either grouping, however. Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter 25 - I nflation and Hyperinflation

Typically, venturer betsdesignated as the manager or operator of the venture. This does not Chapter 26 one - Gov er nm entwill Gr an imply theAabsolute power to govern; however, if such power exists, the venture would be a subsidiary, Appendix - Di sclosure Checklist subject to requirements of IAS 27 and accounted for properly under IAS 31. Appendix B the - I llustrativ e Financial St atem ent snot Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Specific accounting guidance is dependent on whether the enterprise represents jointly controlled operations, jointly controlled assets, or a jointly controlled entity.

I ndex

List of Tables List of Ex hibits and Ex am ples Jointly controlled operations. List of Sidebar s

The first of three types of joint ventures, this is characterized by the assigned use of certain assets or other resources, in contrast to an establishment of a new entity, be it a corporation or partnership. Thus, from a formal or legal perspective, this variety of joint venture may not have an existence separate from its sponsors; from an economic point of view, however, the joint venture can still be said to exist, which means that it may exist as an accounting entity. Typically, this form of operation will utilize assets owned by the venture partners, often including plant and equipment as well as inventories, and the partners will sometimes incur debt on behalf of the operation. Actual operations may be conducted on an integrated basis with the partners' own, separate operations, with certain

employees, for example, devoting a part of their efforts to the jointly controlled operation. The European Consortium Airbus may be a prototype of this type of enterprise. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

IAS 31 is concerned not with the accounting by the entity conducting the jointly controlled operations, I n t er n at ion al Accou n t in g St an d ar ds but by the venturers having an interest in the enterprise. Each ISBN:0471227366 venturer should recognize in its separate by Bar r y J. Epstein and Abbas Ali financial statements all assets of the venture that it controls, all liabilities that it incurs, all expenses that Mir za it incurs, and its share ofley any&revenues produced by the venture. Often, since the assets are already John Wi Sons © 2003 (952 pages) owned by the venturers, they would be included in their respective financial statements in any event; This com pact and t ruly com pr ehensive qui ck - refer ence similarly, any debtprincurred will be reported by the partner even this special rule. Perhaps the esent s account ants with a guide to depend on absent for only real challenge, from a measurement disclosure perspective, would be the revenues assistance in the prepar atand ion and under standing of financial statements present edwhich in accordance with I AS. by reference to the joint venture attributable to each venturer's efforts, will be determined agreement and other documents. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Jointly Standar ds controlled assets. Preface

In certain industries, such as oil and gas exploration and transmission and mineral extraction, jointly - I ntr oduction to I nter national Accounting Standar ds controlled assets are frequently employed. For example, oil pipelines may be controlled jointly by a Chapter 2 Sheeteach of which uses the facilities and shares in its costs of operation. Certain number of -oilBalance producers, I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent informal3 real Chapter - estate partnerships may also function in this fashion. Chapter 1

of Recognized Gains and Losses

Chapter - Cash Flow St at emcase ent of jointly controlled assets, each venturer must report in its own IAS 31 4stipulates that in the Chapter 5 statements - Financial its I nstr uments—Cash Receiv ables financial share of all jointlyand controlled assets, appropriately classified according to their

natures.6 It -must alsoyreport any liabilities that it has incurred on behalf of these jointly controlled assets, Chapter I nventor as well 7as -itsRev share any jointly EachContr venturer Chapter enueofRecogni tion,incurred I ncludingliabilities. Constr uction act s will report any income earned from the use8its -share of the jointly controlled assets, along with the pro rata expenses and any other Chapter Property , Plant , and Equipment expenses incurred directly. Chapter 9 it - Ihas ntangi ble Asset s I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 controlled Jointly entities. I nvestm ent Pr oper ty Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

The major type of joint venture is the jointly controlled enterprise, which is really a form of partnership

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 it- may well be structured legally as a corporation) in which each partner has a form of control, (although Balance Sheet Date

rather than significant influence. TheTer classic example is an equal partnership of two partners; Chapter 13 - only Financial I nstr uments—Longm Debt

obviously, neither has a majority and either can block any important action, so the two partners must effectively agree on each key decision. Although this may be the model for a jointly controlled entity, it Chapter 15 - I ncom e Taxes may in practice have more than two venturers and, depending on the partnership or shareholders' Chapter 16 - Em ploy ee Benefit s agreement, even minority owners may have joint control. For example, a partnership whose partners Chapter 17 - Stock holder s' Equit y have 30%, 30%, 30%, and 10% interests, respectively, may have entered into a contractual agreement Chapter 18 - Earnings Per Share that stipulates that investment or financing actions may be taken only if there is unanimity among the Chapter 19 - I nterim Financial Repor ting partners. Chapter 14 - Leases

Chapter 20 - Segm ent Repor ting

Jointly controlled entities control and the Cor assets of the joint Chapter 21 - Accounting Changes rection of Er ror sventure and may incur liabilities and expenses on its behalf. Aseign a legal Chapter 22 - For Curr entity, ency it may enter into contracts and borrow funds, among other activities. In general,23each venturer share the net results in proportion to its ownership interest. As an entity with Chapter - RelatedPartwill y Disclosures a distinct separate Ilegal and Chapter 24 and - Specialized ndustr ies economic identity, the jointly controlled entity will normally produce its own financial statements and other tax and legal reports. Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

IAS 31 provides alternative accounting treatments that may be applied by the venture partners to reflect

Appendix A - Di sclosure Checklist the operations and financial position of the venture. The objective is to report economic substance, Appendix B I llustrativ e ent s Pr esent ed Under on I AShow this may best be achieved. rather than mere form, Financial but there St isatem not universal agreement Appendix C - Com parison of I AS, US GAAP, and UK GAAP

The benchmark treatment under the standard is the use of proportionate consolidation, which requires I ndex thatofthe venture partner reflect its share of all assets, liabilities, revenues, and expenses on its financial List Tables statements asand if these List of Ex hibits Ex amwere ples incurred or held directly. In fact, this technique is very effective at

conveying the List of Sidebar s true scope of an entity's operations, when those operations include interests in one or

more jointly controlled entities. In this regard, the international accounting standards are more advanced than US, UK, or other national standards, which at best permit proportionate consolidation but do not mandate this accounting treatment. If the venturer employs the proportionate consolidation method, it will have a choice between two presentation formats that are equally acceptable. First, the venture partner may include its share of the assets, liabilities, revenues, and expenses of the jointly controlled entity with similar items under its sole control. Thus, under this method, its share of the venture's receivables would be added to its own

accounts receivable and presented as a single total on its balance sheet. Alternatively, the items that are undivided interests in the venture's assets, and so on, may be shown on separate lines of the venturer's financial statements, although within correct W ile y I AS 2 0 03 : I n t erpstill re t placed at ion an d Ap the p licat io n o fgrouping. For example, the venture's receivables might be shown immediately below the partner's individually owned accounts I n t er n at ion al Accou n t in g St an d ar ds receivable. In either case, the same category totals (aggregate current assets, etc.) will be presented; ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali the only distinction Miriszawhether the venture-owned items are given separate recognition. Even if presented on a combined John Wi ley basis, & Sons however, © 2003 (952 thepages) appropriate detail can still be shown in the financial statement footnotes, achieve a ehensive fair presentation, this might be needed. This and com indeed pact andtot ruly com pr qui ck - refer ence pr esent s account ants with a guide to depend on for

The proportionateassistance consolidation should beunder discontinued the partner no longer has the in themethod prepar at ion and standing when of financial statements present ed may in accordance with ability to control the entity jointly. This occur when theI AS. interest formerly held is disposed of, or when external restrictions are placed on the ability to exercise control. In some cases a partner will T ab le of Con t en t s waive its right to control the entity, possibly in exchange for other economic advantages, such as a Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing larger ds interest in the operating results. Standar Preface

Under the provisions of IAS 31, a second accounting method, the equity method, is also considered to - I ntr oduction to I nter national Accounting Standar ds be acceptable. The equity method in this context is as described in IAS 28 and as explained in the Chapter 2 BalanceAs Sheet preceding -section. with the proportionate consolidation method, use of the equity method must be I ncom e the Statement, em ent has of Chan in Equit and Statem ent discontinued when venturerStat no longer jointges control or y, significant influence over the jointly Chapter 3 of Recognized Gains and Losses controlled entity. Chapter 1

Chapter 4

- Cash Flow St at em ent

Chapter 5 - Financial I nstr uments—Cash andentities Receiv ables Accounting for jointly controlled as Chapter 6

passive investments.

- I nventor y

Although expectation is that in jointly controlled will be accounted for by the Chapter 7 the - Rev enue Recogni tion,investments I ncluding Constr uction Contr act entities s proportionate consolidation or equity method (the benchmark and allowed alternative treatments, Chapter 8 - Property , Plant , and Equipment respectively), in certain circumstances the venturer should account for its interest following the Chapter 9 - I ntangi ble Asset s guidelines ofI nterests IAS 39, in that is, as aInstr passive investment. ThisJoint would be the when the Financial um ent s, Associat es, Ventur es, prescription and investment has beenent acquired I nvestm Pr oper tyand is being held with a view toward disposition in the short term, or when the is Combinations operating under long-term restrictions that severely impair its ability to Chapter 11 investee - Business andsevere Consolidat ed Fin ancial Statements transfer funds to its venturer owners. (Note, however, that a current proposal Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he made as part of the Chapter 12 Balance Sheet Datewill restrict the application of IAS 39 measurement [i.e., fair value, with IASB's Improvements Project changes taken to earnings currently] joint venture interests which have been acquired and Chapter 13therein - Financial I nstr uments—LongTer mtoDebt held exclusively with the intent that they be disposed of within twelve months from acquisition.) Chapter 14 - Leases Chapter 10 -

Chapter 15 - I ncom e Taxes

If the investment is seen as being strictly temporary, effectively it is being held for trading purposes in the same manner as a temporary investment in marketable securities would be. In such a situation it Chapter 17 - Stock holder s' Equit y would not be logical to apply either the proportionate consolidation or equity method, since it would not Chapter 18 - Earnings Per Share be the venturer's share of the operating results of the venture that provided value to the venturer, but Chapter I nterim inFinancial Repor ting rather, 19 the -change fair value. Chapter 16 - Em ploy ee Benefit s

Chapter 20 - Segm ent Repor ting

Similarly, venture Changes were operating restrictions, expected to persist beyond a Chapter 21 if- the Accounting and Corunder rectionsuch of Ersevere ror s short time of funds from the jointly controlled entity to its venture parents were Chapter 22 -horizon, For eign that Currtransfers ency precluded, would be misleading and conceptually invalid to treat the venture's operating results as Chapter 23 - itRelatedPart y Disclosures bearing24 directly on the venture parents' earnings results. In such a case, an inability to transfer funds Chapter - Specialized I ndustr ies

would mean the and venture partners would be unable to obtain any benefit, in the short run at least, Chapter 25 - I that nflation Hyperinflation from their investment in the jointly controlled entity.

Chapter 26 - Gov er nm ent Gr an ts

Appendix A - Diby sclosure Checklist As amended IAS 39, IAS 31 provides that in the separate financial statements of an investor that Appendix B I llustrativ e Financial St atem entas s Pr esent edcost Under I AS may alternatively be employed to issues consolidated financial statements well, the method Appendix C - investment Com parison in of the I AS,joint US venture. GAAP, and UK GAAP present the I ndex List Change of Tablesfrom

joint control to full control status.

List of Ex hibits and Ex am ples

If one of the sventurers' interest in the jointly controlled entity is increased, whether by an acquisition of List of Sidebar some or all of another of the venturers' interest, or by action of a contractual provision of the venture agreement (resulting from a failure to perform by another venturer, etc.), the proportionate consolidation method of accounting ceases to be appropriate and full consolidation will become necessary. Guidance on preparation of consolidated financial statements is provided by IAS 27 and is discussed fully in Chapter 11.

Accounting for Transactions between Venture Partner and Jointly

Controlled Entity y I AS 0 03 :transferor. I n t erp re t at ion Transfers at aW ile gain to 2the

an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

ISBN:0471227366 A general, underlying by Bar principle r y J. Epstein of financial and Abbas reporting Ali is that earnings are to be realized only by engaging Mir outside za in transactions with parties. Thus, gains cannot be recognized by transferring assets (be they Wi ley held & Sons 2003in (952 productive assetsJohn or goods for ©sale thepages) normal course of the business) to a subsidiary, affiliate, pactthis andreally t ruly would com pr ehensive - refer enceby an entity with itself. Were this or joint venture, toThis thecom extent representqui a ck transaction pr esent swould account ants with a guide depend on forto sell goods to, thereby permitting not the rule, enterprises establish a range of to related entities assistance in the prepar at ion and under standing of financial the reporting of profits well before any sale to real, unrelated customers ever took place. The potential statements present ed in accordance with I AS. for abuse of the financial reporting process in such a scenario is too obvious to need elaboration.

T ab le of Con t en t s

IAS 31 when a and venturer sells oroftransfers assets to a jointly Wiley I ASstipulates 20 03—Intthat er pretation Application I nternational Account ing controlled entity, it may recognize Standar ds profit only to the extent that the venture is owned by the other venture partners, and then only to the extent that the risks and rewards of ownership have indeed been transferred to the jointly Preface controlled The logic that a portion of the profit has ds in fact been realized, to the extent that the Chapter 1 entity. - I ntr oduction to is I nter national Accounting Standar purchase agreed on by unrelated parties that jointly control the entity making the acquisition. For Chapter 2 was - Balance Sheet

example, if venturers A, B, and Stat C jointly control venture (each having a 1/3 I ncom e Statement, em ent of Chan ges in D Equit y, and Statem entinterest), and A sells Chapter 3 - having a book value of $40,000 to the venture for $100,000, only 2/3 of the apparent gain of equipment of Recognized Gains and Losses $60,000, realized. In its balance sheet immediately after this transaction, A would Chapter 4 or- $40,000, Cash Flowmay St at be em ent report its of theI nstr asset reflected in the sheet of D, 1/3 x $100,000 = $33,333, minus the Chapter 5 share - Financial uments—Cash andbalance Receiv ables unrealized of $20,000, for a net of $13,333. This is identical to A's remaining 1/3 interest in the Chapter 6 -gain I nventor y

pretransaction basis of the asset (1/3 x $40,000 = $13,333). Thus, there is no step up in the carrying - Rev enue Recogni tion, I ncluding Constr uction Contr act s value of the proportionate share of the asset reflected in the transferor's balance sheet.

Chapter 7 Chapter 8

- Property , Plant , and Equipment

Chapter 9 - is I ntangi ble to Asset s If the asset subject depreciation, the deferred gain on the transfer (1/3 x $60,000 = $20,000) would I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and be amortized Chapter 10 - in proportion to the depreciation reflected by the venture, such that the depreciated I nvestm ent Pr oper ty

balance of the asset reported by A is the same as would have been reported had the transfer not taken

Chapter 11 -example, Business assume Combinations and Consolidat Fin ancial Statements place. For that the asset has a ed useful economic life of five years after the date of Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after tat hea rate of $4,000 per year. transfer12to -D. The deferred gain ($20,000) would be amortized to income Chapter Balance Sheet Date

At the end of the first posttransfer year, D would report a net carrying value of $100,000 - $20,000 = $80,000; A's proportionate interest is 1/3 x $80,000 = $26,667. The unamortized balance of the Chapter 14gain - Leases deferred is $20,000 - $4,000 = $16,000. Thus the net reported amount of A's share of the jointly Chapter 15 - I ncom asset e Taxes controlled entity's is $26,667 - $16,000 = $10,667. This amount is precisely what A would have Chapter 16 Em ploy ee Benefit reported the remaining sharesof its asset at on this date: 1/3 x ($40,000 - $8,000) = $10,667. Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 17 - Stock holder s' Equit y

Of course, has alsoPer reported Chapter 18 -AEarnings Share a gain of $40,000 as of the date of the transfer of its asset to joint venture19 D,-but this represents the gain Chapter I nterim Financial Repor ting that has been realized by the sale of 2/3 of the asset to

unrelated C, the Chapter 20 parties - Segm B entand Repor ting coventurers in D. In short, two-thirds of the asset has been sold at a

gain, while one-third has been retained and is continuing to be used and depreciated over its remaining economic life and is reported on the cost basis in A's financial statements.

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Chapter 23 - RelatedPartabove y Disclosures The matters described have been further emphasized by the Standing Interpretation Chapter 24 Specialized I ndustr Committee's interpretation, SICies13, which holds that gains or losses will result from contributions of Chapter 25 - I nflation nonmonetary assets and to a Hyperinflation jointly controlled enterprise only when significant risks and rewards of Chapter 26 -have Gov er nm ent Gr an ts ownership been transferred, and the gain or loss can be reliably measured. However, no gain or Appendix loss would A - be Di sclosure recognized Checklist when the asset is contributed in exchange for an equity interest in the jointly

controlled the asset is ent similar to assets contributed by the other venturers. Any Appendix B enterprise - I llustrativ when e Financial St atem s Pr esent ed Under I AS unrealized loss should related assets, and not presented as deferred gain Appendix C -gain Comor parison of I AS,be USnetted GAAP,against and UK the GAAP or loss in the venturer's consolidated financial statements.ized for financial reporting purposes. The I ndex situation when a transfer is at an amount below the transferor's carrying value is not analogous; rather, List of Tables such a transfer is Ex deemed List of Ex hibits and am plesto be confirmation of a permanent decline in value, which must be

recognized by the transferor immediately rather than being deferred. This reflects the conservative bias in accounting: Unrealized losses are often recognized, while unrealized gains are deferred.

List of Sidebar s

Transfers of assets at a loss. The foregoing illustration was predicated on a transfer to the jointly controlled entity at a nominal gain to the transferor, of which a portion was realAssume that venturer C (a 1/3 owner of D, as described above) transfers an asset it had been carrying at $150,000 to jointly controlled entity D at a price of $120,000. If the decline is deemed to be other

than temporary in nature (that presumptively it is, since C would not normally have been willing to engage in this transaction if the decline were expected to be reversed in the near term), C must recognize the fullW$30,000 at2the the ile y I AS 0 03time : I n tof erp retransfer. t at ion anSubsequently, d Ap p licat io n C o fwill pick up its 1/3 interest in the asset held by D (1/3 x $120,000 = $40,000) as its own asset in its balance sheet, before considering I n t er n at ion al Accou n t in g St an d ar ds any depreciation,by and so on. ISBN:0471227366 Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

Accounting for Assets Purchased from a Jointly Controlled Entity Transfers at

This com pact and t ruly com pr ehensive qui ck - refer ence esent s account ants with a guide to depend on for apr gain tointhe transferor. assistance the prepar at ion and under standing of financial statements present ed in accordance with I AS.

A similar situation arises when a venture partner acquires an asset from a jointly controlled entity: The T ab le of Con t en t sreflect the gain recognized by the joint venture, to the extent that this represents its venturer cannot Wiley 20 03—Int pretation and Application of For I nternational ing shareI AS in the resultserof the venture's operations. example,Account again assuming that A, B, and C jointly Standar own D,dsan asset having a book value of $200,000 is transferred by D to B for a price of $275,000. Since Preface B has a 1/3 interest in D, it would (unless an adjustment were made to its accounting) report $25,000 of Chapter I ntrown, oduction to would I nter national Accounting Standar ds under GAAP. D's gain1 as- its which violate the realization concept Chapter 2

- Balance Sheet

To avoid thisI ncom result, B will record theemasset its cost, $275,000, lessStatem the deferred gain, $25,000, for a e Statement, Stat ent ofatChan ges in Equit y, and ent Chapter 3 net carrying of value of $250,000, represents the transferor's basis, $200,000, plus the increase in Recognized Gains which and Losses value realized by Flow unrelated parties Chapter 4 - Cash St at em ent (A and C) in the amount of $50,000. Chapter 5

- Financial I nstr uments—Cash and Receiv ables

As the asset is depreciated, the deferred gain will be amortized apace. For example, assume that the - I nventor y useful life of the asset in B's hands is ten years. At the end of the first year, the carrying value of the Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s asset is $275,000 - $27,500 = $247,500; the unamortized balance of the deferred gain is $25,000 Chapter 8 - Property , Plant , and Equipment $2,500 = $22,500. Thus the net carrying value, after offsetting the remaining deferred gain, will be Chapter 9 -- $22,500 I ntangi ble Asset s $247,500 = $225,000. This corresponds to the remaining life of the asset (9/10 of its I nterests in Financialnet Instr um ent s, Associat$250,000. es, Joint Ventur es, and estimated times its original carrying amount, The amortization of the deferred gain Chapter 10 life) I nvestm ent Pr oper ty should be credited to depreciation expense to offset the depreciation charged on the nominal Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements acquisition price and thereby to reduce it to a cost basis as required by GAAP. Chapter 6

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Sheet Date TransfersBalance at a loss to the transferor.

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - was Leases If the asset acquired by B at a loss to D, on the other hand, and the decline was deemed to be Chapter 15 ncom e Taxes indicative of Ian other than temporary diminution in value, B should recognize its share of this decline.

This contrasts theBenefit gain scenario discussed immediately above, and as such is entirely consistent Chapter 16 - Emwith ploy ee s with the17accounting treatment Chapter - Stock holder s' Equitfor y transfers from the venture partner to the jointly controlled venture. Chapter 18 - Earnings Per Share

For example, if D sells an asset carried at $50,000 to B for $44,000, and the reason for this discount is an other than temporary decline in the value of said asset, the venture, D, records a loss of $6,000 and Chapter 20 - Segm ent Repor ting each venture partner will in turn recognize a $2,000 loss. B would report the asset at its acquisition cost Chapter 21 - Accounting Changes and Cor rection of Er ror s of $44,000 and will also report its share of the loss, $2,000. This loss will not be deferred and will not be Chapter 22 - For eign Curr ency added to the carrying value of the asset in B's hands (as would have been the case if B treated only the Chapter y Disclosures $4,000 23 loss- Relatedrealized Part by unrelated parties A and C as being recognizable). Chapter 19 - I nterim Financial Repor ting

Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation

Disclosure Requirements

Chapter 26 - Gov er nm ent Gr an ts

Appendix A partner - Di sclosure Checklist A venture is required to disclose in the notes to the financial statements its ownership interests Appendix B I llustrativ e Financialincluding St atem ent Pr esent ed percentage Under I AS and other relevant data. If the in all significant joint ventures, itssownership Appendix - Com parison of I AS, US GAAP, and GAAP its share of the assets, liabilities, revenues, and venturer Cuses proportionate consolidation andUK merges I ndex expenses of the jointly controlled entity with its own assets, liabilities, revenues, and expenses, or if the List of Tables venturer uses the equity method, the notes should disclose the amounts of the current and long-term List of Ex hibits and Ex long-term am ples assets, current and liabilities, revenues, and expenses related to its interests in jointly

controlled ventures. List of Sidebar s Furthermore, the joint venture partner should disclose any contingencies that the venturer has incurred in relation to its interests in any joint ventures, noting any share of contingencies jointly incurred with other joint venturers. In addition, the venturer's share of any contingencies of the joint venture (as distinct from contingencies incurred in connection with its investment in the venture) for which it may be contingently liable must be reported. Finally, those contingencies that arise because the venturer is contingently liable for the liabilities of the other partners in the jointly controlled entity must be set forth. These disclosures are a logical application of the rules set forth in IAS 37, which is discussed in

Chapter 12 of this book. A venture partner should also disclose in the notes to her/his financial statements information about W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f any commitmentsI ns/he has outstanding in respect to interests s/he has in joint ventures. These include t er n at ion al Accou n t in g St an d ar ds any capital commitments s/he has and her/his share of any joint commitments s/he may have incurred ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali with other ventureMir partners, as well as her/his share of the capital commitments of the joint ventures za themselves, if any. John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence

Proposed changes accounting pr esent s to account ants with a for guideinvestments to depend on forin both associates and joint assistance in the prepar at ion and under standing of financial ventures. statements present ed in accordance with I AS.

Investments in subsidiaries, associates, and joint ventures are obviously very similar in many regards, and this would suggest that the accounting for these categories of investments should be, by and large, Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing parallel. Standar ds The goal should be to reflect the economic substance of the investor's interest in the subsidiary, equity investment, or joint venture. The issuance of IAS 39 introduced certain disparities in Preface financial reporting for the different varieties of intercorporate investments. Chapter 1 - I ntr oduction to I nter national Accounting Standar ds

T ab le of Con t en t s

Chapter 2 - Balance Sheet Specifically, IAS 39 amended IAS 27 by introducing a requirement for subsidiaries that are held I ncom e Statement, Stat em ent oflong-term Chan ges restrictions in Equit y, and Statem ent temporarily or which operate under severe to be accounted for in accordance with Chapter 3 of Recognized Gains and Losses

IAS 39 in consolidated financial statements. In other words, these investments (which are, under IAS - Cash Flow St at em ent 27, not consolidated when either of these named conditions exist) are to be accounted for at fair value, Chapter 5 Financial rather than- at cost. I nstr uments—Cash and Receiv ables Chapter 4 Chapter 6

- I nventor y IAS 39 7did-not, address accounting associates method investments) or joint Chapter Rev however, enue Recogni tion, Ithe ncluding Constr for uction Contr act(equity s

ventures similar circumstances. Amendments were later proposed to the relevant standards (IAS Chapter 8 under - Property , Plant , and Equipment 28 and 931),- Itontangi conform the accounting for these investments in separate financial statements of the Chapter ble Asset s investor to that for subsidiaries. I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty

At present, under the IASB's Improvements Project, proposals are outstanding that would change and unify the available accounting options for the presentation of investments in subsidiaries, associates, Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12ventures and joint the parent BalanceinSheet Date entity's nonconsolidated (i.e., separate) financial statements. Under these proposals (as amendments to IASTer 27,m28, and 31), the investor would be free to elect the cost Chapter 13 - Financial I nstr uments—LongDebt method or the IAS 39 (fair value) method of accounting for these unconsolidated, nonequity method Chapter 14 - Leases investments. The reporting entity would be required to apply the same method of accounting (i.e., either Chapter 15 - I ncom e Taxes cost or fair value) to all investments in a given category. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 16 - Em ploy ee Benefit s

Chapter 17 -cost Stock holder s'the Equit y Under the method, investor recognizes its investment in the investee at cost. The investor Chapter 18 - income Earningsonly Per to Share recognizes the extent that it receives distributions from the accumulated net profits of Chapter 19 - I nterim ting the investee arising Financial after the Repor date of acquisition by the investor. Distributions received in excess of such profits are regarded as a recovery of investments and are recognized as a reduction of the cost of Chapter 20 - Segm ent Repor ting

the investment. Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

The revised standards will indicate that users of the financial statements of a parent, joint venturer, or investor in an associate are usually concerned with, and need to be informed about, the financial Chapter 24 - Specialized I ndustr ies position, results of operations and changes in financial position of the group as a whole. This need is Chapter 25 - I nflation and Hyperinflation served by consolidated financial statements or financial statements in which the associate is accounted Chapter 26 - Gov er nm ent Gr an ts for under the equity method, that present financial information about the group as a single economic Appendix A - Diregard sclosureforChecklist entity without the legal boundaries of the separate legal entities. In contrast, separate Appendix B I llustrativ e Financial St atem ent s Pr esent ed Under I AS financial statements present financial information about the entity's position viewed as an investor. Appendix C Com parison of I AS, US GAAP, and UK GAAP Thus, such separate (nonconsolidated) financial statements are not to be viewed as substitutes for the I ndex primary financial statements of the parent entity, which would be required to consolidate subsidiaries, List of Tables apply equity method accounting to associates, and apply either proportionate consolidation or equity List method of Ex hibits accounting and Exto amjoint plesventures. Chapter 23 - Related- Part y Disclosures

List of Sidebar s

Accounting for Other Investment Property Investment property. An investment in land or a building, part of a building, or both, if held by the owner (or a lessee under a finance lease) with the intention of earning rentals or for capital appreciation or both, is defined by IAS 40 as an investment property. An investment property is capable of generating cash flows

independently of other assets held by the enterprise. Investment property is sometimes referred to as being "passive" investments, to distinguish it from actively managed property such as plant assets, the use of which is integrated with of the enterprise's operations. characteristic is what W ile y I AS 2 0the 03 : rest I n t erp re t at ion an d Ap p licat io n oThis f distinguishes investment property from owner-occupied property, which is property held by the I n t er n at ion al Accou n t in g St an d ar ds enterprise or a lessee under a finance lease, for use in its business (i.e., for use in production or supply ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za of goods or services or for administrative purposes). John Wi ley & Sons © 2003 (952 pages)

The best way to understand what investment property constitutes is to look at examples of investments This com pact and t ruly com pr ehensive qui ck - refer ence that are considered by the standard aswith investment properties, and pr esent s account ants a guide to depend on forcontrast these with those investments that assistance do not qualify for prepar this categorization. in the at ion and under standing of financial statements present ed in accordance with I AS.

According to the standard, examples of investment property are

T ab le of Con t en t s

Wiley Land I AS 20 03—Int er pretationcapital and Application of I nternational Account ing held for long-term appreciation as opposed to short-term purposes like land held for Standar ds in the ordinary course of business; sale Preface

Land an undetermined future use; Chapter 1 held - I ntrfor oduction to I nter national Accounting Standar ds Chapter 2

- Balance Sheet

Building owned by the reporting enterprise (or held by the reporting enterprise under a finance I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 -and leased out under one or more operating leases; and lease) of Recognized Gains and Losses Chapter 4

Cash Flow St at em ent Vacant- building held by an enterprise to be leased out under one or more operating leases.

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter According 6 -toI nventor IAS 40,yinvestment property does not include Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Property employed in the business, (i.e., held for use in production or supply of goods or services - Property , Plant , and Equipment or for administrative purposes, the accounting for which is governed by IAS 16);

Chapter 8 Chapter 9

- I ntangi ble Asset s

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Property Chapter 10 - being constructed or developed on behalf of others, the accounting of which is outlined in I nvestm ent Pr oper ty

IAS 11;

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Property Chapter 12 - held for sale in the ordinary course of the business, the accounting for which is specified Balance by IAS 2; and Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Property under construction or being developed for future use as investment property. IAS 16 is Chapter 14 - Leases applied such property until the construction or development is completed, at which time, IAS 40 Chapter 15 - Ito ncom e Taxes governs. However, existing Chapter 16 - Em ploy ee Benefit s investment property that is being redeveloped for continued future use would as investment Chapter 17 -qualify Stock holder s' Equit y property. Chapter 18 - Earnings Per Share

Apportioning property between investment property and owner-occupied property. Chapter 20 - Segm ent Repor ting Chapter 19 - I nterim Financial Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror s

In many cases it will be clear what constitutes investment property as opposed to owner-occupied property, but in other instances making this distinction might be less obvious. Certain properties are not Chapter 23 - RelatedPart y Disclosures held entirely for rental purposes or for capital appreciation purposes. For example, portions of these Chapter 24 Specialized I iesenterprise for manufacturing or for administrative purposes. If these properties might be usedndustr by the Chapter 25earmarked - I nflation for anddifferent Hyperinflation portions, purposes, could be sold separately, then the enterprise is required to Chapter 26 Gov er nm ent Gr an However, ts account for them separately. if the portions cannot be sold separately, the property would be Appendix Di sclosure Checklist deemed Aas- investment property if an insignificant portion is held by the enterprise for business use. Chapter 22 - For eign Curr ency

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

When ancillary areI AS, provided by the Appendix C - Comservices parison of US GAAP, andenterprise UK GAAP and these ancillary services are a relatively insignificant component of the arrangement, as when the owner of a residential building provides maintenance and security services to the tenants, the enterprise treats such an investment as List of Tables investment property. On the other hand, if the service provided is a comparatively significant List of Ex hibits and Ex am ples component of the arrangement, then the investment would be considered as an owner-occupied List of Sidebar s property. I ndex

For instance, an enterprise that owns and operates a motel and also provides services to the guests of the motel would be unable to argue that it is an investment property as that term is used by IAS 40. Rather, such an investment would be classified as an owner-occupied property. Judgement is therefore required in determining whether a property qualifies as investment property. It is so important a factor that if an enterprise develops criteria for determining when to classify a property as an investment property, it is required by this standard to disclose these criteria in the context of difficult or

controversial classifications.

Property leased to a subsidiary or a parent company. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Property leased to a subsidiary or its parent company is considered an investment property from the ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali perspective of theMir enterprise. However, for the purposes of consolidated financial statements, from the za perspective of theJohn group as a& whole, will(952 notpages) qualify as an investment property, since it is an ownerWi ley Sons © it 2003 occupied propertyThis when viewed from the parent company level. com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for and under standing of financial statements present ed in accordance with I AS.

Recognition and measurement. assistance in the prepar at ion

Investment property will be recognized when it becomes probable that the enterprise will enjoy the future economic benefits which are attributable to it, and when the cost or fair value can be reliably Wiley I AS 20 03—Int er pretation Application I nternational ingor constructed by the reporting measured. In general, this willand occur when theofproperty is firstAccount acquired Standar ds enterprise. In only unusual circumstances would it be concluded that the owner's likelihood of receipt of Preface the economic benefits would be less than probable, necessitating deferral of initial recognition of the Chapter 1 - I ntr oduction to I nter national Accounting Standar ds asset.

T ab le of Con t en t s

Chapter 2

- Balance Sheet

Initial measurement I ncom e Statement, will be at cost, Stat which em ent is ofequivalent Chan ges intoEquit fair y, value, and Statem assuming ent that the acquisition was Gains and Losses the result of of anRecognized arm's-length exchange transaction. Included in the purchase cost will be such directly Chapter 4 - expenditure Cash Flow St as at em ent fees and property transfer taxes, if incurred in the transaction. If the attributable legal Chapter - Financial I nstr cost uments—Cash ables expenditures on product or services asset is5 self-constructed, will includeand notReceiv only direct Chapter 6 - but I nventor y consumed, also overhead charges which can be allocated on a reasonable and consistent basis, in the same as Recogni these are allocated to Constr inventories thesguidelines of IAS 2. To the extent that Chapter 7 manner - Rev enue tion, I ncluding uctionunder Contr act the acquisition cost includes an Equipment interest charge, if the payment is deferred, the amount to be Chapter 8 - Property , Plant , and recognized an investment Chapter 9 - as I ntangi ble Asset s asset should not include the interest charges. Furthermore, start-up costs (unless theyI nterests are essential in bringing property to itses,working condition), initial operating losses in Financial Instr the um ent s, Associat Joint Ventur es, and Chapter 10 (incurred prior to theent investment I nvestm Pr oper ty property achieving planned level of occupancy) or abnormal waste (in construction or development) do not constitute part capitalized cost of an investment property. Chapter 11 - Business Combinations and Consolidat ed of Finthe ancial Statements Chapter 3

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Subsequent expenditures. Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

In some instances there may be further expenditure incurred on the investment property after the date of initial recognition. Consistent with similar situations arising in connection with plant, property and Chapter 15 - I ncom e Taxes equipment (dealt with under IAS 16), if it can be demonstrated that the subsequent expenditure will Chapter 16 - Em ploy ee Benefit s enhance the generation of future economic benefits to the enterprise, then those costs may be added Chapter 17 - Stock holder s' Equit y to the carrying value of the investment property. In other words, if as a result of incurring subsequent Chapter 18 - Earnings Per Share expenditure it is probable that future economic benefits in excess of the originally assessed level of Chapter 19 - I nterim Financialinvestment Repor ting property will flow to the enterprise, such expenditure should be performance of the existing Chapter 20the - Segm ent Repor tingof the investment property. By implication, all other subsequent added to carrying amount Chapter 21 - Accounting Changes and Corperiods rection of Er ror s incurred. expenditure should be expensed in the they are Chapter 14 - Leases

Chapter 22 - For eign Curr ency

Sometimes, the appropriate accounting treatment for subsequent expenditure would depend upon the Chapter 23 - RelatedPart y Disclosures circumstances that wereI ndustr considered in the initial measurement and recognition of the investment Chapter 24 - Specialized ies

property. example, a property (say, an office building) is acquired for investment purposes in a Chapter 25 For - I nflation andif Hyperinflation condition that makes it incumbent upon the enterprise to perform significant renovations thereafter, then such renovation costs (which would constitute subsequent expenditures) will be added to the Appendix A - Di sclosure Checklist carrying value of the investment property when incurred later. Chapter 26 - Gov er nm ent Gr an ts

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Fair value model vs. historical cost.

I ndex

List of Tablesto the financial reporting of plant and equipment under IAS 16, IAS 40 provides that Analogous List of Ex hibits and Ex am ples investment property may be reported at either fair value or at depreciated (historical) cost less

accumulated List of Sidebar simpairment. The cost model is the benchmark treatment prescribed by IAS 16 for plant assets. The fair value approach under IAS 40 more closely resembles that used for financial instruments than it does the allowed alternative (revaluation) method for plant assets, however. Also, under IAS 40 if the cost method is used, fair value information must nonetheless be disclosed.

Fair value. When investment property is carried at fair value, at each subsequent financial reporting date the carrying amount must be adjusted to the then-current fair value, with the adjustment being reported in

the net profit or loss for the period in which it arises. The inclusion of the value adjustments in earnings—in contrast to the revaluation approach under IAS 16, whereby adjustments are generally reported in equity—is a Ireflection different roles by plant W ile y AS 2 0 03 of : I the n t erp re t at ion an dplayed Ap p licat io n o fassets and by other investment property. The former are used, or consumed, in the operation of the business, which is often centered I n t er n at ion al Accou n t in g St an d ar ds upon the production of goods and services for sale to customers. The latter are held for possible ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir zaand hence those value changes are highly germane to the assessment of appreciation in value, periodic operatingJohn performance. With this (952 distinction Wi ley & Sons © 2003 pages) in mind, the decision was made to not only permit fair value reporting, to pact require changes to be included inence earnings. Thisbut com andvalue t ruly com pr ehensive qui ck - refer pr esent s account ants with a guide to depend on for

IAS 40 representsassistance the first time that fair value accounting is beingofembraced in the prepar at ion and under standing financial as an accounting model statements ed a in matter accordance withcontroversy, I AS. for nonfinancial assets. This present has been of great and to address the many concerns voiced during the exposure draft stage, the IASC added more guidance on the subject to the final T ab le of Con t en t s standard. This standard is quite comprehensive, and it includes some very insightful and practical hints Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing on applying the standard. Standar ds Preface

Fair value is defined by the standard as the most probable price reasonably obtainable in the - I ntr oduction to I nter national Accounting Standar ds marketplace at the balance sheet date. Fair value would not be appropriately measured with reference Chapter 2 Balance Sheet date. Further, the definition envisions "knowledgeable, willing parties" as to either a -past or a future I ncom e Stat em ent of Chan ges Equit y, buyer and Statem ent are willing to enter into being the ofStatement, fair value. This presupposes that inboth the and seller Chapter 3 arbiters of Recognized Gains and Losses the transaction, and that they each have reasonable knowledge about the nature and characteristics of Chapter 4 - Cash Flow St at em ent the investment property, its potential uses, and the state of the market as of the valuation date. Put Chapter - Financial I nstr uments—Cash and Receiv ables nor the seller is acting under coercion; and fair another5 way, fair value presumes that neither the buyer Chapter 6 I nventor y value is not a price that is based on a "distress sale." Chapter 1

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s The standard goes into great detail to explain the concept of a "willing buyer" (i.e., one who is Chapter 8 - Property , Plant , and Equipment

motivated not compelled Chapter 9 but - I ntangi ble Asset s to buy) and a "willing seller" (i.e., one who is neither overeager nor a forced seller). For instance, in explaining thes,concept "willing seller," the standard clarifies that the I nterests in Financial Instr um ent Associatof es,aJoint Ventur es, and motivation toI nvestm sell at ent market terms Pr oper ty for the best price obtainable in the open market is derived "after proper 11 marketing." This expressionand hasConsolidat been explained very eloquently Chapter - Business Combinations ed Fin ancial Statementsby the standard to mean that in order to be considered as "after proper marketing," the investment Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev entsproperty after t hewould need to be "exposed Chapter 12 to the market" in theSheet most appropriate manner to effect its disposal at the best price obtainable. The Balance Date length of time, to theTer standard, Chapter 13exposure - Financial I nstraccording uments—Longm Debt must be "sufficient" to allow the investment property to be brought to the attention of an "adequate number" of potential purchasers. Chapter 14 - Leases Chapter 10 -

Chapter 15 - I ncom e Taxes

As if there were not enough unknowns in the equation, the standard further qualifies this by stating that the "exposure period" is assumed to occur "prior to the balance sheet date." With respect to the length Chapter 17 - Stock holder s' Equit y of the exposure period, the standard opines that "it may vary with market conditions." Some may find Chapter 18 - Earnings Per Share this an example of "overkill" which confuses, rather than clarifies the standard and impedes attempts to Chapter - I nterimgiven Financial apply it.19However, that Repor this isting the maiden attempt by the IASC to mandate fair value accounting Chapter 20 - Segm ent Repor tingin hindsight be warranted. for nonfinancial assets, it may Chapter 16 - Em ploy ee Benefit s

Chapter 21 - Accounting Changes and Cor rection of Er ror s

The standard encourages an enterprise to determine the fair value based on a valuation by an Chapter 22 - For eign Curr ency independent valuer who a recognized and relevant professional qualification and who has had Chapter 23 - RelatedPart yholds Disclosures recent experience in theI ndustr location Chapter 24 - Specialized ies and category of the investment property being valued. While terms such as25"relevant" are notHyperinflation defined, IAS 40 does offer a significant amount of practical guidance on Chapter - I nflation and

issues relating to the determination of fair values. These practical hints will likely greatly facilitate the correct application of the principles enshrined in the standard. They are summarized as follows:

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

Appendix B - Ithat llustrativ Financial atem ent s Pras esent Under I AS of particularly favorable or Factors coulde distort theStvalue, such theedincorporation Appendix C Com parison of I AS, US GAAP, and UK GAAP unfavorable financing terms, the inclusion of sale and leaseback arrangements, or any other I ndex concession by either buyer or seller, are not to be given any consideration in the valuation process; List of Tables

the other the actual conditions in the marketplace at the valuation date, even if these List ofOn Ex hibits and hand, Ex am ples

List ofrepresent Sidebar s somewhat atypical climatic factors, will govern the valuation process. For example, if the

economy is in the midst of a recession and rental properties' prices are depressed, no attempt should be made to normalize fair value, since that would add a subjective element and depart from the concept of fair value as of the balance sheet date; Fair values should be determined without any deduction for transaction costs that the enterprise may incur on the sale or other disposal of the investment property; Fair value should reflect the actual state of the market and circumstances as of the balance sheet

date, not as of either a past or a future date; In the absence of current prices on an active market, an enterprise should use information from a W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f variety of sources, including: current prices on an active market of dissimilar properties with I n t er n at ion al Accou n t in g St an d ar ds suitable adjustments for the differences, recent prices on less active markets, with necessary ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali adjustments,Mir and za discounted cash flow projections based on reliable estimates of future cash flows using an appropriate discount John Wi ley & Sonsrate; © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence Fair value differs from "value in use" as defined in IAS 36. Whereas fair value is reflective of pr esent s account ants with a guide to depend on for market knowledge and in estimates of at participants in the market general, value in use reflects the assistance the prepar ion and under standing of in financial enterprise's knowledge estimates that are entity-specific and are thus not applicable to statements and present ed in accordance with I AS. enterprises in general. In other words, value in use is an estimate at the enterprise level or at a T ab le of Con t en t s "microlevel," while fair value is a "macrolevel" concept that is reflective of the perceptions of the Wiley market I AS 20 03—Int er pretation and Application of I nternational Account ing participants in general; Standar ds

Preface Enterprises are alerted to the possibility of double counting in determining the fair value of certain Chapter 1 of - I ntr oduction to I nter national Accounting Standar ds building is leased on a furnished basis, types investment property. For instance, when an office Chapter Balance the2fair- value of Sheet office furniture and fixtures is generally included in the fair value of the investment property (in this case the office building). The ges IASC's apparent I ncom e Statement, Stat em ent of Chan in Equit y, and rationale Statem entis that the rental income Chapter 3 of the Recognized Gains and Losses when fair values of furniture and fixtures are included along relates to furnished office building; Chapter 4 the - Cash Flow St eminvestment ent with fair value ofatthe property, the enterprise does not recognize them as separate Chapter 5 - Financial I nstr uments—Cash and Receiv ables assets; and Chapter 6

- I nventor y Lastly, value of investment property should reflect the future capital expenditure Chapter 7 - the Revfair enue Recogni tion, I ncluding Constr uctionneither Contr act s

(that would improve or enhance the property), nor the related future benefits from this future - Property , Plant , and Equipment expenditure.

Chapter 8 Chapter 9

- I ntangi ble Asset s

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - to measure fair value reliably. Inability I nvestm ent Pr oper ty Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

There is a rebuttable presumption that, if an entity acquires or constructs property that will qualify as

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he investment Chapter 12 - property under this standard, it will be able to assess fair value reliably on an ongoing basis. Balance Sheet Date

In rare circumstances, however, when an enterprise acquires for the first time an investment property (or when an existing property first qualifies to be classified as investment property following the Chapter 14 - Leases completion of development or construction, or when there has been change of use), there may be clear Chapter 15 that - I ncom e Taxes evidence the fair value of the investment property cannot reliably be determined, on a continuous Chapter 16 Em ploy ee Benefit s basis. Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 17 - Stock holder s' Equit y

Under such exceptional the standard stipulates that the enterprise should measure that Chapter 18 - Earnings Per circumstances, Share investment using theRepor benchmark treatment in IAS 16 until the disposal of the investment Chapter 19 - property I nterim Financial ting property. IAS 40, Chapter 20 According - Segm enttoRepor ting the residual value of such investment property measured under the

benchmark IAS 16 should presumed tos be zero. The standard further states that under Chapter 21 - treatment AccountinginChanges and Corbe rection of Er ror

the exceptional circumstances explained above, in the case of an enterprise that uses the fair value model, the enterprise should measure the other investment properties held by it at fair values. In other Chapter 23 - Related- Part y Disclosures words, notwithstanding the fact that one of the investment properties, due to exceptional Chapter 24 - Specialized I ndustr ies circumstances, is being carried under the benchmark (cost) treatment in IAS 16, an enterprise that Chapter 25 - I nflation and Hyperinflation uses the fair value model should continue carrying the other investment properties at fair values. While Chapter 26 - Gov er nm ent Gr an ts this results in a mixed measure of the aggregate investment property, it underlines the perceived Appendix A - of Di sclosure Checklist importance the fair value method. Chapter 22 - For eign Curr ency

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com of I AS, US GAAP, and UK GAAP Transfers to parison or from investment property. I ndex

Transfers to or from investment property should be made only when there is demonstrated "change in List of Tables use" contemplated the standard. A change in use takes place when there is a transfer List of as Ex hibits and Ex amby ples List of Sidebar s

From investment property to owner-occupied property, when owner-occupation commences; From investment property to inventories, on commencement of development with a view to sale; From an owner-occupied property to investment property, when owner-occupation ends; Of inventories to investment property, when an operating lease to a third party commences; or Of property in the course of development or construction to investment property, at end of the

construction or development. In the case of an enterprise that employs the cost model, transfers between investment property, W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f owner-occupied property and inventories do not change the carrying amount of the property transferred I n t er n at ion al Accou n t in g St an d ar ds and thus do not change the cost of that property for measurement or disclosure purposes. When the ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali investment property is carried under the fair value model, vastly different results follow as far as Mir za recognition and measurement is concerned. John Wi ley & Sons © 2003 (952These pages) are explained below. 1. TransfersThis from (orpact to) and investment to qui (orckfrom) com t ruly comproperty pr ehensive - refer plant ence and equipment (in the case of pr esent s account antsunder with a the guide depend on for In some instances, property that at investment property carried fairtovalue model). assistance classified in the prepar at ion and under standing of financial first is appropriately as investment property under IAS 40 may later become plant, statements present ed in accordance with I AS. property, and equipment as defined under IAS 16. For example, a building is obtained and T ab le of leased Con t ento t sunrelated parties, but at a later date the entity expands its own operations to the extent that it now chooses to utilize the building heldAccount as a passive investment for its own Wiley I AS 20 03—Int er pretation and Application of Iformerly nternational ing Standar ds purposes, such as for the corporate executive offices. The amount reflected in the accounting Preface records as the fair value of the property as of the date of change in status would become the for subsequent accounting purposes. Previously recognized changes in value, if any, Chapter cost 1 - basis I ntr oduction to I nter national Accounting Standar ds not be Sheet reversed. Chapter would 2 - Balance I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter Similarly, 3 if propertyGains first classified as owner-occupied property and treated as plant and of Recognized and Losses

under the treatment of IAS 16 is later redeployed as investment property, Chapter equipment 4 - Cash Flow St at embenchmark ent it is -toFinancial be measured at fair value at the date of the change in its usage. If the value is lower than I nstr uments—Cash and Receiv ables the carrying amount (i.e., if there is a previously unrecognized decline in its fair value) then this 6 - I nventor y will be reflected in earnings in the period of redeployment as an investment property. On the 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s other hand, if there has been an unrecognized increase in value, the accounting will depend on 8 - Property , Plant , and Equipment whether this is a reversal of a previously recognized value impairment. If the increase is a 9 - I ntangi ble Asset s reversal of a decline in value, the increase should be recognized currently in earnings; the I nterests in Financial Instr um ent s,not Associat es,the Joint Venturneeded es, and to restore the carrying amount so reported, however, should exceed amount 10 I nvestm ent Pr oper ty amount to what it would have been, net of depreciation, had the earlier impairment loss not 11 - Business Combinations and Consolidat ed Fin ancial Statements occurred.

Chapter 5 Chapter Chapter Chapter Chapter Chapter Chapter

Chapter 12 Chapter Chapter Chapter Chapter

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Sheet Date If, onBalance the other hand, there was no previously recognized impairment which the current value 13 Financial I nstr uments—LongTerto m the Debtextent that the current increase exceeds the earlier increase is effectively reversing (or, 14 Leases decline), then the increase should be reported directly in equity, by means of the statement of 15 - I ncom Taxes If the investment property is later disposed of, any resultant gain or loss changes in eequity. 16 Em ploy ee Benefit s include the effect of the amount reported directly in equity. computation should not

Chapter 17 - Stock holder s' Equit y

2. Transfers from to investment property (in the case of investment property Chapter 18 - Earnings Perinventory Share

carried under the fair value model). It may also happen that property originally classified as inventory, originally held for sale in the normal course of the business, is later redeployed as 20 - Segm ent Repor ting investment property. When reclassified, the initial carrying amount should be fair value as of that 21 - Accounting Changes and Cor rection of Er ror s date. Any gain or loss resulting from this reclassification would be reported in current period's 22 - For eign Curr ency earnings. IAS 40 does not contemplate reclassification from investment property to inventory, 23 - Related- Part y Disclosures however. When the enterprise determines that property held as investment property is to be 24 - Specialized ndustr ies should be retained as investment property until actually sold. It should disposed of, thatI property 25 I nflation and Hyperinflation not be derecognized (eliminated from the balance sheet) or transferred to an inventory 26 Gov er nm ent Gr an ts classification.

Chapter 19 - I nterim Financial Repor ting Chapter Chapter Chapter Chapter Chapter Chapter Chapter

Appendix A - Di sclosure Checklist

3. Transfer on completion ofatem construction oreddevelopment of self-constructed investment Appendix B - I llustrativ e Financial St ent s Pr esent Under I AS (to be carried at fair value). OnGAAP completion of construction or development of selfAppendixproperty C - Com parison of I AS, US GAAP, and UK

constructed investment property that will be carried at fair value, any difference between the fair value of the property at that date and its previous carrying amount should be recognized in the List of Tables net income or loss for the period. I ndex

List of Ex hibits and Ex am ples List of Sidebar s

Disposal and retirement of investment property. An investment property should be derecognized (i.e., eliminated from the balance sheet of the enterprise) on disposal or when it is permanently withdrawn from use and no future economic benefits are expected from its disposal. The word "disposal" has been used in the standard to mean not only a sale but also the entering into of a finance lease by the enterprise. Any gains or losses on disposal or retirement of an investment property should be determined as the difference between the net disposal proceeds and the carrying amount of the asset and should be recognized in the net income or loss for

the period.

Disclosure requirements. W ile y I AS 2 0 03 :

I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

It is anticipated that in certain cases investment property will beISBN:0471227366 property that is owned by the reporting by Bar r y J. Epstein and Abbas Ali entity and leasedMir to za others under operating-type lease arrangements. The disclosure requirements set forth in IAS 17 (and discussed in Chapter 14) pages) continue unaltered by IAS 40. In addition, IAS 40 John Wi ley & Sons © 2003 (952 stipulates a number of new disclosure requirements set out below. This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account with a guide properties to depend on for 1. Disclosures applicable toants all investment assistance in the prepar at ion and under standing of financial present ed in accordance with that I AS.holds an investment property will need to Whenstatements classification is difficult, an enterprise disclose the criteria used to distinguish investment property from owner-occupied property T ab le of Con t en ts and from property held for sale in the ordinary course of business. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

The methods and any significant assumptions that were used in ascertaining the fair values of the investment properties are to be disclosed as well. Such disclosure also includes a Chapter 1 - I ntr oduction to I nter national Accounting Standar ds statement about whether the determination of fair value was supported by market evidence Chapter 2 - Balance Sheet or relied heavily on other factors (which the enterprise needs to disclose as well) due to the I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - nature of the property and the absence of comparable market data. Preface

of Recognized Gains and Losses

Chapter 4 Chapter 5

- Cash Flow St atproperty em ent has been revalued by an independent appraiser, having recognized If investment - Financial I nstrqualifications, uments—Cash and and who Receiv ables and relevant has recent experience with properties having similar

Chapter 7

- Icharacteristics nventor y of location and type, the extent to which the fair value of investment property (either used case the fair value is used or disclosed in case the cost - Rev enue Recogni tion, Iinncluding Constr uctionmodel Contr act s

Chapter 8

model is, used) based on valuation by such an independent valuer. If there is no such - Property Plant , is and Equipment

Chapter 9

that fact - Ivaluation, ntangi ble Asset s should be disclosed as well.

Chapter 6

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - The following should be disclosed in the income statement: I nvestm ent Pr oper ty Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

The amount of rental income derived from investment property;

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date Direct operating expenses (including repairs and maintenance) arising from Chapter 13 - Financial I nstr uments—LongTer m Debt rental income; and investment property that generated Chapter 12 -

Chapter 14 - Leases

operating expenses (including repairs and maintenance) arising from Chapter 15 - I ncomDirect e Taxes investment Chapter 16 - Em ploy ee Benefit sproperty that did not generate rental income. Chapter 17 - Stock holder s' Equit y

The existence and the amount of any restrictions which may potentially affect the realizability of investment property or the remittance of income and proceeds from Chapter 19 - I nterim Financial Repor ting disposal to be received; and Chapter 18 - Earnings Per Share

Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Material Changes contractual and Cor obligations rection of to Er ror purchase s or build investment property or for

repairs, maintenance or improvements thereto. Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures

2. Disclosures applicable to investment property measured using the fair value model

Chapter 24 - Specialized I ndustr ies

Chapter 25 - IIn nflation andtoHyperinflation addition the disclosures outlined above, the standard requires that an enterprise that Chapter 26 - Gov er nm an ts model should also present a reconciliation of the carrying amounts of uses the ent fair Gr value Appendix A - Di sclosure Checklist the investment property, from the beginning to the end of the reporting period. The Appendix B - Ireconciliation llustrativ e Financial St atem ent s Pr esent ed Under I AS will separately identify additions resulting from acquisitions, those resulting Appendix C - Com fromparison business of Icombinations, AS, US GAAP, and and UK those GAAP deriving from capitalized expenditures subsequent

to the property's initial recognition. It will also identify disposals, gains or losses from fair List of Tables value adjustments, the net exchange differences, if any, arising from the translation of the statements of a foreign entity, transfers to and from inventories and ownerList of Ex hibitsfinancial and Ex am ples occupied properties, and any other movements. (Comparative reconciliation data for prior List of Sidebar s periods need not be presented). I ndex

Under exceptional circumstances, due to lack of reliable fair value, when an enterprise measures investment property using the benchmark treatment under IAS 16, the above reconciliation should disclose amounts separately for that investment property from amounts relating to other investment property. In addition, an enterprise should also disclose

A description of such a property, An explanation of why fair value cannot be reliably measured,

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

If possible, the range of estimates within which fair value is highly likely to lie, and

ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir Onzadisposal of such an investment property, the fact that the enterprise has disposed John Wi ley & Sons © 2003not (952carried pages) at fair value along with its carrying amount at the of investment property

This pact andand t rulythe com pr ehensive quior ck -loss referrecognized. ence time com of disposal amount of gain pr esent s account ants with a guide to depend on for assistance in the at ion and under standing of financial 3. Disclosures applicable toprepar investment property measured using the cost model statements present ed in accordance with I AS.

In addition to the disclosure requirements outlined in 1. above, the standard requires that an enterprise that applies the cost model should also disclose: the depreciation methods Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing used, the useful lives or the depreciation rates used, and the gross carrying amount and Standar ds the accumulated depreciation (aggregated with accumulated impairment losses) at the Preface beginning and end of the period. It should also disclose a reconciliation of the carrying Chapter 1 - I ntr oduction to I nter national Accounting Standar ds amount of investment property at the beginning and the end of the period showing the Chapter 2 - Balance Sheet following details: additions resulting from acquisitions, those resulting from business I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - combinations, and those deriving from capitalized expenditures subsequent to the of Recognized Gains and Losses property's initial recognition. It should also disclose disposals, depreciation, impairment Chapter 4 - Cash Flow St at em ent losses recognized and reversed, the net exchange differences, if any, arising from the Chapter 5 - Financial I nstr uments—Cash and Receiv ables translation of the financial statements of a foreign entity, transfers to and from inventories Chapter 6 - I nventor y and owner-occupied properties, and any other movements. (Comparative reconciliation Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s data for prior periods need not be presented.)

T ab le of Con t en t s

Chapter 8

- Property , Plant , and Equipment

- IThe ntangi Assetofs investment property carried under the cost model should also be fairblevalue exceptional cases, the es, fairJoint valueVentur of thees,investment property cannot be Idisclosed. nterests in In Financial Instr um ent s,when Associat and Chapter 10 Ireliably nvestm estimated, ent Pr oper tythe enterprise should instead disclose Chapter 9

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

A description of such property, Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

An explanation of why fair value Chapter 13 - Financial I nstr uments—LongTer m Debtcannot be reliably measured, and Chapter 14 - Leases

If possible, the range of estimates within which fair value is highly likely to lie.

Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s

Transitional Provisions

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

Fair value model.

Chapter 19 - I nterim Financial Repor ting Chapter 20 -fair Segm entmodel, Repor ting Under the value an enterprise should report the effect of adopting this standard on its Chapter 21date - Accounting Changes and Cor rection of opening Er ror s balance of retained earnings for the period in effective (or earlier) as an adjustment to the Chapter 22 standard - For eign is Curr ency which the first adopted. In addition Chapter 23 - Related- Part y Disclosures

If the hasI ndustr previously Chapter 24 enterprise - Specialized ies disclosed publicly (in financial statements or otherwise) the fair

value its investment property in earlier periods (determined on a basis that satisfies the definition Chapter 25 of - I nflation and Hyperinflation of fair value given in the standard), the enterprise is encouraged, but not required, to

Chapter 26 - Gov er nm ent Gr an ts

Appendix AAdjust - Di sclosure Checklist the opening balance of retained earnings for the earliest period presented for which Appendix Bsuch - I llustrativ e Financial St atem ent s Pr esent fair value was disclosed publicly; anded Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Restate comparative information for those periods.

List of Tables

If the enterprise has not previously disclosed publicly the information described in 1., the enterprise should not restate comparative information and should disclose that fact.

List of Ex hibits and Ex am ples List of Sidebar s

Cost model. IAS 8 applies to any change in accounting policies that occurs when an enterprise first adopts this standard and chooses to use the cost model. The effect of the change in accounting policies includes the reclassification of any amount held in revaluation surplus for investment property.

Effective date.

This International Accounting Standard became operative for annual financial statements covering periods beginning on or after January 1, 2001. Earlier application was encouraged. If an enterprise applied this Standard forI AS periods 2001, required to disclose that fact. W ile y 2 0 03beginning : I n t erp rebefore t at ion January an d Ap p1, licat io n ito was f I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS 2 0 03Summarizing : I n t erp re t at ion an d Treatment Ap p licat io n o f of Investment Appendix Schematic I n t er n at ion al Accou n t in g St an d ar ds IAS 40, Appendix A) ISBN:0471227366 Property (Source: by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Chapter 11: Business Combinations and I n t er n at ion al Accou n t in g St an d ar ds ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Consolidated Financial Statements Mir za John Wi ley & Sons © 2003 (952 pages) com pact and t ruly com pr ehensive qui ck - refer ence PerspectiveThisand Issues pr esent s account ants with a guide to depend on for

assistance prepar at ion under standing of financial Business combinations mayinbethe structured in aand wide variety of ways, but under current IAS they will be statements present ed in accordance with I AS. accounted for in one of two manners—either as acquisitions (purchases), or as unitings (poolings) of interests. While T ab le of Con t en t sthe use of pooling of interests accounting is likely to be banned by IASB, probably in 2003 (as is has recently been and by the FASB inofthe US), as of late 2002ingthe criteria under IAS 22 remain Wiley I AS 20 03—Int er pretation Application I nternational Account intact. ds Thus, if certain restrictive conditions are met, business combinations by entities reporting under Standar IAS may still be accounted for in this manner. Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

A uniting of interests presumes that the ownership interests of the predecessor combining entities - Balance Sheet continue essentially unchanged in the new combined enterprise. Because unitings (poolings) do not I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 to- revaluations of assets and liabilities of either of the combining entities, no step-up in give rise of Recognized Gains and Losses carrying values will be recognized and no goodwill will be created—and thus future periods will Chapter 4 - Cash Flow St at em ent generally not suffer the burden of higher depreciation and amortization charges. For this reason, many Chapter 5 - Financial I nstr uments—Cash and Receiv ables combining entities (particularly those whose shares are publicly traded) have greatly preferred such Chapter 6 - I nventor y accounting and often will be highly motivated to structure such transactions so as to meet the IAS 22 Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s criteria for pooling accounting. Chapter 2

Chapter 8

- Property , Plant , and Equipment

Chapter 9 - I it ntangi ble Assetdifficult s Increasingly has become to rationalize that such transactions are indeed marriages of equals, because in almost all instances will be ent reasonably clear that one entity in fact acquired the other, I nterests in FinancialitInstr um s, Associat es, Joint Ventur es, and Chapter 10 I nvestm entshareholders Pr oper ty even if the acquiree's continue as shareholders in the successor entity. Although IAS 22's Chapter Business Combinations and Consolidat ed(compared, Fin ancial Statements criteria 11 for -pooling treatment were rather restrictive for example, to the former US Currthus ent Liabilit ies, few Provbusiness isions, Cont ingencies, and Ev ents afterto t he standard), and relatively combinations were qualified use that accounting, the Chapter 12 Sheet Date trend amongBalance major national standard-setting bodies has been to entirely eliminate such accounting, Chapter - Financial I nstr Ter m Debt and the13 IASB is poised to uments—Longfollow suit. Under a revised or successor standard, as currently being Chapter 14 Leases debated, purchase accounting would be universally applied, and the methodology would be quite Chapter I ncom e Taxesto that currently prescribed by IAS 22 and described in this chapter. similar 15 (but- not identical) Chapter 16 - Em ploy ee Benefit s

When a17combination is s' accounted for as an acquisition, the assets acquired and liabilities assumed are Chapter - Stock holder Equit y

recorded at their fair values using purchase accounting. If the fair value of the net assets acquired equal an amount other than the total acquisition price, the excess (or deficiency) is generally referred to Chapter 19 - I nterim Financial Repor ting as goodwill (negative goodwill). Goodwill can arise only in the context of a business combination that is Chapter 20 - Segm ent Repor ting an acquisition. While fair values of many assets and liabilities are generally readily determined (and in Chapter 21 - Accounting Changes and Cor rection of Er ror s an arm's-length transaction should be known to the parties) certain recognition and measurement Chapter 22 - For eign Curr ency problems do arise. Included here are the value of contingent consideration promises made to former Chapter - RelatedPartentity, y Disclosures owners23 of the acquired and the need to recognize certain expenses that arise by virtue of the Chapter 24 Specialized I ndustr ies transaction, such as those pertaining to elimination of duplicate facilities. Chapter 18 - Earnings Per Share

Chapter 25 - I nflation and Hyperinflation

Some of more challenging Chapter 26the - Gov er nm ent Gr an tsissues affecting accounting for business combinations accounted for as purchases in connection Appendix A -arise Di sclosure Checklistwith acquired intangible assets, including goodwill. IAS 38 addressed the accounting intangibles, in general (discussed in ed Chapter Appendix B - for I llustrativ e Financial St atem ent s Pr esent Under 9), I ASand the IASB's current projects on

businessCcombinations make changes the existing standard. The recent changes to US Appendix - Com parison will of I likely AS, US GAAP, and UKto GAAP

GAAP—under which amortization of goodwill has been eliminated, being superseded by a new impairment testing regime—are expected to be closely emulated in the forthcoming changes to IAS. List of Tables The expected course of these developments will be discussed in the current chapter. I ndex

List of Ex hibits and Ex am ples

List of practical Sidebar s level, acquired entities are either held as subsidiaries or are fully merged into the At a

acquirer. The consolidated financial reporting of the surviving entity or parent company will be identical in either case, but in the former there will be a need to maintain "memo" records so that asset and liability step-ups or step-downs (to reflect fair values as of the acquisition date, further adjusted for amortization and other occurrences thereafter until the financial statement date) can be made in preparing consolidated financial statements. Where an actual merger has occurred, however, these will have been formally recorded at the date of acquisition. The applicability of pooling or purchase accounting is not dependent upon the legal structure of the posttransaction entity.

Major accounting issues affecting business combinations and the preparation of consolidated or combined financial statements are as follows: thereassets 1. The properWaccounting ile y I AS 2 0basis 03 : I for n t erp t at ionand an dliabilities Ap p licatof io the n o fcombining entities I n t er n at ion al Accou n t in g St an d ar ds

2. The decision to treat combination as aAliuniting of interests or as an acquisition ISBN:0471227366 by Bar r y J. a Epstein and Abbas Mir za

3. The elimination ofley intercompany balances and transactions in the preparation of consolidated or John Wi & Sons © 2003 (952 pages) combined This statements. com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

Also examined inassistance this chapter are prepar specialatproblems arising from specific acquisition transactions, such in the ion and under standing of financial as reverse acquisitions, and present emerging having accounting implications, such as statements ed practices in accordance withcomplex I AS. special-purpose entities.

T ab le of Con t en t s

Wiley I AS 20 03—Int er pretation and Application of I nternational Sources of IASAccount ing Standar ds Preface

IAS 22, 27, 36, 37, 38

SIC 9, 12, 22, 28, 33

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

ile yTerms I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f DefinitionsWof I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za Accounting consolidation

John Wi ley & Sons © 2003 (952 pages)

The process of combining the financial statements of a parent company and one or This com pact and t ruly com pr ehensive qui ck - refer ence more legally separate pr esent s account antsand withdistinct a guidesubsidiaries. to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Acquisition

A business combination in which one entity (the acquirer) obtains control over the net assets and operations of another (the acquiree) in exchange for the transfer of assets, Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing incurrence of liability, or issuance of equity. Standar ds

T ab le of Con t en t s

Preface

Business combination

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 8

- Property , Plant , and Equipment

The bringing together of separate enterprises into one economic entity as a result of one enterprise uniting with or obtaining control over the net assets and operations of I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 another. Gains and Losses of Recognized Combination

Any transaction whereby one enterprise obtains control over the assets and properties of another enterprise, regardless of the resulting form of the enterprise Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s emerging from the combination transaction. Chapter 9 - I ntangi ble Asset s Combined financial statements Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Financial statements 83presenting the financial position and/or results of operations I nvestm ent Pr oper ty

of legally separate entities, related by common ownership, as if they were a single entity.

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Consolidated financial statements

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

The financial statements of a group presented as those of a single enterprise.

Chapter 14 - Leases

Chapter 15 - I ncom e Taxes Consolidation Chapter 16 - Em ploy ee Benefit s

A new enterprise is formed to acquire two or more other enterprises through an exchange of voting stock. The acquired enterprises then cease to exist as separate Chapter 18 - Earnings Per Share legal entities. Chapter 17 - Stock holder s' Equit y

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Control Chapter 21 - Accounting Changes and the Cor rection of and Er roroperating s The power to govern financial policies of an enterprise so as to Chapter 22 - For obtain eign Curr ency from its activities. benefits Chapter 23 - Related- Part y Disclosures

Date24 of -acquisition Chapter Specialized I ndustr ies Chapter 25 - I nflation and on Hyperinflation The date which control of the net assets and operations of the acquiree is transferred to the acquirer. Chapter 26 - Goveffectively er nm ent Gr an ts Appendix A - Di sclosure Checklist

Fair value Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS The amount for which an asset could be exchanged or a liability settled between Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

knowledgeable, willing parties in an arm's-length transaction.

List of Tables

Goodwill

List of Ex hibits and Ex am ples

List of Sidebar s The excess of the cost of a business acquisition accounted for as an acquisition (i.e.,

by the purchase method) over the fair value of the net assets thereof; it will generally be amortized over a useful life of no more than twenty years, although amortization over a longer period can be used under defined limited circumstances, if coupled with regular impairment reviews.

Group A parent and all its subsidiaries.

Merger One enterprise acquires all of the net assets of one or more other enterprises through anWexchange stock, cash other property, ile y I AS 2of0 03 : I n tpayment erp re t atof ion an dor Ap p licat io n o f or the issue of debt I n t er n at ion al Accou n t in g St an d ar ds instruments. by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za Minority interest John Wi ley & Sons © 2003 (952 pages) That part of the net results of operations and net assets of a subsidiary attributable to This com pact and t com pr ehensive qui ck - refer ence subsidiaries, by the parent. interests that are notruly owned, directly or indirectly through pr esent s account ants with a guide to depend on for

assistance in the prepar at ion and under standing of financial Negative goodwill statements present ed in accordance with I AS.

This amount represents the net excess of fair value of the net assets of a business T ab le of Con t en tacquisition s accounted for as a purchase, either determined after offsetting the Wiley I AS 20 03—Int er pretation and against Application Account ing maximum amount the of fairI nternational value of all nonmonetary assets acquired (the Standar ds benchmark treatment) or without so offsetting (the alternative treatment). Preface Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Parent Chapter 2

- Balance Sheet An enterprise that has one or more subsidiaries. I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of Recognizedmethod Gains and Losses Pooling-of-interests Chapter 4

- Cash Flow St at em ent

Chapter 5 Chapter 7

- Financial I nstrand uments—Cash and ables interests in the combining entities. It does exchange continuation ofReceiv ownership - I nventor y not result in the establishing of a new basis of accountability. The pooling method is to - Revbe enue Recogni tion, I ncluding Constr uction Contr act s used for unitings of interests.

Chapter 8

- Property , Plant , and Equipment

Chapter 6

An accounting method used for a business combination that is predicated on a mutual

Purchase method Chapter 9 - I ntangi ble Asset s Chapter 10 -

I nterests in Financial Instr um ent s, es, Joint Ventur es,that andrecognizes that one An accounting method used forAssociat a business combination I nvestm ent Pr oper ty was acquired by another. It establishes a new basis of accountability combining entity

Chapter 11 - Business Consolidat ed Finis ancial for theCombinations acquiree. Theand purchase method to beStatements used for acquisitions. Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balance Sheet Dateearnings Purchased preacquisition

Chapter 13 - Financial I nstr uments—Longm earnings Debt An account used to reportTer the of a subsidiary attributable to percentage Chapter 14 - Leases ownership acquired at the interim date in the current reporting period. Chapter 15 - I ncom e Taxes

Subsidiary Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock s' Equit y is controlled directly or indirectly by another enterprise. Anholder enterprise that Chapter 18 - Earnings Per Share

Uniting interests Chapter 19 -ofI nterim Financial Repor ting Chapter 20 - Segm A business ent Reporcombination ting in which the shareholders of the combining enterprises

combineChanges control over the rection whole, of or Er effectively the whole, of their respective net assets Chapter 21 - Accounting and Cor ror s Chapter 22 - For and eign operations Curr ency to achieve a continuing mutual sharing in the risks and benefits

attaching the combined entity such that neither party can be identified as the Chapter 23 - RelatedPart ytoDisclosures acquirer.I ndustr ies Chapter 24 - Specialized Chapter 25 - I nflation and Hyperinflation

Unrealized intercompany profit

Chapter 26 - Gov er nm ent Gr an ts

The excess of the transaction price over the carrying value of an item (usually inventory or plant assets) transferred from (or to) a parent to (or from) the subsidiary Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS (or among subsidiaries) and not sold to an outside entity. For purposes of Appendix C - Com parison of I AS, US GAAP, and UK GAAP consolidated financial statements, recognition must be deferred until subsequent I ndex realization through a transaction with an unrelated party. Appendix A - Di sclosure Checklist

List of Tables

List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS and 2 0 03 : Examples I n t erp re t at ion an d Ap p licat io n o f Concepts, Rules, I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Introduction to Business Combinations Mir za John Wi ley & Sons © 2003 (952 pages)

Business combinations occur under two different scenarios. By far, the most common type of combination is This com pact and t ruly com pr ehensive qui ck - refer ence acquisition, whichprisesent sometimes also a purchase or on as for a purchase business combination. The othe s account antsknown with aas guide to depend which represent aassistance very smallinminority of cases, areunder effected in a manner known as a uniting of interests, whic the prepar at ion and standing of financial statements present ed in accordance with I AS. pooling of interests or as a merger. T ab le of Con t en t s

The aforenoted typology is independent of the legal form of the business combination. Thus, two entities may

Wiley AS 20enterprise. 03—Int er pretation and Application I nternational new,I third Alternatively, one entityofmay purchase, Account for cashing or for stock, the stock of another enter Standar ds

be followed by a formal merging of the acquired entity into the acquirer. In yet other cases, one entity may sim another, with or without assuming the debts of that enterprise. The form of the combination does not define w Chapter 1 - I ntr oduction to I nter national Accounting Standar ds anacquisition or a uniting of interests, however. Rather, it is the substance of the transaction, which will be ex Chapter 2 paragraphs, - Balance Sheet following which will serve to define it. The accounting for acquisitions differs markedly from that I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent interests. Chapter 3 Preface

of Recognized Gains and Losses

Chapter 4

- Cash Flow St at em ent

Uniting- Financial of Interests I nstr uments—Cash and Receiv ables

Chapter 5 Chapter 6

- I nventor y

The use of pooling-of-interests (or unitings of interests) accounting had been widespread for about fifty years - Rev enue Recogni tion, I ncluding Constr uction Contr act s evolved to address certain combinations, typically of entities of approximately the same size and of similar op Chapter 8 - Property , Plant , and Equipment identification of an acquirer was made difficult by the fact that all or most of the ownership interests of the co Chapter 9 -ofI ntangi ble Asset sentity. Over time, the strict criteria were eroded, so that even mergers between e as owners the combined I nterests Financial um ent s, Associat es, discernible, Joint Ventur were es, and where presumably theinidentity of Instr the acquiring party was often treated as unitings of interes Chapter 10 I nvestm ent Pr oper ty to this accounting treatment was to avoid disclosing the true acquisition cost, which would necessitate step-u Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements many assets and quite frequently the recognition of goodwill, which would burden future operations with high Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he amortization Chapter 12 - charges. Chapter 7

Balance Sheet Date

Chapter 13 is - Financial I nstr uments—LongTer m or Debt The trend now firmly established to reduce eliminate the use of unitings of interests accounting. The US Chapter 14 Leases pooling accounting outright (effective mid-2001) and all future business combinations must be accounted for Chapter 15 standard - I ncom e setter, Taxes as it often does, followed the US with a similar requirement. Australia and New Ze Canadian Chapter universal 16 purchase - Em ploy ee accounting. Benefit s Chapter 17 - Stock holder s' Equit y

A theoretical case can be made for the use of unitings of interest accounting for "marriages of equals" in whi any group of shareholders, emerges as the acquirer of the other. However, in adopting the new US requirem Chapter 19 - I nterim Financial Repor ting while such situations may exist, they are in such a small minority that it would have been dysfunctional to hav Chapter 20 - Segm ent Repor ting alternative method of accounting simply to accommodate these few transactions, leaving the door open to fu Chapter 21 - Accounting Changes and Cor rection of Er ror s debates over "gray" transactions. Chapter 18 - Earnings Per Share

Chapter 22 - For eign Curr ency

Chapter 23 -former Relatedy Disclosures Under the USPart standard, all of twelve criteria had to be satisfied in order to apply pooling (unitings) acc Chapter 24 - Specialized I ndustr ies of public-company transactions were structured so as to take advantage of this opportunity. Under current IA

satisfied fewer, but are nonetheless stricter, so that pooling treatment under IAS has been far less Chapter 25are - I nflation andthese Hyperinflation former 26 US -rules. in mid-2001, this situation is (temporarily, perhaps) reversed, and unit Chapter Gov erOf nmcourse, ent Gr anbeginning ts acceptable IAS although Appendix A - under Di sclosure Checklist totally banned under US rules. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Recent evolution of uniting (pooling) of interests rules.

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

A declining number of standard-setting bodies now explicitly permit certain consolidations to be accounted fo

List of Tables interests. These include the independent national accounting standards bodies in France, the UK, Germany, List Ex hibitstoand Ex am plesvary substantially: a growing minority of national accounting standard-setting bodie Theofcriteria be satisfied List of Sidebaraltogether, s accounting and with the US now in this camp, further prohibitions are inevitable.

International accounting standard for pooling. The international accounting standard, IAS 22, provides a rather more direct set of criteria for determining th pooling accounting treatment. Three tests must all be met, as follows: 1. The shareholders of the combining enterprises must achieve a continuing mutual sharing of the risks the combined enterprise. 2.

2. The basis of the transaction must be principally an exchange of voting common shares of the enterpri 3. The whole, or effectively the whole, of the net assets and operations of the combining enterprises are W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

The first of these criteria relates to the continual sharing of risks and benefits by the combining shareholder g ISBN:0471227366 J. Epsteinmust and occur: Abbas Ali according to IAS by 22,Bar ther yfollowing Mir za

majority, if not all, of the voting common shares of the combining enterprises are exch 1. The substantial John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence

2. The fair value of one enterprise is not significantly different from that of the other enterprise. pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial

3. The shareholders of each enterprise maintain with substantially the same voting rights and interest in the c statements present ed in accordance I AS. each other, after the combination as before. T ab le of Con t en t s

Thus,I AS the20international standards effectively defined theAccount essential Wiley 03—Int er pretation and have Application of I nternational ingcharacteristics of a true uniting of inte Standar ds address these. In describing a uniting of interests, IAS 22 states that "...the shareholders of the com tests that Preface substantially equal arrangement to share control over the whole, or effectively the whole, of their net assets a

Furthermore, it states that achieve such a mutualStandar sharingdsof risks and benefits, "the fair value of one enter Chapter 1 - I ntr oduction to to I nter national Accounting significantly differentSheet from that of the other." Although these words are perhaps suggestive of the notion that Chapter 2 - Balance occur unlessI ncom the combining entities areent virtually identical in size, theStatem preciseentmeaning is not made clear. Thu e Statement, Stat em of Chan ges in Equit y, and under these of criteria the mergers of entities Recognized Gains and Losses of at least somewhat differing sizes can continue to be accounted terms stated are met. Chapter 4 - Cash Flow St at em ent Chapter 3

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

In addressing the "substantially equal arrangement" the IAS 22 approach is clearly not as ambiguous as was - I nventor y APB 16, which made no reference to the relative sizes of the combining entities or their relative net worths. H Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s restrictive as the current UK standard (FRS 6), which demands approximately equal size under what is virtua Chapter 8 - Property , Plant , and Equipment doctrine. Chapter 6

Chapter 9

- I ntangi ble Asset s

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and While IAS Chapter 10 -22 goes on to state that a "mutual sharing...is usually not possible without a substantially equal ex I nvestm Pr oper ty shares..." this can beentread to mean that the relative interests of the combining parties cannot be altered by th Chapter 11 if- one Business Combinations and ed two-thirds Fin ancial Statements example, combining entity has a Consolidat fair value of of that of the other entity, this would imply that Curr ent Liabilit ies, Prov isions, Cont should ingencies, and Ev ents40% after[2/3 t he ÷ (2/3 + 3/3)] of the new combin former shareholders of the smaller enterprise control about Chapter 12 Balance Date were not met, these Sheet shareholders would have either gained or lost relative voting power in the transaction, w Chapter 13 - of Financial I nstr uments—LongTer m Debt suggestive an acquisition of one enterprise by the other. In practice, there will be many borderline circums Chapter 14 Leases must be applied to ascertain if the terms of IAS 22 have indeed been met. Chapter 15 - I ncom e Taxes Chapter Indicators 16 - Emthat ploy ee a Benefit uniting s

has not occurred.

Chapter 17 - Stock holder s' Equit y

The presence of certain are presumptive evidence that a uniting of interests characterization would Chapter 18 - Earnings Per attributes Share include

Chapter 19 - I nterim Financial Repor ting

1. The in fair values of the combining enterprises is reduced and the percentage of votin Chapter 20 - relative Segm entequality Repor ting decreases. Chapter exchanged 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

2. The financial arrangements provide a relative advantage to one group of shareholders over the other arrangements may take effect either prior to or after the business combination occurs.

Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies

Chapter 25 - party's I nflationshare and Hyperinflation 3. One of the equity in the combined entity depends on how the business that it previously Chapter subsequent 26 - Gov er nm toent theGr business an ts combination. Appendix A - Di sclosure Checklist

The Standing Interpretations Committee has offered a further set of observations that supports the notion tha rarely occur in practice. In SIC 9, it is noted that business combinations must be accounted for as either acqu Appendix C - Com parison of I AS, US GAAP, and UK GAAP interests (no hybrid treatments are allowed), and that most such transactions are expected to be acquisitions I ndex an acquirer cannot be identified qualifying for unitings of interests accounting. The determination of whether List of Tables and whether control exists should be based on an overall evaluation of all the relevant facts and circumstanc List of Ex hibits and Ex am ples 22 cannot be seen as an absolute checklist, the failure to meet any one of the following would require acquis List of Sidebar s to be followed: Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

1. There is an exchange or pooling of the substantial majority of the voting common shares of the combi 2. There is a relative equality in the fair values of the combining enterprises 3. There is a continuation of substantially the same relative percentage in voting rights and interest of th each combining entity in the new combined entity While the failure to meet these criteria will absolutely necessitate acquisition accounting, the converse is not

foregoing are met, if an acquirer can be identified, the combination will have to be accounted for as an acquis

Accounting procedures in respect to unitings of interests. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

The pooling-of-interests method of accounting should be used ISBN:0471227366 to account for unitings of interests. Financial s by Bar r y J. Epstein and Abbas Ali enterprises for the of the combination and for any comparative (i.e., earlier) periods shown should incl Mirperiod za revenues, and expenses of the combining enterprises as if they had always been combined in fact. No new b John Wi ley & Sons © 2003 (952 pages) established; the bases of all assets and liabilities remains as before the uniting. These rules are essential to This com pact and t ruly com pr ehensive qui ck - refer ence interests, which represents that formerly separate entities have come together to do in the future as o pr esent s account ants with a guide to depend on merely for separately in the assistance past, without either having or standing been acquired by the other. in the prepar at ionacquired and under of financial statements present ed in accordance with I AS.

No goodwill or negative goodwill can be created in a uniting of interests. Goodwill is the excess of purchase p T ab le of Con t en t s net identifiable assets acquired; absent an acquisition, there can be no new basis of accounting established Wiley 20 03—Int er pretation and Application of I nternational sameI AS applies to negative goodwill, which is merely the excessAccount of the ing fair value of the net identifiable assets a Standar ds price. Once again, no acquisition means no negative goodwill. Preface

Chapter 1 it- isI ntr oduction to I nter the national Accounting Although easiest to explain accounting for aStandar uniting ds of interests as resulting simply in the combining o Chapter 2 Balance Sheet liabilities, and equities, in fact the equity sections of the combining enterprises' balance sheets may require c

reason is that depending on theStat legal the uniting (e.g.,y,one issuing shares for the shares of the I ncom e Statement, emform ent ofofChan ges in Equit andentity Statem ent Recognized and Losses acquiring theofshares of theGains combining parties) and the par or stated values of the shares of the combining en Chapter 4 - Cash St of at em to capitalize someFlow or all theent retained earnings of one or both of the combining companies. In no event, how Chapter 5 result - Financial nstr uments—Cash Receiv ables interests in the Icreation of retainedand earnings: The immediate postuniting combined balance of retained Chapter less than 6 the - I nventor sum ofythe constituents' retained earnings. Put another way, any difference between the record any additional and the recorded share capital should be adjusted against equity. Chapter 7 - Revconsideration, enue Recogni tion, I ncluding Constr uction Contracquired, act s Chapter 3

Chapter 8

- Property , Plant , and Equipment

Any expenses incurred in consummating a uniting of interests should be recognized as expenses when incur - I ntangi ble Asset s capitalized or adjusted against equity.

Chapter 9

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Basic example of uniting of interests

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he To illustrate Chapter 12 - the essential elements of the pooling-of-interests method of accounting, consider the following b Balance Sheet Date

combining entities:

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes

Condensed Balance Sheets as of Date of Merger

Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter Assets18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting

Liabilities

Chapter 20 - Segm ent Repor ting

Company A

Company B

$30,000,000

$4,500,000

$18,000,000

$1,000,000

6,000,000

--

--

3,000,000

Common Chapter 21 -stock: Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

$100 par

Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies $10 par Chapter 25 - I nflation and Hyperinflation

$1- par Chapter 26 Gov er nm ent Gr an ts

--

Appendix A - paid-in Di sclosure Checklist Additional capital

2,000,000

--

4,000,000

500,000

$30,000,000

$4,500,000

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Retained earnings

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Liabilities and stockholders' equity I ndex List of Tables List of Ex hibits and Ex am ples

Company A will issue its shares for those of Companies B and C, and both B and C will tender 100% of their one of its shares for each fifteen shares of B stock and one of its shares for each twenty-five shares of C sto 20,000 shares to acquire B and 40,000 shares to acquire C.

List of Sidebar s

In a uniting of interests, the historical basis of the assets and liabilities of the combining entities is continued. accountability is established. The assets of the combined (postcombination) Company A will total $40,500,00 $20,500,000. Total equity (net assets) will therefore equal $20,000,000. While the total stockholders' equity of the postcombination entity will equal the sum of the combining entities' the allocation between paid-in capital and retained earnings can vary. Total (postcombination) retained earni

than the sum of the constituent entities' retained earnings but cannot be more than that amount. Consider the and C. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

In the present example, Company A issues 20,000 shares of its stock, or an aggregate par value of $2,000,0 I n t er n at ion al Accou n t in g St an d ar ds Company B's $3,000,000 aggregate paid-in capital in effecting ISBN:0471227366 the merger with Company B. Therefore, the c by Bar r y J. Epstein and Abbas Ali balance sheet willMir include $2,000,000 of par value capital stock, plus $1,000,000 of additional paid-in capital. za $2,000,000 of stock was issued to replace Company John Wi ley & Sons © 2003 (952 pages) B's $3,000,000 of aggregate par, there can be no increa and no decrease This in contributed capital as a consequence of the uniting. com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

The Company C merger presents the opposite situation: An aggregate of $4,000,000 of Company A stock is assistance in the prepar at ion and under standing of financial $1,000,000 of aggregate parpresent and $500,000 of additional statements ed in accordance withpaid-in I AS. capital. To accomplish this, $2,500,000 of Co is capitalized, leaving only $500,000 of Company C retained earnings to be carried as retained earnings into T ab le of Con t en t s sheet. In reality, such a situation would not exist. If the pooling of interests took place simultaneously, APB 1 Wiley I AS 20contributed 03—Int er pretation and I nternational Account ing combined capital of allApplication entities notofbe reduced. Therefore, the issuance of 60,000 shares would c Standar ds as follows: Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Net assets

8,000,000

Additional paid-in 1,500,000 I ncom ecapital Statement, Stat em ent of Chan ges in Equit y, and Statem ent -

Chapter 3

of Recognized Gains and Losses

stockSt at em ent Chapter 4Common - Cash Flow Chapter 5

6,000,000

- Financial I nstr uments—Cash and Receiv ables 3,500,000

Retained - I nventor y earnings

Chapter 6 Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8 the - Property , Plant , and capital Equipment Note that additional paid-in on the books of Company A is reduced by an amount sufficient to mak Chapter 9 - capital I ntangi ble s contributed of AAsset ($4,500,000), which equals the total contributed capital of both B ($3,000,000) and C

all the retained earnings of B andInstr C are to es, A. This would hold even if A, B, and C simu I nterests in Financial umtransferred ent s, Associat Jointaccounting Ventur es, and Pr oper net assets toI nvestm a new ent entity, D (atyconsolidation). The opening entry on the books of D would look the same as Chapter Business Combinations and Consolidat sheet of11A -after the merger, as presented below. ed Fin ancial Statements Chapter 10 -

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

The balanceBalance sheet ofSheet Company Date A after the mergers are completed is as follows:

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter Assets14 - Leases

$40,500,000

Chapter 15 - I ncom e Taxes

$20,500,000

Liabilities

Chapter 16 - Em ploy ee Benefit s

Common $100 par Chapter 17 -stock, Stock holder s' Equit y Chapter 18 - paid-in Earnings Per Share Additional capital Chapter 19 - I nterim Financial Repor ting

Retained earnings

Chapter 20 - Segm ent Repor ting

12,000,000 500,000 7,500,000

Liabilities stockholders' equity $40,500,000 Chapter 21 -and Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures

If any combining entity has a deficit in its retained earnings, that deficit is continued in the combined entity (a as a consequence of the par value changeover, as illustrated above for a nondeficit situation). It cannot be re Chapter 25 - I nflation and Hyperinflation consequence of the combination. Chapter 24 - Specialized I ndustr ies Chapter 26 - Gov er nm ent Gr an ts

Appendix A - Di sclosure Any expenses relating Checklist to a business combination accounted for as a pooling of interests (e.g., stock registrat Appendix B I llustrativ e Financial St atem ent s Pr esent Under I AS against income in the period in which the co costs of preparing stockholders' prospectuses) mustedbe charged Appendix C - can Com arise parison of IaAS, US GAAP, and UK GAAP new assets from pooling. I ndex

Conforming List of Tables

accounting principles employed by the combining entities.

List of Ex hibits and Ex am ples

The historical basis of assets and liabilities is normally continued, but this rule has an exception: Where diffe were employed by the combining entities, these principles should be conformed where possible by retroactiv financial statements, when reissued on a pooled basis should be restated for these changes.

List of Sidebar s

Reporting on the combined entity. When the pooling-of-interests method is used, it is necessary to report all periods presented on a combined year is presented, the effect will be as if the combination occurred at the beginning of that year. If comparativ presented, the effect will be as if the combination occurred at the beginning of the earliest year being reporte

the concept of a pooling not being a discrete economic event, but rather as a combining of common interests meaningful reporting, after the date of the combination, is to present the financial position and results of op as if they had always W ilebeen y I AScombined. 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

The combining entities may have had transactions with each other prior to the combination and may have ha ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali each other at theMir end zaof earlier fiscal periods. To present combined statements of financial position and resu intercompany balances transactions be eliminated, to the extent that this is practical to accomplis John Wiand ley & Sons © 2003 should (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence

Detailed example of uniting of interests using pooling method pr esent s account ants with a guide to depend on for

assistance in the prepar at ion and under standing of financial

To explain furtherstatements the applicability ofedthe for applying uniting of interests accounting set forth earlier, a present in criteria accordance with I AS. will be developed here and continued in the subsequent discussion of acquisition accounting. T ab le of Con t en t s Wiley Ahmadi I AS Corporation 20 03—Int er pretation (whose balance and Application sheet is of presented I nternational as Exhibit Account I) ing is about to merge with or acquire four ot Standar ds (Exhibit III), Delhi (Exhibit IV), and Eyre (Exhibit V). Some of these business combinations may qua II), Cairo Preface accounting; others will have to be treated as acquisitions. Chapter 1 - I ntr oduction to I nter national Accounting Standar ds

1. The acquisitions will take place as follows, all effective as of January 31, 2004:

Chapter 2 Chapter 3 Chapter 4

- Balance Sheet

a. Belfast is acquired by exchanging one Ahmadi common share for each fifteen of Belfast comm -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

b. Cairo is acquired by exchanging one Ahmadi common share for each seventy-five of Cairo com - Cash Flow St at em ent

Chapter 6

- Financial uments—Cash Receiv ables c. Delhi isI nstr acquired by payingand $12,750,000 in ninety-day demand notes to retire the $13.5 million - I nventor y exchanging one Ahmadi share for each twenty of Delhi common shares (except as noted in 8.

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 5

d. Eyre is, acquired exchanging a new issue of $100 par, 7% preferred stock subject to a mand - Property Plant , andby Equipment (ending in 2005), plus common shares, for all Eyre common stock. Shareholders of Eyre will re Chapter 9 - I ntangi ble Asset s preferred for each Eyre common share (total of 175,000 preferred shares), and one share of A I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - four Eyre common shares (total of 125,000 common shares). Based on the dividend yield, the I nvestm ent Pr oper ty appraised as having aand fairConsolidat market value aboutStatements $105.70 per share, or a total of $18,500,000. Chapter 11 - Business Combinations ed Finofancial Chapter 8

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 2. The 12 - appraised value of each acquired firm is given as follows (amounts in thousands): Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Assets acquired

Liabilities assumed

Net asset value (FMV)

$ 78,500

$ 2,500

$ 76,000

42,500

6,500

36,000

Delhi Corporation Chapter 18 - Earnings Per Share

111,000

7,500

103,500

Chapter 19 - I nterim Eyre, Inc. Financial Repor ting

168,000

78,000

90,000

Chapter 14 - Leases Chapter 15 - I ncom e Taxes Belfast Corporation Chapter 16 - Em ploy ee Benefit s

Cairo Company, Inc.

Chapter 17 - Stock holder s' Equit y

Chapter 20 - Segm ent Repor ting

case, current assets appraised toror bes worth book values according to the acquired firms' b Chapter In 21 each - Accounting Changes and are Cor rection of Er vs. the respective book values is due to values of the entities' plant assets. Chapter excess 22 - Forfair eignvalue Curr ency Chapter 23 - Related- Part y Disclosures

3. Eyre originally issued 8% debentures on 1/1/01 at par value. Ahmadi purchased $20.0 million (face va 1/1/02 at the market price of $97.60. The discount has been regularly amortized to earnings on a stra

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation

Chapter 26 - Gov er nmby entBelfast Gr an tsand Cairo in the common shares of Ahmadi Corporation were recorded at cos 4. Investments Appendix A - Di sclosure Checklist

5. Each the five corporations in question hasedbeen in business for at least 5 years, and none has ever Appendix B - I of llustrativ e Financial St atem ent s Pr esent Under I AS or ofparison any other entity. Appendixother C - Com of I AS, US GAAP, and UK GAAP I ndex

6. The acquisition agreement with Cairo provides that if earnings of the acquired subsidiary exceed certa

List of Tables of the following 5 years, additional shares of Ahmadi will be distributed to former Cairo shareholders. S List of Exearnings hibits andadvance Ex am ples over 2003 levels ($2,800,000 net), an additional 10% of shares are to be issued. List of Sidebar s

7. The agreement with Eyre provides that the purchase price of $80,000,000 (based on the market value received, plus the fair value of preferred stock received) is protected against market declines for 2 yea merger (i.e., if the value of securities distributed to Eyre shareholders is below $80 million as of 12/31 Corporation common shares will be issued at that time, in an amount sufficient to bring the total value 8. Holders of 5,000 shares of Delhi stock angrily dissented to the merger plan, and Ahmadi agreed to pa tendered instead of issuing common stock. 9.

9. Common stocks of the various firms were traded on stock exchanges or were quoted in the over-the-c these prices: W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou g St an d ar ds High n t inLow Average Ending by Bar r y J. Epstein and Abbas Ali

Ahmadi Corporation Mir za

$512

$388

John Wi ley & Sons © 2003 28 (9521/2 pages) Belfast Corporation 51 7/8

$495

ISBN:0471227366

$492

35 1/4

35 3/4

This com pact and t ruly com pr ehensive qui ck - refer ence Cairo Company, 3/4 with 7a 1/2 8 on for 8 1/8 pr esent sInc. account8ants guide to depend assistance in the prepar at ion and under standing of94 financial Delhi Corporation 12 1/2 83 1/8 90 3/8 1/2 statements present ed in accordance with I AS.

Eyre, Inc.

T ab le of Con t en t s

80 1/2

61

70 1/2

76

Wiley 20 03—Int er pretation and Application I nternational Accountexcept ing 10.I ASKey management personnel of each ofofthe merging entities, for the directors and officers of Ca Standar ds

continue in important management roles in the new, combined enterprise. The Cairo owners and man

Preface plans to retire and, henceforth, to be no more than passive investors in Ahmadi Corporation. Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Chapter 2

- Balance Sheet

I ncom eCorporation Statement, Stat em ent of Chan ges inSheet Equit y, and Statem ent2003 Exhibit3I: Ahmadi Condensed Balance December 31, Chapter of Recognized Gains and Losses Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Sundry current assets

Plant and Chapter 6 - equipment, I nventor y net

$ 75,000,000

$80,000,000

Chapter 7 - Rev enue 8% Recogni tion, I ncluding Constr uction Contr act s Investment in Eyre debentures 4,900,000 84,900,000 Chapter 8

- Property , Plant , and Equipment

assets Chapter 9Total - I ntangi ble Asset s

$159,900,000

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Sundry $ 87,000,000 Chapter 10liabilities I nvestm ent Pr oper ty

Common $100 par $22,500,000 Chapter 11 -stock, Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Additional 12,200,000 Chapter 12 - paid-in capital Balance Sheet Date

Retained Chapter 13 -earnings Financial I nstr uments—Long- Ter m38,200,000 Debt Chapter 14 - Leases Total liabilities and stockholders' equity Chapter 15 - I ncom e Taxes

72,900,000

$159,900,000

Chapter 16 - Em ploy ee Benefit s

Exhibit17 II: -Belfast Corporation Chapter Stock holder s' Equit y Condensed Balance Sheet December 31, 2003 Chapter 18 - Earnings Per Share Chapter - I nterim Financial Repor ting Sundry19current assets Chapter 20 - Segm ent Repor ting

Plant and equipment, net

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Investment in eign Ahmadi stock (11,250 shares) Chapter 22 - For Currcommon ency

$ 3,900,000 $38,500,000 9,800,000

Chapter 23 - Related- Part y Disclosures

48,300,000 $52,200,000

Total assets

Chapter 24 - Specialized I ndustr ies

Sundry Chapter 25liabilities - I nflation and Hyperinflation Chapter 26 -stock, Gov er$10 nm ent Common parGr an ts Appendix A - Di sclosure Checklist

Paid-in surplus

$ 2,500,000 $20,000,000 14,700,000

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Retained Appendix C -earnings Com parison of I AS, US GAAP, and UK GAAP I ndex

Total liabilities and stockholders' equity

15,000,000

49,700,000 $52,200,000

List of Tables

List of Ex hibits and Ex am ples List of Sidebar s

Exhibit III: Cairo Company, Inc. Condensed Balance Sheet December 31, 2003

Sundry current assets

$ 4,000,000

Plant and equipment, net

$17,400,000

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in(4,500 g St anshares) d ar ds Investment in Acquisitive common stock 3,100,000 20,500,000 ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali $24,500,000 Mir za Total assets John Wi ley & Sons © 2003 (952 pages)

Sundry liabilities

$ 6,500,000

This com pact and t ruly com pr ehensive qui ck - refer ence Common stock (no par),s 3 millionants shares pr esent account with outstanding a guide to depend$14,500,000 on for assistance in the prepar at ion and under standing of financial Retained earnings statements present ed in accordance with I AS. 3,500,000

18,000,000 $24,500,000

T ab le of Con Total t enliabilities ts and stockholders' equity Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Preface Exhibit IV: Delhi Corporation Condensed Balance Sheet December 31, 2003 Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Chapter 2 current - Balance Sheet Sundry assets

$ 12,000,000

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - equipment, net Plant and 72,000,000 of Recognized Gains and Losses Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

$84,000,000

Total assets

Sundry Chapter 6 liabilities - I nventor y

$ 7,500,000

Chapter 7 - loan Rev enue tion, I ncluding Constr uction Contr act s13,500,000 Bank term due Recogni 2006 (6%) Chapter 8 - Property , Plant , and Equipment

Common stock, $1 par

Chapter 9

- I ntangi ble Asset s

$ 1,000,000

Premium on common 3,500,000 I nterests in stock Financial Instr um ent s, Associat es, Joint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty

Retained earnings

58,500,000

63,000,000

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

$84,000,000 Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Total Chapter 12 - liabilities and stockholders' Balance Sheet Date equity

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter I ncomInc. e Taxes Exhibit15 V:-Eyre, Condensed Balance Sheet December 31, 2003 Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y

Sundry current assets

$ 50,000,000

Chapter 18 - Earnings Per Share

Plant and net Repor ting Chapter 19 - equipment, I nterim Financial

88,000,000 $138,000,000

Chapter 20 - Segm ent Repor ting

Total assets

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Sundry Chapter 22liabilities - For eign Curr ency

$ 28,000,000

Chapter 23 - Relatedy Disclosures 8% debentures duePart 1/1/2014 Chapter 24 - Specialized I ndustr ies

Common stock, $10 par

Chapter 25 - I nflation and Hyperinflation

50,000,000 $ 5,000,000

Paid-in26capital Chapter - Gov er nm ent Gr an ts

6,200,000

Appendix A -earnings Di sclosure Checklist Retained

48,800,000

60,000,000

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

liabilities stockholders' Appendix Total C - Com parisonand of I AS, US GAAP, and UK GAAP I ndex

$138,000,000

equity

List of Tables List of Ex hibits and Ex am ples

All the foregoing balance sheets are before recording the business combinations.

List of Sidebar s

The first task is to determine which, if any, of the four business combinations qualify for unitingp-of-interests company to be acquired, Belfast Corporation, is to be obtained in exchange for only the issuing corporation's uniting). Prior to the merger, Belfast does own some of Ahmadi Corporation's shares, but there is no requirem some cross-ownership prior to an acquisition or a uniting of interests. In the present instance, Belfast owned stock prior to the transaction, which is not deemed to be a deterrent to pooling accounting. Of more importance under IAS 22 are such matters as continuity of interests, sharing of risks and rewards, a combining parties. In the case of the Ahmadi-Belfast merger, book values are discrepant but not dramatically

million); market values based on recent stock prices are also similar, but a bit less so than book values would $72 million). On the other hand, the book value of Ahmadi is very similar to Belfast's fair value ($72.9 million provides some support entities not have different values. Although th W ile y for I ASthe 2 0notion 03 : I nthat t erpthese re t at ion an d do Ap p licat io n significantly of which a good deal of judgment must be applied, it would appear that in this instance the relative values are c I n t er n at ion al Accou n t in g St an d ar ds consideration of the pooling method of accounting. Since Belfast management will remain in place and the tr ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali common stock exchange Mir za (with Belfast owners having about 35% of the total shares after the swap, before co other mergers), the conclusion in this case(952 willpages) be to permit designation of this transaction as a uniting of inte John Wi ley & Sons © 2003 This com pact and t ruly com pr ehensive qui ck - refer ence

The Cairo Company, Inc.s case is somewhat to depend resolve.onIn for terms of relative market values, there is gre pr esent account ants with a easier guide to participants to this transaction ($111 million $24 million), and of even if the assessed fair value of Cairo's as assistance in the prepar at ionvs. and under standing financial statements present ed in to accordance I AS. considered, the gulf is probably too wide bridge, inwith terms of satisfying IAS 22 criteria. More obviously, the owners and managers will continue in active roles belies the notion that there will be true coming together of T ab le of Con t en t s interests. Thus, notwithstanding that the former Cairo shareholders will continue as passive investors in Ahm Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing the investment will almost certainly differ from that of active participants in the daily affairs of the company. Standar ds Preface

The Cairo transaction also includes an element of contingent consideration, with former Cairo stockholders e - I ntr oduction to I nter national Accounting Standar ds Ahmadi shares if future earnings are greater than forecast. This does suggest a disparity of risks and reward Chapter 2 - Balancewhich Sheetwould make it questionable to use pooling accounting even if the other problems no groups of owners, I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent the foregoing Chapter 3 - reasons, the conclusion will be that this transaction must be accounted for as an acquisition, no Chapter 1

of Recognized Gains and Losses

Chapter 4 Corporation - Cash Flow St at em ent The Delhi merger involves both cash and stock, raising a possible red flag since unitings of inter Chapter 5 - Financial I nstr uments—Cash and Receiv ables stock swaps among the parties to the combination. However, the "only-stock" rule relates only to that which i Chapter the acquired 6 - I nventor entity's yvoting stock; cash or other means of payment may be given in exchange for other secu

debt) of7 the- Rev entity acquired. thisI ncluding case, Ahmadi interest-bearing note for preexisting debt of Delhi, Chapter enue RecogniIn tion, Constrgives uctionan Contr act s uniting 8of interests criteria. the fact that a small minority of Delhi shareholders (owning 0.5% of its share Chapter - Property , Plant , Also, and Equipment does not any ble negative Chapter 9 have - I ntangi Asset sconsequences, since this normally occurs in many business combinations of this the combining entitiesin(in terms ofInstr market value of stock, milliones, vs.and $95 million) are extremely favorable I nterests Financial um ent s, Associat es, $111 Joint Ventur Finally, continuity of ent management I nvestm Pr oper ty makes this combination clearly eligible for uniting-of-interests treatment.

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Finally, consider the Eyre, Inc. merger. Common shares of Eyre are being obtained in exchange for a packag

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter Ahmadi12shares, and Sheet additional Balance Date common shares may be issued in the future if the market value of the shares

a specified Chapter 13 - threshold. Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

The issuance of preferred stock that is nonvoting is a clear violation of the concept of an exchange of voting

Chapter 15 - I ncom eEffectively, Taxes to the transaction. about one-fourth of the purchase is being made for preferred stock, with the re Chapter 16 Em ploy ee s paid for with common Benefit stock (based on relative market values of the preferred and common shares). Whether Chapter 17the - Stock s' Equit y preclude use holder of uniting of interests accounting is a matter of professional judgment, however. Chapter 18 - Earnings Per Share

More significantly, Eyre shareholders are to be given a form of price protection in this transaction. The ar Chapter 19 - I nterimthe Financial Repor ting remeasurement theRepor value of the consideration paid (Ahmadi's preferred and common stock) to be made in Chapter 20 - Segmofent ting payments if thereChanges has beenand a market decline. This Chapter 21 owed - Accounting Cor rection of Er ror s effectively means that the Eyre shareholders are no

risks and rewards as are the Ahmadi shareholders, and this discrepancy means that this transaction is proba uniting of interests.

Chapter 22 - For eign Curr ency

Chapter 23 - Related- Part y Disclosures

Chapter 24 - Specialized Furthermore, the marketI ndustr valueies of Eyre ($38 million) is vastly lower than that of Ahmadi, meaning that these tr Chapter 25 I nflation and Hyperinflation equals in terms of economic power and will not be equals in future operations of the combined operations. A Chapter - Gov er nmmust ent Grbe anaccounted ts that this26transaction for as an acquisition. Appendix A - Di sclosure Checklist

The necessary entriese to record St the Belfast Delhi as poolings in 2004 on Ahmadi's books are as Appendix B - I llustrativ Financial atem ent s and Pr esent ed mergers Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

1.

Sundry current assets

3,900,000

38,500.000 Plant andWequipment ile y I AS 2 (net) 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

9,800,000 Treasuryby stock Bar r y J. Epstein and Abbas Ali Mir za Sundry Johnliabilities Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

2,500,000

This com pact and t ruly com pr ehensive qui ck - refer ence 13,333,300 pr esentstock, s account ants Common $100 parwith a guide to depend on for assistance in the prepar at ion and under standing of financial 21,366,700 statements present ed in accordance with I AS.

Additional paid-in capital T ab le of Con t en t s

15,000,000

Wiley I AS 20 03—Int Retained er pretation earnings and Application of I nternational Account ing Standar ds

To record Belfast acquisition by pooling

Preface

2. 1Paid-in capital to I nter national Accounting 475,000 Chapter - I ntr oduction Standar ds Chapter 2

- Balance Sheet

Chapter 3

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses 72,000,000

Sundry current assets

12,000,000

Plant and equipment (net)

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property Plant , and Equipment Sundry, liabilities - I ntangi ble Asset s

Sundry current assets Chapter 6 - I nventor y (cash)

Chapter 9

Chapter 10 -

375,000

7,500,000

12,750,000

I nterests Financial Instr um ent s, Associat es, Joint Ventur es, and Demandinnote payable I nvestm ent Pr oper ty

750,000 Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Gain on retirement of debt

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he 4,975,000 Balance Sheet Date

Common stock, $100 par

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Retained earnings

58,125,000

Chapter 15 - I ncom e Taxes

To record acquisition Chapter 16 - Delhi Em ploy ee Benefitby s pooling Chapter 17 - Stock holder s' Equit y

If, instead of a merger, the combination (acquisition) form is utilized, whereby Ahmadi shares are exchanged Delhi shares held by the respective stockholders of those companies, Belfast and Delhi will continue their se Chapter 19 - I nterim Financial Repor ting wholly owned subsidiaries of Ahmadi Corporation). The entries in 2004 to record the transactions assuming a Chapter 18 - Earnings Per Share

Chapter 20 - Segm ent Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror s

1.

Investment in Belfast common

Chapter 22 - For eign Curr ency

49,700,000 13,333,300

Chapter 23 - Related- Part y Disclosures

Common stock, $100 par

Chapter 24 - Specialized I ndustr ies

21,366,700

Chapter 25 - I nflation and Hyperinflation

Additional paid-in capital

Chapter 26 - Gov er nm ent Gr an ts

15,000,000

Appendix A - Di sclosure Checklist

Retained earnings

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

To record shares Appendix C - acquisition Com parisonofofBelfast I AS, US GAAP, and UK GAAP I ndex2.

Investment in Delhi common

List of Tables

Due from Delhi List of Ex hibits and Ex am ples List of Sidebar s

Paid-in capital Notes payable Cash Gain on retirement of debt

63,000,000 13,500,000 475,000 12,750,000 375,000 750,000

4,975,000

Common stock, $100 par W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Retained I n t er nearnings at ion al Accou n t in g St an d ar ds

58,125,000

by Barof r yDelhi J. Epstein Abbas of Ali bank loan andISBN:0471227366 To record acquisition stock,and payment retirement of minority shares for cash Mir za John Wi ley & Sons © 2003 (952 pages)

The purchase accounting entries will be presented in the following section, after the basic elements of this m This com and t rulyDisclosure com pr ehensive qui ck - refer business combinations arepact discussed. requirements forence both acquisitions and unitings are set fort pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Acquisition Accounting T ab le of Con t en t s

In most business combinations, one enterprise gains control over another, and the identity of the acquirer ca

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Generally, the combining enterprise that obtains more than one-half of the voting rights of the other combinin Standar ds

acquirer. In exceptional cases, the party that is the acquirer does not obtain over one-half of the voting rights acquirer will be the party that obtains power

Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds 1. Over more than one half of the voting rights of the other enterprise by virtue of agreement with the oth Chapter 2 - Balance Sheet

trust arrangements or other provisions) I ncom e Statement, Statcontractual em ent of Chan ges in Equit y, and Statem ent -

Chapter 3

of Recognized Gains and Losses

2. To govern the financial and operating policies of the other enterprise, under a statute or agreement

Chapter 4

- Cash Flow St at em ent

Chapter 5 appoint - Financial uments—Cash andofReceiv ables of directors or equivalent governing body of the othe 3. To andI nstr remove the majority the board Chapter 6 - I nventor y

4. To majority oftion, votes at meetings ofuction the board or equivalent body Chapter 7 cast - Revthe enue Recogni I ncluding Constr Controf actdirectors s Chapter 8

- Property , Plant , and Equipment

Other indicators of which party was the acquirer in any given business combination are as follows (these are - I ntangi ble Asset s conclusive):

Chapter 9

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

1. The fair valueent of Pr one entity I nvestm oper ty is significantly greater than that of the other combining enterprises; in such be deemed the acquirer. Chapter would 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - combination is effected by an exchange of voting stock for cash; the entity paying the cash would 2. The Balance Sheet Date Chapter acquirer. 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

3. Management of one enterprise is able to dominate selection of management of the combined entity; th

Chapter deemed 15 - I ncom to ebeTaxes the acquirer. Chapter 16 - Em ploy ee Benefit s

The major issue in ybusiness acquisitons pertains to the allocation of the purchase price to the ind Chapter 17 -accounting Stock holder s' Equit liabilities thisShare regard, IAS 22, as revised in 1998, made certain modifications to the requirements Chapter 18assumed. - EarningsInPer standard. previously value of acquired assets was to be determined with reference to the intended Chapter 19 While - I nterim Financialfair Repor ting assets 20 can- obviously have ting alternative values based on intended use, the current standard makes no such re Chapter Segm ent Repor

been the if the fairChanges value ofand netCor assets (i.e., Chapter 21case, - Accounting rection of assets Er ror s acquired less liabilities assumed) is less than the ag

excess will be deemed to represent goodwill. If the fair value of net assets acquired is greater than the cost, negative goodwill, to be accounted for as specified by IAS 22. In the case of positive goodwill, the revised IA Chapter 23 - Related- Part y Disclosures twenty-year limit on amortizable life; in its place (to conform with the rules for all other intangible assets, as s Chapter 24 - Specialized I ndustr ies rebuttable presumption of a life of no longer than twenty years, but the possibility that a longer life (but not an Chapter 25 - I nflation and Hyperinflation be justified. As for negative goodwill, the former benchmark and alternative treatments have been scrapped, Chapter 26 - Gov er nm ent Gr an ts prescription. These matters are dealt with in detail later in this chapter. Chapter 22 - For eign Curr ency

Appendix A - Di sclosure Checklist Appendix Another Bmajor - I llustrativ changee in Financial accounting St atem forent business s Pr esent acquisitions ed Under I AS mandated by the revised IAS 22 relates to rec

that ariseC as a consequence of US the GAAP, acquisition transaction. Under these rules, liabilities which relate to the ac Appendix - Com parison of I AS, and UK GAAP which arise directly as a consequence of the acquisition transaction are recorded and will affect the allocation I ndex assets acquired and liabilities assumed, when the acquirer has done all the following: List of Tables List of am plesthe date of acquisition, essentially developed a plan which involves certain specifie 1. ExIthibits has, and at orExbefore List of Sidebar as compensation s to terminated employees of the acquiree entity

2. It has raised an expectation among those affected by the plan as a consequence of public announcem actions 3. It has developed the plan into a formal detailed plan that meets the criteria of IAS 37 pertaining to res three months after the date of acquisition, or the date when financial statements are approved When the foregoing criteria are met, accrual of certain obligations of the acquiree is required by the acquirer

purchase price allocation process. If the acquisition form of combination is used, the acquired entity maintains a separate legal and accounting W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f and liabilities remain at their premerger book values. However, when an accounting consolidation is performe I n t er n at ion al Accou n t in g St an d ar ds financial statements are prepared), exactly the same results are obtained as those outlined above (i.e., asse ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali adjusted to fair values, Mir za and goodwill is recorded). When less than 100% of the stock of the acquired entity is complication arises in Wi theley preparation of consolidated statements, and a minority interest (discussed below) m John & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence The other major distinguishing characteristic of the purchase accounting method is that none of the equity ac pr esent s account ants with a guide to depend on for entity (including its retained earnings) willatappear thestanding acquirer's or on consolidated financial statem assistance in the prepar ion and on under of books financial ownership interests of the acquired shareholders statements present entity's ed in accordance with are I AS.not continued after the merger, consolidation, o takes place.

T ab le of Con t en t s

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Reverse acquisitions. Standar ds Preface IAS 22 establishes the notion of reverse acquisitions. These are characterized by an entity issuing shares in Chapter 1 - I ntr oduction I nter national Standar ds to the number of additional shares issued by th target acquiree, such thattocontrol passesAccounting to the acquiree due Chapter 2 - Balance Sheet notwithstanding the nominal or legal identification of the acquirer and acquiree, for accounting purposes, the shareholders I ncom now econtrol Statement, the combined Stat em ent entity of Chan is the gesacquirer. in Equit y, and Statem ent Chapter 3 of Recognized Gains and Losses Chapter 4 - Cashfor Flow St at em ent Accounting acquisitions. Chapter 5

- Financial I nstr uments—Cash and Receiv ables The purchase method Chapter 6 - I nventor y is to be used to report acquisitions; the transaction is to be recorded in a manner simil

purchases assets. That is,tion, the purchase price must beContr allocated Chapter 7 -of Rev enue Recogni I ncluding Constr uction act s among the various assets that are obtain

assumed in- Property the transaction, commensurate with the fair values of those assets. If the price equals the fair va , Plant , and Equipment allocation process will be straightforward, with each asset being recorded at fair value. If the price exceeds th Chapter 9 - I ntangi ble Asset s identifiable assets, a goodwill issue must be addressed, as discussed below, since the individual identifiable I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - greater than their respective fair values. Similarly, if the fair values of the net identifiable assets a at amounts I nvestm ent Pr oper ty paid, negative goodwill exists; this is also discussed later in this chapter. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 8

Currshould ent Liabilit Prov isions, Cont Ev ents afterthis t heform of business combination is The acquisition be ies, recognized as of theingencies, date it is and effected, since Chapter 12 Balance Sheet Date

occurring at a point in time, caused by a change in ownership and resulting in changes in the bases of accou suggests that the critical date is that when control of the net assets and operations of the acquired entity is e Chapter 14 - Leases acquirer. One important consequence of this rule is that results of operations of the acquiree are included on Chapter 15 - IFinancial ncom e Taxes transaction. statements for earlier periods are not restated to reflect the combination (although pro Chapter 16 Em ee Benefit s periods can, of ploy course, be presented for purposes of supplementary analysis). Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 17 - Stock holder s' Equit y

Acquisitions should be for at the cost paid or incurred. Cost is the amount of cash paid or the fair Chapter 18 - Earnings Peraccounted Share given to19the of the acquired entity. It includes transaction costs such as legal and accounting fe Chapter - Ishareholders nterim Financial Repor ting charges, so on. Chapter 20and - Segm ent Depending Repor ting on the terms of the acquisition agreement, it may include certain contingent c (discussed Chapter 21 - below). Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Individual assets and liabilities should be recognized separately at the date acquired, if it is both probable tha

Chapter - RelatedPartenterprise, y Disclosures benefits23will flow to the and a reliable measure of cost or fair value to the acquirer is available. In Chapter 24 Specialized I ndustrwill ies readily be met, since in an arm's-length transaction the parties normally wil acquisitions, these conditions Chapter 25 and - I nflation and Hyperinflation price paid the acquirer would not have consummated the purchase unless all the attendant benefits wou Chapter 26 Gov er nm ent Gr an ts periods. Appendix A - Di sclosure Checklist

If the fairBvalue of theeidentifiable assets acquired lowerI AS than the price paid, the excess cost should be Appendix - I llustrativ Financial Stnet atem ent s Pr esent ed is Under (excess C of -cost fair ofvalue assets Appendix Comover parison I AS,of USnet GAAP, andacquired). UK GAAP If the fair value of the identifiable net assets acquired

paid, the excess value should be allocated to negative goodwill (excess of fair value of net assets acquired o

I ndex

List of Tables

Determining purchase price.

List of Ex hibits and Ex am ples

List of Sidebar s In some acquisitions, a package consisting of different forms of consideration may be given. As is often stipu

the primary measure should be the fair value of any assets given up in the transaction; these may include, in promissory notes, shares of stock, and even operating assets of the acquirer. Except when actual cash is ex differ from book values. Thus, promissory notes may carry a rate of interest other than a market rate, in whic discount will be ascribed to the obligation. (For example, if a $10 million, 5% interest-bearing two-year note is acquisition, in an environment where the buyer would normally pay 8% on borrowed funds, the actual purcha as being somewhat lower than the nominal $10 million.) Similarly, the acquirer's common stock will virtually always have a market value different from par or stated a

market for the shares, reference should be made to the price quoted, although a small discount might be imp a large offering of new shares would, in a perfect market, have a depressing effect on price. If the market pri deemed to be a reliable period daysiobefore W ile y Iindicator, AS 2 0 03 :the I n tprices erp re tover at iona an d Apof p licat n o f and after the announcement of the transaction should be considered. If the stock is thinly traded, or not traded at all, or if shares in a listed comp I n t er n at ion al Accou n t in g St an d ar ds restrictions (not salable for a fixed period of time, etc.), it would be necessary ISBN:0471227366 to ascertain a reasonable value by Bar r y J. Epstein and Abbas Ali Mir za or other experts. In extreme cases, the fair value of the proportionate interest in the with investment bankers assets, or the fairJohn value fraction of the net assets represented by the shares issued would b Wiof leythe & Sons © 2003 (952acquirer's pages) whichever is moreThis objectively If ehensive dissenting of the acquiree are paid in ca com pact determinable. and t ruly com pr quiminority ck - refershareholders ence pr indicator esent s account with guide to depend for serve as a reliable of theants value of athe transaction. Ofoncourse, the parties to the transaction, being at assistance the prepar at ion andbeing underexchanged, standing of inasmuch financial as they had negotiated for this be able to place an objectivein value on the stock statements present ed in accordance with I AS.

If the acquirer exchanges certain of its assets, either operating assets that had been subject to depreciation, other investments assets, such as idle land, for the stock of the acquired entity, again an assessment of fair Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing value, ds even if the assets had been adjusted to fair value under the alternative treatment permitted by IAS 16, Standar being fair value for purposes of accounting for the business combination, unless corroborated by other evide Preface

T ab le of Con t en t s

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds If the acquisition is to be paid for on a deferred basis, the cost to be reflected will be the present value of the

Chapter 2 - at Balance Sheet entity's normal borrowing cost, given the terms of the arrangement. discounted the acquiring I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of Recognized Gains and Losses

Step acquisitions.

Chapter 4

- Cash Flow St at em ent

Chapter - Financialcontrol I nstr uments—Cash Receiv In many5 instances, over another and entity is notables achieved in a single transaction, but rather, after a serie Chapter example, 6 one - I nventor enterprise y may acquire a 25% interest in another entity, followed by another 20% some time la

another7 10% at enue yet a Recogni later date. last step gives the acquirer Chapter - Rev tion,The I ncluding Constr uction Contr act sa 55% interest and, thus, control. The accou point in8time the business took place and how to measure the cost of the acquisition. Chapter - Property , Plant combination , and Equipment Chapter 9

- I ntangi ble Asset s

IAS 22 stipulates that the cost of the acquisition is measured with reference to the cost and fair value data as I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - In the foregoing example, therefore, it would be necessary to look to the consideration paid for e transaction. I nvestm ent Pr oper ty purchases of stock; if noncash, these would have to be valued as described earlier in this section. To the ext Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements consideration given differed from the fair value of the underlying net assets, measured at the date of the resp Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - goodwill would have to be recognized. Conceivably, successive purchases could be at premiums or negative Balance Sheet Date fair values. Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

In the example above, the first acquisition results in a 25% holding in the investee, which is over the threshol

Chapter 15 is- assumed I ncom e Taxes influence to be exerted by the investor. Thus, the equity method should be employed beginning a Chapter 16 Emcontinuing ploy ee Benefit s exchange and through the second exchange (when a 45% ownership interest is achieved). Applic Chapter 17 - Stock holder s' Equit is explained in Chapter 10; oney important aspect, however, is that the difference between cost and the fair va Chapter - Earnings Per Share interest18 in the net assets of the investee is to be treated as goodwill or negative goodwill and accounted for c Chapter 19 -ofI nterim Reporthis ting needs to be computed and then amortized as discussed in this chapte provisions IAS 22.Financial Accordingly, unamortized goodwill (or negative goodwill) at the date of the next exchange transaction should not be merge Chapter 20 - Segm ent Repor ting

computation of goodwill,Changes lest theand amortization fors the first component be inadvertently extended beyon Chapter 21 - Accounting Cor rectionperiod of Er ror standard. other each step in the transaction sequence should be accounted for as a separate acqu Chapter 22 In - For eignwords, Curr ency Chapter 23 - Related- Part y Disclosures

The only exception to the foregoing requirements would occur if, as permitted under IAS 25, the entire invest value at the dates of subsequent share purchases. Under this scenario, each revaluation must be accounted Chapter 25 - I nflation and Hyperinflation appropriate disclosures being made in the financial statements. Chapter 24 - Specialized I ndustr ies Chapter 26 - Gov er nm ent Gr an ts

Appendix A - Di sclosure When control (majorityChecklist ownership) is finally achieved (the third step acquisition in the example above) if an a Appendix B -toI llustrativ Financial St atem ent s Pr esent ed Under AS values to be presented for the acquired enti performed produceeconsolidated financial statements, the Ifair

appropriate blending of the fair values as and of the Appendix C - Com parison of I AS, US GAAP, UKvarious GAAP steps in the acquisition. In the present case, for exam treatment specified in IAS 22 (discussed in detail below), 25% of each asset would be reported at the fair val I ndex exchange, List of Tablesanother 20% at the fair value as of the date of the second exchange, and the final 10% at the fair third theples remaining 45% of the asset stated at cost, that is, at the predecessor entity's carryin List of exchange, Ex hibits andwith Ex am List of Sidebar s

Recording the Assets Acquired and Liabilities Assumed The assets acquired and liabilities assumed in the business combination should be recorded at fair values. If 100% interest in the acquired entity, or if a legal merger were effected, this process is straightforward. As sug exceeds the fair value of the net assets acquired, the excess is deemed to be goodwill, and capitalized as an amortization. If the fair value of net assets exceeds total cost, the difference is referred to as negative goodw of two treatments: either offset against nonmonetary assets, or credited to a liability account and later amorti detail below).

Determining fair market values. W ile y I AS requires 2 0 03 : I n erp re t at ion an Ap p licat io n o fvalue for each of the acquired compan Accounting for acquisitions a tdetermination ofdthe fair market I n t er n at ion al Accou n t in g St an d ar ds intangible assets and for each of its liabilities at the date of combination. The determination of these fair mark ISBN:0471227366 J. Epstein and Abbas Ali proper applicationbyofBar ther ypurchase method. The list below indicates how this is done for various assets and li Mir za

1. Marketable securities—Current values. John Wi ley & Sons © 2003market (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence

2. Nonmarketable fair to values, determined on a basis consistent with relevant pr pr esentsecurities—Estimated s account ants with a guide depend on for yields, andassistance expected ingrowth ratesatofioncomparable securities entities having similar characteristics. the prepar and under standing of of financial statements present ed in accordance with I AS.

3. Receivables—Present values of amounts to be received determined by using current interest rates, l T ab le of uncollectible Con t en t s accounts. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar 4. ds Inventories Preface Chapter 1

a. Finished goods and merchandise inventories—Estimated selling prices less the sum of the cos - I ntr oduction toprofit. I nter national Accounting Standar ds reasonable

Chapter 2

- Balance Sheet

b.I ncom Work in process inventories—Estimated of finished e Statement, Stat em ent of Chan ges inselling Equit y,prices and Statem ent goods less the sum of the co Chapter 3 of disposal, Recognized and Losses andGains a reasonable profit. Chapter 4

- Cash Flow St at em ent

Chapter 5

c. Raw material inventories—Current replacement costs. - Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

5. Plant and equipment—At market value as determined by appraisal; in the absence of market values - Rev enue Recogni tion, I ncluding Constr uction Contr act s replacement cost. Land and building are to be valued at market value.

Chapter 7 Chapter 8

- Property , Plant , and Equipment

Chapter 6. Identifiable 9 - I ntangi ble intangible Asset s assets (such as patents and licenses)—Fair values determined primarily with

as per IAS 38;ininFinancial the absence data, use the best available I nterests Instr of ummarket ent s, Associat es, Joint Ventur es, andinformation, with discounted cash ent Prabout oper tycash flows which are directly attributable to the asset, and which are largely in whenI nvestm information Chapter from 11 - Business Combinations and Consolidat ed Fin ancial Statements other assets, can be developed. Chapter 10 -

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

7. Net employee benefit Balance Sheet Dateassets or obligations for defined benefit plans—The actuarial present value fair value of related assets.Ter (Note that an asset can be recognized only to the extent that it wou Chapter of 13 the - Financial I nstr uments—Longm Debt Chapter enterprise 14 - Leasesas refunds or reductions in future contributions.) Chapter 15 - I ncom e Taxes

8. Tax assets and liabilities—The amount of tax benefit arising from tax losses or the taxes payable in loss, assessed from the perspective of the combined entity or group resulting from the acquisition. Th Chapter 17 - Stock holder s' Equit y net of the tax effect of restating other identifiable assets and liabilities at fair values. Chapter 16 - Em ploy ee Benefit s

Chapter 18 - Earnings Per Share Chapter 9. Liabilities 19 - I nterim(such Financial as notes Repor and tingaccounts payable, long-term debt, warranties, claims payable)—Prese

at appropriate current interest rates. Chapter paid 20 - determined Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

10. Onerous contract obligations—At the present value of the amounts to be disbursed, including any a closures) arising incidental to the acquisition.

Chapter 22 - For eign Curr ency

Chapter 23 - Related- Part y Disclosures

Chapter - Specialized I ndustr IAS 22 24 explicitly requires that iniescertain cases, such as for monetary liabilities, fair value be determined by th Chapter 25 - I nflation other instances, suchand as Hyperinflation for intangible assets, discounting is not explicitly prescribed. However, the standard Chapter 26 - Gov er nm ent Gr an discounting in determining fairtsvalues of any identifiable assets and liabilities. Appendix A - Di sclosure Checklist

Since aggregate purchase cost is the identifiable assets (and liabilities) according to their respec Appendix B - I llustrativ e Financial St allocated atem ent s to Pr esent ed Under I AS

acquirer, assets having no value are assigned no cost. For example, facilities of the acquired entity that dupl and are to be disposed of should be assigned a cost equal to estimated net salvage value, or zero if no salva I ndex instances, however, a negative cost equal to the estimated costs of disposal is assigned. It could also be rea List of Tables holding costs should be allocated to assets to be disposed of when debt from the business acquisition is to b List of Ex hibits and Ex am ples proceeds of such asset sales. In effect, the value assigned to such assets to be sold would be the present va List of Sidebar s price; interest incurred on debt used to finance these assets would then be charged to the asset rather than disposition actually occurs. On the other hand, if facilities of the acquired entity duplicate and are superior to with the intention that the latter will be disposed of, fair value must be allocated to the former. Eventual dispo facilities of the acquirer may later result in a recognized gain or loss. This would fall into the general categor acquisition, which are not capitalizable or allocable to assets acquired in the purchase business combination Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Subsequent adjustment to assets acquired and liabilities assumed. IAS 22 provides that in certain circumstances the amounts allocated to identifiable assets and liabilities in a b

accounted for as an acquisition may be subsequently adjusted. This is to deal with those situations where ce not meet the threshold criteria for recognition at the time the acquisition transaction is consummated. To the becomes known by they end annual accounting date of the business combination, t W ile I AS of 2 0the 03 : first I n t erp re t at ion an d Apperiod p licat after io n othe f various assets and liabilities may be adjusted. For example, if the existence of an intangible asset was not kn I n t er n at ion al Accou n t in g St an d ar ds certainty to warrant asset recognition (e.g., a patent application as of that date ISBN:0471227366 appeared likely to be rejected by Bar r y J. Epstein and Abbas Ali adjustment will beMir such za that the intangible asset is recognized (or increased) and the amount of goodwill (usu corresponding quantity. John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence

After this date, however, suchants adjustments must madeontofor income or expenses in the period the adjus pr esent sany account with a guide to be depend example, if the patent is approved two years the acquisition assistance in the prepar at ion after and under standing oftransaction, financial the intangible asset would be in present ed in accordance with I AS. would be to creditstatements (i.e., increase) a revenue account or decrease an expense account. T ab le of Con t en t s

SIC 22 has provided clarification regarding how the adjustment to the pertinent asset or liability account(s) sh

Wiley I AS 20 such 03—Int er pretation should and Application of I nternational Account ing states that adjustments be calculated as if the newly assigned values had been used from the d Standar ds

in the case of a depreciating asset such as a patent, the adjustment should take into account the amount of that would have been recognized subsequent to the date of acquisition, had the asset been fully recognized Chapter 1 - I ntr oduction to I nter national Accounting Standar ds necessary to avoid having later periods charged with more annual depreciation than would have been the ca Chapter - Balance Sheet properly2 allocate costs at the date of the acquisition not occurred as it did. Preface

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Chapter 3

-

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Recognized Gains and to Losses SIC 22 also of states that adjustments amounts included in the income statement, such as depreciation or am Chapter 4 in- the Cash Flow St at em ent included corresponding category of income or expense presented on the face of the income statement Chapter Financial I nstr uments—Cash and Receiv ables cannot 5be -segregated from the normal categorization that would have been appropriate, and, for example, sh Chapter nonoperating 6 - I nventor or nonrecurring y transaction.

Finally, SIC- Property 22 requires disclosure of the amount of an adjustment recognized in the income statement of the , Plant , and Equipment to comparative and prior periods. For example, if the adjustment increases depreciation expense in the curre Chapter 9 - I ntangi ble Asset s $10,000 of the increase results from the recalculation of the effects of the adjustment to identifiable assets o I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter that fact10would be disclosed. I nvestm ent Pr operThis ty is necessary to avoid misleading implications from being drawn from the co presented. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 8

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balance Date Allocation of Sheet Cost of Acquisition When the Acquirer Obtains Less Tha Chapter 13 - Financial I nstr uments—Long- Ter m Debt Acquiree's Voting Interest Chapter 14 - Leases Chapter 15 acquirer - I ncom eobtains Taxes a majority interest, but not 100% ownership, in another entity, the process of recor When an Chapter 16 Em ploy ee s of the acquired operation not owned by the acquirer, but claimed (in an econo more complicated. TheBenefit portion Chapter 17 is - Stock holder s' Equit y interests, referred to as minority interest. The accounting issue is whether, in a situation in which goodwi Chapter 18 - Earnings Share be reported, to value Per it with reference only to the price paid by the new (majority) owner, or whether to gross Chapter the minority's 19 - I nterim share Financial as well. In Repor general, ting an actual arm's-length transaction must take place before a new valu

assets 20 and- operations (although Chapter Segm ent Repor ting under IAS 16 revaluations of plant assets can be made). Since the minority acquisition it can beand argued that there nos basis on which to posit any recognition of goodwill fo Chapter 21 - transaction, Accounting Changes Cor rection of Erisror entity. 22 - For eign Curr ency Chapter Chapter 23 - Related- Part y Disclosures

The counterargument usually posed is that the majority change in ownership in such a situation is the most o the value of the acquired enterprise. Furthermore, not to reflect the minority's interest at current market value Chapter 25 - I nflation and Hyperinflation balance sheet having an amalgamation of dissimilar costs, some new, some old. In fact, in some countries th Chapter 26 - (also Gov erknown nm ent as Gr an ts basis accounting) had gained currency, and some regulatory authorities, incl accounting new Appendix A Di sclosure Checklist and Exchange Commission (SEC), demand the application of this form of accounting within very narrowly de Appendix B - Iof llustrativ e Financial St atem Pr esent ed Under I AS the strength arguments on both sidesent ofsthis debate, the international accounting standards setters have d Appendix C Com parison of I AS, US GAAP, and UK GAAP approaches, as described further in the following paragraphs. Chapter 24 - Specialized I ndustr ies

I ndex

Benchmark List of Tables

treatment.

List of Ex hibits and Ex am ples

Assets and liabilities recognized are measured at the aggregate of the fair value of the identifiable assets an the date of the exchange transaction, to the extent of the acquirer's interest obtained in the transaction; plus the preacquisition carrying amounts of the assets and liabilities of the subsidiary (acquiree). This means that the minority interest to reflect the valuation indirectly being placed on the enterprise being acquired by the ne

List of Sidebar s

Under this benchmark approach, the minority interest shown in a consolidated balance sheet will be the mino net assets of the subsidiary as reported in the subsidiary's stand-alone balance sheet. Goodwill will be report excess paid by the majority owner in excess of the fair value of the net identifiable assets acquired. This is ill in the chapter.

The logic of this approach is its adherence to the cost principle. Since the new parent/majority owner has effe fraction of the acquired entity's assets and liabilities, only that fraction should logically be revalued to reflect t remaining fraction, representing the interests, has W ile y I AS 2 0 03 : I minority n t erp re tshareholders' at ion an d Ap p licat io n o f not been acquired and therefore sh concept approach, be revalued. This method of accounting treats business acquisitions like any other type o I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

Allowed alternative treatment. Mir za

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages)

All identifiable (i.e., excluding goodwill) assets and liabilities are recognized at their respective fair values, inc This com pact and t ruly com pr ehensive qui ck - refer ence to the minority's ownership interest. This means that is aonstep-up in value to equal the valuation being p pr esent s account ants with a guide to there depend for indirectly by the new majority assistance in owner. the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Under this approach, the minority interest shown in a consolidated balance sheet will be the minority percent T ab le of Con t en t s the subsidiary as reported in the parent's consolidated balance sheet. Goodwill will be reported, as under the Wiley I AS 20 03—Int er pretation of I nternational Account reflect only the excess paid byand theApplication majority owner in excess of the fairing value of the net identifiable assets acq Standar ds illustrated in a later example. Preface

Chapter 1 - I ntruses oduction to I nter national Accounting Standar ds as an indicator of the value of the entire acqu This approach the purchase price for the majority interest Chapter 2 Balance Sheet this approach is that the acquired entity's assets and liabilities are valued on a consistent basis, presumably

objectively-determined valuationStat data. Since international accounting standards I ncom e Statement, em ent of Chan ges in Equit y, and Statem ent recognize the validity of reva of Recognized Losses (see the discussion of IASGains 16 in and Chapter 8 and of IAS 40 in Chapter 10), this approach is not really a concep Chapter 4 practice. - Cash Flow St at em ent accepted Chapter 3

Chapter 5

- Financial I nstr uments—Cash and Receiv ables Example for a purchase Chapter 6 of - I accounting nventor y Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Continuing the Ahmadi Corporation example begun in the uniting of interests discussion earlier in this chapte - Property , Plant , and Equipment record the purchase of the Cairo Company, Inc. and Eyre, Inc. shares will be presented. Tax effects are igno

Chapter 8 Chapter 9

- I ntangi ble Asset s

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Using the Chapter 10 fair - market value information given earlier and assuming that a legal merger (or consolidation) form I nvestm ent Pr oper ty

these entries in 2004, at the time of the mergers.

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 1. 12 Sundry current assets 4,000,000 Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt 19,080,000 Plant and equipment Chapter 14 - Leases

Treasury Chapter 15 - I ncomstock e Taxes

3,100,000

Chapter 16 - Em ploy ee Benefit s

6,500,000

Sundry liabilities Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

4,000,000

Common stock,Repor $100ting par Chapter 19 - I nterim Financial Chapter 20 - Segm ent Repor ting

AdditionalChanges paid-in capital Chapter 21 - Accounting and Cor rection of Er ror s Chapter 22 - purchase For eign Curr encyassets of Cairo To record of net Chapter 23 - Related- Part y Disclosures

2.

Sundry current assets

Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Plant and equipment

15,680,000

50,000,000 108,000,000

Chapter 26 - Gov er nm ent Gr an ts Appendix A - DiSundry sclosureliabilities Checklist

28,000,000

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com 8%parison debentures of I AS, US GAAP, and UK GAAP I ndex List of Tables

Preferred stock, $100 par

List of Ex hibits and Ex am ples List of Sidebar sPremium on preferred

Common stock, $100 par Additional paid-in capital

50,000,000 17,500,000 1,000,000 12,500,000 49,000,000

To record purchase of net assets of Eyre The value of the Cairo purchase was determined by reference to the latest market value of the Ahmadi share

Notice that although the price paid (based on the market value of Ahmadi shares given up) was slightly great value ($19.68 million vs. $18 million), it was considerably less than estimated fair value ($36 million, net). In o excess of fair value over cost2 0that, W ile y I AS 03 : in I naccordance t erp re t at ionwith an dthe Approcedures p licat io n o fspecified by [AS 22, was allocated aga (the only nonmonetary asset). Had this deficiency been large enough to reduce plant and equipment to zero, I n t er n at ion al Accou n t in g St an d ar ds would have beenby recorded as a deferred credit (excess of fair value of net assets acquired over cost) and am ISBN:0471227366 Bar r y J. Epstein and Abbas Ali goodwill, over notMir more za than twenty years, unless a longer life could be justified. Implicitly, of course, by offse against nonmonetary John assets, Wi ley & itSons will be © 2003 amortized (952 pages) over the depreciable lives of these assets. This com pact and t ruly com pr ehensive qui ck - refer ence

The total value ofprthe Eyre purchase million esent s account antswas with$80 a guide to ($61.5 dependmillion on for of common shares, measured at the mark multiplied by the 125,000 shares shares of preferred having an approximate value of $10 assistance in the given, preparplus at ion175,000 and under standing of financial ed in accordance with I AS. exceeded the netstatements book valuepresent of Eyre's identifiable assets, although it was still lower than the fair value thereo excess of fair value over cost (i.e., negative goodwill), and the noncurrent assets are recorded at less than th T ab le of Con t en t s Wiley 20 03—Int pretation of investment I nternationalinstead Account ing the companies are not to be legally c If theI AS shares are toerbe held byand the Application parent as an (i.e., Standar ds

the parent company would be as follows:

Preface

Chapter 1

1.

- I ntr oduction to I nter national Accounting Standar ds

Investment in Cairo - Balance Sheet common

Chapter 2

19,680,000

Chapter 4

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses 4,000,000 Common stock, $100 - Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 3

-

par

Chapter 8

Additional paid-in capital

15,680,000

- Property , Plant , and Equipment 2. 9Investment in Eyre 80,000,000 Chapter - I ntangi ble Asset common s Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and 17,500,000 I nvestm Preferred ent stock, Pr oper ty $100

par Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, 1,000,000 and Ev ents after t he Balance Sheet Date Premium on preferred

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Common stock, $100 Chapter 15 - I ncom par e Taxes Chapter 16 - Em ploy ee Benefit s

Additional Chapter 17 - Stock holder s'paid-in Equit y

12,500,000

49,000,000

capital Per Share Chapter 18 - Earnings Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

Goodwill and Negative Goodwill

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Chapter 23 - Related- Part y Disclosures Goodwill. Chapter 24 - Specialized I ndustr ies

Goodwill purchase price paid in a business acquisition over the fair value of the identi Chapter 25represents - I nflation the and excess Hyperinflation Presumably, when anent acquiring Chapter 26 - Gov er nm Gr an ts enterprise pays this premium price, it sees value that transcends the worth o the identifiable intangibles, or else the deal would not have been consummated on such terms. Goodwill aris Appendix A - Di sclosure Checklist be recognized as an asset and then amortized overed a useful Appendix B - I llustrativ e Financial St atem ent s Pr esent Under life I AS not exceeding twenty years, unless a longer

longer life sometimes justified by reference to factors such as the foreseeable life of the business or i Appendix C can - Com parison of be I AS, US GAAP, and UK GAAP

physical obsolescence, changes in demand, and other economic factors; the service life expectations of key workers; any expected actions by competitors or potential competitors; and legal, regulatory, or contractual p List of Tables useful life. In general, goodwill would have to be related closely to such identifiable assets as a patent or spe List of Ex hibits and Ex am ples such as buildings, if a life longer than twenty years is to be supported. I ndex

List of Sidebar s

Under previous IAS, goodwill was absolutely limited to a life of no longer than twenty years, but to conform th assets with that prescribed by recently promulgated IAS 38, the new standard imposed by IAS 22 (revised) s rebuttable presumption of the useful life limit rather than the absolute maximum. The range of factors to be c the useful life of goodwill has also been expanded to include public information on estimates of useful life of businesses or industries, as well as the level of maintenance expenditure or funding required to glean the be which the goodwill relates, and the acquirer's ability and intent to achieve that level. While cautioning against on these undeniably more subjective factors, IAS 22 (revised) also suggests that when goodwill is closely rel

assets having longer lives (e.g., a broadcast license), a longer life may indeed be justified. If a life of greater elected, however, annual evaluations for impairment, consistent with provisions of IAS 37, must be undertake twenty-year limitation overcome W ile presumption y I AS 2 0 03 : was I n t erp re t at ionmust an d be Apdisclosed. p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

The amortization of recorded goodwill should be accomplishedISBN:0471227366 using the straight-line method in most cases, by Bar r y J. Epstein and Abbas Ali although not inconceivable, to be able to demonstrate a different pattern of expiration of value. Furthermore, Mir za account should be reviewed each© balance John Wi ley &atSons 2003 (952 sheet pages) date to determine whether the asset had suffered any im longer deemed probable of being fully recovered through the profitable operations of the acquired business, This com pact and t ruly com pr ehensive qui ck - refer ence down or fully written off. Any write-off of goodwill must be charged pr esent s account ants with a guide to depend on forto expense just as normal amortization is. goodwill cannot later be restored an asset, again reflecting theofconcern assistance in the as prepar at ion and under standing financialthat the measurement of goodwill ed in accordance with I AS. existence almost statements impossible present to develop. T ab le of Con t en t s

It should be noted that goodwill is recorded, in the case of acquisitions of less than 100%, only for the price p

Wiley I AS 20 pretation Application of identifiable I nternational Account ing subsidiary. That is, no goodwill is im company in03—Int excesserof the fair and values of the net assets of the Standar ds

interests based on the price paid by the majority. While under the allowed alternative (see below) the net ide to the minority may be written up to the values implied by the majority's purchase decision, goodwill will not b Chapter 1 - I ntr oduction to I nter national Accounting Standar ds share. Preface

Chapter 2

- Balance Sheet

I ncom Statement, Stat em ent of Chan ges in Equit y, and Statem ent Impairment ofegoodwill. Chapter 3 of Recognized Gains and Losses Chapter - Cash Flow St at em entanother enterprise in a transaction accounted for as a purchase, and that afte Assume4 that an entity acquires Chapter Financial I nstr uments—Cash andan Receiv ables excess cost of $500,000 remains. Also assume th price to5all -identifiable assets and liabilities unallocated

necessary consider Chapter 6 -toI nventor y impairment of assets, it is determined that the acquired business comprises seven dis The goodwill recorded on thetion, acquisition (originally $500,000), net Chapter 7 - Rev enue Recogni I ncluding Constr uction Contr act s of any accumulated amortization, must be impairment will, Plant require that it be allocated to those of the seven cash generating units which can be id Chapter 8 - which Property , and Equipment For example, it mayble beAsset that sthe goodwill is associated with only one or a few of the seven cash generating un Chapter 9 - I ntangi goodwill recognized balance sheet should be allocated thosees, assets I nterestsininthe Financial Instr um ent s, Associat es, JointtoVentur and or groups of assets. IAS 36 des as "bottom up" and "top down" I nvestm ent Pr oper tytests, to be applied in such circumstances.

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

The "bottom up" test compares the recoverable amount of a cash generating unit, including allocated goodw

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter amount12 of -those assets. all goodwill is allocated to operating assets and cash generating units, this "bottom Balance SheetIf Date

to accomplish the goal of uments—Longtesting for impairment. Chapter 13 - Financial I nstr Ter m Debt Chapter 14 - Leases

In some instances, it may not be possible to allocate all goodwill to assets or groups of assets with which cas

Chapter 15 - I ncom e Taxes be identified. In such instances, the standard prescribes a "top down" test to be administered. In this testing Chapter 16 Em ploy Benefit s identify the smallesteecash generating unit which contains the unit being evaluated, to which the goodwill can Chapter 17 - Stock holderHaving s' Equit done y consistently allocated. this, the recoverable amount of the larger unit (containing the unit being Chapter 18 - the Earnings Per Share comparing recoverable amount to the corresponding carrying amount. If an impairment is detected in this Chapter - Ibe nterim Financial Repor ting goodwill19will written down as described in the following paragraphs. Chapter 20 - Segm ent Repor ting

The purpose of prescribing the "top test is ensure that all goodwill presented on the balance sheet g Chapter 21 - Accounting Changes and down" Cor rection of to Er ror s

(if conditions warrant), and that an inability to assign goodwill to a group of operating assets not be a termina impairment testing. At some level of aggregation (the extreme case would be to aggregate the enterprise as Chapter 23 - Related- Part y Disclosures to compare recoverable amounts with carrying values. A failure to follow this procedure would create the risk Chapter 24 - Specialized I ndustr ies retained on the balance sheet even if it had no further value to the enterprise, thus departing from generally a Chapter 25 - I nflation and Hyperinflation principles in the larger sense, and from IAS 36 in particular. By applying first the "bottom up" and then the "to Chapter 26 - Gov er nm ent Gr an ts impairment identified during the first phase, it becomes clear that an impairment found during the subsequen Appendix A - with Di sclosure Checklist associated goodwill. Chapter 22 - For eign Curr ency

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

When anCimpairment is computed a cash Appendix - Com parison of I AS, US for GAAP, and generating UK GAAP asset that includes goodwill, whether as a result of " analyses, an adjustment will be required. Under the rules established by IAS 36, an impairment loss is first a I ndex only List of when Tablesthis has been eliminated entirely are further impairment losses credited to other assets in the grou somewhat arbitrary, butples it is also logical, since the excess earnings power represented by goodwill must be d List of Ex hibits and Ex am theofrecoverable List Sidebar s amount of the cash generating unit is less than its carrying amount. It is also a conservative

or eliminate the display of that often misunderstood and always suspiciously viewed asset, goodwill, before th identifiable intangible and tangible assets are adjusted.

Reversal of previously recognized impairment of goodwill. Regarding the reversal of an impairment pertaining to a cash generating unit that included goodwill, which wa period, due to the special character of goodwill, IAS has imposed a requirement that, in general, reversals no previous write-downs in goodwill. Thus, with limited exceptions, a later recovery in value of the cash generati

only to the identifiable assets. (The adjustments to those assets cannot be for amounts greater than would b the carrying amounts at which they would be currently stated had the earlier impairment not been recognized W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

The only exception provided by IAS 36 regarding the restoration of goodwill previously written down or written I n t er n at ion al Accou n t in g St an d ar ds occurs when the impairment had been the result of a discrete, ISBN:0471227366 externally derived event of exceptional nature by Bar r y J. Epstein and Abbas Ali recur, coupled with Mirthe za occurrence of a subsequent externally sourced event which reverses the earlier impa that IAS 38 prohibits recognition internally generated goodwill, and further observes that most later rec Johnthe Wi ley & Sons ©of 2003 (952 pages) will be the result of internally generated goodwill, in effect, replacing the externally acquired goodwill which ha This com pact and t ruly com pr ehensive qui ck - refer ence off. Thus, it is very unlikely that goodwill, once impaired, can be since what would otherwise be cha pr esent s account ants with a guide to depend on restored, for previously lost goodwill is instead more likely beunder newlystanding created, assistance in the prepar at ion to and ofinternal financialgoodwill which cannot be recogniz statements present ed in accordance with I AS.

Notwithstanding the foregoing, IAS 36 does allow that externally sourced events beyond the control of the re T ab le of Con t en t s Examples of such truly exceptional events would be the imposition of new regulations that significantly curtai Wiley I AS 20 er pretation andregulations Applicationwere of I nternational Account decrease its03—Int profitability. If such first imposed, then ing later lifted, it is conceivable that an impa Standar ds downward adjustment to goodwill, or its elimination, could later be reversed. Preface

Chapter 1 - Igoodwill. ntr oduction to I nter national Accounting Standar ds Negative Chapter 2

- Balance Sheet

In the context I ncom of certain e Statement, purchase Statbusiness em ent ofcombinations, Chan ges in Equit there y, and will Statem be an indicated ent shortfall of purchase pric of Recognized Gains and has Losses net assets acquired. This difference traditionally been referred to as "negative goodwill," although the ter Chapter - Cash Flow St at em ent (and will4 probably be banished under the expected replacement for IAS 22). Since arm's-length transactions Chapter 5 - Financial I nstr uments—Cash Receiv the likelihood of the acquirer obtaining a and bargain is ables considered remote, and apparent instances of negative g Chapter result of6 measurement - I nventor y error (i.e., fair values assigned to assets and liabilities were incorrect to some extent) a contingent or enue actualRecogni liabilitytion, (such as for employee severance Chapter 7 - Rev I ncluding Constr uction Contr actpayments). s Chapter 3

Chapter 8

- Property , Plant , and Equipment

If, however, an actual bargain purchase if effected by an acquirer, the accounting question is how to handle t - I ntangi ble Asset s which is a residual after identifiable assets and liabilities are assigned appropriate fair (or other prescribed) v I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - treatment has evolved substantially from the original standard IAS 22, through the 1993 revision, accounting I nvestm ent Pr oper ty version (1998 revision) of it—and this will change again when IAS 22 is replaced (expected to be in 2003). Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 9

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Under the Chapter 12 -provisions of the original IAS 22 standard (which dates from the era when IAS were essentially com Balance Sheet Date

then permitted by major national standard setters), three disparate ways to account for negative goodwill wer included the immediate write-off to equity (thereby increasing stockholders' equity), offsetting against the rec Chapter 14 - Leases nonmonetary assets acquired in the transaction, and amortizing to income in a manner analogous to the acc Chapter 15 - I ncom e Taxes goodwill. Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 16 - Em ploy ee Benefit s

With the of narrowing acceptable alternatives, IAS 22 was revised for the first time in 1993, and the imm Chapter 17goal - Stock holder s' Equit y goodwill18to- shareholders' interests (equity) was eliminated as an acceptable approach. The other two method Chapter Earnings Per Share goodwill19as- aI nterim liabilityFinancial to be amortized Chapter Repor tingover a period of no more than five years (or twenty years, under certain offsetting nonmonetary Chapter 20 against - Segm ent Repor ting assets obtained in the acquisition (with any excess recorded as a liability and allowable. Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

The benchmark treatment (which despite the appellation was not deemed preferable to the allowed alternativ

Chapter RelatedParttoy reduce Disclosures revision23to -IAS 22 was the carrying value of all nonmonetary assets acquired on a pro rata basis. T Chapter 24 Specialized I ndustr method prescribed at the time ies under US GAAP. It was not acceptable to select particular assets to absorb th Chapter - I nflation and as Hyperinflation having 25 a short life, such inventories, had to be credited with proportionally the same amount of negative g Chapter 26 Gov er nm ent Gr anthe ts nonmonetary assets fully absorbed the negative goodwill, any remaining bal such as building and land. If Appendix A - Di sclosure Checklist be accounted for normally. If, on the other hand, the aggregate amount of nonmonetary assets, before absor Appendix less thanB the - I llustrativ computed e Financial amount St of atem negative ent s goodwill Pr esent edfrom Under theI AS business acquisition, these assets were to be r

remaining, goodwill wasUK to be accounted for as deferred income and amortized in the s Appendix C - unabsorbed Com parison negative of I AS, US GAAP, and GAAP goodwill (see above). I ndex List of Tables

The allowed alternative treatment was to not offset negative goodwill against non-monetary assets, but rathe deferred income, and subsequently to amortize it, generally on a straight-line basis over no more than five ye List of Sidebar s increased reported earnings, reporting entities were inclined to keep the amortization period brief, contrary to amortization of positive goodwill. List of Ex hibits and Ex am ples

Continuing its efforts to narrow the alternative accounting treatments available for given economic phenomen revised IAS 22, adopting a new, single method to be applied in all cases. This is the requirement in effect cu negative goodwill often relates to expectations of future losses or expenses, as with the acquirer's plans to e the combined operations, which are not appropriately accruable as of the date of the acquisition. Accordingly those conditions are met, the negative goodwill should be deferred and later recognized in income as the ass

occur and are also recognized. To the extent that such losses or expenses are not anticipated as of the acquisition date, negative goodwill is W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f asset and amortized to income over the useful life of acquired identifiable nonmonetary assets, subject to the I n t er n at ion al Accou n t in g St an d ar ds of negative goodwill recorded cannot exceed the allocated costISBN:0471227366 (fair value) of those assets. Any excess nega by Bar r y J. Epstein and Abbas Ali deferred, but rather, should be taken into income immediately. Mir za John Wi ley & Sons © 2003 (952 pages)

Note that if negative goodwill is deferred and amortized to income, such amortization must be based on the w This com pact and t ruly com pr ehensive qui ck - refer ence of the acquired depreciable and amortizable assets. It is generally not possible to associate the negative goo pr esent s account ants with a guide to depend on for with the exceptionassistance of those situations where losses or costs, such as expected losses on obsolete in the prepar at ionexpected and under standing of financial can be specifically identified.present In all other the amortization of negative goodwill may be on any rational statements ed in cases, accordance with I AS. according to IAS 22.

T ab le of Con t en t s

Wiley I AS 20 03—Int er pretation and requirement, Application ofinI nternational Account Perhaps most surprising was the IAS 22 (1998), that ing negative goodwill be presented as a ne Standar ds sheet. Apparently this was deemed appropriate to the concept of negative goodwill as a contra acco balance Preface the assets to actual historical cost. Chapter 1 - I ntr oduction to I nter national Accounting Standar ds

IAS 22 2also- Balance specifiesSheet that the amount of intangible assets recognized in a purchase business combination m Chapter goodwill is also being recognized. standard states noy,amount of identifiable intangible can be record I ncom e Statement, StatThe em ent of Chan ges inthat Equit and Statem ent increase the credited to and negative goodwill, unless the value of the identifiable intangible is supported ofamount Recognized Gains Losses purpose4 of- this limitation isem to ent avoid creating negative goodwill unless clearly warranted by the fair value amo Chapter Cash Flow St at assets 5acquired. Since intangibles are generally regarded Chapter - Financial I nstr uments—Cash and Receiv ables as being more difficult to accurately value than tan this rule serves to prevent exaggerated assignments of value to assets and to the (contra asset) negative go Chapter 6 - I nventor y of this limit will be to have the recognized amounts of certain assets either reduced or eliminated in Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contrintangible act s situations (e.g., when the acquiree has certain trade names, customer lists, and other real but not actively tra Chapter 8 - Property , Plant , and Equipment assets, and it is acquired as a going concern for a price below aggregate fair value. Chapter 3

Chapter 9

- I ntangi ble Asset s

I nterests in Financial Instr um Associat es, Jointthe Ventur es, and for negative goodwill will again If the currently contemplated changes to ent IASs,22 are enacted, accounting Chapter 10 I nvestm ent Pr oper ty

(See discussion later in this chapter.)

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Contingent BalanceConsideration Sheet Date

Chapter 12 -

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

In some business combinations, the purchase price is not fixed at the time of the exchange, but is instead de There are two major types of future events that can be used to affect the purchase price: the performance of Chapter 15 - I ncom e Taxes market value of the consideration given for the acquisition. Chapter 14 - Leases

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit yconsideration is likely to be incurred and can be measured reliably at the date If the amount of the contingent Chapter 18 - Earnings PerofShare be included in the cost the acquisition. If the contingent consideration is not paid later, adjustments to cert Chapter 19 - IThe nterim Financial ting to be made: usual effectsRepor are to adjust goodwill or negative goodwill, but other assets may need adjustm Chapter offset against 20 - Segm nonmonetary ent Repor ting assets according to the benchmark treatment. In other cases, resolution of an un

the acquisition will necessitate contingent consideration, which should be recognized when probab Chapter 21 - Accounting Changesrecording and Cor rection of Er ror s estimation. Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures

The accounting for subsequent payment of the added consideration, if the effects had not been accrued at th combination as described above, depends on whether the contingency was related to the earnings of the acq Chapter 25 - I nflation and Hyperinflation market value of the original consideration package given by the acquirer. Chapter 24 - Specialized I ndustr ies Chapter 26 - Gov er nm ent Gr an ts

Appendix A - Diinstance sclosure Checklist In the former (exemplified by the purchase of Cairo Corp. in the example presented earlier), a later Appendix stock, orBany - I llustrativ other valuable e Financial consideration St atem ent swill Pr esent require ed revaluation Under I AS of the purchase price. This revaluation cou

allocableCto- Com noncurrent costand in the original purchase transaction was less than fair value acqui Appendix parison assets of I AS, (where US GAAP, UK GAAP offset against those assets), or could result in an increased amount of goodwill being recognized. The effects I ndex handled prospectively: The additional amortization of goodwill and/or fixed assets is allocated to the remainin List of Tables items, adjustment List of Exwithout hibits and Ex am plesof any postacquisition periods' results already reported. List of Sidebar s

In the latter case (exemplified by the Eyre Co. merger in the earlier illustration), the event triggering the issua a decline in market value of the original purchase package. The total value of the purchase ($80,000,000 in t changed and thus no alteration of allocated amounts would be needed. However, the issuance of extra share require that the allocation between the common stock and the additional paid-in capital accounts be adjusted price been bonds or other debt, the reallocation could have affected the premium or discount on the debt, wh on future earnings as these accounts are subsequently amortized.

Impending Changes to Accounting for Business Combinations

As suggested earlier in this chapter, accounting for business combinations has been receiving a great deal o years, from standard setters worldwide, and most of the major national accounting standard-setting bodies h W the ile yuse I ASof2 pooling 0 03 : I n accounting. t erp re t at ionThe an dmost Ap precent licat io n o f most important of such actions was th severely restricted and I n t er n at ion al Accou n t in g St an d ar ds standard setter (the FASB), which ended pooling-of-interests accounting as of mid-2001. Given the IASB's g ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali coupled with the excellent arguments against pooling accounting, it was to be expected that IAS 22 would be Mir za which prescribes purchase accounting for all arm's-length business combinations. John Wi ley & Sons © 2003 (952 pages)

This acom pact and t ruly in com pr 2001 ehensive qui ck - refer ence range of issues pertaining to busines The IASB undertook two-part project late to examine a broad pr esent s account ants with a guide to depend on for accounting for intangibles and goodwill, new basis accounting, the treatment of liabilities for terminating or re assistance in the prepar at ion and under standing of financial acquiree and consolidated reporting. Severalwith newI AS. standards are expected to result, including a free statementsfinancial present ed in accordance IAS 22 and amendments to IAS 36 and 38. The major features of these changes are set forth in the following T ab le of Con t en t s

IASBI AS intends to address theseand matters within oftheI nternational framework of two major Wiley 20 03—Int er pretation Application Account ing phases. The first is to deal with the Standar ds combination; the appropriate method(s) of accounting for business combinations; the accounting for goodwill Preface and intangible assets acquired in a business combination; the treatment of liabilities for terminating or reduci

acquiree; initial measurement of the identifiable net assets Chapter 1 the - I ntr oduction to I nter national Accounting Standar ds acquired in a business combination; and the d instruments issued as consideration should be measured. IASB will also consider matters of disclosures, tran Chapter 2 - Balance Sheet certain otherI ncom issues identified inStat theem Improvements Project asy,part this first e Statement, ent of Chan ges in Equit andofStatem entphase.

Chapter 3

-

of Recognized Gains and Losses

The second phase of the combinations project will address the accounting for business combinatio Chapter 4 - Cash Flow St atbusiness em ent entities or operations of entities are brought together to form a joint venture, including possible applications f Chapter 5 - Financial I nstr uments—Cash and Receiv ables as "new basis") accounting, which derives from the view that a new entity emerges as a result of a business Chapter 6 - I nventor y the assets and liabilities of each of the combining entities (not just the acquiree) should be recorded at fair va Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s the accounting for business combinations involving entities under common control, which are presently hand Chapter 8 - Property , Plant , and Equipment In addition, issues arising in respect of the application of the purchase method to business combinations invo Chapter 9 - I ntangi ble Asset s entities, and business combinations involving the formation of a reporting entity by contract only, without the I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and interest,10are Chapter - to be examined. Finally, the second phase of the business combinations project will consider oth I nvestm ent Pr oper ty of the application of the purchase method. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Curr ent Liabilit ies, Prov isions, andinEv ents after t he Certain12 of the aforementioned issues are Cont to beingencies, considered cooperation with one or more national standard Chapter Sheetserve Date the goal of convergence and also husband scarce resources. FASB. This Balance will hopefully Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Regarding definition of business combinations, it has been agreed these are the bringing together of sep Chapter 14 -the Leases of entities oneereporting entity. "Reporting entity" will be defined in the revised standard, which will also c Chapter 15 into - I ncom Taxes entity or16an- economic entity comprising a parent and all of its subsidiaries. Business combinations in which s Chapter Em ploy ee Benefit s operations entities are Chapter 17 - of Stock holder s' brought Equit y together to form a joint venture, and those involving entities (or operations

control,18 will- be excluded Chapter Earnings Per from Sharethe replacement for IAS 22 (but probably will be addressed separately, perhaps Chapter 19 - I nterim Financial Repor ting

The reason for unifying behind the purchase method, according to IASB, is that although

Chapter 20 - Segm ent Repor ting

...some transaction or event [may] exist (other than a business combination involving the formation of a j bringing together of separate entities or operations into one reporting entity is not an acquisition...suitable Chapter 22 - For eign Curr ency distinguish those transactions from acquisition do not exist; and developing such nonarbitrary criteria wo Chapter 23 - Related- Part y Disclosures of developing and applying those criteria would outweigh the benefits obtained. Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I even nflation and Hyperinflation Additionally, if such criteria could be developed, having two or more methods for accounting for essenti would incentivize structuring to gain favorable accounting treatment, which is seen as being dysfu Chapter 26 - Gov er transaction nm ent Gr an ts Appendix A - Di sclosure Checklist

The IASB has rejected the suggestion that new basis accounting (referred to as "fresh start" accounting by IA assets and liabilities are adjusted to fair value, not just the acquiree's—be employed when the identity of the Appendix C - Com parison of I AS, US GAAP, and UK GAAP For example, a brand-new entity may be created to nominally acquire both of the actual combining entities, b I ndex type of arrangement should not disguise the fact that one of the two preexisting businesses is acquiring the o List of Tables is insisting that one party to a business combination is the acquirer, and that substance must be accounted f Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

List of Ex hibits and Ex am ples

List Sidebar sbusiness combinations projects are also devoting very substantial attention to questions about a TheofBoard's

acquired in business combinations, including goodwill. It is a virtual certainty that a US GAAP-like solution wi goodwill no longer to be amortized, but rather to be subject to annual impairment testing. There will be the co full and careful identification of all intangible assets obtained in business acquisitions, to ensure that only the the goodwill account. This effort is not to be limited in any way, even to minimize the amount that might cons recognized as negative goodwill. All identifiable intangibles will have to be given initial recognition apart from result of contractual or legal rights or are separate from the business. Intangibles with finite useful lives will continue to be accounted for in accordance with IAS 38. However, while

rebuttable presumption of a twenty-year maximum life, the new standard will likely remove the current require amount of an identifiable intangible asset with a finite useful life and being amortized over a period in excess not acquired in a W business torebe measured atpleast atneach ile y I AScombination) 2 0 03 : I n t erp t at ion an d Ap licat io o f financial year-end. Instead, the gen requirements of IAS 36 would be applied. Thus, longer lives will be less difficult to justify and implement. I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

More significantly,Mirthe za new standard will apparently permit acknowledgment that intangibles may have indefin subjected to periodic it becomes Johnamortization Wi ley & Sonsuntil © 2003 (952 pages)clear that the life of a given intangible is indeed finite. It w annual impairment to such assets, however, using the existing procedures set forth in IAS 36 (in contrast the This com pact and t ruly com pr ehensive qui ck - refer ence created a different impairment test for goodwill thantoalready pr esent s account ants with a guide dependexisted on for for other long-lived assets). assistance in the prepar at ion and under standing of financial

The IASB will alsostatements address the accounting for acquired "in-process research and development" as part of the present ed in accordance with I AS. combinations projects. Under IAS, research costs are expensed as incurred, while development costs are ca T ab le of Con t en t s economic benefits can be reasonably demonstrated. (Under US GAAP, both research and development cost Wiley 20 03—Int er pretation for andIAS Application of I nternational Account ing Thus,I AS under the replacement 22, purchase price allocation will include assignment of cost to the fair v Standar ds research and development, and to the extent that this would be recognizable as an asset if internally generat Preface capitalization when part of a business acquisition, also. This would have to be recognized separately from go Chapter 1 - I ntr oduction to I nter national Accounting Standar ds acquired intangible. Chapter 2

- Balance Sheet

IASB has acknowledged that applying the of same all y, intangible assets I ncom e Statement, Stat em ent Chancriteria ges in to Equit and Statem ent acquired in a business combi and Losses they should of beRecognized recognizedGains separately from goodwill will result in the treatment of some in-process research a Chapter 4 in- aCash Flow St at em ent acquired business combination differing from the treatment of similar projects started internally. That is b Chapter 5 asset - Financial I nstr uments—Cash andofReceiv ables intangible can never exist in respect an in-process research project, but only in respect of an in-pro Chapter only once 6 all - I nventor of the criteria y for deferral in IAS 38 have been satisfied. In other words, there is a risk that unde combinations standard intangible may be recognized Chapter 7 - Rev enue Recogni tion, Iassets ncluding Constr uction Contrbefore act s deferral criteria are fully met. However, th being unavoidable. once recognized, will be subject to IAS 38 provisions for subsequent re-me Chapter 8 - PropertySuch , Plantassets, , and Equipment the possibility for revaluation Chapter 9 - I ntangi ble Asset s (the allowed alternative treatment). Chapter 3

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 which Goodwill, is toent be Pr nonamortizing under the new standard, will be subject to annual impairment testing, I nvestm oper ty

GAAP approach (adopted in SFAS 142, effective 2002). It will therefore be necessary to assign all goodwill t (CGU), for which cash flow projections will have to be developed. These projections will have to be based on Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - assumptions that reflect management's best estimate of the economic conditions that will exist o supportable Balance Sheet Date Greater13weight will beI nstr given to external evidence, Chapter - Financial uments—LongTer m Debtin contrast to internal evidence assumptions. The projectio the most recent financial budgets/forecasts that have been approved by management, which should cover a Chapter 14 - Leases years, unless a longer period can be justified. Extrapolation of the cash flows beyond the five-year horizon sh Chapter 15 - I ncom e Taxes budgets/forecasts using a steady or declining growth rate for subsequent years, unless an increasing rate ca Chapter 16 - Em ploy ee Benefit s rate should not exceed the long-term average growth rate for the products, industries, or country or countries Chapter 17 - Stock holder s' Equit y operates, unless a higher rate can be justified. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 18 - Earnings Per Share

Chapter 19 - I nterim Financial Reporthe tingmeasurement objective will be the higher of value in use and net selling For impairment testing purposes, Chapter give further 20 - consideration Segm ent Reportoting measurement in general in another project. Whether there is an impairment will

comparing recoverable amount the CGU of with thes carrying value of the recognized net assets. A detaile Chapter 21 -the Accounting Changes andof Cor rection Er ror recoverable amount would not need to be made if other existing information indicates that impairment is unlik Chapter 22 - For eign Curr ency identified, will be measurable by comparing the carrying amount of goodwill with its implied value. Implied v Chapter 23 it - RelatedPart y Disclosures difference the Irecoverable amount of the CGU and the fair value of the net assets that would be ide Chapter 24 -between Specialized ndustr ies CGU were the date of the impairment test. (In other words, an allocation process such as is mad Chapter 25 - acquired I nflation at and Hyperinflation business combination is to be performed.)

Chapter 26 - Gov er nm ent Gr an ts

Appendix - Di sclosure Checklist will be required, under the expected revised standards, to test goodwill for im The levelA at which management Appendix B I llustrativ e Financial Ston atem ent s Pr esentand ed Under I AS basis:) should be consistent with the level a which goodwill can be "allocated a reasonable consistent Appendix - Com parison of Iinvestment AS, US GAAP, and However, UK GAAP the smallest group of CGU to which goodwill can be a monitorsCthe return on the made. I ndex and consistent basis should not be larger than a primary reportable segment determined in accordance with List of Tables

Under newand standards, List of Exthe hibits Ex am pleswhen a business within a group of CGU to which goodwill has been allocated for t

testing is disposed of, goodwill associated with that business will be included in the carrying amount of the bu List of Sidebar s

gain or loss on disposal. The amount of goodwill included in that carrying amount should be based on the rel to be disposed of and the portion of the group of CGU retained. Similarly, when an entity reorganizes its repo that changes the composition of one or more groups of CGU to which goodwill has been allocated for the pu goodwill will be reallocated to the groups of CGU affected using a relative value approach similar to that used group of CGU is disposed of. It is expected that goodwill acquired in a business combination will have to be tested for impairment before th reporting period in which it occurred. This will be accomplished by first calculating the recoverable amount of

to which the goodwill can be allocated on a reasonable and consistent basis, and second, comparing that rec carrying amount of the CGU. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

A detailed calculation of recoverable amount for the purpose of impairment testing goodwill in subsequent re I n t er n at ion al Accou n t in g St an d ar ds made only when one or more of the following criteria have not ISBN:0471227366 been satisfied: by Bar r y J. Epstein and Abbas Ali

za liabilities making up the smallest group of CGU to which goodwill can be allocated on 1. The assetsMirand ley ¬ Sons © 2003 (952 pages) consistentJohn basisWihave changed significantly since the most recent recoverable amount calculation This com pact and t ruly com pr ehensive qui ck - refer ence

2. The most recent amount resulted in an amount that exceeded the carrying am pr esentrecoverable s account ants with a calculation guide to depend on for substantialassistance margin, orin the prepar at ion and under standing of financial statements present ed in accordance with I AS.

3. Based on an analysis of events that have occurred and circumstances that have changed since the m T ab le of Con t en t s amount determination, the likelihood that a current recoverable amount determination would be less th Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing the CGU is remote. Standar ds

Preface The"value in use" of a CGU will be defined as the future cash flows expected to be derived by the entity from Chapter - Ithat ntr oduction I nter national Accounting Standar using a1rate reflects to current market assessments of thedstime value of money and the risks specific to the Chapter - Balance Sheet decided2 that selected guidance from the FASB's Concepts Statement 7, Using Cash Flow Information and Pr I ncom e be Statement, entexpected of Chan ges in Equit y, and Statem ent to reflect the measurement ob Measurements, will includedStat withem the revised standard, amended Chapter 3 (rather than of fairRecognized value). Gains and Losses Chapter 4

- Cash Flow St at em ent An impairment loss will notuments—Cash be recognized forReceiv goodwill to the extent that it arises because an intangible asset Chapter 5 - Financial I nstr and ables

criteria 6for -recognition Chapter I nventor y separately from goodwill at the date of acquisition subsequently meets those criteria a separate value calculating the implied value ofContr goodwill. Chapter 7 fair - Rev enuewhen Recogni tion, I ncluding Constr uction act s Therefore, an intangible asset not meeting

separately goodwill as, and at the date of acquisition but subsequently meeting those criteria should not be a Chapter 8 -from Property , Plant Equipment value when- calculating the implied value of goodwill. I ntangi ble Asset s

Chapter 9

I nterests in Financial Instr um ent Associat es, JointatVentur es, and Since the of goodwill attributable to s, minority interests the date of acquisitions will not be recognize Chapter 10 amount I nvestm ent Pr oper ty

goodwill should be such that the minority interest in goodwill is prevented from acting as a buffer against the measurement of goodwill impairment. The rules in IAS 36 for allocating an impairment loss across the assets Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter so that 12 the- impairment loss attributed to goodwill is consistent with the impairment loss calculated under the Balance Sheet Date test. However, no amendment will be made to those rules to reflect the effect of unrecognized increases in th Chapter 13 - Financial I nstr uments—Long- Ter m Debt Reversals of impairment losses recognized in respect of goodwill will be prohibited. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 14 - Leases

Chapter 15standard - I ncom ewill Taxes The new also tackle the subject of negative goodwill. Each prior iteration of IAS 22 has significa Chapter 16 Em ploy ee Benefit s accorded the excess of fair value of net assets acquired over the cost of the acquisition, and the likely replac

less. Any liabilities Chapter 17 contingent - Stock holder s' Equitof y the acquiree will need to be identified and recognized at fair values by the a apportionment of the Per costShare of acquisition, provided those fair values can be reliably measured. These obligatio Chapter 18 - Earnings contingencies due toFinancial employees ofting the acquiree that existed before the transaction was negotiated but which Chapter 19 - I nterim Repor (because previously probable of occurrence) when the transaction was finalized. If, after reconsidering fa Chapter 20 not - Segm ent Repor ting contingent and so forth, there still remains ans amount that could be referred to as negative goodwil Chapter 21 -liabilities, Accounting Changes and Cor rection of Er ror

that this22should be recognized Chapter - For eign Curr ency immediately in the income statement as a gain. The term "negative goodwill" w however.

Chapter 23 - Related- Part y Disclosures Chapter 24 -existing Specialized I ndustr ies22, in a business acquisition where less than 100% of the acquiree is obtain Under the standard IAS Chapter 25 I nflation and Hyperinflation handle the "step-up" in carrying value of assets, other than goodwill. The benchmark method is to reflect net Chapter 26 fair - Gov er nmwith ent Gr ts parent at value, theanremaining net assets—the minority's share—continuing to be carried at previous Appendix A Di sclosure Checklist the current benchmark approach, there is no adjustment for fair value of the minority share of net assets, and Appendix - I llustrativ e Financial atem entcosts s Pr esent Under I ASas of the transaction date. The allowed altern balance Bsheet contains a mix of St historical andedfair values Appendix - Com of parison of I AS,(but US not GAAP, and UK goodwill, GAAP minority'sC share net assets recognize however) so that the postacquisition balance shee

value (other than goodwill). The replacement standard will require the former allowed alternative method to b I ndex List of Tables

The new standard will additionally offer greater guidance on the accounting for "reverse acquisitions"; will stip registering and issuing equity instruments, even when the proceeds are used to effect a business combinatio List of Sidebar s the equity issue transaction and should therefore be recognized as a deduction from equity; and will furtherm issuing or arranging financial liabilities are, in accordance with IAS 39, required to be included in the initial m and do not form part of the costs directly attributable to the acquisition. A further matter to be resolved relate date—whether the agreement date or the change in control date should be used as the date for measuremen given in the acquisition. This remains to be further debated, since the IASB's initial decision (to use the agree the decision made by the FASB. List of Ex hibits and Ex am ples

A second phase of the business combinations projects, yet to be actively debated, will deal with a number of

be the matter of combinations of entities under common control (the accounting for which does not presently recognition); combinations of mutually owned entities; new basis accounting; and combinations in which sepa together to form aWreporting only, the obtaining ile y I AS entity 2 0 03 :by I ncontract t erp re t at ion without an d Ap p licat io n o f of an ownership interest. I n t er n at ion al Accou n t in g St an d ar ds

The second phase of the business combinations project will also address whether a minority interest's impute ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali be recognized. (This is not done under the current allowed alternative method of IAS 22.) It will furthermore d Mir za of a minority interest beSons treated as (952 the pages) purchase of equity, and stipulate the appropriate treatment of b Johnshould Wi ley & © 2003 achieved throughThis successive share purchases. A range of other concerns, such as whether blockage discou com pact and t ruly com pr ehensive qui ck - refer ence share values in determining the amounts to be assigned to business pr esent s account ants with a guide to depend on for combinations, will likely also be dealt wi assistance in the prepar at ion and under standing of financial

Finally, certain issues relatingpresent to theed presentation of consolidated financial statements will be addressed by IA statements in accordance with I AS. decided, is that minority interest is to be displayed in the equity section of the balance sheet, rather than as a T ab le of Con t en t s debt and equity, or as debt, as occurs at present. However, the minority share of equity would still require dif Wiley I AS (control) 20 03—Intinterests. er pretation and Application of I nternational Account ing majority Standar ds Preface

Consolidated Financial Statements - I ntr oduction to I nter national Accounting Standar ds

Chapter 1 Chapter 2

- Balance Sheet

Chapter 3

-

Requirements consolidated statements. I ncom e for Statement, Stat em ent financial of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

IAS 27 prescribes the requirements for the presentation of consolidated financial statements. Essentially, if o Chapter 4 - Cash Flow St at em ent enterprise, consolidated financial statements are required, unless certain, rarely met conditions are satisfied. Chapter 5 - Financial I nstr uments—Cash and Receiv ables when the parent owns, directly or indirectly through subsidiaries, more than one-half of the voting power over Chapter 6 - I nventor y exist even absent this level of ownership if the parent has more than one-half of the voting power as a result Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s arrangement; the power to govern the financial and operating policies of the enterprise by operation of law or Chapter 8 - Property , Plant , and Equipment agreement, the power to appoint or remove the majority of the directors or equivalent governing persons, or t Chapter I ntangi ble Asset s directors or its equivalent. of votes9 at-the meetings of the Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

I nvestm ent Praoper ty In limited circumstances, majority owner may not have operating control over an enterprise, and consolidat Chapter 11 - Business Combinations Consolidat ed Finbe ancial not be deemed appropriate in suchand cases. This would trueStatements when control is intended to be temporary beca Curr ent Liabilitintention ies, Prov isions, Cont of ingencies, and Ev ents after t he also be valid if the subsidiary op acquired with the definite to dispose it in the near future. It would Chapter 12 Balance Date term restrictions thatSheet limit its ability to remit funds to its parent entity. In either of these types of situations, the Chapter 13 -inFinancial I nstr uments—LongTer m Debt its interest the subsidiary as set forth in IAS 39 (discussed in Chapter 10). Chapter 14 - Leases

It had previously common to exclude subsidiaries from consolidated financial statements on the basis o Chapter 15 - I ncombeen e Taxes operations. example, an integrated manufacturer might have excluded a financing subsidiary from its con Chapter 16 - For Em ploy ee Benefit s statements, sinceholder the operations Chapter 17 - Stock s' Equit y were so dissimilar any resulting consolidated statements would have been

27 makes it clear that such reasons are no longer acceptable; if the consolidated statements need further ex meaningful, supplementary consolidating statements, showing details for each constituent entity, or detailed Chapter 19 - I nterim Financial Repor ting used to satisfy this need. Chapter 18 - Earnings Per Share

Chapter 20 - Segm ent Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Impact of Potential Voting Interests on Consolidation

Chapter 22 - For eign Curr ency

Chapter 23 - Related- Part y Disclosures

Historically, actual voting interests in subsidiaries has been the criterion used to determine

Chapter 24 - Specialized I ndustr ies

1. If financial statements are to be presented; and Chapter 25consolidated - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

2. What percentage to apply in determining the allocation of a subsidiary's income, included in consolida parent and the minority interests.

Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix However, C the - Com SIC parison has now of I addressed AS, US GAAP, theand situation UK GAAP in which the parent entity has, in addition to its actual vot

further potential voting interest in the subsidiary. I ndex List of Tables

The potential interest may exist in the form of options, warrants, convertible shares, or a contractual arrange shares, including shares that it may have sold to another shareholder in the subsidiary or other party, with a List of Sidebar s arrangement to reacquire the shares transferred. List of Ex hibits and Ex am ples

As to whether the potential shares should be considered in reaching a decision as to whether control is prese reporting entity is to be regarded as the parent company and should therefore prepare consolidated financial that this is indeed a factor to weigh. It has concluded that the existence and effect of potential voting rights th exercisable or presently convertible should be considered, in addition to the other factors set forth in IAS 27, an enterprise controls another enterprise. All potential voting rights should be considered, including potential enterprises (which would counter the impact of the reporting entity's potential voting interest).

For example, an entity holding 40% voting rights in another entity, but having options, not offset by options h acquire another 15% voting interest, would thus effectively have a 55% current and potential voting interest, necessary, underWthe 33.re t at ion an d Ap p licat io n o f ile provisions y I AS 2 0 03of: SIC I n t erp I n t er n at ion al Accou n t in g St an d ar ds

Regarding whether the potential share interest should be considered when determining what fraction of the s ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali be allocated to the the general answer is no. SIC 33 states that the proportion allocated to the parent Mirparent, za preparing consolidated financial statements John Wi ley & Sons © 2003 (952under pages)IAS 27 should be determined based solely on present own This com pact and t ruly com pr ehensive qui ck - refer ence However, the enterprise may, in substance, have a present ownership interest when it sells and simultaneou pr esent s account ants with a guide to depend on for some of the voting shares in the does of notfinancial lose control of access to economic bene assistanceitinhad theheld prepar at ionsubsidiary, and underbut standing ownership interest. In this circumstance, proportion allocated should be determined taking into account th statements present ed in the accordance with I AS. potential voting rights and other derivatives that, in substance, presently give access to economic benefits as T ab le of Con t en t s interest. Note that the right to reacquire shares alone is not enough to have those shares included for purpos Wiley I AS 20 03—Int er pretation and Application of I nternational AccountRather, ing percentage of the subsidiary's income to be reported by the parent. the parent must have ongoing ac Standar ds benefits of ownership of those shares. Preface

Chapter 1 - I ntr oduction to I nter national Standar ds Intercompany transactions andAccounting balances. Chapter 2

- Balance Sheet

In preparing I consolidated ncom e Statement, financial Statstatements, em ent of Chan any ges transactions in Equit y, and among Statem members ent of the group must be elimi of Recognized Gains andsubsidiary, Losses parent may sell merchandise to its at cost or with a profit margin added, before the subsidiary ulti Chapter 4 - Cash Flow St atparties em ent in arm's-length transactions. Furthermore, any balances due to or from mem merchandise to unrelated Chapter 5 the - Financial I nstr uments—Cash and also Receiv group at date of the balance sheet must beables eliminated. The reason for this requirement: to avoid gro Chapter 6 - for I nventor y statements transactions or balances that do not represent economic events with outside parties. Were th consolidated group deliberately give the appearance of act being Chapter 7 - Rev enuecould Recogni tion, I ncluding Constr uction Contr s a much larger enterprise than it is in truth multiple8 transactions Chapter - Property , with Plantitself. , and Equipment Chapter 3

Chapter 9

- I ntangi ble Asset s

If assets have been transferred among the entities in the controlled group at amounts in excess of the transf I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter - further transferred to outside parties (e.g., inventories) or not yet consumed (e.g., plant assets s not yet 10 been I nvestm ent Pr oper ty the date of the balance sheet, the amount of profit not yet realized through an arm's-length transaction must Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements illustrated in the following examples. Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Different fiscal periods of parent and subsidiary.

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

A practical consideration in preparing consolidated financial statements is to have information on all constitue

Chapter - I ncom eIfTaxes parent's15year-end. the subsidiaries have different fiscal years, they may prepare updated information as of Chapter 16 - Em ploy consolidated ee Benefit s statements. Failing this, IAS 27 permits combining information as of differen used for preparing Chapter 17 - Stock s' Equitthree y discrepancy doesholder not exceed months. Of course, if this option is elected, the process of eliminating inte Chapter 18 may - Earnings Pera Share balances become bit more complicated, since reciprocal accounts (e.g., sales and cost of sales) will b Chapter - I nterim Financial Repor ting year-end but before the later one. events 19 occurring after the earlier fiscal Chapter 20 - Segm ent Repor ting

Consistency of accounting Chapter 21 - Accounting Changes and policies. Cor rection of Er ror s Chapter 22 - For eign Curr ency

There is a presumption that all the members of the consolidated group should use the same accounting princ events and transactions. However, in many cases this will not occur, as, for example, when a subsidiary is ac Chapter 24 - Specialized I ndustr ies costing for its inventories while the parent has long employed the LIFO method. IAS 27 does not demand tha Chapter 25 - I nflation and Hyperinflation change its method of accounting; rather, it merely requires that there be adequate disclosure of the accounti Chapter 23 - Related- Part y Disclosures

Chapter 26 - Gov er nm ent Gr an ts

Appendix A - Di sclosure Checklist If a subsidiary was acquired during the period or was disposed of during the period, under the acquisition me Appendix results ofB the - I llustrativ operations e Financial of the subsidiary St atem entshould s Pr esent beedincluded Under I AS in consolidated financial statements only for the

Since this comparability with earlier periods Appendix C may - Comcause parison of I AS, US GAAP, and UK GAAP presented to be impaired, there must be adequate di accompanying footnotes to make it possible to interpret the information properly. I ndex List of Tables

Example of consolidation workpaper (date of acquisition, 100% ownership)

List of Ex hibits and Ex am ples List of Sidebar s

The worksheet for the preparation of a consolidated balance sheet for Ahmadi Corp. and its four wholly owne of the acquisitions is shown below. Remember that it is presumed that Ahmadi (the parent) acquired the com subsidiary; had it acquired the net assets directly (through a legal merger or a consolidation), this accountin be necessary. Except for Eyre, the entries are straightforward and need no further explanation, as they are necessary to eli accounts of the parent and the equity accounts of the subsidiaries. Note that there are upward adjustments t relative to the acquisitions of Cairo and Eyre. The unitings of Belfast and Delhi result in their book values b

The elimination of the investment in Eyre debentures needs explanation. The parent paid $4,880,000 for deb par on January 1, 2002. The discount has been properly amortized in 2002 and 2003, so that the carrying va acquisition of Eyre a consolidated basis, of $5 million has been extinguishe W is ile$4,900,000. y I AS 2 0 03 :Therefore, I n t erp re t on at ion an d Ap p licat io n o debt f for a gain on retirement of $100,000. Since the workpapers shown are only for the preparation of a consolida I n t er n at ion al Accou n t in g St an d ar ds has been creditedbytoBar retained earnings. This gain could also be recorded on ISBN:0471227366the books of the parent, Ahmad r y J. Epstein and Abbas Ali za to consolidated retained earnings. retained earningsMir equal John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for Ahmadi Corporation and Subsidiaries Workpapers for Consolidated Balance Sheet As of December 3 assistance in the prepar at ion and under standing of financial statements present ed inBelfast accordance withCairo I AS. Ahmadi Delhi Corp.

T ab le of Con t en t s

Corp.

Corp.

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds assets Current $ 74,625,000 $ 3,900,000 $ 4,000,000 Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Plant and 80,000,000 - Balance Sheet equipment

Chapter 2 Chapter 3

-

38,500,000

Eyre, Inc.

Co.,Inc.

17,400,000

$ 12,000,000

$ 50,000,000

72,000,000

88,000,000

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Elimin entr

1,68 5,0

Chapter 4 - Cash Flow St at em ent Investments Chapter 5

- Financial I nstr uments—Cash and Receiv ables

8% Chapter 6Eyre - I nventor y

4,900,000

(4,90

Chapter 7debentures - Rev enue Recogni tion, I ncluding Constr uction Contr act s Chapter 8

- Property , Plant , and Equipment 9,8000,000

3,100,000

Ahmadi - I ntangi ble Asset s stock

(9,80

Chapter 9

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

(3,10

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

49,700,000

(49,7

Belfast Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 Corp. Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt 19,680,000 Cairo Chapter 14 - Leases

(19,68

Co., Inc

Chapter 15 - I ncom e Taxes

76,500,000 Chapter 16 - Em ploy ee Benefit s Delhi

(25,50

Chapter 17 - Stock holder s' Equit y Corp. Chapter 18 - Earnings Per Share

80,000,000

(20,00

Eyre. Chapter 19 - I nterim Financial Repor ting Inc

Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting $385,405,000 Changes and Cor rection of$Er ror $24,500,000 s Chapter 22 - For eign Curr ency

$84,000,000

$ 138,000,000

$21,000,000

$ 28,000,000

$(13,50

50,000,000

(5,00

52,200,000

Chapter 23 - Related- Part y Disclosures $ 2,500,000 Current $ 99,750,000 Chapter 24 Specialized I ndustr ies liabililies

$ 6,500,000

Chapter 25 - I nflation and Hyperinflation

8% debentures

Chapter 26 - Gov er nm ent Gr an ts

Preferred Appendix A - Di sclosure Checklist stock, B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix Appendix C - Com parison17,500,000 of I AS, US GAAP, and UK GAAP I ndex

$100 par

List of Tables

on and Ex am ples 1,000,000 ListPremium of Ex hibits Listpfd of stock Sidebar s

Common stock. $100 par $10 par No par

57,308,300 20,000,000

(20,00 14,500,000

(14,50

1,000,000

$1 par $10 par W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Additional paid- by Bar97,771,700 14,700,000 r y J. Epstein and Abbas Ali in capital, etc. Mir za

3,500,000 ISBN:0471227366

(1,00 5,000,000

(5,00

6,200,000

(14,70

John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial 112,075,000 15,000,000 3,500,000 58,500,000 statements present ed in accordance with I AS.

Retained earnings

(3,50 (6,20 48,800,000

T ab le of Con t en t s

(3,50

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

(58,50

Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

I ncom e Statement, Stat em$52,200.000 ent of Chan ges $24,500,000 in Equit y, and Statem ent $385,405,000 $84,000,000 of Recognized Gains and Losses

(15,00

(48,80 10 $34,500,000

Treasury Chapter 4 -stock Cash Flow St at em ent

(9,80

Chapter 6

- I nventor y

(3,10

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

(at cost) Chapter 5 - Financial I nstr uments—Cash and Receiv ables

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Consolidated Statements in Subsequent Periods with Minority Interes

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter When a12company acquires some, but not all, of the voting stock of another entity, the shares held by third pa Balance Sheet Date

interest13 in the acquired company. This occurs when the acquisition form is employed. A legal merger or cons Chapter - Financial I nstr uments—LongTer m Debt acquirer14a -100% interest in whatever assets it obtained from the selling entity. Under international accounting Chapter Leases company more than half of another entity, the two should be consolidated for financial statement purpo Chapter 15 owns - I ncom e Taxes

mislead the statement users because control is temporary or the businesses are heterogeneous, etc.). The m assets and earnings of the consolidated entity must also be accounted for.

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y

Chapter 18 - Earningsstatements Per Share are prepared, the full amount of assets and liabilities (in the balance sheet) a When consolidated Chapter 19 - I nterim Financial Repor ting (in the income statement) of the subsidiary are generally presented. Accordingly, a contra must be shown for Chapter 20 not - Segm ent to Repor that does belong the ting parent company. In the balance sheet this contra is normally a credit item shown Chapter 21 - Accounting Changes and rection interest of Er ror sin consolidated net assets equal to the minority's perc stockholders' equity, representing theCor minority Chapter assets 22 of the - For subsidiary eign Curr ency entity. Although less likely, a debit balance in minority interest could result when the

its stockholders' equity when there is reason to believe that the minority owners will make additional cap Chapter 23 - RelatedPartand y Disclosures that deficit. situation sometimes occurs where the entities are closely held and the minority owners are r Chapter 24 - This Specialized I ndustr ies business with the parent company and/or its stockholders. In other circumstances, a debit in mi Chapter 25 relationships - I nflation and Hyperinflation charged26against Chapter - Gov erparent nm ent company Gr an ts retained earnings under the concept that the loss will be borne by that com Appendix A - Di sclosure Checklist

IAS 27 stipulates that minority interest be presented in the consolidated balance sheet separately from both l equity. Accordingly, it will be shown in a separate caption after liabilities, but ahead of equity.

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

In the income statement, the minority interest in the income (or loss) of a consolidated subsidiary is shown as I ndex addition to) the consolidated net income account. As above, if the minority interest in the net assets of the su List of Tables reduced to zero, if a net debit minority interest will not be recorded (the usual case), the minority's intere List of Ex hibits andand Ex am ples should not bes recorded. (However, this must be explained in the footnotes.) Furthermore, if past minority loss List of Sidebar recorded, the minority's interest in current profits will not be recognized until the aggregate of such profits eq unrecognized losses. This closely parallels the rule for equity method accounting recognition of profits and lo IAS 27 states that income attributable to minority interest be separately presented in the statement of earning this is accomplished by presenting net income before minority interest, followed by the allocation to the mino net income. Example of consolidation process involving a minority interest Assume the following:

Assume the following: W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g StSheets an d ar ds Alto Company and Bass Company Balance at January 1, 2003(before combination) ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

Assets

Alto Company

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial Accounts receivable (net) statements present ed in accordance with I AS.

Cash

$ 30,900 34,200

Inventories

22,900

T ab le of Con t en t s

Equipment Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

200,000

Less accumulated depreciation

(21,000)

Preface

Patents Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Chapter 2

-$267,000

- Balance Sheet

Total assets

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 Liabilities of and stockholders' Recognized Gains equity and Losses Chapter 4

Cash Flow St at em ent Accounts -payable

Chapter 5

$ 4,000

- Financial I nstr uments—Cash and Receiv ables

Bonds6payable, 10% Chapter - I nventor y

100,000

Chapter 7 -stock, Rev enue tion, I ncluding Constr uction Contr act s Common $10Recogni par

100,000

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Additional paid-in capital

15,000

Retained earnings I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

48,000

Chapter 10 -

I nvestm ent Pr oper ty

$267,000

Total liabilities and stockholders' equity

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Note that in the foregoing, the net assets of Bass Company may be computed by one of two methods.

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter Leases the book value of the liability from the book values of the assets. Method141:- Subtract Chapter 15 - I ncom e Taxes

$112,600 - $6,600 = $106,000

Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y

Method 2: Add the book value of the components of Bass Company's stockholders' equity.

Chapter 18 - Earnings Per Share

$50,000 + $15,000 + $41,000 = $106,000

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

At the date the combination, of of allErthe and liabilities were determined by appraisal, as Chapter 21 - of Accounting Changesthe andfair Corvalue rection rorassets s Chapter 22 - For eign Curr ency

Bass 23 Company Item Bookvalue(BV) Chapter - RelatedPart y Disclosures Chapter Cash 24 - Specialized I ndustr ies

Fair marketvalue(FMV)

$ 37,400

$ 37,400

Chapter 26 - Gov er nm ent Gr an ts

9,100

9,100

Appendix Inventories A - Di sclosure Checklist

16,100

17,100

Chapter 25 - I nflation and Hyperinflation

Accounts receivable (net)

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Equipment (net)

40,000

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

48,000

Patents I ndex

10,000

13,000

ListAccounts of Tablespayable

(6,600)

(6,600)

$106,000

$118,000

List of Ex hibits and Ex am ples

Totals List of Sidebar s

Difference betweenBV and

$1

When a minority interest exists, as in this example, the concept employed will determine whether the consoli reflects the full excess of fair market values over book values of the subsidiary's identifiable net assets, or on percentage share thereof. Under the provisions of IAS 22, both approaches are acceptable. The benchmark "step-up" for only the share of the subsidiary's assets that have effectively been purchased by the parent; thu as included in the parent's consolidated balance sheet will be comprised of a mixture of cost bases: the pare identifiable assets, and the minority interest's predecessor cost basis for its share of the assets.

The allowed alternative treatment is to record all the assets and liabilities at their fair values as of the date of the portion represented by the minority interest's ownership share. There will be no mixture of costs for the n acquired in the business combination W ile y I AS 2 0 03 : I n ton erpthe re tconsolidated at ion an d Apbalance p licat io sheet; n o f all items will be presented at fair va date. Goodwill, however, will be presented only to the extent that the acquirer paid more than the fair values I n t er n at ion al Accou n t in g St an d ar ds assets; there will by notBar ber yany goodwill attributable to the minority interest. ISBN:0471227366 J. Epstein and Abbas Ali Mir za

In the present example, identifiable (i.e., before goodwill) net assets will be reported in the Alto conso John WiBass's ley & Sons © 2003 (952 pages) either $116,800 or at $118,000, depending on whether the benchmark treatment or the allowed alternative tr This com pact and t ruly com pr ehensive qui ck - refer ence 22. These amounts are computed as follows: pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Benchmark treatment T ab le of Con t en t s

Bass Company net assets, at FMV

$118,000

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing 90% thereof (majority interest) $106,200 Standar ds Preface Bass Company net assets, at cost 106,000 Chapter 1 - I ntr oduction to I nter national Accounting Standar ds

10% thereof (minority interest) - Balance Sheet

10,600

Chapter 2

I ncom e Statement, Stat em ent of Chan ges$116,800 in Equit y, and Statem ent Chapter 3Total - identifiable net assets of Recognized Gains and Losses Chapter 4 alternative - Cash Flow treatment St at em ent Allowed Chapter 5 - Financial I nstr uments—Cash and Receiv ables

Bass Company net assets, at FMV

Chapter 6

- I nventor y

$118,000

90% thereof (majority interest) $106,200 Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s Chapter 8 - Property Plant , and Equipment Bass Company net,assets, at FMV 118,000 Chapter 9

- I ntangi ble Asset s

10% thereof (minority interest)

Chapter 10 -

11,800

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty $118,000

Total identifiable net assets

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, in Cont Ev ents after t he The benchmark treatment will be utilized theingencies, following and discussion. Chapter 12 Balance Sheet Date Chapter - Financial I nstr1, uments—LongTer m Debt Assume13that on January 2003, Alto acquired 90% of Bass in exchange for 5,400 shares of $10 par commo value of14$120,600. Chapter - Leases The purchase method is used to account for this transaction; any goodwill will be written o Chapter 15 - I ncom e Taxes

Workpapers for the consolidated balance sheet as of the date of the transaction will be as shown below.

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

Alto Company and Bass Company Consolidated Working Papers For Date of Combination—1/1/03

Chapter 19 - I nterim Financial Repor ting Chapter Purchase 20 - Segm ent Repor ting

accounting Chapter 21 - Accounting Changes and Cor rection of Er ror s 90% interest Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies

Debit

Minority interest

Chapter 25 - I nflation and Hyperinflation

Adjustments Bass and Company Appendix B - I llustrativ eCompany Financial St atem ent s Pr esent edeliminations Under I AS Chapter 26 - Gov er nm ent Gr an ts

Alto Appendix A - Di sclosure Checklist

Appendix C - Com parison of I AS, US GAAP, and UK GAAP Cash $ 30,900 I ndex List of Tables

Balance sheet, 1/1/03

Consolida balance

$ 37,400

Accounts receivable

34,200

9,100

Inventories

22,900

16,100

$ 900b

39

9,000b

259

List of Ex hibits and Ex am ples List of Sidebar s

Equipment

200,000

50,000

Accumulated depreciation

(21,000)

(10,000)

Investment in stock of Bass Company

120,600

43

$ 1,800b 120,600a

(32

Difference 25,200 a between cost and book value W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Excess of cost by Bar r y J. Epstein and Abbas Ali over fair value Mir za (goodwill) John Wi ley & Sons © 2003 (952 pages) Patents Total assets Accounts

25,200 b

b 14,400 ISBN:0471227366

14

b This com pact and t ruly com pr ehensive qui ck - refer ence 10,000 2,700 pr esent s account ants with a guide to depend on for $387.600 $112,600 assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

$ 4,000

12 $404

$ 6,600

$ 10

T abpayable le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Bonds payable 100,000 Standar ds Preface Capital stock Chapter 1

154,000

100

45,000 a

50,000

$ 5,000

154

1,500

81

4,100

48

$10,600

10,60

- I ntr oduction to I nter national Accounting Standar ds

Additional paid-

81,600

13,500 a

15,000

Chapter 2 - Balance Sheet in capital Chapter 3 Retained

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent 41,000 36,900 a of Recognized 48,000 Gains and Losses

earnings Chapter 4 - Cash Flow St at em ent Chapter 5 interest - Financial I nstr uments—Cash and Receiv ables Minority Chapter 6

- I nventor y

Total liabilities $387,600 $112,600 $147,600 - Rev enue Recogni tion, I ncluding Constr uction Contr act s and equity

Chapter 7 Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

$147,600

$404

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Based on Chapter 10 the - foregoing, the consolidated balance sheet as of the date of acquisition will be as follows: I nvestm ent Pr oper ty Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Alto Company Bass ies, Company Consolidated Balance Sheet at January 1, 2003 (immediately after c Currand ent Liabilit Prov isions, Cont ingencies, and Ev ents after t he

Chapter 12 -

Assets

Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Cash 14 - Leases Chapter Chapter 15 -receivable, I ncom e Taxes Accounts net Chapter 16 - Em ploy ee Benefit s

Inventories

Chapter 17 - Stock holder s' Equit y

Equipment Chapter 18 - Earnings Per Share

$ 68,300 43,300 39,900 259,000

Chapter 19 - I nterim Financial Repor ting Less accumulated depreciation (32,800) Chapter 20 - Segm ent Repor ting

Goodwill

14,400

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Patents Chapter 22 - For eign Curr ency

12,700

Chapter 23 - Related- Part y Disclosures $404,800

Total assets

Chapter 24 - Specialized I ndustr ies Chapter 25 - Iand nflation and Hyperinflation Liabilities stockholders' equity Chapter 26 - Gov er nm ent Gr an ts

Accounts payable

Appendix A - Di sclosure Checklist

$ 10,600

Bonds payable, 10%e Financial St atem ent s Pr esent 100,000 Appendix B - I llustrativ ed Under I AS Appendix - Com parison MinorityCinterest in Bassof I AS, US GAAP, and UK GAAP 10,600 I ndex

Common stock, $10 par

154,000

paid-in capital ListAdditional of Ex hibits and Ex am ples

81,600

ListRetained of Sidebar s earnings

48,000

List of Tables

Total liabilities and stockholders' equity

$404,800

1. Investment on Alto Company's books The entry to record the 90% purchase-acquisition on Alto Company's books was

Investment in stock of Bass Company

120,600

Capital W ile ystock I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

54,000

I n t er n at ion al Accou n t in g St an d ar ds

66,600 Additional capital ISBN:0471227366 by Bar r y paid-in J. Epstein and Abbas Ali za To recordMir the issuance of 5,400 shares of $10 par stock to acquire a 90% interest in Bass Company John Wi ley & Sons © 2003 (952 pages)

This com pact t ruly for comthe pr ehensive qui ck -in refer Although common stockand is used consideration ourence example, Alto Company could have used pr esent s account ants with a guide to depend on forstockholders to make the purchase combin other form of consideration acceptable to Bass Company's assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

2. Difference between investment cost and book value T ab le of Con t en t s

The difference between the investment cost and the parent company's equity in the net assets of the

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing follows: Standar ds Preface

cost to I nter national Accounting Standar ds Chapter 1Investment - I ntr oduction

$ 120,600

Chapter 2Less - Balance Sheet% at date of combination book value I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3Bass - Company's of Recognized Gains and Losses Chapter 4

- Cash Flow St at em ent

$ 50,000

Chapter 5

stock - Financial Capital I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Additional paid-in capital

Chapter 10 -

Retained earnings

15,000 41,000

I nterests in Financial Instr um ent s, Associat$106,000 es, Joint Ventur es, and Total I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements x 90%

Parent's share of ownership

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he 95,400 Balance Sheet Dateof book value Parent's share

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Excess of cost over book value

Chapter 14 - Leases

$ 25,200

Chapter 15 - I ncom e Taxes

This difference is due to several undervalued assets and to unrecorded goodwill. The allocation proce 100% purchase; however, in this case, the parent company obtained a 90% interest and thus will reco Chapter between 17 - Stock holder Equit yvalues and book values of the subsidiary's assets, not 100%. The allocation o the fair s' market Chapter determined 18 - Earnings Share asPer follows: Chapter 16 - Em ploy ee Benefit s

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

Difference betwee FMV

Chapter 22 - For eign Curr ency

Cash Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Accounts receivable Chapter 25 - I nflation and Hyperinflation

Inventories

Chapter 26 - Gov er nm ent Gr an ts

netChecklist Appendix Equipment, A - Di sclosure Appendix Patents B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Accounts payable

List of Tables

Totals

List of Ex hibits and Ex am ples

Less differential between investment cost ($120,600) and 90% of Bass' book value ($106,000)

List of Sidebar s

Net purchase cost allocated to goodwill The equipment has a book value of $40,000 ($50,000 less 20% depreciation of $10,000). An appraisa equipment's replacement cost was $60,000 less 20% accumulated depreciation of $12,000, resulting $48,000. 3. Elimination entries on workpaper

The basic reciprocal accounts are the investment in subsidiary account on the parent's books and the equity accounts. Only the parent's share of the subsidiary's accounts may be eliminated as reciprocal 10% portion is yallocated to :the include documentation showing the W ile I AS 2 0 03 I n tminority erp re t atinterest. ion an d The Ap pentries licat io nbelow of information. workpaper entry to geliminate I n tThe er n at ion al Accou n t in St an d arthe ds basic reciprocal accounts is as follows: ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali Mir za— Bass Co. Capital stock

45,000

John Wi ley & Sons © 2003 (952 pages)

AdditionalThis paid-in capital — Bass Co. 13,500 com pact and t ruly com pr ehensive qui ck - refer ence [a] esent s account ants on for Retainedpr earnings — Bass Co.with a guide to depend 36,900

assistance in the prepar at ion and under standing of financial

statements present ed in accordance with I AS.25,200 Differential

120,600 T ab le of Con t en tInvestment s in stock of Bass Co.—Alto Wiley I AS 20 03—Int Co er pretation and Application of I nternational Account ing Standar ds [a] $41,000. x 90% = $36,900

Preface

Chapter Note 1 - Ithat ntr oduction to of I nter national Accounting Standar dsequity accounts are eliminated. Also, an accoun only 90% Bass Company's stockholders' Chapter debited 2 - Balance Sheet in the workpaper entry. The differential account is a temporary account to record the differenc I ncom einStatement, Stat em ent the of Chan ges inbooks Equit y, and Bass Company from parent's and theStatem book ent value of the parent's interest (90% Chapter investment 3 of Recognized subsidiary's books. Gains and Losses Chapter 4

- Cash Flow St at em ent step Iisnstr to uments—Cash allocate the differential toables the specific accounts by making the following workpaper Chapter The 5 - next Financial and Receiv Chapter 6

- I nventor y

Chapter 7Inventory - Rev enue Recogni tion, I ncluding Constr 900 uction Contr act s Chapter 8

- Property , Plant , and Equipment Equipment 9,000

Chapter 9

- I ntangi ble Asset s

Patents 2,700 I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty Goodwill 14,400 Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

1,800

Chapter 12 -

CurrAccumulated ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date depreciation

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Differential Chapter 14 - Leases

25,200

Chapter 15 - I ncom e Taxes

This entry reflects the allocations prepared in step 2. above and recognizes the parent's share of the a

Chapter 16 - Em ploy ee Benefit s

Chapter The 17 - minority Stock holder s' Equit y interest column is the 10% interest of Bass Company's net assets owned by outside third Chapter must 18 - Earnings Per Share be disclosed because 100% of the book values of Bass Company are included in the consolidat Chapter Alto 19 - Company I nterim Financial controlsRepor only ting 90% of the net assets. An alternative method to prove minority interest is Chapter the 20 -subsidiary Segm ent Repor by theting minority interest share, as follows: Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency of Bass Company Stockholders' equity Chapter 23 - Related- Part y Disclosures

$106,000

Chapter 24 - Specialized I ndustr ies

x

Minority interest %

=

Minority interest

x

10%

=

$10,600

Chapter The 25 - $10,600 I nflation would and Hyperinflation be reported on the credit side of the consolidated balance sheet between liabilities Chapter 26 - Gov er nm ent Gr an ts

treatment prescribed by IAS 22 was used above to prepare the consolidated balance AppendixThe A - benchmark Di sclosure Checklist treatment had St been minority interest Appendixalternative B - I llustrativ e Financial atememployed, ent s Pr esent ed Under I AS would have been as follows: Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Total fair market value of identifiable net assets

List of Tables

of Bass Company $118,000

x

Minority percentage

=

Minority interest

x

10%

=

$11,800

List of Ex hibits and Ex am ples

The example does not include any other intercompany accounts as of the date of combination. If any List of Sidebar s eliminated to present the consolidated entity fairly. Several examples of other reciprocal accounts will preparation of consolidated financial statements subsequent to the date of acquisition. If the preceding example were accounted for on a push-down basis, Bass would record the following e

Inventories

1,000

Equipment

10,000

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f St an d ar ds Patents I n t er n at ion al Accou n t in g3,000 ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali 2,000 Mir za Accumulated John Wi ley & Sons © 2003 (952 pages) depreciation This com pact and t ruly com pr ehensive qui ck - refer ence

12,000 Paid-in capital pr esent s account ants with a guide to depend on for

assistance in the prepar at ion and under standing of financial statements ed investment in accordance I AS. in a company whose net equity was $118,000 As a result, Alto wouldpresent have an of with $120,600 $106,200 contrasted with the cost of $120,600 would mean that the only number unaccounted for by A T ab le of Con t en t s $14,400. The elimination entry on the worksheet would change only with respect to the paid-in capital Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface

Capital stock

45,000

Chapter 1Paid-in - I ntr oduction national Accounting Standar ds capital to I nter 24,300 Chapter 2

- Balance Sheet

Retained earnings

36,900

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses Goodwill 14,400

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

Investment - Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

120,600

This would leave $5,000 of capital stock, $2,700 of paid-in capital, and $4,100 of retained earnings as - Rev enue Recogni tion, I ncluding Constr uction Contr act s same $11,800 as under the entity concept.

Chapter 7 Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Example Chapter 10 of - consolidation for uniting involving minority interest I nvestm ent Pr oper ty Chapter 11 - Business ed Fin ancial Statements The foregoing entriesCombinations are based onand the Consolidat combination being accounted for as an acquisition, using the purchas Curr ent will Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t hemethod, using the pooling metho The same example now be used to demonstrate the uniting of interests Chapter 12 Balance Sheet Date

interest situation. Assume the following:

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

1. On January 1, 2003, Alto Company acquired a 90% interest in Bass Company in exchange for 5,400 s stock of Alto Company.

Chapter 14 - Leases

Chapter 15 - I ncom e Taxes

Chapter 16 criteria - Em ploy 2. All foreeaBenefit poolings have been met, and the combination is treated as a pooling of interests. Chapter 17 - Stock holder s' Equit y

The workpaper for a consolidated balance sheet at the date of combination is presented below. Note that the Chapter 18 - Earnings Per Share balances Company and Bass Company immediately after the combination was recorded by Alto Com Chapter 19 of - IAlto nterim Financial Repor ting Chapter 1. Investment 20 - Segm ent entry Repor recorded ting on Alto Company's books Chapter 21 - Accounting Changes and Cor rection of Er ror s

The following entry was made by Alto Company to record its 90% acquisition-pooling of Bass Compan

Chapter 22 - For eign Curr ency

Chapter 23 - Related- Part y Disclosures

Investment in stock of ies Bass Co. Chapter 24 - Specialized I ndustr Chapter 25 - I nflation and Hyperinflation

Capital stock, $10 par

95,400 54,000

Chapter 26 - Gov er nm ent Gr an ts

4,500

Appendix A - Di sclosure Additional Checklist paid-in capital

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Retained earnings

36,900

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables Alto Company and Bass Company Consolidated Working Papers For Date of Combination—1/1 List of Ex hibits and Ex am ples List of Sidebar s

Purchase accounting 90% interest W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Adjustments and I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Mir za Alto John Wi ley & Sons © 2003 (952 pages)

Company

eliminations ISBN:0471227366 Bass Company

This com pact and t ruly com pr ehensive qui ck - refer ence

Debit

Credit

Minority interest

pr esent1/1/03 s account ants with a guide to depend on for Balance sheet,

assistance in the prepar at ion and under standing of financial

30,900 with$I AS. 37,400 statements present ed in $accordance Cash T ab le of Con t en t s

Accounts

34,200

Inventories

22,900

9,100

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing receivable Standar ds Preface

16,100

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

Equipment - Balance Sheet

Chapter 3

-

Chapter 4

depreciation - Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables 95,400

Chapter 6

- I nventor y

Chapter 8

- Property , Plant , and Equipment

Chapter 9

Patents - I ntangi ble Asset s

200,000

50,000

I ncom e Statement, Stat em ent(21,000) of Chan ges in Equit y, and Statem ent (10,000) Accumulated of Recognized Gains and Losses

95,400 a

Investment in stock of Bass Chapter 7 - RevCompany enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 10 -

10,000

I nterests in Financial Instr um$362,400 ent s, Associat es,$112,600 Joint Ventur es, and I nvestm ent Pr oper ty Total assets

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

$ 4,000

Chapter 12 -

$ 6,600

CurrAccounts ent Liabilitpayable ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

100,000

Bonds payable

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Capital stock Chapter 15 - I ncom e Taxes

Additional paid-in Chapter 16 - Em ploy ee Benefit s

154,000

50,000

45,000 a

$ 5,000

19,500

15,000

13,500 a

1,500

84,000 a

41,000

36,900 a

4,100

capital Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

Retained earnings

Chapter 19 - I nterim Financial Repor ting

$10,600

Chapter 20 - Segm ent Repor ting Minority interest Chapter 21 - Accounting Changes and Cor rection of Er ror s

$362,400

Chapter 22 - For eign Curr ency Total

$112,600

$95,400

$95,400

Chapter 23 - Related- Part y Disclosures liabilities and Chapter 24 - Specialized equity I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

The investment entry reflects the capital mix for a pooling of less than a 100% investment. The followi for our 90% combination accomplished by the issuance of 5,400 shares of Alto Company's $10 par st

Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Bass Company

I ndex List of Tables Capital stock List of Ex hibits and Ex am ples

Alto Company's percentage share

$ 50,000

90%

Additional paid-in capital

15,000

90%

Retained earnings

41,000

90%

List of Sidebar s

Alto's share

$106,000 The $54,000 (5,400 shares x $10 par) in new capital issued by Alto Company represents $45,000 from stock and $9,000 of the $13,500 Bass Company's additional paid-in capital. Note that the remaining $ $36,900 of Bass Company's retained earnings are carried over to Alto Company's books in the combi $10,600 of Bass's capital that is not carried over to Alto will eventually be shown as minority interest o

sheet. 2. Elimination entry on workpaper

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Pooling accounting uses book values as a basis of valuation; therefore, no differential will ever occur byaBar r y J. Epstein and Abbas Ali sheet are inISBN:0471227366 accounts in pooling consolidated balance the investment in stock of Bass Company acc Mir za books and the stockholders' equity accounts from the subsidiary's books. Again, note that only 90% o John Wi ley & Sons © 2003 (952 pages) Company is being eliminated; the 10% remainder will be recognized as minority interest. The workpap This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for Capital stock—Bass 45,000 assistance inCo. the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Additional paid-in capital—Bass Co.

13,500

T ab le of Con t en t s

36,900 [a]

Retained earnings—Bass Co.

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds 95,400 Investment in stock of Bass Co.—Alto Preface

Co.

Chapter 1[a]$41,000 - I ntr oduction I nter national Accounting Standar ds x 90% to = $36,900 Chapter 2 - Balance Sheet Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Consolidation process in periods subsequent to acquisition. - Cash Flow St at em ent

Chapter 4

Chapter 5 foregoing, - Financial the I nstrfollowing uments—Cash and Receiv ables is available in the first year after the acquisition (200 Given the additional information Chapter 6 - I nventor y

1. Alto Company uses the partial equity method to record changes in the value of the investment accoun - Rev enue Recogni tion, I ncluding Constr uction Contr act s means that the parent reports its share of earnings, and so on, of the subsidiary on its books using th Chapter 8 - Property , Plant , and Equipment differential between acquisition cost and underlying fair value of net assets, and so on, is not address Chapter rather, 9 - I ntangi Asset sawait the typical year-end accounting adjustment process. theseble matters Chapter 7

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

I nvestm oper ty 2. During 2003,ent AltoPrCompany sold merchandise to Bass Company that originally cost Alto Company $1 Chapter made 11 - Business Combinations and Consolidat Fin ancial Statements for $20,000. On December 31, 2003,edBass Company's inventory included merchandise purchas Curr ent Liabilit ies, of Prov isions, Cont ingencies, and Ev ents after t he cost to Bass Company $12,000. Chapter 12 -

Balance Sheet Date 3. Also 2003, Company acquired $18,000 of merchandise from Bass Company. Bass Compa Chapter 13 - during Financial I nstrAlto uments—LongTer m Debt

above its cost. Alto Company's ending inventory includes $10,000 of the merchandise acquire Chapter of 14 25% - Leases Chapter 15 - I ncom e Taxes

4. Bass Company reduced its intercompany account payable to Alto Company to a balance of $4,000 as making a payment of $1,000 on December 30. This $ 1,000 payment was still in transit on December

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y

Chapter 18 -January Earnings Share 5. On 2,Per 2003, Bass Company acquired equipment from Alto Company for $7,000. The equipme Chapter by 19 Alto - I nterim Financial Repor ting Company for $5,000 and had a book value of $4,000 at the date of sale to Bass Company. Th Chapter estimated 20 - Segm remaining ent Repor ting life of four years as of January 2, 2003. Chapter 21 - Accounting Changes and Cor rection of Er ror s

6. On December 31, 2003, Bass Company purchased for $44,000, 50% of the outstanding bonds issued bonds mature on December 31, 2006, and were originally issued at par. The bonds pay interest annua Chapter 23 - Related- Part y Disclosures each year, and the interest was paid to the prior investor immediately before Bass Company's purchas Chapter 22 - For eign Curr ency

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation The worksheet for the preparation of consolidated financial statements as of December 31, 2003, is presente Chapter 26 Gov er nm ent Gr an ts accounting is used for the business combination. on the assumption that purchase Appendix A - Di sclosure Checklist

The investment account balanceStatatem the ent statement should be reconciled to ensure that the parent compa Appendix B - I llustrativ e Financial s Pr esentdate ed Under I AS

under the of accounting used to account the investment. Since the partial equity method is used b Appendix C method - Com parison of I AS, US GAAP, and UK for GAAP the excess of cost over book value will be recognized only on the worksheets.

I ndex

List Tables of the investment account at December 31, 2003, is as presented below. Anofanalysis List of Ex hibits and Ex am ples List of Sidebar s

Original cost % of Bass Co.'s income ($9,400 x 90%) Balance, 12/31/03

Investment in Stock of Bass Company 120,600 8,460 125,460

3,600

% of Bass Co.'s dividend 90%)

Any errors will require correcting entries before the consolidation process is continued. Correcting entries wil the appropriate company; eliminating entries are not posted to either company's books. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

The difference between the investment cost and the book value of the net assets acquired was determined a I n t er n at ion al Accou n t in g St an d ar ds preparation of the date of combination consolidated statementsISBN:0471227366 presented earlier. The same computations a by Bar r y J. Epstein and Abbas Ali financial statements for as long as the investment is owned. Mir za John Wi ley & Sons © 2003 (952 pages)

The following adjusting and eliminating entries will be required to prepare consolidated financials as of Decem This com pact and t ruly com pr ehensive qui ck - refer ence consolidated income statement is required, and therefore, the nominal (i.e., income and expense) accounts a pr esent s account ants with a guide to depend on for or letter in parentheses to the left of the entry corresponds to theofkey used on the worksheets presented afte assistance in the prepar at ion and under standing financial statements present ed in accordance with I AS.

Step 1—Complete the transaction for any intercompany items in transit at the end of the year. T ab le of Con t en t s Wileya. I AS Cash 20 03—Int er pretation and Application of I nternational Account ing 1,000 Standar ds Preface

1,000

Accounts receivable

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment 38,000

Chapter 9

- I ntangi ble Asset s

This adjusting will nowStat properly the in financial of ent both companies, and the consolid I ncom eentry Statement, em ent present of Chan ges Equit y, positions and Statem Chapter 3 continued. of Recognized Gains and Losses Step 2—Prepare the eliminating entries. a.

Sales

38,000

Cost of goods sold

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

I nvestm ent Pr oper ty Total intercompany sales of $38,000 include $20,000 in a downstream transaction from Alto Company to Chapter $18,000 11 - Business in an upstream Combinations transaction and Consolidat from Bass edCompany Fin ancial Statements to Alto Company. Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Sheet Date5,000 CostBalance of goods Chapter 13 Financial I nstr uments—Long- Ter m Debt sold

b.

Chapter 14 - Leases Chapter 15 - I ncom e Taxes Inventory Chapter 16 - Em ploy ee Benefit s

5,000

The ending inventories are overstated because of the unrealized profit from the intercompany sales. The is required because a decrease in ending inventory will increase cost of goods sold to be deducted on th Chapter 18 - Earnings Per Share Supporting computations for the entry are as follows: Chapter 17 - Stock holder s' Equit y

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

In ending inventory of

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Alto Company

Bass Company

$10,000

$12,000

Chapter 23 - Related- Part y Disclosures

Intercompany sales not resold, at selling price

Chapter 24 - Specialized I ndustr ies

Cost basis remaining intercompany merchandise Chapter 25 - Iof nflation and Hyperinflation (8,000)

Chapter 26 - Gov er nm ent Gr an ts

From Bass to Alto (÷ 125%)

Appendix A - Di sclosure Checklist

(9,000)

Appendix From B - I llustrativ e Financial atem ent s Pr esent ed Under I AS Alto to Bass (÷ 133St1/3%) Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Unrealized profit

I ndex

$2,000

$3,000

List ofNote Tables When preparing consolidated workpapers for 2004 (the next fiscal period), an additional eliminating List of Ex hibits andinEx am ples goods 2003's ending inventory are sold to outsiders during 2004. The additional entry will recogn List of Sidebar wass eliminated as unrealized in 2003. This entry is necessary since the entry at the end of 2003 wa

worksheet. The 2004 entry will be as follows: Retained earnings—Bass Co., 1/1/04

2,000

Retained earnings—Alto Co., 1/1/04

3,000

Cost of goods sold, 2004

5,000

c.

Accounts payable

4,000

4,000 W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Accounts I n t er n at ion al Accou n t in g St an d ar ds receivable

ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali

This entry eliminates the remaining intercompany receivable/ payable owed by Bass Company to Alto Co Mir za entry is necessary toley avoid overstating thepages) consolidated entity's balance sheet. The receivable/payable i John Wi & Sons © 2003 (952 Bass Company still transfer Alto Company in the Thismust com pact and t ruly$4,000 com prto ehensive qui ck - refer encefuture. pr esent s account ants with a guide to depend on for

d.

assistance in the prepar at ion and under standing of financial Gain on sale of equipment 3,000 statements present ed in accordance with I AS.

2,000

T ab le of Con t en ts Equipment

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing 250 Standar ds Accumulated Preface

depreciation

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet expense Depreciation

750

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 entry This eliminates the gain onLosses the intercompany sale of the equipment, eliminates the overstatement o of Recognized Gains and

the excess depreciation taken on the gain. Supporting computations for the entry are as follows: - Cash Flow St at em ent

Chapter 4 Chapter 5

- Financial I nstr uments—Cash and Receiv ables

At date of intercompany sale accum. Cost depr. Constr uction Contr act s Chapter 7 - Rev enue Recogni tion, I ncluding Chapter 8 basis - Property , Plant , and Equipment Original Chapter 6

- I nventor y

Chapter 9

- I ntangi ble Asset s

(to seller, Alto Co.)

$5,000

($1,000)

7,000

--

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and New basis I nvestm ent Pr oper ty Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

2003 depr. ex.

End

$ 1,000

Chapter 10 -

(to buyer, Bass

Chapter Co.) 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Difference ($2,000) Chapter 13 - Financial I nstr uments—Long- Ter m Debt

1,750 ($ 750)

Chapter 14 intercompany - Leases If the sale had not occurred, Alto Company would have depreciated the remaining book va Chapter 15 - I ncom e Taxeslife of four years. However, since Bass Company's acquisition price ($7,000) was m estimated remaining Chapter 16 in - Em ee Benefit s the depreciation recorded on the books of Bass Company will include part of basis theploy asset ($4,000), Chapter 17 - Stock holder s' Equit y unrealized profit. The equipment must be reflected on the consolidated statements at the original cost to Chapter 18 - Earnings Per Share Therefore, the write-up of $2,000 in the equipment, the excess depreciation of $750, and the gain of $3,0 Chapter The19ending - I nterim balance Financial of accumulated Repor ting depreciation must be shown at what it would have been if the interc

transaction had occurred. In future periods, a retained earnings account will be used instead of the g Chapter 20 - Segm ent not Repor ting other will Changes be extended to include periods. Chapter 21 concepts - Accounting and Cor rection the of Eradditional ror s Chapter 22 - For eign Curr ency

e. 23 Bonds payable Chapter - RelatedPart y Disclosures Chapter 24 - Specialized I ndustr ies

Investment in bonds of Alto Chapter 25 - I nflation and Hyperinflation

50,000 44,000

Company Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

6,000

Gain oneextinguishment ofent debt Appendix B - I llustrativ Financial St atem s Pr esent ed Under I AS

Appendix - Com parison ofthe I AS, US GAAP, and UKCompany's GAAP ThisCentry eliminates book value of Alto debt against the bond investment account of Bas I ndex consolidated entity basis, this transaction must be shown as a retirement of debt, even though Alto Com List ofintercompany Tables debt to Bass Company. Any gains or losses on debt extinguishment will be reported in the

periods Bass Company will amortize the discount, thereby bringing the investment account up to p List offuture Ex hibits and Ex am ples retained earnings account will be used in the eliminating entry instead of the gain account, as the ga List ofthe Sidebar s nominal accounts.

f.

Equity in subsidiary's income—Alto Co.

8,460

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f 3,600 I n t er n at ion al Accou n t in g St an d ar ds

Dividends declared—Bass Co.

by Bar r y J. Epstein and Abbas Ali Mir za Investment in stock of Alto Co. John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

4,860

This elimination adjusts investment account back to ence its balance at the beginning of the period a Thisentry com pact and the t ruly com pr ehensive qui ck - refer pr esent s account ants with a guide to depend on for subsidiary income account. g.

assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Capital stock—Bass Co.

45,000

T ab le of Con t en t s

13,500

paid-in capital—Bass Co. of I nternational Account ing Wiley I AS Additional 20 03—Int er pretation and Application Standar ds Preface

36,900

Retained earnings—Bass Co.

Chapter 1Differential - I ntr oduction to I nter national Accounting Standar ds 25,200 Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

120,600

I ncom e Statement, Stat ent Company—Alto of Chan ges in Equit y, and Statem ent Investment in stock ofem Bass of Recognized Gains and Losses

Co.

This eliminates 90% of Bass Company's stockholders' equity at the beginning of the year, 1/1/03. N Chapter 5 entry - Financial I nstr uments—Cash and Receiv ables during year were eliminated in entry (f). The differential account reflects the excess of investment co Chapter 6 - the I nventor y the assets acquired. - Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 7 Chapter 8

- Property , Plant , and Equipment

h. 9Inventory Chapter - I ntangi ble Asset s

900

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and 9,000 Chapter 10 Equipment I nvestm ent Pr oper ty Chapter 11 - Business Combinations2,700 and Consolidat ed Fin ancial Statements Patents Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balance Sheet Date 14,400 Goodwill

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Accumulated

1,800

Chapter 15 - I ncom depr.e Taxes Chapter 16 - Em ploy ee Benefit s

Differential Chapter 17 - Stock holder s' Equit y

25,200

Chapter 18entry - Earnings Per the Share This allocates differential (excess of investment cost over the book values of the assets acquir Chapter - I nterim Repor ting the19 same as theFinancial allocation entry made to prepare consolidated financial statements for January 1, 2003, Chapter 20 - Segm ent Repor ting Chapter - Accounting Changes and Cor rection of Er ror s i. 21 Cost of goods sold Chapter 22 - For eign Curr ency

Depreciation expense Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies

Other operating expenses—patent amortization

900 1,800 270

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Appendix Other A - Di sclosure Checklist operating expenses—goodwill

1,440

Appendix amortization B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Inventory

I ndex List of Tables

List of Ex hibits Accumulated and Ex am ples depr. List of Sidebar s

Patents Goodwill

900 1,800 270 1,440

The elimination entry amortizes the revaluations to fair market value made in entry (h). The inventory ha becomes part of cost of goods sold. The remaining revaluations will be amortized as follows:

Revaluation

Amortization period

Annual amortization

Equipment (net) 4 years W ile y I AS 2 0 $7,200 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds Patents 2,700 10 years

$1,800 270

ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Goodwill Mir za 14,400 10 years 1,440 John Wi ley & Sons © 2003 (952 pages) The amortizations will continue to be made on future worksheets. For example, at the end of the next ye This pact and t ruly com pr ehensive qui ck - refer ence entry (i) would be com as follows: pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial Differential statements present ed in accordance with I4,410 AS.

Depreciation T ab le of Con t en t s expense

1,800

Wiley I Other AS 20 03—Int er pretation and Application of I nternational270 Account ing operating expenses—patent amortization Standar ds PrefaceOther operating expenses—goodwill amortization

1,440 900

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

I ncom e Statement, Stat em ent of Chan ges in Equit y, and3,600 Statem ent - Accumulated depreciation of Recognized Gains and Losses

Chapter 4

Patents - Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Inventory

540

Goodwill

2,880

The7 initial $4,410tion, to differential is an aggregation of sthe prior period's charges to income stateme Chapter - Revdebit enueof Recogni I ncluding Constr uction Contr act $1,800 $270 +, $1,440). subsequent years, some accountants prefer reducing the allocated am Chapter 8 -+ Property Plant , andDuring Equipment period's charges. thiss case the amortization entry in future periods would reflect just that period's amo Chapter 9 - I ntangi ble In Asset I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 All the foregoing entries were on the assumption that the acquisition was accounted for as a purchase I nvestm ent Pr oper based ty

interests method been used, however, book value rather than fair value would have been the basis for record consolidation entries. Thus, entry (g) would he different, while entries (h) and (i) would not be made for a poo Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter - be the same. The basic elimination entry (g) for a pooling, using the equity method of accountin entries 12 would Balance Sheet Date be as follows: Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 14 - Leases

Capital15stock—Bass Co. Chapter - I ncom e Taxes

45,000

Chapter 16 - paid-in Em ploy capital—Bass ee Benefit s Additional Co. Chapter 17 - Stock holder s' Equit y

13,500

Retained earnings—Bass Co.

Chapter 18 - Earnings Per Share

Chapter 19 - I nterim Financial Repor ting Investment in stock of Bass

36,900 95,400

Chapter 20 - Segm ent Repor ting Co. Chapter 21 - Accounting Changes and Cor rection of Er ror s

In adjusting for eign the minority Chapter 22 - For Curr encyinterest in the consolidated entity's equity and earnings, the following guidelines s Chapter 23 - RelatedPart yshare Disclosures 1. Only the parent's of the subsidiary's shareholders' equity is eliminated in the basic eliminating e Chapter share 24 - Specialized is presented I ndustr separately. ies Chapter 25 - I nflation and Hyperinflation

2. The entire amount of intercompany reciprocal items is eliminated. For example, all receivables/payabl with a 90% subsidiary are eliminated.

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

Appendix B -intercompany I llustrativ e Financial St ateminent s Pr esentand ed Under I AS 3. For transactions inventory fixed assets, the possible effect on minority interest de Appendixoriginal C - Com parison of I AS, US GAAP, and UK GAAP transaction affected the subsidiary's income statement. Minority interest is adjusted only if the I ndex

entity. In this case, the minority interest is adjusted for its percentage ownership of the common stock

List of Tables minority interest is not adjusted for unrealized profits on downstream sales. The effects of downstream List of Exsolely hibits to and Exparent's am ples (i.e., controlling) ownership interests. the List of Sidebar s

The minority interest's share of the subsidiary's income is shown as a deduction on the consolidated income the sub's revenues and expenses are combined, even though the parent company owns less than a 100% in the minority interest deduction on the income statement is computed as follows:

Bass Company's reported income

$9,400

Less unrealized profit on an upstream inventory sale

(2,000)

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f t er n at ion Accou n t in g St an d arpurposes ds Bass Company'sI nincome for al consolidated financial $7,400 ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Minority interest Mir share x 10% za Wi ley &statement Sons © 2003 (952 pages) Minority interest John on income $740 This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account a guide to depend on for The minority interest's share of theants netwith assets of Bass Company is shown on the consolidated balance sheet assistance thecomputation prepar at ion for andthe under standing of financial controlling interest's equity. in The minority interest shown in the balance sheet for our exam statements present ed in accordance with I AS.

T abBass le of Company's Con t en t s capital stock, 12/31/03 $50,000 Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Minority x 10% Standar ds interest share

$ 5,000

Preface Bass Company's additional paid-in capital, 12/31/03 $15,000 Chapter 1 - I ntr oduction to I nter national Accounting Standar ds

Minority interest share

Chapter 2

x 10%

- Balance Sheet

1,500

Bass Company's earnings. $41,000 I ncom eretained Statement, Stat em1/1/03 ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses Minority interest share x 10% 4,100

Chapter 3 Chapter 4

- Cash Flow St at em ent

Bass Company's 2003 income for consolidated purposes Chapter 5 - Financial I nstr uments—Cash and Receiv ables

$ 7,400

Chapter 6 interest - I nventor y Minority share x 10% Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s

Bass Company's dividends during 2003

Chapter 8

740

$ 4,000

- Property , Plant , and Equipment

Minority share Chapter 9 interest - I ntangi ble Asset s

x 10%

(400)

I nterests in Financial Total minority interest, 12/31/03 Instr um ent s, Associat es, Joint Ventur es, and $10,940 Chapter 10 I nvestm ent Pr oper ty Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Alto Company Bass ies, Company Consolidated Working Year Currand ent Liabilit Prov isions, Cont ingencies, and EvPapers ents after t heEnded December 31, 2003

Chapter 12 -

Balance Sheet Date Purchase accounting 90%

Chapter - Financial Subsequent I nstr uments—Long- Ter m Debt owned13subsidiary Chapter 14 - Leases year, partial equity method Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y

Alto Company

Bass Company

Adjustments and eliminations Debit

Chapter 18 - Earnings Per Share

Credit

Chapter 19 - I nterim Financial Repor ting

Income statements for year ended 12/31/03

Chapter 20 - Segm ent Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Sales Chapter 23 - Related- Part y Disclosures

Cost of sales I ndustr ies Chapter 24 - Specialized

$750,000

$420,000

$ 38,000a

581,000

266,000

5,000b 900 i

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

margin Checklist Appendix Gross A - Di sclosure

$ 38,000a

169,000

154,000

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under16,200 I AS 28,400

Depreciation and interest expense

1,800i

750d

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables Other operating expenses List of Ex hibits and Ex am ples

Net income from operations

117,000

128,400

23,600

9,400

1,710i

List of Sidebar s

Gain on sale of equipment

3,000

3,000d 6,000e

Gain on bonds Equity in subsidiary's income

8,460

8,460f

Minority interest

$740

Minority income ($7,400 x .10)

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f $9,400 $58,870 I n t er n at ion al Accou n t in$g35,060 St an d ar ds Net income ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Statement of retained Mir za earnings for year ended 12/31/03 1/1/03 John Wi ley & Sons © 2003 (952 pages)

$ 44,750

$740

retained earnings This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for $ 48,000 Altoassistance Company in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

$ 41,000

Bass T ab le of Con t en t s Company

$ 36,900g

Wiley I AS 20 03—Int er pretation and Application35,060 of I nternational Account 9,400 ing 58,870 Standar dsAdd net income (from Preface

$ 4,100 $ 44,750

740

above)

- I ntr oduction to I nter national Accounting 83,060 Standar ds 50,400 Total

4,840

Chapter 1 Chapter 2

- Balance Sheet

Deduct I ncom dividends e Statement, Stat em ent of 15,000 Chan ges in Equit 4,000 y, and Statem ent -

Chapter 3

of Recognized Gains and Losses

$68,060

Chapter 4

- Cash Flow St at em ent Balance, 12/31/03

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

$ 45,300

Chapter 6Cash - I nventor y

$46,400 $ 6,400

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s 43,700 12,100

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

$95,770

$4,440

$ 1,0001 4,000c

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and900 h 38,300 20,750 Chapter 10 Inventories I nvestm ent Pr oper ty Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

195,000

57,000

Chapter 13 - Financial I nstr uments—Long- Ter(35,200) m Debt

(18,900)

Accumulated depreciation

5,000b 9001

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Equipment Balance Sheet Date

$ 48,350

400

$ 1,0001

Accounts receivable (net)

Chapter 12 -

3,600f

9,000h

2,000d 250d

Chapter 14 - Leases

Chapter 15 - I ncom e Taxes

l,800h

Chapter 16 - Em ploy ee Benefit s

1,800i

Chapter 17 - Stock holder s' Equit y

Investment stock of Bass Chapter 18 - EarningsinPer Share

4,860f

125,460

Company Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

120,600g

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Differential Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized Goodwill I ndustr ies Chapter 25 - I nflation and Hyperinflation

25,200 g

25,200 h

14,400 h

1,440i 44,000 e

44,000

Investment bonds Chapter 26 - Gov er nminent Gr anof ts Alto Appendix Company A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I9,000 AS Patents Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex ListAccounts of Tablespayable List of Ex hibits and Ex am ples

$412,560

$130,350

$ 8,900

$ 18,950

Bonds payable

100,000

Capital stock

154,000

List of Sidebar s

2,700h

270i

4,000c 50,000 e

50,000

45,000 g

$ 5,000 1,500

Additional paid-in capital

81,600

15,000

13,500 g

Retained earnings (from above)

68,060

46,400

95,770

48,350

Minority interest

4,440 $10,940

$412,560

$130,350

$261,470

$261,470

The remainder of the consolidation process consists of the following worksheet techniques: 1. Take all income items across horizontally, and foot the adjustments, minority interest, and consolidate W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f income line. I n t er n at ion al Accou n t in g St an d ar ds

ISBN:0471227366 by Bar r y on J. Epstein Abbas Ali(on income statement) 2. Take the amounts the net and income line in the adjustments, minority interest, Mir zato retained earnings items across the consolidated balances column. Foot and crossfo columns down statement.John Wi ley & Sons © 2003 (952 pages)

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s of account ants with a earnings guide to depend 3. Take the amounts ending retained in eachon of for the four columns down to the ending retaine assistance in the preparinterest at ion and under standing financial balance sheet. Foot the minority column and placeofits total in the consolidated balances colum statements present ed in accordance with I AS. sheet items across to consolidated balances column. T ab le of Con t en t s

Other Accounting Issues Arising in Business Combinations

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Preface Depending on the tax jurisdiction, an acquirer may or may not succeed to the available tax loss carryforward Chapter 1 -requires I ntr oduction I nter national Accounting ds entity. IAS that atoliability approach be usedStandar in accounting for the tax effects of temporary differences Chapter - Balance Sheet effects 2of tax loss carryforwards. If an acquirer is permitted to use the predecessor's tax benefits, the amoun I ncom ebe Statement, Stat em ent of Chan ges in 12, Equitwhich y, andisStatem ent of the benefits expected to b balance sheet will measured in accordance with IAS the amount Chapter 3 Recognized Gainswill and change overoftime, this amount beLosses amended, with any such adjustments being taken into tax expense of t Chapter 4 - Cash Flow IfStthe at em ent expectations change. acquirer can only utilize the benefits to offset taxes on earnings of the operations Chapter - Financial nstr uments—Cash Receiv ables shelter 5other sourcesI of earnings), it will and be necessary to project profitable operations to support recording th Chapter 6

- I nventor y

Subsequent identification of, or changes value Chapter 7 - Rev enue Recogni tion, I ncluding Constr uctionin Contr act s of, Chapter 8

assets and liabilities acquired

- Property , Plant , and Equipment

IAS 22 stipulates that individual assets and liabilities should be recorded in an acquisition to the extent that it - I ntangi ble Asset s associated future economic benefits will flow to the acquirer and a reliable measure is available of the cost o I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter cases, 10 due- to one orent both of these criteria not being met at the date of the transaction, some assets or liabilit I nvestm Pr oper ty (which would normally have the ramification that goodwill or negative goodwill would be adjusted accordingly Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 9

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter If new information 12 becomes available after the date of the acquisition regarding the existence or the fair valu Balance Sheet Date

amount of liabilities, it will be necessary to make an adjustment to some of the recorded amounts. IAS 22 set the end of the first annual accounting period after the acquisition for any reallocation from goodwill or negativ Chapter 14 - Leases or liabilities. If such information becomes available after that date, the adjustment must be made to current p Chapter 15 - I ncom e Taxes The reason for this requirement is to avoid having changes made to goodwill or negative goodwill over an un Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Changes in majority interest. Chapter 18 - Earnings Per Share

The parent's ownership interest canting change as a result of purchases or sales of the subsidiary's common sh Chapter 19 - I nterim Financial Repor consequence of capital transactions of the subsidiary. The latter circumstance is generally handled precisely Chapter 20 - Segm ent Repor ting equity method discussion in Chapter 10.rection If the parent's Chapter 21 - Accounting Changes and Cor of Er ror srelative book value interest in the subsidiary has chan

treated 22 as -incurred anency entity's own treasury stock transactions. Gains are credited to paid-in capital; losses Chapter For eign in Curr capital or to retained earnings created previously.

Chapter 23 - Related- Part y Disclosures

Chapter 24 parent's - Specialized I ndustr ies When the share of ownership increases through a purchase of additional stock, simply debit investm Chapter 25 I nflation and Hyperinflation cost. A problem occurs with consolidated income statements when the change in ownership takes place in m Chapter 26 - should Gov er nm Gr an ts based on the ending ownership level. statements beent prepared Appendix A - Di sclosure Checklist

ExampleB of consolidation with a change theed majority interest Appendix - Ia llustrativ e Financial St atem ent s Prin esent Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Assume that Alto Company increased its ownership of Bass Company from 90% to 95% on October 1, 2003 acquired at book value of $5,452.50 and is determined as follows:

I ndex

List of Tables

List of Ex hibits and Ex am ples List of Sidebar s

Retained earnings at 10/1/03

$50,000

Additional paid-in capital, 10/1/03

15,000

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n tat er n at ion al Accou n t in g St an d ar ds Retained earnings 10/1/03 ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali $41,000 za Balance, Mir 1/1/03 John Wi ley & Sons © 2003 (952 pages) [a]

7,050 Net income 9 months x pr ehensive Thisfor com pact and($9,400 t ruly com qui ck - refer ence ,75) pr esent s account ants with a guide to depend on for

assistance in the prepar at ion and under standing of financial

(4,000) Preacquisition dividends statements present ed in accordance with I AS. 44,050

$ 109,050

T ab le of Con t en t s

Wiley I AS 20 03—Int er pretation and Application of I nternational Account x 5%ing Standar ds

Book value acquired Preface

$5,452,50

[a]Assumes income vas earned evenly over the year . Chapter 1 - I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

The consolidated net income should reflect a net of I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of Recognized Gains and Losses 90% 4 x- Cash $9,400 x em12/12 = $8,460,00 Chapter Flow St at ent

Chapter ables 5% 5 x- Financial $9,400I nstrxuments—Cash 3/12 = and Receiv 117.50 Chapter 6 - I nventor y

95% c

$8,577,50

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

The interim stock purchase will result in a new account being shown on the consolidated income statement. - I ntangi ble Asset s preacquisition earnings, which represents the percentage of the subsidiary's income earned, in this case, o I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and from January Chapter 10 - 1, 2003, to October 1, 2003. The basic eliminating entries would be based on the 95% ownersh Chapter 9

I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Equity in subsidiary's income—Alto Co.

8,577.50

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date Dividends declared—Bass Co. 3,600.00 Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 12 -

Investment in stock of Bass Co.

4,977.50

Chapter 14 - Leases

Capital15stock—Bass Co. Chapter - I ncom e Taxes

47,500.00

Chapter 16 - paid-in Em ploy capital—Bass ee Benefit s Additional Co. Chapter 17 - Stock holder s' Equit y

14,250.00

Retained earnings—Bass Co.

Chapter 18 - Earnings Per Share

38,750.00[a]

Purchased earnings Chapter 19 - Ipreacquisition nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Differential

352.50 [b] 25,200,00

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Investment in stock Chapter 22 - For eign Curr encyof Bass Co.—Alto

126,052.50

Co. Chapter 23 - Related- Part y Disclosures [a]95% 24 x $41,000 beginning 2003 Chapter - Specialized I ndustr ies balance $38,950

Chapter 25 - I nflation and Hyperinflation

Less preacquisition dividend of 5% x $4,000 (200) Chapter 26 - Gov er nm ent Gr an ts Retained available, Appendix A -earnings Di sclosure Checklistas adjusted $38,750 [b]

5%, x B$9,400 x 9/12e Financial = $352.50St atem ent s Pr esent ed Under I AS Appendix - I llustrativ Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Purchased preacquisition earnings is shown as a deduction, along with minority interest, to arrive at consolid Purchased preacquisition earnings are used only with interim acquisition under the purchase accounting met List of Tables assumed to take place at the beginning of the period regardless of when, during the period, the acquisition w I ndex

List of Ex hibits and Ex am ples List of Sidebar s

Combined Financial Statements When a group of entities is under common ownership, control, or management, it is often useful to present c showing the separate as well as the combined entities) financial statements. In this situation, the economic s independent entities' operations may be more important to statement users than is the legal form of those en consolidated statements are not presented, combined statements may be used to show the financial position group of companies that are each subsidiaries of a common parent.

The process of preparing combined statements is virtually the same as consolidations employing the pooling major exception is that the equity section of the combined balance sheet will incorporate the paid-in capital a W ile y I AS 2 only 0 03 :aI single n t erp re t at ion anretained d Ap p licat io n o f account need be presented. combining entities. However, combined earnings I n t er n at ion al Accou n t in g St an d ar ds by Bar r y financial J. Epstein statement and Abbas Ali Example of a combined

ISBN:0471227366

Mir za John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence Adams Corporation and Benbow Company, Inc.Combined Balance Sheet December 31, 2003 pr esent s account ants with a guide to depend on for

assistance in the prepar at ion and under standing of financial Stockholders' equity statements present ed in accordance with I AS.

Capital T ab le of Con t en t sstock: Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Preferred, $100 par, authorized 90,000 shares, issued 5,000 shares Standar ds Preface Chapter 1

Common, par,national authorized 100,000Standar shares,dsissued 60,000 shares - I ntr oduction $50 to I nter Accounting

Chapter 2

- Balance Sheet

Chapter 3

-

Common, $10 par,Stat authorized 100,000 I ncom e Statement, em ent of250,000 Chan gesshares, in Equit issued y, and Statem entshares of Recognized Gains and Losses

Additional paid-in capital Chapter 4

- Cash Flow St at em ent

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Retained Chapter 5 -earnings Financial I nstr uments—Cash and Receiv ables

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Combinations of Entities under Common Control I nvestm ent Pr oper ty

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

IAS 22 explicitly does not apply to entities under common control (e.g., brother-sister corporations). Howeve

Curr ent Liabilit ies, Prov isions, Cont and ents t he This treatment is consistent wi mergers such affiliated entities must beingencies, accounted forEv"as if"after poolings. Chapter 12among Balance Sheet Date

as combinations of common shareholder interests. A question arises, however, when a parent (Company P) of its subsidiaries (Company B) to another of its subsidiaries (Company A) in exchange for additional shares Chapter 14 - Leases instance, A's carrying value for the investment in B should be P's basis, not B's book value. Furthermore, if A Chapter 15of- minority I ncom e Taxes interests owners of B, the transaction should be accounted for as a purchase, whether it is effecte Chapter 16 ploypayment ee Benefit by A or by aEm cash tos the selling shareholders. Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 17 - Stock holder s' Equit y

Furthermore, when a Per purchase Chapter 18 - Earnings Share transaction is closely followed by a sale of the parent's subsidiary to the newl these two shouldRepor be viewed as a single transaction. Accordingly, the parent should recognize ga Chapter 19 transactions - I nterim Financial ting subsidiary the target company, to the extent of minority interest in the target entity. As a result, there will b Chapter 20 -toSegm ent Repor ting only for21 the- target company's assets andrection liabilities, Chapter Accounting Changes and Cor of Erbut ror salso for the subsidiary company's net assets. Basis is minority participation in the target entity to which the subsidiary company was transferred.

Chapter 22 - For eign Curr ency

Chapter 23 - Related- Part y Disclosures

Accounting for Special-Purpose Entities

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation

An issue related to the accounting for entities under common control arises when one enterprise has been cr the purpose of accommodating the other's need for financing or for engaging in certain strictly limited transac Appendix A - Di sclosure Checklist the sponsoring entity. Common objectives are to effect a lease, conduct research and development activities Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS assets. These "special-purpose entities," (SPE) or special-purpose vehicles (SPV) have received a good dea Appendix C - Com parison of I AS, US GAAP, and UK GAAP as a consequence of several large and notorious financial frauds which utilized SPE to conceal reporting ent I ndex appearance of revenues and/or earnings when such did not actually exist. Chapter 26 - Gov er nm ent Gr an ts

List of Tables List SPE of have Ex hibits often andbeen Ex amused ples to escape the requirements of lease capitalization or other financial reporting req

sponsoring wishes to evade. While there are often legitimate (i.e., those not driven by financial rep List of Sidebarenterprise s of special-purpose entities (SPE), at least a side effect, if not the main one, is that the sponsoring entity's app (e.g., leverage) will be distorted. In many instances an adroitly structured SPE will not be owned, or majority owned, by the true sponsor. Wer criterion for determining whether entities need to be consolidated for financial reporting purposes, this factor substance" decision to not consolidate the SPE with its sponsor. However, under the provisions of SIC 12, o element in determining the need for consolidation; rather, a "beneficial interest" test is used to determine whe consolidated. Beneficial interest can take various forms, including ownership of debt instruments, or even a l

SIC 12 states that consolidation of an SPE should be effected if the substance of its relationship with anothe effectively controlled by the other entity. Control can derive from the nature of the predetermined activities of interpretation refers W ile toyas I AS being 2 0 03 on: "autopilot"), I n t erp re t at ion and an emphatically d Ap p licat io can n oexist f even when the sponsor has less t n t er n at ionnotes al Accou t in gfollowing St an d arconditions ds the SPE. SIC 12 Ispecifically thatnthe would suggest that the sponsor controls the S by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

of the SPE are conducted so as to provide the sponsor with the benefits thereof; 1. The activities Mir za John Wi ley & Sons © 2003 (952 pages) 2. The sponsor in substance has decision-making powers to obtain most of the benefits of the SPE, or e This com pactsuch and that t rulythe comdecision-making pr ehensive qui ckpowers - refer ence has been established have been delegated; pr esent s account ants with a guide to depend on for

assistance in the prepar at ion and under standing of financial 3. The sponsor has the right to obtain the majority of the benefits of the SPE and consequently is expose statements present ed in accordance with I AS. SPE's activities; or T ab le of Con t en t s

The sponsorerretains theand majority of theofresidual or ownership Wiley4.I AS 20 03—Int pretation Application I nternational Accountrisks ing of the SPE or its assets, in order to SPE's activities. Standar ds Preface

SIC 12 is particularly concerned that autopilot arrangements may have been put into place specifically to obf - I ntr oduction to I nter national Accounting Standar ds control. It cautions that although difficult to assess in some situations, control is to be attributed to the enterp Chapter 2 - Balance Sheet beneficial interest. The entity which arranged the autopilot mechanism would generally have had, and continu I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter thus the3 need for consolidation with the sponsor for financial reporting purposes would accordingly be indicat of Recognized Gains and Losses of examples of conditions which would be strongly indicative of control and thus of a need to consolidate the Chapter 4 - Cash Flow St at em ent with those of its sponsor. Chapter 1

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6 be - I revisiting nventor y accounting for SPE in the near future. The objectives of any project on this topic would IASB will Chapter 7 - Rev enue Recogni tion, I ncluding uction Contr actprovide s upon which an entity should consolidate its Constr investments, and to more rigorous guidance on the conce Chapter anticipated 8 - that Property an amendment , Plant , and to, Equipment or supplement of, IAS 27 will be the outcome of this undertaking. Chapter 9

- I ntangi ble Asset s

It is interesting to note that in the US, the FASB has also undertaken a project to address accounting for SPE I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 that suggests new I nvestmrequirements ent Pr oper ty will conform more closely to SIC 12 than existing standards have done. This approach to this difficult area may have been more than were FASB's efforts in the past. It also Chapter 11 - Business Combinations and Consolidat ed well-advised Fin ancial Statements base future requirements for consolidated financial reporting more Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev entsdefinitively after t he on the concept of "control," ver Chapter 12 which heretofore hasSheet beenDate favored due to its being objectively assessable. Given the complex structures tha Balance (some of as inI nstr the uments—Longcase of Enron,Ter have been done so deliberately to perpetrate frauds), it is clear that Chapter 13which, - Financial m Debt may, in14 some circumstances, be clearly insufficient to accomplish "substance over form" financial reporting. T Chapter - Leases "primary criterion under US GAAP would largely mirror the "beneficial interest" test under SIC 12 Chapter 15beneficiary" - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s

Having stated a need for more universal consolidation of SPE is not, however, to deny that SPE may have m

Chapter 17 uses, - Stockespecially holder s' Equit y legitimate to achieve isolation of assets (as in securitization trusts) that is necessary to facili Chapter - Earnings Per transactions. Share capital 18 raising and other However, the legal isolation of assets can be accomplished even if for Chapter 19 (with, - I nterim Financial Repor ting purposes of course, adequate informative disclosures) full consolidation is also prescribed. Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

Accounting for Leveraged Buyouts

Chapter 22 - For eign Curr ency

Chapter 23one - RelatedPart y complex Disclosures Possibly of the most accounting issues to have arisen over the past decade has been the appro Chapter 24 -buyouts Specialized I ndustr iescenter of this issue is the question of whether a new basis of accountability leveraged (LBO). At the Chapter 25 - I nflation and LBO transaction. If so, a Hyperinflation step-up in the reported value of assets and/or liabilities is warranted. If not, the carr Chapter predecessor 26 - Gov entity er nm should ent Grcontinue an ts to be reported in the company's financial statements. Appendix A - Di sclosure Checklist

International accounting standards do not address this issue directly. However, guidance can be obtained fro the standard setters in the United States, which have dealt with this question. Although this guidance is not d

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

I ndex The conclusion was that partial or complete new basis accounting is appropriate only when the transaction is List of Tables in control of voting interest. A series of mechanical tests were developed by which this change in interest is t List of Ex hibits and Ex am ples FASB's Emerging Issues Task Force (EITF) identified three groups of interests: shareholders in the newly cr List of Sidebar s and shareholders in the old company (who may or may not also have an interest in the new co management,

relative interests of these groups in the old entity (OLDCO) and in the new enterprise (NEWCO), there will be transaction was a purchase (new basis accounting applies) or (2) that it was a recapitalization or a restructur accounting applies). Among the tests decreed to determine proper accounting for any given LBO transaction is the monetary tes least 80% of the net consideration paid to acquire OLDCO interests must be monetary. In this context, mone the fair value of any equity securities given by NEWCO to selling shareholders of OLDCO. Loan proceeds pr in the acquisition of NEWCO shares by NEWCO shareholders are excluded from this definition. If the portion

effected through monetary consideration is less than 80%, but other criteria are satisfied, there will be a step limited to the percentage of the transaction represented by monetary consideration. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

US GAAP guidance also presents an extensive series of examples illustrating the circumstances that would I n t er n at ion al Accou n t in g St an d ar ds purchase accounting criteria to be employed in LBO. These examples should be consulted as needed when ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali transaction accounting Mir za issue. John Wi ley & Sons © 2003 (952 pages)

Spin-Offs

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for in theofprepar at ionorand underowned standing of financial Occasionally, an assistance entity disposes a wholly partially subsidiary or of an investee by transferring it u statements present ed in accordance with I AS.

shareholders. The proper accounting for such a transaction, generally known as a spin-off, depends on the p that T ab le is of owned. Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing If the ownership percentage is relatively minor, 25% for example, the transfer to stockholders would be viewe Standar ds

and would be accounted for at the fair value of the property (i.e., shares in the investee) transferred. Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds However, when the entity whose shares are distributed is majority or wholly owned, the effect is not merely to

Chapter 2 - Balance Sheet the operations from the former parent and to vest them with the parent's sharehold investment, but to remove I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent true spin-off Chapter 3 - transaction, not merely a property dividend. Although international accounting standards have n of Recognized Gains and Losses

a point of reference, US GAAP requires that spin-offs and similar nonreciprocal transfers to owners be accou - Cash Flow St at em ent book values of the assets and liabilities transferred.

Chapter 4 Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6 - I nventor If the operations (or ysubsidiary) being spun off are distributed during a fiscal period, it may be necessary to e

operations the elapsed period to spin-off ascertain thes net book value as of the date of the transfe Chapter 7 - for Rev enue Recogni tion, Iprior ncluding Constr to uction Contr act operating of the subsidiary to be disposed of should be included in the reported results of the parent t Chapter 8 results - Property , Plant , and Equipment the spin-off. Chapter 9 - I ntangi ble Asset s I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter In most10 instances, I nvestmthe entsubsidiary Pr oper ty being spun off will have a positive net book value. This net worth represent

nonreciprocal transfer to the owners, and like a dividend, will be reflected as a charge against the parent's re of spin-off. In other situations, the operations (or subsidiary) will have a net deficit (negative net book value). Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 a - credit to the parent's retained earnings for other than a culmination of an earnings process, the s recognize Balance Sheet Date as a credit the parent's paid-in capital.Ter In m effect, Chapter 13 -to Financial I nstr uments—LongDebt the stockholders (the recipients of the spun-off subsidiary) contribution to the parent company by accepting the operations having a negative book value. As with other Chapter 14 - Leases would not be presented in the income statement, only in the statement of changes in stockholders' equity (an Chapter 15 - I ncom e Taxes flows). Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y

Push-Down Accounting

Chapter 18 - Earnings Per Share

Chapter 19 - I nterim Financial Repor ting

Push-down accounting is an unresolved issue in accounting for an entity that has had a substantial change in outstanding voting shares. This technique reflects the revaluation of the assets and/or liabilities of the acquir Chapter 21 - Accounting Changes and Cor rection of Er ror s based on the price paid for some or all of its shares by the acquirer. Push-down accounting has no impact on Chapter 22 - For eign Curr ency consolidated financial statements or on the separate financial statements of the parent (investor) company. T Chapter 23 -on RelatedPartpaid y Disclosures are based the price for the acquisition, not on the acquired entity's book value. However, the use of t Chapter 24 Specialized I ies separate financial statements of the acquired entity are presented. represents a departure inndustr the way Chapter 20 - Segm ent Repor ting

Chapter 25 - I nflation and Hyperinflation

Advocates push-down accounting point out that in a purchase business combination, a new basis of accou Chapter 26 - of Gov er nm ent Gr an ts believe that the new basis should be pushed down to the acquired entity and should be used when presentin Appendix A - Di sclosure Checklist statements. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

While the push-down treatment has been used by a number of entities whose shares have been purchased b push-down accounting remains controversial and without clear authoritative guidance. Although push-down m List of Tables case where a major block of the investee's shares is acquired in a single free-market transaction, a series of List of Ex continual hibits and adjustment Ex am ples of the investee's carrying values for assets and liabilities. Furthermore, the price require List of Sidebar sof an investee may not always be meaningfully extrapolated to a value for the investee compan of ownership I ndex

Non-Sub Subsidiaries An issue that has recently concerned accountants is the sudden popularity of what have been called non-su situation arises when an entity plays a major role in the creation and financing of what is often a start-up or e does not take an equity position at the outset. For example, the parent might finance the entity by means of c warrants for the later purchase of common shares. The original equity partner in such arrangements most oft

managerial talent that generally exchanges its talents for a stock interest. If the operation prospers, the paren majority voting stock position; if it fails, the parent presumably avoids reflecting the losses in its statements. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Although this strategy may seem to avoid the requirements of equity accounting or consolidation, the econom I n t er n at ion al Accou n t in g St an d ar ds suggests that the operating results of the subsidiary should be ISBN:0471227366 reflected in the financial statements of the rea by Bar r y J. Epstein and Abbas Ali ownership. Until formal Mir za requirements are established in this area, an approach akin to the preparation of com seem reasonable.John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence esent s account ants with a guide to depend on for Disclosurepr Requirements assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Business combinations. T ab le of Con t en t s

For all business combinations, theApplication following disclosures are required in the financial statements for the year i Wiley I AS 20 03—Int er pretation and of I nternational Account ing occurs:ds Standar Preface 1. The name and descriptions of combining enterprises Chapter 1 - I ntr oduction to I nter national Accounting Standar ds

2. The of accounting for the combinations Chapter 2 - methods Balance Sheet I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - effective date of the combinations, for accounting purposes 3. The of Recognized Gains and Losses Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

4. The identity of any operations resulting from the combination that are intended for disposition

Chapter 6 - I nventor y For business combinations accounted for as acquisitions, the following disclosures are required: Chapter 7 Rev enue Recogni tion,interests I ncludingacquired Constr uction Contr act s 1. The percentage of voting Chapter 8

- Property , Plant , and Equipment 2. The of the acquisitions, and a description of consideration paid or contingently payable Chapter 9 - cost I ntangi ble Asset s I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - nature and amount of provisions for any restructuring or plant closure expenses arising as a resu 3. The I nvestm ent Pr oper ty

as Combinations of the date ofand the Consolidat acquisitions Chapter recognized 11 - Business ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - the financial statements should disclose the following: Furthermore, Balance Sheet Date

1. The treatment for goodwill Chapter 13 - accounting Financial I nstr uments—LongTer m and Debtnegative goodwill, including amortization periods Chapter 14 - Leases

2. Justification for amortization periods greater than twenty years, if applicable

Chapter 15 - I ncom e Taxes

Chapter 16 - Em ploy of eeand Benefit s 3. Description justification for amortization of goodwill or negative goodwill by other than the straig Chapter 17 - Stock holder s' Equit y

4. A respect to both goodwill and negative goodwill, at the beginning and the end of t Chapter 18reconciliation, - Earnings Perwith Share Chapter 19 a. - I nterim Financial Repor tingaccumulated amortization at the beginning of the period The gross amount and Chapter 20 - Segm ent Repor ting

Any additional goodwill or rection negative Chapter 21 b. - Accounting Changes and Cor of goodwill Er ror s recorded during the period Chapter 22 - For eign Curr ency

c. Amortization recorded during the period

Chapter 23 - Related- Part y Disclosures Chapter 24 d. - Specialized Any adjustments I ndustr ies resulting from the subsequent identification or changes in value of assets and Chapter 25 - I nflation and Hyperinflation

e. Any other write-offs during the period

Chapter 26 - Gov er nm ent Gr an ts

Appendix A -f.Di The sclosure Checklist gross amount and accumulated amortization at year-end Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

If the allocation the purchase price to assets liabilities is only made on a provisional basis, this fact mu Appendix C - Comof parison of I AS, US GAAP, and UKand GAAP reasons therefor noted. When these matters are later resolved, this should also be disclosed. I ndex List of Tables

For business combinations that are unitings of interests, the following disclosures are required in the period i

List of Ex hibits and Ex am ples

1. Sidebar A description of the shares issued, together with the percentages of each combining entity's voting sh List of s the uniting of interests

2. The amounts of assets and liabilities contributed by each constituent enterprise 3. Sales revenue, other operating revenues, extraordinary items, and net profit or loss of each enterprise combination, which are included in the combined financial statements If a business combination is effected after the balance sheet date, the foregoing disclosures should be made transaction should not be accounted for as if it had occurred prior to year-end.

Consolidated financial statements. W ilefor y Iconsolidated AS 2 0 03 : I nfinancial t erp re t atreporting, ion an d Ap io n countries of IAS 27 requires that thep licat names, of incorporation or residence, I n t er n at ion al Accou n t in g St an d ar ds interests, and if different, voting interests held be disclosed for all significant subsidiaries. by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za If any subsidiary is not included in the consolidated financial statements, the reasons must be set forth. If an John Wi ley & Sons © 2003 (952 pages) does not have majority voting control is included in the consolidated financial statements, the reasons for this This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with guide the to depend If a subsidiary was acquired or disposed of aduring period, on thefor effect of the event on the consolidated fina assistance in the prepar at ion and under standing of financial discussed. If parent-only financial statements are being presented (which is permitted, but not as a substitute statements present ed in accordance with I AS. reporting), the method of accounting for interests in subsidiaries should be stated. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Chapter 12: Current Liabilities, Provisions, I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Contingencies, and Events afterISBN:0471227366 the Balance Sheet Mir za John Wi ley & Sons © 2003 (952 pages) Date This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for in the prepar at ion and under standing of financial Perspectiveassistance and Issues statements present ed in accordance with I AS.

Although IAS T ab le of Con t endoes t s not require that it be done, the segregation of assets and of liabilities into current

and noncurrent components assist in theof analysis of financial position, by permitting the Wiley I AS 20 03—Int er pretationdoes and Application I nternational Account ing determination of net working capital and of the ratio of current assets to current liabilities. Net working Standar ds capital, which is the relatively liquid portion of total enterprise capital, can be used to assess the ability Preface of an enterprise to repayto itsI nter obligations they come due. This Chapter 1 - I ntr oduction national as Accounting Standar ds assumes that the entity is a going concern; insteadSheet is to be liquidated in the near future, classification of assets and liabilities is Chapter 2 if -itBalance inappropriateI ncom and emeaningless. Statement, Stat em ent of Chan ges in Equit y, and Statem ent -

Chapter 3

of Recognized Gains and Losses

Current liabilities are those obligations of the reporting entity whose liquidation is reasonably expected - Cash Flow St at em ent to require either the use of existing resources properly classified as current assets or the creation of Chapter 5 - Financial I nstr uments—Cash and Receiv ables other current liabilities. Accordingly, any currently maturing obligations that will be satisfied by the use Chapter 6 - I nventor y of noncurrent assets, and any currently maturing obligations expected to be refinanced, are not Chapter - Rev enue to Recogni tion, Iliabilities. ncluding Constr uction Contr act s properly7 considered be current Chapter 4

Chapter 8

- Property , Plant , and Equipment For balance purposes, the offsetting of assets and liabilities is improper unless an Chapter 9 - Isheet ntangi presentation ble Asset s

actual right of setoff exists. A right of setoff debtor's to es, discharge debt owed to another I nterests in Financial Instr um ent is s, a Associat es,legal Jointright Ventur and I nvestm ent Prthe operdebt ty an amount the other party owes to the debtor. party by applying against

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Contingent assets liabilities are those ultimate and outcome willafter be determined by future events. Curr entorLiabilit ies, Prov isions, whose Cont ingencies, Ev ents t he Chapter 12 The accounting for contingencies is set forth in IAS 37, which addresses provisions, contingent Balance Sheet Date liabilities, contingent This superseded Chapter 13 and - Financial I nstrassets. uments—LongTer m Debt the requirements that had been incorporated in the former 14 IAS- 10 in 1999. A revised IAS 10, also issued in 1999, now addresses only the accounting for Chapter Leases the disclosure of "events Chapter 15 - I ncom e Taxesafter the balance sheet date." Chapter 16 - Em ploy ee Benefit s

Compared to its predecessor, IAS 37 has created a more complex typology of provisions and

Chapter 17 - Stock holder s' Equit y contingencies. Under this standard, the term "provisions" largely replaces "contingent liabilities" for Chapter 18 - Earnings Per Share those meeting the threshold test for recognition that occurs when the likelihood of occurrence is Chapter 19 - Provisions I nterim Financial Repor ting (i.e., their existence is not contingent on future events) but "probable." are real liabilities Chapter 20 - Segm ent Repor tingare uncertain which heretofore had been referred to most commonly as have amounts or timings that Chapter 21 liabilities. - Accounting and Cor of Er ror s liability" for those potential obligations that estimated IASChanges 37 reserves therection term "contingent Chapter areunrecognized—although 22 - For eign Curr ency those that meet a lower threshold (i.e., involving a more than remote

possibility an outflow resources) must be disclosed. IAS 37 offers detailed practical guidance Chapter 23 of - RelatedPart of y Disclosures regarding typesI of provisions, most importantly those arising in connection with restructurings. Chapter 24 several - Specialized ndustr ies Chapter 25 - I nflation and Hyperinflation

IAS 37 also addresses the matter of contingent assets (which are presented in this chapter to unify the discussion of contingencies in a single location) which are to be disclosed where an inflow of Appendix A - Di sclosure Checklist economic benefits is deemed to be probable. However, when the realization of income is virtually Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS certain, then the related asset is not considered to be a contingent asset, and full recognition is Appendix C - Com parison of I AS, US GAAP, and UK GAAP appropriate. Chapter 26 - Gov er nm ent Gr an ts

I ndex

IASof10 prescribes rules for accounting and disclosure of events, both favorable and unfavorable, which List Tables occur between theExbalance List of Ex hibits and am ples sheet date and the date when the financial statements are authorized for issue. Such post-balance-sheet date events require either formal recognition or only disclosure, List of Sidebar s depending on the character and timing of the event in question, which are referred to as "adjusting" and "nonadjusting," respectively. In practice, there may be some ambiguity as to when the financial statements are actually "authorized for issuance." For this reason, the revised standard recognizes that the process involved in authorizing the financial statements for issue will vary and may be dependent upon the reporting entity's management structure, statutory requirements, and the procedures prescribed for the preparing and finalizing of the financial statements. Thus, IAS 37 illustrates in detail the principles governing the

determination of the financial statements' authorization date, which date is required to be disclosed. It is anticipated that IAS 10 will be amended to clarify that an entity should not recognize a liability for W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f dividends declared after the balance sheet date because it is not a present obligation at balance sheet I n t er n at ion al Accou n t in g St an d ar ds date as described in IAS 37. Also, the definitions of contingent ISBN:0471227366 asset and contingent liability currently by Bar r y J. Epstein and Abbas Ali found in IAS 37 will be revised, as a consequential change necessitated by the IASB's Mir probably za business combinations projects, primarily to converge with the US GAAP definitions. The changes will John Wi ley & Sons © 2003 (952 pages) not have any substantive impact on the recognition or measurement of contingent assets or contingent This com pact and t ruly com pr ehensive qui ck - refer ence liabilities. pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with AS. Sources ofI IAS T ab le of Con t en t s

IAS 1, 10, 37, 39

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

ile yTerms I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f DefinitionsWof I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za Adjusting events after the balance sheet date

John Wi ley & Sons © 2003 (952 pages)

Those post-balance-sheet events that provide evidence of conditions that existed at This com pact and t ruly com pr ehensive qui ck - refer ence theprbalance sheet date and require the financial esent s account ants with a guide that to depend on for statements be adjusted. assistance in the prepar at ion and under standing of financial

Authorization statements date present ed in accordance with I AS. The date when the financial statements would be considered legally authorized for T ab le of Con t en t s issue. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Constructive obligation

Preface

An obligation resulting from an enterprise's actions such that the enterprise

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- BalanceBy Sheet an established pattern of past practice, published policies or a sufficiently I ncom e specific Statement, Stat statement, em ent of Chan in Equitto y, third and Statem current hasges indicated partiesent that it will accept certain of Recognized Gains and Losses

Chapter 3

responsibilities; and

Chapter 4

- Cash Flow St at em ent

Chapter 5 Chapter 6

- FinancialAsI nstr uments—Cash and aReceiv a result, has created valid ables expectation in the minds of third parties that it will - I nventordischarge y those responsibilities.

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 9

A possible asset that arises from past events and whose existence will be confirmed - I ntangi ble Asset s

Contingent asset, Plant , and Equipment Chapter 8 - Property Chapter 10 -

only byinthe occurrence or ent nonoccurrence oneVentur or more future events not I nterests Financial Instr um s, Associat es,of Joint es, uncertain and I nvestm wholly ent within Pr oper the ty control of the reporting enterprise.

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Contingent liability Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date An obligation that is either

Chapter 12 -

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases A possible obligation arising from past events, the outcome of which will be

only on the occurrence or nonoccurrence of one or more uncertain Chapter 15 - I ncom e confirmed Taxes

future events which are not wholly within the control of the reporting enterprise; or

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equitobligation y A present arising from past events which is not recognized either Chapter 18 - Earnings Per Share because it is not probable that an outflow of resources will be required to settle an Chapter 19 - I nterim obligation, Financial Repor ting the amount of the obligation cannot be measured with or where Chapter 20 - Segm ent Repor ting sufficient reliability. Chapter 21 - Accounting Changes and Cor rection of Er ror s

Current Chapter 22 - liabilities For eign Curr ency Chapter 23 - RelatedEnterprise Part y Disclosures obligations whose liquidation is reasonably expected to require the use of

existing resources Chapter 24 - Specialized I ndustr ies properly classified as current assets or the creation of other current liabilities. that are due on demand or will be due on demand within one Chapter 25 - I nflation and Obligations Hyperinflation theGroperating cycle, if longer, are current liabilities. Chapter 26 - Govyear er nmor ent an ts Appendix A - Di sclosure Checklist

Estimated liability

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

An obligation thatUSis GAAP, knownand to exist, although the obligee may not be known, and the Appendix C - Com parison of I AS, UK GAAP I ndex

amount and timing of payment is subject to uncertainty. Now referred to as provisions.

List of Tables

Events after the balance sheet date

List of Ex hibits and Ex am ples List of Sidebar s

Events that occur after an enterprise's accounting year-end (also referred to as the balance sheet date) and the date they are authorized for issue that would necessitate either adjusting the financial statements or disclosure. The concept is comprehensive enough to cover both favorable and unfavorable post-balance-sheet date events.

Guarantee A commitment to honor an obligation of another party in the event certain defined conditions are not met.

Indirect guarantee of indebtedness of others A guarantee under an agreement that obligates one enterprise to transfer funds to a second thereoccurrence specified events under conditions whereby W ile yenterprise I AS 2 0 03 upon : I n t erp t at ion an dofAp p licat io n of t erfunds n at ionare al Accou t in g St anto d ar dscreditors of the second enterprise, and (2) (1)I nthe legallynavailable the ISBN:0471227366 by Bar r y J. Epstein and Abbas those creditors may enforce theAli second enterprise's claims against the first Mir za enterprise. John Wi ley & Sons © 2003 (952 pages)

Legal obligation This com pact and t ruly com pr ehensive qui ck - refer ence esent s account ants with a guide to depend on for Anprobligation that derives from the explicit or implicit terms of a contract, or from assistance in the prepar at ion and under standing of financial legislation or other operation of law. with I AS. statements present ed in accordance T ab le Liability of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational A present obligation of the reporting enterpriseAccount arisinging from past events, the Standar ds

settlement of which is expected to result in an outflow from the enterprise of resources embodying economic benefits.

Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter Nonadjusting 2 - Balance events Sheetafter the balance sheet date I ncom e Statement, Stat em ent events of Chanthat ges are in Equit y, and of Statem ent Those post-balance-sheet indicative conditions that arose after the of Recognized Gains and Losses

Chapter 3

-

Chapter 4

- Cash Flow St at em ent statements. Instead, if significant, these would require disclosure. - Financial I nstr uments—Cash and Receiv ables

balance sheet date and which thus would not necessitate adjusting financial

Chapter 5

Chapter Obligating 6 - I nventor event y Chapter 7 Chapter 8

- RevAn enue Recogni I ncluding uction Contr act s event that tion, creates a legalConstr or constructive obligation that results in an enterprise - Property , Plant , and Equipment having no realistic alternative but to settle that obligation.

Chapter 9

- I ntangi ble Asset s

Onerous Icontract nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty A contract in which the unavoidable costs of meeting the obligations under the Chapter 11 - Business Combinations Consolidat ed Finexpected ancial Statements contract exceed the and economic benefits to be received therefrom. Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

OperatingBalance cycle Sheet Date

Chapter 13 - Financial I nstr uments—LongTernecessary m Debt The average length of time for an enterprise to convert inventory to Chapter 14 - Leases receivables to cash. Chapter 15 - I ncom e Taxes

Possible loss Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y based on the occurrence of a future event or events whose A contingent loss Chapter 18 - Earnings Per Share likelihood of occurring is more than remote but less than likely. Chapter 19 - I nterim Financial Repor ting

Probable loss ent Repor ting Chapter 20 - Segm A contingent lossand based the occurrence of a future event or events that are likely Chapter 21 - Accounting Changes Cor on rection of Er ror s occur. Chapter 22 - For to eign Curr ency Chapter 23 - Related- Part y Disclosures

Provision

Chapter 24 - Specialized I ndustr ies

Liabilities uncertain timing or amount. Chapter 25 - I nflation and having Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Remote loss

Appendix A - Di sclosure Checklist

A contingent loss based on the occurrence of a future event or events whose likelihood of occurring is slight.

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex Restructuring List of Tables

A program that is planned and controlled by management and which materially changes either the scope of business undertaken by the enterprise or the manner in List of Sidebar s which it is conducted. List of Ex hibits and Ex am ples

W ile y I AS and 2 0 03 : Examples I n t erp re t at ion an d Ap p licat io n o f Concepts, Rules, I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

Current Liabilities Mir za

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages)

ClassificationThis ofcom balance pact andsheets. t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

Although balanceassistance sheets most often will at present assets andofliabilities in the prepar ion andboth under standing financialclassified into current and statements ed in accordance I AS. noncurrent categories, there present is no requirement underwith international accounting standards, nor indeed under national standards in various countries, that this be done. The salient international standard, IAS T ab le of Con t en t s 1, notes that "when an enterprise supplies goods or services within a clearly identifiable operating Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing cycle, ds separate classification of current and noncurrent assets and liabilities on the face of the balance Standar sheet provides useful information by distinguishing the net assets that are continuously circulating as Preface working capital from those used in the enterprise's long-term operations. It also highlights assets that Chapter 1 - I ntr oduction to I nter national Accounting Standar ds are expected to be realized within the current operating cycle, and liabilities that are due for settlement Chapter 2 - Balance Sheet within the same period." Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

IAS 1 continues the former IAS 13's optional use of balance sheet classification into current and Chapter 4 - Cash Flow St at em ent noncurrent, while clearly supporting such a presentation scheme. In practice, most manufacturing and Chapter 5 - enterprises Financial I nstr and Receiv ables distributing douments—Cash present classified balance sheets, while financial institutions and certain Chapter 6 I nventor y other businesses engaging in long-term projects, such as construction companies, typically do not. Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s The presentation of a classified balance sheet reveals important information about liquidity, or the debtChapter 8 - Property , Plant , and Equipment

paying 9ability of theble enterprise. Chapter - I ntangi Asset s IAS 1 places substantial weight on this goal, as revealed by the requirementI itnterests imposes entitiesInstr thatum choose not to present sheets. Those in on Financial ent s, Associat es, Jointclassified Ventur es,balance and enterprises must listent assets and I nvestm Pr oper ty liabilities "broadly in order of their liquidity." Furthermore, the standard requires11that there must be disclosure assets expected to be recovered, and liabilities expected to be Chapter - Business Combinations and of Consolidat ed Fin ancial Statements liquidated, more than twelve months after the date of the balance sheet. Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after This t he does not necessarily Chapter 12 Date require that Balance these beSheet placed in separate captions in the balance sheet, per se, although that can be done; rather, footnoteI nstr disclosures can beTer used to accomplish this objective. Chapter 13 - Financial uments—Longm Debt Chapter 10 -

Chapter 14 - Leases

IAS I also makes explicit reference to the requirements imposed by IAS 32 concerning financial assets and liabilities. Since such common balance sheet items as trade and other receivables and payables Chapter 16 - Em ploy ee Benefit s are within the definition of financial instruments, information about maturity dates is already required Chapter 17 - Stock holder s' Equit y under IAS. While most trade payables and accrued liabilities will be due within thirty to ninety days, and Chapter 18 - Earnings Per Share thus are understood by all financial statement readers to be current, this requirement would necessitate Chapter 19 disclosure, - I nterim Financial Repor additional either on the ting face of the balance sheet or in the footnotes thereto, when this Chapter 20 - Segm Repor ting assumption is notent warranted. Chapter 15 - I ncom e Taxes

Chapter 21 - Accounting Changes and Cor rection of Er ror s

The other presenting a classified balance sheet is to highlight those assets and obligations Chapter 22 purpose - For eign of Curr ency that are23"continuously circulating" in the phraseology of IAS 1. That is, the goal is to identify specifically Chapter - Related- Part y Disclosures resources commitments that Chapter 24 -and Specialized I ndustr ies are consumed or settled in the normal course of operating the

business. businesses, such as certain construction enterprises, the normal operating Chapter 25 In - I some nflationtypes and of Hyperinflation cycle may exceed one year. Thus, some assets or liabilities might fail to be incorporated into a definition based on the first goal of reporting, providing insight into liquidity, but be included in one that Appendix A - Di sclosure Checklist meets the second goal. Chapter 26 - Gov er nm ent Gr an ts

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Appendix C - Com parison of I AS, US GAAP, sheet and UK As a compromise, if a classified balance is GAAP indeed being presented, the convention for financial I ndex reporting purposes is to consider assets and liabilities current if they will be realized and liquidated List of Tables within one year or one operating cycle, whichever is longer. Since this may vary in practice from one List reporting of Ex hibits entity and to Ex another, am pleshowever, it is important for users to read the accounting policies set forth in

notes to the financial statements. The classification criterion should be set forth there, particularly if it is List of Sidebar s other than the rule most commonly employed: one-year threshold.

Nature of current liabilities. Current liabilities are generally perceived to be those that are due within a brief time span. Convention is to use one year from the balance sheet date as the threshold for categorization as current, although for enterprises that have operating cycles longer than one year (e.g., certain types of construction projects), the longer period is often advocated as a more meaningful demarcation line. IAS 1 states that

liabilities are to be considered current when they are expected to he settled in the normal course of the entity's operating cycle or are due to be settled within twelve months from the balance sheet date, whichever is longer. Examples of :liabilities which are expected to obe W ile y I AS 2 0 03 I n t erp re t at ion annot d Ap p licat io n f settled in the normal course of the operating cycle but which, if due within twelve months would be deemed current, are current I n t er n at ion al Accou n t in g St an d ar ds portions of long-term debt and bank overdrafts, dividends declared and payable, and various nontrade ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali payables. Mir za John Wi ley & Sons © 2003 (952 pages)

Current liabilities This would almost always include not only obligations that are due on demand (typically com pact and t ruly com pr ehensive qui ck - refer ence including bank lines of credit, other demand overdue obligations for which pr esent s account ants with a notes guide payable, to dependand on certain for forbearance has been granted on prepar a day-to-day basis), also the assistance in the at ion and underbut standing of currently financial scheduled payments on statements ed in accordance withincluded I AS. longer-term obligations, suchpresent as installment notes. Also in this group would be trade credit and accrued expenses, and deferred revenues and advances from customers for which services are to be T ab le of Con t en t s provided or product delivered within one year. If certain conditions are met (described below), shortWiley I AS 20 03—Int er pretation and Application of I nternational Account ing term obligations that are intended to be refinanced may be excluded from current liabilities. Standar ds Preface

Like all liabilities, current liabilities may be known with certainty as to amount, due date, and payee, or - I ntr oduction to I nter national Accounting Standar ds one or more of these elements may be unknown or subject to estimation. Under the principles of Chapter 2 - Balance however, Sheet accrual accounting, the lack of specific information on, say, the amount owed, will not serve I ncomto e Statement, Stat em on entsuch of Chan ges in Equit y, formerly and Statem ent to justify a failure record and report obligations. The common term "estimated Chapter 3 of Recognized Gains and Losses liabilities" has been superseded per IAS 37 by the term "provisions." Provisions and contingent Chapter 4 - Cash Flow St at em ent liabilities are discussed in detail later in this chapter. Chapter 1

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6 - I nventor y Offsetting current Chapter 7

assets against related current liabilities.

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

IAS 1 provides that current not be reduced by the deduction of a current asset (or vice versa) Chapter 8 - Property , Plant , liabilities and Equipment unless 9required or permitted Chapter - I ntangi ble Asset s by another IAS. In practice, there are few circumstances that would meet this requirement; certain financialInstr institution transactions mostes, commonly encountered I nterests in Financial um ent s, Associat es, are Jointthe Ventur and exceptions. I nvestm ent Pr oper ty

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Types of Curr liabilities. ent Liabilit ies,

Chapter 12 -

Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Current13 obligations beuments—Longdivided into those Chapter - Financialcan I nstr Ter m where Debt 1. Both the amount and the payee are known; Chapter 14 - Leases Chapter 15 - I ncom e Taxes

2. The payee is known but the amount may have to be estimated;

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - payee Stock holder s' Equitand y 3. The is unknown the amount may have to be estimated; and Chapter 18 - Earnings Per Share

4. The been incurred Chapter 19 - liability I nterimhas Financial Repor tingdue to a loss contingency. Chapter 20 - Segm ent Repor ting

These types of liabilities are discussed in the following sections.

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Amount and Payee Known

Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies

Accounts payable arise primarily from the acquisition of materials and supplies to be used in the production of goods or in conjunction with providing services. Payables that arise from transactions with Chapter 26 - Gov er nm ent Gr an ts suppliers in the normal course of business, which customarily are due in no more than one year, may Appendix A - Di sclosure Checklist be stated at their face amount rather than at the present value of the required future cash flows. Chapter 25 - I nflation and Hyperinflation

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix Notes payable C - Comare parison moreofformalized I AS, US GAAP, obligations and UKthat GAAP may arise from the acquisition of materials and

supplies used in operations or from the use of short-term credit to purchase capital assets. Although I ndex international List of Tables accounting standards do not explicitly address the matter, it is widely agreed that monetary obligations, List of Ex hibits and Ex amother ples than those due currently, should be presented at the present value of the amount owed, List of Sidebar s thus giving explicit recognition to the time value of money. However, most would agree

that this exercise would not be needed to present current obligations fairly. (Of course, if the obligations are interest-bearing at a reasonable rate determined at inception, this is not an issue.)

Dividends payable become a liability of the enterprise when the board of directors declares a cash dividend. Since declared dividends are usually paid within a short period of time after the declaration date, they are classified as current liabilities. Unearned revenues or advances result from customer prepayments for either performance of

services or delivery of product. They may be required by the selling enterprise as a condition of the sale or may be made by the buyer as a means of guaranteeing that the seller will perform the desired service or deliverWthe revenues should ileproduct. y I AS 2 0Unearned 03 : I n t erp re t at ion and an d advances Ap p licat io n o f be classified as current liabilities at the balance sheet date if the services are to be performed or the products are to be I n t er n at ion al Accou n t in g St an d ar ds delivered within one year or the operating cycle, whichever is longer. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za

Returnable deposits may received to (952 cover possible future damage to property. Many utility John Wi leybe & Sons © 2003 pages) companies require security deposits. A deposit may be required for the use of a reusable container. This com pact and t ruly com pr ehensive qui ck - refer ence Refundable deposits are classified as current liabilities if the firm expects to refund them during the pr esent s account ants with a guide to depend on for current operatingassistance cycle or within year, whichever is standing longer. of financial in theone prepar at ion and under statements present ed in accordance with I AS.

Accrued liabilities have their origin in the end-of-period adjustment process required by accrual T ab le of Con t en t s accounting. They represent economic obligations, even when the legal or contractual commitment to Wiley I AS not 20 03—Int er pretation and Application of I nternational Account ingif the matching concept is to be pay has yet been triggered, and as such must be given recognition Standar ds adhered to. Commonly accrued liabilities include wages and salaries payable, interest payable, rent Preface payable, and taxes payable. Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter - Balanceresult Sheetfrom the legal obligation of the enterprise to act as the collection agent for Agency2 liabilities employee orI ncom customer taxes owed federal, state, government units. Examples of e Statement, Statto emvarious ent of Chan ges in Equitory,local and Statem ent Chapter 3 of Recognized Gainstaxes, and Losses agency liabilities include sales income taxes withheld from employee paychecks, and employee Chapter 4 - Cash Flow St at emwhere ent social security contributions, mandated by law. In addition to agency liabilities, an employer may Chapter - Financial I nstrfor uments—Cash and taxes. Receiv ables have a 5current obligation unemployment Payroll taxes typically are not legal liabilities until the Chapter associated 6 - payroll I nventor isyactually paid, but in keeping with the concept of accrual accounting, if the payroll

has been associated payroll taxes should as well. Chapter 7 accrued, - Rev enuethe Recogni tion, I ncluding Constr uctionbe Contr act s Chapter 8

- Property , Plant , and Equipment

Current maturing portion of long-term debt is shown as a current liability if the obligation is to be - I ntangi ble Asset s liquidated by using assets classified as current. However, if the currently maturing debt is to be I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 by - using other than current assets (i.e., by using a sinking fund that is properly classified as liquidated I nvestm ent Pr oper ty an investment), these obligations should be classified as long-term liabilities. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 9

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Obligations Chapter 12 - that, by their terms, are due on demand or will be due on demand within one year (or Balance Sheet Date

operating cycle, if longer) from the balance sheet date, even if liquidation is not expected to occur within that period, are classified as current liabilities. Current IAS are not explicit as to how long-term Chapter 14 - Leases obligations having subjective acceleration provisions, or acceleration based on covenant violations, Chapter - I ncom e Taxes should 15 be accounted for. However, it is generally acknowledged (and formally required under some Chapter 16 - Em ploy ee Benefit s the obligation should be classified as a current liability if, as of the national GAAP standards) that Chapter - Stock holder Equit balance17sheet date, ones'of the yfollowing occurs: Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 18 - Earnings Per Share

1. The debtor is in violation of the agreement, which makes the obligation callable; or

Chapter 19 - I nterim Financial Repor ting

Chapter 20 - debtor Segm ent Repor ting of the agreement, and such violation, unless cured within the grace 2. The is in violation Chapter period 21 - Accounting specified Changes in the agreement, and Cor rection makes of the Er ror obligation s callable. Chapter 22 - For eign Curr ency

Note, however, that if circumstances arise that effectively negate the creditor's right to call the obligation, the obligation may be classified as long-term. Examples of such circumstances are

Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies

the right to call the obligation caused by the debtor's violation, or it has 1. The Chapter 25 - creditor I nflationhas andwaived Hyperinflation lost Gr the to demand repayment for more than one year (or operating cycle, if Chapter subsequently 26 - Gov er nm ent anright ts from theChecklist balance sheet date. Appendixlonger) A - Di sclosure

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

2. The obligation contains a grace period for remedying the violation, and it is probable that the

Appendixviolation C - Comwill parison of I AS, US GAAP, and period. UK GAAP be cured within the grace I ndex

In either of these situations, the circumstances must be disclosed in the financial statements in which List of Tables long-term debtand classification List of Ex hibits Ex am ples has been continued notwithstanding the breach condition. List of Sidebar s

The IASB intends to make certain changes to IAS 1 pertaining to debt classification. These will require that, if a loan covenant making a liability payable on demand if certain conditions related to the borrower's financial position are breached, and such breach exists at the balance sheet date, the liability will have to be classified as current, even if the breach is corrected after the balance sheet date. There would be an exception if, prior to the balance sheet date, the lender has granted a grace period in which to correct the breach and, when the financial statements are authorized for issue, either (1) the borrower has corrected the breach or (2) the grace period has not yet expired. In other words, probable correction of the breach condition would not suffice to warrant continued noncurrent

classification under such circumstances. Short-term obligations expected to be refinanced may be classified as noncurrent liabilities if certain W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f conditions are met. If an enterprise intends to refinance the currently maturing portion of long-term debt I n t er n at ion al Accou n t in g St an d ar ds or intends to refinance callable obligations by replacing them with either new long-term debt or with ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali equity securities, Mir IAS za1 must be followed. IAS 1 states that an enterprise should reclassify currently maturing portionsJohn of long-term debt©as2003 long-term, provided that the enterprise intends to refinance the Wi ley & Sons (952 pages) obligation on a long-term basis and its intent is supported by any of the following: This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in than the prepar at ion and under standing of financial 1. Original term greater twelve months. If the debt was originally scheduled for repayment ed in accordance I AS. under IAS 1, be reclassified as within onestatements year, a laterpresent agreement to extend itwith cannot, T ab le of noncurrent, Con t en t s although once it is extended or refinanced, the new or replacement debt will be classified according to its terms, and not be limited by the terms of the predecessor debt. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface 2. The enterprise intends to refinance the debt on a long-term basis. This intention must be Chapter present 1 - I ntras oduction I nter national Accounting ds of the to balance sheet date in orderStandar to be useful in justifying a reclassification of the Chapter debt 2 - to Balance Sheet status. noncurrent Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

3. The refinance is supported by an agreement to refinance, or to reschedule Chapter 4 - intention Cash Flow to St at em ent

payments, which is completed before the financial statements are issued. Absent an actual - Financial I nstr uments—Cash and Receiv ables consummation of this agreement before the statements are issued, there can be no assurance 6 - I nventor y that it will be successfully completed, and it would be foolish to permit reclassifying short-term 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s obligations as being long-term under such a scenario. Given that there is often a lag between 8 - Property , Plant , and Equipment the date of the financial statements and the issuance thereof, an intention that existed as of the 9 - I ntangi ble Asset s former should be consummated with an actual refinancing by the latter date. In some cases, I nterests Financial Instr um ent s, be Associat es, Joint Ventur es, and is put into place, for the release of the in financial statements will delayed until the refinancing 10 I nvestm ent Pr oper ty very reason that there is a strong desire to report the reclassified debt on the balance sheet.

Chapter 5 Chapter Chapter Chapter Chapter Chapter

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Currthat ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents Logic suggests if short-term debt is classified as long-term due after to thet he existence of a post-balanceChapter 12 Balance Sheet sheet date refinancing or aDate lender or investor commitment, the replacement debt should not be callable Chapter - Financial I nstr uments—LongTerthe m Debt unless 13 there is a violation of a provision of agreement with which compliance is objectively Chapter 14 Leases determinable or measurable. As of the balance sheet date, the reporting enterprise should not be in Chapter I ncom e Taxes violation15of- the terms of the agreement. Chapter 16 - Em ploy ee Benefit s

Furthermore, the holder amount currently maturing debt to be reclassified should not exceed the amount Chapter 17 - Stock s' of Equit y

raised by actual refinancing, Chapter 18 the - Earnings Per Share nor can it exceed the amount specified in the refinancing agreement. If the amount specified in the refinancing agreement can fluctuate, the maximum amount of debt that would be reclassified is equal to a reasonable estimate of the minimum amount expected to be Chapter 20 - Segm ent Repor ting available on any date from the maturing date of the maturing obligation to the end of the fiscal year. If Chapter 21 - Accounting Changes and Cor rection of Er ror s no estimate can be made of the minimum amount available under the financing agreement, none of the Chapter 22 - For eign Curr ency maturing debt should be reclassified as long-term. Chapter 19 - I nterim Financial Repor ting

Chapter 23 - Related- Part y Disclosures

Chapter - Specialized I ndustr ies Finally,24 although again not stipulated overtly in IAS 1, a reasonable interpretation would he that if an Chapter enterprise 25 -uses I nflation current andassets Hyperinflation after the balance sheet date to liquidate a current obligation, and

replaces Chapter 26those - Govcurrent er nm entassets Gr an tsby issuing either equity securities or long-term debt before the issuance of the balance sheet, the current obligation must still be classified as a current liability in the balance Appendix A - Di sclosure Checklist sheet. Without such ae provision, it atem couldent bes argued successfully Appendix B - I llustrativ Financial St Pr esent ed Under I AS that many current liabilities in fact are noncurrent, sinceparison these of areI AS, paidUSoffGAAP, and then Appendix C - Com and reinstated UK GAAP on a regular, sometimes monthly, cycle. I ndex

A currently contemplated change to be made to [AS 1 would have it stipulate that a refinancing after the balance sheet date could not be taken into account in classifying liabilities as current or noncurrent. List of would Ex hibits and Ex ammean ples that current classification would be required even where the debt was This seemingly List of Sidebar s over" after the balance sheet date. routinely "rolled List of Tables

Long-term debt subject to demand for repayment. What may be thought of as the polar opposite of short-term debt to be refinanced long-term is the situation in which an enterprise is obligated under a long-term (noncurrent) debt arrangement where the lender has either the right to demand immediate or significantly accelerated repayment, or such acceleration rights vest with the lender upon the occurrence of certain events. For example, long-term (and even many short-term) debt agreements typically contain covenants, which effectively are

restrictions on the borrower as to undertaking further borrowings, paying dividends, maintaining specified levels of working capital, and so forth. If the covenants are breached by the borrower, the lender will have the right to call the: Idebt orreotherwise W ile y I AS 2 0 03 n t erp t at ion anaccelerate d Ap p licatrepayment. io n o f I n t er n at ion al Accou n t in g St an d ar ds

In other cases, the lender will have certain "subjective acceleration clauses" inserted into the loan ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali agreement, givingMir it za the right to demand repayment if it perceives that its risk position has deteriorated as a result of changes in ley the&borrower's business operations, liquidity, or other vaguely defined factors. John Wi Sons © 2003 (952 pages) Obviously, this gives the lender great power and subjects the borrower to the real possibility that the This com pact and t ruly com pr ehensive qui ck - refer ence nominally long-term debt will, in fact, be short-term. pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial

IAS 1 addresses statements the matter of breach covenants, present ed of in loan accordance with but I AS.does not address the less common phenomenon of subjective acceleration clauses in loan agreements. As to the former, it provides that T ab le of Con t en t s continued classification of the debt as noncurrent, when one or more of the stipulated default Wiley I AS 20 03—Int pretation is and Application of I nternational ing First, the lender has agreed, circumstances haseroccurred, contingent upon meeting two Account conditions: Standar ds prior to approval of the financial statements, not to demand payment as a consequence of the breach Preface (this is known as a debt compliance waiver); and second, that it is considered not probable that further Chapter 1 - I ntr oduction to I nter national Accounting Standar ds breaches will occur within twelve months of the balance sheet date. If one or both of these cannot be Chapter - Balance Sheet met, the2 debt must be reclassified to current status if a classified balance sheet is presented. Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

of Recognized Gains and Logic suggests that the existence of Losses subjective acceleration clauses convert nominally long-term debt Chapter 4 - Cash Flow debt. St at em entGAAP, in fact, formally recognizes this reality. The authors therefore into currently payable US Chapter - Financial I nstr uments—Cash and Receiv ables be misleading to categorize debt as suggest5 that in the presence of such provisions, it would Chapter noncurrent, 6 - regardless I nventor y of the actual maturity date, since continued forbearance by the lender would be required, this cannot be tion, controlled by the enterprise reporting Chapter 7 and - Rev enue Recogni I ncluding Constr uction Contr act s the debt. Such debt should be shown as current, sufficient to inform the reader that the debt could effectively be "rolled over" Chapter 8 - with Property , Plantdisclosure , and Equipment until the9 nominal maturity date, Chapter - I ntangi ble Asset s at the sole discretion of the lender. Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Payee Known but Amount May Have to Be Estimated

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Provisions. Chapter 12 Balance Sheet Date Chapter 13 -37, Financial I nstr uments—LongTer m Debt Under IAS Provisions, Contingent Liabilities, and Contingent Assets, those liabilities for which Chapter 14 Leases amount or timing of expenditure is uncertain are deemed to be provisions. While this term has been Chapter 15 - Iinformally ncom e Taxes widely used (sometimes also being applied to contra asset accounts such as accumulated Chapter depreciation 16 - Em or ploy allowance ee Benefit forsuncollectible accounts receivable), it now has been given this precise

definition excludes contra asset accounts). Chapter 17 (which - Stockexplicitly holder s' Equit y Chapter 18 - Earnings Per Share

IAS 37 provides a comprehensive definition of the term "provision." It mandates, in a clear-cut manner, that a provision should be recognized only if

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

Chapter - Accounting and Cor rection of Er s The21enterprise has Changes a present obligation (legal orror constructive) as a result of a past event; Chapter 22 - For eign Curr ency

It is23probable that any outflow of resources embodying economic benefits will be required to settle Chapter - RelatedPart Disclosures the24 obligation; and I ndustr ies Chapter - Specialized Chapter 25 - I nflation and Hyperinflation

A reliable estimate can be made of the amount of the obligation.

Chapter 26 - Gov er nm ent Gr an ts

Appendix A - the Di sclosure Checklist In addition, standard offers in-depth guidance on the topic of provisions. Each of the key words in Appendix the definition B - I llustrativ of the term e Financial "provision" St atem is explained ent s Pr esent in ed detail Under by the I ASstandard. Explanations and

clarifications offered by the standard for above keywords Appendix C - Com parison of I AS, US GAAP, and UK GAAP are summarized below. I ndex

Present obligation. The standard opines that in almost all cases it will be clear that a past event has given rise to a present obligation. However, in exceptional cases, for example: in case of a List of Ex hibits and Ex am ples lawsuit when it is not clear whether a present obligation has arisen, an enterprise should determine List of Sidebar s whether a present obligation exists at the balance sheet date by taking into account all available evidence including, for example, opinion of an expert (legal counsel). List of Tables

Past event. Not all past events lead to a present obligation. Only an "obligating event" which, according to the standard, is an event that leaves the enterprise with no realistic option but to settle the obligation, leads to a present obligation. Thus, past events that are obligating events alone need to be provided for (i.e., recognized as provisions). For example, past events, like unlawful environmental damage by an enterprise, would be considered obligating events that would then

necessitate the recognition of a provision for costs like cleanup costs or penalties and fines. Similarly, recognition of a provision for (future) decommissioning costs (e.g., of an oil installation or a nuclear power to03 the that the enterprise is obliged W ilestation), y I AS 2 0 : I extent n t erp re t at ion an d Ap p licat io n o f to rectify damage already caused, is essential. In contrast, however, when it is deemed possible that an enterprise can avoid I n t er n at ion al Accou n t in g St an d ar ds future expenditure by its future action, no provision is to be recognized for the anticipated future ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali expenditure. Mir za John Wi ley & Sons © 2003 (952 pages)

The concept This of a com pastpact event will be better understood through the following case study. and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with guide to adepend for is located in an industrial area that Vexcel Enterprises Inc. owns andaoperates factoryonthat assistance in the prepar at ion under of financial offers many strategic advantages butand also hasstanding strict rules of compliance (established by the statements present ed in accordance with I AS. local municipality) that all establishments operating therein must follow. To ensure strict compliance with these rules all factories are inspected semiannually. During the initial visit by T ab le of Con t en t s the municipal inspector, which coincided with the closing ofing the accounts for Vexcel's fiscal Wiley I AS 20 03—Int er pretation and Application of I nternational Account Standar ds third quarter, September 30, 2003, the inspector noted certain serious violations and served a Preface notice on the company. This notice gave Vexcel Enterprises two options. It was allowed a sixwindow,tountil March 31, Accounting 2004, during whichdsit could comply fully with the regulations Chapter 1 month - I ntr oduction I nter national Standar thus avoid Chapter 2 and - Balance Sheetany penalties. Alternatively, it could shut down its factory before this six-month period elapsed, in which no Statem penalties I ncom e Statement, Statcase, em entonofgrounds Chan gesofinhardship, Equit y, and ent would be levied, Chapter 3 providing the windup of Recognized Gainsproceedings and Losses were completed by the end of this grace period. Chapter 4 Chapter 5 Chapter 6 Chapter 7 Chapter 8 Chapter 9

- Cash Flow St at em ent

If- itFinancial decidedI to comply with this order of the municipality, Vexcel Enterprises would need to nstr uments—Cash and Receiv ables undertake extensive repairs to its existing factory building; this would require an outlay of $2 - I nventor y million towards repairs and maintenance over the next six months. Full compliance with the - Rev enue Recogni tion, I ncluding Constr uction Contr act s regulations within six months of the order is necessary to avoid the payment of penalties. - Property , Plant , and Equipment Furthermore, if noncompliance beyond the six months is construed as a continuing default, - I ntangi ble Asset s punitive damages might also be levied upon the entity.

Chapter 10 Chapter Chapter Chapter Chapter Chapter Chapter

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

nvestm ent 31, Pr oper ty its fiscal year-end, Vexcel Enterprises is debating whether or not to At IDecember 2003, 11 recognize - Businessthe Combinations Consolidat ed Fin ancial Statements cost of the and future renovation to the factory building as a provision in its balance Curr ent Liabilit ies, Enterprises Prov isions, Cont ingencies, and Ev entsexpenditure after t he sheet. Since Vexcel can still avoid the future by its future actions 12 Balance Sheet Date (e.g., by relocating its factory to another industrial area or by disposing of these operations 13 before - Financial I nstrof uments—Longm Debtit should not recognize at year-end a provision for the end the six-monthTer period), 14 repairs - Leases and maintenance. This anticipated (i.e., future) expenditure for repairs and 15 maintenance - I ncom e Taxes (amounting to $2 million) cannot be recognized as a provision under IAS 37, 16 since - Em ploy ee be Benefit s it can avoided by a future action of the enterprise.

Chapter 17 - Stock holder s' Equit y

Probable outflow resources embodying economic benefits. For a provision to qualify for Chapter 18 - Earnings PerofShare

recognition it is essential that it is not only a present obligation of the reporting enterprise, but also it should be probable that an outflow of resources embodying benefits to settle the obligation will in Chapter 20 - Segm ent Repor ting fact result. For the purposes of this standard, a unique definition of the term "probable" has been Chapter 21 - Accounting Changes and Cor rection of Er ror s propounded: by way of a footnote to IAS 37, Paragraph 23, this definition is made applicable only Chapter 22 - For eign Curr ency to this standard. The footnote states that this interpretation of the term "probable," which for the Chapter 23 - Related- Part y Disclosures purposes of IAS 37 has been defined to mean "more likely than not," does not necessarily apply to Chapter 24 IAS. - Specialized I ndustrthis ies means, that the probability of the event occurring should be greater other Put differently, Chapter 25 I nflation and Hyperinflation than the probability of its nonoccurrence. In contrast, where it is not probable that a present Chapter 26 - Gov er nm ent an ts obligation exists, an Gr enterprise need only disclose (as opposed to recognizing a provision) a Appendix A Di sclosure Checklist contingent liability, unless the possibility is remote. Chapter 19 - I nterim Financial Repor ting

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Reliable estimate TheUK standard Appendix C - Com parison of of the I AS,obligation. US GAAP, and GAAP recognizes that except in extremely rare cases, I ndex an enterprise will usually be able to make an estimate of the obligation that is sufficiently reliable to

use in recognizing a provision. Such an estimate would normally be derived from a range of possible outcomes.

List of Tables

List of Ex hibits and Ex am ples

List of Sidebar Other salientsfeatures of provisions explained by the standard include the following:

1. For all estimated liabilities that are included within the definition of provisions, the amount to be recorded and presented on the balance sheet should be the best estimate as of the balance sheet date of the amount of expenditure that will be required to settle the obligation. This is often referred to as the "expected value" of the obligation, which is operationally defined as the amount the enterprise would pay, currently, to either settle the actual obligation or provide consideration to a third party to assume it. For estimated liabilities comprised of large numbers of relatively small, similar items, weighting by probability of occurrence can be used to compute

the aggregate expected value; this is often used to compute accrued warranty reserves, for example. For those estimated liabilities consisting of only a few (or a single) discrete obligations, the most likely outcome may used measure thep licat liability there is a range of outcomes W ile y I AS 2 0 03 : I be n t erp re tto at ion an d Ap io nwhen of having roughly similar probabilities; but if possible outcomes include amounts much greater (and I n t er n at ion al Accou n t in g St an d ar ds lesser) than the most likely, it may be necessary to accrue a larger amount if there is a ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali za significant Mir chance that the larger obligation will have to be settled, even if that is not the most likely outcome John as Wi ley such. & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence

The concept of "expected cana be besttoexplained a numeric illustration. pr esent s accountvalue" ants with guide depend onthrough for the manufactures prepar at ion and under standing financial under warranty. Customers Goodassistance SamaritaninInc. and sells pinball of machines statements present ed in accordance with I AS. are entitled to refunds if they return defective machines with valid proof of purchase. Good Samaritan Inc. estimates that if all machines sold and still in warranty had major defects, T ab le of Con t en ts total replacement costs would equal $1,000,000; Account if all those Wiley I AS 20 03—Int er pretation and Application of I nternational ing machines suffered from minor Standar ds defects, the total repair costs would be $500,000. Good Samaritan's past experience, Preface however, suggests that only 10% of the machines sold will have major defects, and that 30%towill have minorAccounting defects. Based onds this information, the expected value of the Chapter 1 - Ianother ntr oduction I nter national Standar product Sheet warranty costs to be accrued at year-end would be computed as follows: Chapter 2 - Balance Chapter 3

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent - Expected value of the cost of refunds: of Recognized Gains and Losses

Chapter 4

- Cash Flow St at em ent

Chapter 5

Resulting from major defects: $1,000,000 - Financial I nstr uments—Cash and Receiv ables x 0.10

=

$100,000

Chapter 6

- I nventor y from minor defects: Resulting $ 500,000 x 0.30 - Rev enue Recogni tion, I ncluding Constr uction Contr act s

=

150,000

Chapter 7 Chapter 8

- Property , Plant , and Equipment

$ 0 x 0.60

=

--

Chapter 9

- I ntangi ble Asset s

Total

=

$250,000

No defects:

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - "risks and uncertainties" surrounding events and circumstances should be taken into 2. The I nvestm ent Pr oper ty

in arriving at the best estimate of aedprovision. Chapter account 11 - Business Combinations and Consolidat Fin ancial However, Statementsas pointed out by the standard, uncertainty the creation of excessive Curr entshould Liabilitnot ies, justify Prov isions, Cont ingencies, and Evprovisions ents after or t hea deliberate overstatement of liabilities. Balance Sheet Date

Chapter 12 -

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

3. The standard also addresses the use of present values or discounting (i.e., recording the estimated liability at present value, after taking into account the time value of money). While the Chapter 15 - I ncom e Taxes entire subject of present value measurement in accounting has been widely debated, and in Chapter 16 - Em ploy ee Benefit s practice there is a notable lack of consistency (with some standards requiring it, others Chapter 17 - Stock holder s' Equit y prohibiting it, and many others remaining silent on the issue), IAS 37 has stood fast on the Chapter subject 18 - Earnings Per Share of present value measurement, despite some opposition voiced in response to the Chapter exposure 19 - I nterim Financial Repor ting draft and a plea for more guidance. The standard requires the use of discounting when Chapter the 20 -effect Segmwould ent Repor ting be material. Thus, provisions estimated to be due farther into the future will Chapter have 21 - Accounting and Cor rection of Er ror s currently. more needChanges to be discounted than those due Chapter 14 - Leases

Chapter 22 - For eign Curr ency

clarifies the discount rate applied should be consistent with the estimation of cash Chapter IAS 23 - 37 RelatedPartthat y Disclosures (i.e., if cashI ndustr flows ies are projected in nominal terms) that is, in the amount expected to be Chapter flows 24 - Specialized

paid out, reflecting whatever price inflation occurs between the balance sheet date and the date of ultimate settlement of the estimated obligation, then a nominal discount rate should be used. Chapter 26 - Gov er nm ent Gr an ts If cash flows are projected in real terms, net of any price inflation, then a real interest rate should Appendix A - Di sclosure Checklist be applied. In either case, past experience must be used to ascertain likely timing of future cash Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS flows, since discounting cannot otherwise be performed. Chapter 25 - I nflation and Hyperinflation

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

I ndex4. Future events that may affect the amount required to settle an obligation should he reflected in the provision amount where there is sufficient objective evidence that such future events will in List of Tables

occur. For if an enterprise believes that the cost of cleaning up a site at the end of List of Exfact hibits and Ex amexample, ples its lifeswill be reduced by future changes in technology, the amount recognized as a provision for List of Sidebar cleanup costs should reflect a reasonable estimate of cost reduction resulting from any anticipated technological changes. 5. Gains from expected disposal of assets should not be taken into account in arriving at the amount of the provision (even if the expected disposal is closely linked to the event giving rise to the provision). 6. Reimbursements by other parties should be taken into account when computing the provision,

6. only if it is virtually certain that the reimbursement will be received. The reimbursement should be treated as a separate asset on the balance sheet. However, in the income statement, the provision may of the amount asn ao freimbursement. W ilebe y I presented AS 2 0 03 : Inet n t erp re t at ion anrecognized d Ap p licat io I n t er n at ion al Accou n t in g St an d ar ds

7. Changes in provision should be reviewed at each balance sheet date and adjusted to reflect the ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali current best If upon review it appears that it is no longer probable that an outflow of Mirestimate. za resources John embodying required to settle the obligation, then the provision Wi ley &economics Sons © 2003will (952be pages) should be This reversed. com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

8. Use of provision is toinbethe restricted purpose for which was recognized originally. If an assistance prepar atto ionthe and under standing of itfinancial expenditure is set against a provision that waswith originally statements present ed in accordance I AS. recognized for another purpose, that would camouflage the impact of the two different events.

T ab le of Con t en t s

Wiley9.I AS 20 03—Int pretation and Application of I nternational Account ing Provision forerfuture operating losses should not be recognized. This is explicitly prescribed by Standar ds the standard since future operating losses do not meet the definition of a liability (as defined in Preface the standard) and the general recognition criteria laid down in the standard. Chapter 1 - I ntr oduction to I nter national Accounting Standar ds

10. Present obligations Chapter 2 - Balance Sheet under onerous contracts should be recognized and measured as a provision. standard introduces theChan concept onerous that it defines as contracts I ncomThe e Statement, Stat em ent of ges inofEquit y, andcontracts Statem ent under unavoidable costs of meeting the obligations exceed the economic benefits ofwhich Recognized Gains and Losses the contracts. Executory contracts that are not onerous do not fall within the Chapter expected 4 - Cash under Flow St at em ent of thisI nstr standard. In other and words, such contracts (executory contracts which are not Chapter purview 5 - Financial uments—Cash Receiv ables onerous) need not be recognized as a provision. Chapter 6 - I nventor y Chapter 3

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

The standard mandates that unavoidable costs under a contract represent the "least net costs of - Property , Plant , and Equipment exiting from the contract." Such unavoidable costs should be measured at the lower of

Chapter 8 Chapter 9

- I ntangi ble Asset s

Chapter 10 -

IThe nterests cost in of Financial fulfilling the Instr contract; um ent s, or Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Any compensation or penalties arisingedfrom failureStatements to fulfill the contract. Chapter 11 - Business Combinations and Consolidat Fin ancial Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 11. Provision for restructuring Balance Sheet Date costs is recognized only when the general recognition criteria for

areI met. A constructiveTer obligation Chapter provisions 13 - Financial nstr uments—Longm Debt to restructure arises only when an enterprise has a detailed formal plan for the restructuring which identifies at least: the business or the part of the business concerned, principal locations affected, approximate number of employees that Chapter 15 - I ncom e Taxes would need to be compensated for termination resulting from the restructuring (along with their Chapter 16 - Em ploy ee Benefit s function and location), expenditure that would be required to carry out the restructuring, and Chapter 17 - Stock holder s' Equit y information as to when the plan is to be implemented. Chapter 14 - Leases

Chapter 18 - Earnings Per Share

Chapter Further, 19 - I nterim Financial Repor ting also requires that the enterprise should have raised a valid the recognition criteria in Repor thoseting affected by the restructuring that it will, in fact, carry out the restructuring by Chapter expectation 20 - Segm ent

to implement thatand planCor orrection announcing itss main features to those affected by it. Thus, until Chapter starting 21 - Accounting Changes of Er ror conditions mentioned above are satisfied, a restructuring provision cannot be made Chapter both 22 - the For eign Curr ency upon the of constructive obligation. Chapter based 23 - RelatedPartconcept y Disclosures Chapter 24 - Specialized I ndustr ies

Onlydirect expenditure arising from restructuring should be provided for. Such direct expenditure should be both necessarily incurred for the restructuring and should not be Chapter 26 - Gov er nm ent Gr an ts associated with the ongoing activities of the enterprises. Thus, a provision for restructuring Appendixwould A - Dinot sclosure Checklist include costs like: cost of retraining or relocating the enterprise's current staff Appendixmembers B - I llustrativ e Financial St atemor entinvestments s Pr esent ed in Under AS or costs of marketing newI systems and distribution networks (such Appendixexpenditures C - Com parison of I AS, US GAAP, and UK GAAP are categorically disallowed by the standard as they are considered to be I ndex expenses relating to the future conduct of the business of the enterprise and thus are not List of Tables liabilities relating to the restructuring program). Also, identifiable future operating losses up to List of Exthe hibits and ples date of Ex a am restructuring are not to be included in the provision for a restructuring (unless they relate sto an onerous contract). Furthermore, in keeping with the general measurement principles List of Sidebar relating to provisions outlined in the standard, the specific guidance in IAS 37 relating to restructuring prohibits taking into account any gains on expected disposal of assets in measuring a restructuring provision, even if the sale of the assets is envisaged as part of the restructuring. Chapter 25 - I nflation and Hyperinflation

A management decision or a board resolution to restructure (an enterprise) taken before the balance sheet date does not automatically give rise to a constructive obligation at the balance sheet date unless the enterprise has, before the balance sheet date: either started to implement

the restructuring plan, or announced the main features of the restructuring plan to those affected by it in a sufficiently specific manner such that a valid expectation is raised in them (that the enterpriseW will ilein y Ifact AS carry 2 0 03 :out I n the t erprestructuring). re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Examples of events that may fall under the definition of ISBN:0471227366 restructuring are

by Bar r y J. Epstein and Abbas Ali Mir za A fundamental reorganization of an enterprise that has a material effect on the nature and John Wi ley & Sons © 2003 (952 pages)

focus of the enterprise's operations;

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account with a guide to depend for Drastic changes in theants management structure, foronexample, making all functional units assistance in the prepar at ion and under standing of financial autonomous; statements present ed in accordance with I AS.

Changing the focus of the business to a more strategic location or place by relocating the T ab le of Con t en ts headquarters fromand oneApplication country orofregion to another; and ing Wiley I AS 20 03—Int er pretation I nternational Account Standar ds

The sale or termination of a line of business (if certain other conditions are satisfied, then a restructuring could be considered a discontinuing operation under IAS 35). Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Preface

Chapter 2 - Balancemandated Sheet 12. Disclosures by the standard for provisions are the following: I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of and Losses ForRecognized each classGains of provision, the carrying amount at the beginning and the end of the period, Chapter 4 - Cash Flow St at em ent made in the period, amounts used during the period, unused amounts additional provisions Chapter 6

- Financial nstr uments—Cash and increase Receiv ables reversed Iduring the period, and during the period in the discounted amount arising - Ifrom nventor theypassage of time and the effect of change in discount rate (comparative information

Chapter 7

isnot required). - Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 5

For each class of provision, a brief description of the nature of the obligation and the expected timing of any resulting outflows of economic benefits, an indication of the I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - uncertainties regarding the amount or timing of those outflows (including, where necessary I nvestm ent Pr oper ty in order to provide adequate information, disclosure of major assumptions made Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements concerning future events), and the amount of any expected reimbursement stating the Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - amount of the asset that has been recognized for that expected reimbursement. Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt

In extremely rare circumstances, if the above disclosures as envisaged by the standard are expected to seriously prejudice the position of the enterprise in a dispute with third parties Chapter 15 - Ion ncom Taxes matter of the provision, then the standard takes a lenient view and allows theesubject Chapter 16 - Em ploy ee Benefit the enterprise to sdisclose the general nature of the dispute together with the fact that, and Chapter 17 - Stock holder Equit y reason why,s'the information has not been disclosed. Chapter 14 - Leases

Chapter 18 - Earnings Per Share

For the19 purposes of Financial making the above Chapter - I nterim Repor ting disclosures, it may be essential to group or aggregate provisions. standard also Chapter 20 - The Segm ent Repor tingoffers guidance on how to determine which provisions may be

aggregated to form a class. As per which provisions may be aggregated to Chapter 21 - Accounting Changes andthe Corstandard, rection of in Er determining ror s report as a class, the nature of the items should be sufficiently similar for them to be aggregated together and reported as a class. For example, while it may be appropriate to aggregate into a single Chapter 23 - Related- Part y Disclosures class all provisions relating to warranties of different products, it may not be appropriate to group and Chapter 24 - Specialized I ndustr ies present, as a single class, amounts relating to normal warranties and amounts that are subject to legal Chapter 25 - I nflation and Hyperinflation proceedings. Chapter 22 - For eign Curr ency

Chapter 26 - Gov er nm ent Gr an ts

Appendix - Di sclosure Checklist disclosures required under IAS 37 with respect to provisions ExampleA footnote illustrating Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Provisions Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

At December 31, 2003, provisions consist of the following:

List of Tables

List of Ex hibits and Ex am ples List of Sidebar s

Unutilized Opening Provision provision W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f reversed balance Additions utilized

Closing balance

I n t er n at ion al Accou n t in g St an d ar ds

Provision for 1,000,000 900,000 by Bar r y J. Epstein and Abbas Ali environmental costs Mir za

(800,000) (100,000) ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages)

--

2,100,000

assistance1,000,000 in the prepar at ion and under standing of financial(200,000) Provision for 500,000 (100,000) statements present ed in accordance with I AS. restructuring costs

1,200,000

Provision for staff 2,000,000 1,000,000 (900,000) This com pact and t ruly com pr ehensive qui ck - refer ence bonus

1,000,000

pr esent s account ants with a guide to depend on for

T abProvision le of Confor t en t s

5,000,000

500,000

(2,000,000)

--

3,500,000

(300,000)

7,800,000

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing decommissioning Standar costs ds Preface

9,000,000

2,900,000

(3,800,000)

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 4

- Cash Flow St at em ent

Provision for environmental costs. Statutory decontamination costs relating to old chemical I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter manufacturing 3 sites are determined based on periodic assessments undertaken by environmental of Recognized Gains and Losses specialists employed by the company and verified by independent experts. Chapter 5 -for Financial I nstr uments—Cash and Receiv ables Provision staff bonus. Provisions for staff bonus represents contractual amounts due to the Chapter 6 - middle I nventor y company's management, based on one month's basic salary, as per current employment Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s contracts. Chapter 8

- Property , Plant , and Equipment Provision restructuring Chapter 9 -for I ntangi ble Asset s costs. Restructuring provisions arise from a fundamental reorganization

of the company's operations and management structure. I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty

Provision for decommissioning costs. Provision is made for estimated decommissioning costs relating to oilfields operated by the company based on engineering estimates and independent experts' Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter reports.12 - Balance Sheet Date Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

The following section of the chapter provides examples of provisions that would need to be recognized,

Chapter 15 the - I ncom Taxes based on rulese laid down by the standard. It also discusses common provisions and the accounting Chapter 16 Em ploy ee treatment that is often Benefit applieds to these particular items. Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Dry-docking costs. Chapter 19 - I nterim Financial Repor ting

In some20countries it isRepor required Chapter - Segm ent ting by law, for the purposes of obtaining a certificate of seaworthiness, that ships must (e.g., every to fiveofyears) Chapter 21 - periodically Accounting Changes andthree Cor rection Er ror sundergo extensive repairs and maintenance

costs that are customarily referred to as "dry-docking costs." Depending on the type of vessel and its remaining useful life, such costs could be significant in amount. Before IAS 37 came into effect, some Chapter 23 - Related- Part y Disclosures argued that dry-docking costs should be periodically accrued (in anticipation) and amortized over a Chapter 24 - Specialized I ndustr ies period of time such that the amount is spread over the period commencing from the date of accrual to Chapter 25 - I nflation and Hyperinflation the date of payment. Using this approach, if every three years a vessel has to be dry-docked at a cost Chapter 26 - Gov er nm ent Gr an ts of $5 million, then such costs could be recognized as a provision at the beginning of each triennial Appendix A - amortized Di sclosureover Checklist period and the following three years. Chapter 22 - For eign Curr ency

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Under the setI AS, forthUSbyGAAP, IAS 37, Appendix C -requirements Com parison of andprovisions UK GAAP for future dry-docking expenditures cannot be accrued, since these future costs are not contractual in nature and can be avoided (e.g., by disposing I ndex of the vessel prior to its next overhaul). In general, such costs are to be expensed when incurred. List of Tables However, consistent with IAS 16 and SIC 23, if a separate component of the asset cost was recognized List of Ex hibits and Ex am ples at inception at acquisition of the vessel) and depreciated over its (shorter) useful life, then the List of Sidebar(e.g., s

cost associated with the subsequent dry-docking can likewise be capitalized as a separate asset component and depreciated over the interval until the next expected dry-docking. While the presumption is that this asset component would be included in the property and equipment accounts, in practice, some enterprises record major inspection or overhaul costs as a deferred charge (a noncurrent prepaid expense account) and amortize them over the expected period of benefit, which has the same impact on total assets and periodic results of operations.

Unlawful environmental damage.

Cleanup costs and penalties resulting from unlawful environmental damage (e.g., an oil spill by a tanker ship which contaminates the water near the sea port) would need to be provided for in those countries which have laws requiring W ile y I AS cleanup, 2 0 03 : Isince n t erpitrewould t at ionlead an dtoAp anp licat outflow io n of o fresources embodying economic I n t erregardless n at ion al Accou t in g Stactions an d ar ds benefits in settlement of thenfuture of the enterprise. by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za which has caused the environmental damage operates in a country that has not In case the enterprise John Wi ley & Sons © 2003 in (952 pages)cases a provision may still be required based on the yet enacted legislation requiring cleanup, some principle of constructive obligation to a legal This com pact and (as t rulyopposed com pr ehensive quiobligation). ck - refer enceThis may be possible if the pr esentpublicized s account ants with a guidepolicy to depend on for enterprise has a widely environmental in which it undertakes to clean up all assistance thethe prepar at ion and under standing financial contamination that it causesinand enterprise has a clean trackofrecord of honoring its published statements present ed in accordance with I AS. environmental policy. The reason a provision would be needed under the second situation is because the have been met, that is, there is a present obligation resulting from a past T ab le recognition of Con t en t criteria s obligating (the oil spill) and conductofofI nternational the enterprise has created a valid expectation on the Wiley I AS 20event 03—Int er pretation and the Application Account ing Standar part ofds those affected by it that the enterprise will clean up the contamination (a constructive obligation) Preface and the outflow of resources embodying economic benefits is probable. Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Provision for restructuring Chapter 2 - Balance Sheet

costs.

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 An enterprise publicly announces, before the balance sheet date, its plans to shut down a of which Recognized Gains and Losses

division4in -accordance with a ent board decision and a detailed formal plan, would need to recognize a Chapter Cash Flow St at em

provision for the best estimate of the costs of closing down the division. In this case the recognition - Financial I nstr uments—Cash and Receiv ables criteria are met as follows: a present obligation has resulted from a past obligating event (public Chapter 6 - I nventor y announcement of the decision to the public at large) which gives rise to a constructive obligation from Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s that date, since it creates a valid expectation that the division will be shut down and an outflow of Chapter 8 - Property , Plant , and Equipment resources embodying economic benefits in settlement is probable. Chapter 5

Chapter 9

- I ntangi ble Asset s

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and However, Chapter 10 in - this case, if the enterprise had not publicly announced its plans to shut down the division I nvestmsheet ent Prdate, oper tyor did not start implementing its plan before the balance sheet date, no before the balance Chapter 11 would - Business and Consolidat Fin ancial Statements provision needCombinations to be made since the boarded decision alone would not give rise to a constructive Curr ent Liabilitsheet ies, Prov isions, Cont ingencies, and Ev ents after t he obligation at the balance date (since no valid expectation has in fact been raised in those Chapter 12 Balance Sheet Date affected by the restructuring that the enterprise will start to implement that plan). Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Onerous contract. Chapter 15 - I ncom e Taxes

An enterprise its offices to a more prestigious office complex because the old office building Chapter 16 - Emrelocates ploy ee Benefit s that it was (and has ybeen there for the last twenty years), does not suit the new corporate Chapter 17 -occupying Stock holder s' Equit image it18wants to project. However, the lease of the old office premises cannot be canceled at the Chapter - Earnings Per Share

present time since it continues for the next five years. This is a case of an onerous contract wherein the unavoidable costs of meeting the obligations under the contract exceed the economic benefits under it. Chapter 20 - Segm ent Repor ting A provision is thus required to he made for the best estimate of unavoidable lease payments. Chapter 19 - I nterim Financial Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Decommissioning costs.

Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized An oil company installedI ndustr an oilies refinery on leased land. The installation was completed before the Chapter balance25sheet - I nflation date. On andexpiration Hyperinflation of the lease contract, after a period of seven years, the refinery

would be toent another Chapter 26 relocated - Gov er nm Gr an tsstrategic location that would ensure uninterrupted supply of crude oil. The decommissioning costs of the oil refinery would need to be recognized at the balance sheet date. Appendix A - Di sclosure Checklist A provision beerecognized the value of theI AS estimated decommissioning costs to take Appendix B - should I llustrativ Financial Stfor atem entpresent s Pr esent ed Under place after years. of I AS, US GAAP, and UK GAAP Appendix C - seven Com parison I ndex

Taxes payable include federal or national, state or provincial, and local income taxes. Due to frequent changes in the tax laws, the amount of income taxes payable may have to be estimated. That portion List of Ex hibits and Ex am plesmust be classified as a current liability. The remaining amount is classified deemed currently payable List Sidebar s liability. Although estimated future taxes are broadly includable under the category as of a long-term "provisions," specific rules in IAS 12 prohibit discounting these amounts to present values. List of Tables

Property taxes payable represent the unpaid portion of an entity's obligation to a state or other taxing authority that arises from ownership of real property. Often these taxes are levied in arrears, based on periodic reassessments of value and on governmental budgetary needs. Accordingly, the most acceptable method of accounting for property taxes is a monthly accrual of property tax expense during the fiscal period of the taxing authority for which the taxes are levied. The fiscal period of the taxing authority is the fiscal period that includes the assessment or lien date.

A liability for property taxes payable arises when the fiscal year of the taxing authority and the fiscal year of the entity do not coincide or when the assessment or lien date and the actual payment date do ile y fiscal I AS 2year. 0 03 : For I n t erp re t at ion an Corporation d Ap p licat iois na o fcalendar-year corporation that not fall within the W same example, XYZ I n t er n at ion al Accou n t in g St an d ar ds owns real estate in a state that operates on a June 30 fiscal year. In this state, property taxes are ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali assessed and become a lien against property on July 1, although they are not payable until April 1 and Mir za August 1 of the next calendar year. XYZ Corporation would accrue an expense and a liability on a John Wi ley & Sons © 2003 (952 pages) monthly basis beginning on July 1. At year-end (December 31), the firm would have an expense for six This com pact and t ruly com pr ehensive qui ck - refer ence months' property pr tax on their income andtoa depend current on liability esent s account antsstatement with a guide for for the same amount. assistance in the prepar at ion and under standing of financial

Bonus paymentsstatements may require estimation since the amount of the bonus payment may be affected by present ed in accordance with I AS. the amount of income taxes currently payable. T ab le of Con t en t s

Compensated absences refer to Application paid vacation, paid holidays, and paid Wiley I AS 20 03—Int er pretation and of I nternational Account ing sick leave. IAS 19 addresses Standar ds and requires that an employer should accrue a liability for employee's compensation of future this issue Preface absences if the employee's right to receive compensation for future absence is attributable to employee Chapter 1 already - I ntr oduction to Ithe nterright national Standarultimate ds services rendered, vestsAccounting or accumulates, payment of the compensation is

probable, the amount Chapter 2 and - Balance Sheet of the payment can be reasonably estimated. I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 If an employer is required to compensate an employee for unused vacation, holidays, or sick days, of Recognized Gains and Losses

even if 4employment is St terminated, Chapter - Cash Flow at em ent the employee's right to this compensation is said to vest. Accrual of a liability 5for -nonvesting rights depends onand whether the unused rights expire at the end of the year in Chapter Financial I nstr uments—Cash Receiv ables

which earned or accumulated and are carried forward to succeeding years. If the rights expire, a liability - I nventor y for future absences should not be accrued at year-end because the benefits to be paid in subsequent Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s years would not be attributable to employee services rendered in prior years. If unused rights Chapter 8 - Property , Plant , and Equipment accumulate and increase the benefits otherwise available in subsequent years, a liability should be Chapter 9 - I ntangi ble Asset s accrued at year-end to the extent that it is probable that employees will be paid in subsequent years for I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and the increased benefits attributable to the accumulated rights, and the amount can reasonably be Chapter 10 I nvestm ent Pr oper ty estimated. Chapter 6

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Curr ent Liabilitof ies, Prov isions, ingencies, Ev ents t he should be considered Pay for12 employee leaves absence that Cont represent time and off for past after services Chapter Balance Sheet Date

compensation subject to accrual. Pay for employee leaves of absence that will provide future benefits

Chapter - Financial I nstr uments—LongTer mrendered Debt and that13are not attributable to past services would not be subject to accrual. Although in Chapter 14 Leases theory such accruals should be based on expected future rates of pay, as a practical matter these are Chapter 15 - I ncom Taxes pay rates that may not materially differ and have the advantage of being often computed one current Chapter 16 Em ploy ee Benefit sare to be made some time in the future, discounting of the accrual known. Also, if the payments Chapter 17would - Stock holder s' Equit y amounts seemingly be appropriate, but again this may not often be done for practical Chapter considerations. 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting

Similar arguments can be made to support the accrual of an obligation for post-employment benefits other than pensions if employees' rights accumulate or vest, payment is probable, and the amount can Chapter 21 - Accounting Changes and Cor rection of Er ror s be reasonably estimated. If these benefits do not vest or accumulate, these would be deemed to be Chapter 22 - For eign Curr ency contingent liabilities. Contingent liabilities are discussed in IAS 37 and are considered later in this Chapter 23 - Related- Part y Disclosures chapter. Chapter 20 - Segm ent Repor ting

Chapter 24 - Specialized I ndustr ies

Chapter - I nflation and Hyperinflation Short25 sale obligations. Chapter 26 - Gov er nm ent Gr an ts

When anA individual or enterprise Appendix - Di sclosure Checklist sells securities that are not owned, this is referred to as a "short sale," and is usually accomplished by means of securities borrowed from a brokerage firm. In such cases, the Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS borrowedC securities are of notI AS, recorded as an asset by the borrower. The IASC's IAS 39 Implementation Appendix - Com parison US GAAP, and UK GAAP Guidance Committee has noted that a short seller accounts for the obligation to deliver securities that it I ndex hasofsold as a "liability held for trading." Therefore, if an enterprise sells an unrecorded financial asset List Tables

that is subject to a securities borrowing agreement, the enterprise recognizes the proceeds from the sale as an asset, and the obligation to return the asset as a liability held for trading. Liabilities held for List of Sidebar s trading, just like held for trading securities that are assets of the entity, must be measured at fair value. Changes in fair value will be reflected currently in earnings. List of Ex hibits and Ex am ples

Payee Unknown and the Amount May Have to Be Estimated The following are further examples of estimated liabilities, which also will fall within the definition of provisions under IAS 37. Accordingly, discounting should be applied to projected future cash flows to determine the amounts to be reported on the balance sheet if the effect of discounting is material, and

if timing can be estimated with sufficient accuracy to accomplish this process. Premiums are usually offered by an enterprise to increase product sales. They may require the W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f purchaser to return a specified number of box tops, wrappers, or other proofs of purchase. They may or I n t er n at ion al Accou n t in g St an d ar ds may not require the payment of a cash amount. If the premiumISBN:0471227366 offer terminates at the end of the current by Bar r y J. Epstein and Abbas Ali period but has notMirbeen za accounted for completely if it extends into the next accounting period, a current liability for the estimated number of ©redemptions expected in the future period will have to be recorded. John Wi ley & Sons 2003 (952 pages) If the premium offer extends for more than one accounting period, the estimated liability must be This com pact and t ruly com pr ehensive qui ck - refer ence divided into a current portion and a long-term portion. pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial

Product warranties providing for repair replacement defective products may be sold separately statements present ed in or accordance withofI AS. or may be included in the sale price of the product. If the warranty extends into the next accounting T ab le of Con t en t s period, a current liability for the estimated amount of warranty expense expected in the next period Wiley 20 03—Int er and spans Application I nternational Accountthe ingestimated liability must be mustI AS be recorded. If pretation the warranty moreofthan the next period, Standar ds partitioned into a current and long-term portion. Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Contingent - BalanceLiabilities Sheet

Chapter 2

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter IAS 37 3defines a contingent liability an obligation that is either of Recognized Gains andas Losses Chapter 4

- Cash Flow St at em ent A possible obligation arising from past events, the outcome of which will be confirmed only on the

Chapter 5 - Financial I nstr uments—Cash Receivuncertain ables occurrence or nonoccurrence of oneand or more future events which are not wholly within Chapter 6 I nventor y the control of the reporting enterprise; or Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s A present obligation arising from past events, which is not recognized either because it is not Chapter 8 - Property , Plant , and Equipment

probable that an Chapter 9 - I ntangi bleoutflow Asset s of resources will be required to settle an obligation or the amount of the obligation cannotinbeFinancial measured with sufficient reliability. I nterests Instr um ent s, Associat es, Joint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty

An enterprise should not recognize a contingent liability. Instead, it should disclose it in the notes to the financial statements (unless the possibility of an outflow of resources embodying economic benefits is Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter remote,12in -which case evenDate disclosure is not necessary). Balance Sheet Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Contingent liabilities may develop in a way not initially anticipated. Thus, it is imperative that they are assessed continually to determine whether an outflow of resources embodying economic benefits has Chapter - I ncom eIfTaxes become15probable. the outflow of future economic benefits becomes probable, then a provision is Chapter 16 Emrecognized ploy ee Benefit s financial statements of the period in which the change in such a required to- be in the Chapter 17 -occurs Stock holder s' Equit y probability (except in extremely rare cases, when no reliable estimate can be made of the Chapter - Earnings Share amount18 needed to bePer recognized as a provision). Chapter 14 - Leases

Chapter 19 - I nterim Financial Repor ting

Contingent distinguished from estimated liabilities, although both involve an Chapter 20 - liabilities Segm ent must Reporbe ting

uncertainty will be resolved events. However, an estimate exists because of uncertainty Chapter 21 - that Accounting Changes by andfuture Cor rection of Er ror s

about the amount of an event requiring an acknowledged accounting recognition. The event is known and the effect is known, but the amount itself is uncertain. For example, depreciation is an estimate, but Chapter 23 - Related- Part y Disclosures not a contingency, because the actual fact of physical depreciation is acknowledged, although the Chapter 24 - Specialized I ndustr ies amount is obtained by an assumed accounting method. Chapter 22 - For eign Curr ency

Chapter 25 - I nflation and Hyperinflation

Chapter 26 - Gov er whether nm ent Grthere an ts will be an impairment of an asset or the occurrence of a liability is the In a contingency, Appendix A - that Di sclosure uncertainty will be Checklist resolved in the future. The amount is also usually uncertain, although that is not Appendix B - I characteristic. llustrativ e Financial St atem ent Pr esent ed Under I AS because both the amount of an essential Collectibility of sreceivables is a contingency

loss andCthe identification which customer pay in the future is unknown. Similar logic would Appendix - Com parison of of I AS, US GAAP, andwill UK not GAAP hold for obligations related to product warranties. Both the amount and the customer are currently I ndex unknown. List of Tables List of Ex hibits and Ex am ples

Assessing the likelihood of contingent events.

List of Sidebar s

It is tempting to express quantitatively the likelihood of the occurrence of contingent events (e.g., an 80% probability), but this exaggerates the precision possible in the estimation process. For this reason, accounting standards have not been written to require quantification of the likelihood of contingent outcomes. Rather, qualitative descriptions, ranging along the continuum from remote to probable, have historically been prescribed. IAS 37 sets the threshold for accrual at "more likely than not," which most experts have defined as

being very slightly over a 50% likelihood. Thus, if there is even a hint that the obligation is more likely to exist than to not exist, it will need to be formally recognized if an amount can be reasonably estimated for it. The impact W will make much less when ilebe y Iboth AS 2to 0 03 : I n titerp re t at ion ambiguous an d Ap p licat io n ao fcontingency should be recorded, and to force recognition of far more of these obligations at earlier dates than they are being given I n t er n at ion al Accou n t in g St an d ar ds recognition at present. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za

When a loss is probable and&no estimate possible, these facts should be disclosed in the current John Wi ley Sons © 2003 is (952 pages) period. The accrual of the loss should be made in the period in which the amount of the loss can be This com pact and t ruly com pr ehensive qui ck - refer ence estimated. This accrual of a loss in future periods is a changeon in for estimate. It is not a prior period pr esent s account ants with a guide to depend adjustment. assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Remote contingent losses.

T ab le of Con t en t s

Wiley AS 20 03—Int erof pretation and Application of I nternational ing have traditionally been given, WithIthe exception certain remote contingencies for which Account disclosures Standar ds

contingent losses that are deemed remote in terms of likelihood of occurrence are not accrued or disclosed in the financial statements. For example, every business risks loss by fire, explosion, Chapter 1 - I ntr oduction to I nter national Accounting Standar ds government expropriation, or guarantees made in the ordinary course of business. These are all Chapter 2 - Balance Sheet contingencies because of the uncertainty surrounding whether the future event confirming the loss will I ncom e Statement, em ent of Chan gesexists, in Equitbut y, and ent or will not take place. The risk ofStat asset expropriation this Statem has become less common an Chapter 3 of Recognized Gains and Losses occurrence in recent decades and, in any event, would be limited to less developed or politically Chapter 4 - Cash Flow St at em ent unstable nations. Unless there is specific information about the expectation of such occurrences, which Chapter 5 - raise Financial I nstr to uments—Cash Receivin ables would thus the item the possibleand category any event, thereby making it subject to disclosure, Chapter 6 I nventor y these are not normally discussed in the financial statements. Preface

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8 - Property , Plant , and Equipment Litigation. Chapter 9

- I ntangi ble Asset s

The most difficult areain of contingencies litigation. In es, some developed there is a great deal of I nterests Financial Instr umis ent s, Associat Joint Ventur es,nations and Chapter 10 commercial Iand other nvestm entlitigation, Pr oper ty some of which exposes reporting entities to risks of material losses. Accountants must generally rely onand attorneys' assessments Chapter 11 - Business Combinations Consolidat ed Fin ancialconcerning Statementsthe likelihood of such events. Unless the attorney indicates that the risk of loss is remote or or that Curr ent Liabilit ies, Prov isions, Cont ingencies, and Evslight, ents after t hethe impact of any loss that Chapter 12 does occur would beSheet immaterial Balance Date to the company, the accountant will require that the entity add explanatory material to theuments—Longfinancial statements regarding the contingency. In cases where judgments Chapter 13 - Financial I nstr Ter m Debt have been Chapter 14 - entered Leases against the entity, or where the attorney gives a range of expected losses or other amounts, Chapter 15 certain - I ncomaccruals e Taxes of loss contingencies for at least the minimum point of the range must be made. Similarly, if the reporting Chapter 16 - Em ploy ee Benefit s entity has made an offer in settlement of unresolved litigation, that offer would normally be deemed the Chapter 17 - Stock holder s' Equit ylower end of the range of possible loss and, thus, subject for accrual. In most cases, however, an estimate of the contingency is unknown and the contingency is reflected only Chapter 18 - Earnings Per Share in footnotes. Chapter 19 - I nterim Financial Repor ting

Chapter 20 of - Segm ent Repor ting Example illustrative footnotes—contingent liabilities Chapter 21 - Accounting Changes and Cor rection of Er ror s

1. A former plant manager of the establishment has filed a claim related to injuries sustained by him during an accident in the factory. The former employee is claiming approximately $3.5 Chapter 23 - Related- Part y Disclosures million as damages for permanent disability, alleging that the establishment had violated a safety Chapter 24 - Specialized I ndustr ies regulation. At December 31, 2003, no provision has been made for this claim, as management Chapter 25 - I nflation and Hyperinflation intends to vigorously defend these allegations and believes the payment of any penalty is not Chapter 26 - Gov er nm ent Gr an ts probable. Chapter 22 - For eign Curr ency

Appendix A - Di sclosure Checklist Appendix 2. Based B - I llustrativ on allegations e Financial made St atem by a ent competitor, s Pr esent ed theUnder company I AS is currently the subject of a

investigation relating antitrust matters. If the company is ultimately accused of Appendixgovernment C - Com parison of I AS, US GAAP, to and UK GAAP violations of the country's antitrust laws, fines could be assessed. Penalties would include sharing of previously earned profits with a competitor on all contracts entered into from List of Tables competitor has indicated to the governmental agency investigating the company List of Exinception. hibits and The Ex am ples that the company has made excessive profits ranging from $50 million to $75 million by resorting List of Sidebar s to restrictive trade practices that are prohibited by the law of the country. No provision for any penalties or other damages has been made at year-end since the company's legal counsel is confident that these allegations will not be sustained in a court of law. I ndex

The IASB is presently pursuing several technical projects, one of which, dealing with business combinations, would revise the definition of contingent liability to converge with the US GAAP definition, though this is not expected to have any impact on the recognition or measurement of contingent

liabilities. If adopted, this would define a contingent liability as "a present obligation that arises from past events that may require a future cash outflow (or other sacrifice of economic benefits) based on the occurrence orWnonoccurrence one orremore uncertain events ile y I AS 2 0 03 :ofI n t erp t at ion an d Ap pfuture licat io n o f not wholly within the control of the enterprise." I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

za ContingentMir Assets John Wi ley & Sons © 2003 (952 pages) This comasset pact and com pr ehensive qui ck - refer Per IAS 37, a contingent is at ruly possible asset that arises fromence past events and whose existence pr esent s account ants with a guide to depend on will be confirmed only by the occurrence or nonoccurrence of oneforor more uncertain future events that assistance in the prepar at ion and under standing of financial are not wholly within the control of the enterprise. statements present ed reporting in accordance with I AS.

Contingent T ab le of Con tassets en t s usually arise from unplanned or unexpected events that give rise to the possibility of an inflow of03—Int economic benefitsand to the enterprise. An example Account of a contingent asset is a claim against an Wiley I AS 20 er pretation Application of I nternational ing Standar insurance ds company that the enterprise is pursuing legally. Preface

Contingent- assets should not be recognized; instead, they should be disclosed if the inflow of the I ntr oduction to I nter national Accounting Standar ds economic benefits is probable. As with contingent liabilities, contingent assets need to be continually Chapter 2 - Balance Sheet assessed to ensure that developments are properly reflected in the financial statements. For instance, I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - virtually certain that the inflow of economic benefits will arise, the asset and the related if it becomes of Recognized Gains and Losses income should be recognized in the financial statements of the period in which the change occurs. If, Chapter 4 - Cash Flow St at em ent however, the inflow of economic benefits has become probable (instead of virtually certain), then it Chapter 5 - Financial I nstr uments—Cash and Receiv ables should be disclosed as a contingent asset. Chapter 1

Chapter 6

- I nventor y

Chapter 7 of - Rev enue Recogni tion, I ncludingcontingency/contingent Constr uction Contr act s Example illustrative footnotes—gain asset Chapter 8 - Property , Plant , and Equipment

1. During the current year, the court of first instance found that a multinational company (MNC) had - I ntangi ble Asset s infringed on certain patents and trademarks owned by the company. The court awarded $100 I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter million 10 - in damages for these alleged violations by the MNC. In accordance with the court order, I nvestm ent Pr oper ty the MNC will also be required to pay interest on the award amount and legal costs as well. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Should the MNC appeal to an appellate court, the verdict of the court of first instance and the Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter amount 12 of theSheet damages Balance Date could be reversed or reduced. Therefore, at December 31, 2003, the company has not recognized the award amount in the accompanying financial statements since Chapter 13 - Financial I nstr uments—LongTer m Debt it is not virtually certain of the verdict of the appellate court. Chapter 14 - Leases Chapter 9

Chapter 15 June - I ncom e Taxes 2. In 2003, the company settled its longtime copyright infringement and trade secrets lawsuit Chapter with 16 - aEm ploy ee Benefit s the terms of the settlement, the competitor paid the company $2.5 competitor. Under Chapter million, 17 - Stock holder s' received Equit y which was in full and final settlement in October 2003, and the parties have Chapter dismissed 18 - Earnings Per Share litigation. For the year ended December 31, 2003, the Company all remaining Chapter recognized 19 - I nterimthe Financial ting in settlement as "other income," which is included in the amountRepor received Chapter accompanying 20 - Segm ent Repor ting statements. financial Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

The IASB's with business combinations would revise the definition of contingent asset to Chapter 23 - project Related-dealing Part y Disclosures converge with the US GAAP definition, though this is not expected to have any impact on the recognition or measurement of contingent assets. If adopted, this would define a contingent asset as "a Chapter 25 - I nflation and Hyperinflation present right that arises from past events that may result in future cash inflow (or other economic Chapter 26 - Gov er nm ent Gr an ts benefits) based on the occurrence or nonoccurrence of one or more uncertain future events not wholly Appendix A - Di sclosure Checklist within the control of the enterprise." Chapter 24 - Specialized I ndustr ies

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Disclosures Prescribed by IAS 37 for Contingent Liabilities and List of Tables Contingent Assets I ndex

List of Ex hibits and Ex am ples

Anofenterprise List Sidebar s should disclose, for each class of contingent liability at the balance sheet date, a brief

description of the nature of the contingent liability and, where practicable, an estimate of its financial effect measured in the same manner as provisions, an indication of the uncertainties relating to the amount or timing of any outflow, and the possibility of any reimbursement.

In aggregating contingent liabilities to form a class, it is essential to consider whether the nature of the items is sufficiently similar to each other such that they could be presented as a single class. In the case of contingent assets where an inflow of economic benefits is probable, an enterprise should

disclose a brief description of the nature of the contingent assets at the balance sheet date and, where practicable, an estimate of their financial effect, measured using the same principles as provisions. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Where any of theI above information is not disclosed because it is not practical to do so, that fact should n t er n at ion al Accou n t in g St an d ar ds be disclosed. In extremely rare circumstances, if the above disclosures as envisaged by the standard ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali are expected to seriously prejudice the position of the enterprise in a dispute with third parties on the Mir za subject matter of John the contingencies, takes a lenient view and allows the enterprise to Wi ley & Sons ©then 2003 the (952standard pages) disclose the general nature of the dispute, together with the fact that, and reason why, the information This com pact and t ruly com pr ehensive qui ck - refer ence has not been disclosed. pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Transitional Provisions T ab le of Con t en t s

The effect adopting IAS 37 and wasApplication to have been as an adjustment to the opening balance of Wiley I AS 20of 03—Int er pretation of I reported nternational Account ing retained Standar ds earnings. It is interesting to note that IAS 37 did not give the option of the allowed alternative treatment that was permitted by IAS 8. To that extent it was a departure from the accounting treatment Preface prescribed IAS. to I nter national Accounting Standar ds Chapter 1 - under I ntr oduction Chapter 2

- Balance Sheet

I ncom e Statement, Stat em ent of Chan ges the in Equit y, and Statem ent Reporting Events Occurring After Balance Sheet Date -

Chapter 3

of Recognized Gains and Losses

Chapter 4 - Cash Flow St at em ent Authorization date. Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter The determination 6 - I nventor ofy the authorization date (i.e., the date when the financial statements could be

considered authorized for issuance) is critical to the concept Chapter 7 - legally Rev enue Recogni tion, I ncluding Constr uction Contr act s of events after the balance sheet date. It 8serves as the, Plant cutoff, and pointEquipment after the balance sheet date, up to which the post-balance-sheet Chapter - Property events 9are-toI ntangi be examined Chapter ble Assetin s order to ascertain whether such events qualify for the treatment prescribed by the revised standard IAS standard explains thees, concept through the use of I nterests in Financial Instr um10. entThis s, Associat es, Joint Ventur and illustrations. I nvestm ent Pr oper ty

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

The general principles that need to be considered in determining the authorization date of the financial

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - are set out below. statements Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt

When an enterprise is required to submit its financial statements to its shareholders for approval after they have already been issued, the authorization date in this case would mean the date of Chapter 15 - Iissuance ncom e Taxes original and not the date when these are approved by the shareholders; and Chapter 14 - Leases

Chapter 16 - Em ploy ee Benefit s

When enterprise required to issue its financial statements to a supervisory board made up Chapter 17 -an Stock holder s'isEquit y wholly nonexecutives, Chapter 18 - of Earnings Per Shareauthorization date would mean the date on which management authorizes them issue to the supervisory Chapter 19 for - I nterim Financial Repor tingboard. Chapter 20 - Segm ent Repor ting

Consider the following examples:

Chapter 21 - Accounting Changes and Cor rection of Er ror s

1. The the financial statements of Xanadu Corp. for the accounting period ended Chapter 22 - preparation For eign Currof ency

December 31, 2003, was completed by the management on January 15, 2004. The draft financial statements were considered at the meeting of the board of directors held on January Chapter 24 - Specialized I ndustr ies 18, 2004, on which date the Board approved them and authorized them for issuance. The Chapter 25 - I nflation and Hyperinflation annual general meeting (AGM) was held on February 10, 2004, after allowing the requisite Chapter 26 - Gov er nm ent Gr an ts notice period mandated by the corporate statute. At the AGM the shareholders approved the Appendix A - Di sclosure Checklist financial statements. The approved financial statements were filed by the corporation with the AppendixCompany B - I llustrativ Financial atem ent sbody Pr esent ed Under LaweBoard (theStstatutory of the countryI AS that regulates corporations) on February Appendix21, C -2004. Com parison of I AS, US GAAP, and UK GAAP Chapter 23 - Related- Part y Disclosures

I ndex

Given these facts, the date of authorization of the financial statements of Xanadu Corp. for the List of Tables December 31, 2003, is January 18, 2004, the date when the board approved them List of Exyear hibitsended and Ex am ples and authorized them for issue (and not the date they were approved in the AGM by the List of Sidebar s

shareholders). Thus, all post-balance-sheet events between December 31, 2003, and January 18, 2004, need to be considered by Xanadu Corp. for the purposes of evaluating whether or not they are to be accounted or reported under IAS 10.

2. Suppose in the above cited case the management of Xanadu Corp. was required to issue the financial statements to a supervisory board (consisting solely of nonexecutives including representatives of a trade union). The management of Xanadu Corp. had issued the draft financial statements to the supervisory board on January 16, 2004. The supervisory board

approved them on January 17, 2004, and the shareholders approved them in the AGM held on February 10, 2004. The approved financial statements were filed with the Company Law Board on February 21,y 2004. W ile I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

In this case the date of authorization of financial statements would be January 16, 2004, the ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali date the draft financial statements were issued to the supervisory board. Thus, all post-balanceMir za sheet events Johnbetween Wi ley & December Sons © 200331, (9522003, pages)and January 16, 2004, need to be considered by Xanadu Corp. for the purposes of evaluating whether or not they are to be accounted or This com pact and t ruly com pr ehensive qui ck - refer ence reported under IAS 10. pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial present edevents in accordance I AS. Adjusting andstatements nonadjusting (afterwith the balance sheet date). T ab le of Con t en t s

Two kinds of events after the balance sheet date are delineated by the standard. These are,

Wiley I AS 20 03—Int er pretation of Isheet nternational Account ing respectively, "adjusting events and afterApplication the balance date" and "nonadjusting events after the balance Standar ds

sheet date." Adjusting events are those post-balance-sheet events that provide evidence of conditions that actually existed at the balance sheet date, albeit they were not known at the time. Financial Chapter 1 - I ntr oduction to I nter national Accounting Standar ds statements should be adjusted to reflect adjusting events after the balance sheet date. Preface

Chapter 2

- Balance Sheet

Examples -ofI ncom adjusting e Statement, events, given Stat em byent theofstandard, Chan ges are in Equit the y, following: and Statem ent

Chapter 3

of Recognized Gains and Losses

1. Resolution after the balance sheet date of a court case that confirms a present obligation - Cash Flow St at em ent requiring either an adjustment to an existing provision or recognition of a provision instead of Chapter 5 - Financial I nstr uments—Cash and Receiv ables mere disclosure of a contingent liability; Chapter 4 Chapter 6

- I nventor y

Chapter 2. Receipt 7 - Revof enue information Recogni tion, afterI ncluding the balance Constr sheet uction date Contr indicating act s that an asset was impaired or that

impairment loss needs to be adjusted. For instance, the bankruptcy of a customer Chapter a 8 previous - Property , Plant , and Equipment to the balance sheet date usually confirms the existence of loss at the balance Chapter subsequent 9 - I ntangi ble Asset s sheetI nterests date, and disposal ofum inventories afteres, theJoint balance sheet date provides evidence (not in the Financial Instr ent s, Associat Ventur es, and always I nvestm conclusive, ent Pr oper however) ty about their net realizable value at the balance sheet date;

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

3. The determination after the balance sheet date of the cost of assets purchased, or the proceeds

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter from 12 - assets disposed of, before the balance sheet date; Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt

4. The determination subsequent to the balance sheet date of the amount of profit sharing or bonus payments, where there was a present legal or constructive obligation at the balance sheet Chapter 15 - I ncom e Taxes date to make the payments as a result of events before that date; and Chapter 14 - Leases

Chapter 16 - Em ploy ee Benefit s Chapter 5. The 17 - discovery Stock holder ofs'frauds Equit yor errors, after the balance sheet date, that show that the financial

were at year-end before the adjustment. Chapter statements 18 - Earnings Per incorrect Share Chapter 19 - I nterim Financial Repor ting

Commonly encountered situations of adjusting events are illustrated below.

Chapter 20 - Segm ent Repor ting

Chapter 21 - the Accounting Changes and was Cor rection of aErcompetitor ror s During year 2003 Taj Corp. sued by for $10 million for infringement of a Chapter 22 - For eign Curr ency trademark. Based on the advice of the company's legal counsel, Taj accrued the sum of $5 million Chapter - RelatedDisclosures as 23 a provision inPart its yfinancial statements for the year ended December 31, 2003. Subsequent to the Chapter 24 - Specialized ies balance sheet date,I ndustr on February 15, 2004, the Supreme Court decided in favor of the party Chapter alleging 25 - I infringement nflation and Hyperinflation of the trademark and ordered the defendant to pay the aggrieved party a sum

of $7 financial Chapter 26 million. - Gov er The nm ent Gr an ts statements were prepared by the company's management on January 31, 2004, and approved by the Board on February 20, 2004. Taj Corp. should adjust the provision Appendix A - Di sclosure Checklist by $2 to reflect the award decreed by theedSupreme Court (assumed to be the final appellate Appendix B -million I llustrativ e Financial St atem ent s Pr esent Under I AS authority on parison the matter in this beGAAP paid by Taj Corp. to its competitor. Had the judgment Appendix C - Com of I AS, USexample) GAAP, andtoUK

I ndex of the Supreme Court been delivered on February 25, 2004, or later, this post-balance-sheet event

would have occurred after the cutoff point (i.e., the date the financial statements were authorized for original issuance). If so, adjustment of financial statements would not have been required.

List of Tables

List of Ex hibits and Ex am ples

List ofPenn Sidebar s carries its inventory at the lower of cost and net realizable value. At December 31, Corp.

2003, the cost of inventory, determined under the first-in, first-out (FIFO) method, as reported in its financial statements for the year then ended, was $5 million. Due to severe recession and other negative economic trends in the market, the inventory could not be sold during the entire month of January 2004. On February 10, 2004, Penn Corp. entered into an agreement to sell the entire inventory to a competitor for $4 million. Presuming the financial statements were authorized for issuance on February 15, 2004, the company should recognize this loss of $1 million in the financial statements for the year ended December 31, 2003.

In contrast with the foregoing, nonadjusting events are those post-balance-sheet events that are indicative of conditions that arose after the balance sheet date. Financial statements should not be adjusted to reflectWnonadjusting events after balance sheet date. ile y I AS 2 0 03 : I n t erp re tthe at ion an d Ap p licat io n An o f example of a nonadjusting event is a declineI in the market value of investments between the balance sheet date and the date n t er n at ion al Accou n t in g St an d ar ds when the financialbystatements are authorized for issue. Since the fall in the market value of investments ISBN:0471227366 Bar r y J. Epstein and Abbas Ali za date is not indicative of their market value at the balance sheet date (instead it after the balance Mir sheet reflects circumstances that subsequent to the balance sheet date) the fall in market value need John Wi ley arose & Sons © 2003 (952 pages) not, and should not, recognized thecom financial statements at the balance sheet date. Thisbe com pact and t in ruly pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

Not all nonadjusting events in arethe significant enough to require disclosure, however. The revised standard assistance prepar at ion and under standing of financial present ed inthat accordance with the I AS.ability of the users of financial statements gives examples ofstatements nonadjusting events would impair to make proper evaluations or decisions if not disclosed. Where nonadjusting events after the balance T ab le of Con t en t s sheet date are of such significance, disclosure should be made for each such significant category of Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing nonadjusting event, of the nature of the event and an estimate of its financial effect or a statement that Standar ds such an estimate cannot be made. Examples given by the standard of such significant nonadjusting Preface post-balance-sheet events are the following: Chapter 1 - I ntr oduction to I nter national Accounting Standar ds 1. A business Chapter 2 major - Balance Sheetcombination or disposing of a major subsidiary; I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 2. Announcing a plan Gains to discontinue an operation; of Recognized and Losses Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

3. Major purchases and disposals of assets or expropriation of major assets by government;

Chapter 6 - destruction I nventor y of a major production plant by fire; 4. The Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s

5. Announcing commencing the implementation of a major restructuring; Chapter 8 - Propertyor , Plant , and Equipment Chapter 9

- I ntangi ble Asset s 6. Abnormally large changes in asset prices or foreign exchange rates;

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

I nvestm ent Pr oper ty rates and enacted tax laws; 7. Significant changes in tax

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

8. Entering significant commitments contingent and t he Currinto ent Liabilit ies, Prov isions, Contor ingencies, andliabilities; Ev ents after

Chapter 12 -

Balance Sheet Date 9. Major litigationI nstr arising from eventsTer occurring Chapter 13 - Financial uments—Longm Debt after the balance sheet date. Chapter 14 - Leases

Dividends proposed or declared after the balance sheet date.

Chapter 15 - I ncom e Taxes

Chapter 16 -on Em ploy ee Benefitproposed s Dividends equity shares or declared after the balance sheet date should not be Chapter 17 - as Stock holder s'atEquit y recognized a liability the balance sheet date. This is a significant change from the requirements Chapter 18 predecessor - Earnings Perversion Share of the standard, IAS 10. The earlier standard on this subject had under the Chapter 19 -as I nterim Financial Repor ting permitted, an allowed alternative to mere disclosure, formal balance sheet recognition of a proposed Chapter 20as- Segm ent Repor dividend a liability. Underting the revised standard, if dividends are proposed or declared subsequent to the balance sheet date,Changes but before statements are authorized for issue, these may not be Chapter 21 - Accounting andthe Corfinancial rection of Er ror s

recognized liability. Only disclosure is permitted in such circumstances. IAS 1 permits an Chapter 22 - as Foraeign Curr ency enterprise make this either in the notes to the financial statements or on the face of the Chapter 23 -toRelatedPartdisclosure y Disclosures balance24sheet as a separate component of equity; IAS 10 reiterates this disclosure guidance. Chapter - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation

Going concern considerations.

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

Deterioration in an entity's financial position after the balance sheet date could cast substantial doubts

Appendix - I llustrativ eability Financial St atem ent esentconcern. ed Under IAS I AS 10 requires that an enterprise should about anBenterprise's to continue as saPrgoing Appendix C Com parison of I AS, US GAAP, and UK GAAP not prepare its financial statements on a going concern basis if management determines after the I ndex balance sheet date either that it intends to liquidate the enterprise or cease trading, or that it has no List of Tables realistic alternative but to do so. IAS 10 notes that disclosures prescribed by IAS 1 under such List of Ex hibits and Ex amalso ples be complied with. circumstances should List of Sidebar s

Disclosure requirements. The following disclosures are mandated by IAS 10: 1. The date when the financial statements were authorized for issue and who gave that authorization. If the enterprise's owners have the power to amend the financial statements after issuance, this fact should be disclosed; 2. If information is received after the balance sheet date about conditions that existed at the

2. balance sheet date, disclosures that relate to those conditions should be updated in the light of the new information; and W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

3. Where nonadjusting events after the balance sheet date are of such significance that I n t er n at ion al Accou n t in g St an d ar ds nondisclosure would affect the ability of the users of financial statements to make proper ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali evaluations Mirand za decisions, disclosure should be made for each such significant category of nonadjusting event, nature thepages) event and an estimate of its financial effect or a John Wi leyof & the Sons © 2003of(952 statement This that com suchpact an and estimate cannot be made. t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for in the prepar at ion and under standing of financial Accountingassistance for Financial Liabilities statements present ed in accordance with I AS.

IAS has testablished new requirements for accounting for financial liabilities that are held for trading T ab le 39 of Con en t s and those are er derivatives. These will nowofbe accounted for at fairingvalue. Other financial liabilities Wiley I AS 20that 03—Int pretation and Application I nternational Account Standar will continue ds to be reported at amortized historical cost, pending a possible later endorsement of the notion of employing fair value to account for all financial assets and liabilities. Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Initial2measurement Chapter - Balance Sheet

of financial liabilities.

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter IAS 39 3stipulates that all financial liabilities of Recognized Gains and Losses are to be initially measured at cost, which (assuming they

are each incurred in an arm's-length transaction) would equal fair value. Any related transaction costs - Cash Flow St at em ent are included in this initial measurement. In rare instances when the fair value of the consideration Chapter 5 - Financial I nstr uments—Cash and Receiv ables received is not reliably determinable, resort is to be made to a computation of the present value of all Chapter 6 - I nventor y future cash flows related to the liability. In such a case, the discount rate to apply would be the Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s prevailing rate on similar instruments issued by a party having a similar credit rating. Chapter 4

Chapter 8

- Property , Plant , and Equipment

Chapter 9 - I ntangi ble Asset s Remeasurement of financial

liabilities.

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestmof enta Pr operfair ty value reporting model for financial instruments was contemplated and While the adoption pure Chapter - Business Combinations andultimate Consolidat ed Finon ancial Statements may yet11come to fruition in the IASB's project financial instruments, all major national Chapter 10 -

Curr ent ies, Prov Cont ingencies, and Ev entstime aftersuch t he would not be a practical standard andLiabilit the IASB haveisions, concluded that at the present Chapter 12setters Sheet that, Datesubsequent to initial recognition, an enterprise should measure all solution. IASBalance 39 provides Chapter 13liabilities, - Financial I nstr uments—LongTer m financial other than liabilities held forDebt trading purposes and derivative contracts that are Chapter 14 Leases liabilities, at amortized cost. Where the initial recorded amount is not the contractual maturity value of Chapter 15 - (e.g., I ncomas e Taxes the liability when transaction costs are added to the issuance price, or when there was a Chapter 16or- Em ploy eeupon Benefit s premium discount issuance) periodic amortization should be recorded, using the constant

effective method. Chapter 17yield - Stock holder s' Equit y Chapter 18 - Earnings Per Share

An exception to the general rule applies when the financial liability is held for trading or is a derivative. An example of the former would be a "short" position in a security, the market value of which will be Chapter 20 - Segm ent Repor ting reported as a liability on the balance sheet. By definition, a short position is held for trading, since it Chapter 21 - Accounting Changes and Cor rection of Er ror s represents a gamble that the price of the underlying security that has been sold will fall in the near Chapter 22 - For eign Curr ency term. Derivatives could be any of a wide range of instruments, such as swaps, forwards, futures and Chapter - Relatedy Disclosures options;23these will bePart liabilities if the reporting entity will be obligated to perform (e.g., if it has sold a Chapter 24 Specialized I ndustr ies "naked" option, giving the counterparty the right to purchase a security, at a fixed price, which the Chapter 25 entity - I nflation Hyperinflation reporting in factand does not own). All financial liabilities that are held for trading or are derivatives, Chapter - Gov er nm ent with two26exceptions, are Gr to an betsreported at fair value. Chapter 19 - I nterim Financial Repor ting

Appendix A - Di sclosure Checklist

The first Bexception to ethis general in theedcase of aI AS derivative liability that is linked to and Appendix - I llustrativ Financial St rule atemapplies ent s Pr esent Under that mustC be settled by delivery of an unquoted Appendix - Com parison of I AS, US GAAP, and UKequity GAAPinstrument, the fair value of which cannot be reliably measured. Those derivatives are to be measured at cost rather than fair value.

I ndex

List of Tables Secondly, financial liabilities that have been designated as hedged items are to be accounted for under List Ex hibits and Ex am ples theofspecial hedge accounting rules of IAS 39. These are explained in Chapter 5 and illustrated in List of Sidebar Chapter 10. s

The various issues that may arise in connection with obtaining fair value information are also set forth inChapter 5 and will not be repeated here. Gains or losses occurring upon remeasurement of financial liabilities held for trading are included in results of operations in the period in which the fair value change occurs.

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Chapter 13: Financial Instruments—Long-Term I n t er n at ion al Accou n t in g St an d ar ds ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Debt Mir za John Wi ley & Sons © 2003 (952 pages) com pact and t ruly com pr ehensive qui ck - refer ence PerspectiveThisand Issues pr esent s account ants with a guide to depend on for

assistance future in the sacrifices prepar at ionofand under standing Long-term debt represents economic benefitsoftofinancial be repaid over a period of more statements present ed in accordance with I AS. than one year or, if longer, the operating cycle. Long-term debt includes bonds payable, notes payable, lease T ab le ofobligations, Con t en t s pension and deferred compensation plan obligations, deferred income taxes, and unearned accounting for bonds ofand long-term notes is ing covered in this chapter. Since at Wiley I AS 20revenue. 03—Int erThe pretation and Application I nternational Account present, Standar ds international accounting standards address only a few of these topics, the accounting recommendations herein are those of the authors, based on practices in many nations. Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

The proper valuation of long-term debt is the present value of future payments using the market rate of - Balance Sheet interest, either stated or implied in the transaction, at the date the debt was incurred. An exception to I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter the use3of -the rate Gains of interest stated or implied in the transaction in valuing long-term notes of market Recognized and Losses occurs when it is necessary to use an imputed interest rate, if the debt is either noninterest-bearing or Chapter 4 - Cash Flow St at em ent bears a clearly nonmarket rate of interest. Chapter 2

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

Sources of IAS IAS 32, 39

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

ile yTerms I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f DefinitionsWof I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Amortization Mir za

John Wi ley & Sons © 2003 (952 pages)

The process of allocating an amount to expense over the periods benefited.

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial present ed in accordance withagrees I AS. to pay a sum of money at a A statements written agreement whereby a borrower

Bond

designated future date plus periodic interest payments at the stated rate.

T ab le of Con t en t s

Wiley I AS issue 20 03—Int er pretation and Application of I nternational Account ing Bond costs Standar ds

Costs related to issuing a bond (i.e., legal, accounting, underwriting fees, and printing and registration costs). Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Preface

Chapter 2

- Balance Sheet Bonds outstanding method I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent The methodGains of accounting of Recognized and Lossesfor serial bonds that assumes the discount or premium

Chapter 3

-

Chapter 4

applicable - Cash Flow St atto emeach ent bond of the issue is the same dollar amount per bond per year.

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Book value approach

The method of recording the stock issued from a bond conversion at the carrying value of the bonds converted.

Chapter 9 - bond I ntangi ble Asset s Callable Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and A bond in that the issuer reserves the right to call and retire the bond prior to its I nvestm ent Pr oper ty

maturity.

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Carrying Chapter 12 - value Balance Sheet Date

The face amount of a debtTer issue increased or decreased by the applicable Chapter 13 - Financial I nstr uments—Longm Debt unamortized premium or discount plus unamortized issue costs.

Chapter 14 - Leases

Chapter 15 - I ncom e Taxes

Collateral

Chapter 16 - Em ploy ee Benefit s

Asset(s) pledged to settle the obligation to repay a loan, if not repaid.

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Convertible debt Per Share

Chapter 19 - I nterim Financial Repor ting

Debt that may be converted into common stock at the holder's option after specific criteria are met.

Chapter 20 - Segm ent Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Covenant Chapter 23 - RelatedPart yinDisclosures A clause a debt contract written for the protection of the lender that outlines the Chapter 24 - Specialized I ndustr ies of the parties involved when certain conditions occur (e.g., when rights and actions Chapter 25 - I nflation and Hyperinflation the debtor's current ratio declines beyond a specified level). Chapter 26 - Gov er nm ent Gr an ts

Debenture Appendix A - Di sclosure Checklist Appendix B - I llustrativ Long-term e Financial debt not St atem secured ent s by Pr esent collateral. ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Defeasance I ndex List of Tables

Extinguishment of debt by creating a trust to service it.

List of Ex hibits and Ex am ples

Discount

List of Sidebar s

Created when a debt instrument sells for less than face value and occurs when the stated rate on the instrument is less than the market rate at the time of issue. Effective interest method The method of amortizing the discount or premium to interest expense so as to result in a constant rate of interest when applied to the amount of debt outstanding at the beginning of any given period.

Effective rate SeeMarket rate.

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Face value

by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

The amount or principal due on the maturity date. Mirstated za John Wi ley & Sons © 2003 (952 pages)

Imputation

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with guide to depend The process of interest rate aapproximation thatonis for accomplished by examining the assistance in the prepar at ion circumstances under which theand noteunder wasstanding issued. of financial statements present ed in accordance with I AS.

Long-term T ab le of Con t endebt ts Probable futureand sacrifices of economic benefitsAccount arisinging from present obligations that Wiley I AS 20 03—Int er pretation Application of I nternational Standar ds are not currently payable within one year or the operating cycle of the business, whichever is longer.

Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 3

-

Market Chapter 2 rate - Balance Sheet

Thee current rate Stat of interest available forinobligations I ncom Statement, em ent of Chan ges Equit y, andissued Statemunder ent the same terms and of Recognized conditions. Gains and Losses

Chapter 4

- Cash Flow St at em ent Market approach Chapter 5 value - Financial I nstr uments—Cash and Receiv ables Chapter 6

The method of recording the stock issued from a bond conversion at the current - I nventor y

Chapter 7

price of theI ncluding bonds converted or the stock - Revmarket enue Recogni tion, Constr uction Contr act issued. s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Maturity date

Chapter 10 -

The date on whichInstr the um face (principal) of the bond note becomes due. I nterests in Financial entvalue s, Associat es, Joint Ventur es,orand I nvestm ent Pr oper ty

Maturity Chapter 11 - value Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he SeeFace value. Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Premium

Chapter 14 - Leases

Created when a debt instrument sells for more than its face value and occurs when the stated rate on the instrument is greater than the market rate at the time of issue.

Chapter 15 - I ncom e Taxes

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y Principal Chapter 18 - Earnings Per Share Chapter 19 - I nterim SeeFace Financial value. Repor ting Chapter 20 - Segm ent Repor ting

Secured Chapter 21 - debt Accounting Changes and Cor rection of Er ror s thatency has collateral to satisfy the obligation (i.e., a mortgage on specific property), Chapter 22 - For Debt eign Curr if not Part repaid. Chapter 23 - Relatedy Disclosures Chapter 24 - Specialized I ndustr ies

Serial bond

Chapter 25 - I nflation and Hyperinflation

face Chapter 26 - GovDebt er nmwhose ent Gr an ts value matures in installments. Appendix A - Di sclosure Checklist

Stated rate

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

The interest rate written on the face of the debt instrument.

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex Straight-line method List of Tables

The method of amortizing the premium or discount to interest expense such that there is an even allocation of interest expense over the life of the debt.

List of Ex hibits and Ex am ples List of Sidebar s

Take-or-pay contract A contract in which a purchaser of goods agrees to pay specified fixed or minimum amounts periodically in return for products, even if delivery is not taken. It results from a project financing arrangement where the project produces the products. Throughput agreement An agreement similar to a take-or-pay contract except that a service is provided by

the project under the financing arrangement. Troubled debt restructure

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Occurs when creditor, for economic I n t er n at ionthe al Accou n t in g St an d ar dsor legal reasons related to the debtor's financial a concession to the debtor (deferment or reduction of ISBN:0471227366 by Bar rdifficulties, y J. Epstein grants and Abbas Ali Mir za or principal) that it would not otherwise consider. interest John Wi ley & Sons © 2003 (952 pages)

UnconditionalThis purchase com pactobligation and t ruly com pr ehensive qui ck - refer ence esent s account ants with a guide to depend on for of funds in the future or to Anprobligation to transfer a fixed or minimum amount assistance in the prepar at ion and under standing of financial transfer goods or services at fixed or minimum prices. statements present ed in accordance with I AS.

Yield rate T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing SeeMarket rate. Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS and 2 0 03 : Examples I n t erp re t at ion an d Ap p licat io n o f Concepts, Rules, I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

Notes and Bonds Mir za

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages)

Long-term debt generally takes one of two forms: notes or bonds. Notes represent debt issued to a This com pact and t ruly com pr ehensive qui ck - refer ence single investor without intending thewith debt be broken up on among pr esent s accountfor ants a to guide to depend for many investors. Their maturity, usually lasting one to seveninyears, tendsattoionbeand shorter that of afinancial bond. Bonds also result from a assistance the prepar underthan standing in accordance I AS.up into various subunits, typically $1,000 single agreement.statements However, present a bond ed is intended to bewith broken each, which can be issued to a variety of investors. T ab le of Con t en t s Wiley I AS 20bonds 03—Intshare er pretation and characteristics: Application of I nternational Account ing Notes and common a written agreement stating the amount of the Standar ds

principal, the interest rate, when the interest and principal are to be paid, and the restrictive covenants, if any, that must be met. The interest rate is affected by many factors including the cost of money, the Chapter 1 - I ntr oduction to I nter national Accounting Standar ds business risk factors, and the inflationary expectations associated with the business. Preface

Chapter 2

- Balance Sheet

Nominal Chapter 3 -

I ncom e Statement, Stat em ent vs. effective rates.

of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Chapter 4 - rate Cashon Flow St ator embond ent often differs from the market rate at the time of issuance. When this The stated a note Chapter Financialvalue I nstr uments—Cash ables occurs,5the- present of the interest and and Receiv principal payments will differ from the maturity, or face

value. If6 the exceeds the stated rate, the cash proceeds will be less than the face value of Chapter - Imarket nventorrate y the debt7 because theRecogni presenttion, value of the total interest principal payments discounted back to the Chapter - Rev enue I ncluding Constr uctionand Contr act s present8yields an amount less than the face value. Because an investor is rarely willing to pay Chapter - Property , Plantthat , andis Equipment more than present value, Chapter 9 -the I ntangi ble Asset s the bonds must be issued at a discount. The discount is the difference between theI nterests issuanceinprice (present and the face, or stated, value of the bonds. This discount is Financial Instrvalue) um ent s, Associat es, Joint Ventur es, and then amortized over ent thePr life of ty the bonds to increase the recognized interest expense so that the total I nvestm oper amount11 of -the expense represents and the actual bond Chapter Business Combinations Consolidat edyield. Fin ancial Statements Chapter 10 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 stated When the rateSheet exceeds Balance Datethe market rate, the bond will sell for more than its face value (at a

premium) bring theI nstr effective rate to theTer market Chapter 13 to - Financial uments—Longm Debtrate and will decrease the total interest expense.

When the market and stated rates are equivalent at the time of issuance, no discount or premium exists and the instrument will sell at its face value. Changes in the market rate subsequent to issuance Chapter 15 - I ncom e Taxes are irrelevant in determining the discount or premium or their amortization. Chapter 14 - Leases

Chapter 16 - Em ploy ee Benefit s

Chapter 17 a - Stock holder s' Equit y Notes are common form of exchange in business transactions for cash, property, goods, and Chapter 18 Most - Earnings Share services. notes Per carry a stated rate of interest, but it is not uncommon for noninterest-bearing Chapter - I nterim Financial Repor ting notes or19notes bearing an unrealistic rate of interest to be exchanged. Notes such as these, which are long-term nature, not ting reflect the economic substance of the transaction since the face value of the Chapter 20 in - Segm entdo Repor

note does representChanges the present value of theof consideration involved. Not recording the note at its Chapter 21 -not Accounting and Cor rection Er ror s present22 value misstate the cost of the asset or services to the buyer, as well as the selling price and Chapter - Forwill eign Curr ency profit to23 the- seller. InPart subsequent periods, both the interest expense and revenue will be misstated. Chapter Relatedy Disclosures Chapter 24 - Specialized I ndustr ies

While international accounting standards do not prescribe how to measure transactions such as those described above, several different models are discussed. In describing one of the common methods of Chapter 26 - Gov er nm ent Gr an ts reporting the elements of financial statements in the IASC's Framework for the Preparation and Appendix A - Diof sclosure Checklist Presentation Financial Statements, it is stated that "liabilities are carried at the present discounted Appendix B I llustrativ e St atem ent sauthors' Pr esent ed Under unless I AS value of future net cashFinancial outflows...." In the opinion, the obligations issued in Appendix C Com parison of I AS, US GAAP, and UK GAAP nonmonetary transactions (e.g., acquisition of plant assets in exchange for long-term debt) are I ndex recorded at their discounted present values, using the borrowing entity's applicable marginal borrowing List of the Tables rate, economic substance of the transaction will be misstated, possibly materially so. Chapter 25 - I nflation and Hyperinflation

List of Ex hibits and Ex am ples

Accordingly, List of Sidebar sit is suggested that all commitments to pay (and receive) money at a determinable future date be subjected to present value techniques and, if necessary, interest imputation, with the exceptions of the following: 1. Normal accounts payable due within one year 2. Amounts to be applied to purchase price of goods or services or that provide security to an agreement (e.g., advances, progress payments, security deposits, and retainages) 3. Transactions between parent and subsidiary

4. Obligations payable at some indeterminable future date (warranties) 5. Lending and depositor savings activities of financial institutions whose primary business is W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f lending money I n t er n at ion al Accou n t in g St an d ar ds ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali

6. Transactions where interest rates are affected by prescriptions of a governmental agency (e.g., Mir za revenue bonds, tax exempt obligations, etc.) John Wi ley & Sons © 2003 (952 pages) com pact and t ruly com pr ehensive qui ck - refer ence Notes issuedThis solely for cash. pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial

When a note is issued solelypresent for cash, present value to be equal to the cash proceeds. statements ed its in accordance withisI assumed AS. The interest rate is that rate which equates the cash proceeds to the amounts to be paid in the future T ab le no of Con t en t srate is to be imputed). For example, a $1,000 note due in three years that sells for (i.e., interest Wiley er pretation and Application of where I nternational ing value factor of a lump sum at $889I AS has20an03—Int implicit rate of 4% ($1,000 x .889, .889 isAccount the present Standar ds 4% for three years). This rate is to be used when amortizing the discount. Preface Chapter - I ntr oduction to I nter national Accounting Standar ds Notes1 issued for cash and a right or privilege. Chapter 2

- Balance Sheet

Often when Iancom noteebearing an unrealistic of interest is issued in Statem exchange Statement, Stat em entrate of Chan ges in Equit y, and ent for cash, an additional Chapter 3 of Recognized Gains Losses right or privilege is granted, suchand as the issuer agreeing to sell merchandise to the purchaser at a Chapter reduced4 rate. - Cash TheFlow difference St at embetween ent the present value of the receivable and the cash loaned should logically5 be- regarded an addition to the cost of the products purchased for the purchaser/lender and Chapter Financial Ias nstr uments—Cash and Receiv ables as unearned revenuey to the issuer. This treatment stems from the desire to match revenue and Chapter 6 - I nventor expense periods andI ncluding to differentiate between those Chapter 7 in- the Revproper enue Recogni tion, Constr uction Contr act sfactors that affect income from operations income or expense from nonoperating sources. In the situation above, the discount Chapter 8 - and Property , Plant , and Equipment (difference theAsset cash Chapter 9 - between I ntangi ble s loaned and the present value of the note) will be amortized to interest revenue or expense, while the unearned revenue or contractual right is amortized to sales and I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 respectively. inventory, The discount affects income from nonoperational sources, while the unearned I nvestm ent Pr oper ty revenue or contractual right affects the gross profit This differentiation is necessary Chapter 11 - Business Combinations and Consolidat edcomputation. Fin ancial Statements because theCurr amortization rates used differ for the two amounts. ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 -

Balance Sheet Date

Example of accounting for a note issued for both cash and a contractual right

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 1. Miller 14 - Leases borrows $10,000 via a noninterest-bearing 3-year note from Krueger. Chapter 15 - I ncom e Taxes

2. Miller agrees to sell $50,000 of merchandise to Krueger at less than the ordinary retail price for the duration of the note.

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y

Chapter 18 - fair Earnings Share on a note such as this is 10%. 3. The rate ofPer interest Chapter 19 - I nterim Financial Repor ting

As set forth in theent discussion Chapter 20 - Segm Repor tingabove, the difference between the present value of the note and the face value of21the loan is to be regarded part of theofcost Chapter - Accounting Changes andasCor rection Er rorof s the products purchased under the agreement. The present value for an amount due in 3 years at 10% is .75132. Therefore, the present value Chapter 22 - For eignfactor Curr ency of the note $7,513Part ($10,000 x .75132). The $2,487 ($10,000 - $7,513) difference between the face Chapter 23 - isRelatedy Disclosures value and the present value is to be recorded as a discount on the note payable and as unearned revenue on the future purchases. The following entries would be made to record the transaction:

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Miller Appendix A - Di sclosure Checklist

Krueger

Appendix St atem ent s Pr esent ed Under I AS Cash B - I llustrativ e Financial 10,000 Note receivable Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Discount on note payable

I ndex

2,487

Contract right with supplier

10,000 2,487

List of Tables

List of Ex hibits Ex am ples Note and payable List of Sidebar s

Unearned revenue

10,000 2,487

Cash Discount on note receivable

10,000 2,487

The discount on note payable (and note receivable) should be amortized using the effective interest (constant yield) method, while the unearned revenue account and contract right with supplier account are amortized on a pro rata basis as the right to purchase merchandise is used up. Thus, if Krueger purchased $20,000 of merchandise from Miller in the first year, the following entries would be necessary:

Miller

Krueger [a]

Unearned revenue (oriocost W ile y I AS 2 0 03 :995 I n t erp re t at ion anInventory d Ap p licat n o f of sales)

995

I n t er n at ion al Accou n t in g St an d ar ds

Sales

995

by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

Interest expense

751

995

Contract right with ISBN:0471227366 supplier Discount on note receivable

751

This com pact and t ruly com pr ehensive qui ck - refer ence [b] guide to dependInterest on for revenue Discount pr onesent notes account ants with a751 assistance in the prepar at ion and under standing of financial payable statements present ed in accordance with I AS.

[a]$2,487

751

x (20,000/50,000)

T ab le of Con t en t s [b]$7,513 Wiley I AS 20 x 03—Int 10% er pretation and Application of I nternational Account ing Standar ds

Preface The amortization of unearned revenue and contract right with supplier accounts will fluctuate with the

amount1of -purchases made. If there is a Accounting balance remaining in the account at the end of the loan term, it Chapter I ntr oduction to I nter national Standar ds is amortized to the appropriate account in that final year. Chapter 2 - Balance Sheet Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Chapter Noncash 4 - Cash transactions. Flow St at em ent Chapter 5

- Financial I nstr uments—Cash and Receiv ables When a6 note is issued Chapter - I nventor y for consideration such as property, goods, or services, and the transaction is

entered into at arm's length, the stated interest rate is presumed to be fair unless (1) no interest rate is - Rev enue Recogni tion, I ncluding Constr uction Contr act s stated, (2) the stated rate is unreasonable, or (3) the face value of the debt is materially different from Chapter 8 - Property , Plant , and Equipment the consideration involved or the current market value of the note at the date of the transaction. As Chapter 9 - I ntangi ble Asset s discussed above, it is recommended that when the rate on the note is not considered fair, the note is to I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - at the fair market value of the property, goods, or services received or at an amount that be recorded I nvestm ent Pr oper ty reasonably approximates the market value of the note, whichever is the more clearly determinable. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements When this amount differs from the face value of the note, the difference is to be recorded as a discount Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - and amortized to interest expense. or premium Balance Sheet Date Chapter 7

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Example of accounting for a note exchanged for property

Chapter 14 - Leases

1. Alpha sells eBeta a machine that has a fair market value of $7,510. Chapter 15 - I ncom Taxes Chapter 16 - Em ploy ee Benefit s

2. Alpha receives a 3-year noninterest-bearing note having a face value of $10,000.

Chapter 17 - Stock holder s' Equit y

Chapter 18 - Earnings Permarket Share value of the consideration is readily determinable and thus represents In this situation, the fair Chapter the amount 19 - at I nterim whichFinancial the noteRepor is to be tingrecorded. The following entry is necessary: Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes7,510 and Cor rection of Er ror s Machine Chapter 22 - For eign Curr ency

Discount on notes payable

2,490

Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized Notes payable I ndustr ies

10,000

Chapter 25 - I nflation and Hyperinflation

The discount willerbe Chapter 26 - Gov nmamortized ent Gr an tsto interest expense over the 3-year period using the interest rate implied Ain -the transaction. Appendix Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

If the fair market value of the consideration or note is not determinable, the present value of the note must be determined using an imputed interest rate. This rate will then be used to establish the present List of Tables value of the note by discounting all future payments on the note at this rate. General guidelines for List of Ex hibits and Ex am ples imputing the interest rate include the prevailing rates of similar instruments from creditors with similar List of Sidebar credit ratingssand the rate the debtor could obtain for similar financing from other sources. Other determining factors include any collateral or restrictive covenants involved, the current and expected prime rate, and other terms pertaining to the instrument. The objective is to approximate the rate of interest that would have resulted if an independent borrower and lender had negotiated a similar transaction under comparable terms and conditions. This determination is as of the issuance date, and any subsequent changes in interest rates would be irrelevant. I ndex

Bonds represent a promise to pay a sum of money at a designated maturity date plus periodic interest payments at a stated rate. Bonds are used primarily to borrow funds from the general public or

institutional investors when a contract for a single amount (a note) is too large for one lender to supply. Dividing up the amount needed into $1,000 or $10,000 units makes it easier to sell the bonds. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

In most situations, a bond is issued at a price other than its face value. The amount of the cash I n t er n at ion al Accou n t in g St an d ar ds exchanged is equal to the total of the present value of the interest and principal payments. The ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali difference between Mirthe za cash proceeds and the face value is recorded as a premium if the cash proceeds are greater discount are pages) less. The journal entry to record a bond issued at a John or Wialey & Sons if © they 2003 (952 premium follows: This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial (proceeds) statements present ed in accordance with I AS.

Cash

Premium on bonds payable

(difference)

T ab le of Con t en t s

(face value)

payable Wiley I AS Bonds 20 03—Int er pretation and Application of I nternational Account ing Standar ds The premium will be recognized over the life of the bond issue. If issued at a discount, "Discount on Preface bonds payable" would betodebited for theAccounting difference. Standar As the premium is amortized, it will reduce interest Chapter 1 - I ntr oduction I nter national ds expense the books of the issuer (a discount will increase interest expense). The premium (discount) Chapter 2 on - Balance Sheet would be added toe(deducted theent related liability sheet I ncom Statement,from) Stat em of Chan ges inwhen Equitay,balance and Statem entis prepared.

Chapter 3

-

of Recognized Gains and Losses

Theeffective interest method is the preferred method of accounting for a discount or premium arising Chapter 4 - Cash Flow St at em ent from a note or bond, although some other method may be used (e.g., straight-line) if the results are not Chapter 5 - Financial I nstr uments—Cash and Receiv ables materially different. Although the effective interest method is not prescribed under international Chapter 6 - I nventor y accounting standards as such, the profession has made the use of the effective interest method the Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s only acceptable one. Under the effective interest method, the discount or premium is to be amortized Chapter 8 - Property , Plant , and Equipment over the life of the debt in such a way as to result in a constant rate of interest when applied to the Chapter - I ntangi ble s amount9outstanding atAsset the beginning of any given period. Therefore, interest expense is equal to the I nterests in Financial um ent s, multiplied Associat es,by Joint es, and market 10 rate- of interest at the timeInstr of issuance thisVentur beginning figure. The difference Chapter I nvestm ent Pr oper ty between the interest expense and the cash paid represents the amortization of the discount or Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements premium. Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balance Sheet Dateamortization method does not result in a material distortion as compared Where use of the straight-line Chapter 13 Financial I nstr uments—Longm be Debt to the effective interest method, it would Ter also acceptable. Interest expense under the straight-line Chapter 14 Leases method is equal to the cash interest paid plus the amortized portion of the discount or minus the Chapter 15 -portion I ncom of e Taxes amortized the premium. The amortized portion is equal to the total amount of the discount or premium byee the life ofs the debt from issuance in months multiplied by the number of months the Chapter 16divided - Em ploy Benefit debt has been outstanding thaty year. Formerly, the straight-line method was used because it eliminated Chapter 17 - Stock holder s' Equit the complicated calculations required by the effective interest method; however, the prevalence of Chapter 18 - Earnings Per Share computers and of programs that compute the interest accrual under the more accurate effective Chapter 19 - I nterim Financial Repor ting interest method have largely eliminated this reason. Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

Amortization tables are often created at the time of the bond's issuance to provide figures when recording the necessary entries relating to the debt issue. They also provide a check of accuracy since Chapter - Relatedy Disclosures the final23values in thePart unamortized discount or premium and carrying value columns should be equal to Chapter 24 Specialized I zero and the bond's facendustr value,iesrespectively. Chapter 22 - For eign Curr ency

Chapter 25 - I nflation and Hyperinflation

Example applying theGreffective interest method Chapter 26 of - Gov er nm ent an ts Appendix - Di sclosure Checklist 1. AAthree-year, 12%, $10.000 bond is issued at 1/1/03, with interest payments semiannually. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

2. The rate isof 10%. Appendix C - market Com parison I AS, US GAAP, and UK GAAP I ndex

The amortization table would appear as follows:

List of Tables

List of Ex hibits and Ex am ples List of Sidebar s

Date

Credit cash

Debit int. exp.

Debit prem.

$10,507.61[a]

ISBN:0471227366 432.99 [e]

10,432.99[f]

354.64

10.354.64

This com pact and 517.73 t ruly com pr ehensive qui ck - refer ence 272.37 600.00 82.27 pr esent s account ants with a guide to depend on for 600.00 513.62 86.38 185.99 assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

10,272.37

by Bar [b] r y J. Epstein and [c] Abbas Ali $ 600.00 $ 525.38 $ 74.62[d]

Mir za 600.00 John Wi ley & Sons521.65 © 2003 (952 pages) 78.35

1/1/04 7/1/04 1/1/05 7/1/05

600.00

T ab le of Con t en t s

1/1/06

Carrying Value

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f $507.61 I n t er n at ion al Accou n t in g St an d ar ds

1/1/03 7/1/03

Unam. prem. bal.

600.00

10,185.99

509.30

90.70

95.29

10.095.29

504.71 [g]

95.29

--

$10,000,00

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds $3,600,00 $3,092,39 $507.61 [a]PV of principal and interest payments Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds $10,000(.74622) = $Sheet 7,462,20 Chapter 2 - Balance I ncom=e3,045,41 Statement, Stat em ent of Chan ges in Equit y, and Statem ent $ 600(5.07569) Chapter 3 of Recognized Gains and Losses Chapter 4

- Cash Flow St at em ent $10,507,61

[b]$10,000.00x.06 Chapter 5 - Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

[c]

$10,507.61 x.05 Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

[d]$600.00

- $525.38

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and [e]$507.61 Chapter 10 - - $74.62 I nvestm ent Pr oper ty Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements [f]

$10,507.61 - $74.62

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

(or $10.000 + $432.99) Chapter 13 - Financial I nstr uments—Long- Ter m Debt [g]Rounding error = $.05 Chapter 14 - Leases Chapter 15 - I ncom e Taxes

Chapter 16 interest - Em ploydate ee Benefit When the does snot coincide with the year-end, an adjusting entry must be made. The Chapter 17 - Stock s' Equitpayable y proportional shareholder of interest should be recognized along with the amortization of the discount Chapter 18 - Earnings Peramortization Share or premium. Within the period, the discount or premium can be amortized using the Chapter 19 - Imethod, nterim Financial Repor ting straight-line as a practical matter, or can be computed more precisely as described above. Chapter 20 - Segm ent Repor ting

If the bonds are issued between interest dates, discount or premium amortization must be computed for the period between the sale date and the next interest date. This is accomplished by "straight-lining" Chapter 22 - For eign Curr ency the period's amount calculated using the usual method of amortization. In addition, the purchaser Chapter 23 - Related- Part y Disclosures prepays the seller the amount of interest that has accrued since the last interest date. This interest is Chapter 24 - Specialized I ndustr ies recorded as a payable by the seller. At the next interest date, the buyer then receives the full amount of Chapter 25 - I nflation and Hyperinflation interest regardless of how long the bond has been held. This procedure results in interest being paid Chapter 26 -toGov nm ent an ts has been outstanding. equivalent theertime theGrbond Chapter 21 - Accounting Changes and Cor rection of Er ror s

Appendix A - Di sclosure Checklist

Costs may incurred in connection with bonds. Examples include legal, accounting, and Appendix B - be I llustrativ e Financial St atem entissuing s Pr esent ed Under I AS underwriting fees; commissions; and engraving, Appendix C - Com parison of I AS, US GAAP, and UKprinting, GAAP and registration costs. Although these costs should be classified as a deferred charge and amortized using the effective interest method, generally I ndex theofamount List Tables involved is insignificant enough that use of the simpler straight-line method would not result in aofmaterial These costs do not provide any future economic benefit and therefore should List Ex hibits difference. and Ex am ples

not be considered an asset. Since these costs reduce the amount of cash proceeds, they in effect increase the effective interest rate and probably should be accounted for the same as an unamortized discount. Short-term debt obligations that are expected to be refinanced on a long-term basis, and that accordingly are classified as long-term debt according to IAS 1, are discussed in Chapter 12.

List of Sidebar s

The diagram below illustrates the recommended accounting treatments for monetary assets (and liabilities).

Extinguishment of Debt

Substantial modification of the terms of existing debt. ile y I AS and 2 0 03 : I n t erp re t atexchange ion an d Ap p licat io n owith f When an existingWborrower lender of debt instruments substantially different terms, I n t er n at ion al Accou n t in g St an d ar ds this represents an extinguishment of the old debt and results in derecognition of that debt and ISBN:0471227366 by Bar r y instrument. J. Epstein and Abbas Ali recognition of a new debt IAS 39 (paras. 61 and 62) deal with "substantial modification of Mir za the terms" of an existing debt instrument and require that it should be accounted for as an John Wi ley & Sons © 2003 (952 pages) extinguishment of the old debt, provided that the discounted present value of cash flows under the and t ruly com pr ehensive qui ck - refer ence terms of the new This debtcom is atpact least 10% greater or lesser than the discounted present value of the pr esent s account ants with a guide to depend on for remaining cash flows of the original debtatinstrument. assistance in the prepar ion and under standing of financial statements present ed in accordance with I AS.

In computing the discounted present values for determining whether the 10% limit has been exceeded, T ab le ofwas Conconcern t en t s over whether the effective interest rate of the debt being modified or exchanged, or there Wiley I AS 20 03—Int er pretation and Application debt, of I nternational ing issue was considered by the the effective interest rate of the replacement should be Account used. This Standar IAS 39dsImplementation Guidance Committee (IGC), which addressed many unresolved matters arising Preface from the promulgation of IAS 39. In IGC 62-1, this matter is discussed and resolved by concluding that Chapter 1 -could I ntr oduction to I nteremployed, national Accounting Standar ds effective interest rate is used should be either rate be reasonably but that whichever Chapter 2 Balance Sheet applied consistently to all modifications and exchanges of debt instruments. I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Chapter 3

The IGC further elaboratedGains uponand theLosses rule in IAS 39 by stating that, if the difference in present values is of Recognized at least410%, the Flow transaction Chapter - Cash St at em is entto be accounted for as an extinguishment of the old debt. On the other hand, if5the- difference is less than 10%, and the difference is amortized over the remaining term of the debt Chapter Financial I nstr uments—Cash Receiv ables instrument. Chapter 6 - I nventor y Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

If an exchange of debt instruments or modification of terms is accounted for as an extinguishment, any - Property , Plant , and Equipment costs or fees incurred are recognized as part of the gain or loss on the extinguishments. Otherwise, any Chapter 9 - I ntangi ble in Asset costs or fees incurred thestransaction are accounted for as an adjustment to the carrying amount of I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and the liability Chapter 10 - and are amortized over the remaining term of the modified loan. Chapter 8

I nvestm ent Pr oper ty

Chapter 11 -39, Business Combinations and Consolidat ed Fin ancial Statements Under IAS the reasons for the debt modification or exchange are irrelevant—in contrast to US Curr ent Liabilithad ies,applied Prov isions, Cont ingencies, and Ev ents after t herestructurings." GAAP, which historically different accounting to "troubled debt Chapter 12 Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

Example of accounting for debt exchange or restructuring with gain recognition

Assume that Debtor Corp. owes Friendly Bank $90,000 on a 5% interest-bearing non-amortizing note payable in five years, plus accrued and unpaid interest, due immediately, of $4,500. Friendly Bank W ile y I AS 2 0 03 :Debtor I n t erpCorp., re t at ion an disAp p licat iolosses n o f and is threatening to declare agrees to a restructuring to assist which suffering I n t er n at ion al Accou n t in g St an d ar ds bankruptcy. The interest rate is reduced to 4%, the principal is reduced to $72,500, and the accrued ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali interest is forgiven outright. Future interest payments are due in arrears annually, and the principal is Mir za due in a lump sum at maturity. John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive - refer ence Under IAS 39, whether Debtor Corp. recognizes a gain qui on ck the restructuring depends on whether the pr esent s account ants with a guide to depend on for 10% threshold is assistance exceeded.inAssume that 5% is the relevant discount rate to be used to compare the the prepar at ion and under standing of financial present values ofstatements the old andpresent the new obligations. The present value of the old debt is simply the ed debt in accordance with I AS. principal amount, $90,000, plus the interest due at present, $4,500, for a total of $94,500. T ab le of Con t en t s

The present value er ofpretation the replacement debt is of theI nternational discounted Account present ing value of the reduced principal and Wiley I AS 20 03—Int and Application Standar ds the reduced future interest payments; the forgiven interest in arrears does not enter the calculation. Preface The reduced principal, $72,500, discounted using a 5% discount factor (= .78353), has a present value Chapter 1 - The I ntr oduction to future I nter national dsx .04 = $2,900 annually in arrears), of $56,806. stream of interestAccounting payments Standar ($72,500

discounted 5% (= Sheet 4.3293 annuity factor), has a present value of $12,555. The total present value, Chapter 2 - at Balance therefore, is I($56,806 + $12,555Stat =) em $69,361, which is in about below theent present value of the old ncom e Statement, ent of Chan ges Equit27% y, and Statem of Recognized Gains andthe Losses debt obligation. Accordingly, since 10% threshold is exceeded, the difference of ($94,500 - $69,361 Chapter 4 - is Cash Flow St atas emaent =) $25,139 recognized gain at the date of the restructuring. Chapter 3

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

The entry to record this event would be - I nventor y

Chapter 6 Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Debt obligation (old), Plant payable 90,000 Chapter 8 - Property , and Equipment

Chapter 9 payable - I ntangi ble Asset s Interest 4,500 I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 -on debt obligation (new) Discount 3,139 I nvestm ent Pr oper ty Chapter 11 - Business Combinations and Consolidat72,500 ed Fin ancial Statements Debt obligation (new) Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he payable Chapter 12 Balance Sheet Date

25,139 Chapter 13 - Financial nstr uments—Long- Ter m Debt Gain on debtI restructuring Chapter 14 - Leases

Note that new edebt obligation is recorded at a net of $69,361, not at the face value of $72,500. The Chapter 15 the - I ncom Taxes difference, is aBenefit discount to be amortized to interest expense over the next five years, in order to Chapter 16 - $3,139, Em ploy ee s reflect the Chapter 17 -actual Stock market holder s'rate Equitofy 5%, rather than the nominal 4% being charged. Amortization should be accomplished on the Per effective Chapter 18 - Earnings Share yield method, although if the discrepancy is not material the straight-line method may be employed.

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

Example of accounting for debt exchange or restructuring with gain deferral

Chapter 22 - For eign Curr ency

Chapter - RelatedPart y Disclosures Assume23now that Hopeless Corp. owes Callous Bank $90,000 on a 5% interest-bearing nonamortizing Chapter 24 - Specialized I ndustr note payable in five years, plusies accrued and unpaid interest, due immediately, of $4,500. Callous Bank Chapter I nflation and Hyperinflation agrees 25 to a- restructuring to assist Hopeless Corp., which is also suffering losses and is threatening to Chapter declare26 bankruptcy. - Gov er nmHowever, ent Gr an tsCallous is only willing to reduce the principal amount from $90,000 to

$85,000,Aand to 4.5% from 5%. It is not willing to forego the currently owed $4,500 Appendix - Di reduce sclosureinterest Checklist interest payment, andefurthermore requires the ed loan maturity Appendix B - I llustrativ Financial St atem ent s that Pr esent Under I AS be shortened to three years, from five, in order to risk. Hopeless theUK new terms. Appendix C -limit Comits parison of I AS, USagrees GAAP, to and GAAP I ndex

In order to comply with IAS 39, the present value of the new debt must be compared to the present value of the old, existing obligation. As in the preceding example, the present value of the old debt is List of Ex hibits and Ex am ples simply the principal amount, $90,000, plus the interest due at present, $4,500, for a total of $94,500. List of Tables

List of Sidebar s

The present value of the replacement debt is the discounted present value of the reduced principal and the reduced future interest payments, plus the interest using a 5% discount factor (= .86384 for the new three-year term), has a present value of $73,426. The stream of future interest payments ($85,000 x .045 = $3,825 annually in arrears), discounted at 5% (= 2.7231 annuity factor), has a present value of $10,416. The total present value, therefore, is ($73,426 + $10,416 + $4,500 =) $88,342, which is about 7% below the present value of the old debt obligation. Accordingly, since the 10% threshold is not exceeded, the difference of ($94,500 - $88,342 =) $6,158 is not recognized as a gain at the date of the restructuring, but rather is deferred and amortized over the new three-year term of the restructured

loan. The entry to record this event would be

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Debt obligation (old) payable 90,000 by Bar r y J. Epstein and Abbas Ali Mir za Discount on debt obligation (new) 1,158

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages)

Debt obligation This com (new) pact payable and t ruly com pr ehensive85,000 qui ck - refer ence pr esent s account ants with a guide to depend on for

6,158 of financial in the prepar at ion and under standing Deferred assistance gain on debt statements present ed in accordance with I AS. restructuring T ab le of Con t en t s

Note that the new debt obligation is recorded at a net of $83,842, not at the face value of $85,000. The

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing difference Standar ds of $1,158 represents a discount to be amortized to interest expense over the subsequent

three years; this will result in an interest expense at the actual market rate of 5%, rather than at the Preface

nominal 4.5% rate. Amortization should be computed on the effective yield method, although if the - I ntr oduction to I nter national Accounting Standar ds discrepancy is not material the straight-line method may be employed. The deferred gain, $6,158, will Chapter 2 - Balance Sheet be amortized over the three-year revised term. While the discount amortization will be added to interest I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 IAS expense. is silent as to how amortization of the deferred gain should be handled. However, of 39 Recognized Gains and the Losses by reference to how a gain in excess of the 10% threshold (and thus been subject to immediate Chapter 4 - Cash Flow St at em ent recognition) would have been reported, it is thought likely that this amortization should be included in Chapter 5 - Financial I nstr uments—Cash and Receiv ables "other income," and should not be offset against interest expense. Chapter 1

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8 - Property , Plant and from Equipment Presentation of the gain or, loss debt restructurings is not explicitly dealt with under IAS. While US Chapter 9 I ntangi ble Asset s GAAP for many years required that such gain or loss be shown as an "extraordinary item" in the income I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and statement, Chapter 10 - it very recently has eliminated that treatment. (Such gain or loss may still appear as an I nvestm ent only Pr oper ty more general criteria for such display are met, which would typically extraordinary item, but if the Chapter 11 -case.) Business Combinations and Consolidat ed Fin ancial Statements not be the Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 Sheet Date moot under IAS, since the Improvements Project's proposed This concernBalance will shortly become Chapter 13 - Financial nstr uments—LongTer m amendment to IAS 8 Iwould totally eliminate theDebt extraordinary items classification. Accordingly, the gain Chapter or loss 14 on debt - Leases extinguishments should probably be displayed as an item of "other" income or expense

in the income statement Chapter 15 - I ncom e Taxesprepared in conformity with IAS. Chapter 16 - Em ploy ee Benefit s

Defeasance debt. Chapter 17 - Stockof holder s' Equit y Chapter 18 - Earnings Per Share

For some period of time the practice of in-substance defeasance enjoyed popularity, to a possibly large extent due to the accounting treatment that was permitted under earlier US GAAP. In-substance Chapter 20 - Segm ent Repor ting defeasance occurs when certain assets are set aside in an irrevocable trust arrangement, to be used Chapter 21 the - Accounting Changes and retirement Cor rection of of specific Er ror s debt obligations. If the cash flows from the solely for servicing and ultimate Chapter 22 For eign Curr ency segregated assets are carefully matched to the debt service and retirements obligations, the Chapter 23 - entity Relatedy Disclosures sponsoring willPart have no further concerns, even if its legal obligations have not been satisfied, Chapter 24 that - Specialized I ndustr ies assuming the assets so segregated (e.g., government bonds) have no or only remote credit risk. Chapter 19 - I nterim Financial Repor ting

Chapter 25 - I nflation and Hyperinflation

Under a26now-superseded standard, the sponsor was permitted to remove both the segregated Chapter - Gov er nm ent GrUS an ts

assets and debt from its balance sheet. While this would not have any impact on the entity's net Appendix A - the Di sclosure Checklist

equity or its future net earnings, it did reduce both assets and liabilities by a like amount, thereby improving its debt-to-equity ratio and, accordingly, its apparent financial strength or lack of riskiness. Appendix C - Com parison of I AS, US GAAP, and UK GAAP This was often referred to as "window dressing" the balance sheet and was severely criticized by many I ndex commentators on financial reporting matters. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

List of Tables

List of practice Ex hibits was and Ex am ples This subsequently prohibited by SFAS 125 and remains so by replacement standard List of Sidebar SFAS 140. s

The matter of in-substance defeasance has more recently been addressed by IAS. According to IAS 39, payments to a third party (including a trust) do not relieve the debtor of its primary obligation to the creditor of record, in the absence of legal release. Accordingly, in-substance defeasance cannot be accounted for as elimination of debt and of the segregated assets.

Computing the gain or loss on debt extinguishments.

The difference between the net carrying value and the acquisition price is to be recorded as a gain or loss. If the acquisition price is greater than the carrying value, a loss exists. A gain is generated if the acquisition price is These or losses W less ile y Ithan AS 2the 0 03carrying : I n t erpvalue. re t at ion an dgains Ap p licat io n o fare to be recognized in the period in which the retirement took place. These should be reported as "other" income or expense, I n t er n at ion al Accou n t in g St an d ar ds which is the samebycategory in which interest expense is normally reported. It would not be appropriate, ISBN:0471227366 Bar r y J. Epstein and Abbas Ali however, to include Mir za any gain or loss in the interest pool from which capitalized interest is computed under IAS 23 (discussed in Chapter John Wi ley & Sons ©8). 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence

The unamortizedprpremium or discount issue should esent s account ants withand a guide to costs depend on for be amortized to the acquisition date and recorded prior to in determination of the or standing loss. If the extinguishment of debt does not assistance the prepar at ion andgain under of financial statements present ed payable in accordance withbetween I AS. occur on the interest date, the interest accruing the last interest date and the acquisition date must also be recorded. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Example of accounting for the extinguishment of debt Standar ds

1. A 10%, ten-year, $200,000 bond is dated and issued on 1/1/03 at $98, with the interest payable Preface Chapter semiannually. 1 - I ntr oduction to I nter national Accounting Standar ds Chapter 2

- Balance Sheet

Chapter 3

-

2. Associated bond issue costs of $14,000 are incurred.

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

3. Four years later, on 1/1/07, the entire bond issue is repurchased at $102 per $100 face value Chapter 4 - Cash Flow St at em ent and is retired. Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 4. The 6 - straight-line I nventor y method of amortization is used since the result is not materially different from

the Recogni effectivetion, interest method is used. Chapter that 7 - when Rev enue I ncluding Constr uction Contr act s Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

The gain or loss on the repurchase is computed as follows:

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 Reacquisition priceent [(102/100) $204,000 I nvestm Pr oper tyx $200,000] Chapter 11 - Business Net carrying amount:Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balance Face value Sheet Date

$200,000

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Unamortized discount [2% x 200,000 x Chapter 14 - Leases

(2,400)

Chapter 16 - Em ploy ee Benefit s

(8,400)

(6/10)] Chapter 15 - I ncom e Taxes

Unamortized issue costs [14,000 x (6/10)]

Chapter 17 - Stock holder s' Equit y

Loss on repurchase Chapter 18 bond - Earnings Per Share

189,200 $ 14,800

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

Convertible Debt

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Bonds are issued with the right to convert them into common stock of the company at the Chapter 23 -frequently Related- Part y Disclosures holder's24option when certain terms Chapter - Specialized I ndustr ies and conditions are met (i.e., a target market price is reached). Convertible is used two reasons. First, when a specific amount of funds is needed, convertible Chapter 25 - Idebt nflation and for Hyperinflation debt often Chapter 26 -allows Gov erfewer nm entshares Gr an ts to be issued (assuming conversion) than if the funds were raised by

directly issuing the shares. Thus, less dilution occurs. Second, the conversion feature allows debt to be issued at a lower interest rate and with fewer restrictive covenants than if the debt were issued without Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS it. Appendix A - Di sclosure Checklist

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

I ndex This dual nature of debt and equity, however, creates a question as to whether the equity element List of Tables should receive separate recognition. Support for separate treatment is based on the assumption that List Ex hibits and Exhas am ples thisofequity element economic value. Since the convertible feature tends to lower the rate of interest, it can List of Sidebar s easily be argued that a portion of the proceeds should be allocated to this equity feature.

On the other hand, a case can be made that the debt and equity elements are inseparable, and thus that the instrument is either all debt or all equity. International accounting standards had not previously addressed this matter directly, although the focus of Framework for Preparation and Presentation of Financial Statements on "true and fair presentation" could be said to support the notion that the proceeds of a convertible debt offering be allocated between debt and equity accounts. The promulgation of IAS 32 resulted in the defining of convertible bonds (among other instruments) as being compound financial instruments, the component parts of which must be classified according to their separate characteristics.

Features of convertible debt. W ile y debt I AS 2typically 0 03 : I ninclude t erp re t (1) at ion an d Ap p licat io n15 o fto 20% greater than the market Features of convertible a conversion price I n t er n at ion al Accou n t in g St an d ar ds value of the stock when the debt is issued; (2) conversion features (price and number of shares) that ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali protect against dilution from stock dividends, splits, and so on; and (3) a callable feature at the issuer's Mir za option that is usually exercised once the conversion price is reached (thus forcing conversion or John Wi ley & Sons © 2003 (952 pages) redemption).

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for Convertible debt also has its disadvantages. If the stock price increases significantly after the debt is assistance in the prepar at ion and under standing of financial issued, the issuerstatements would havepresent been ed better off simply by issuing in accordance with I AS. the stock. Additionally, if the price of the

stock does not reach the conversion price, the debt will never be converted (a condition known as T ab le of Con t en ts overhanging debt). Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Accounting for compound instruments. Preface Chapter IAS 32 1establishes - I ntr oduction the notion to I nter that national component Accounting parts Standar of compound ds instruments, such as convertible

bonds, 2must be accounted Chapter - Balance Sheet for separately, consistent with their separate characteristics, but does not prescribe specific methodologies toem accomplish this. measurement strategies are I ncom e Statement, Stat ent of Chan gesHowever, in Equit y, several and Statem ent Recognized noted in the of standard, andGains theseand areLosses illustrated in the following paragraphs.

Chapter 3 Chapter 4

- Cash Flow St at em ent

Residual allocation method. and Receiv ables Chapter 5 - Financial I nstr uments—Cash Chapter 6

- I nventor y

One method of allocating proceeds from the issuance of convertible debt would be allocate to the less - Rev enue Recogni tion, I ncluding Constr uction Contr act s easily measured component (probably the conversion feature) the residual after first assigning the Chapter 8 - Property , Plant , and Equipment market value to the more directly measured component (the debt, absent the conversion feature). To Chapter 9 - I ntangi ble Asset s illustrate this approach, consider the following fact situation. Chapter 7

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Example of the residual allocation method

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent convertible Liabilit ies, Prov isions, Contaggregate ingencies, and Ev entsvalue after of t he$25 million to the public at a Istanbul12Corp. sells bonds having par (face) Chapter Sheet price of $98 Balance on January 2, Date 2003. The bonds are due December 31, 2010, but can be called at $102 Chapter - Financial uments—LongTercarry m Debt anytime13after JanuaryI nstr 2, 2006. The bonds a coupon of 6% and are convertible into Istanbul Corp. Chapter 14 Leases common stock at an exchange ratio of twenty-five shares per bond (each bond having a face value of Chapter 15Taking - I ncom e Taxes $1,000). the discount on the offering price into account, the bonds were priced to yield about Chapter 16 Em ploy 6.3% to maturity. ee Benefit s Chapter 17 - Stock holder s' Equit y

The company's investment bankers have advised it that without the conversion feature, Istanbul's Chapter 18 - Earnings Per Share

bonds would have had to carry an interest yield of 8% to have been sold in the current market environment. Thus, the market price of a pure bond with a 6% coupon at January 2, 2003, would have Chapter 20 - Segm ent Repor ting been about $883.48 (the present value of a stream of semiannual interest payments of $30 per bond, Chapter 21 - Accounting Changes and Cor rection of Er ror s plus a terminal value of $1,000, discounted at a 4% semiannual rate). Chapter 19 - I nterim Financial Repor ting

Chapter 22 - For eign Curr ency

Chapter 23 - RelatedDisclosures This suggests that ofPart they $980 being paid for each bond, $883.48 is being paid for the pure debt Chapter 24 -and Specialized ndustr ies obligation, another I$96.52 is being offered for the conversion feature. Given this analysis, the entry Chapter to record 25 the - I nflation originaland issuance Hyperinflation of the $25 million in debt securities on January 2, 2003, would be as

follows:26 - Gov er nm ent Gr an ts Chapter Appendix A - Di sclosure Checklist Appendix Cash B - I llustrativ e Financial St atem ent s Pr 24,500,000 esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Discount on bonds payable

I ndex List of Tables Bonds payable List of Ex hibits and Ex am ples

Paid-in capital—conversion feature

2,913,000 25,000,000 2,413,000

List of Sidebar s

The discount should be amortized to interest expense, ideally by the effective yield method (constant return on increasing base) over the eight years to the maturity date. For purposes of this example, however, straight-line amortization ($2,913,000 ÷ 16 periods = $182,000 per semiannual period) will be used. Thus, the entry to record the June 30, 2003 interest payment would be as follows:

Interest expense

932,000

182,000 Discount W onilebonds y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f payable I n t er n at ion al Accou n t in g St an d ar ds Cash

by Bar r y J. Epstein and Abbas Ali 750,000 Mir za John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

The paid-in capital account arising the pr foregoing would form a permanent part of the This com pact and tfrom ruly com ehensivetransaction qui ck - refer ence capital of IstanbulprCorp. If the bonds are later converted, this would esent s account ants with a guide to depend on for be transferred to the common stock assistance the of prepar at ion paid and under standing financial issued. If the bondholders accounts, effectively forminginpart the price for the shares ofultimately present in accordance decline to convertstatements and the bonds areedeventually paid with off atI AS. maturity, the paid-in capital from the conversion T ab le of Con tfeature en t s will form a type of "donated capital" to the enterprise: the bondholders effectively have forfeited this capital that they had contributed to the company. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

If the bonds are not converted, the discount on the bonds payable will continue to be amortized until maturity. However, if they are converted, the remaining unamortized balance in this account, along with Chapter 1 - I ntr oduction to I nter national Accounting Standar ds the face value of the bonds, will constitute the "price" being paid for the stock to be issued. Preface

Chapter 2

- Balance Sheet

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent To illustrate Chapter 3 - this, assume the following: of Recognized Gains and Losses

On July4 1, -2006, theStbonds are tendered for conversion to common stock of Istanbul Corp. The Chapter Cash all Flow at em ent remaining valueI nstr of the bonds will be converted into common stock, which does not carry any par Chapter 5 -book Financial uments—Cash and Receiv ables or stated The yfirst step is to compute the book value of the debt. Chapter 6 value. - I nventor Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Bonds8payable Chapter - Property , Plant , and Equipment

$25,000,000

Chapter 9 on - I ntangi Asset s Discount bondsble payable Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

I nvestm ent Pr oper ty Original discount

$2,913,000

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

(1,638,000) 1,275,000 LessCurr amortization to date ent Liabilit ies, Prov(4.4 isions, Cont ingencies, and Ev ents after t he yrs.)Balance Sheet Date

Chapter 12 -

Chapter 13 -value Financial I nstr uments—Long- Ter m Debt Net book of obligation

$23,725,000

Chapter 14 - Leases Chapter 15 to - I record ncom e the Taxes The entry conversion, given the foregoing information, is as follows: Chapter 16 - Em ploy ee Benefit s Chapter - Stock holder s' Equit y Bonds17 payable Chapter 18 - Earnings Per Share

Paid-in capital—conversion feature

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Discount on bonds payable

25,000,000 2,413,000 1,275,000

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Common stock, no par Chapter 22 - For eign Curr ency

26,138,000

value Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation

Note that in the foregoing entry, the effective price recorded for the shares being issued is the book value of the remaining debt, adjusted by the price previously recorded to reflect the sale of the Appendix A - Di sclosure Checklist conversion feature. In the present instance, given the book value at the conversion date (a function of Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS when the conversion privilege was exercised), and given the conversion ratio of twenty-five shares per Appendix - Com parison of $41.82 I AS, USper GAAP, andisUK GAAP bond, anCeffective price of share being paid for the stock to be issued. This is determined I ndex without any reference to the market value at the date of the conversion. Presumably, the market price List of Tables is higher, as it is unlikely that the bondholders would surrender an asset earning 6%, with a fixed List of Ex hibits Ex am ples maturity date,and for another asset having a lower value and having an uncertain future worth (although if List Sidebar syield were somewhat higher than the equivalent bond interest, an unlikely event, this might theofdividend happen). Chapter 26 - Gov er nm ent Gr an ts

Another approach to the conversion would be to reflect the stock issuance at the then-current market value, reporting a gain or loss for the difference between the market value per share and the amount computed on the book value basis, as shown above. However, this can he criticized because it is not normally acceptable to report income statement events (the gain or loss) arising from capital transactions. For this reason, the book value approach is recommended.

Relative market value approach. The alternative toWthe residual allocation above ile y I AS 2 0value 03 : I n t erp re t atmethod ion an ddescribed Ap p licat io n o f for assigning the proceeds from the sale of convertible debt would be to measure directly the market value of each component of I n t er n at ion al Accou n t in g St an d ar ds the compound financial instrument. This may be more easily accomplished in some circumstances than ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za if options on Istanbul stock are currently being traded on the open market at the in others. For example, time the convertible debt is offered sale, it pages) would be possible to assess the value of the conversion John Wi ley & Sons for © 2003 (952 feature, although This some judgment be involved to adjust for the different features and limitations of com pact andmight t ruly com pr ehensive qui ck - refer ence esent s and account with a guide to depend onthe for following example. exchange traded pr options the ants conversion feature. Consider assistance in the prepar at ion and under standing of financial statements present ed inapproach accordance with I AS. Example of the relative market value T ab le of Con t en t s

As in the example above, Istanbul Corp. sells convertible bonds having aggregate par (face) value of

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing $25 million to the public at a price of $98 on January 2, 2003. The bonds are due December 31, 2010, Standar ds

but can be called at $102 anytime after January 2, 2006. The bonds carry a coupon of 6% and are convertible into Istanbul Corp. common stock at an exchange ratio of 25 shares per bond (each bond Chapter 1 - I ntr oduction to I nter national Accounting Standar ds having a face value of $1,000). Taking the discount on the offering price into account, the bonds were Chapter 2 - Balance Sheet priced to yield about 6.3% to maturity. Preface

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Chapter 3

-

Chapter 9

- I ntangi ble Asset s

of Recognized Gains and Losses The company's investment bankers again have advised it that without the conversion feature, Istanbul's Chapter 4 em entan interest yield of 8% to have been sold in the current market bonds wouldCash haveFlow hadSttoatcarry Chapter 5 Financial I nstr uments—Cash Receiv ables environment. Thus, the market price of aand "pure" bond with a 6% coupon at January 2, 2003, would have Chapter 6 I nventor y been about $883.48. Now, however, assume also that options on Istanbul stock are being traded on Chapter 7 market. - Rev enue tion, I ncluding Constr selling uction Contr act per s share; options to buy the stock at the open TheRecogni common stock is presently for $32 Chapter - Property , Plant , and Equipment $42 are8 trading at $3.50 each.

Since 625,000 sharesinwill be issued allent thes,bonds arees,converted, this a gross value of I nterests Financial Instrifum Associat Joint Ventur es,suggests and Chapter 10 - due to the conversion feature, or an equivalent of $87.50 per bond. However, the actual $2,187,500 I nvestm ent Pr oper ty conversion is Combinations at a lower price is attached the market-traded options ($40 vs. $42), and Chapter 11 - feature Business andthan Consolidat ed Fintoancial Statements these have aCurr longer life (8 years vs. a typical 2 years on market-traded options), so the investment ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 bankers advise Istanbul management that the value per stock right would he $6, or an indicated value Balance Sheet Date of $15013 per- Financial bond (since each is convertible into 25 shares), for a total value of $3,750,000. Since the Chapter I nstr uments—LongTer m Debt total indicated value of the conversion privilege ($3,750,000) plus the pure bonds ($883.48 x 25,000 Chapter 14 - Leases bonds =15$22,087,000) is greater (at $25,837,000) than the actual selling price of the bonds Chapter - I ncom e Taxes ($24,500,000), the ee amounts Chapter 16 - Em ploy Benefitto s be allocated to the debt and to the equity conversion feature should be pro rated, as follows: Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

22,087,000/25,837,000 24,500,000 Chapter 19 - I nterim Financialx Repor ting

=

$20,944,050

Chapter 20 - Segm ent Repor ting 3,750,000/25,837,000 x 24,500,000 = $ 3,555,950 Chapter 21 - Accounting Changes and Cor rection of Er ror s

($837.76 per bond) ($142.24 per bond)

This suggests theency $980 being paid for each bond, $837.76 is being paid for the pure debt Chapter 22 - Forthat eign of Curr obligation, another is being offered for the conversion feature. Given this analysis, the Chapter 23 -and RelatedPart$142.24 y Disclosures

entry to24 record the original issuance of the $25 million in debt securities on January 2, 2003, would be Chapter - Specialized I ndustr ies as follows:

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Cash A - Di sclosure Checklist Appendix

24.500.000

Appendix B on - I llustrativ e Financial St atem ent s Pr4,055,950 esent ed Under I AS Discount bonds payable Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Bonds payable

List of Tables

Paid-in capital—conversion

25,000,000 3,555,950

List of Ex hibits and Ex am ples feature List of Sidebar s

As with the earlier example, the indicated discount would be amortized over the term to maturity of the debt, eight years in this case, by the effective yield method, or by the straight-line method if this would not make a material difference in reported financial position and results of operations. It might be noted that under present US GAAP, when convertible debt is issued no value is apportioned to the conversion feature when recording the issue. However, it is likely that US standards will eventually follow the path set by IAS 32 in this regard, since the issue of accounting for compound

financial instruments has been debated for over five years and the existence of the newly promulgated international standard will doubtless put added pressure on US standard setters. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Induced Conversion of Debt

by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mirmay za occur in that the conversion privileges of convertible debt are modified after A special situation John Wi ley &modifications Sons © 2003 (952 issuance of the debt. These maypages) take the form of reduced conversion prices or additional This com pact and t ruly com pr ehensive qui ck - refer ence consideration paid to the convertible debt holder. The debtor offers these modifications or "sweeteners" pr esent s account ants with a guide to depend on for to induce prompt conversion of the outstanding debt. This is in addition to the normal strategy of calling assistance in the prepar at ion and under standing of financial the convertible debt to inducepresent the holders to convert, with assuming statements ed in accordance I AS. the underlying economic values make this attractive (debtors often do this when only a small fraction of the originally issued convertible debt T ab le of Con t en t s remains outstanding). Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar Logically, ds there are two ways to account for these sweeteners. The first would be to treat this as a

reduction in the proceeds of the stock offering, thereby reducing paid-in capital from the transaction. Preface The second accounting treatment would beStandar to record Chapter 1 - Ipossible ntr oduction to I nter national Accounting ds these payments as an expense in the period of The former position is based on the notion that costs associated with the raising Chapter 2 conversion. - Balance Sheet of equity capital are netted against proceeds generated; a sweetener I ncom e Statement, Stat the em ent of Chanso ges in Equit y, if and Statem ent is deemed needed to raise the equity capital in aGains givenand situation, of Recognized Losses this should be accounted for as any other costs, such as underwriting fees,Flow would be. Chapter 4 - Cash St at emThe ent latter position springs from a recognition that if it had been part of the original5arrangement, a change in the exchange ratio or other adjustment would have affected the Chapter - Financial I nstr uments—Cash and Receiv ables allocation of the original proceeds between debt and equity, and the discount or premium originally Chapter 6 - I nventor y recognized would have been different in amount, and hence amortization would have differed Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contrperiodic act s as well. Chapter 8 - Property , Plant , and Equipment Chapter 3

Chapter 9 no - I ntangi ble international Asset s There are specific standards on this matter, and the arguments for both treatments are I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and impressive. Chapter 10 - Accordingly, both are illustrated here. The example that follows illustrates the calculation I nvestm ent Pr oper ty

and recording of the debt conversion expense if the cost of the sweetener is deemed to be a period cost.

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Sheet Dateexpense Example ofBalance debt conversion

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

1. January 1, 2003, Imag Company issued ten 8% convertible bonds at $1,000 par value without a discount or premium, maturing December 31, 2013.

Chapter 14 - Leases

Chapter 15 - I ncom e Taxes

Chapter 16 - bonds Em ployare ee Benefit 2. The initiallysconvertible into no-par common stock of Imag at a conversion price of Chapter $25. 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

3. On 1, 2007, the convertible Chapter 19 -July I nterim Financial Repor ting bonds have a market value of $600 each. Chapter 20 - Segm ent Repor ting

4. To induce the convertible bondholders to convert their bonds quickly, Imag reduces the conversion price to $20 for bondholders who convert before July 21, 2007 (within 20 days).

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Chapter 23 - market RelatedPart yofDisclosures 5. The price Imag Company's common stock on the date of conversion is $15 per share. Chapter 24 - Specialized I ndustr ies

The fair25value of the incremental consideration paid by Imag upon conversion is calculated as follows Chapter - I nflation and Hyperinflation for each bond converted before July 21, 2007:

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

Value ofB securities to debt holders: Appendix - I llustrativissued e Financial St atem ent s Pr esent ed Under I AS Appendix C - amount Com parison of I AS, US GAAP, and UK GAAP Face I ndex

÷

New conversion price

List of Tables

Number of common shares issued upon conversion List of Ex hibits and Ex am ples Listx of Sidebar s common share Price per

Value of securities issued

$1,000 ÷ $20 50

per bond per share shares

x $15

per share

$ 750

(a)

Value of securities issuable pursuant to the original conversion privileges: Face amount

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n atprice ion al Accou n t in g St an d ar ds Original conversion

÷

ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za Number of common shares issuable pursuant John Wi ley & Sons © 2003 (952 pages) to original conversion

privilege x

$1,000 ÷$25 40

per bond per share shares

This com pact and t ruly com pr ehensive qui ck - refer ence

pr esent s account ants with a guide to depend on for Price per share

x $15

per share

Value of securities issuable pursuant to original conversion privileges

$ 600

(b)

$ 750

(a)

600

(b)

assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

T ab le of Con t en t s

Value of securities issued Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Value of securities issuable pursuant to the original conversion privileges

Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds of incremental consideration ChapterFair 2 value - Balance Sheet

$ 150

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 to - record the debt conversion for each bond is The entry of Recognized Gains and Losses Chapter 4

- Cash Flow St at em ent

Convertible debt 1,000 and Receiv ables Chapter 5 - Financial I nstr uments—Cash Chapter 6 - I nventor y Debt conversion expense Chapter 7

150

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

1,150

stock—no Chapter 8Common - Property , Plant , and Equipment Chapter 9par- I ntangi ble Asset s

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 of - the foregoing accounting treatment, it was decided to treat the sweetener as a cost of If instead I nvestm ent Pr oper ty

raising 11 capital, in this Combinations fact situation and the only change be Statements to credit common stock for $1,000 per Chapter - Business Consolidat ed would Fin ancial bond rather than the market-determined $1,150. Depending on whether the stock carried a par or a

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - it might have been necessary to make a slightly different entry, but the concept would be stated value, Balance Sheet Date

the same. Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes

Debt Issued with Stock Warrants

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y

Warrants certificates enabling the holder to purchase a stated number of shares of stock at a Chapter 18 are - Earnings Per Share certain 19 price within aFinancial certain period. They are often issued with bonds to enhance the marketability of Chapter - I nterim Repor ting the bonds to ent lower the ting bond's interest rate. Chapter 20 -and Segm Repor

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Detachable warrants are similar to other features, such as the conversion feature discussed earlier,

Chapter 22 - For eign ency which under IAS 32 Curr make the debt a compound financial instrument and which necessitates that there Chapter 23 RelatedPart y Disclosures be an allocation of the original proceeds among the constituent elements. Since warrants, which will Chapter - Specialized I ndustrare ies easier to value than are conversion features, the second method often be24traded in the market, Chapter 25 -above, I nflation discussed proand rataHyperinflation allocation based on relative market values, is to be favored. Chapter 26 - Gov er nm ent Gr an ts

ExampleA of accounting for a bond with a detachable warrant Appendix - Di sclosure Checklist Appendix - I llustrativ Financial St atem ent s Pr esent I AS of $10 par common stock at $50 per 1. AB$1,000 bondewith a detachable warrant to ed buyUnder 10 shares Appendixshare C - Com parison of I AS, US GAAP, and UK GAAP is issued for $1,025. I ndex

2. Tables Immediately after the issuance the bonds trade at $980 and the warrants at $60. List of List of Ex hibits and Ex am ples

3. The market value of the stock is $54.

List of Sidebar s

The relative market value of the bonds is 94% (980/1,040) and the warrant is 6% (60/1,040). Thus, $62 (6% x $1,025) of the issuance price is assigned to the warrants. The journal entry to record the issuance is

Cash

1,025

Discount on bonds payable

37

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Bonds payable

by Bar r y J. Epstein and Abbas Ali Mir za Paid-in capital—warrants (or "Stock options John Wi ley & Sons © 2003 (952 pages)

1,000

ISBN:0471227366

62

outstanding")

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with guide to price depend on for to the bond, $963 (94% x $1,025), The discount is the difference between the apurchase assigned assistance in the prepar at ion and under standing of financial and its face value, $1,000. The debt itself is accounted for in the normal fashion. statements present ed in accordance with I AS.

The entry tot en record the subsequent future exercise of the warrant would be T ab le of Con ts Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar Cash ds 500 Preface

Paid-in capital—warrants

Chapter 1

62

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2Common - Balance Sheet stock Chapter 3

100

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

of Recognized Gains and Losses462 (difference) Paid-in capital Chapter 4(difference) - Cash Flow St at em ent Chapter 5

- Financial I nstr uments—Cash and Receiv ables Assuming warrants Chapter 6 -the I nventor y are not exercised, the journal entry is Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Paid-in8 capital—warrants Chapter - Property , Plant , and Equipment62 Chapter 9

- I ntangi ble Asset s 62 Paid-in capital—expired I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 warrants I nvestm ent Pr oper ty Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 Accounting for Sheet collateral Balance Date given by debtor to creditor. Chapter 13 - Financial I nstr uments—Long- Ter m Debt

In many cases, the borrower (debtor) will provide the lender (creditor) with valuable assets, most typically highly liquid assets such as marketable securities, to further secure the lending relationship Chapter 15 - I ncom e Taxes and to provide the creditor with added protection. Under the provisions of IAS 39, the borrower is Chapter 16 - Em ploy ee Benefit s required to disclose the carrying amount of financial assets pledged as collateral for liabilities, as well Chapter 17 - Stock holder s' Equit y as any significant terms and conditions relating to pledged assets. If the debtor delivers collateral to the Chapter - Earnings Per is Share creditor18 and the creditor permitted to sell or repledge the collateral without constraints, then the Chapter 19 - I nterim Financial Repor ting debtor should disclose the collateral separately from other assets not used as collateral. Chapter 14 - Leases

Chapter 20 - Segm ent Repor ting

In other21instances, the collateral is inCor therection form ofofaErsecurity interest or mortgage deed. In those Chapter - Accounting Changes and ror s instances is still required, but the creditor is not able to take actions such as repledging or Chapter 22 disclosure - For eign Curr ency selling the as ywould be possible if actual assets such as negotiable instruments had been Chapter 23 -collateral, Related- Part Disclosures delivered. Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation

Proposed Changes to Accounting for Liabilities

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

The IASB recently exposed St proposed to IAS 32I AS and 39. Certain of the proposed Appendix B has - I llustrativ e Financial atem ent schanges Pr esent ed Under

amendments would impact the accounting for certain debt obligations. These are summarized in the following paragraphs.

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

List of Tables In some instances, an entity issues a financial instrument (which could nominally be a bond or a share) List hibitspotentially and Ex am be plesrequired to settle by delivering cash or other financial assets (or otherwise in thatofitEx could List of Sidebar s the instrument would be classified as a financial liability) depending on the occurrence such a way that

or nonoccurrence of uncertain future events, or on the outcome of uncertain circumstances that are beyond the control of both the issuer and the holder of the instrument. These events could include a change in a stock market index, the consumer price index, or a defined interest rate, (or the issuer's future revenues, net income, or debt-to-equity ratio). According to the proposed amended IAS 32, such a financial instrument must be classified as a financial liability of the issuer because the issuer does not have an unconditional right to avoid settlement of the obligation in cash or other financial assets (or otherwise in such a way that the

obligation would be classified as a financial liability). In other circumstances, an entity may issue a financial instrument with a "put" option (i.e., one that W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f gives the holder the right to require that the issuer acquire the instrument for cash or another financial I n t er n at ion al Accou n t in g St an d ar ds asset), the amount of which is determined on the basis of an index or other item that may have the ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali potential to increase and decrease. Even when the legal form of a puttable instrument gives the holder Mir za a right to the residual the©assets of pages) an entity, the inclusion of an option for the holder to put John interest Wi ley & in Sons 2003 (952 that right back to This the issuer for cash or another financial asset means that the puttable instrument com pact and t ruly com pr ehensive qui ck - refer ence meets the definition of a financial liability and is presented as on such. pr esent s account ants with a guide to depend for Whether the embedded derivative (the put option) must be separated from at the and accounted for as a derivative is assistance in the prepar ionhost andcontract under standing of financial presentIAS ed in32. accordance with I AS. addressed in the statements proposed revised T ab le of Con t en t s

In yet other circumstances, an entity may have a contractual obligation of a fixed amount or an amount

Wiley I AS 20 03—Int er pretation Application I nternational Account ing than the market price of the that fluctuates in part or in fulland in response to of changes in a variable other Standar ds

entity's own equity instruments, but the entity must or can settle by delivery of its own equity instruments (the number of which depends on the amount of the obligation). The revised IAS 32 makes Chapter 1 - I ntr oduction to I nter national Accounting Standar ds it clear that such an obligation is a financial liability of the entity, not an equity instrument. Preface

Chapter 2

- Balance Sheet

If the number I ncom of ane entity's Statement, ownStat shares em ent or other of Chan own gesequity in Equit instruments y, and Statem required ent to settle an obligation of Recognized and Losses varies with changes in theirGains fair value so that the total fair value of the entity's own equity instruments to Chapter 4 - Cash Flow St at em entamount of the contractual obligation, the counterparty does not, in be delivered always equals the Chapter 5 - hold Financial I nstr uments—Cash Receiv ables substance, a residual interest in theand entity. In addition, the entity may have to deliver more or fewer Chapter 6 equity - I nventor y of its own instruments than would be the case at the date of entering into the contractual arrangement. Therefore, according to the proposed revised IAS Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act 32, s such an obligation is a financial liability 8of the entity even the entity must or can settle it by delivering its own equity instruments. Chapter - Property , Plantthough , and Equipment Chapter 3

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Chapter 14: Leases I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

za PerspectiveMirand Issues

John Wi ley & Sons © 2003 (952 pages)

Leasing has longThis beencom a popular pact andfinancing t ruly comoption pr ehensive for the quiacquisition ck - refer ence of business property. During the prhowever, esent s account ants withof a leasing guide tohas depend on for staggering growth. The past few decades, the business experienced assistance in the prepar at ion and under standing of financial tremendous popularity of leasing is quite understandable, as it offers great flexibility, often coupled with statements present ed in accordance with I AS. a range of economic advantages over ownership. Thus, with leasing, a lessee (borrower) is typically T ab able le of to Con obtain t en100% ts financing, whereas under a traditional credit purchase arrangement the buyer wouldI AS generally have to makeand an initial equityofinvestment. In many jurisdictions, a leasing arrangement Wiley 20 03—Int er pretation Application I nternational Account ing Standar ds benefits compared to the purchase option. The lessee is protected to an extent from the risk offers tax Preface of obsolescence, although the lease terms will vary based on the risk of obsolescence. For the lessor, Chapter there will 1 be - Iantr regular oduction stream to I nter of lease national payments, Accounting which Standar include ds interest that often will be at rates above commercial lending rates, Chapter 2 - Balance Sheet and, at the end of the lease term, usually some residual value. I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 The accounting for lease transactions has a number of complexities, which derive partly from the range of Recognized Gains and Losses

of alternative structurings to the parties. For example, in many cases leases can be Chapter 4 - Cash Flow St atavailable em ent

configured allow manipulation of the tax with other features such as term and interest rate Chapter 5 - to Financial I nstr uments—Cash andbenefits, Receiv ables

adjusted to- achieve the intended economics of the arrangement. Leases can be used to transfer I nventor y ownership of the leased asset, and they can be used to transfer some or all of the risks of ownership. In Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s any event, the accounting objective is to have the economic substance of the transaction dictate the Chapter 8 - Property , Plant , and Equipment accounting treatment. Chapter 6

Chapter 9

- I ntangi ble Asset s

I nterests in Financial Instr um es,examples Joint Ventur es, and The accounting for lease transactions is ent ones,ofAssociat the best of the application of the principle of Chapter 10 I nvestm ent Pr oper ty substance over form, as set forth in the IASC's Framework for the Preparation and Presentation of Chapter 11 Statements. - Business Combinations and Consolidat Fin ancialownership Statements Financial If the transaction effectivelyedtransfers to the lessee, the substance of Currisent Liabilit ies, Prov isions, Cont ingencies, and Ev entseven afterthough t he the transaction that of a sale and should be recognized as such the transaction takes Chapter 12 Balance Sheet Date

the form of a lease.

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter - Leases IAS 17 required that lessors recognize finance income based on a pattern reflecting Before 14 its revision,

a constant of ereturn, Chapter 15 -rate I ncom Taxesbut they were permitted to compute that return on either the net investment outstanding (i.e., the investment), or the net cash investment (which would be a different amount). Chapter 16 - Em ploy eebook Benefit s The revised standard eliminated Chapter 17 - Stock holder s' Equit y the second alternative and requires that the net (book) investment serve as basis forPer theShare constant rate of return computation. Chapter 18the - Earnings Chapter 19 - I nterim Financial Repor ting

The guidance on lease accounting under IAS is not as fully elaborated as is that provided under certain national GAAP. The IASB has indicated that it intends to thoroughly review the existing rules with the Chapter - Accounting and Cor ror s possible21result that IAS Changes 17 will either be rection revisedoforErsuperseded by a new standard. However, the Chapter 22 For eign Curr ency general principle that the substance of the arrangement govern the accounting, with finance-type Chapter - RelatedPart y Disclosures leases 23 being reported almost inevitably as leveraged acquisitions of property, will remain in place. New Chapter 24 may - Specialized I ndustr iesareas of lease practice not currently addressed in the standards, such guidance be offered for the Chapter 25 - I nflation as leveraged leasing.and Hyperinflation Chapter 20 - Segm ent Repor ting

Chapter 26 - Gov er nm ent Gr an ts

In the near the IASB's Improvements Project has proposed several modest revisions to lease Appendix A - term, Di sclosure Checklist accounting, which are explained in this chapter.

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com I AS, US GAAP, and UK GAAP While almost anyparison type ofofarrangement that satisfies the definition of a lease is covered by this standard, I ndex the following specialized types of lease agreements are excluded: List of Tables

1. Lease agreements to explore for or use natural resources, such as oil, gas, timber, metals, and other mineral rights

List of Ex hibits and Ex am ples List of Sidebar s

2. Licensing agreements for such items as motion picture films, video recordings, plays, manuscripts, patents, and copyrights The accounting for rights to explore and develop natural resources has yet to be formally addressed by IAS; no accounting guidance existed under the standards. Licensing agreements are addressed by IAS 38, which is discussed in Chapter 9. Sources of IAS

IAS 4, 5, 17, 24, 36, 38 SICan15, 27p licat io n o f W ile y I AS 2 0 03 : I n t erp re t at ion d Ap I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

ile yTerms I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f DefinitionsWof I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za Bargain purchase option (BPO)

John Wi ley & Sons © 2003 (952 pages)

A provision in the lease agreement allowing the lessee the option of purchasing the This com pact and t ruly com pr ehensive qui ck - refer ence leased property forants an amount that istosufficiently pr esent s account with a guide depend on lower for than the fair value of the property at the dateprepar the option becomes exercisable. Exercise of the option must assistance in the at ion and under standing of financial statements present ed in accordance with I AS. appear reasonably assured at the inception of the lease. T ab le of Con t en trentals s Contingent Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Those lease rentals that are not fixed in amount but are based on a factor other than Standar ds

simply the passage of time; for example, based on percentage of sales, price indices, market rates of interest, or use of the leased asset.

Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2 - Balance Economic life of Sheet leased property I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 IAS 17 (revised) economic life of a leased asset as either the period over of Recognized Gains defines and Losses

which the asset is expected to be economically usable by one or more users or the number of production or similar units expected to be obtained from the leased asset Chapter 5 - Financial I nstr uments—Cash and Receiv ables by one or more users. (This was the definition of useful life under the original IAS 17.) Chapter 4

- Cash Flow St at em ent

Chapter 6

- I nventor y

Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s Executory costs Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Those costs such as insurance, maintenance, and taxes incurred for leased property, whether paid by the lessor or lessee. If paid by the lessee, the lessee's obligation to I nterests in Financial um ent s, Associat es, Joint Ventur es, and pay such costs areInstr excluded from the minimum lease payments. Chapter 10 I nvestm ent Pr oper ty

Chapter - Business Combinations and Consolidat ed Fin ancial Statements Fair 11 value of leased property (FMV) Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he The amount for which an asset could be exchanged between a knowledgeable, willing Balance Sheet Date

buyer and a knowledgeable, willing seller in an arm's-length transaction. When the lessor is a manufacturer or dealer, the fair value of the property at the inception of the Leases lease will ordinarily be its normal selling price net of volume or trade discounts. When I ncom e Taxes the lessor is not a manufacturer or dealer, the fair value of the property at the Em ploy ee Benefit s inception of the lease will ordinarily be its cost to the lessor unless a significant Stock holderof s' time Equit yhas lapsed between the acquisition of the property by the lessor and amount Earnings Per Share the inception of the lease, in which case fair value should be determined in light of I nterim Financial Repor ting market conditions prevailing at the inception of the lease. Thus, fair value may be Segm ent Repor tingthan the cost or carrying amount of the property. greater or less

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 Chapter 15 Chapter 16 Chapter 17 Chapter 18 Chapter 19 Chapter 20 -

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Finance Chapter 22 - lease For eign Curr ency Chapter 23 - RelatedA lease Partthat y Disclosures transfers substantially all the risks and rewards associated with the

ownership of anies asset. The risks related to ownership of an asset include the Chapter 24 - Specialized I ndustr possibilities of losses from idle capacity or technological obsolescence and of Chapter 25 - I nflation and Hyperinflation inan return due to changing economic conditions; rewards incidental to Chapter 26 - Govvariations er nm ent Gr ts ownership of an asset include expectation of profitable operations over the asset's Appendix A - Di sclosure Checklist economic life andStexpectation gainedfrom appreciation in value or the ultimate Appendix B - I llustrativ e Financial atem ent s Prof esent Under I AS

realization of the residual value. Title may or may not eventually be transferred to the lessee.

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

List Gross of Tables investment in the lease List of Ex hibits and Ex am ples List of Sidebar s

The sum total of (1) the minimum lease payments under a finance lease (from the standpoint of the lessor), plus (2) any unguaranteed residual value accruing to the lessor.

Inception of the lease The date of the written lease agreement or, if earlier, the date of a commitment by the parties to the principal provisions of the lease. Initial direct costs

Initial direct costs, such as commissions and legal fees, incurred by lessors in negotiating and arranging a lease. These generally include (1) costs to originate a lease in03 transactions third that (a) result directly W ileincurred y I AS 2 0 : I n t erp re t with at ionindependent an d Ap p licat io nparties of from and are essential to acquire that lease and (b) would not have been incurred had I n t er n at ion al Accou n t in g St an d ar ds that leasing transaction not occurred; and (2) certain costs directly related to specified ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za performed by the lessor for that lease, such as evaluating the prospective activities lessee's John Wifinancial ley & Sons condition; © 2003 (952 evaluating pages) and recording guarantees, collateral, and other security arrangements; leasequi terms; preparing and processing lease This com pact and t rulynegotiating com pr ehensive ck - refer ence pr esent s account ants with guide to depend on for documents; and closing the atransaction. assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Lease

T ab le of Con t en tAn s agreement whereby a lessor conveys to the lessee, in return for payment or series

of payments, to use an (property, plant,ing equipment, or land) for an Wiley I AS 20 03—Int er pretationthe andright Application of asset I nternational Account Standar ds agreed-upon period of time. Other arrangements essentially similar to leases, such as Preface hire-purchase contracts, bare-boat charters, and so on, are considered leases for Chapter 1

of Ithe - I ntrpurposes oduction to nterstandard. national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

The ble interest that the lessee would have to pay on a similar lease, or, if that is not - I ntangi Asset rate s

Lease term I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of Recognized Gains and Losses The initial noncancelable period for which the lessee has contracted to lease the Chapter 4 - Cash asset Flowtogether St at em ent with any further periods for which the lessee has the option to extend the lease the asset, with orReceiv without further payment, which option it is reasonably Chapter 5 - Financial I nstrof uments—Cash and ables certain Chapter 6 - I nventor y (at the inception of the lease) that the lessee will exercise. Lessee's incremental borrowing rate

Chapter 10 -

determinable, the Instr rate um thatent ats,the inception of theVentur leasees, theand lessee would have I nterests in Financial Associat es, Joint incurred to borrow over a similar term (i.e., a loan term equal to the lease term), and I nvestm ent Pr oper ty

with a Combinations similar security, funds necessary to purchase the leased asset. Chapter 11 - Business andthe Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - lease payments (MLP) Minimum Balance Sheet Date Chapter 13 - Financial uments—LongTerof m the Debt 1. I nstr From the standpoint lessee. The payments over the lease term that the Chapter 14 - Leases lessee is or can be required to make in connection with the leased property. Chapter 15 - I ncom e Taxes The lessee's obligation to pay executory costs (e.g., insurance, maintenance, Chapter 16 - Em ploy ee or Benefit s and contingent rents are excluded from minimum lease payments. If taxes) Chapter 17 - Stock holder the s' Equit leasey contains a bargain purchase option, the minimum rental payments

over the lease term plus the payment called for in the bargain purchase option Chapter 18 - Earnings Per Share are included in minimum lease payments. Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

If no such provision regarding a bargain purchase option is included in the lease contract, the minimum lease payments include the following:

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

The minimum rental payments called for by the lease over the lease Chapter 23 - Related- Part y a. Disclosures

contract over the term of the lease (excluding any executory costs), plus

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation b. Any guarantee of residual value, at the expiration of the lease term, to Chapter 26 - Gov er nm ent Gr anbe ts paid by the lessee or a party related to the lessee. Appendix A - Di sclosure Checklist

2. eFrom the standpoint lessor. TheI AS payments described above plus any Appendix B - I llustrativ Financial St atem ent sofPrthe esent ed Under guarantee of GAAP, the residual Appendix C - Com parison of I AS, US and UKvalue GAAPof the leased asset by a third party unrelated to I ndex List of Tables

either the lessee or lessor (provided that the third party is financially capable of discharging the guaranteed obligation).

List of Ex hibits and Ex am ples

Net cash investment in the lease

List of Sidebar s

A term that was used by the original standard IAS 17 as a basis upon which to compute the return to the lessor; this method was eliminated when IAS 17 was revised.

Net investment in the lease The difference between the lessor's gross investment in the lease and the unearned finance income.

Noncancelable lease A lease that is cancelable only W1. ile y 2 0 03 : I nof t erp re t atremote ion an contingency d Ap p licat io n o f OnI AS occurrence some I n t er n at ion al Accou n t in g St an d ar ds by2.Bar r y J.the Epstein and Abbas Ali With concurrence (permission) of theISBN:0471227366 lessor Mir za John ley lessee & Sonsenters © 2003 (952 3. IfWithe into pages) a new lease for the same or an equivalent asset with

the pact sameand lessor This com t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar ion andofunder standing of financial 4. On payment by theatlessee an additional amount such that at inception, statements presentofedthe in lease accordance withreasonably I AS. continuation appears assured T ab le of Con t en t s

Nonrecourse (debt) financing

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Lending or borrowing activities in which the creditor does not have general recourse Standar ds

to the debtor but rather has recourse only to the property used for collateral in the

Preface Chapter 1

other specific property.Standar ds - I ntrtransaction oduction to or I nter national Accounting

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

Any requirement that is imposed or can be imposed on the lessee by the lease - I nventor y

Operating lease

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent A lease thatGains doesand not Losses meet the criteria prescribed for a finance lease. of Recognized

Penalty

Chapter 7

or tion, by factors outside theuction leaseContr agreement to pay cash, incur or assume a - Revagreement enue Recogni I ncluding Constr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

liability, perform services, surrender or transfer an asset or rights to an asset, or otherwise forego an economic benefit or suffer an economic detriment.

I nterests in lease Financial Instr um ent s, Associat es, Joint Ventur es, and Rate10 implicit in the Chapter I nvestm ent Pr oper ty

The discount rate that the inception ofancial the lease, when applied to the minimum Chapter 11 - Business Combinations andatConsolidat ed Fin Statements

lease payments, and the unguaranteed residual value accruing to the benefit of the

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he lessor, causes Balance Sheet Datethe aggregate present value to be equal to the fair value of the leased

property touments—Longthe lessor, netTer of m any grants and tax credits receivable by the lessor. Chapter 13 - Financial I nstr Debt Chapter 14 - Leases

Related parties in leasing transactions

Chapter 15 - I ncom e Taxes

Entities that are in a relationship where one party has the ability to control the other party or exercise significant influence over the operating and financial policies of the Chapter 17 - Stock holder s' Equit y related party. Examples include the following: Chapter 16 - Em ploy ee Benefit s

Chapter 18 - Earnings Per Share

A parent company Chapter 19 - I nterim1.Financial Repor ting and its subsidiaries Chapter 20 - Segm ent Repor ting

2. An owner company and its joint ventures and partnerships

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter 22 - For eign3.Curr Anency investor and its investees Chapter 23 - RelatedPart y Significant Disclosures influence may be exercised in several ways, usually by representation on Chapter 24 - Specialized I ndustr ies the board of directors but also by participation in the policy-making process, material Chapter 25 - I nflation and Hyperinflation intercompany transactions, interchange of managerial personnel, or dependence on Chapter 26 - Govtechnical er nm ent information. Gr an ts The ability to exercise significant influence must be present Appendix A - Di sclosure Checklist before the parties can be considered related. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Renewal or extension a lease Appendix C - Com parison of of I AS, US GAAP, and UK GAAP I ndex List of Tables

The continuation of a lease agreement beyond the original lease term, including a new lease where the lessee continues to use the same property.

List of Ex hibits and Ex am ples

Residual value of leased property

List of Sidebar s

The fair value, estimated at the inception of the lease, that the enterprise expects to obtain from the leased property at the end of the lease term.

Sale and leaseback accounting A method of accounting for a sale-leaseback transaction in which the seller-lessee records the sale, removes all property and related liabilities from its balance sheet, recognizes gain or loss from the sale, and classifies the leaseback in accordance with this section.

Unearned finance income The excess of the lessor's gross investment in the lease over its present value. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Unguaranteed residual value

by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Part Mirof za the residual value of the leased asset (estimated at the inception of the lease) theJohn realization which by the Wi ley & of Sons © 2003 (952 lessor pages) is not assured or is guaranteed by a party related to This the lessor. com pact and t ruly com pr ehensive qui ck - refer ence Useful life

pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements ed in period accordance with I AS. The estimatedpresent remaining over which the economic benefits embodied by the

are expected to be consumed, without being limited to the lease term. (The T ab le of Con t en tasset s

former definition of Application this term, as in the original Wiley I AS 20 03—Int er pretation and of employed I nternational Account ing standard IAS 17, has now been assigned to the term economic life.) Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS and 2 0 03 : Examples I n t erp re t at ion an d Ap p licat io n o f Concepts, Rules, I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

Classification Mir za of Leases—Lessee

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages)

For accounting and reporting purposes the lessee has two alternatives in classifying a lease. This com pact and t ruly com pr ehensive qui ck - refer ence 1. Operating pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial

2. Finance statements present ed in accordance with I AS. T ab le of Con t en t s

It should be observed that finance leases are referred to as capital leases under US GAAP. Finance

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing leases are those that essentially are alternative means of financing the acquisition of property or of Standar ds

substantially all the service potential represented by the property. The term capital is used because under accounting standards such leased property is treated as owned, and accordingly, capitalized on Chapter 1 - I ntr oduction to I nter national Accounting Standar ds the balance sheet. Since, due to the relative paucity of guidance on lease accounting under IAS there Chapter 2 - Balance Sheet will be many issues on which informal direction will be taken from US GAAP, the terms finance and I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent capital3will- be treated as synonymous in this chapter. Chapter Preface

of Recognized Gains and Losses

Chapter 4 - classification Cash Flow St atofem The proper a ent lease is determined by the circumstances surrounding the leasing Chapter 5 - Financial I nstr uments—Cash and Receivis ables transaction. According to IAS 17, whether a lease a finance lease or not will have to be judged based Chapter 6 - I nventor on the substance ofythe transaction, rather than the form of the contract. Further, if substantially all of

the benefits andenue risksRecogni of ownership have been transferred to the Chapter 7 - Rev tion, I ncluding Constr uction Contr act slessee, the lease should be classified as a finance lease; such a ,lease is normally noncancelable and the lessor is assured of recovery of the Chapter 8 - Property , Plant and Equipment capital 9invested plus reasonable return on its investment. IAS 17 stipulates that substantially all of the Chapter - I ntangi blea Asset s risks or benefits of ownership areInstr deemed been ifes, anyand one of the following four I nterests in Financial um enttos,have Associat es,transferred Joint Ventur criteria has been I nvestm met: ent Pr oper ty

Chapter 10 -

Chapter 11 - lease Business Combinations andtoConsolidat edby Finthe ancial 1. The transfers ownership the lessee endStatements of the lease term. Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 Balance Sheet Date 2. The lease contains a bargain purchase option (an option to purchase the leased asset at a price Chapter that 13 - is Financial I nstr Ter m Debt expected to uments—Longbe substantially lower than the fair value at the date the option becomes Chapter exercisable) 14 - Leases and it is reasonably certain that the option will be exercisable. Chapter 15 - I ncom e Taxes

3. The lease term is for the major part of the economic life of the leased asset. Title may or may not eventually pass to the lessee.

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y

Chapter 18 - present Earningsvalue Per Share 4. The (PV), at the inception of the lease, of the minimum lease payments is greater Chapter than, 19 - I or nterim Repor ting equalFinancial to substantially all of, the fair value of the leased asset, net of grants and tax Chapter credits 20 - Segm ent lessor Repor ting to the at that time. Title may or may not eventually pass to the lessee. Chapter 21 - Accounting Changes and Cor rection of Er ror s

The revised IASeign 17 Curr has ency expanded upon the foregoing list of original IAS 17 criteria with an additional Chapter 22 - For four criteria, which are Chapter 23 - RelatedPartsummarized y Disclosuresbelow.

5. The assets are of Chapter 24 - leased Specialized I ndustr iesa specialized nature such that only the lessee can use them without modifications being made. Chapter major 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

6. If the lessee can cancel the lease, the lessor's losses associated with the cancellation are borne by the lessee.

Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Appendix C - Com parisonresulting of I AS, US GAAP, and UK GAAP 7. Gains or losses from the fluctuations in the fair value of the residual accrue to the I ndex lessee. List of Tables

8. ExThe lessee has List of hibits and Ex am the plesability to continue the lease for a supplemental term at a rent that is substantially lower than market rent.

List of Sidebar s

Thus, under current IAS 17, an evaluation of eight criteria would be required to assess whether there is sufficient evidence to conclude that a given arrangement should be accounted for as a finance lease. Of the eight criteria set forth in the standard, the first five are essentially determinative in nature; that is, meeting any one of these would normally result in concluding that a given arrangement is in fact a finance lease. The final three criteria, however, are more suggestive in nature, and the standard states that these "could" lead to classification as a finance lease. The interest rate used to compute the present value should be the lessee's incremental borrowing rate

unless it is practicable to determine the rate implicit in the lease, in which case that rate should be used. It is interesting to note that under US GAAP, in order to use the rate implicit in the lease to discount the minimum this must beAp lower than W ile ylease I AS 2payments, 0 03 : I n t erp rerate t at ion an d p licat io n the o f lessee's incremental borrowing rate. Logically, ofI course, if the lessee's incremental borrowing rate were lower than a rate offered n t er n at ion al Accou n t in g St an d ar ds implicitly in a lease, and the prospective lessee was aware of this fact, it would ISBN:0471227366 be more attractive to by Bar r y J. Epstein and Abbas Ali borrow and purchase, Mir za so the US rule may be somewhat superfluous. The IAS does not set this as a condition, however. John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence

In general, if a lease agreement oneaofguide the eight criteria pr esent s accountmeets ants with to depend onset forforth above, it is to be classified as a finance lease in the financialinstatements theand lessee. a further assistance the prepar atofion underHowever, standing of financialcondition is imposed when ed in accordance with I AS. the lease includesstatements both land present and buildings. In such cases, unless it is expected that title will pass to the lessee at the end of the lease term, those leases would not normally be considered finance leases, T ab le of Con t en t s regardless of the other terms in the lease agreement. In other words, the first criterion must always be Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing met in ds case of real estate leases in order for them to be classified as finance leases. Standar Preface

The language used in the third and fourth criteria, as set forth above, makes them rather subjective and I ntr oduction to I nter national Accounting Standar ds somewhat -difficult to apply in practice. Thus, given the same set of facts, it is possible for two Chapter 2 Balance enterprises to reach Sheet different conclusions regarding the classification of a given lease. The IAS 17 I ncomfrom e Statement, Stat by em the ent corresponding of Chan ges in Equit y, and Statem ent13, in that more approach differs that adopted US standard, SFAS Chapter 3 of Recognized Gains and Losses subjective criteria are established by the international rule. In the US standard, a threshold of 75% or Chapter 4 - Cash Flow St at em ent more of the useful life has been specified for classifying a lease as a finance lease, which thus creates Chapter 5 line" - Financial I nstr uments—Cash and Receiv ables a "bright test to be applied mechanically. The corresponding language under IAS 17 stipulates that Chapter 6 I nventor y capitalization results when the lease covers a "major part of the economic life" of the asset. Further, a Chapter 7 of - Rev Recogni tion, ncluding Constr Contr act s threshold "theenue present value of Iminimum lease uction payments equaling at least 90% of leased asset fair Chapter 8 Property , Plant , and Equipment value" is set under the US standard, rather than the "substantially all of the fair value of the leased Chapter 9 - I ntangi ble Asset s asset" employed under the international standard. Chapter 1

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

In the absence of interpretation I nvestm ent Pr oper ty or direction from the IASC, it may be argued that the expression "major part" implies 80% to 90%, instead of 75%, of the economic lifeStatements of the asset, or that "substantially all" Chapter 11 - Business Combinations and Consolidat ed Fin ancial represents 95% or, for that matter, even 99% instead of 90% of fair after valuet he at the inception of the lease. Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents Chapter 12 Thus, some Balance may hope thatDate the IASC will address these issues when it revisits IAS 17, during its Sheet promised ofuments—Longmore fundamental Chapter 13 consideration - Financial I nstr Ter m reform Debt of the standard, since these have been persistent problems applying the standard. Chapter 14 in - Leases Chapter 15 - I ncom e Taxes

The revised IAS 17 addresses the issue of change in lease classification resulting from alterations in lease terms, stating that if the parties agree to alter the terms of the lease, other than by renewing the Chapter 17 - Stock holder s' Equit y lease, in a manner that would have resulted in a different classification of the lease, had the changed Chapter 18 - Earnings Per Share terms been in effect at inception of the lease, then the revised lease agreement is to be considered a Chapter 19 -agreement. I nterim Financial Repor ting new lease Chapter 16 - Em ploy ee Benefit s

Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

Classification of Leases—Lessor

Chapter 22 - For eign Curr ency

Chapter 23 - has RelatedPart y Disclosures The lessor the following alternatives in classifying a lease: Chapter 24 - Specialized I ndustr ies

1. Operating lease

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov lease er nm ent Gr an ts 2. Finance Appendix A - Di sclosure Checklist

a. Plain or regular finance lease, hereinafter referred to as direct financing lease, which is the term used by US GAAP

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

b. Finance lease by manufacturers or dealers, hereinafter referred to as sales-type lease, List of Tables the term used by US GAAP I ndex

List of Ex hibits and Ex am ples

c. Leveraged lease, wherein financing is through a third-party creditor instead of the lessor

List of Sidebar s

Consistent accounting by lessee and lessor. Since the events or transactions that take place between the lessor and the lessee are based on an agreement (the lease) that is common to both the parties, it is normally appropriate that the lease be classified in a consistent manner by both parties. Thus, if any one of the eight criteria specified above for classification of a finance lease by the lessee is met, the lease should also be classified as a finance lease by the lessor. If the lease qualifies as a finance lease from the standpoint of the lessor, it

would be classified either as a sales-type lease, a direct financing lease, or a leveraged lease, depending on the conditions present at the inception of the lease. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Notwithstanding this general observation, IAS 17 alludes to an exception to this general rule when it I n t er n at ion al Accou n t in g St an d ar ds speaks about the "differing circumstances" sometimes leading ISBN:0471227366 to the same lease being classified by Bar r y J. Epstein and Abbas Ali differently by the Mir lessor za and lessee. The standard does not, unfortunately, expand on this matter, but once again it is possible to be informed by(952 reference John Wi ley & Sons © 2003 pages) to US GAAP, which clearly sets forth the circumstances orThis factors which if not satisfied from the standpoint of the lessor would lead to different com pact and t ruly com pr ehensive qui ck - refer ence classifications by pr the lessor and the lessee. SFAS stipulates esent s account ants with a guide 13 to depend on that for the following two conditions both need to be satisfied in addition meeting any one of the criteriaofestablished for capitalization assistance in thetoprepar at ion and under standing financial in accordance I AS. as a finance (capital) lease from the determination by statements the lessee, present before ed a lease could be with classified standpoint of a lessor: T ab le of Con t en t s Collectibility the minimum lease payments is reasonably predictable. Wiley1.I AS 20 03—Int erof pretation and Application of I nternational Account ing Standar ds 2. No important uncertainties surround the amount of nonreimbursable costs yet to be incurred by Preface under the Chapter the 1 -lessor I ntr oduction to Ilease. nter national Accounting Standar ds Chapter 2

Balance Sheet Under US -GAAP, therefore, if a lease transaction does not meet the criteria for classification as a I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent sales-type Chapter 3 -lease, a direct financing lease, or a leveraged lease as specified above (by satisfying both of of Recognized Gains and Losses the above noted extra criteria), it is to be classified in the financial statements of the lessor as an Chapter 4 - Cash Flow St at em ent operating lease. If the lessee has accounted for the lease as a capital lease, the asset being leased Chapter 5 - Financial I nstr uments—Cash and Receiv ables may appear on the balance sheets of both lessee and lessor. Chapter 6

- I nventor y

Chapter Although 7 guidance - Rev enueunder Recogni IAStion, 17 does I ncluding not establish Constr uction additional Contr act conditions s that must be fulfilled for the

lessor to a lease as a, financing transaction, as the US standard does, use of the "differing Chapter 8 treat - Property , Plant and Equipment circumstances" language opens up the possibility that in any given situation, additional subjective Chapter 9 - I ntangi ble Asset s considerations could be defined. Instr This um remains a matteres,forJoint each enterprise I nterests in Financial ent s, Associat Ventur es, andto address on an individual basis, however. I nvestm ent Pr oper ty

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Sales-Type, Prov isions, Cont ingencies, andFinancing, Ev ents after t he and Leveraged Distinction among Direct Balance Sheet Date Leases Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 12 -

Chapter 14 - Leases

A lease is classified as a sales-type lease when the criteria set forth above have been met and the lease transaction is structured such that the lessor (generally a manufacturer or dealer) recognizes a Chapter 16 - Em ploy ee Benefit s profit or loss on the transaction in addition to interest revenue. For this to occur, the fair value of the Chapter 17 - Stock holder s' Equit y property, or if lower, the sum of the present values of the minimum lease payments and the estimated Chapter 18 - Earnings Per Share unguaranteed residual value, must differ from the cost (or carrying value, if different). The essential Chapter 19 -ofI nterim Financial Repor substance this transaction is thatting of a sale, thus its name. Common examples of sales-type leases: Chapter 20an - Segm ent Repor ting (1) when automobile dealership opts to lease a car to its customers in lieu of making an actual sale, Chapter Accounting Changes and Cor rection Er ror s lease. and (2)21 the- re-lease of equipment coming off anofexpiring Chapter 15 - I ncom e Taxes

Chapter 22 - For eign Curr ency

A direct23financing lease from a sales-type lease in that the lessor does not realize a profit or loss Chapter - RelatedPart differs y Disclosures on the transaction otherI ndustr than interest revenue. In a direct financing lease, the fair value of the property Chapter 24 - Specialized ies

at the inception of theand lease is equal to the cost (or carrying value, if the property is not new). This type Chapter 25 - I nflation Hyperinflation

of lease transaction most often involves entities regularly engaged in financing operations. The lessor (a bank or other financial institution) purchases the asset and then leases the asset to the lessee. This Appendix A - Di sclosure Checklist transaction merely replaces the conventional lending transaction where the borrower uses the borrowed Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS funds to purchase the asset. Chapter 26 - Gov er nm ent Gr an ts

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

I ndex There are many economic reasons why a lease transaction may be considered. These include List of Tables

1. The lessee (borrower) is generally able to obtain 100% financing.

List of Ex hibits and Ex am ples List of 2. Sidebar Theresmay be tax benefits for the lessee.

3. The lessor receives the equivalent of interest as well as an asset with some remaining value at the end of the lease term (unless title transfers as a condition of the lease). 4. The lessee is protected from risk of obsolescence. In summary, it may help to visualize the following chart when considering the classification of a lease:

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

One specialized T ab le of Con t en t sform of a direct financing lease is a leveraged lease. This type is mentioned separately here and in the following section on how to account Wiley I AS 20both 03—Int er pretation and Application of I nternational Accountfor ingleases because it is to receive a Standar different ds accounting treatment by a lessor. A leveraged lease meets all the definitional criteria of a direct financing lease, but differs because it involves at least three parties: a lessee, a long-term Preface Other characteristics of a creditor,1 and a lessor (commonly referredAccounting to as the equity Chapter - I ntr oduction to I nter national Standarparticipant). ds leveraged are Sheet as follows: Chapter 2 -lease Balance I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent 1. The Chapter 3 - financing provided by the long-term creditor must be without recourse as to the general and the Losses creditofofRecognized the lessor,Gains although creditor may hold recourse with respect to the leased property. Chapter The 4 - amount Cash Flow St atfinancing em ent of the must provide the lessor with substantial leverage in the transaction. Chapter 5 - Financial I nstr uments—Cash and Receiv ables

2. The Chapter 6 - lessor's I nventornet y investment declines during the early years and rises during the later years of termRecogni before tion, its elimination. Chapter the 7 -lease Rev enue I ncluding Constr uction Contr act s Chapter 8

- Property , Plant , and Equipment

- I ntangi for ble Asset s Accounting Leases—Lessee

Chapter 9

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

As discussed I nvestm in the ent preceding Pr oper ty section, there are two classifications that apply to a lease transaction in the financial statements of the lessee. are as Chapter 11 - Business Combinations and They Consolidat edfollows: Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he 1. Operating Chapter 12 Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt 2. Finance Chapter 14 - Leases

Operating leases. Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s

The accounting treatment accorded an operating lease is relatively simple; rental expense should be charged to income as the payments are made or become payable. IAS 17 stipulates that rental Chapter 18 - Earnings Per Share expense be "recognized on a systematic basis that is representative of the time pattern of the user's Chapter 19 - I nterim Financial Repor ting benefits, even if the payments are not on that basis." In case the lease payments are being made on a Chapter 20 - Segm ent Repor ting straight-line basis (i.e., equal payments per period over the lease term), recognition of the rental Chapter 21would - Accounting Cor rection of Er ror s expense normallyChanges be on aand straight-line basis. However, if the lease agreement calls for either an Chapter 22 For eign Curr ency alternative payment schedule or a scheduled rent increase over the lease term, the lease expense Chapter RelatedPart y Disclosures should 23 still-be recognized on a straight-line basis unless another systematic and rational basis is a Chapter 24 - Specialized ndustr ies better representation ofI actual physical use of the leased property. In such an instance it will be Chapter 25 -toI nflation and Hyperinflation necessary create either a prepaid asset or a liability, depending on the structure of the payment Chapter schedule. 26 In - Gov SICer15, nm ent it has Gr an been ts held that all incentives relating to a new or renewed operating lease are to beAconsidered determining the total cost of the lease, to be recognized on a straight-line basis Appendix - Di sclosureinChecklist over the Bterm of the lease. Thus,Stfor example, a rentedholiday Appendix - I llustrativ e Financial atem ent s Pr esent Under for I ASsix months as part of a five-year lease would not in only six rent expense being recorded during the first full year; rather, four Appendix C result - Com parison of Imonths' AS, US GAAP, and UK GAAP and one-half years' rent would be allocated over the full five-year term. This would apply to both lessor I ndex andoflessee. List Tables Chapter 17 - Stock holder s' Equit y

List of Ex hibits and Ex am ples

Additionally, if the lease agreement provides for a scheduled increase(s) in contemplation of the

List of Sidebar s lessee's increased (i.e., more intensive) physical use of the leased property, the total amount of rental

payments, including the scheduled increase(s), should be charged to expense over the lease term on a straight-line basis. On the other hand, if the scheduled increase(s) is due to additional leased property, recognition should be proportional to the leased property with the increased rents recognized over the years that the lessee has control over the use of the additional leased property. (These suggestions, and many other recommendations made in this chapter, are based on guidance from US GAAP, since the IAS does not address these matters at the present time.) Notice that in the case of an operating lease there is no balance sheet recognition of the leased asset

because the substance of the lease is merely that of a rental. There is no reason to expect that the lessee will derive any future economic benefit from the leased asset beyond the lease term. There may, however, be a deferred or :credit onrethe if the schedule under terms of W ile y Icharge AS 2 0 03 I n t erp t atbalance ion an d sheet Ap p licat io npayment of the lease does not correspond with the expense recognition, as suggested in the preceding paragraph. I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

Finance leases. Mir za

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages)

The classificationThis of acom lease must be determined prior to consideration of the accounting treatment. pact and t ruly com pr ehensive qui ck - refer ence Therefore, it is necessary first to evaluate leasetotransaction the eight criteria set forth in IAS pr esent s account ants withthe a guide depend on against for 17 (revised 1997). Assumingin that the lease agreement of these (while recognizing that the assistance the prepar at ion and undersatisfies standing one of financial statements ed indeterminative, accordance with last three of the eight are notpresent absolutely butI AS. are instead persuasive), it must be accounted for as a finance lease. T ab le of Con t en t s Wiley I AS 20to 03—Int er pretation andshall Application I nternational Account ing and an obligation (liability) at According IAS 17, the lessee record aoffinance lease as an asset Standar ds

an amount equal to the lesser of (1) the fair value of the leased property at the inception of the lease, net of grants and tax credits receivable by the lessors, or (2) the present value of the minimum lease Chapter 1 - I ntr oduction to I nter national Accounting Standar ds payments. For purposes of this computation, the minimum lease payments are considered to be the Chapter 2 that - Balance Sheet is obligated to make or can be required to make, excluding contingent rent payments the lessee I ncom e Statement, Stat em entmaintenance, of Chan ges inand Equit y, and Statem ent lease payments and executory costs such as insurance, taxes. The minimum Chapter 3 of Recognized Gains and Losses generally include the minimum rental payments, and any guarantee of the residual value made by the Chapter 4 - Cash Flow St at em ent lessee or a party related to the lessee. If the lease includes a bargain purchase option (BPO), the Chapter - Financial uments—Cash andisReceiv ables amount5required to beI nstr paid under the BPO included in the minimum lease payments. The present Chapter 6 I nventor y value shall be computed using the incremental borrowing rate of the lessee unless it is practicable for Chapter 7 -toRev enue Recogni tion, I ncluding Constr uction act s the lessee determine the implicit rate computed by theContr lessor. Preface

Chapter 8

- Property , Plant , and Equipment (Under 9US- GAAP, exception is made when the FMV of the leased asset is lower than the Chapter I ntangi an ble important Asset s

PV of the minimum payments, not yet beenes,considered under IAS 17. In I nterestslease in Financial Instrwhich um entexception s, Associathas es, Joint Ventur and such a caseI an implicit is ty computed through a series of trial-and-error calculations. This rule is nvestm ent rate Pr oper entirely11 logical, since Combinations it is well established in GAAP assets are not to be recorded at amounts Chapter - Business and Consolidat ed that Fin ancial Statements greater thanCurr fair ent value or net realizable value at acquisition. This exception Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t hehas been illustrated in a Chapter 12 numerical case studySheet that follows.) Balance Date Chapter 10 -

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

The lease term to be used in the present value computation is the fixed, noncancelable term of the lease, plus any further terms for which the lessee has the option to continue to lease the asset, with or Chapter 15 - I ncom e Taxes without further payment, provided that it is reasonably certain, as of the beginning of the lease, that Chapter 16 - Em ploy ee Benefit s lessee will exercise such a renewal option. Chapter 14 - Leases

Chapter 17 - Stock holder s' Equit y

Chapter 18 - Earnings Share assets. Depreciation of Per leased Chapter 19 - I nterim Financial Repor ting Chapter The depreciation 20 - Segm of entthe Repor leased ting asset will depend on how the lease qualified as a finance lease. If the

lease transaction met the criteriaand as either transferring Chapter 21 - Accounting Changes Cor rection of Er ror sownership or containing a bargain purchase option, 22 the-asset arising from the transaction is to be depreciated over the estimated useful life of the Chapter For eign Curr ency leased 23 property. If the transaction qualifies as a finance lease because it met either the major part of Chapter - RelatedPart y Disclosures economic criteria, orI ndustr because Chapter 24 life - Specialized ies the present value of the minimum lease payments represented

substantially all of theand fairHyperinflation value of the underlying asset, then it must be depreciated over the shorter of Chapter 25 - I nflation

the lease term or the useful life of the leased property. The conceptual rationale for this differentiated treatment arises because of the substance of the transaction. Under the first two criteria, the asset Appendix A - Di sclosure Checklist actually becomes the property of the lessee at the end of the lease term (or on exercise of the BPO). In Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS the latter situations, title to the property remains with the lessor. Chapter 26 - Gov er nm ent Gr an ts

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

I ndex Thus, the leased asset is to be depreciated (amortized) over the shorter of the lease term or its useful List lifeofif Tables title does not transfer to the lessee, but when it is reasonably certain that the lessee will obtain List of Ex hibits Ex amofples ownership by and the end the lease term, the leased asset is to be depreciated over the asset's useful

life.ofThe manner in which depreciation is computed should be consistent with the lessee's normal List Sidebar s depreciation policy for other depreciable assets owned by the lessee, recognizing depreciation on the basis set out in IAS 16. Therefore, the accounting treatment and method used to depreciate (amortize) the leased asset is very similar to that used for an owned asset. The leased asset should not be depreciated (amortized) below the estimated residual value. In some instances when the property is to revert back to the lessor, there may be a guaranteed residual value. This is an amount that the lessee guarantees to the lessor. If the fair value of the asset at the end of the lease term is greater than or equal to the guaranteed residual amount, the lessee incurs no

additional obligation. On the other hand, if the fair value of the leased asset is less than the guaranteed residual value, the lessee must make up the difference, usually with a cash payment. The guaranteed residual value is often a device tore reduce periodic payments W ile yused I AS as 2 0 03 : I n t erp t at ionthe an d Ap p licat io n o f by substituting the lump-sum amount at the end of the term that results from the guarantee. In any event the depreciation I n t er n at ion al Accou n t in g St an d ar ds (amortization) must still be based on the estimated residual value. This results in a rational and ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir zaof the expense through the periods and avoids recognizing a large expense (or systematic allocation loss) in the last period asley a result of©the John Wi & Sons 2003guarantee. (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence

The annual (periodic) rent payments lease term are to be apportioned between the pr esent s account antsmade with aduring guidethe to depend on for reduction in the obligation theprepar finance charge (interest expense) in a manner such that the finance assistanceand in the at ion and under standing of financial statements present edainconstant accordance with rate I AS. of interest on the remaining balance of charge (interest expense) represents periodic the lease obligation. This is commonly referred to as the effective interest method. However, it is to be T ab le of Con t en t s noted that IAS 17 also recognizes that an approximation of this pattern can be made, as an alternative. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

At the inception of the lease the asset and liability (relating to future rental obligation) are recorded in the balance sheet of the lessee at the same amounts. However, since the depreciation charge for use Chapter 1 - I ntr oduction to I nter national Accounting Standar ds of the leased asset and the finance expense during the lease term differ due to different policies being Chapter - Balancethem, Sheetas explained above, it is likely that the asset and related liability balances used to2recognize I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent would not Chapter 3 be - equal in amount after inception of the lease. Preface

of Recognized Gains and Losses

Chapter 4 - Cash Flow Stillustrate at em ent the treatment described in the foregoing paragraphs: The following examples Chapter 5 - Financial I nstr uments—Cash and Receiv ables

Example for a finance lease—Asset returned to lessor Chapter 6 of - I accounting nventor y Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Assume the following:

Chapter 8

- Property , Plant , and Equipment 1. The isble initiated Chapter 9 - lease I ntangi Asset son 1/1/03 for equipment with an expected useful life of 3 years. The

equipment reverts back toInstr the um lessor onAssociat expiration of theVentur leasees, agreement. I nterests in Financial ent s, es, Joint and

Chapter 10 -

I nvestm ent Pr oper ty

2. The FMV of the equipment is $135,000.

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he 3. Three Chapter 12 - payments are due to the lessor in the amount of $50,000 per year beginning 12/31/03. An Balance Sheet Date

additional sum of $1,000 is to be paid annually by the lessee for insurance.

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 14 - Leases 4. Lessee guarantees a $10,000 residual value on 12/31/05 to the lessor. Chapter 15 - I ncom e Taxes

5. Irrespective of the $10,000 residual value guarantee, the leased asset is expected to have only Chapter 16 - Em ploy ee Benefit s Chapter a 17$1,000 - Stocksalvage holder s'value Equit yon 12/31/05. Chapter 18 - Earnings Per Share

6. The lessee's incremental borrowing rate is 10% (lessor's implicit rate is unknown).

Chapter 19 - I nterim Financial Repor ting Chapter 7. The 20 - present Segm entvalue Repor ofting the lease obligation is as follows: Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 Forguaranteed eign Curr ency PV- of residual value Chapter 23 - Related- Part y Disclosures

PV of annual payments

Chapter 24 - Specialized I ndustr ies

=

$10,000 x 0.7513[a]

=

$ 7,513

=

$50,000 x 2.4869[b]

=

124,345

$131,858 present value oftsan amount of $1 due in 3 periods at 10% is 0.7513. Chapter 26 - Gov er nm ent Gr an Chapter 25 - I nflation and Hyperinflation [a]The

Appendix A - Di sclosure Checklist [b]The

present value of an ordinary annuity of $1 for 3 periods at 10% is 2.4869.

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

The first step in dealing with any lease transaction is to classify the lease. In this case, the lease term is

I ndex for 3 years, which is equal to 100% of the expected useful life of the asset. Notice that the test of fair List of Tables value versus present value is also fulfilled, as the PV of the minimum lease payments ($131,858) could List of Ex hibits and Ex am easily be considered asples being equal to substantially all the FMV ($135,000), being equal to 97.7% of List Sidebar s this lease should be accounted for as a finance lease. theofFMV. Thus,

In assumption 7 above the present value of the lease obligation is computed. Note that the executory costs (insurance) are not included in the minimum lease payments and that the incremental borrowing rate of the lessee was used to determine the present value. This rate was used because the implicit rate was not determinable. Note To have used the implicit rate it would have to have been known to the lessee.

The entry necessary to record the lease on 1/1/03 is Leased equipment 131,858 W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

131,858 Lease by Bar r y J. Epstein and Abbas Ali obligationMir za

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages)

Note that the lease is com recorded at the present value of the minimum lease payments, which in this case This pact and t ruly com pr ehensive qui ck - refer ence is less than the FMV. If the present value of the minimum lease payments had exceeded the FMV, the pr esent s account ants with a guide to depend on for assistance the prepar at ion and under standing of financial lease would be recorded at in FMV. statements present ed in accordance with I AS.

The next step is to determine the proper allocation between interest and a reduction in the lease T ab le of Con t en t s obligation for each lease payment. This is done using the effective interest method as illustrated below. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Cash

Preface

Interest

Reduction inlease

Year payment expense obligation Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Chapter 2 - of Balance Sheet Inception

Balance oflease obligation $131,858

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent lease Chapter 3 of Recognized Gains and Losses

1 - Cash Flow St $50,000 $13,186 at em ent Chapter 5 2 - Financial I nstr 50,000 uments—Cash and9,504 Receiv ables Chapter 4 Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

3

50,000

5,452

$36,814

95,044

40,496

54,548

44,548

10,000

Chapter 8 - Property , Plantat , and The interest is calculated 10%Equipment (the incremental borrowing rate) of the balance of the lease obligation Chapter - I ntangi Asset s for each9 period, andblethe remainder of the $50,000 payment is allocated to a reduction in the lease

obligation. The lesseeinisFinancial also required toent pay ones, an and annual basis. The entries I nterests Instr um s, $1,000 Associatfor es,insurance Joint Ventur Pr oper ty relative to the lease for each of the 3 years are shown below. necessary toI nvestm record ent all payments

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he 12/31/03 12/31/04 12/31/05 Balance Sheet Date

Insurance 1,000 1,000 Chapter 13 - expense Financial I nstr uments—LongTer m Debt

1,000

Chapter 14expense - Leases Interest

13,186

9,504

5,452

Chapter 16 - Em ploy ee Benefit s

36,814

40,496

44,548

Chapter Cash 17 - Stock holder s' Equit 51,000 y

51,000

51,000

Chapter 15 - I ncom e Taxes

Lease obligation

Chapter 18 - Earnings Per Share

The leased recorded asting an asset must also be amortized (depreciated). The balance of this Chapter 19 - equipment I nterim Financial Repor account20is -$131,858; however, Chapter Segm ent Repor ting as with any other asset, it cannot be depreciated below the estimated

residual value of $1,000 (note that it is depreciated down to the actual estimated residual value, not the guaranteed residual value). In this case, the straight-line depreciation method is applied over a period Chapter 22 - For eign Curr ency of 3 years. This 3-year period represents the lease term, not the life of the asset, because the asset Chapter 23 - Related- Part y Disclosures reverts back to the lessor at the end of the lease term. Therefore, the following entry will be made at the Chapter 24 - Specialized I ndustr ies end of each year: Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Depreciation expense

Appendix A - Di sclosure Checklist

43,619

Appendix Accumulated B - I llustrativ e Financial St atem ent s Pr43,619 esent ed[($131,858 Under I AS- $1,000) ÷ 3] Appendix depreciation C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Finally, on 12/31/05 we must recognize the fact that ownership of the property has reverted back to the List of Tables owner The lessee List of Ex(lessor). hibits and Ex am ples made a guarantee that the residual value would be $10,000 on 12/31/05; as a result, the lessee must make up the difference between the guaranteed residual value and the actual List of Sidebar s residual value with a cash payment to the lessor. The following entry illustrates the removal of the leased asset and obligation from the books of the lessee:

Lease obligation Accumulated depreciation Cash

10,000 130,858

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g 9,000 St an d ar ds ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali

131,858

Mir za Leased equipment

John Wi ley & Sons © 2003 (952 pages)

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for The foregoing example illustrated a situation where the asset was to be returned to the lessor. Another assistance in the prepar at ion and under standing of financial situation exists (under BPO or transfer of accordance title) where with the asset statements present ed in I AS. is expected to remain with the lessee.

Remember that leased assets are amortized over their useful life when title transfers or a bargain T ab le of Con t en t sexists. At the end of the lease, the balance of the lease obligation should equal the purchase option Wiley I AS 20 03—Int er pretation Application of I nternational ing guaranteed residual value, theand bargain purchase option price,Account or a termination penalty. Standar ds Preface Example of accounting for a finance lease—Asset ownership transferred to lessee and fair Chapter - I ntr I nterlower national Accounting dsminimum lease payments market1value ofoduction leased to asset than present Standar value of Chapter 2

- Balance Sheet

Assume the Ifollowing: ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of Recognized Gains and Losses for equipment with an expected useful life of 5 years. 1. A 3-year lease is initiated on 1/1/03 Chapter 4

- Cash Flow St at em ent 2. Three annual lease payments of $52,000 areables required beginning on 1/1/03 (note that the Chapter 5 - Financial I nstr uments—Cash and Receiv

at the Chapter payment 6 - I nventor y beginning of the year changes the PV computation). The lessor pays $2,000 per on tion, the equipment. Chapter year 7 - for Revinsurance enue Recogni I ncluding Constr uction Contr act s Chapter 8

- Property , Plant , and Equipment

3. The lessee can exercise a bargain purchase option on 12/31/05 for $10,000. The expected - I ntangi ble Asset s residual value at 12/31/06 is $1,000.

Chapter 9

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty borrowing rate is 10% (lessor's implicit rate is unknown). 4. The lessee's incremental Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 10 -

5. The fair value the isions, property leased is $140,000. Currmarket ent Liabilit ies,ofProv Cont ingencies, and Ev ents after t he

Chapter 12 -

Balance Sheet Date Once again, the classification of the lease take place prior to the accounting for it. This lease is Chapter 13 - Financial I nstr uments—LongTermust m Debt

classified a finance lease because it contains a bargain purchase option (BPO). Note that in this Chapter 14 as - Leases case, the versus FMV test is also clearly fulfilled. Chapter 15 PV - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s

The PV of the lease obligation is computed as follows:

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

PV of bargain purchase option

=

Chapter 19 - I nterim Financial Repor ting

PV of 20 annual payments Chapter - Segm ent Repor ting

=

$10,000 ($52,000 - $2,000)

x 0.7513[a]

=

$ 7,513

2.7355[b]

=

136,755

x

Chapter 21 - Accounting Changes and Cor rection of Er ror s

$144,288

[a]The present Chapter 22 - For value eign Curr ency of an amount of $1 due in 3 periods at 10% is 0.7513. Chapter 23 - Related- Part y Disclosures [b]The present value of Ian annuity Chapter 24 - Specialized ndustr ies due of $1 for 3 periods at 10% is 2.7355.

Chapter 25 - I nflation and Hyperinflation

Notice that the the present value of the lease obligation is greater than the FMV of Chapter 26 - in Gov erexample nm ent Grabove, an ts

the asset. Also notice that since the lessor pays $2,000 a year for insurance, this payment is treated as executory costs and hence excluded from calculation of the present value of annual payments. In Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS conclusion, since the PV is greater than the FMV, the lease obligation (as well as the leased asset) Appendix C - Com parison of I AS, US GAAP, and UK GAAP must be recorded at the FMV of the asset leased (being the lower of the two). The entry on 1/1/03 is as I ndex follows: Appendix A - Di sclosure Checklist

List of Tables

List of Ex hibits and Ex am ples

Leased equipment

List of Sidebar s

Obligation under finance lease

140,000 140,000

According to IAS 17, the apportionment between interest and principal is to be such that interest recognized reflects the use of a constant periodic rate of interest applied to the remaining balance of the obligation. As noted above, a special rule applies under US GAAP (which are illustrated here) when the present value of the minimum lease pay-ments exceeds the fair market value of the leased asset. When the PV exceeds the FMV of the leased asset, a new rate must be computed through a series of

trial-and-error calculations. In this situation the interest rate was determined to be 13.265%. The amortization of the lease takes place as follows: W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t erCash n at ion al AccouInterest n t in g St an d arReduction ds inlease

Year Inception of lease 1/1/03 1/1/04

by payment Bar r y J. Epstein and Abbas Ali expense Mir za John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366 obligation

$140,000

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with on for $50,000 $ --a guide to depend $50,000 assistance in the prepar at ion and under standing of financial statements in accordance with I AS. 50.000 present ed 11,939 38,061

1/1/05 T ab le of Con t en t s

50,000

6,890

Balance of lease obligation

43,110

90,000 51,939 8,829

Wiley12/31/05 I AS 20 03—Int er pretation Account ing 10,000 and Application 1,171 of I nternational 8,829 Standar ds

--

Preface The following entries are required in years 2003 through 2005 to recognize the payment and Chapter 1 - I ntr oduction to I nter national Accounting Standar ds depreciation (amortization). Chapter 2

- Balance Sheet

Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent 2003 2004 of Recognized Gains and Losses

Chapter 1/1 4 Operating - Cash Flow expense St at em ent Chapter 5

2,000

- Financial I nstr uments—Cash and Receiv ables

Obligation under finance

50,000

2,000

2,000

38,061

43,110

Chapter 6 lease - I nventor y Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s Chapter 8

Accrued interest payable - Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s Cash

2005

11,939

52,000

6,890 52,000

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 12/31 10 Interest expense 11,939 6,890 I nvestm ent Pr oper ty

52,000 1,171

Chapter 11 - Business Combinations and Consolidat ed11,939 Fin ancial Statements 6,890 Accrued interest Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 payable Balance Sheet Date

1,171

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Obligation under

Chapter 14 - Leases finance lease Chapter 15 - I ncom e Taxes

12/31

Depreciation expense

Chapter 16 - Em ploy ee Benefit s

27,800

Chapter 17 - StockAccumulated holder s' Equit y

27,800 27,800

27,800 27,800

27,800

Chapter 18 - Earnings Per Share depreciation Chapter 19 - I nterim Financial five Repor ting ($139,000, Chapter 20 - Segmyears) ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

12/31

Obligation under finance lease

Chapter 22 - For eign Curr ency

10,000

Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized Cash I ndustr ies

10,000

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Impairment of leased asset. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

The original IAS parison 17 did not the issue of how impairments of leased assets are to be assessed Appendix C - Com of I address AS, US GAAP, and UK GAAP

or, if determined to have occurred, how they would need to be accounted for. The revised IAS 17 does I ndex note that the provisions of IAS 36 should be applied to leased assets in the same manner as they would be applied to owned assets. IAS 36 is discussed more fully in Chapter 8.

List of Tables

List of Ex hibits and Ex am ples List of Sidebar s

Accounting for Leases—Lessor As illustrated above, there are four classifications of leases with which a lessor must be concerned. 1. Operating 2. Sales-type 3. Direct financing

4. Leveraged

Operating leases. W ile y I AS 2 0 03 :

I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

As in the case of by theBar lessee, the operating lease complex accounting treatment than ISBN:0471227366 r y J. Epstein and Abbas Alirequires a less does a finance lease. Mir zaThe payments received by the lessor are to be recorded as rent income in the period in which the payment received becomes John Wi ley &isSons © 2003or(952 pages) receivable. As with the lessee, if either the rentals vary from a straight-line basis the lease a scheduled rent increase over the This com pact or and t ruly comagreement pr ehensivecontains qui ck - refer ence lease term, the revenue to be recorded a straight-line basis unless an alternative basis of pr esent sisaccount ants withon a guide to depend on for assistance in the prepar ion and under standing of financial systematic and rational allocation is moreat representative of the time pattern of earning process statements present ed in accordance with I AS. contained in the lease. Additionally, if the lease agreement provides for a scheduled increase(s) in contemplation T ab le of Con t enof t s the lessee's increased physical use of the leased property, the total amount of rental payments, including the scheduled increase(s), allocated toAccount revenue Wiley I AS 20 03—Int er pretation and Application of Iisnternational ingover the lease term on a straight-line basis. However, if the scheduled increase(s) is due to additional leased property, Standar ds recognition should be proportional to the leased property, with the increased rents recognized over the Preface years that lessee hastocontrol over use of the additional leased property. Chapter 1 -the I ntr oduction I nter national Accounting Standar ds Chapter 2

- Balance Sheet

Chapter 8

- Property , Plant , and Equipment

The lessor must show the leased property on the balance sheet under the caption "Investment in I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter leased 3property." This account should be shown with or near the property, plant, and equipment owned of Recognized Gains and Losses by the lessor, and depreciation should be determined in the same manner as for the rest of the lessor's Chapter 4 - Cash Flow St at em ent owned property, plant, and equipment. IAS 17 stipulates that "when a significant portion of the lessor's Chapter 5 - Financial I nstr uments—Cash and Receiv ables business comprises operating leases, the lessor should disclose the amount of assets by each major Chapter 6 - I nventor y class of asset together with the related accumulated depreciation at each balance sheet date." Further, Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s "assets held for operating are usually included as property, plant, and equipment in the balance sheet." In the case operating leases, any initial direct (leasing) costs incurred by a lessor are either to be Chapter 9 - of I ntangi ble Asset s amortized over the lease term asInstr the revenue is recognized (i.e., on aes, straight-line basis unless another I nterests in Financial um ent s, Associat es, Joint Ventur and I nvestm ent Pr oper ty or, alternatively, charged to expense as they are incurred. method is more representative)

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Although there noLiabilit guidance on this matter the international accounting standards, logically any Currisent ies, Prov isions, Contunder ingencies, and Ev ents after t he incentives made by the lessor Balance Sheet Dateto the lessee are to be treated as reductions of rent and recognized on a straight-line basis over theuments—Longterm of the lease. Chapter 13 - Financial I nstr Ter m This Debtis also the position taken under US GAAP. Chapter 12 -

Chapter 14 - Leases

Depreciation of leased assets should be on a basis consistent with the lessor's normal depreciation policy for similar assets, and the depreciation expense should be computed on the basis set out in IAS Chapter 16 - Em ploy ee Benefit s 16. Chapter 15 - I ncom e Taxes

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Sales-type leases.

Chapter 19 - I nterim Financial Repor ting

In the accounting for a sales-type lease, it is necessary for the lessor to determine the following Chapter 20 - Segm ent Repor ting amounts: Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency 1. Gross investment Chapter 23 - Related- Part y Disclosures

2. Fair of the Ileased asset Chapter 24 - value Specialized ndustr ies Chapter 25 - I nflation and Hyperinflation

3. Cost

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure the Checklist From these amounts, remainder of the computations necessary to record and account for the lease Appendix transaction B - can I llustrativ be made. e Financial The first St atem objective ent s Pr isesent to determine ed Under the I ASnumbers necessary to complete the

followingCentry: Appendix - Com parison of I AS, US GAAP, and UK GAAP I ndex ListLease of Tables receivable

XX

List of Ex hibits and Ex am ples

XX

Cost of goods sold

List of Sidebar s

Sales

XX

Inventory

XX

Unearned finance income

XX

The gross investment (lease receivable) of the lessor is equal to the sum of the minimum lease

payments (excluding contingent rent and executory costs) from the standpoint of the lessor, plus the nonguaranteed residual value accruing to the lessor. The difference between the gross investment and the present valueWofilethe (i.e., minimum lease payments and y Itwo AS 2components 0 03 : I n t erpof regross t at ioninvestment an d Ap p licat io n of nonguaranteed residual value) is recorded as "unearned finance income" (also referred to as "unearned I n t er n at ion al Accou n t in g St an d ar ds interest revenue"). The present value is to be computed using the lease term and implicit interest rate ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za (both of which were discussed earlier). John Wi ley & Sons © 2003 (952 pages)

IAS 17 stipulates This that com the pact resulting unearned finance income is to be amortized and recognized into and t ruly com pr ehensive qui ck - refer ence income using thepr effective interest method, result inona for constant periodic rate of return on the esent s account ants with awhich guidewill to depend the "unearned finance income"). "lessor's net investment" (which the "lessor's gross investment" assistance in theisprepar at ion and under standing ofless financial presentcomputational ed in accordance with I AS. The requirement statements that only a single approach be employed is the key change from the original IAS 17, which had permitted a free choice of method in allocation of finance income by the T ab le of Con t en t s lessor using the effective interest method based on either Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar The lessor's net investment outstanding in respect of the finance lease; or 1. ds Preface

2. The net cash investment outstandingStandar in respect Chapter 1 - lessor's I ntr oduction to I nter national Accounting ds of the finance lease. Chapter 2

- Balance Sheet Because this choice of computational methods permitted significantly different results to be reported by I ncomine substantially Statement, Stat em ent transactions, of Chan ges initEquit and Statem entities3engaged identical was y,eliminated byent IAS 17. Chapter of Recognized Gains and Losses

Chapter 4 - Cash Flow St at emisent Consideration of "prudence" called for by IAS 17 in recognizing finance income, which is in any event Chapter 5 - Financial I nstr uments—Cash Receivstatements ables a qualitative characteristic or attribute of and financial prepared under the IAS. The IASC's Chapter 6 - for I nventor y Framework Preparation and Presentation of Financial Statements makes it incumbent on financial statement exercise other words, it requires caution in the exercise of Chapter 7 -preparers Rev enue to Recogni tion,prudence; I ncluding in Constr uction Contr act s

judgment. 17 clarifies the context of spreading income on a systematic basis, by giving the Chapter 8 -IAS Property , Plant this , andinEquipment example of uncertainties relative to collectibility of lease rentals or to fluctuation of Chapter 9 of- recognition I ntangi ble Asset s interest ratesI nterests in the future. For instance, thes,uncertainties surrounding collectibility of lease rentals in Financial Instr um ent Associat es, Joint Ventur es, and usually increase withent thePrlease I nvestm oper tyterm (i.e., the longer the lease term, the greater are the risks involved), and thus the principle prudence,edmodification of the pattern of income recognition Chapter 11in- keeping Businesswith Combinations andofConsolidat Fin ancial Statements may be required to compensate. Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 10 -

Chapter 12 -

Balance Sheet Date For example, a lessorI nstr mayuments—Longdecide to delay recognition of finance income into the later years in the Chapter 13 - Financial Terthe m Debt

case of14 leases with terms spread over twenty years and above, as opposed to short-term leases with Chapter - Leases

terms of three to five years, since predicting with certainty long-term collectibility, which depends on a number of factors such as the future financial position of the lessee, is a very difficult task. Effectively, Chapter 16 - Em ploy ee Benefit s more of the earlier collections might be seen as returns on investment, rather than income, until longerChapter 17 - Stock holder s' Equit y term viability has been demonstrated. Chapter 15 - I ncom e Taxes

Chapter 18 - Earnings Per Share

Chapter 19 - the I nterim Financial Repor ting of the leased property is by definition equal to the normal selling Recall that fair market value (FMV) Chapter Segm ent Repor ting price of20 the- asset adjusted by any residual amount retained (this amount retained can be exemplified by Chapter an unguaranteed 21 - Accounting residual Changes value,and investment Cor rection credit, of Eretc.). ror s According to IAS 17, the selling price to be

used for22a -sales-type lease Chapter For eign Curr encyis equal to the fair value of the leased asset, or if lower, the sum of the present23 values of thePart MLP and the estimated unguaranteed residual value accruing to the lessor, Chapter - Relatedy Disclosures discounted a commercial rate Chapter 24 - at Specialized I ndustr iesof interest. In other words, the normal selling price less the present value of25the residual value is equal to the present value of the MLP. (Note that this Chapter - Iunguaranteed nflation and Hyperinflation

relationship is sometimes Chapter 26 - Gov er nm ent Grused an ts while computing the MLP when the normal selling price and the residual value are known; this is illustrated in a case study that follows.)

Appendix A - Di sclosure Checklist

Appendix I llustrativ e Financial St atemagainst ent s Pr esent ed in Under I AS The costBof- goods sold to be charged income the period of the sale is computed as the Appendix C Com parison of I AS, US GAAP, and UK GAAP historical cost or carrying value of the asset (most likely inventory) plus any initial direct costs. Initial I ndex direct costs should be recognized as an expense at the inception of the lease, since these costs are List of Tables related to earning the manufacturer's or dealer's profit. List of Ex hibits and Ex am ples

Theofestimated List Sidebar s unguaranteed residual values used in computing the lessor's gross investment in a

lease should be reviewed regularly. In case of a permanent reduction (impairment) in the estimated unguaranteed residual value, the income allocation over the lease term is revised and any reduction with respect to amounts already accrued is recognized immediately. To attract customers, manufacturer or dealer lessors sometimes quote artificially low rates of interest. This has a direct impact on the recognition of built-in profit, which is an integral part of the deal and is inversely proportional to the finance income generated from the deal. Thus, if finance income is artificially low, this results in recognition of excessive profit from the transaction at the time of the sale.

Under such circumstances, the standard requires that selling profit be restricted to that which would have resulted had a commercial rate of interest been used in the deal. Thus, the substance of the transaction should in :the W be ile yreflected I AS 2 0 03 I n financial t erp re t atstatements. ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

The difference between the selling price and the amount computed as the cost of goods sold is the ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali gross profit recognized Mir za by the lessor on the inception of the lease (sale). Manufacturer or dealer lessors often give an option toWi their of either leasing the asset (with financing provided by them) or John ley customers & Sons © 2003 (952 pages) buying the asset outright. Thus, a finance lease by a manufacturer or dealer lessor, also referred to as This com pact and t ruly com pr ehensive qui ck - refer ence a sales-type lease, generates two types of revenue the lessor. pr esent s account ants with a guide tofordepend on for in theonprepar at ionwhich and under of financial profit (or loss) the sale, is thestanding equivalent to the profit (or loss) that would 1. The gross assistance statements present ed in accordance with I AS. have resulted from an outright sale at normal selling prices. T ab le of Con t en t s

2. The finance income or interest earned on the lease receivable to be spread over the lease term

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing based on a pattern reflecting a constant periodic rate of return on either the lessor's net Standar ds

Preface investment outstanding or the net cash investment outstanding in respect of the finance lease. Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

The application of these points is illustrated in the example below.

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Example Chapter 3 of - accounting for a sales-type lease of Recognized Gains and Losses Chapter 4 is- aCash Flow St at em XYZ Inc. manufacturer of ent specialized equipment. Many of its customers do not have the necessary Chapter - Financial I nstr uments—Cash and ReceivBecause ables funds or5 financing available for outright purchase. of this, XYZ offers a leasing alternative. The

data relative to a typical lease are as follows: Chapter 6 - I nventor y Chapter 7 - noncancelable Rev enue Recogni tion,portion I ncluding Constr uction s 1. The fixed of the lease termContr is 5 act years. The lessor has the option to renew Chapter the 8 -lease Property , Plant , and Equipment for an additional 3 years at the same rental. The estimated useful life of the asset is 10 Chapter years. 9 - I ntangi bleguarantees Asset s Lessee a residual value of $40,000 at the end of 5 years, but the guarantee I nterests in um ent s, exercised. Associat es, Joint Ventur es, and if the full 3Financial renewalInstr periods are Chapter lapses 10 I nvestm ent Pr oper ty

2. The is to receive equal annual payments term of the lease. The leased property Chapter 11 - lessor Business Combinations and Consolidat ed Finover ancialthe Statements reverts back the ies, lessor onisions, termination of the lease. Curr ent to Liabilit Prov Cont ingencies, and Ev ents after t he

Chapter 12 -

Balance Sheet Date 3. The is initiated on 1/1/03. Payments Chapter 13 - lease Financial I nstr uments—LongTer m Debtare due on 12/31 for the duration of the lease term. Chapter 14 - Leases

4. The cost of the equipment to XYZ Inc. is $100,000. The lessor incurs cost associated with the inception of the lease in the amount of $2,500.

Chapter 15 - I ncom e Taxes

Chapter 16 - Em ploy ee Benefit s Chapter 5. The 17 - selling Stock holder prices'ofEquit the equipment y for an outright purchase is $150,000. Chapter 18 - Earnings Per Share

6. The equipment is expected to have a residual value of $15,000 at the end of 5 years and $10,000 at the end of 8 years.

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

Chapter 21 - lessor Accounting Changes and rection of Er ror rate). s 7. The desires a return ofCor 12% (the implicit Chapter 22 - For eign Curr ency

The first is to calculate the annual payment due to the lessor. Recall that the present value (PV) of Chapter 23step - RelatedPart y Disclosures the minimum lease payments Chapter 24 - Specialized I ndustris iesequal to the selling price adjusted for the present value of the residual amount.25The presentand value is to be computed using the implicit interest rate and the lease term. In this Chapter - I nflation Hyperinflation case, the is given Chapter 26 implicit - Gov errate nm ent Gr an tsas 12% and the lease term is 8 years (the fixed noncancelable portion

plus the renewal period, since the lessee guarantee terms make renewal virtually inevitable). Thus, the structure of the computation would be as follows:

Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Appendix C - Com parison of I AS, US -GAAP, UK GAAP Normal selling price PV ofand residual value = PV of minimum lease payment I ndex

Or,ofinTables this case, List List of Ex hibits and Ex am ples List$150,000 of Sidebar s

-

(0.40388 [a] x $10,000)

=

4.96764[b] x Minimum lease payment

$145,961.20

÷

4.96764

=

Minimum lease payment

[a]0.40388

$29,382.40 = Minimum lease payment is the present value of an amount of $1 due in 8 periods at a 12% interest rate.

[b]4.96764

is the present value of an annuity of $1 for 8 periods at a 12% interest rate.

Prior to examining the accounting implications of a lease, we must determine the lease classification. In

this example, the lease term is 8 years (discussed above) while the estimated useful life of the asset is 10 years; thus this lease qualifies as something other than an operating lease. (Note that it also meets the FMV versus PV criterion ofion the an minimum lease of $145,961.20, which is W ile y I AS 2because 0 03 : I n tthe erpPV re t at d Ap p licat io npayments of 97% of the FMV [$150,000], could be considered to be equal to substantially all of the fair value of the I n t er n at ion al Accou n t in g St an d ar ds leased asset.) Now it must be determined if this is a sales-type, direct financing, or leveraged lease. To ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za do this, examine the FMV or selling price of the asset and compare it to the cost. Because the two are not equal, we canJohn determine to ©be2003 a sales-type Wi ley &this Sons (952 pages) lease. This com pact and t ruly com pr ehensive qui ck - refer ence

Next, obtain the figures to record entry on the books pr esentnecessary s account ants with a the guide to depend on for of the lessor. The gross investment is the total minimum lease payments plus unguaranteed residual value, or assistance in the prepar at the ion and under standing of financial statements present ed in accordance with I AS.

($29,382.40 x 8) + $10,000 = $245,059.20

T ab le of Con t en t s

Wiley I AS 20 pretation and Application I nternational Account ing plus any initial direct costs The cost of03—Int goods er sold is the historical cost ofofthe inventory ($100,000) Standar ds less the PV of the unguaranteed residual value ($10,000 x 0.40388). Thus, the cost of goods ($2,500) Preface sold amount is $98,461.20 ($100,000 + $2,500 - $4,038.80). Note that the initial direct costs will require Chapter - I ntr to I nterusually nationalaccounts Accounting Standar a credit1entry to oduction some account, payable ords cash. The inventory account is credited for Chapter 2 - Balance the carrying value ofSheet the asset, in this case $100,000. I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 The adjustedofselling price Gains is equal the PV of the minimum payments, or $145,961.20. Finally, the Recognized andtoLosses

unearned income Chapter 4 finance - Cash Flow St atis emequal ent to the gross investment (i.e., lease receivable) less the present value of the components making up the gross and investment (the minimum lease payment of $29,382.40 and the Chapter 5 - Financial I nstr uments—Cash Receiv ables unguaranteed residual Chapter 6 - I nventor y of $10,000). The present value of these items is $150,000 [($29,382.40 x 4.96764) x 0.40388)]. the entry necessary Chapter 7 +- ($10,000 Rev enue Recogni tion, Therefore, I ncluding Constr uction Contr act sto record the lease is Chapter 8

- Property , Plant , and Equipment

Lease9receivable Chapter - I ntangi ble Asset s

245,059.20

I nterests es, Joint Ventur es, and Cost of sold in Financial Instr um ent s, Associat 98,461.20 Chapter 10goods I nvestm ent Pr oper ty Chapter 11 Inventory - Business Combinations and Consolidat ed Fin ancial 100,000.00 Statements

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 145,961.20 Sales Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt

95,059.20

Unearned finance income

Chapter 14 - Leases

2,500.00

Chapter 15 - I ncom e Taxes (initial direct Accounts payable Chapter 16 Em ploy ee Benefit s costs) Chapter 17 - Stock holder s' Equit y

The next in accounting for a sales-type lease is to determine proper handling of the payment. Both Chapter 18step - Earnings Per Share principal interestFinancial are included each payment. According to IAS 17, interest is recognized on a Chapter 19and - I nterim Repor in ting basis such a ent constant rate of return is earned over the term of the lease. This will require Chapter 20 - that Segm Repor periodic ting setting 21 up an amortization schedule below. Chapter - Accounting Changes and as Corillustrated rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part Cash y Disclosures ChapterYear 24 - Specializedpayment I ndustr ies

Interest

Reduction in principal

Chapter 25 - Iof nflation and Hyperinflation Inception

Balance ofnet investment $150,000.00

Chapterlease 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

1

$ 29,382.40

$18,000.00

$ 11,382.40

138,617.00

16,634.11 Appendix 2C - Com parison 29,382.40 of I AS, US GAAP, and UK GAAP

12,748.29

125,869.31

I ndex

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

3

29,382.40

15,104.32

14,278.08

111,591.23

29,382.40

13,390.95

15,991.45

95,599.78

29,382.40

11,471.97

17,910.43

77,689.35

6

29,382.40

9,322.72

20,059.68

57,629.67

7

29,382.40

6,915.56

22,466.84

35,162.83

8

29,382.40

4,219.57

25,162.83

10,000.00

$235,459,24

$95,059.20

$140,000.00

List of Tables

4

List of Ex hibits and Ex am ples

5 List of Sidebar s

A few of the columns need to be elaborated on. First, the net investment is the gross investment (lease

receivable) less the unearned finance income. Notice that at the end of the lease term, the net investment is equal to the estimated residual value. Also note that the total interest earned over the lease term is equal to ythe unearned income) W ile I AS 2 0 03 : I interest n t erp re (unearned t at ion an d finance Ap p licat io n o f at the beginning of the lease term. I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

The entries belowMir illustrate the proper treatment to record the receipt of the lease payment and the za amortization of the unearned income the first year. John Wi ley &finance Sons © 2003 (952 in pages) Cash

This com pact and t ruly com pr ehensive qui ck - refer ence 29,382.40 pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial 29,382.40with I AS. statements present ed in accordance Lease receivable

T abUnearned le of Con tfinance en t s income

18,000.00

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing 18,000.00 Standar dsInterest revenue Preface

Notice that- there is no explicit entry to recognize the principal reduction. This is done automatically I ntr oduction to I nter national Accounting Standar ds when the net investment is reduced by decreasing the lease receivable (gross investment) by Chapter 2 - Balance Sheet $29,382.40 and the unearned finance income account by only $18,000. The $18,000 is 12% (implicit I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter rate) of3the- net investment.Gains These entries of Recognized and Lossesare to be made over the life of the lease. Chapter 1

Chapter 4

Flow St at em ent At the end -ofCash the lease term the asset is returned to the lessor and the following entry is required:

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Asset

10,000

Chapter 8Leased - Property , Plant , and Equipment Chapter 9receivable - I ntangi ble Asset s Chapter 10 -

10,000

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

If the estimated I nvestm residual ent Prvalue oper ty has changed during the lease term, the accounting computations would have also reflect this. and Consolidat ed Fin ancial Statements Chapter 11 changed - BusinesstoCombinations Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter - Financial I nstr uments—Long- Ter m Debt Direct13financing leases. Chapter 14 - Leases

The accounting fore aTaxes direct financing lease holds many similarities to that for a sales-type lease. Of Chapter 15 - I ncom

particular that the Chapter 16 importance - Em ploy ee is Benefit s terminology used is much the same; however, the treatment accorded

these items varies greatly. Again, it is best to preface our discussion by determining our objectives in the accounting for a direct financing lease. Once the lease has been classified, it must be recorded. To Chapter 18 - Earnings Per Share do this, the following amounts must be determined: Chapter 17 - Stock holder s' Equit y

Chapter 19 - I nterim Financial Repor ting

1. Gross investment Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

2. Cost

Chapter 22 - For eign Curr ency Chapter 23 - RelatedPart y Disclosures 3. Residual value Chapter 24 - Specialized I ndustr ies

As noted, financing lease generally involves a leasing company or other financial institution and Chapter 25 a - Idirect nflation and Hyperinflation results in only interest revenue being earned by the lessor. This is because the FMV (selling price) and the cost are equal, and therefore no dealer profit is recognized on the actual lease transaction. Note Appendix A - Di sclosure Checklist how this is different from a sales-type lease, which involves both a profit on the transaction and interest Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS revenue over the lease term. The reason for this difference is derived from the conceptual nature Appendix C - Com parison of I AS, US GAAP, and UK GAAP underlying the purpose of the lease transaction. In a sales-type lease, the manufacturer (distributor, I ndex dealer, etc.) is seeking an alternative means to finance the sale of his product, whereas a direct List of Tables financing lease is a result of the consumer's need to finance an equipment purchase. Because the List of Ex hibits and Ex am ples conventional financing, he or she turns to a leasing company that will consumer is unable to obtain List of Sidebar purchase thes desired asset and then lease it to the consumer. Here the profit on the transaction remains with the manufacturer while the interest revenue is earned by the leasing company. Chapter 26 - Gov er nm ent Gr an ts

Like a sales-type lease, the first objective is to determine the amounts necessary to complete the following entry:

Lease receivable Asset

xxx xxx

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

xx Unearnedbyfinance Bar r y J. Epstein and Abbas Ali income Mir za

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages)

The gross investment is still defined as the amount of lease This com pact and t ruly comminimum pr ehensive qui ck - refer encepayments (from the standpoint of a lessor) exclusive of any executory costs plus the unguaranteed residual value. The difference pr esent s account ants with a guide to depend on for assistance in the prepar at ion above and under financial value) of the asset is to be between the gross investment as determined andstanding the costof(carrying statements present ed in accordance with is I AS. recorded as the unearned finance income because there no manufacturer's/dealer's profit earned on the T ab le transaction. of Con t en t sThe following entry would be made to record initial direct costs: Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar Initialds direct costs xx Preface

xx Cash - I ntr oduction to I nter national Accounting Standar ds

Chapter 1 Chapter 2

- Balance Sheet

Chapter 6

- I nventor y

Net investment in the lease is defined as the gross investment less the unearned income plus the I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - initial direct costs related to the lease. Initial direct costs are defined in the same way that unamortized of Recognized Gains and Losses they were for purposes of the sales-type lease; however, the accounting treatment is different. Unlike Chapter 4 - Cash Flow St at em ent under the sales-type lease, where these costs are required to be charged to expense immediately, Chapter 5 - Financial I nstr uments—Cash and Receiv ables under the direct finance lease there is an option available either initial direct costs over the lease term, or 1. To amortize - Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 7

Chapter 8 charge - Property , Plant , and Equipment 2. To them to expense immediately. Chapter 9

- I ntangi ble Asset s

Thus, for a direct financing lease,Instr when first optiones, is chosen, the es, unearned lease (i.e., interest) I nterests in Financial umthe ent s, Associat Joint Ventur and Chapter 10 nvestm entdirect Pr oper ty will be amortized to income over the lease term so that a constant income and Ithe initial costs Chapter - Business Combinations Consolidat ed Fin ancialoutstanding Statementsor on the net cash investment periodic11rate is earned either on theand lessor's net investment Curr entfinance Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t heinflows in respect of the outstanding in the lease (i.e., the balance of the cash outflows and Chapter 12 Balance Sheet Date lease excluding executory costs chargeable to the lessee). Thus, the effect of the initial direct costs, in Chapter 13option - Financial I nstr uments—LongDebt the implicit interest rate, or yield, to the lessor over case the to amortize is chosen, is Ter to m reduce Chapter 14 Leases the life of the lease. Chapter 15 - I ncom e Taxes

An example follows that illustrates the preceding principles. Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y

Example of accounting for a direct financing lease

Chapter 18 - Earnings Per Share

Chapter 19 Refining - I nterimneeds Financial ting Emirates newRepor equipment to expand its manufacturing operation; however, it does not Chapter 20 - Segm ent Repor ting have sufficient capital to purchase the asset at this time. Because of this, Emirates Refining has Chapter 21 Consolidated - Accounting Changes Cor rection of asset. Er ror s In turn, Emirates will lease the asset from employed Leasing and to purchase the Chapter Consolidated. 22 - ForThe eignfollowing Curr ency information applies to the terms of the lease: Chapter 233-year - RelatedPart Disclosures 1. A lease is yinitiated on 1/1/03 for equipment costing $131,858, with an expected useful life Chapter of 24 5- years. Specialized I ndustr ies of equipment is $131,858. FMV at 1/1/03 Chapter 25 - I nflation and Hyperinflation

2. Three annual payments Chapter 26 - Gov er nm ent Gr an ts are due to the lessor beginning 12/31/03. The property reverts back to on termination Appendixthe A -lessor Di sclosure Checklist of the lease. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

3. The unguaranteed residual value at the end of year 3 is estimated to be $10,000.

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

I ndex4. The annual payments are calculated to give the lessor a 10% return (the implicit rate). List of Tables

5. ExThe lease List of hibits and payments Ex am ples and unguaranteed residual value have a PV equal to $131,858 (FMV of asset) at the stipulated discount rate.

List of Sidebar s

6. The annual payment to the lessor is computed as follows:

PV of residual value

=

$10,000 x .7513[a] = $7,513

PV of lease payments

=

Selling price - PV of residual value

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in=g St an d ar ds $131,858-$7,513 = $124,345

ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali

Annual payment = $124,345 + 2.4869 [b] = $50,000 Mir za [a].7513 is the PV of an amount due in 3 periods at 10%. John Wi ley & Sons © 2003 (952 pages) [b]2.4869

This com pact and t ruly com pr ehensive qui ck - refer ence

is PV of an ordinary annuity of to$1depend per period for 3 periods, at 10% interest. pr the esent s account ants with a guide on for assistance in the prepar at ion and under standing of financial

statements presentare ed in accordance withinI AS. 7. Initial direct costs of $7,500 incurred by ABC the lease transaction. T ab of Con t s transaction, the first step must be to classify the lease appropriately. In this case, the Aslewith anyt en lease Wiley 03—Int er pretation and Application Account ing PV ofI AS the20lease payments ($124,345) is equaloftoI nternational 94% of the FMV ($131,858), thus could be considered Standar ds

as equal to substantially all of the FMV of the leased asset. Next, determine the unearned interest and

Preface the net investment in lease. Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Chapter 2

- Balance Sheet Gross investment in lease [(3 x $50,000) + $10,000]

$160,000

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Cost of leased property Gains and Losses 131,858 of Recognized

Chapter 3

-

Chapter 4 - finance Cash Flow St at em ent Unearned income Chapter 5

$ 28,142

- Financial I nstr uments—Cash and Receiv ables

Chapter 6 - I nventor y direct costs are to be added to the gross investment in the lease, and the The unamortized initial unearned income is to be Ideducted to arrive at the netact investment in the lease. The net Chapter 7 finance - Rev enue Recogni tion, ncluding Constr uction Contr s

investment the lease for, this is determined as follows: Chapter 8 - in Property , Plant and example Equipment Chapter 9

- I ntangi ble Asset s

Gross investment I nterests in inlease Financial Instr um$160,000 ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty

Add:

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

7,500 Curr ent Liabilit Prov isions, Cont ingencies, and Ev ents after t he Unamortized initialies, direct Chapter 12 Balance Sheet Date costs

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Less: 14 - Leases Chapter Chapter 15 - I ncom e Taxes

Unearned finance income

28,142

Chapter 16 - Em ploy ee Benefit s

Net investment leases' Equit y Chapter 17 - Stockin holder

$139,358

Chapter 18 - Earnings Per Share

The net investment in the lease (Gross investment - Unearned finance income) has been increased by the amount of initial direct costs. Therefore, the implicit rate is no longer 10%. We must recompute the Chapter 20 - Segm ent Repor ting implicit rate, which is really the result of an internal rate of return calculation. We know that the lease Chapter 21 - Accounting Changes and Cor rection of Er ror s payments are to be $50,000 per annum and that a residual value of $10,000 is available at the end of Chapter 22 term. - For eign Curr ency the lease In return for these payments (inflows) we are giving up equipment (outflow) and Chapter 23 Relatedy Disclosures incurring initial directPart costs (outflows), with a net investment of $139,358 ($131,858 + $7,500). The only Chapter - Specialized I ndustrrate ies is through a trial-and-error calculation as set up below. way to 24 obtain the new implicit Chapter 19 - I nterim Financial Repor ting

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix I llustrativ e Financial Where: iB=-implicit rate of interestSt atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

In this case, the implicit rate is equal to 7.008%. Thus, the amortization table would be set up as I ndex follows: List of Tables List of Ex hibits and Ex am ples List of Sidebar s

(a)

(b)

(c)

(d)

(e)

(f) PVI net investment in lease (f)(n + 1) = (f)n - (e)

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Reduction PVanxd ar ds Reduction Reduction I n t er n at ion al Accou n t in g St

in and Abbas Implicit by Bar r y J. Epstein Ali Mir za Lease unearned rate John Wi ley &Interest Sons © 2003 (952 pages) payments (7.008%)

in initial in PVI net ISBN:0471227366 direct investment costs (b-c) (a-b + d)

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

At inception 2003

$ 50,000

$13,186 (1)

$ 9,766

$3,420

$ 40,234

99,124

43,053

56,071

46,071

10,000

T ab le2004 of Con t en t s 50,000 9,504 (2) 6,947 2,557 Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing 2005 50,000 5,455 (3) 3,929 1,526 Standar ds Preface

$150,000

$28,145[a]

$20,642

$7.503

$139,358

$129,358

Chapter 1 - I ntr oduction to I nter national Accounting Standar ds [a]Rounded Chapter 2

- Balance Sheet

I ncom Statement, Stat em ent of Chan ges in Equit y, and Statem ent (b.1) $131.858 x e10% = $13,186 Chapter 3 of Recognized Gains and Losses

(b.2) [$131,858 - ($50,000 - 13,186)] x 10% = $9,504

Chapter 4

- Cash Flow St at em ent

(b.3) [$95,044 - ($50.000 - 9,504)1 x 10% $5,455 Chapter 5 - Financial I nstr uments—Cash and=Receiv ables Chapter 6

- I nventor y

Here the interest is computed as 7,008% of the net investment. Note again that the net investment at - Rev enue Recogni tion, I ncluding Constr uction Contr act s the end of the lease term is equal to the estimated residual value.

Chapter 7 Chapter 8

- Property , Plant , and Equipment

Chapter 9 made - I ntangi ble Asset s The entry initially to record the lease is as follows: I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty

Lease receivable** [($50,000 x 3) + $10,000]

160,000

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

131,858 Curr ent Liabilit Prov isions, Cont ingencies, and Ev ents after t he Asset acquired fories, leasing Chapter 12 Balance Sheet Date 28,142

Unearned lease Chapter 13 - Financial I nstrrevenue uments—Long- Ter m Debt Chapter 14 - Leases

When the obligation to pay) of the initial direct costs occurs, the following entry must be Chapter 15 payment - I ncom e (or Taxes made:

Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y

Initial direct costs Per 7,500 Chapter 18 - Earnings Share

Chapter 19 - I nterim Financial Repor ting 7,500

Cash

Chapter 20 - Segm ent Repor ting Chapter 21 schedule - Accounting Changes and Cor rection Er ror sbe made during each of the indicated years: Using the above, the following entriesofwould Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures2003

2004

Chapter 24 - Specialized I ndustr ies

Cash

50,000

50,000

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Lease

2005

50,000

50,000 50,000

50,000

Appendix receivable** A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Unearned finance income

13,186

9,504

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Initial direct costs

List of Tables

Interest List of Ex hibits andincome Ex am ples

3,420 9,766

2,557 6,947

List of Sidebar s

5,455 1,526 3,929

Finally, when the asset is returned to the lessor at the end of the lease term, it must be recorded on the books. The necessary entry is as follows: Used asset [a]Also

10,000

10,000 Lease receivable[a] commonly referred to as the "gross investment in lease."

Leveraged leases. ile ydiscussed I AS 2 0 03in : Idetail n t erpin reAppendix t at ion an d p licat io n o f because of the complexity Leveraged leasesWare B Ap of this chapter I n t er n at ion al Accou n t in g St an d ar ds involved in the accounting treatment based on guidance available under US GAAP, where this topic ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali has been given extensive coverage. Under International Accounting Standards, this concept has been Mir za defined, but with only a very brief outline of the treatment to be accorded to this kind of lease. A John Wi ley & Sons © 2003 (952 pages) leveraged lease is defined in IAS 17 as a finance lease which is structured such that there are at least This com pact and t ruly com pr ehensive qui ck - refer ence three parties involved: the lessee,ants the lessor, and one or moreonlong-term creditors who provide part of pr esent s account with a guide to depend for the acquisition finance for the asset, without any general recourse to the lessor. assistance in leased the prepar at ionusually and under standing of financial statements present ed in accordance with I AS. Succinctly, this type of a lease is given the following unique accounting treatment: T ab le1.of The Con tlessor en t s records his or her investment in the lease net of the nonrecourse debt and the

related finance costs toand theApplication third-party of creditor(s). Wiley I AS 20 03—Int er pretation I nternational Account ing Standar ds

2. The recognition of the finance income is based on the lessor's net cash investment outstanding in respect of the lease.

Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Sale-Leaseback Transactions I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 -

of Recognized Gains and Losses Sale-leaseback a transaction where the owner of property (seller-lessee) sells the property Chapter 4 - Cashdescribes Flow St at em ent

and then leases all or part ofand it back from the new owner (buyer-lessor). These Chapter 5 immediately - Financial I nstr uments—Cash Receiv ables

transactions may occur Chapter 6 - I nventor y when the seller-lessee is experiencing cash flow or financing problems or

because there are tax advantages in such an arrangement in the lessee's tax jurisdiction. The - Rev enue Recogni tion, I ncluding Constr uction Contr act s important consideration in this type of transaction is recognition of two separate and distinct economic Chapter 8 - Property , Plant , and Equipment transactions. However, it is important to note that there is not a physical transfer of property. First, there Chapter 9 - I ntangi ble Asset s is a sale of property, and second, there is a lease agreement for the same property in which the original I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter seller is10the- Ilessee and the original buyer is the lessor. This is illustrated as follows: nvestm ent Pr oper ty Chapter 7

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equitisy usually structured such that the sales price of the asset is greater than A sale-leaseback transaction Chapter Earnings Per Sharevalue. The result of this higher sales price is a higher periodic rental or equal18to- the current market

payment the lease term.Repor The transaction is usually attractive because of the tax benefits Chapter 19over - I nterim Financial ting associated it,ent andRepor because Chapter 20 - with Segm ting it provides financing to the lessee. The seller-lessee benefits from the higher price because ofChanges the increased gain on the sale Chapter 21 - Accounting and Cor rection of Er ror sof the property and the deductibility of the lease payments, areCurr usually Chapter 22 -which For eign ency larger than the depreciation that was previously being taken. The buyerlessor benefits from Part bothy the higher rental payments and the larger depreciable basis. Chapter 23 - RelatedDisclosures Chapter 24 - Specialized I ndustr ies

Under IAS 17, the accounting treatment depends on whether the sale and leaseback results in a finance lease or an operating lease. If it results in a finance lease, any excess of sale proceeds need Chapter 26 - Gov er ent Gr an ts as income in the financial statements of the seller-lessee. If such an not immediately benmrecognized Appendix A Di sclosure excess is recognized, itChecklist should be deferred and amortized over the lease term. Chapter 25 - I nflation and Hyperinflation

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

If a sale C and leaseback resultsand in an lease Appendix - Com parison transaction of I AS, US GAAP, UKoperating GAAP I ndex1. If it is evident that the transaction is established at fair value, any profit or loss should be List of Tables recognized immediately. List of Ex hibits and Ex am ples

If sales price is not established at fair value 2. Sidebar List of a. If sale price is below fair value, any profit or loss should be recognized immediately, except that when a loss is to be compensated by below fair market future rentals, the loss should be deferred and amortized in proportion to the rental payments over the period the asset is expected to be used. b. If the sale price is above fair value, the excess over fair value should be deferred and amortized over the period for which the asset is expected to be used.

IAS 17 stipulates that in case of operating leases, if at the time of the sale and leaseback transaction the fair value is less than the carrying amount of the leased asset, the difference between the fair value and the carrying amount should immediately recognized. W ile y I AS 2 0 03 : I n t erp re tbe at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

However, in case the sale and leaseback result in a finance lease, no such adjustment is considered ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali necessary unlessMir there za has been an impairment in value, in which case the carrying value should be reduced to the recoverable accordance John Wi ley amount & Sons ©in2003 (952 pages)with the provisions of IAS 16. This com pact and t ruly com pr ehensive qui ck - refer ence

Other leasingprguidance and esent s account antsexpected with a guide changes to depend ontoforlease accounting. assistance in the prepar at ion and under standing of financial

SIC 27, issued and effective present in 2001,edaddresses arrangements statements in accordance with I AS. between an enterprise and an investor that involve the legal form of a lease. SIC 27 establishes that the accounting for such arrangements is T ab le of Con t en t s in all instances to reflect the substance of the relationship. All aspects of the arrangement are to be Wiley I AS 20to 03—Int er pretation and Application of I nternational Account ing that have an economic effect. evaluated determine its substance, with particular emphasis on those Standar ds To assist in doing this, SIC 27 identifies certain indicators that may demonstrate that an arrangement Preface might not involve a lease under IAS 17. For example, a series of linked transactions that in substance Chapter 1 - I ntr oduction to I nter national Accounting Standar ds do not transfer control over the asset, and which keep the right to receive the benefits of ownership with Chapter 2 - Balance the transferor, wouldSheet not be a lease. Also, transactions arranged for specific objectives, such as the I ncom e Statement, em ent not of Chan ges in Equit and Statem ent transfer of tax attributes, would Stat generally be accounted fory, as leases. Chapter 3 of Recognized Gains and Losses

Chapter - Cash Flow St at em ent SIC 27 4deals most specifically with those arrangements that have characteristics of leases coupled with Chapter 5 subleases, - Financial whereby I nstr uments—Cash and Receiv ables and the lessee is the sublessor, which may corollary the lessor is the sublessee Chapter also involve 6 - Ianventor purchase y option. The financing party (the lessee-sublessor) is often guaranteed a certain

economic on such transactions, further revealing might in fact be that of a Chapter 7 return - Rev enue Recogni tion, I ncluding Constr uction that Contrthe actsubstance s secured8 borrowing series of lease arrangements. Since nominal lease and sublease Chapter - Propertyrather , Plantthan , andaEquipment payments net toble zero, the Chapter 9 will - I ntangi Asset s exchange of funds is often limited to the fee given by the property owner to the party providing financing; advantages are often the principal objective of these transactions. I nterests in Financialtax Instr um ent s, Associat es, Joint Ventur es, and Accounting questions the transactions include recognition of fees received by the financing I nvestm entarising Pr operfrom ty party; the of separate and investment and obligation accounts as an asset Chapter 11 presentation - Business Combinations Consolidat edsublease Fin ancial payment Statements and a liability, respectively; and the accounting for resulting obligations. Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 10 -

Chapter 12 -

Balance Sheet Date SIC 27 13 imposes a substance over form solution to this problem. Accordingly, when an arrangement is Chapter - Financial I nstr uments—LongTer m Debt

found to not meet the definition of a lease, a separate investment account and a lease payment obligation would not meet the definitions of an asset and a liability, and should not be recognized by the Chapter 15 - I ncom e Taxes entity. It presents certain indicators which imply that a given arrangement is not a lease (e.g., when the Chapter 16 - Em ploy ee Benefit s right to use the property for a given term is not in fact transferred to the nominal lessee) and that lease Chapter 17 - Stock holder s' Equit y accounting cannot be applied. Chapter 14 - Leases

Chapter 18 - Earnings Per Share

Chapter 19 - I nterimprovides Financialthat Repor The interpretation theting fee paid to the financing provider should be recognized in Chapter accordance 20 - Segm with IAS ent 18. Repor Fees ting received in advance would generally be deferred and recognized over

the lease when future performance is required in order to retain the fee, when limitations are Chapter 21 term - Accounting Changes and Cor rection of Er ror s placed 22 on the theency underlying asset, or when the nonremote likelihood of early termination would Chapter - Foruse eignofCurr necessitate some fee repayment. Chapter 23 - RelatedPart y Disclosures Chapter 24 - Specialized I ndustr ies

The interpretation also identifies certain factors that would suggest that other obligations of an arrangement, including any guarantees provided and obligations incurred upon early termination, Chapter 26 - Gov er nm ent Gr an ts should be accounted for under either IAS 37 (contingent liabilities) or IAS 39 (financial obligations), Appendix A -on Di sclosure Checklist depending the terms. Chapter 25 - I nflation and Hyperinflation

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

The IASB recently part of its UK Improvements Project several changes to IAS 17. Appendix C has - Com parisonproposed of I AS, USasGAAP, and GAAP Pending the Board's more far-reaching reexamination of lease accounting, these changes would clarify I ndex thatofwhen a lease of both land and buildings is classified, the lease is to be split into two elements (i.e., List Tables theoflease of land the lease of buildings) with the former generally classified as an operating lease, List Ex hibits and and Ex am ples andofthe latters classified as an operating or finance lease by applying the conditions in IAS 17. The List Sidebar

amendment would also eliminate the choice of how a lessor accounts for initial direct costs incurred in negotiating a lease by requiring that such costs that are incremental and directly attributable to the lease are to be capitalized and allocated over the lease term.

Additional guidance. Sale-leaseback transactions can be rather complex, and the guidance offered by IAS 17 is limited. Therefore, to provide further insight into this common type of financing arrangement, additional

commentary is offered, based on the rules and interpretations under US GAAP, which do not constitute authoritative guidance but which may offer certain insights in developing accounting responses to such circumstances. See Appendix W ile y I AS 2 0A. 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

ile y I AS 2 0 03 : I n t erpUnder re t at ion an d Ap p licat io n o f DisclosureWRequirements IAS 17 I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

Lessee Disclosures Mir za

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages) 1. Finance Leases This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s 23, account ants with guide to depend on for IAS 17, paragraph mandates theafollowing disclosures for lessees under finance leases: assistance in the prepar at ion and under standing of financial

a. Forstatements each classpresent of asset, net carrying amount ed the in accordance with I AS. at balance sheet date T ab le of Conb.t enAt sreconciliation between the total of minimum lease payments at the balance sheet date,

and their present value. In addition, an enterprise should Wiley I AS 20 03—Int er pretation and Application of I nternational Account ingdisclose the total of the Standar ds minimum lease payments at the balance sheet date, their present value, for each of the Preface following periods: Chapter 1

- I ntr oduction Accounting Standar ds 1. DuetoinI nter onenational year or less

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

more - Cash 3. FlowDue St atinem ent than five years

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Due in more than oneofbut no ges more five years I ncom2. e Statement, Stat em ent Chan in than Equit y, and Statem ent of Recognized Gains and Losses

c. Contingent rents included in profit or loss for the period

Chapter 8

- Rev enue Recogni tion, I ncluding Constr uction to Contr s d. The total of minimum sublease payments be act received in the future under - Property , Plant , and Equipment noncancelable subleases as of the balance sheet date

Chapter 9

- I ntangi ble Asset s

Chapter 7

A general description ofum theent lessee's significant arrangements including, but not e.I nterests in Financial Instr s, Associat es, Jointleasing Ventur es, and Chapter 10 - necessarily limited to the following: I nvestm ent Pr oper ty Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements 1. The basis for determining contingent rentals Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he 2. Sheet The existence and terms of renewal or purchase options and escalation clauses Balance Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

3. Restrictions imposed by lease arrangements such as on dividends or assumptions of further debt or further leasing

Chapter 14 - Leases

Chapter 15 - I ncom e Taxes

Chapter 16 - Em ploy ee paragraph Benefit s Furthermore, IAS 17, 23, clarifies that the requirements of IAS 32 (Financial Instruments: Chapter 17 - Stock holder s' Equit y also are applicable to finance leases. Recognition and Measurement) Chapter 18 - Earnings Per Share

2. Operating Leases

Chapter 19 - I nterim Financial Repor ting Chapter IAS 20 - 17, Segm ent Repor26, tingsets forth in greater detail the disclosure requirements that will be paragraph to lessees under leases. While some of these were suggested under Chapter applicable 21 - Accounting Changes andoperating Cor rection of Er ror s

orency are implicitly needed to provide adequate disclosure, the revised standard Chapter original 22 - ForIAS eign 17 Curr preparers explicit guidance. Chapter offers 23 - RelatedPartmore y Disclosures Chapter 24 - Specialized I ndustr ies

Lessees should, in addition to the requirements of IAS 32, make the following disclosures for operating leases:

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

of the future minimum lease payments under noncancelable operating leases for Appendix A a. - Di Total sclosure Checklist each of the following periods:

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

1. DueofinI AS, oneUS year or less Appendix C - Com parison GAAP, and UK GAAP I ndex List of Tables

2. Due in more than one year but no more than five years

List of Ex hibits and 3. Ex am ples Due in more than five years List of Sidebar s

b. The total of future minimum sublease payments expected to be received under noncancellable subleases at the balance sheet date c. Lease and sublease payments included in profit or loss for the period, with separate amounts of minimum lease payments, contingent rents, and sublease payments d. A general description of the lessee's significant leasing arrangements including, but not necessarily limited to the following: 1.

1. The basis for determining contingent rentals 2. The existence and terms of renewal or purchase options escalation clauses

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

3. Restrictions imposed by lease arrangements such as on dividends or assumption

by Bar y J. Epstein and Alileasing of rfurther debt or onAbbas further Mir za John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

Lessor Disclosures This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for 1. Finance Leases

assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

IAS 17, paragraph 39, requires enhanced disclosures compared to the original standard. finance leases are required to disclose, in addition to disclosures under IAS 32, T ab le of Lessors Con t en t under s the Wiley I AS 20following: 03—Int er pretation and Application of I nternational Account ing Standar ds

a. A reconciliation between the total gross investment in the lease at the balance sheet date, and the present value of minimum lease payments receivable as of the balance Chapter 1 - I ntr oduction I nter national Accounting Standar ds sheet date,tocategorized into Preface

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial 3. Those I nstr uments—Cash due beyond and five years Receiv ables

1. Those due in one year or less

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

2. Those due in more than one year but not more than five years

Chapter 6 Chapter 7 Chapter 8 Chapter 9

- I nventor y

b. Unearned finance income - Rev enue Recogni tion, I ncluding Constr uction Contr act s -c.Property , Plant , and allowance Equipment for uncollectible minimum lease payments receivable The accumulated - I ntangi ble Asset s

d.I nterests Total contingent rentals included in income in Financial Instr um ent s, Associat es, Joint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty A general descriptionand of the lessor'sedsignificant arrangements Chapter 11 e. - Business Combinations Consolidat Fin ancial leasing Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 Leases 2. Operating Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt

For lessors under operating leases, IAS 17, paragraph 48, has prescribed the following

Chapter expanded 14 - Leasesdisclosures: Chapter 15 - I ncom e Taxes

a. For each class of asset, the gross carrying amount, the accumulated depreciation and accumulated impairment losses at the balance sheet date

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y

1. Depreciation recognized in income for the period Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting

2. Impairment losses recognized in income for the period

Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting 3. Impairment Changes and losses Cor rection reversed of in Er ror income s for the period Chapter 22 - For eign Curr ency

b. Depreciation recognized on assets held for operating lease use during the period

Chapter 23 - Related- Part y Disclosures

Chapter 24 -c.Specialized ies lease payments under noncancellable operating leases, in the The futureI ndustr minimum Chapter 25 - I nflation and Hyperinflation aggregate and classified into Chapter 26 - Gov er nm ent Gr an ts

1. Those due in no more than one year

Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial s Prone esent ed not Under I ASthan five years 2. Those due St in atem moreent than but more Appendix C - Com parison of I AS, US GAAP, and UK GAAP

3. Those due in more than five years

I ndex List of Tables

d. Total contingent rentals included in income for the period

List of Ex hibits and Ex am ples

List of Sidebar e. s A general description of leasing arrangements to which it is a party

W ile y I AS 2 0 03Situations : I n t erp re t at ionNot an d Ap p licat io n o f Appendix A: Special Yet Addressed by IAS 17 but I n t er n at ion al Accou n t in g St an d ar ds Which Have Interpreted US ISBN:0471227366 GAAP by been Bar r y J. Epstein and Abbas Under Ali Mir za

In the following section, number and common problem areas that have not been John Wialey & Sonsof© interesting 2003 (952 pages) addressed by the international standards are briefly considered. The guidance found in US GAAP is This com pact and t ruly com pr ehensive qui ck - refer ence referenced, as this is likely to represent theamost source of insight into these matters. pr esent s account ants with guidecomprehensive to depend on for However, it should be understood that this constitutes possible approaches and is not authoritative assistance in the prepar at ion and underonly standing of financial statements present ed in accordance with I AS. guidance. T ab le of Con t en t s

Sale-Leaseback Transactions

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

The accounting treatment from the seller-lessee's perspective will depend on the degree of rights to Preface use retained by oduction the seller-lessee. The degree of rights to use Chapter 1 - I ntr to I nter national Accounting Standar ds retained may be categorized as follows: Chapter 2 - Balance Sheet 1. Substantially all I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Chapter 3

2. Minor of Recognized Gains and Losses

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

3. More than minor but less than substantially all

Chapter 6 - I nventor The guideline for theydetermination substantially all is based on the classification criteria presented for Chapter 7 Rev enue Recogni tion, I ncluding Constron uction Contrrecovery act s the lease transaction. For example, a test based the 90% criterion seems appropriate. That Chapter - Property , Plant , and Equipment is, if the8 present value of fair rental payments is equal to 90% or more of the fair value of the sold asset, Chapter 9 - I ntangi Asset s to have retained substantially all the rights to use the sold property. The the seller-lessee is ble presumed

test for retaining minor would beum toent substitute 10% less for 90% or more in the preceding I nterests in rights Financial Instr s, Associat es, or Joint Ventur es, and sentence. I nvestm ent Pr oper ty

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

If substantially allent theLiabilit rightsies, to Prov use isions, the property are retained the seller-lessee and the agreement Curr Cont ingencies, and by Ev ents after t he meets at least one ofSheet the criteria Balance Date for capital lease treatment, the seller-lessee should account for the leaseback a capital lease, and any profit onDebt the sale should be deferred and either amortized over Chapter 13 -as Financial I nstr uments—LongTer m the life 14 of the property or treated as a reduction of depreciation expense. If the leaseback is classified Chapter - Leases as an operating lease, it should be accounted for as one, and any profit or loss on the sale should be Chapter 15 - I ncom e Taxes deferred amortized over sthe lease term. Any loss on the sale would also be deferred unless the Chapter 16and - Em ploy ee Benefit loss were perceived to be a real Chapter 17 - Stock holder s' Equit y economic loss, in which case the loss would be recognized immediately and not deferred. Chapter 18 - Earnings Per Share Chapter 12 -

Chapter - I nterim Financial Repor ting If only a19minor portion of the rights to use are retained by the seller-lessee, the sale and the leaseback Chapter - Segm ent Repor ting should 20 be accounted for separately. However, if the rental payments appear unreasonable based on Chapter 21 - Accounting Changes rection of of the Er ror s the existing market conditions atand the Cor inception lease, the profit or loss should be adjusted so that Chapter 22 - are For eign Curr ency the rentals at a reasonable amount. The amount created by the adjustment should be deferred and Chapter 23 -over RelatedPartofy the Disclosures amortized the life property if a capital lease is involved or over the lease term if an operating Chapter - Specialized I ndustr ies lease is24involved. Chapter 25 - I nflation and Hyperinflation

If the seller-lessee retains more than a minor portion but less than substantially all the rights to use the property, any excess profit on the sale should be recognized on the date of the sale. For purposes of Appendix A - Di sclosure Checklist this paragraph, excess profit is derived as follows: Chapter 26 - Gov er nm ent Gr an ts

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

1. If Cthe leaseback as an and operating lease, the excess profit is the profit that exceeds Appendix - Com parison is ofclassified I AS, US GAAP, UK GAAP

the present value of the minimum lease payments over the lease term. The seller-lessee should use its incremental borrowing rate to compute the present value of the minimum lease List of Tables payments. If the implicit rate of interest in the lease is known, it should be used to compute the List of Ex hibits and Ex am ples present value of the minimum lease payments. I ndex

List of Sidebar s

2. If the leaseback is classified as a capital (i.e., finance) lease, the excess profit is the amount greater than the recorded amount of the leased asset. When the fair value of the property at the time of the leaseback is less than its undepreciated cost, the seller-lessee should immediately recognize a loss for the difference. In the example below, the sales price is less than the book value of the property. However, there is no economic loss because the FMV is greater than the book value.

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

The artificial loss must be deferred and amortized as an addition to depreciation.

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for The following diagram summarizes the accounting for sale-leaseback transactions. assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter In the foregoing 14 - Leases circumstances, when the leased asset is land only, any amortization should be on a

straight-line the lease term, regardless of whether the lease is classified as a capital or an Chapter 15 - Ibasis ncom eover Taxes operating Chapter 16 lease. - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y

Executory costs are not to be included in the calculation of profit to be deferred in a sale-leaseback transaction. The buyer-lessor should account for the transaction as a purchase and a direct financing Chapter 19 - I nterim Financial Repor ting lease if the agreement meets the criteria of either a direct financing lease or a sales-type lease. Chapter 20 - Segm ent Repor ting Otherwise, the agreement should be accounted for as a purchase and an operating lease. Chapter 18 - Earnings Per Share

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Sale-leaseback involving

real estate.

Chapter 23 - Related- Part y Disclosures

Under US three Irequirements are necessary for a sale-leaseback involving real estate Chapter 24 -GAAP, Specialized ndustr ies (including estateand withHyperinflation equipment) to qualify for sale-leaseback accounting treatment. Those saleChapter 25 real - I nflation leaseback meeting the three requirements should be accounted for as a deposit or as Chapter 26 -transactions Gov er nm entnot Gr an ts a financing. The three Checklist requirements are Appendix A - Di sclosure

must be a normal leaseback. 1. The Appendix B - lease I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

2. Payment terms and provisions must adequately demonstrate the buyer-lessor's initial and continuing investment in the property.

I ndex

List of Tables

List of hibits andterms Ex amand ples provisions must transfer all the risks and rewards of ownership as 3. ExPayment List of Sidebar s demonstrated by a lack of continuing involvement by the seller-lessee.

A normal leaseback involves active use of the leased property in the seller-lessee's trade or business during the lease term. The buyer-lessor's initial investment is adequate if it demonstrates the buyer-lessor's commitment to pay for the property and indicates a reasonable likelihood that the seller-lessee will collect any receivable related to the leased property. The buyer-lessor's continuing investment is adequate if the buyer is contractually obligated to pay an annual amount at least equal to the level of annual payment

needed to pay that debt and interest over no more than (1) twenty years for land and (2) the customary term of a first mortgage loan for other real estate. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Any continuing involvement by the seller-lessee other than normal leaseback disqualifies the lease from I n t er n at ion al Accou n t in g St an d ar ds sale-leaseback accounting treatment. Some examples of continuing involvement other than normal ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali leaseback includeMir za John Wi ley Sons © 2003 (952 pages) (excluding the right of first refusal) to repurchase 1. The seller-lessee has&an obligation or option the property. This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance the prepar ionthe and under standing of financialthe buyer-lessor's investment 2. The seller-lessee (or inparty relatedatto seller-lessee) guarantees statements ed in or accordance with I AS. or debt related to thatpresent investment a return on that investment. T ab le of Con t en t s

3. The seller-lessee is required to reimburse the buyer-lessor for a decline in the fair value of the

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing property below estimated residual value at the end of the lease term based on other than excess Standar ds Preface

wear and tear.

Chapter 1 - seller-lessee I ntr oduction to I nter national Accounting Standar 4. The remains liable for an existing debt ds related to the property. Chapter 2 - Balance Sheet

5. The seller-lessee's rentalStat payments contingent on y, some level of future I ncom e Statement, em ent ofare Chan ges in Equit and predetermined Statem ent operations of the buyer-lessor. of Recognized Gains and Losses

Chapter 3 Chapter 4

- Cash Flow St at em ent

6. The- seller-lessee provides collateral on behalf of the buyer-lessor other than the property Financial I nstr uments—Cash and Receiv ables directly involved in the sale-leaseback.

Chapter 5 Chapter 6

- I nventor y

Chapter 7 - seller-lessee Rev enue Recogni tion, Inonrecourse ncluding Constr uction Contr s 7. The provides financing to theactbuyer-lessor for any portion of the sales Chapter proceeds 8 - Property , Plant , and Equipment or provides recourse financing in which the only recourse is the leased asset. Chapter 9

- I ntangi ble Asset s

8. The seller-lessee enters into a um sale-leaseback property or integral I nterests in Financial Instr ent s, Associatinvolving es, Joint Ventur es, improvements and Chapter 10 equipment I nvestm without ent Pr oper leasing ty the underlying land to the buyer-lessor. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

9. The buyer-lessor is obligated to share any portion of the appreciation of the property with the

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter seller-lessee. 12 Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt

10. Any other provision or circumstance that allows the seller-lessee to participate in any future profits of the buyer-lessor or appreciation of the leased property.

Chapter 14 - Leases

Chapter 15 - I ncom e Taxes

Chapter 16 of - Em ploy ee Benefit Example accounting for sa sale-leaseback transaction Chapter 17 - Stock holder s' Equit y

To illustrate the accounting treatment in a sale-leaseback transaction, suppose that Lessee Chapter 18 - Earnings Per Share Corporation equipment has Chapter 19 - Isells nterim Financial that Repor tinga book value of $80,000 and a fair value of $100,000 to Lessor Corporation, and then immediately leases it back under the following conditions: Chapter 20 - Segm ent Repor ting Chapter 1. The 21 - sale Accounting date is Changes January and 1, 2003, Cor rection and the of equipment Er ror s has a fair value of $100,000 on that date

useful life of 15 years. Chapter and 22 - an Forestimated eign Curr ency Chapter 23 - Related- Part y Disclosures

2. The lease term is 15 years, noncancelable, and requires equal rental payments of $13,109 at the beginning of each year.

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation

Chapter 26 - GovCorp. er nm ent anoption ts 3. Lessee has Gr the annually to renew the lease at the same rental payments on Appendixexpiration A - Di sclosure Checklist of the original lease. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

4. Lessee Corp. hasofthe obligation to and pay UK all executory costs. Appendix C - Com parison I AS, US GAAP, GAAP I ndex

5. The annual rental payments provide the lessor with a 12% return on investment.

List of Tables

List of hibits and Ex am ples 6. ExThe incremental borrowing rate of Lessee Corp. is 12%. List of Sidebar s

7. Lessee Corp. depreciates similar equipment on a straight-line basis.

Lessee Corp. should classify the agreement as a capital lease since the lease term exceeds 75% (which is deemed to be a major part) of the estimated economic life of the equipment, and because the present value of the lease payments is greater than 90% (deemed to be substantially all) of the fair value of the equipment. Assuming that collectibility of the lease payments is reasonably predictable and that no important uncertainties exist concerning the amount of nonreimbursable costs yet to be incurred by the lessor, Lessor Corp. should classify the transaction as a direct financing lease because the

present value of the minimum lease payments is equal to the fair market value of $100,000 ($13,109 x 7.62817). W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Lessee Corp. andI nLessor Corp. would normally make the following journal entries during the first year: t er n at ion al Accou n t in g St an d ar ds ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali Mir za Upon Sale of Equipment 1, (952 2003pages) John Wi leyon & January Sons © 2003

This com pact and t ruly com pr ehensive qui ck - refer ence Lessee Corp. Lessor Corp. pr esent s account ants with a guide to depend on for assistance in 100,000 the prepar at ion and under standing of financial 100,000 Equipment statements present ed in accordance with I AS.

Cash

80,000

Equipment [a]

100,000

Cash

T ab le of Con t en t s

20,000 Wiley I AS Unearned 20 03—Int er pretation and Application of I nternational Account ing profit Standar ds Preface

on saleleaseback

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Leased equipment - Balance Sheet

Chapter 2

100,000

Lease receivable ($13,109 x 15)

196,635

I ncom e Statement, Stat em ent100,000 of Chan ges in Equit y, and Statem ent obligations Chapter 3Lease of Recognized Gains and Losses Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

100,000

Equipment

96,635

Unearned interest Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s [a]Assumes new equipment Chapter 8 - Property , Plant , and Equipment Chapter 6

- I nventor y

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter To Record 11 - First Business Payment Combinations on January and Consolidat 1, 2003 ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Lessee Corp. Lessor Corp. Balance Sheet Date

Chapter - Financial I nstr uments—LongTer m Debt Lease13 obligations 13,109 Cash Chapter 14 - Leases

13,109

Cash Chapter 15 - I ncom e Taxes

13,109 13,109

Lease receivable

Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

To Record Incurrence and Payment of Executory Costs

Chapter 19 - I nterim Financial Repor ting

Chapter 20 - Segm ent ReporLessee ting Corp. Chapter 21 - Accounting Changes and Cor rection of Er ror s

Insurance, taxes, etc.

Chapter 22 - For eign Curr ency

Cash (accounts payable) Chapter 23 - RelatedPart y Disclosures

Lessor Corp. xxx

(No entry) xxx

Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

To Record Expense on the Equipment, December 31, 2003 Appendix A - Depreciation Di sclosure Checklist Appendix B - I llustrativ e Financial Lessee St atem ent s Pr esent ed Under I AS Corp. Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Depreciation expense

Lessor Corp.

6,667

I ndex

(No entry) 6,667

List of Tables Accum. depr.—capital leases ($100,000 ÷ 15) List of Ex hibits and Ex am ples List of Sidebar s

To Amortize Profit on Sale-Leaseback by Lessee Corp., December 31, 2003 Lessee Corp. Unearned profit on sale-leaseback Depr. expense ($20,000 ÷ 15)

Lessor Corp. 1,333

(No entry) 1,333

To Record Interest for 2003 W ile y I2001, AS 2 0December 03 : I n t erp 31, re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Lessee Corp.

Lessor Corp.

ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Interest expenseMir za 10,427 Unearned interest John Wi ley & Sons © 2003 (952 pages) income

10,427 Accrued This interest com pact and t ruly com pr ehensive qui ck - refer ence payable pr esent s account ants with a guide to depend on for Interest income

10,427

10,427

assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

T ab le of Con t en t s Wiley I ASLease 20 03—Int er pretationSchedule and Application of I nternational Account ing Partial Amortization Standar ds

Cash

Preface

Interest

Reduction of

payment ChapterDate 1 - I ntr oduction to I nter national expense Accounting Standar dsobligation Chapter 2 - Balance Sheet Inception of

Lease obligation $100,000

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapterlease 3 of Recognized Gains and Losses

Chapter1/1/03 4 - Cash Flow St at$13,109 em ent

$--

Chapter1/1/04 5 - Financial I nstr uments—Cash and Receiv ables 13,109 10,427 Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

$13,109

86,891

2,682

84,209

Chapter 9

ntangi ble Asset s Leases- IIInvolving Land and Buildings—Guidance under IAS 17 nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty

IAS 17 stipulates rules relating to leases of land and building. In general, the treatment of such leases is to be the same as for leases of other assets. However, since land has an indefinite useful life, if title Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he is not expected to pass to the lessee at the end of the lease term, such leases are to be classified as Chapter 12 Balance Sheet Date operating leases. Were the lessee to capitalize such a lease arrangement, the fact that no periodic Chapter 13 - Financial I nstr uments—Long- Ter m Debt depreciation would be reported would inevitably result in a write-off of the asset at the termination of the Chapter 14 - Leases lease, which clearly would not contribute to meaningful financial reporting. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 15 - I ncom e Taxes

Chapter 16 IAS - Emrecognizes ploy ee Benefit Similarly, the sfact that buildings have useful lives that extend well beyond the lease Chapter terms, and 17 - often, Stock holder long-term s' Equit leases y for buildings contain provisions whereby rents are regularly adjusted

upward18 to -market rates. Chapter Earnings Per Thus, Share if title is not expected to pass to the lessee at the end of the lease term or if rents adjusted upward regularly Chapter 19 are - I nterim Financial Repor ting to reflect market rates, the lessor retains a significant part of the risks rewards incidental Chapter 20and - Segm ent Repor ting to ownership, and hence, such leases should normally be classified as operating leases. However, not toofcapitalize the building in the financial statements of the Chapter 21 - Accounting Changeswhether and Cor or rection Er ror s lessee 22 is a- question of facts Chapter For eign Curr ency and circumstances, and to do so is not absolutely prohibited by the standard.

Chapter 23 - Related- Part y Disclosures Chapter 24 amendments - Specialized Ito ndustr ies currently proposed would require that leases for land and buildings be Note that IAS 17 Chapter 25 I nflation and Hyperinflation analyzed into component parts, with each element separately accounted for as provided by IAS 17. Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

Leases Involving Real Estate—Guidance under US GAAP

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Appendix C -guidance Com parison of IIAS AS, 17 US is GAAP, andand UK the GAAP Again, the under limited, practice under US GAAP is instructive. Under I ndex those standards, leases involving real estate can be divided into the following four categories: List of Tables

1. Leases involving land only

List of Ex hibits and Ex am ples

List of s involving land and building(s) 2. Sidebar Leases

3. Leases involving real estate and equipment 4. Leases involving only part of a building

Leases Involving Land Only Lessee accounting.

If the lease agreement transfers ownership or contains a bargain purchase option, the lessee should account for the lease as a capital lease and record an asset and related liability in an amount equal to y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f the present valueWofilethe minimum lease payments. If the lease agreement does not transfer ownership I n t er n at ion al Accou n t in g St an d ar ds or contain a bargain purchase option, the lessee should account for the lease as an operating lease.

Lessor

by Bar r y J. Epstein and Abbas Ali Mir za accounting. John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

pact and t ruly(or com pr ehensive qui ck - refer ence (i.e., title), the standards If the lease gives This rise com to dealer's profit loss) and transfers ownership pr esent s account ants with a guide to depend on for require that the lease shall be classified asion a sales-type lease and assistance in the prepar at and under standing of accounted financial for under the provisions of the US standard dealing with sales estate, in theI AS. same manner as would a seller of the same statements present edof in real accordance with property. If the lease transfers ownership, both the collectibility and the no material uncertainties criteria T ab le met, of Con are butt en if itt sdoes not give rise to dealer's profit (or loss), the lease should be accounted for as a Wiley I AS 20 03—Int pretation lease, and Application of I nternational Account ing a bargain purchase option and direct financing or er leveraged as appropriate. If the lease contains Standar ds both the collectibility and no material uncertainties criteria are met, the lease should be accounted for Preface as a direct financing, leveraged, or operating lease as appropriate. If the lease does not meet the Chapter 1 - Iand/or ntr oduction to I nteruncertainties national Accounting ds should be accounted for as an operating collectibility no material criteria,Standar the lease Chapter 2 Balance Sheet lease. Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Leases- Cash Involving Land and Building Flow St at em ent

Chapter 4 Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Lessee accounting. - I nventor y

Chapter 6 Chapter 7

Rev enue Recogni tion, I ncluding Constr uction Contr act s Under US -GAAP, if the agreement transfers title or contains a bargain purchase option, the lessee

Chapter - Property , Plant , and Equipment should 8account for the agreement by separating the land and building components and capitalize each Chapter 9 I ntangi ble Asset s separately. The land and building elements should be allocated on the basis of their relative fair market I nterests in Financial umlease. ent s, Associat es,and Joint Ventur es, and values 10 measured at the inceptionInstr of the The land building components are accounted for Chapter I nvestm ent Pr oper ty

separately because the lessee is expected to own the real estate by the end of the lease term. The

Chapter - Business Combinations Fin ancial Statements building11should be depreciated overand its Consolidat estimated ed useful life without regard to the lease term. Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 Balance Sheet Date When the lease agreement neither transfers title nor contains a bargain purchase option, the fair value Chapter 13 Financial I nstr uments—LongTer Debt of the land must be determined in relation tomthe fair value of the aggregate properties included in the Chapter 14 - LeasesIf the fair value of the land is less than 25% of the fair value of the leased properties lease agreement. Chapter 15 - I ncom e Taxes in aggregate, the land is considered immaterial. Conversely, if the fair value of the land is 25% or

greater16 of the value of thes leased properties in aggregate, the land is considered material. Chapter - Emfair ploy ee Benefit Chapter 17 - Stock holder s' Equit y

When the land component of the lease agreement is considered immaterial (FMV land < 25% total FMV), the lease should be accounted for as a single lease unit. The lessee should capitalize the lease Chapter 19 - I nterim Financial Repor ting if one of the following occurs: Chapter 18 - Earnings Per Share

Chapter 20 - Segm ent Repor ting

of the lease is 75% of of theEreconomic useful life of the real estate 1. The Chapter 21 - term Accounting Changes and or Cormore rection ror s Chapter 22 - For eign Curr ency

2. The present value of the minimum lease payments equals 90% or more of the fair market value

Chapter of 23 the - RelatedDisclosures leased Part realy estate less any lessor tax credits Chapter 24 - Specialized I ndustr ies

If neither two criteria above is met, the lessee should account for the lease agreement as a Chapter 25of - the I nflation and Hyperinflation single operating lease. Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

When the land component of the lease agreement is considered material (FMV land = 25% total FMV), the land and building components should be separated. By applying the lessee's incremental borrowing Appendix C - Com parison of I AS, US GAAP, and UK GAAP rate to the fair market value of the land, the annual minimum lease payment attributed to land is I ndex computed. The remaining payments are attributed to the building. The division of minimum lease List of Tables payments between land and building is essential for both the lessee and lessor. The lease involving the List of should Ex hibitsalways and Ex am land be ples accounted for as an operating lease. Under US GAAP, the lease involving the List of Sidebar s building(s) must meet either the 75% (of useful life) or 90% (of fair value) test to be treated as a capital lease. If neither of the two criteria is met, the building(s) will also be accounted for as an operating lease. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Lessor accounting. The lessor's accounting depends on whether the lease transfers ownership, contains a bargain purchase option, or does neither of the two. If the lease transfers ownership and gives rise to dealer's profit (or loss), US GAAP requires that the lessor classify the lease as a sales-type lease and account

for the lease as a single unit under the provisions of SFAS 66 in the same manner as a seller of the same property. If the lease transfers ownership, meets both the collectibility and no important uncertainties criteria, does risereto (or loss), lease should be accounted W ilebut y I AS 2 0not 03 : give I n t erp t atdealer's ion an dprofit Ap p licat io n o the f for as a direct financing or leveraged lease as appropriate. I n t er n at ion al Accou n t in g St an d ar ds ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali

If the lease contains a bargain purchase option and gives rise to dealer's profit (or loss), the lease Mir za should be classified as an If the lease contains a bargain purchase option, meets both John Wi leyoperating & Sons © lease. 2003 (952 pages) the collectibility and no material uncertainties criteria, but does not give rise to dealer's profit (or loss), This com pact and t ruly com pr ehensive qui ck - refer ence the lease should be accounted for as a direct financing lease on or aforleveraged lease, as appropriate. pr esent s account ants with a guide to depend assistance in the prepar at ion and under standing of financial

If the lease agreement neither transfers contains statements present ed inownership accordancenor with I AS. a bargain purchase option, the lessor should follow the same rules as the lessee in accounting for real estate leases involving land and T ab le of Con t en t s building(s). Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds the collectibility and the no material uncertainties criteria must be met before the lessor can However, Preface account for the agreement as a direct financing lease, and in no such case may the lease be classified Chapter 1 - I ntr oduction to ownership I nter national Accounting Standar ds as a sales-type lease (i.e., must be transferred). Chapter 2

- Balance Sheet

The treatment of aelease involving land cany,beand illustrated in the following examples. I ncom Statement, Statboth em ent of and Chanbuilding ges in Equit Statem ent

Chapter 3

-

of Recognized Gains and Losses

Example accounting Chapter 4 of - Cash Flow St atfor emland ent and building lease containing transfer of title Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Assume the following:

Chapter 6

- I nventor y 1. The enters intotion, a 10-year noncancelable Chapter 7 - lessee Rev enue Recogni I ncluding Constr uctionlease Contr for act sa parcel of land and a building for use

in its operations. The building has an estimated useful life of 12 years. - Property , Plant , and Equipment

Chapter 8

Chapter 9 - FMV I ntangi 2. The of ble theAsset land sis $75,000, while the FMV of the building is $310,000. I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm Pr operis ty due to the lessor at the beginning of each of the 10 years of the lease. 3. A payment ofent $50,000 Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

4. The lessee's incremental borrowing rateingencies, is 10%. (Lessor's implicit Curr ent Liabilit ies, Prov isions, Cont and Ev ents after trate he is unknown.)

Chapter 12 -

Balance Sheet Date 5. Ownership willI nstr transfer to the lessee at Debt the end of the lease. Chapter 13 - Financial uments—LongTer m Chapter 14 - Leases

The present value of the minimum lease payments is $337,951 ($50,000 x 6.75902[1]). The portion of

Chapter 15 - value I ncom of e Taxes the present the minimum lease payments that should be capitalized for each of the two Chapter 16 Em ploy Benefit s components of the ee lease is computed as follows: Chapter 17 - Stock holder s' Equit y Chapter 18land - Earnings Per Share FMV of

$ 75,000

Chapter 19 - I nterim Financial Repor ting

FMV of building

310,000

Chapter 20 - Segm ent Repor ting

Chapter Total FMV 21 - Accounting of leased property Changes and Cor rection of Er ror s$385,000 Chapter 22 - For eign Curr ency

Portion of PV allocated to land

$337,951

x

Chapter 23 - Related- Part y Disclosures

75,000

=

$ 65,835

=

272,116

385,000

Chapter 24 - Specialized I ndustr ies Chapter I nflation and to Hyperinflation Portion25of- PV allocated building $337,951

x

Chapter 26 - Gov er nm ent Gr an ts

310,000 385,000

Appendix A - Di sclosure Checklist

Total PV be capitalized Appendix B to - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

$337,951

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

The entry made to record the lease initially is as follows:

I ndex

List of Tables

Leased land

65,835

building ListLeased of Sidebar s

272,116

List of Ex hibits and Ex am ples

Lease obligation

337,951

Subsequently, the obligation will be decreased in accordance with the effective interest method. The leased building will be amortized over its expected useful life.

Example of accounting for land and building lease without transfer of title or bargain purchase option W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Assume the sameI nfacts asion in al theAccou previous except that title does not transfer at the end of the t er n at n t in example g St an d ar ds lease. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za

The lease is still aJohn capital lease because the lease term is more than 75% of the useful life. Since the Wi ley & Sons © 2003 (952 pages) FMV of the land is less than 25% of the leased properties in aggregate, ($75,000/$385,000 = 19%), the This com pact and t ruly com pr ehensive qui ck - refer ence land component is immaterial the lease will beonaccounted for as a single lease. The prconsidered esent s account ants withand a guide to depend for entry to record the lease is as follows: assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

property T abLeased le of Con t en t s

337,951

Wiley I AS 20 03—Int er pretation and Application 337,951 of I nternational Account ing Lease Standar ds Preface

obligation

Chapter - Isame ntr oduction to Iinnter Accounting Assume1 the facts as thenational previous example Standar except ds that the FMV of the land is $110,000 and Chapter 2 Balance Sheet the FMV of the building is $275,000. Once again, title does not transfer. I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Chapter 3

-

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Recognized Gains and Losses Because theofFMV of the land exceeds 25% of the leased properties in aggregate ($110,000/$385,000 Chapter - Cash Flow St at emis entconsidered material and the lease would be separated into two = 28%),4 the land component Chapter components. 5 - Financial The annual I nstrminimum uments—Cash leaseand payment Receiv attributed ables to the land is computed as follows:

Chapter 9 - I ntangi ble Asset The remaining portion of thes annual payment is attributed to the building. I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty

Annual payment

$ 50,000

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Less amount attributed toies, land (16,275) Curr ent Liabilit Prov isions, Cont ingencies, and Ev ents after t he

Chapter 12 -

Balance Sheet Date

Annual payment attributed to building

$33,725

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases The present value of the minimum annual lease payments attributed to the building is then computed Chapter 15 - I ncom e Taxes as follows: Chapter 16 - Em ploy ee Benefit s Chapter 17 -annual Stock holder Equit y attributed to building Minimum leases'payment Chapter 18 - Earnings Per Share

PV factor

Chapter 19 - I nterim Financial Repor ting Chapter PV of 20 minimum - Segmannual ent Repor lease tingpayments attributed to building

$ 33,725 x 6.75902[a] $227,948

[a]6.75902 Chapter 21 - isAccounting and Corfor rection of Er ror the PV of Changes an annuity due 10 periods ats 10%.

Chapter 22 - For eign Curr ency

The entry record the portion of the lease is as follows: Chapter 23 to - RelatedPartcapital y Disclosures Chapter 24 - Specialized I ndustr ies

Leased 227,948 Chapter 25building - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Lease obligation

227,948

Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP There would be no computation of the present value of the minimum annual lease payment attributed to I ndex the land since the land component of the lease will be treated as an operating lease. For this reason, List of Tables each year, $16,275 of the $50,000 lease payment will be recorded as land rental expense. The List of Ex hibits andannual Ex am ples remainder of the payment ($33,725) will be applied against the lease obligation using the List effective of Sidebar interest s method.

Leases involving real estate and equipment. When real estate leases also involve equipment or machinery, the equipment component should be separated and accounted for as a separate lease agreement by both lessees and lessors. According to US GAAP, "the portion of the minimum lease payments applicable to the equipment element of the lease shall be estimated by whatever means are appropriate in the circumstances." The lessee and

lessor should apply the capitalization requirements to the equipment lease independently of accounting for the real estate lease(s). The real estate leases should be handled as discussed in the preceding two sections. In aWsale-leaseback involving ile y I AS 2 0 03 :transaction I n t erp re t at ion an dreal Ap pestate licat iowith n o f equipment, the equipment and land are not separated. I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

Leases involving Mir za only part of a building.

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages)

It is common to find lease agreements that involve only part of a building, as, for example, when a floor This com pact and t ruly com pr ehensive qui ck - refer ence of an office building is leased or when store in a shopping is leased. A difficulty that arises in this pr esent s account ants a with a guide to dependmall on for situation is that the cost and/or fairprepar market value the leased portion of the whole may not be assistance in the at ion andofunder standing of financial statements present ed in accordance with I AS. determinable objectively. T ab le of Con t en t s

For the lessee, if the fair value of the leased property is objectively determinable, the lessee should

Wiley 03—Int pretationfor and Application of I nternational Account ing involving land and building." If the fair followI AS the20rules anderaccount the lease as described in "leases Standar ds

value of the leased property cannot be determined objectively but the agreement satisfies the 75% test, the estimated economic life of the building in which the leased premises are located should be used. If Chapter 1 - I ntr oduction to I nter national Accounting Standar ds this test is not met, the lessee should account for the agreement as an operating lease. Preface

Chapter 2

- Balance Sheet

From the lessor's bothStat the em cost fair value the y, leased property I ncom position, e Statement, entand of Chan ges inofEquit and Statem entmust be objectively Recognized Gains and described Losses determinableofbefore the procedures under "leases involving land and building" will apply. If Chapter 4 cost - Cash St at em ent either the or Flow the fair value cannot be determined objectively, the lessor should account for the Chapter 5 - as Financial I nstr uments—Cash and Receiv ables agreement an operating lease. Chapter 3

Chapter 6

- I nventor y

- Rev enue Recogni tion, I ncluding Constr uction Contr act s Termination of a Lease

Chapter 7 Chapter 8

- Property , Plant , and Equipment

Chapter 9 - shall I ntangi ble Asset The lessor remove thesremaining net investment from his or her books and record the leased equipment as an asset the lower ofum its ent original cost,es, present fair value, or current carrying value. The I nterests in at Financial Instr s, Associat Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty income of the current period. net adjustment is reflected in the Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

The lessee is also by Prov the terminated because or she Curr entaffected Liabilit ies, isions, Contagreement ingencies, and Ev entshe after t he has been relieved of the Sheet obligation. IfBalance the lease is a Date capital lease, the lessee should remove both the obligation and the asset from his13or- her accounts charge anyTer adjustment Chapter Financial I nstrand uments—Longm Debt to the current period income. If accounted for as an operating lease, no accounting adjustment is required. Chapter 14 - Leases Chapter 12 -

Chapter 15 - I ncom e Taxes

Renewal or Extension of an Existing Lease

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y

The renewal or extension of an existing lease agreement affects the accounting of both the lessee and Chapter 18 - Earnings Per Share the lessor. GAAP specifies twoting basic situations in this regard: (1) the renewal occurs and makes a Chapter 19 -US I nterim Financial Repor residual20guarantee orRepor penalty Chapter - Segm ent tingprovision inoperative or (2) the renewal agreement does not do the

foregoing the renewal is to be treated as a of new agreement. The accounting treatment prescribed Chapter 21 and - Accounting Changes and Cor rection Er ror s under the latter situation for a lessee is as follows:

Chapter 22 - For eign Curr ency

1. If renewalPart or extension is classified as a capital lease, the (present) current balances of the Chapter 23the - Relatedy Disclosures and relatedI ndustr obligation Chapter asset 24 - Specialized ies should be adjusted by an amount equal to the difference between of the future minimum lease payments under the revised agreement and the Chapter the 25 -present I nflationvalue and Hyperinflation Chapter (present) 26 - Gov ercurrent nm ent balance Gr an ts of the obligation. The present value of the minimum lease payments

under the revised agreement should be computed using the interest rate that was in effect at the inception of the original lease.

Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

TREATMENT OF SELECTED ITEMS IN ACCOUNTING FOR LEASES UNDER US GAAP

List of Tables List of Ex hibits and Ex am ples List of Sidebar s

Operating

Lessor Direct financing and sales-type

Operating

Lesse capital

Initial direct costs

Capitalize and Direct financing: N/A amortize over W ile y I AS 2 0 03 : I nin t erp re t at ion Record an d Ap pinlicat io n o f lease term separate I n t er n at proportion ion al Accou ton t in g St an d ar ds ISBN:0471227366 by Bar r y rent J. Epstein and Abbas Ali account revenue Mir za recognized John Wi ley & Sons © 2003 (952 pages) Add to net (normally SL investment This com pact and t ruly com pr ehensive qui ck - refer ence basis) pr esent s account ants with a guide to in depend lease on for

N/A

assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Compute new effective Account ing Wiley I AS 20 03—Int er pretation and Application of I nternational Standar ds rate that Preface equates Chapter 1 - I ntr oduction to I nter national Accounting gross Standar amt. ds of min. Chapter 2 - Balance Sheet lease I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of Recognized Gains and Losses payments Chapter 4 - Cash Flow St at em ent and unguar. Chapter 5 - Financial I nstr uments—Cash and Receiv ables residual Chapter 6 - I nventor y valueContr with act s Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction net invest. Chapter 8 - Property , Plant , and Equipment

T ab le of Con t en t s

Chapter 9

- I ntangi ble Asset s

Amortize so as to

poduce constant I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty rate of return over Chapter 11 - Business Combinations and Consolidat Fin ancial leaseed term Sales-Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont type: ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Expense in Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 Investment - Em ploy ee Benefit N/As

tax- credit Chapter 17 Stock holder s' Equit y retained by Per Share Chapter 18 - Earnings lessor Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent ReporN/A ting Bargain

period incurred

Reduces FMV of leased asset for 90% test

N/A

Reduces FMV of leased asset for 90% test

Include in:

N/A

Include in:

Chapter 21 - Accounting Changes and Cor rection of Er ror s purchase Chapter 22 - For eign Curr ency option Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation

Guaranteed Chapter 26 - Gov er nm ent GrN/A an ts

Minimum lease payments 90% test

Include in:

value Checklist Appendix residual A - Di sclosure

Minimum lease Appendix C - Com parison of I AS, US GAAP, and UK GAAP payments I ndex 90% test

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

List of Tables List of Ex hibits and Ex am ples List of Sidebar s

Sales-type: Include PV in sales revenues

Minimum lease payments 90% test N/A

Include in: Minimum lease payments 90% test

Unguaranteed residual value

N/A

Include In:

N/A

W ile y I AS 2 0 03 : I n t erp re t at ion "Gross an d Ap p licat io n o f Investment I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali in Lease" ISBN:0471227366 Mir za Not included in: John Wi ley & Sons © 2003 (952 pages)

Include in: Minimum lease payments 90% test

90%qui test This com pact and t ruly com pr ehensive ck - refer ence pr esent s account ants with aSales-type: guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordanceExclude with I AS. from sales revenue Account ing Wiley I AS 20 03—Int er pretation and Application of I nternational

T ab le of Con t en t s Standar ds

Deduct PV

Preface Chapter 1

cost - I ntr oduction to I nter national Accounting from Standar ds

Chapter 2

- Balance Sheet

of sales

I ncom e Statement, Stat em Chan gesofin Equit y, andExpense Statem ent Revenue in ent of No part in Chapter 3Contingent of Recognized period Gains and Losses minimum lease rentals earned period Chapter 4 - Cash Flow St at em ent payments; incurred Chapter 5 Chapter 6

- Financial I nstr uments—Cash and revenue Receiv ables in period - I nventor y earned

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

No part of minimum lease payments; expense in period incurred

Amortization Amortize down N/A N/A - Property , Plant , and Equipment period to estimated Chapter 9 - I ntangi ble Asset s residual value I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and over estimated Chapter 10 I nvestm ent Pr oper ty economic life Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements of asset

Amortize down to estimated residual value over lease term or estimated economic life [a]

Chapter 12 -

Interest expense and depreciation expense

Chapter 8

Chapter Chapter Chapter Chapter Chapter Chapter Chapter Chapter Chapter Chapter Chapter

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Revenue Direct financing: Balance Sheet Rent Date revenue [b] I nstr uments—Long(expense) (normally SL Ter m Debt 13 - Financial Interest basis) 14 - Leases revenue on 15 - I ncom e Taxes net 16 - Em ploy ee Benefit s investment 17 - Stock holder s' Equit y in lease 18 - Earnings Per Share (gross 19 - I nterim Financial Repor ting investment 20 - Segm ent Repor ting less 21 - Accounting Changes and Cor rection of Erunearned ror s 22 - For eign Curr ency interest income) 23 - Related- Part y Disclosures

Chapter 24 - Specialized I ndustr ies Amortization

Sales-type:

Chapter 25 - I nflation and Hyperinflation (depreciation Chapter 26 - Gov er nm ent Grexpense) an ts

Dealer profit in period of I AS Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under sale (sales Appendix C - Com parison of I AS, US GAAP, and UK GAAP revenue I ndex less cost of List of Tables leased List of Ex hibits and Ex am ples asset) Appendix A - Di sclosure Checklist

List of Sidebar s

Interest revenue on net investment in lease

Rent expense (normally SL basis) [c]

[a]If

lease has automatic passage of title or bargain purchase option, use estimated economic life; otherwise use the lease team. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f listed fordthe items above are not repeated here (e.g., I n of t errevenue n at ion al(expense) Accou n t in g St an ar ds

[b]Elements

treatment by of initial costs). Bar r y direct J. Epstein and Abbas Ali

ISBN:0471227366

Mir za [c]If payments are not on a SL basis, recognize rent expense on a SL basis unless another John Wi ley & Sons © 2003 (952 pages)

systematicThis andcom rational method more representative of use benefit obtained from the pact and t ruly iscom pr ehensive qui ck - refer ence property, in which case, the other method should be used. pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

2. If the renewal or extension is classified as an operating lease, the current balances in the asset and liability accounts are removed from the books and a gain (loss) recognized for the Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing difference. The new lease agreement resulting from a renewal or extension is accounted for in Standar ds the same manner as other operating leases.

T ab le of Con t en t s

Preface

Chapter 1 -same I ntr oduction to I nter national Accounting Standar ds Under the circumstances, US GAAP prescribes the following treatment to be followed by the Chapter 2 Balance Sheet lessor: I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 the - renewal or extension is classified as a direct financing lease, then the existing balances of 1. If of Recognized Gains and Losses

the lease receivable and the estimated residual value accounts should be adjusted for the - Cash Flow St at em ent changes resulting from the revised agreement.

Chapter 4 Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- Note I nventor y Remember that an upward adjustment of the estimated residual value is not allowed. - Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 7

adjustment be charged or credited to an unearned income account. Chapter The 8 - net Property , Plant ,should and Equipment Chapter 9

- I ntangi ble Asset s

2. If the renewal or extension is classified as an operating lease, the remaining net investment I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter under 10 - the existing sales-type lease or direct financing lease is removed from the books and the I nvestm ent Pr oper ty leased asset recorded as an asset at the lower of its original cost, present fair value, or current Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements carrying amount. The difference between the net investment and the amount recorded for the Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter leased 12 asset Sheet is charged Balance Date to income of the period. The renewal or extension is then accounted for as for any other operating lease. Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14the - Leases 3. If renewal or extension is classified as a sales-type lease and it occurs at or near the end of Chapter the 15 -existing I ncom elease Taxesterm, the renewal or extension should be accounted for as a sales-type lease. Chapter 16 - Em ploy ee Benefit s

renewal or extension that occurs in the last few months of an existing lease is Chapter 17 - Note StockAholder s' Equit y considered to have occurred at or near the end of the existing lease term. Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting

If the renewal or extension causes the guarantee or penalty provision to be inoperative, the lessee adjusts the current balance of the leased asset and the lease obligation to the present value of the Chapter 21 - Accounting Changes and Cor rection of Er ror s future minimum lease payments (according to the relevant standard, "by an amount equal to the Chapter 22 -between For eign the CurrPV ency difference of future minimum lease payments under the revised agreement and the Chapter 23 RelatedPart y Disclosures present balance of the obligation"). The PV of the future minimum lease payments is computed using Chapter 24 - rate Specialized ndustr ies lease agreement. the implicit used in Ithe original Chapter 20 - Segm ent Repor ting

Chapter 25 - I nflation and Hyperinflation

Given the circumstances, Chapter 26 same - Gov er nm ent Gr an ts the lessor adjusts the existing balance of the lease receivable and estimated value accounts to reflect the changes of the revised agreement (remember, no Appendix A residual - Di sclosure Checklist

upward adjustments the residual value). net ed adjustment Appendix B - I llustrativto e Financial St atem ent sThe Pr esent Under I ASis charged (or credited) to unearned income.

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Leases between Related Parties

List of Tables

List of Ex hibits and Ex am ples

Leases between related parties are classified and accounted for as though the parties are unrelated, except in cases where it is clear that the terms and conditions of the agreement have been influenced significantly by the fact of the relationship. When this is the case, the classification and/or accounting is modified to reflect the true economic substance of the transaction rather than the legal form.

List of Sidebar s

If a subsidiary's principal business activity is leasing property to its parent or other affiliated companies, consolidated financial statements are presented. The US GAAP standard on related parties requires that the nature and extent of leasing activities between related parties be disclosed.

Accounting for Leases in a Business Combination A business combination, in and of: itself, has effect onAp the classification of a lease. However, if, in W ile y I AS 2 0 03 I n t erp re tno at ion an d p licat io n o f n t er n at ion al Accou n t in g St an d ar ds connection with aI business combination, the lease agreement is modified to change the original ISBN:0471227366 classification of the by lease, Bar r y J.it Epstein should be andconsidered Abbas Ali a new agreement and reclassified according to the Mir za revised provisions. John Wi ley & Sons © 2003 (952 pages)

In most cases, a This business combination is ehensive accounted theence pooling-of-interest method or by the com pact and t ruly that com pr quifor ck -by refer purchase methodprwill nots affect the previous of aonlease esent account ants with a classification guide to depend for unless the provisions have been assistance the prepar at ion and under standing of financial modified as indicated in the in preceding paragraph. statements present ed in accordance with I AS.

The acquiring company should apply the following procedures to account for a leveraged lease in a business combination accounted for by the purchase method:

T ab le of Con t en t s

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar 1. ds The classification of leveraged lease should be kept. Preface

2. The- net investment in the leveraged lease should be given a fair market value (present value, I ntr oduction to I nter national Accounting Standar ds net of tax) based on the remaining future cash flows. Also, the estimated tax effects of the cash Chapter 2 - Balance Sheet flows should be given recognition. Chapter 1

Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

3. The net investment should be broken down into three components: net rentals receivable, Chapter 4 - Cash Flow St at em ent estimated residual value, and unearned income. Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 4. Thereafter, 6 - I nventor the y leveraged lease should be accounted for as described above in the section on

leases. Chapter leveraged 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s Chapter 8

- Property , Plant , and Equipment

- I ntangi for ble Asset s Accounting Changes in Lease Agreements Resulting from I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 Refunding ofentTax-Exempt Debt I nvestm Pr oper ty Chapter 9

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

If, during the lease term, a change in the lease results from a refunding by the lessor of tax-exempt

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 debt (including an advance refunding) and (1) the lessee receives the economic advantages of the Balance Sheet Date

refunding and (2) the revised agreement can be classified as a capital lease by the lessee and a direct financing lease by the lessor, the change should be accounted for as follows:

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

1. If is accounted for as an extinguishment of debt Chapter 15the - I change ncom e Taxes Chapter 16 - Em ploy ee Benefit s

Lessee accounting. The lessee should adjust the lease obligation to the present value Chapter 17 a. - Stock holder s' Equit y of the future minimum lease payments under the revised agreement. The present value Chapter 18 - Earnings Per Share

of the minimum lease payments should be computed by using the interest rate applicable to the revised agreement. Any gain or loss should be recognized currently as a gain or Chapter 20 - Segm ent Repor ting loss on the extinguishment of debt in accordance with the provisions of SFAS 4. Chapter 19 - I nterim Financial Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

LessorPart accounting. The lessor should adjust the balance of the lease receivable and the Chapter 23 b. - Relatedy Disclosures estimatedI ndustr residual Chapter 24 - Specialized iesvalue, if affected, for the difference in present values between the old and revised agreements. Any resulting gain or loss should be recognized currently. Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

2. If the change is not accounted for as an extinguishment of debt

Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

a. Lessee accounting. The lessee should accrue any costs in connection with the debt

Appendix C - Com parison that of I AS, US GAAP,toand GAAP to the lessor. These costs should be amortized refunding is obligated be UK refunded I ndex by the interest method over the period from the date of refunding to the call date of the List of Tables

debt to be refunded.

List of Ex hibits and Ex am ples List of Sidebar s

b. Lessor accounting. The lessor should recognize any reimbursements to be received from the lessee, for costs paid in relation to the debt refunding, as revenue. This revenue should be recognized in a systematic manner over the period from the date of refunding to the call date of the debt to be refunded.

Sale or Assignment to Third Parties—Nonrecourse Financing The sale or assignment of a lease or of property subject to a lease that was originally accounted for as

a sales-type lease or a direct financing lease will not affect the original accounting treatment of the lease. Any profit or loss on the sale or assignment should be recognized at the time of transaction except under the W following ile y I AStwo 2 0 circumstances: 03 : I n t erp re t at ion an d Ap p licat io n o f n t eror n at ion al Accou t in g St an d ar ds parties, apply the provisions presented above 1. When the Isale assignment isnbetween related ISBN:0471227366 by Bar r y J. Epstein and Parties." Abbas Ali under "Leases between Related Mir za & Sons © is 2003 (952 pages) 2. When the John sale Wi or ley assignment with recourse, it should be accounted for using the provisions of the US standard onpact saleand of receivables with recourse. This com t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance at ionlease and under standing financial The sale of property subjectintothe an prepar operating should not be of treated as a sale if the seller (or any statements present ed in accordance I AS. in the leased property. A seller may related party to the seller) retains substantial risks of with ownership retain T ab le ofsubstantial Con t en t s risks of ownership by various arrangements. For example, if the lessee defaults on the lease agreement or if the lease terminates, the seller may arrange to do one of the following: Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar 1. ds Acquire the property or the lease Preface

2. Substitute an existing lease Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

3. Secure a replacement lessee or a buyer for the property under a remarketing agreement I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

of Recognized Gains and Losses A seller will not retain substantial risks of ownership by arrangements where one of the following Chapter 4 Cash Flow St at em ent occurs:

1. A remarketing agreement includes a reasonable fee to be paid to the seller

Chapter 7 - seller Rev enue Recogni tion,toI ncluding Constr Contr actor s disposition of the property owned by 2. The is not required give priority to uction the releasing Chapter the 8 -third Property Plant ,similar and Equipment party, over property owned by the seller Chapter 9

- I ntangi ble Asset s

When the sale of property subjectInstr to an lease not accounted for as a sale because the I nterests in Financial umoperating ent s, Associat es,isJoint Ventur es, and Chapter 10 - risk factor is present, it should be accounted for as a borrowing. The proceeds from the sale substantial I nvestm ent Pr oper ty should 11 be recorded an obligationand on Consolidat the seller's Rental payments made by the lessee under Chapter - Businessas Combinations edbooks. Fin ancial Statements the operating lease should be recorded as revenue by the seller even if the Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t hepayments are paid to the Chapter 12 third-party purchaser. The Date seller shall account for each rental payment by allocating a portion to interest Balance Sheet expense be imputed inuments—Longaccordance with theDebt provisions of APB 21), and the remainder will reduce Chapter 13(to - Financial I nstr Ter m the existing obligation. Other normal accounting procedures for operating leases should be applied Chapter 14 - Leases except 15 that- the depreciation term for the leased asset is limited to the amortization period of the Chapter I ncom e Taxes obligation. Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y

The sale or assignment of lease payments under an operating lease by the lessor should be accounted

Chapter - Earnings Share above. for as a18 borrowing asPer described Chapter 19 - I nterim Financial Repor ting

Nonrecourse financing is a ting common occurrence in the leasing industry whereby the stream of lease Chapter 20 - Segm ent Repor payments a lease is Changes discounted a rection nonrecourse at a financial institution with the lease Chapter 21 on - Accounting andon Cor of Er rorbasis s payments the debt. The proceeds are then used to finance future leasing transactions. Chapter 22 collateralizing - For eign Curr ency Even though the discounting is on a nonrecourse basis, US GAAP prohibits the offsetting of the debt Chapter 23 - RelatedPart y Disclosures against24 the- related lease receivable unless a legal right of offset exists or the lease qualified as a Chapter Specialized I ndustr ies leveraged lease at its inception.

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Money-Over-Money Lease Transactions

Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

In cases where a lessor obtains nonrecourse financing in excess of the leased asset's cost, a technical bulletin states that the borrowing and leasing are separate transactions and should not be offset I ndex against each other unless a right of offset exists. Only dealer profit in sales-type leases may be List of Tables recognized at the beginning of the lease term. Appendix C - Com parison of I AS, US GAAP, and UK GAAP

List of Ex hibits and Ex am ples List of Sidebar s

Acquisition of Interest in Residual Value

Recently, there has been an increase in the acquisition of interests in residual values of leased assets by companies whose primary business is other than leasing or financing. This generally occurs through the outright purchase of the right to own the leased asset or the right to receive the proceeds from the sale of a leased asset at the end of its lease term. In instances such as these, the rights should be recorded by the purchaser at the fair value of the

assets surrendered. Recognition of increases in the value of the interest in the residual (i.e., residual value accretion) to the end of the lease term are prohibited. However, a nontemporary write-down of the residual valueWinterest should as an a loss. This also applies to lessors who ile y I AS 2 0 03 :beI nrecognized t erp re t at ion d Ap p licatguidance io n o f sell the related minimum lease payments but retain the interest in the residual value. Guaranteed I n t er n at ion al Accou n t in g St an d ar ds residual values also have no effect on this guidance. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

Leases Involving Government Units

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s accountunits ants (i.e., with aairport guidefacilities, to dependbus on terminal for Leases that involve government space, etc.) usually contain assistance in the prepar at ion and under standing of financial special provisionsstatements that prevent the agreements from being classified as anything but operating leases. present ed in accordance with I AS.

These special provisions include the governmental body's authority to abandon a facility at any time T ab le of lease Con t en t s thus making its economic life indeterminable. These leases also do not contain a during term, Wiley AStransfer 20 03—Int er pretation andfair Application of I nternational ing BPOI or ownership. The market value is generallyAccount indeterminable because neither the Standar leasedds property nor similar property is available for sale. Preface

However, involving are subject to the Chapter 1 leases - I ntr oduction to government I nter nationalunits Accounting Standar ds same classification criteria as those of nongovernment units, except when the following six criteria are met. Chapter 2 - Balance Sheet I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 If- all six conditions are met, the agreement should be classified as an operating lease by both Note of Recognized Gains and Losses Chapter 4

lessee and lessor. - Cash Flow St at em ent

1. A or authority owns leased Chapter 5 government - Financial Iunit nstr uments—Cash andthe Receiv ablesproperty Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

2. The leased property is part of a larger facility operated by or on behalf of the lessor

Chapter 8 - leased Property , Plant , is and Equipment structure or part of a permanent structure that normally 3. The property a permanent Chapter cannot 9 - I ntangi ble Asset s be moved to another location Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

4. The lessor, I nvestmorent a higher Pr oper ty governmental authority, has the right to terminate the lease at any time the lease agreement or existing statutes regulations Chapter under 11 - Business Combinations and Consolidat ed Finor ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - lease neither transfers ownership nor allows the lessee to purchase or acquire the leased 5. The Balance Sheet Date Chapter property 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

6. The leased property or similar property in the same area cannot be purchased or leased from anyone else

Chapter 15 - I ncom e Taxes

Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y

Accounting for a Sublease

Chapter 18 - Earnings Per Share

Chapter 19 - I nterim Financial Repor ting

A sublease is used to describe the situation where the original lessee re-leases the leased property to a

Chapter 20 -(the Segm ent Repor ting third party sublessee), and the original lessee acts as a sublessor. Normally, the nature of a Chapter 21 Accounting Changes and Cor Er ror agreement, s sublease agreement does not affect the rection originaloflease and the original lessee/sublessor Chapter - For eign Curr ency retains 22 primary liability. Chapter 23 - Related- Part y Disclosures

The original lease remains in effect, and the original lessor continues to account for the lease as Chapter 24 - Specialized I ndustr ies before.25 The- Ioriginal Chapter nflation lessee/sublessor and Hyperinflationaccounts for the lease as follows: original transfers ownership or contains a bargain purchase option and if Chapter 1. If 26the - Gov er nmlease ent Gragreement an ts lease meets any one of the four criteria specified in US GAAP (i.e., transfers ownership, Appendixthe A -new Di sclosure Checklist the 75%etest, or theSt90% both collectibility and uncertainties criteria, the AppendixBPO, B - I llustrativ Financial atemtest) ent s and Pr esent edthe Under I AS should of classify theGAAP, new lease asGAAP a sales-type or direct financing lease; otherwise, as Appendixsublessor C - Com parison I AS, US and UK an operating lease. In either situation, the original lessee/sublessor should continue accounting for the original lease obligation as before. List of Tables I ndex

List of Ex hibits and Ex am ples

2. If the original lease agreement does not transfer ownership or contain a bargain purchase

List of Sidebar option,s but it still qualified as a capital lease, the original lessee/sublessor should (with one

exception) apply the usual criteria set by US GAAP in classifying the new agreement as a capital or operating lease. If the new lease qualifies for capital treatment, the original lessee/sublessor should account for it as a direct financing lease, with the unamortized balance of the asset under the original lease being treated as the cost of the leased property. The one exception arises when the circumstances surrounding the sublease suggest that the sublease agreement was an important part of a predetermined plan in which the original lessee played only an intermediate role between the original lessor and the sublessee. In this situation, the sublease should be

classified by the 75% and 90% criteria as well as collectibility and uncertainties criteria. In applying the 90% criterion, the fair value for the leased property will be the fair value to the original lessor thereoriginal lease. alln circumstances, the original lessee W ileat y Ithe AS inception 2 0 03 : I n of t erp t at ion an d ApUnder p licat io of should continue accounting for the original lease obligation as before. If the new lease I n t er n at ion al Accou n t in g St an d ar ds agreementby(sublease) does not meet the capitalization requirements imposed for subleases, the ISBN:0471227366 Bar r y J. Epstein and Abbas Ali new leaseMir should za be accounted for as an operating lease. John Wi ley & Sons © 2003 (952 pages)

3. If the original lease is an operating lease, the original lessee/sublessor should account for the This com pact and t ruly com pr ehensive qui ck - refer ence new leasepr asesent an operating leasewith anda account the original s account ants guide to for depend on for operating lease as before. [1]6.75902 is the PV of an annuity due forat10 at 10%. assistance in the prepar ionperiods and under standing of financial statements present ed in accordance with I AS. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS 2 0 03 : I n tLeases erp re t at ionUnder an d Ap p licat n of Appendix B: Leveraged USioGAAP I n t er n at ion al Accou n t in g St an d ar ds

by Bar r y accounting J. Epstein and Abbas regarding Ali One of the most complex subjects leasesISBN:0471227366 is the accounting for a leveraged lease. Once Mir za both sales-type and direct financing, the classification of the lease by the lessor has no effect on the account John leylessee. & SonsThe © 2003 (952 pages) accorded the lease by Wi the lessee simply treats it as any other lease and thus is interested only in This com pact and t ruly com pr ehensive qui ck - refer ence lease qualifies as an operating or a capital lease. The lessor's accounting problem is substantially more com pr esent s account ants with a guide to depend on for the lessee. assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

To qualify as a leveraged lease, a lease agreement must meet the following requirements, and the lessor mu the T ab le investment of Con t en ttax s credit (when in effect) in the manner described below. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Note Standar ds Failure to do so will result in the lease being classified as a direct financing lease. Preface 1. The lease must meet the definition of a direct financing lease. (The 90% of FMV criterion does not ap Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

2. The- lease must involve at least three parties. Balance Sheet a.I ncom An owner-lessor e Statement, (equity Stat em participant) ent of Chan ges in Equit y, and Statem ent Chapter 3 Chapter 2

of Recognized Gains and Losses

Chapter 4

b. A lessee - Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

c. A long-term creditor (debt participant)

Chapter 7 - financing Rev enue Recogni I ncluding Constr uction Contras actto s the general credit of the lessor and is suffi 3. The providedtion, by the creditor is nonrecourse with substantial leverage. Chapter the 8 -lessor Property , Plant , and Equipment Chapter 9

- I ntangi ble Asset s

4. The lessor's net investment (defined below) decreases in the early years and increases in the later ye I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter eliminated. 10 I nvestm ent Pr oper ty Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

The last characteristic (item 4) poses the accounting problem.

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balance Sheet Date The leveraged lease arose as a result of an effort to maximize the tax benefits associated with a lease transa Chapter 13 Financial I nstr uments—LongTer ma Debt accomplish this, it was necessary to involve third party to the lease transaction (in addition to the lessor an Chapter 14 Leases long-term creditor. The following diagram illustrates the existing relationships in a leveraged lease agreemen Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - owner-lessor I nflation and Hyperinflation 1. The secures long-term financing from the creditor, generally in excess of 50% of the pur Chapter GAAP 26 - Gov er nm entthat Gr an ts lessor must be provided with sufficient leverage in the transaction; thus the 5 indicates the Appendix A - Di sclosure Checklist

2. The then uses thisStfinancing with or her Appendix B - owner I llustrativ e Financial atem ent salong Pr esent ed his Under I ASown funds to purchase the asset from the ma Appendix C - Com parison of I AS, US GAAP, and UK GAAP

3. The manufacturer delivers the asset to the lessee.

I ndex

List of 4. Tables The lessee remits the periodic rent to the lessor. List of Ex hibits and Ex am ples

5. Sidebar The debt is guaranteed by either using the equipment as collateral, the assignment of the lease paym List of s depending on the demands established by the creditor.

The FASB concluded that the entire lease agreement be accounted for as a single transaction and not a dire lease plus a debt transaction. The feeling was that the latter did not readily convey the net investment in the user of the financial statements. Thus, the lessor is to record the investment as a net amount. The gross inve calculated as a combination of the following amounts: 1. The rentals receivable from the lessee, net of the principal and interest payments due to the long-term 2.

2. A receivable for the amount of the investment tax credit (ITC) to be realized on the transaction (repea United States but may yet exist in other jurisdictions) W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

3. The estimated residual value of the leased asset I n t er n at ion al Accou n t in g St an d ar ds

by Bar r y J. Epstein income, and Abbas Ali and deferred consisting of 4. The unearned

ISBN:0471227366

Mir za a. TheJohn estimated income (or loss), after deducting initial direct costs, remaining to be Wi ley &pretax Sons ©lease 2003 (952 pages)

income This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

b. Theassistance ITC remaining be allocated income over the remaining term of the lease in the to prepar at ion andtounder standing of financial statements present ed in accordance with I AS.

The first three amounts described above are readily obtainable; however, the last amount, the unearned and T ab le of Con t en t s additional computations. To derive this amount, it is necessary to create a cash flow (incom income, requires Wiley AS the 20 03—Int er pretation Applicationinofitem I nternational Account ing year Ifor entire lease term. and As described 4 above, the unearned and deferred income consists of th Standar incomeds(Gross lease rentals - Depreciation - Loan interest) and the unamortized investment tax credit. The to Preface two amounts for all the periods in the lease term represents the unearned and deferred income at the incepti Chapter 1

- I ntr oduction to I nter national Accounting Standar ds The amount computed as the gross investment in the lease (foregoing paragraphs) less the deferred taxes r Chapter 2 - Balance Sheet

difference between leaseStat income taxable income the net I ncom e pretax Statement, em entand of Chan ges lease in Equit y, andisStatem entinvestment for purposes of com income for the period. To compute periodic net income, another schedule must be completed that uses t of Recognized Gains andthe Losses derived4in the firstFlow schedule Chapter - Cash St at emand ent allocates them between income and a reduction in the net investment. Chapter 3

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

The amount of income is first determined by applying a rate to the net investment. The rate to be used is the - I nventor y allocate the entire amount of cash flow (income) when applied in the years in which the net investment is pos Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s words, the rate is derived in much the same way as the implicit rate (trial and error), except that only the year Chapter 8 - Property , Plant , and Equipment there is a positive net investment are considered. Thus, income is recognized only in the years in which there Chapter 9 - I ntangi ble Asset s net investment. Chapter 6

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

nvestm ent Pr ty among the following three elements: The income Irecognized is oper divided

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

1. Pretax accounting income

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balance Sheet Date 2. Amortization of investment tax credit

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 3. The 14 - tax Leases effect of the pretax accounting income Chapter 15 - I ncom e Taxes

The first two are allocated in proportionate amounts from the unearned and deferred income included in calc net investment. In other words, the unearned and deferred income consists of pretax lease accounting incom Chapter 17 - Stock holder s' Equit y investment tax credit. Each of these is recognized during the period in the proportion that the current period's Chapter 18 - Earnings Per Share income is to the total income (cash flow). The last item, the tax effect, is recognized in the tax expense for th Chapter 19 - I nterim Financial Repor ting effect of any difference between pretax lease accounting income and taxable lease income is charged (or cre Chapter 20 - Segm ent Repor ting deferred taxes. Chapter 16 - Em ploy ee Benefit s

Chapter 21 - Accounting Changes and Cor rection of Er ror s

When tax change, all components of a leveraged lease must be recalculated from the inception of the Chapter 22 rates - For eign Curr ency revised23 after-tax cash flows arising from the revised tax rates. Chapter - RelatedPart y Disclosures Chapter 24 - Specialized I ndustr ies

If, in any case, the projected cash receipts (income) are less than the initial investment, the deficiency is to b a loss at the inception of the lease. Similarly, if at any time during the lease period the aforementioned metho Chapter 26 - Gov er nm ent Gr an ts recognizing income would result in a future period loss, the loss shall be recognized immediately. Chapter 25 - I nflation and Hyperinflation Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem entcircumstances s Pr esent ed Under I AS This situation may arise as a result of the surrounding the lease changing. Therefore, any est Appendix C Com parison of I AS, US GAAP, and UK GAAP value and other important assumptions must be reviewed on a periodic basis (at least annually). Any change I ndex incorporated into the income computations; however, there is to be no upward revision of the estimated resid List of Tables

The following example illustrates the application of these principles to a leveraged lease.

List of Ex hibits and Ex am ples List of Sidebar s

Example of simplified leveraged lease Assume the following: 1. A lessor acquires an asset for $100,000 with an estimated useful life of 3 years in exchange for a $25 payment and a $75,000 3-year note with equal payments due on 12/31 each year. The interest rate is 2. The asset has no residual value. 3. The PV of an ordinary annuity of $1 for 3 years at 18% is 2.17427.

3. 4. The asset is leased for 3 years with annual payments due to the lessor on 12/31 in the amount of $45 ile y the I ASACRS 2 0 03 :method I n t erp re at ion an d Apfor p licat n of 5. The lessorWuses oftdepreciation tax io purposes and elects to reduce the ITC rate I n t er n at ion al Accou n t in g St an d ar ds opposed to reducing the depreciable basis. ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali

za 6. Assume aMir constant tax rate throughout the life of the lease of 40%. John Wi ley & Sons © 2003 (952 pages)

Chart 1 analyzes This the cash flows generated the leveraged activities. Chart 2 allocates the cash flow com pact and t ruly comby pr ehensive qui ck -leasing refer ence investment in leveraged assets and aincome from leveraged pr esent sleased account ants with guide to depend on for leasing activities. The allocation requires assistance in to thethe prepar at ion and under standing of financial of return which, when applied investment balance at the beginning of each year that the investment am statements present ed in accordance with I AS. positive, will allocate the net cash flow fully to net income over the term of the lease. This rate can be found o computer program T ab le of Con t en t s or by an iterative trial-and-error process. The example that follows has a positive investme each of the 3 years, and thus and the allocation place in each time ing period. Leveraged leases usually have p Wiley I AS 20 03—Int er pretation Applicationtakes of I nternational Account the investment account turns negative and is below zero. Standar ds Preface

Allocating principal and interest on the loan payments is as follows:

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Year

Chapter 4

$75,000 ÷ 2.17427 = $34,494

Payment

- Cash Flow St at em ent

Interest 18%

Principal

Chapter Inception 5 -ofFinancial lease I nstr uments—Cash $ -and Receiv $ -- ables Chapter 6 Chapter 7

1

- I nventor y

34,494

13.500

Balance

$ --

$75,000

20,994

54,006

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

34,494 Chapter 8 2- Property , Plant , and Equipment 9,721

24,773

29,233

Chapter 9 3- I ntangi ble Asset s 34,494 5,261 29,233 -I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chart 1

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he A c D E F Balance Sheet B Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

G

H

ITC

Cash flow (A+G-CE-F)

Interest on loan

Taxable income (A-B-C)

Income tax payable (revbl.) Dx40%

Loan principal payments

$ --

$ --

$ --

$ --

$ --

$ --

$(25,000)

Chapter Year 20 - 45,000 Segm ent Repor 25,000 ting

13,500

6,500

2,600

20,994

4,000

11,906

(2,721)

(1,088)

24,773

--

11,594

5,261

2,739

1,096

29,233

--

9,410

$28,482

$ 6,518

$2,608

$75,000

$4,000

$7,910

Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Rent Stock holder s'Depr. Equit y Chapter 18 - Earnings Per Share

Initial

$ --

Chapter 19 - I nterim Financial Repor ting

1 Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter eign Curr ency Year 22 - For 45,000 38,000 9,721 Chapter 23 RelatedPart y Disclosures 2 Chapter 24 - Specialized I ndustr ies

Year 3

45,000

37,000

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Total A$135,000 Appendix - Di sclosure $100,000 Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

The chart below allocates the cash flows determined above between the net investment in the lease and inco the income is then allocated between pretax accounting income and the amortization of the investment for cr List of Tables income tax expense for the period is a result of applying the tax rate to the current periodic pretax accounting I ndex

List of Ex hibits and Ex am ples

List Sidebar sto be allocated in total in each period is the net cash flow determined in column H above. The in Theofamount

beginning of year 1 is the initial down payment of $25,000. This investment is then reduced on an annual bas amount of the cash flow not allocated to income.

Chart 2

1

2

3

4

5

6

Assumption W ile y I AS 2Cash 0 03 : Flow I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

Investment Cash Allocated to Mir za beginning of flow investment John Wi ley & Sons © 2003 (952 pages) year

Income Analysis

ISBN:0471227366

Allocated to income

Pretax income

Income tax expense

This com pact and t ruly com pr ehensive qui ck - refer ence

pr esent s account ants with a guide to depend on $3,942 for $25,000 $11,906 $ 7,964

Year 1

$3,248

$1,300

2,686

2,213

885

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar Year ds 8,128 9,410 8,128 1,282

1,057

423

$6,518

$2,608

assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Year 2

T ab le of Con t en t s

17,036

11,594

8,908

Inves tax

3 Preface Chapter 1 Chapter 2

- I ntr oduction to I nter national Accounting Standar ds $32,910 $25,000 - Balance Sheet

Chapter 3

-

$7,910

Rate of return = 15.77%

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Chapter 4 - Cash Flow at em ent flow after the initial investment, and columns 3 and 4 are the allocation base 1. Column 2 is theStnet cash Chapter 15.77% 5 - Financial uments—Cash Receiv rate ofI nstr return. The total ofand column 4 ables is the same as the total of column H in Chart 1. Chapter 6 - I nventor y

2. Column allocates column D in Chart 1 based onContr the allocations in column 4. Column 6 allocates col Chapter 7 - Rev5enue Recogni tion, I ncluding Constr uction act s 1, and column 7 allocates column G in Chart 1 in the same basis. - Property , Plant , and Equipment

Chapter 8

Chapter 9 - entries I ntangi ble Asset s The journal below illustrate the proper recording and accounting for the leveraged lease transaction. T I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and represents Chapter 10 - the cash down payment, investment tax credit receivable, the unearned and deferred revenue, an I nvestm ent Pr oper ty

to be received over the term of the lease.

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Currjournal ent Liabilit ies, recognize Prov isions,the Cont ingencies, and Ev ents t he the net receipt of cash and the a The remaining entries annual transactions thatafter include Chapter 12 Balance Sheet Date income. Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Year 1

Year 2

Year 3

Chapter 15 - I ncom e Taxes

Rents 16 receivable 1 (A-C-F)] Chapter - Em ploy[Chart ee Benefit s Chapter 17 - Stock holderreceivable s' Equit y Investment tax credit

31,518 4,000

Chapter 18 - Earnings Per Share

Cash Chapter 19 - I nterim Financial Repor ting

25,000

Chapter 20 - Segm ent Repor ting

10,518

Unearned and deferred income

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

[Initial 23 investment, 2 (5+7) totals] Chapter - Related-Chart Part y Disclosures Chapter Cash 24 - Specialized I ndustr ies

10,506

Chapter 25 - I nflation and Hyperinflation

10,506 10,506

Rent receivable Chapter 26 - Gov er nm ent Gr an ts

10,506 10,506

10,506

Appendix Di sclosure ChecklistChart 1 (A-C-F) line by line for each year] [Net forAall- cash transactions. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Income tax receivable (cash)

4,000

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

4,000

Investment tax credit List of Tables receivable I ndex

List of Ex hibits and Ex am ples

Unearned and deferred income

List of Sidebar s

Income from leveraged leases

5,242

3,571 5,242

1,705 3,571

1,705

[Amortization of unearned income, Chart 2 (5+7) line by line for each year] The following schedules illustrate the computation of deferred income tax amount. The annual amount is a re temporary difference created due to the difference in the timing of the recognition of income for book and tax income for tax purposes can be found in column D in Chart 1, while the income for book purposes is found in

Chart 2. The actual amount of deferred tax is the difference between the tax computed with the temporary di the tax computed without the temporary difference. These amounts are represented by the income tax payab as shown in column EyofI AS Chart 1 and taxanexpense as io shown W ile 2 0 03 : I n the t erpincome re t at ion d Ap p licat n o f in column 6 of Chart 2. A check of th provided by multiplying the difference between book and tax income by the annual rate. I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Mir za Year 1 John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

Income tax payable $ 2,600 This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for Income tax expense (1,300)

assistance in the prepar at ion and under standing of financial

with I AS. $1,300 Deferred statements income tax present (Dr) ed in accordance T abTaxable le of Con t en t s income

$ 6,500

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Pretax (3,248) Standar dsaccounting income Preface Difference $3,252 x 40% = $1,300 $ 3,252 Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Chapter 2

- Balance SheetYear 2

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Income $ 1,088 Chapter 3 tax - receivable of Recognized Gains and Losses

Income expense Chapter 4 tax - Cash Flow St at em ent

885

- Financial I nstr uments—Cash and Receiv ables $1,973 Deferred income tax (Cr)

Chapter 5 Chapter 6

- I nventor y Taxable $ 2,721 Chapter 7 loss - Rev enue Recogni tion, I ncluding Constr uction Contr act s Chapter - Propertyincome , Plant , and Equipment Pretax8accounting 2,213 Chapter 9

- I ntangi ble Asset s

Difference $4,934 x 40% = $1,973

Chapter 10 -

$4,934

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper3ty Year

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Income tax payable

$ 1,096

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Income taxBalance expenseSheet Date (423) Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 12 -

$673

Deferred Chapter 14 - Leasesincome tax (Dr) Chapter 15 income - I ncom e Taxes Taxable Chapter 16 - Em ploy ee Benefit s

Pretax accounting income

Chapter 17 - Stock holder s' Equit y

Difference 1,682 xPer 40% = $673 Chapter 18 - $ Earnings Share

$ 2,739 (1,057) $.1,682

Chapter 19 - I nterim Financial Repor ting [2]A direct Chapter 20 financing - Segm entlease Repormust ting have its cost or carrying value equal to the fair value of the asset at the incep

lease. Thus, even if theChanges amountsand are Cor notrection significantly different, leveraged lease accounting should not be use Chapter 21 - Accounting of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Chapter 15: Income Taxes I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

za PerspectiveMirand Issues

John Wi ley & Sons © 2003 (952 pages)

Accounting for income This com taxes pactisand made t ruly complicated com pr ehensive by the quifact ck - refer that ence in most jurisdictions, the amount of pr esent srecognized account ants a guide to depend on for revenues and expenses in with a given period for taxation purposes will not correspond to what in the prepar at ion and under standing of financial is reported underassistance GAAP (whether national GAAP or IAS). The matching principle states that for statements present ed in accordance with I AS. financial reporting purposes the amount presented as current period tax expense should relate T ab le of Con t en appropriately tot sthe amount of pretax accounting income being reported. That expense would rarely equalI AS the20current tax and payment obligation. The solution is to record deferred income tax assets Wiley 03—Intperiod's er pretation Application of I nternational Account ing Standar ds and liabilities as the difference between the amount owed and the amount accruable for financial Preface reporting purposes. Chapter 1

- I ntr oduction to I nter national Accounting Standar ds Under the of IAS 12, as most recently revised, the liability method of computing interperiod Chapter 2 -provisions Balance Sheet

income tax allocation is required. This method essentially is oriented toward the balance sheet and the

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 appropriate accurate, measurement assets and liabilities—specifically, toward appropriate of Recognized Gains and of Losses

representation of Flow deferred taxent benefits and obligations. In order to achieve this, at each balance sheet Chapter 4 - Cash St at em date the5 amounts in the deferred tax asset Chapter - Financial I nstr uments—Cash andand/or Receivliability ables accounts is assessed, with the necessary

adjustment(s) to achieve the correct balance(s) being reported in the tax provision for the period. Use - I nventor y of this method may or may not achieve optimal "matching" of tax expense with pretax (accounting) Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s income, but it does result in a balance sheet with assets and liabilities meeting the criteria established Chapter 8 - Property , Plant , and Equipment in 1989 when IASC adopted the Framework for the Preparation and Presentation of Financial Chapter 9 - I ntangi ble Asset s Statements. Chapter 6

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty Under IAS 12, deferred tax assets and liabilities are to be presented at the amounts which are Chapter 11 Business Combinations and Consolidat ed Fin Statements expected to flow to or from the reporting entity when theancial benefits are ultimately realized or the Chapter 10 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he obligations Chapter 12 - are settled. Revised IAS 12 makes no significant distinction between operation losses and Balance Sheet Date

other types of deductible temporary differences, and requires that both be given recognition when

Chapter 13 -isFinancial uments—LongTer m Debtof these amounts to present values is not permitted. realization deemedI nstr to be probable. Discounting Chapter 14 Leases Both tax assets and liabilities are measured by reference to expected tax rates, which in general are Chapter 15 - I ncom e Taxes the enacted, effective rates as of the balance sheet date. The standard also alters the criteria for Chapter 16 Em ploy ee effects Benefit sof temporary differences arising from ownership interest in investees and recognition of the tax Chapter 17 - Stock Equit y subsidiaries, and holder for thes'accounting related to goodwill and negative goodwill arising from business

acquisitions. Presentation of deferred tax assets or liabilities as current assets or liabilities is prohibited, Chapter 18 - Earnings Per Share and a somewhat lengthier listRepor of additional disclosures has also been mandated by IAS 12, as set forth Chapter 19 - I nterim Financial ting in this chapter. Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Sources of IAS

Chapter 23 - Related- Part y Disclosures

IAS (revised) I ndustr SIC 17, Chapter 24 12 - Specialized ies 25 Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

ile yTerms I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f DefinitionsWof I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za Accounting profit

John Wi ley & Sons © 2003 (952 pages)

Net profit or loss for the reporting period before deducting income tax expense.

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for Current tax expense assistance in the prepar at ion and under standing of financial statements ed taxes in accordance with I AS. The amount ofpresent income payable (recoverable) in respect of the taxable profit (tax

loss) for a period.

T ab le of Con t en t s

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Deductible temporary differences Standar ds

Temporary differences that result in amounts that are deductible in determining taxable profit when the carrying amount of the asset or liability is recovered or settled. Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Preface

Chapter 2

- Balance Sheet Deferred tax asset I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent The amounts of income taxes recoverable in future periods in respect of deductible of Recognized Gains and Losses

Chapter 3

-

Chapter 4

temporary carryforwards of unused tax losses, and carryforwards of - Cash Flow St atdifferences, em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

unused tax credits.

Chapter 6

- I nventor y Deferred tax expense

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

The change during a reporting period in the deferred tax liabilities and deferred tax assets of an entity.

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Deferred Chapter 10 - tax liability I nvestm ent Pr oper ty

The amounts of income taxes payable in future periods in respect of taxable temporary differences.

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Gains and losses included in nonowner movements in equity but excluded from net income

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Certain items which, under GAAP, are events occurring currently but which are reported directly in equity, such as changes in market values of noncurrent portfolios Chapter 15 - I ncom e Taxes of marketable equity securities. Chapter 14 - Leases

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock s' Equit y Interperiod taxholder allocation Chapter 18 - Earnings Per Share

The process of apportioning income tax expense among reporting periods without regard to the timing of the actual cash payments for taxes. The objective is to reflect Chapter 20 - Segm entthe Repor fully tax ting consequences of all economic events reported in current or prior financial Chapter 21 - Accounting Changes and Cor rection Er rorthe s expected tax effects of the reversals of statements and, in particular, to of report Chapter 22 - For temporary eign Curr ency differences existing at the reporting date. Chapter 19 - I nterim Financial Repor ting

Chapter 23 - Related- Part y Disclosures

Intraperiod tax allocation Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation The process of apportioning income tax expense applicable to a given period between Chapter 26 - Govincome er nm entbefore Gr an ts extraordinary items and those items required to be shown net of tax

such asChecklist extraordinary items and prior period adjustments. Appendix A - Di sclosure Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Operating loss carryback or carryforward

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

The excess of tax deductions over taxable income. To the extent that this results in a carryforward, the tax effect thereof is included in the entity's deferred tax asset, unless List of Tables notEx expected List of Ex hibits and am ples to be realized. I ndex

List of Sidebar s

Permanent differences Differences between accounting profit and taxable profit as a result of the treatment accorded certain transactions by the income tax regulations which differs from the accounting treatment. Permanent differences will not reverse in subsequent periods, and accordingly, do not create a need for deferred tax recognition. Tax basis The amount attributable (explicitly or implicitly) to an asset or liability by the taxation

authorities in determining taxable profit. Tax credits

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Reductions in the tax liability a result I n t er n at ion al Accou n t in g as St an d ar dsof certain expenditures accorded special treatment the tax ISBN:0471227366 by Bar r y under J. Epstein andregulations. Abbas Ali Mir za

Tax expense John Wi ley & Sons © 2003 (952 pages) The This aggregate com pact of and current t ruly com tax pr expense ehensiveand quideferred ck - refer ence tax expense for a reporting pr esent s account ants with a guide to depend on for period. assistance in the prepar at ion and under standing of financial

statements present ed in accordance with I AS. Tax planning strategy T ab le of Con t en tAs representation by management of a planned transaction or series of transactions Wiley I AS 20 03—Int thaterwould pretation affect and the Application particular offuture I nternational years in which Account temporary ing differences will result Standar ds in taxable or deductible amounts. Preface

Taxable (loss) to I nter national Accounting Standar ds Chapter 1 - profit I ntr oduction Chapter 2 Chapter 3 Chapter 4

- Balance Sheet(loss) for a taxable period, determined in accordance with the rules The profit established by the taxation authorities, onEquit which income taxes I ncom e Statement, Stat em ent of Chan ges in y, and Statem ent are payable of Recognized Gains and Losses (recoverable). - Cash Flow St at em ent

Taxable differences Chapter 5 - temporary Financial I nstr uments—Cash and Receiv ables Chapter 7

- I nventor y Temporary differences that result in taxable amounts in determining taxable profit of - Revfuture enue Recogni periodstion, when I ncluding the carrying Constr amount uction of Contr theact asset s or liability is recovered or

Chapter 8

settled. - Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 6

Temporary differences I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper tybetween tax and financial reporting bases of assets and liabilities that The differences Chapter 11 - Business will result Combinations in taxable and or deductible Consolidatamounts ed Fin ancial in future Statements periods. Temporary differences include "timing as defined byand priorEvGAAP as well Curr ent Liabilit ies, differences" Prov isions, Cont ingencies, ents after t he as certain other Chapter 12 Balance Sheet Date differences, such as those arising from business combinations. Some temporary Chapter 13 - Financial I nstr uments—LongTer m Debt differences cannot be associated with particular assets or liabilities, but nonetheless, Chapter 14 - Leases do result from events that received financial statement recognition and will have tax effects in future periods. Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s

Unrecognized tax benefits

Chapter 17 - Stock holder s' Equit y

Deferred benefits that have not been recognized because they are not deemed Chapter 18 - Earnings Per tax Share probable of being realized. Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS and 2 0 03 : Examples I n t erp re t at ion an d Ap p licat io n o f Concepts, Rules, I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Basic Concepts of Interperiod Income Tax Allocation Mir za John Wi ley & Sons © 2003 (952 pages)

Over the years, various theories have been advanced regarding the appropriate reporting of income tax This com pact and t ruly com pr ehensive qui ck - refer ence expense when there are inwith the timing pr esent sdifferences account ants a guideoftorecognition depend on of forrevenue and expense as between tax calculations and financial ideas were the deferral method and the assistance in reporting. the preparThe at ionmost and popular under standing of financial statements presentthe ed net in accordance with for I AS.a time received a moderate amount of liability method. (A third approach, of tax method, academic support but was far less widely employed [or understood] by practitioners. Its only T ab le of Con t en t s widespread use was as a valuation technique to record assets and liabilities acquired in a purchase Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing business Standar ds combination.) Preface

The deferral method, which was widely employed, was soundly based on the matching principle and I ntr oduction to I nter national Accounting Standar ds was never -misrepresented as being balance sheet oriented. However, in practice it suffered from some Chapter 2 Balance Sheet also resulted in material distortions of the balance sheet. This was complexity and sometimes I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent considered Chapter 3 - an acceptable if regrettable side effect, particularly during the late 1960s and 1970s, a of Recognized Gains and Losses period during which more attention was directed at income measurement than at meaningfulness of Chapter 4 - Cash Flow St at em ent corporate balance sheets. Chapter 1

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter Following 6 the - I nventor adoption y of the IASC's Framework for the Preparation and Presentation of Financial

Statements, which serves astion, the conceptual underpinning for act accounting standards promulgated by Chapter 7 - Rev enue Recogni I ncluding Constr uction Contr s IASB, it8was inevitable that, substantial changes in accounting for income taxes would be made. That is Chapter - Property , Plant and Equipment because deferred Chapter 9 the - I ntangi ble charges Asset s and credits resulting from the application of the deferral method (as permitted byI nterests the original IAS 12) Instr wereum generally not true or liabilities in Financial ent s, Associat es,assets Joint Ventur es, andas those are defined in the Framework. IAccordingly, became indefensible to place these items on the balance sheet. The liability nvestm ent Pritoper ty method11 (explained below) became and the method of ed choice. Chapter - Business Combinations Consolidat Fin ancial Statements Chapter 10 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - but also important debate had long existed regarding the items of timing differences for A separate Balance Sheet Date

which deferred tax effects were to be presented. At one extreme were proponents of no allocation, who Chapter 13 - Financial I nstr uments—LongTer m Debt favored reporting only the amount of taxes currently payable as income tax expense. Occupying the middle ground were advocates of partial allocation, who accepted the need to provide deferred taxes Chapter 15 - I ncom e Taxes only for those timing differences whose ultimate reversal could be reasonably predicted. At the other Chapter 16 - Em ploy ee Benefit s extreme were those favoring comprehensive allocation, which holds that deferred tax effects are to be Chapter 17 - Stock holder s' Equit y reported for all timing differences, even if ultimate reversal is far in the future or cannot be predicted at Chapter 18 - Earnings Per Share all. Chapter 14 - Leases

Chapter 19 - I nterim Financial Repor ting Chapter Very different 20 - Segm results ent Repor of operations ting would be reported under the three approaches to interperiod tax

allocation, this debate was effectively resolved 1979 when an earlier iteration of IAS 12 decreed Chapter 21 -but Accounting Changes and Cor rection of Erinror s the need comprehensive Chapter 22for - For eign Curr ency allocation, albeit with exceptions for certain items for which the tax effects were deemed not likely reverse within three years. This version of IAS 12 did permit the utilization of Chapter 23 - RelatedPartto y Disclosures either the or theI ndustr liabilityiesmethod, which are of course based on diametrically opposed theories. Chapter 24 deferral - Specialized Partially25for- that reason, was viewed as a flawed standard, but in common with many early IAS it Chapter I nflation and itHyperinflation attempted to find value in all major approaches used by various national GAAP at that time.

Chapter 26 - Gov er nm ent Gr an ts

Appendix A - Di sclosure Checklist IASC's goal was to ultimately narrow the range of alternatives that would be deemed acceptable in Appendix B I llustrativ e Financialevents, St atem ent esent ed Under I AS that with regard to income tax accounting for given economic ands itPrhas accomplished Appendix C - Com I AS, US UK GAAP accounting. The parison current of version of GAAP, IAS 12and clearly demands that the liability method be employed, using I ndex comprehensive allocation, with no alternative methodologies being permitted. List of Tables List of Ex hibits and Ex am ples

Measurement of Tax Expense

List of Sidebar s

Current tax expense. Income tax expense will be comprised of two components: current tax expense and deferred tax expense. Either of these can be a benefit (i.e., a credit), rather than an expense (a debit), depending on whether there is taxable profit or loss for the period. For convenience, the term "tax expense" will be used to denote either an expense or a benefit. Current tax expense is easily understood as the tax effect of the entity's reported taxable income or loss for the period, as determined by relevant rules of

the various taxing authorities to which it is subject. Deferred tax expense, in general terms, arises as the tax effect of timing differences occurring during the reporting period. However, the actual computation of deferred depending W ile y I tax AS expense 2 0 03 : I nvaries t erp redramatically, t at ion an d Ap p licat io n on o f whether a deferred method or a liability method isI being applied. (Former IAS 12 allowed a free choice in this regard, making n t er n at ion al Accou n t in g St an d ar ds comparisons across entities particularly challenging.) Since IAS 12 currently ISBN:0471227366prohibits the deferred by Bar r y J. Epstein and Abbas Ali Mir za GAAP of the remaining major standard-setting bodies), this will not be method (as do national addressed in thisJohn chapter. following Wi leyThe & Sons © 2003discussion (952 pages) will focus exclusively on the application of the liability method, which is mandated by IAS. This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

Under the liabilityassistance method the period's totalunder income tax expense cannot be computed directly. in current the prepar at ion and standing of financial in of accordance with I AS. Rather, it must bestatements calculatedpresent as the ed sum the two components: current tax expense and deferred tax expense. This total will not, in general, equal the current tax rate applied to pretax accounting profit. T ab le of Con t en t s The reason is that deferred tax expense is defined as the change in the deferred tax asset and liability Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing accounts Standar ds in the current period, and this change may encompass more than the mere effect of the current tax rate times the net temporary differences occurring in the present reporting period. Preface Chapter 1

I ntr oduction to I nter national Accounting Standar ds IAS 12, as-most recently revised, has mandated a purely balance sheet oriented approach, much like

Chapter 2 - Balance Sheet that imposed by SFAS 109 under US GAAP. Thus, it results in the inclusion in current period deferred I ncom e Statement, Stat em of Chan ges in unreversed Equit y, and temporary Statem ent differences arising in tax expense the effects of changing taxent rates on as yet Chapter 3 of Recognized Gains and Losses

prior periods. In other words, current period tax expense may include not merely the tax effects of - Cash Flow St at em ent currently reported revenue and expense items, but also certain tax effects of items reported previously.

Chapter 4 Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6 the - I nventor Although primaryy objective of income tax accounting under the liability method is no longer the

proper 7matching of current period expenses, theact matching principle remains very Chapter - Rev enue Recogni tion, Irevenue ncluding and Constr uction Contr s important. the tax effects of items excluded from the income statement, such as corrections Chapter 8 -Therefore, Property , Plant , and Equipment of errors, also excluded Chapter 9 are - I ntangi ble Asset sfrom the income statement. This is referred to as intraperiod tax allocation, to be distinguished from the interperiod that es, is the major subject of IAS 12 and of this I nterests in Financial Instr umallocation ent s, Associat Joint Ventur es, and chapter. I nvestm ent Pr oper ty

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he An Overview of the Liability Method Balance Sheet Date

Chapter 12 -

Chapter 13 - method FinancialisI nstr uments—LongTer m Debt The liability balance sheet oriented, in contrast to the now almost extinct deferral method, Chapter 14 Leases which is income statement oriented. The primary goal of the liability method is to present the estimated Chapter 15 - I to ncom Taxes in future periods as the income tax liability on the balance sheet. To actual taxes be epayable accomplish goal is necessary to consider the effect of certain enacted future changes in the tax Chapter 16 - this Em ploy eeitBenefit s

rates when current Chapter 17 - computing Stock holderthe s' Equit y period's tax provision. The computation of the amount of deferred taxes is18based on thePer rateShare expected to be in effect when the temporary differences reverse. The annual Chapter - Earnings computation is considered a tentative Chapter 19 - I nterim Financial Repor tingestimate of the liability (or asset) that is subject to change as the statutory rate ent changes as the taxpayer moves into other tax rate brackets. Chapter 20tax - Segm Reporor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

TheFramework for the Preparation and Presentation of Financial Statements defines liabilities as obligations resulting from past transactions and involving "giving up resources embodying economic Chapter RelatedPart y Disclosures benefits23in -order to satisfy the claim of [another] party." Assets are defined as "the potential to Chapter 24 Specialized I ndustr ies contribute, directly or indirectly, to the flow of cash ... to the enterprise." As the background paper to Chapter - I12 nflation Hyperinflation revised25 IAS madeand clear, the deferred debits and credits generated through the use of the deferral Chapter Govmeet er nm the ent definitions Gr an ts method26 do- not of assets and liabilities prescribed by the Framework. This lack of Appendix A - Di sclosure consistency was one ofChecklist the primary reasons for the IASC's reconsideration of IAS 12, which culminated Appendix in the issuance B - I llustrativ of revised e Financial IAS 12Stinatem 1996. ent s Pr esent ed Under I AS Chapter 22 - For eign Curr ency

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Application of the liability method is, in concept at least, relatively simple when compared to the deferral method. Unlike the deferral method, there is no need to maintain a historical record of the timing of List of Tables origination of the various unreversed differences, since the effective rates at which the various List of Ex hibits and Ex am ples components were established is not relevant. As the liability method is strictly a balance sheet List of Sidebar s approach, the primary concern is to state the obligation for taxes payable as accurately as possible, based on expected tax impact of future reversals. This is accomplished by multiplying the aggregate unreversed temporary differences, including those originating in the current period, by the tax rate expected to be in effect in the future to determine the expected future liability. This expected liability is the amount presented on the balance sheet at the end of the period. The difference between this amount and the amount on the books at the beginning of the period, simply put, is the deferred tax expense or benefit for the current reporting period. I ndex

An example of application of the liability method of deferred income tax accounting follows. Simplified example of interperiod allocation using the liability method W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Ghiza International has no permanent differences in either years 2002 or 2003. The company has only ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali two temporary differences, depreciation and prepaid rent. No consideration is given to the nature of the Mir za deferred tax account as it is not considered necessary for purposes of this John(i.e., Wi leycurrent & Sonsor© long-term) 2003 (952 pages) example. Ghiza has a credit balance in its deferred tax account at the beginning of 2002 in the amount This com pact and t ruly com pr ehensive qui ck - refer ence of $180,000. Thisprbalance consists of $228,000 ($475,000 depreciation temporary difference x 48% tax esent s account ants with a guide to depend on for rate) of deferred taxable amounts and $48,000 ($100,000 prepaid temporary difference x 48% tax assistance in the prepar at ion and under standing of rent financial statements amounts. present ed in accordance with I AS. rate) of deferred deductible T ab le purposes of Con t enof t sthis example, it is assumed that there was a constant effective 48% tax rate in all For Wiley I AS 20 03—Int er pretation and accounting Application income of I nternational ing differences originating and periods prior to 2002. The pretax and the Account temporary Standar ds

reversing in 2002 and 2003 are as follows:

Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet Ghiza International I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent 2002 of Recognized Gains and Losses

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

2003

Pretax accounting $800,000 income - Financial I nstr uments—Cash and Receiv ables

$1,200,000

Chapter 5 Chapter 6

- I nventor y

Timing7 differences: Chapter - Rev enue Recogni tion, I ncluding Constr uction Contr act s - Property , Plant , and Equipment $(180,000) originating Depreciation: - I ntangi ble Asset s reversing 60,000

$(160,000)

Chapter 8 Chapter 9

(120,000)

100,000

(60,000)

(40,000)

40,000

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr operoriginating ty 75,000 80,000 Prepaid rental

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements income:

reversing

Chapter 12 -

(25,000)

50,000

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he $730,000 Balance Sheet Date

Taxable income

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

$ 1,180,000

Chapter 14 - Leases

Chapter 15 - I ncom e Taxes Chapter - Emfor ploy ee Benefit The tax16 rates years 2002 sand 2003 are 46% and 38%, respectively. These rates are assumed to be Chapter 17 - Stock holder s' Equit y the 2003 change in the rate was not known until it took place in 2003. independent of one another, and Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Computation of tax provision—2002: Chapter 20 - Segm ent Repor ting

Balance of deferred tax account, 1/1/02

Chapter 21 - Accounting Changes and Cor rection of Er ror s

$228,000

Chapter 22 - For eign Curr ency Depreciation ($475,000 x 48%) Chapter 23 - Related- Part y Disclosures

(48,000)

Prepaid rental income ($100,000 x 48%) Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation

$180,000

Chapter 26 - Gov er nm ent Gr an ts

Aggregate temporary differences, 12/31/02

Appendix A - Di sclosure Checklist

Appendix Depreciation B - I llustrativ e($475,000 Financial St ent s Pr esent ed Under$595,000 I AS + atem $120,000) Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Prepaid rental income ($100,000 + $50,000)

List of Tables List of Ex hibits and Ex am ples

Expected future rate (2002 rate)

List of Sidebar s

Balance required in the deferred tax account, 12/31/02 Required addition to the deterred tax account Income taxes currently payable ($730,000 x 46%) Total tax provision

(150,000) $445,000 x 46% 204,700 $ 24,700 335,800 $360,500

Computation of tax provision—2003: Balance of deterred account. W iletax y I AS 2 0 03 :1/1/03 I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Depreciation ($595,000 x 46%)

by Bar r y J. Epstein and Abbas Ali Mir za Prepaid rental income ($150,000 x 46%) John Wi ley & Sons © 2003 (952 pages)

$273,700 ISBN:0471227366

(69,000)

This com pact and t ruly com pr ehensive qui ck - refer ence $204,700 pr esent s account ants with a guide to depend on for Aggregate timingassistance differences, 12/31/03 in the prepar at ion and under standing of financial statements present ed in accordance with I AS. $655,000

Depreciation ($595,000 + $60,000)

T ab le of Con t en t s

(190,000)

rental incomeand ($150,000 + $40,000) Wiley I AS Prepaid 20 03—Int er pretation Application of I nternational Account ing Standar ds $465,000 Preface

Expccted -future rate (2003 rate) x 38% I ntr oduction to I nter national Accounting Standar ds Chapter Balance 2 required - BalanceinSheet the deferred tax account, 12/31/03 Chapter 1

176,700

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter Required 3 -reduction in the deferred tax account $ (28,000) of Recognized Gains and Losses

Income currently Chapter 4 taxes - Cash Flow St payable at em ent ($1,180,000 x 38%) Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Total tax provision

448,400 $420,400

- I ntangi ble Asset s Liability Method Explained in Detail

Chapter 9

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

While conceptually I nvestmthe ent liability Pr oper ty method is rather straightforward, in practice there are a number of complexities to be addressed. In the following pages, the following measurement and reporting issues Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements are discussed inent greater detail. Curr Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 -

Balance Sheet Date 1. Nature of temporary differences

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 2. Treatment 14 - Leasesof operating loss carryforwards Chapter 15 - I ncom e Taxes

3. Measurement of deferred tax assets and liabilities

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stockallowance holder s' Equit 4. Valuation for ydeferred tax assets that are not assured of realization Chapter 18 - Earnings Per Share

5. Effect of tax law changes onting previously recorded deferred tax assets and liabilities Chapter 19 - I nterim Financial Repor Chapter 20 - Segm ent Repor ting

6. Effect of tax status changes on previously incurred deferred tax assets and liabilities

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - effects For eignofCurr ency combinations 7. Tax business Chapter 23 - Related- Part y Disclosures

8. Intercorporate Chapter 24 - Specializedincome I ndustrtax ies allocation Chapter 25 - I nflation and Hyperinflation

9. Exceptions to the general rules of revised IAS 12

Chapter 26 - Gov er nm ent Gr an ts

Appendix - Di sclosure Checklistincome tax accounting under IAS 12 are presented throughout the Detailed Aexamples of deferred Appendix B I llustrativ e St atem ent s Pr esent ed Under I AS following discussion of Financial these issues. Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Nature of Temporary Differences

List of Tables

List Ex hibits of and am plesreporting entity's transactions are treated identically for tax and financial Theofmajority theExtypical List of Sidebar s reporting purposes. Some transactions and events, however, will have different tax and accounting

implications. In many of these cases, the difference relates to the period in which the income or expense will be recognized. Under IAS 12, the latter differences were referred to as "timing differences" and were said to originate in one period and to reverse in a later period. Common timing differences include those relating to depreciation methods, deferred compensation plans, percentage-of-completion accounting for long-term construction contracts, and cash versus accrual accounting. The latest revisions to IAS 12 introduced the concept of temporary differences, which is rather more comprehensive than that of timing differences. Temporary differences include all the categories of the

earlier concept, plus a number of additional items as well. Temporary differences include all differences between the tax and financial reporting bases of assets and liabilities if those differences will result in taxable or deductible years. W ileamounts y I AS 2 0in 03future : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Examples of temporary differences that were also deemed to be timing differences under the original ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali IAS 12 are the following: Mir za John Wi ley & Sons © 2003 (952 pages)

1. Revenue recognized before This com pactfor andfinancial t ruly comreporting pr ehensivepurposes qui ck - refer ence being recognized for tax purposes.prExamples include revenue accounted for by the esent s account ants with a guide to depend on forinstallment method for tax purposes, assistance in the prepar at ion and under standing of financial but reflected in income currently; certain construction-related revenue recognized on a statements presentfor ed tax in accordance withon I AS. completed-contract method purposes, but a percentage-of-completion basis for T ab le of financial Con t en t sreporting; earnings from investees recognized by the equity method for accounting purposes but taxed only when later distributed as dividends to the investor. These are taxable Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing temporary differences, which give rise to deferred tax liabilities. Standar ds Preface Chapter 1 - I ntr oduction to I nter Accounting Standar ds 2. Revenue recognized fornational tax purposes prior to recognition in the financial statements. Chapter These 2 - Balance Sheet include certain types of revenue received in advance, such as prepaid rental income and I ncom e Statement, em ent of ges in Equit y, and Statem ent contract revenue.Stat Referred to Chan as deductible temporary differences, these items give rise Chapter service 3 of Recognized Gains and Losses to deferred tax assets. Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

3. Expenses that are deductible for tax purposes prior to recognition in the financial - I nventor y statements. This results when accelerated depreciation methods or shorter useful lives are Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s used for tax purposes, while straight-line depreciation or longer useful economic lives are used Chapter 8 - Property , Plant , and Equipment for financial reporting; and when there are certain preoperating costs and certain capitalized Chapter 9 - I ntangi ble Asset s interest costs that are deductible currently for tax purposes. These items are taxable temporary I nterests in give Financial um ent s, es, Joint Ventur es, and and rise toInstr deferred taxAssociat liabilities. Chapter differences 10 Chapter 6

I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

4. Expenses that areies, reported in the financial statements prior becoming deductible for Curr ent Liabilit Prov isions, Cont ingencies, and Ev ents aftertot he Balance Sheet Dateestimated expenses, such as warranty costs, as well as such contingent tax purposes. Certain Chapter losses 13 - Financial I nstr uments—LongTer m Debt as accruals of litigation expenses, are not tax deductible until the obligation becomes These are deductible temporary differences, and accordingly give rise to deferred tax Chapter fixed. 14 - Leases Chapter assets. 15 - I ncom e Taxes Chapter 12 -

Chapter 16 - Em ploy ee Benefit s

In addition to these familiar and well-understood timing differences, temporary differences include a number of other categories that also involve differences between the tax and financial reporting bases Chapter 18 - Earnings Per Share of assets or liabilities. These are Chapter 17 - Stock holder s' Equit y

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

1. Reductions in tax deductible asset bases arising in connection with tax credits. Under tax

Chapter provisions 21 - Accounting Changes and Cor rection Er ror s in certain jurisdictions, creditsofare available for certain qualifying investments in plant Chapter assets. 22 - ForIn eign Curr ency some cases, taxpayers are permitted a choice of either full accelerated depreciation Chapter coupled 23 - Relatedy Disclosures with Part a reduced investment tax credit, or a full investment tax credit coupled with Chapter reduced 24 - Specialized I ndustr ies depreciation allowances. If the taxpayer chose the latter option, the asset basis is Chapter reduced 25 - I nflation and Hyperinflation for tax depreciation, but would still be fully depreciable for financial reporting purposes. Chapter Accordingly, 26 - Gov er nmthis ent election Gr an ts would be accounted for as a taxable timing difference, and give rise to

tax liability. Appendixa Adeferred - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison I AS, US GAAP, and UK GAAP from the indexing of asset costs for the 2. Increases in the oftax bases of assets resulting I ndex effects of inflation. Occasionally, proposed and sometimes enacted by taxing jurisdictions, List of Tables such a tax law provision allows taxpaying entities to finance the replacement of depreciable List of Exassets hibits and Ex amdepreciation ples through based on current costs, as computed by the application of indices to List of Sidebar s the historical costs of the assets being re-measured. This reevaluation of asset costs gives rise

to deductible temporary differences that would be associated with deferred tax benefits. 3. Certain business combinations accounted for by the acquisition method. Under certain circumstances, the costs assignable to assets or liabilities acquired in purchase business combinations will differ from their tax bases. The usual scenario under which this arises is when the acquirer must continue to report the predecessor's tax bases for tax purposes, although the price paid was more or less than book value. Such differences may be either taxable or

deductible and, accordingly, may give rise to deferred tax liabilities or assets. These differences were treated as timing differences under the original IAS 12, and will now be recognized as temporaryWdifferences revised IAS ile y I AS 2by 0 03 : I n t erp re t12. at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds ISBN:0471227366 by Bar r y revalued J. Epstein for and financial Abbas Ali reporting purposes 4. Assets which are although the tax bases are not Mir za affected. This is analogous to the matter discussed in the preceding paragraph. Under certain John Wi ley & Sons © 2003 (952 pages) international accounting standards (such as IAS 16 and IAS 40), assets are written up to fair This com pact and t ruly com pr ehensive qui ck - refer ence value although for tax purposes these adjustments are ignored until and unless the assets are pr esent s account ants with a guide to depend on for disposed of. The discrepancies between the adjusted book assistance in the prepar at ion and under standing of carrying financial values and the tax bases are temporary differences under 12, and deferred statements present ed inIAS accordance with I AS.taxes are to be provided on these variations. This is required even if there is no intention to dispose of the assets in question, or if, T ab le of Con t en t s under tax laws, exchanges for other similar assets (or reinvestment of proceeds of sales in Wiley I AS 20 03—Int er pretation and Application of I nternational ing similar assets) would effect a postponement of the taxAccount obligation.

Standar ds

Preface Items that would not have been deemed timing differences under the original standard IAS 12 but are Chapter 1 -differences I ntr oduction to I nter national ds temporary under revised IASAccounting 12 include Standar the following: Chapter 2

- Balance Sheet

I ncom Statement,acquired Stat em ent Chan ges in Equit and Statem ent combinations which 1. Assets ande liabilities in of transactions that y, are not business Chapter 3 of Recognized and Losses are not deductibleGains or taxable in determining taxable profit. In some tax jurisdictions, certain Chapter assets 4 - Cash St deductible at em ent areFlow never in computing taxable profit. Depending on jurisdiction, buildings, Chapter intangibles, 5 - Financial I nstr uments—Cash Receiv ables and other assets mayand be nondeductible. Thus, the asset in question has a differing Chapter accounting 6 - I nventor y basis than tax basis, which defines a temporary difference. Similarly, certain may Recogni not be recognized for tax purposes. While Chapter liabilities 7 - Rev enue tion, I ncluding Constr uction Contr actIAS s 12 agrees that these represent

differences (since the tax basis of zero differs from the book basis in each instance) Chapter temporary 8 - Property , Plant , and Equipment under the principles of tax accounting using the liability method, this should result in Chapter and 9 - that, I ntangi ble Asset s the recognition deferredInstr tax um liabilities or assets, was made to not permit this. The I nterests inofFinancial ent s, Associat es, the Jointdecision Ventur es, and reason given ent is that thetynew result would be to "gross up" the recorded amount of the asset or I nvestm Pr oper liability to offset the recordedand deferred tax liability or benefit, and this would make the financial 11 - Business Combinations Consolidat ed Fin ancial Statements statements transparent." It could be argued that when asset has as one of its Curr ent"less Liabilit ies, Prov isions, Cont also ingencies, and Ev ents afteran t he 12 Balance Sheet Date for tax purposes, the price paid for this asset has been affected attributes nondeductibility accordingly, 13 - FinancialsoI nstr thatuments—Longany such "gross-up" Ter m Debt would cause the asset to be reported at an amount in excess of fair value. 14 - Leases

Chapter 10 Chapter Chapter Chapter Chapter

Chapter 15 - I ncom e Taxes Chapter 16 - Em and ploy ee Benefit s acquired in business combinations. When assets and liabilities are 2. Assets liabilities Chapter valued 17 - Stock holder s' Equit y at fair value, as required under IAS 22, but the tax basis is not adjusted (i.e., there is a Chapter carryforward 18 - Earningsbasis Per Share for tax purposes), there will be differences between the tax and financial Chapter reporting 19 - I nterim Financial Repor ting and liabilities which constitute temporary differences. Deferred bases of these assets Chapter tax 20 -benefits Segm ent Repor ting and obligations need to be recognized for these differences. Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

3. Goodwill that cannot be amortized (deducted) for tax purposes. In some jurisdictions, goodwill cannot be deducted for tax purposes. Conceptually, when goodwill is carried on the Chapter balance 24 - Specialized I ndustr iesbe amortized for tax purposes the tax basis of this asset is zero, which sheet but cannot Chapter thus 25 - differs I nflation and Hyperinflation from the financial reporting basis and would therefore require that deferred taxes be Chapter assessed 26 - Gov erthereon. nm ent GrHowever, an ts since goodwill or negative goodwill is a residual amount, any Appendixattempt A - Di sclosure Checklist to compute the deferred tax effect of the difference between tax and book bases would Appendixresult B - I llustrativ e Financial atem ent s Pr (goodwill esent ed Under I AS in grossing up that St very account or negative goodwill, as the case may be). AppendixAlthough C - Com parison such a presentation of I AS, US GAAP, couldand be UK rationalized, GAAP it would be of dubious usefulness to the I ndex readers of the financial statements. For this reason, IAS 12 holds that no deferred taxes are to be provided on the difference between the tax and book bases of nondeductible goodwill or List of Tables negative List of Exnontaxable hibits and Ex am ples goodwill. Chapter 23 - Related- Part y Disclosures

List of Sidebar s

Measurement of Deferred Tax Assets and Liabilities The procedure to compute the gross deferred tax provision (i.e., before addressing whether the deferred tax asset is probable of being realized and therefore should be recognized) is as follows: 1. Identify all temporary differences existing as of the reporting date. 2. Segregate the temporary differences into those that are taxable and those that are deductible. This step is necessary because under revised IAS 12 only those deferred tax benefits which are

probable of being realized are recognized, whereas all deferred obligations are given full recognition. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

3. Accumulate information about the deductible temporary differences, particularly the net I n t er n at ion al Accou n t in g St an d ar ds operating loss and credit carryforwards that have expiration dates or other types of limitations. ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali Mir za 4. Measure the tax effect of aggregate taxable temporary differences by applying the appropriate John Wi ley & Sons © 2003 (952 pages)

expected tax rates (federal plus any state, local, and foreign rates that are applicable under the This com pact and t ruly com pr ehensive qui ck - refer ence circumstances). pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial

5. Similarly, measure thepresent tax effects deductiblewith temporary differences, including net operating statements ed in of accordance I AS. loss carryforwards. T ab le of Con t en t s

It should be03—Int emphasized that separate computations should be madeing for each tax jurisdiction, since in Wiley I AS 20 er pretation and Application of I nternational Account assessing Standar ds the propriety of recording the tax effects of deductible temporary differences it is necessary to consider the entity's ability to absorb deferred tax benefits against tax liabilities. Inasmuch as Preface benefits1 in -one jurisdiction will not reduce taxes Standar payableds in another jurisdiction, separate Chapter I ntrtax oduction to I nter national Accounting calculations will be needed. Chapter 2 - Balance Sheet Also, for purposes of balance sheet presentation (discussed below in detail), offsetting taxStat assets and only within I ncomof e deferred Statement, em ent of liabilities Chan ges is in permissible Equit y, and Statem ent jurisdictions, since there would never beRecognized a legal right to offset obligations due to and from different taxing authorities. Similarly, of Gains and Losses separate be made for each taxpaying component of the business (i.e., if a parent Chapter 4 computations - Cash Flow Stshould at em ent company its subsidiaries are consolidated for financial reporting purposes but file separate tax Chapter 5 and - Financial I nstr uments—Cash and Receiv ables returns, the reporting entity comprises a number of components, and the tax benefits of any one will be Chapter 6 - I nventor y unavailable to reduce the tax obligations of the others). Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s Chapter 3

Chapter 8

- Property , Plant , and Equipment The principles set forth above are illustrated by the following examples.

Chapter 9

- I ntangi ble Asset s

I nterests in computation Financial Instrof umdeferred ent s, Associat es, Joint and Ventur es, and Basic example of the tax liability asset Chapter 10 I nvestm ent Pr oper ty Chapter - Business Combinations and Consolidat Fin ancial Statements Assume11that Noori Company has pretax financial ed income of $250,000 in 2003, a total of $28,000 of taxable temporary Curr entdifferences, Liabilit ies, Prov and isions, a total Cont of $8,000 ingencies, of deductible and Ev ents temporary after t he differences. There are no Chapter 12 Balance operating loss or taxSheet creditDate carryforwards. The tax rate is a flat (i.e., not graduated) 40%. Also assume Chapter 13 were - Financial I nstr uments—Longm Debt in prior years. that there no deferred tax liabilities Ter or assets Chapter 14 - Leases

Taxable15income isecomputed as follows: Chapter - I ncom Taxes Chapter 16 - Em ploy ee Benefit s

Pretax17 financial Chapter - Stock income holder s' Equit y

$250,000

Chapter 18 temporary - Earnings differences Per Share Taxable

(28,000)

Chapter 19 - I nterim Financial Repor ting

Deductible temporary differences

Chapter 20 - Segm ent Repor ting

8,000

Taxable $230,000 Chapter 21 income - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

The journal entry to record required amounts is

Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies

Current tax and expense Chapter 25income - I nflation Hyperinflation 92,000 Chapter 26 tax - Gov er nm ent Gr an ts Deferred asset Appendix A - Di sclosure Checklist

Income tax expense—deterred

3,200 8,000

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

11,200 Appendix Deferred C - Com parison of I AS, US GAAP, and UK GAAP tax liability I ndex

Income tuxes currently List of Tables

92,000

payable

List of Ex hibits and Ex am ples List of Sidebar s

Current income tax expense and income taxes currently payable are each computed as taxable income times the current rate ($230,000 x 40%). The deferred tax asset of $3,200 represents 40% of deductible temporary differences of $8,000. The deferred tax liability of $11,200 is calculated as 40% of taxable temporary differences of $28,000. The deferred tax expense of $8,000 is the net of the deferred tax liability of $11,200 and the deferred tax asset of $3,200. In 2004, Noori Company has pretax financial income of $450,000, aggregate taxable and deductible temporary differences are $75,000 and $36,000, respectively, and the tax rate remains a flat 40%.

Taxable income is $411,000, computed as pretax financial income of $450,000 minus taxable differences of $75,000 plus deductible differences of $36,000. Current income tax expense and income taxes currently payable W ile y Ieach AS 2are 0 03$164,400 : I n t erp re($411,000 t at ion an dx 40%). Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Deferred amounts are calculated as follows:

ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons Deferred © 2003tax (952 pages) Deferred tax Income tax

expense—deferred This com pact andliability t ruly com pr ehensive asset qui ck - refer ence pr esent s account ants with a guide to depend on for Required balance at assistance in the prepar at ion and under standing of financial 12/31/04 statements present ed in accordance with I AS. $30,000 T ab le of Con t en t s x 40% $75,000 Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing $14,400 Standar ds$36,000 x 40% Preface

Balances at 12/31/03

Chapter 1

11,200

3,200

- I ntr oduction to I nter national Accounting Standar ds

Adjustment requiredSheet Chapter 2 - Balance

$18,800

$11,200

---$7,600

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - entry to record the deferred amounts is The journal of Recognized Gains and Losses Chapter 4

- Cash Flow St at em ent Deferred asset I nstr uments—Cash 11,200 Chapter 5 tax - Financial and Receiv ables Chapter 6 tax - I expense—deferred nventor y Income 7,600 Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s

tax, liability Chapter 8Deferred - Property Plant , and Equipment Chapter 9

18,800

- I ntangi ble Asset s

Because the increase in the liability in 2004 is larger (by $7,600) than the increase in the asset for that I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10result year, the is a deferred tax I nvestm ent Pr oper ty expense for 2004. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balance Sheetfor DateRecognition of Deferred Tax Assets Considerations

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter Although 14 the - Leases case for presentation in the financial statements of any amount computed for deferred tax

liabilities be argued that deferred tax assets should be included in the balance sheet only Chapter 15is- clear, I ncomite can Taxes if they are, fact, likely sto be realized in future periods. Since realization will almost certainly be Chapter 16 - inEm ployvery ee Benefit dependent theholder futures'profitability of the reporting entity, it may become necessary to ascertain the Chapter 17 - on Stock Equit y likelihood the enterprise will be profitable. Absent convincing evidence of that, the concepts of Chapter 18 that - Earnings Per Share

conservatism and realization wouldting suggest that the asset be treated as a contingent gain, and not Chapter 19 - I nterim Financial Repor accorded recognition until and unless ultimately realized.

Chapter 20 - Segm ent Repor ting

Chapter 21 IAS - Accounting Changes and Cor rection of Er rorholds s In revised 12, the IASC adopted a posture which that deferred tax assets resulting from Chapter 22 For eign Curr ency temporary differences and from tax loss carryforwards are to be given recognition only if realization is Chapter RelatedPart y To Disclosures deemed23to- be probable. operationalize this concept, the standard sets forth several criteria, which Chapter 24 apply - Specialized I ndustr variously to deferred tax ies assets arising from temporary differences and from tax loss Chapter 25 - I nflation and Hyperinflation carryforwards. The standard establishes that Chapter 26is- probable Gov er nmthat ent Gr an ts taxable profit will be available against which a deferred tax asset arising 1. It future Appendixfrom A - Di sclosure Checklist a deductible temporary difference can be utilized when there are sufficient taxable Appendixtemporary B - I llustrativ e Financial St atem Pr esenttaxation ed Under I AS differences relating toent thes same authority which will reverse either Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

a. In the same period as the reversal of the deductible temporary difference, or

List of Tables b. In periods into which the deferred tax asset can be carried back or forward; or List of Ex hibits and Ex am ples

2. Sidebar If there List of s are insufficient taxable temporary differences relating to the same taxation authority, it is

probable that the enterprise will have taxable profits in the same period as the reversal of the deductible temporary difference or in periods to which the deferred tax can be carried back or forward, or there are tax planning opportunities available to the enterprise that will create taxable profit in appropriate periods.

Thus, there will be a modest element of judgment required in making an assessment about how probable the realization of the deferred tax asset is, in circumstances in which there is not a balance of deferred tax liability equal to or greater than the amount of the deferred tax asset. If it cannot be

concluded that realization is probable, the deferred tax asset is not given recognition. The methodology of revised IAS 12 is somewhat different than that which is applied under current US GAAP, which is prescribed by SFAS In conformity withrethat standard, deferred W ile109. y I AS 2 0 03 : I n t erp t at ion an d Apall p licat io n o ftax assets are first recorded, after which a valuation allowance or reserve is established to offset that portion which is not deemed to I n t er n at ion al Accou n t in g St an d ar ds be "more likely than not" realizable. The net effect is similar under either approach, however, although ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali the consensus opinion Mir za is that the US GAAP realization threshold, "more likely than not," represents a somewhat lower boundary John Wi leythan & Sons does © 2003 IAS (952 12'spages) "probable." While the former implies a probability of just slightly over 50%,This the com latter is thought connote a likelihood in the range of 75–80% or even higher. pact and t rulytocom pr ehensive qui ck - refer ence pr esent with challenging a guide to depend on for Worded yet another way,s itaccount would ants be more to support the existence of a valid deferred tax assistance in than the prepar ion GAAP and under standing financial asset under the IAS standard underatUS rules as theyofnow exist. statements present ed in accordance with I AS.

Future temporary T ab le of Con t en t s

differences as a source for taxable profit to offset Wiley deductible I AS 20 03—Int differences. er pretation and Application of I nternational Account ing Standar ds

In some instances, an entity may have deferred tax assets that will be realizable when future tax Preface deductions buttoitI cannot be concluded that there ds will be sufficient taxable profits to absorb Chapter 1 - are I ntrtaken, oduction nter national Accounting Standar these future deductions. Chapter 2 - Balance SheetHowever, the enterprise can reasonably predict that if it continues as a going concern, it will generate other temporary thaty,taxable profits I ncom e Statement, Stat em entdifferences of Chan gessuch in Equit and Statem entwill be created. It has often been- argued that theGains goingand concern of Recognized Lossesassumption underlying much of accounting theory is sufficient for the of deferred tax assets in such circumstances. Chapter 4 rationale - Cash Flow St atrecognition em ent Chapter 3

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

However, revised IAS 12 makes it clear that this is not valid reasoning. The reason is that the taxable - I nventor y temporary differences anticipated for future periods will themselves reverse in even later periods; these Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s cannot do "double duty" by also being projected to be available to absorb currently existing deductible Chapter 8 - Property , Plant , and Equipment temporary differences. Thus, in evaluating whether realization of currently outstanding deferred tax Chapter I ntangi bleit Asset s benefits9 is -probable, is appropriate to consider the currently outstanding taxable temporary I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and differences, Chapter 10 - but not taxable temporary differences which are projected to be created in later periods. Chapter 6

I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Finrealize ancial Statements Tax planning opportunities that will help deferred

tax assets.

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date temporary differences and taxable temporary differences pertaining to When an entity has deductible Chapter 13 Financial I nstr there uments—LongTer m Debt the same tax jurisdiction, is a presumption that realization of the relevant deferred tax assets is Chapter 12 -

Chapter 14 since - Leases probable, the relevant deferred tax liabilities should be available to offset these. However, before Chapter 15 I ncom concluding- on thiseitTaxes is necessary to consider further the timing of the two sets of reversals. If the Chapter deductible 16 -temporary Em ploy ee differences Benefit s will reverse, say, in the very near term, and the taxable differences

will not 17 reverse forholder manys' years, Chapter - Stock Equit y it is a concern that the tax benefits created by the former occurrence may expire to the latter event. Thus, when the availability of deferred tax obligations is the Chapter 18 - unused Earningsprior Per Share basis for of deferred taxting assets, it is also necessary to consider whether, under pertinent Chapter 19recognition - I nterim Financial Repor tax regulations, the carryforward period is sufficient to assure that it will not be lost to the Chapter 20 - Segm entbenefit Repor ting reporting Chapter 21 enterprise. - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

For example, if the deductible temporary difference is projected to reverse in two years but the taxable

Chapter 23 -difference Related- Part y Disclosures temporary is not anticipated to occur for another ten years, and the tax jurisdiction in Chapter 24 Specialized I ndustr ies question offers only a five-year tax loss carryforward, then (absent other facts suggesting that the tax Chapter - I nflationofand Hyperinflation benefit 25 is probable realization) the deferred tax benefit could not be given recognition. Chapter 26 - Gov er nm ent Gr an ts

However, might have certain tax planning opportunities available to it, such that the pattern of Appendix A the - Di entity sclosure Checklist taxable profits could be altered to thes Pr deferred benefit, Appendix B - I llustrativ e Financial St make atem ent esent edtax Under I AS which might otherwise be lost,

probableCof- realization. example, again depending Appendix Com parison For of I AS, US GAAP, and UK GAAP on the rules of the salient tax jurisdiction, an

election might be made to tax interest income on an accrual rather than a cash received basis, which might accelerate income recognition such that it would be available to offset or absorb the deductible List of Tables temporary differences. Also, claimed tax deductions might be deferred to later periods, similarly List of Ex hibits and Ex am ples boosting taxable profits in the short term. I ndex

List of Sidebar s

More subtly, a reporting entity may have certain assets, such as buildings, which have appreciated in value. It is entirely feasible, in many situations, for an enterprise to take certain steps, such as selling the building to realize the taxable gain thereon and then either leasing back the premises or acquiring another suitable building, to salvage the tax deduction that would otherwise be lost to it due to the expiration of a loss carryforward period. If such a strategy is deemed to be reasonably available, even if the entity does not expect to have to implement it (for example, because it expects other taxable temporary differences to be originated in the interim), it may be used to justify recognition of the

deferred tax benefits. Consider the following example of how an available tax planning strategy might be used to support W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f recognition of a deferred tax asset that otherwise might have to go unrecognized. I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Example of the impact of a qualifying tax strategy

ISBN:0471227366

Mir za John Wi ley & Sons © 2003 (952 pages)

Assume that Kirloski Company has a $180,000 operating loss carryforward as of 12/31/02, scheduled Thisofcom t ruly com prtemporary ehensive qui ck - refer ence to expire at the end thepact nextand year. Taxable differences of $240,000 exist that are expected pr esent s account ants with a guide to depend on for to reverse in approximately equal amounts of $80,000 in 2003, 2004, and 2005. Kirloski Company assistance in the prepar at ion and under standing of financial estimates that taxable income for 2003 of the of existing temporary differences and statements present ed in(exclusive accordance withreversal I AS. the operating loss carryforward) will be $20,000. Kirloski Company expects to implement a qualifying T ab le planning of Con t en ts tax strategy that will accelerate the total of $240,000 of taxable temporary differences to 2003. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Expenses to implement the strategy are estimated to approximate $30,000. The applicable expected Standar ds tax rate is 40%. Preface

Chapter 1 - I ntrof oduction I nter national Accounting Standar In the absence the taxtoplanning strategy, $100,000 of thedsoperating loss carryforward could be Chapter realized2 in -2003 Balance based Sheet on estimated taxable income of $20,000 plus $80,000 of the reversal of taxable

temporary differences. Thus, $80,000 expire unused aty,the of 2003 I ncom e Statement, Stat em would ent of Chan ges in Equit andend Statem ent and the net amount of Recognized Gains and Losses the deferredoftax asset at 12/31/02 would be recognized at $40,000, computed as $72,000 ($180,000 x Chapter 4 - Cash Flow St atallowance em ent 40%) minus the valuation of $32,000 ($80,000 x 40%). Chapter 3

Chapter 5

- Financial I nstr uments—Cash and Receiv ables However, implementing the tax planning strategy, the deferred tax asset is calculated as follows: Chapter 6 by - I nventor y Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s Taxable for, 2003: Chapter 8 income - Property Plant , and Equipment Chapter 9

- I ntangi ble Asset s

Expected amount without reversal of taxable temporary differences

$ 20,000

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm Pr oper ty Reversal of ent taxable temporary differences due to tax planning strategy, net of Chapter 11 Business Combinations and Consolidat ed Fin ancial Statements costs Chapter 10 -

Chapter 12 -

210,000

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - loss Financial uments—LongTer m Debt Operating to beI nstr carried forward Chapter 14 - Leases

230,000 (180,000)

Operating loss expiring unused at 12/31/03

Chapter 15 - I ncom e Taxes

$0

Chapter 16 - Em ploy ee Benefit The deferred tax asset to be srecorded at 12/31/02 is $54,000. This is computed as follows: Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

Full benefit of tax loss carryforward $180,000 x 40% =

Chapter 19 - I nterim Financial Repor ting

Less: 20 Net-of-tax anticipated expenses related to implementation of the Chapter - Segm enteffect Reporof ting strategy $30,000 - ($30,000 x 40%) = Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter Net 22 - For eign Curr ency

$72,000 18,000 $54,000

Chapter 23 - Related- Part y Disclosures

Kirloski24 Company will also recognize a deferred tax liability of $96,000 at the end of 2002 (40% of the Chapter - Specialized I ndustr ies taxable25 temporary differences of $240,000). Chapter - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

Revised expectations that a deferred tax benefit is realizable.

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Appendix C - Com parison of I AS, USperiod GAAP,a and UK GAAP It may happen that in a reporting deferred asset is deemed not probable of being realized and I ndex accordingly is not recognized, but in a later reporting period the judgment is made that the amount in List factofisTables realizable. If this change in expectation occurs, the deferred tax asset previously not recognized List Ex hibits and Ex am plesdoes not constitute a prior period adjustment, but instead is included in willofnow be recorded. This List of Sidebar s earnings, consistent with other changes in accounting estimates, in the current period. Thus, the tax

provision in the period when the estimate is revised will be affected. Similarly, if a deferred tax benefit provision is made in a given reporting period, but later events suggest that the amount is, in whole or in part, not probable of being realized, the provision should be partially or completely reversed. Again, this adjustment will be included in the tax provision in the period in which the estimate is altered. Under either scenario the footnotes to the financial statements will need to offer sufficient information to the users to permit meaningful interpretations to be made, since the amount of tax expense will bear an unusual relationship to the accounting profit for the period.

If the deferred tax provision in a given period is misstated due to a clerical error such as miscalculation of the effective expected tax rate, this would constitute an accounting error, and the effect of the ile y I AS in 2 0opening 03 : I n t erp re t at ion an d ApThis p licat io n o be f distinguished from a change correction may beWreflected retained earnings. should I n t er n at ion al Accou n t in g St an d ar ds in an accounting estimate. Accounting errors are discussed in Chapter 21. by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Determining Mir thezaextent to which the deferred tax asset is realizable. John Wi ley & Sons © 2003 (952 pages)

This com pact and t ruly pr ehensive qui ck - refer ence Assume that Zacharias Corporation hascom a deductible temporary difference of $60,000 at December 31, pr esent account with aBased guide on to depend onevidence, for 2002. The applicable taxsrate is a ants flat 40%. available management of Zacharias assistance in the prepar at ion and under standing of financial Corporation concludes that it is probable that all sources will not result in future taxable income statements present ed in accordance with I AS. sufficient to realize more than $15,000 (i.e., 25%) of the deductible temporary difference. Also, assume T ab le there of Conwere t en t no s deferred tax assets in previous years and that prior years' taxable income was that Wiley inconsequential. I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

At 12/31/02 Zacharias Corporation records a deferred tax asset in the amount of $6,000 ($60,000 x Preface 25% x 40%). The journaltoentry 12/31/02 is Chapter 1 - I ntr oduction I nterat national Accounting Standar ds Chapter 2

- Balance Sheet

Deferred tax asset I ncom e Statement, Stat em6,000 ent of Chan ges in Equit y, and Statem ent Chapter 3 of Recognized Gains and Losses

Chapter 4Income - Cashtax Flow St at em ent

6,000

Chapter 5benefit—deferred - Financial I nstr uments—Cash and Receiv ables Chapter 6

- I nventor y

The deferred income tax benefit of $6,000 represents the tax effect of that portion of the deferred tax - Rev enue Recogni tion, I ncluding Constr uction Contr act s asset (25%) that is probable of being realized. In 2003 assume that Zacharias Corporation's results are

Chapter 7 Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Pretax financial loss

$(32,000)

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm entdifferences Pr oper ty from 2002 Reversing deductible (10,000) Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 10 -

Loss carryforward for tax purposes

Chapter 12 -

$(42,000)

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

The total of the loss carryforward ($42,000, as computed above) plus the amount of deductible temporary differences from 2002 not reversing in 2003 ($50,000) equals $92,000. Before considering Chapter 14 -ofLeases how much the benefit is probable of being realized, a deferred tax asset of $36,800 ($92,000 x 40%) Chapter 15 - I at ncom Taxes is computed theeend of 2003. However, the management of Zacharias Corporation has to consider Chapter 16 Em ploy ee Benefit tax s asset is probable of being realized. It concludes that it is probable that what portion of this deferred Chapter Stock Equit y $25,00017of- the taxholder loss s' carryforward will not be realized. Thus, the net tax loss carryforward that is Chapter 18 of - Earnings Per Share probable being realized is $92,000 - $25,000 = $67,000, which yields a tax benefit of $26,800 Chapter ($67,000 19 x- 40%). I nterim Financial Repor ting Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 20 - Segm ent Repor ting

Since the balance in the deferred tax asset account had been $6,000, the adjustment needed is now as follows. The journal entry at 12/31/03 is

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Chapter 23 - Related- Part y Disclosures

Deferred tax asset

Chapter 24 - Specialized I ndustr ies

20,800

Chapter 25 - I nflation Income tax and Hyperinflation

20,800

Chapter 26 - Gov er nm ent Gr an ts benefit—deferred Appendix A - Di sclosure Checklist Appendix While the B commonsense - I llustrativ e Financial meaning St atem of the entprobable s Pr esent ed criterion Under is I AS clear enough, there can be a practical

difficulty Cof- assessing whether this threshold test is net in a given standard. Revised IAS 12 Appendix Com parison of I AS,or USnot GAAP, and UK GAAP states that deferred tax assets can be recognized when there are sufficient taxable temporary I ndex differences List of Tables relating to the same taxation authority and the same taxable entity which are expected to reverse in theand same period List of Ex hibits Ex am ples as the expected reversal of the deductible temporary difference or in

periods into which a tax loss arising from the deferred tax asset can be carried back or forward. The List of Sidebar s

standard also suggests that, if there is an insufficiency of taxable temporary differences to absorb the deductible temporary differences, but it is deemed probable that sufficient taxable income will otherwise be earned, or that tax planning strategies are available to the entity, this can be used as a basis for concluding that it is probable that the benefits will be received. As a practical matter, there are a number of positive and negative factors which may be evaluated in reaching a conclusion as to amount of the deferred tax asset to be recognized. Positive factors (those suggesting that the full amount of the deferred tax asset associated with the gross temporary difference

should be recorded) might include 1. Evidence of sufficient future taxable income, exclusive of reversing temporary differences and carryforwards, to Irealize the: Ibenefit oft at the deferred asset W ile y AS 2 0 03 n t erp re ion an d Aptax p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

2. Evidence of future taxable income the reversals of existing taxable by sufficient Bar r y J. Epstein and Abbas Ali arising fromISBN:0471227366 za temporaryMir differences (deferred tax liabilities) to realize the benefit of the tax asset John Wi ley & Sons © 2003 (952 pages)

3. Evidence of sufficient income prior year(s) This com pacttaxable and t ruly com prinehensive qui ck available - refer encefor realization of an operating loss carryback pr under existing statutory limitations esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial

4. Evidence of the existence of ed prudent, feasiblewith tax planning strategies under management statements present in accordance I AS. control which, if implemented, would permit the realization of the tax asset. These are discussed T ab le of Con t en t s in greater detail below.

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar 5. ds An excess of appreciated asset values over their tax bases, in an amount sufficient to realize Preface the deferred tax asset. This can be thought of as a subset of the tax strategies idea, since a sale Chapter or 1 sale/leaseback - I ntr oduction to nter national property Accounting Standar ds obvious tax planning strategy to salvage ofI appreciated is one rather Chapter a 2 deferred - Balance Sheet tax benefit which might otherwise expire unused. I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Chapter 3

-

Chapter 6

- I nventor y

6. A strong earnings history exclusive of Recognized Gains and Lossesof the loss that created the deferred tax asset. This would, many circumstances, suggest that future profitability is likely and therefore that realization Chapter under 4 - Cash Flow St at em ent taxI nstr assets are probable. Chapter of 5 deferred - Financial uments—Cash and Receiv ables Although the foregoing may suggest that the reporting entity will be able to realize the benefits of the - Rev enue Recogni tion, I ncluding Constr uction Contr act s deductible temporary differences outstanding as of the balance sheet date, certain negative factors Chapter 8 - Property , Plant , and Equipment should also be considered in determining whether realization of the full amount of the deferred tax Chapter 9 - I ntangi ble Asset s benefit is probable under the circumstances. These factors could include Chapter 7

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10cumulative 1. A recent history of accounting losses. Depending on extent and length of time over I nvestm ent Pr oper ty

losses were experienced, this could ed reduce the assessment Chapter which 11 - Business Combinations and Consolidat Fin ancial Statements of likelihood of realization belowCurr theent important "probable" threshold. Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Chapter 12 -

Balance Sheet Date

2. A history of operating losses or of tax operating loss or credit carryforwards that have expired unused

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Chapter 15 - I ncom Taxes 3. Losses thateare anticipated in the near future years, despite a history of profitable operations Chapter 16 - Em ploy ee Benefit s

Thus, the of determining Chapter 17 process - Stock holder s' Equit y how much of the computed gross deferred tax benefit should be recognized of both positive and negative factors to determine whether, based on Chapter 18 - involves Earnings the Per weighing Share the preponderance available evidence, it is probable that the deferred tax asset will be realized. IAS Chapter 19 - I nterim of Financial Repor ting

12 notes that a history of unused tax losses should be considered "strong evidence" that future taxable profits might prove elusive. In such cases, it would be expected that primary reliance would be placed Chapter 21 - Accounting Changes and Cor rection of Er ror s on the existence of taxable temporary differences which, upon reversal, would provide taxable income Chapter 22 - For eign Curr ency to absorb the deferred tax benefits that are candidates for recognition in the financial statements. Chapter 23 - Related- Part y Disclosures Absent those taxable temporary differences, recognition would be much more difficult. Chapter 20 - Segm ent Repor ting

Chapter 24 - Specialized I ndustr ies

Chapter 25 - Ithis nflation and Hyperinflation To illustrate computation in a more specific fact situation, assume the following facts: Chapter 26 Gov er nm ent Gr an ts 1. Malpasa Corporation reports on a calendar year and adopted revised IAS 12 in 2001. Appendix A - Di sclosure Checklist

2. As December 31, 2002 balance has taxable temporary differences of Appendix B of - I the llustrativ e Financial St atem ent s Prsheet, esent edMalpasa Under I AS temporary differences of $12,000 relating to Appendix$85,000 C - Comrelating parison to of depreciation, I AS, US GAAP,deductible and UK GAAP deferred compensation arrangements, a net operating loss carryforward (which arose in 2000) of $40,000, and a capital loss carryover of $10,000. List of Tables I ndex

List of Ex hibits and Ex am ples

3. Malpasa's expected tax rate for future years is 40% for ordinary income, and 25% for net longterm capital gains. Capital losses cannot be offset against ordinary income.

List of Sidebar s

The first steps are to compute the required balances of the deferred tax asset and liability accounts, without consideration of whether the tax asset would be probable of realization. The computations would proceed as follows:

Deferred tax liability: $85,000 Taxable temporary W ile y I AS difference 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds (depreciation) by Bar r y J. Epstein and Abbas Ali

Effective Mir taxzarate

x 40%

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages) $34,000 Required balance This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

Deferred tax asset: assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Deductible temporary differences: T ab le of Con t en t s

$12,000

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Deferred compensation Standar ds Preface

Net operating loss

40,000

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial Required I nstr uments—Cash balance (a) and Receiv ables

Chapter 6

- I nventor y

Chapter 7

Capital loss - Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

Effective tax rate - I ntangi ble Asset s

Chapter 10 -

$52,000

40% y, and Statem ent I ncom e Statement, Stat em ent of Chan ges inx Equit tax Gains rate and Losses ofEffective Recognized $20,800 $10,000

x 25%

I nterests in Financial Instr um ent s, Associat$es, Joint Ventur es, and 2,500 I nvestm ent Pr oper ty

Required balance (b)

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Total deferred Currtax ent asset: Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date $20,800 OrdinaryI nstr (a) uments—Long- Ter m Debt Chapter 13 - Financial Chapter 12 -

Chapter 14 - Leases

2,500

Capital (b) Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s

$23,300

Chapter 17 - Stock holder Equit y balance Totals'required Chapter 18 - Earnings Per Share

The next wouldFinancial be to consider whether realization of the deferred tax asset is probable. Malpasa Chapter 19step - I nterim Repor ting management must evaluate both positive and negative evidence to determine this matter. Assume now Chapter 20 - Segm ent Repor ting that management identifies the following factorsofwhich Chapter 21 - Accounting Changes and Cor rection Er ror smay be relevant:

1. Before operating loss deduction, Malpasa reported taxable income of $5,000 in 2002. Chapter 22 - Forthe eignnet Curr ency believes that taxable income in future years, apart from NOL deductions, should Chapter Management 23 - Related- Part y Disclosures at aboutI ndustr the same Chapter continue 24 - Specialized ies level experienced in 2002. Chapter 25 - I nflation and Hyperinflation

2. The taxable temporary differences are not expected to reverse in the foreseeable future.

Chapter 26 - Gov er nm ent Gr an ts

Appendix A - capital Di sclosure 3. The lossChecklist arose in connection with a transaction of a type that is unlikely to recur. The Appendixcompany B - I llustrativ Financial St atem ent s Pr ed Under I AS the potential to result in capital gains doesenot generally engage in esent activities that have AppendixorClosses. - Com parison of I AS, US GAAP, and UK GAAP I ndex

4. Management estimates that certain productive assets have a fair value exceeding their respective tax bases by about $30,000. The entire gain, if realized for tax purposes, would be a List of Ex hibits and Ex am ples recapture of depreciation previously taken. Since the current plans call for a substantial List of Sidebar s upgrading of the company's plant assets, management feels that it could easily accelerate those actions to realize taxable gains, should it be desirable to do so for tax planning purposes. List of Tables

Based on the foregoing information, Malpasa Corporation management concludes that a $2,500 adjustment to deferred tax assets is required. The reasoning is as follows: 1. There will be some taxable operating income generated in future years ($5,000 annually, based on the earnings experienced in 2002), which will absorb a modest portion of the reversal of the deductible temporary difference ($12,000) and net operating loss carryforward ($40,000) existing

at year-end 2002. 2. More important, the feasible tax planning strategy of accelerating the taxable gain relating to W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f appreciated assets ($30,000) would certainly be sufficient, in conjunction with operating income I n t er n at ion al Accou n t in g St an d ar ds over several years, to permit Malpasa to realize the tax ISBN:0471227366 benefits of the deductible temporary by Bar r y J. Epstein and Abbas Ali difference Mir and zaNOL carryover. John Wi ley & Sons © 2003 (952 pages)

3. However, since capital loss carryovers are only usable to offset future capital gains and Malpasa This com pact and t ruly com pr ehensive qui ck - refer ence management is unable to project future realization of capital gains, the associated tax benefit pr esent s account ants with a guide to depend on for accrued ($2,500) willinprobably not be realized, thus cannot be recognized. assistance the prepar at ion and underand standing of financial statements present ed in accordance with I AS.

Based on this analysis, deferred tax benefits in the amount of $20,800 should be recognized. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Effect of Tax Law Changes on Previously Recorded Deferred Tax Preface Assets and Liabilities Chapter 1

- I ntr oduction to I nter national Accounting Standar ds The balance sheet oriented Chapter 2 - Balance Sheet measurement approach of IAS 12 necessitates the reevaluation of the

deferred taxI asset liability balances atofeach Although IAS 12ent does not directly address ncom eand Statement, Stat em ent Chanyear-end. ges in Equit y, and Statem Chapter 3 - of changes to tax rates or other provisions of the tax law (e.g., deductibility of items) which the question of Recognized Gains and Losses may be4enacted affect the realization of future deferred tax assets or liabilities, the effect of Chapter - Cash that Flowwill St at em ent these changes shouldI nstr be uments—Cash reflected in theand year-end deferred tax accounts in the period the changes are Chapter 5 - Financial Receiv ables enacted. offsetting Chapter 6 The - I nventor y adjustments should be made through the current period tax provision. Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s When revised tax rates are enacted, they may affect not only the unreversed effects of items which

Chapter 8 - Property , Plant andcontinuing Equipment were originally reported in ,the operations section of the income statement, but also the Chapter 9 I ntangi ble Asset s unreversed effects of items first presented as extraordinary items or in other income statement I nterests in Financial Instr um ent superior s, Associat Jointthe Ventur es, of and captions. it might be conceptually toes, report effects tax law changes on such Chapter 10 Although I nvestm ent Pr oper ty

unreversed temporary differences in these same income statement captions, as a practical matter the

Chapter 11 - Business Combinations andtreatments Consolidat ed Fin ancial Statements complexities of identifying the diverse of these originating transactions or events would Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he make such Chapter 12 - an approach unworkable. Accordingly, remeasurements of the effects of tax law changes Balance Sheet Date

should generally be reported in the tax provision associated with continuing operations.

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 14 of - Leases Example the computation of a deferred tax asset with a change in rates Chapter 15 - I ncom e Taxes

Assume16that the Fanuzzi Company has $80,000 of deductible temporary differences at the end of Chapter - Em ploy ee Benefit s 2002, which are expected to result in tax deductions of approximately $40,000 each on tax returns for Chapter 17 - Stock holder s' Equit y 2003–2004. Enacted Per tax Share rates are 50% for the years 1998–2002, and 40% for 2003 and thereafter. Chapter 18 - Earnings Chapter 19 - I nterim Financial Repor ting

The deferred tax asset is computed at 12/31/02 under each of the following independent assumptions:

Chapter 20 - Segm ent Repor ting

1. If Fanuzzi Company expects to offset the deductible temporary differences against taxable income in the years 2003–2004, the deferred tax asset is $32,000 ($80,000 x 40%).

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Chapter 23Fanuzzi - RelatedPart y Disclosures 2. If Company expects to realize a tax benefit for the deductible temporary differences by Chapter loss 24 - carryback Specializedrefund, I ndustrthe ies deferred tax asset is $40,000 ($80,000 x 50%). Chapter 25 - I nflation and Hyperinflation

Assume26that Fanuzzi Company Chapter - Gov er nm ent Gr an ts expects to realize a tax asset of $32,000 at the end of 2002. Also assume Athat payable in each of the years 1998–2001 were $8,000 (or 50% of taxable income). Appendix - Ditaxes sclosure Checklist

Realization $24,000 of the $32,000 tax asset is assured through carryback refunds even if Appendix B - of I llustrativ e Financial St atemdeferred ent s Pr esent ed Under I AS

no taxable income is earned in the years 2003–2004. Whether some or all of the remaining $8,000 will be recognized depends on Fanuzzi Company's assessment of the levels of future taxable earnings I ndex (i.e., whether the probable threshold is exceeded). Appendix C - Com parison of I AS, US GAAP, and UK GAAP List of Tables

List Ex hibits and Ex am ples Theofforegoing estimate of the certain tax benefit, based on a loss carryback to periods of higher tax List of Sidebar s statutorily in effect for future periods, should be utilized only when future losses (for tax rates than are

purposes) are expected. This restriction applies since the benefit thus recognized exceeds benefits that would be available in future periods, when tax rates will be lower.

Reporting the Effect of Tax Status Changes Changes in the tax status of the reporting entity should be reported in a manner that is entirely

analogous to the reporting of enacted tax law changes. When the tax status change becomes effective, the consequent adjustments to deferred tax assets and liabilities are reported in current tax expense as part of the tax provision to: continuing operations. W ile y Irelating AS 2 0 03 I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

The most commonly encountered changes in status are those ISBN:0471227366 attendant to an election, where by Bar r y J. Epstein and Abbas Ali permitted, to be taxed Mir za as a partnership or other flow-through enterprise. (This means that the corporation will not be Wi treated as a taxable entity but rather as an enterprise that "flows through" its John ley & Sons © 2003 (952 pages) taxable income toThis the com owners on a current basis. This favorable tax treatment is available to encourage pact and t ruly com pr ehensive qui ck - refer ence small businesses,prand often will be limited to entities esent s account ants with a guide to having dependsales on forrevenue under a particular threshold level, or to entities having noin more than a number of shareholders.) Enterprises subject to assistance the prepar at maximum ion and under standing of financial present in accordance with I AS.election be terminated. When a previously such optional tax statements treatment may alsoedrequest that a previous taxable corporation becomes a nontaxed corporation, the stockholders become personally liable for T ab le of Con t en t s taxes on the company's earnings, whether the earnings are distributed to them or not (similar to the Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing relationship among a partnership and its partners). Standar ds Preface

As issued, IAS 12 did not explicitly address the matter of reporting the effects of a change in tax status, - I ntr oduction to I nter national Accounting Standar ds although (as discussed in earlier editions of this book) the appropriate treatment was quite obvious Chapter 2 - Balance Sheet given the underlying concepts of that standard. This residual ambiguity was subsequently resolved by I ncom e Statement, Stat em entthat of Chan ges cases in Equitthe y, current and Statem the issuance of SIC 25, which stipulates in most andent deferred tax consequences Chapter 3 of Recognized Gains and Losses of the change in tax status should be included in net profit or loss for the period in which the change in Chapter 4 - Cash Flow St at em ent status occurs. The tax effects of a change in status are included in results of operations because a Chapter - Financial I nstr uments—Cash and Receiv ables does not give rise to increases or decreases change5in an enterprise's (or its shareholders') tax status Chapter 6 I nventor y in the pretax amounts recognized directly in equity. Chapter 1

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s The exception to the, foregoing rule arises in connection with those tax consequences which Chapter 8 - Property Plant , and general Equipment

relate to9 transactions events that result, in the same or a different period, in a direct credit or Chapter - I ntangi ble and Asset s charge to the recognized amountInstr of equity. example, event that recognized directly in equity is I nterests in Financial um ent For s, Associat es, an Joint Ventur es,isand a change in Ithe carrying nvestm ent Pramount oper ty of property, plant, or equipment revalued under IAS 16. Those tax consequences that relate to changeand in the recognized of equity, in the same or a different Chapter 11 - Business Combinations Consolidat ed Finamount ancial Statements period (not included in net profit or loss) should be charged or credited directly to equity. Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 10 -

Chapter 12 -

Balance Sheet Date The most giving rise toTer am change Chapter 13 common - Financialsituation I nstr uments—LongDebt in tax status would be the election by a corporation,

in those jurisdictions where it is permitted to do so, to be taxed as a partnership, trust, or other flowthrough entity. If a corporation having a net deferred tax liability elects nontaxed status, the deferred Chapter 15 - I ncom e Taxes taxes will be eliminated through a credit to current period earnings. That is because what had been an Chapter 16 - Em ploy ee Benefit s obligation of the corporation has been eliminated (by being accepted directly by the shareholders, Chapter 17 - Stock holder s' Equit y typically); a debt thus removed constitutes earnings for the formerly obligated party. Chapter 14 - Leases

Chapter 18 - Earnings Per Share

Chapter 19 if- aI nterim Financial Reporcorporation ting Similarly, previously nontaxed becomes a taxable entity, the effect is to assume a net Chapter 20 -or Segm ent Repor tax benefit obligation for ting unreversed temporary differences existing at the date the change becomes

effective. financial forErthe of such a change will report the effects of Chapter 21 Accordingly, - Accounting the Changes andstatements Cor rection of rorperiod s the event theeign current Chapter 22 in - For Currtax encyprovision. If the entity had at that date many taxable temporary differences as yet unreversed, would report a large tax expense in that period. Conversely, if it had a large Chapter 23 - Related-itPart y Disclosures quantity24of-unreversed Chapter Specialized deductible I ndustr ies temporary differences, a substantial deferred tax benefit (if probable

of realization) would need to be recorded, with a concomitant credit to the current period's tax provision Chapter 25 - I nflation and Hyperinflation in the income statement. Whether eliminating an existing deferred tax balance or recording an initial deferred tax asset or liability, the income tax footnote to the financial statements will need to fully Appendix A - Di sclosure Checklist explain the nature of the events that transpired. Chapter 26 - Gov er nm ent Gr an ts

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Appendix - Com parison of I AS, US GAAP, and UK GAAP In some Cjurisdictions, nontaxed corporation elections are automatically effective when filed. In such a I ndex case, if a reporting entity makes an election before the end of the current fiscal year, it is logical that the List of Tables effects be reported in current year income to become effective at the start of the following period. For List example, of Ex hibits an election and Ex am filed plesin December 2002 would be reported in the 2002 financial statements to

become effective at the beginning of the company's next fiscal year, January 1, 2003. No deferred tax List of Sidebar s assets or liabilities would appear on the December 31, 2002 balance sheet, and the tax provision for the year then ended would include the effects of any reversals that had previously been recorded. Practice varies, however, and in some instances the effect of the elimination of the deferred tax assets and liabilities would be reported in the year the election actually becomes effective.

Reporting the Effect of Accounting Changes Made for Tax Purposes

Occasionally, an entity will initiate or be required to adopt changes in accounting that affect income tax reporting but will not affect financial statement reporting. For example, in certain jurisdictions at varying W ile y I AS 2have 0 03 : been I n t erp re t at ion an d of Apthe p licat io n write-off of times, the following changes mandated: use direct method of bad debt I n t er n at ion al Accou n t in g St an d ar ds recognition instead of providing an allowance for bad debts, while continuing to use the reserve method ISBN:0471227366 by Bar J. Epsteinreporting; and Abbas as required by GAAP forr yfinancial theAli"full costing" method of computing inventory valuations Mir za for tax purposes (adding some items that are administrative costs to overhead), while continuing to John Wi ley & Sons © 2003 (952 pages) expense currently those costs not inventoriable under GAAP; and use of accelerated capital recovery This com pact and t ruly com pr ehensive qui ck - refer ence (depreciation) methods for tax reporting while continuing to use normal methods for financial reporting. pr esent s account ants with a guide to depend on for Often, these changes really involve two distinct temporary differences. The first of these is the onetime, assistance in the prepar at ion and under standing of financial catch-up adjustment which either immediately or overwith a prescribed time period affects the tax basis of statements present ed in accordance I AS. the asset or liability in question (net receivables or inventory, in the examples above), and which then T ab le of Con t en t s reverses as these assets or liabilities are later realized or settled and are eliminated from the balance Wiley I AS 20 03—Int pretation and ongoing Application of I nternational Accountofing sheet. The seconderchange is the differential in the amount newly acquired assets or Standar ds incurred liabilities being recognized for tax and accounting purposes; these differences also eventually Preface reverse. This second type of change is the normal temporary difference which has already been Chapter 1 - I ntr oduction to I nter national Accounting Standar ds discussed. It is the first change that differs from those previously discussed earlier in the chapter. Chapter 2

- Balance Sheet

As an example, consider that Leipzig has,inatEquit December 31, 2002, I ncom e Statement, Stat emCorporation ent of Chan ges y, and Statem ent gross receivables of Recognized Gainsfor and Losses $12,000,000ofand an allowance bad debts in the amount of $600,000. Also assume that expected Chapter 4 - Cash Flow at emrate. ent Effective January 1, 2003, the tax law is revised to eliminate future taxes will be at aSt40% Chapter 5 - for Financial I nstr uments—Cash and Receiv ables deductions accrued bad debts, with existing allowances required to be taken into income ratably Chapter over three 6 -years I nventor (a three-year y spread). A balance sheet of Leipzig Corporation prepared on January 1, 2003, would report deferredtion, tax Ibenefit in Constr the amount $240,000 (i.e., $600,000 x 40%, which is the Chapter 7 - Rev enuea Recogni ncluding uction of Contr act s tax effect future deductions be taken when specific receivables are written off and bad debts are Chapter 8 of - Property , Plant , andtoEquipment incurred9 for- Itax purposes); Chapter ntangi ble Assetas current tax liability of $80,000 (one-third of the tax obligation); and a noncurrent tax liabilityinofFinancial $160,000 (two-thirds of the tax Under the requirements of IAS 12, I nterests Instr um ent s, Associat es,obligation). Joint Ventur es, and Chapter 10 the deferredI nvestm tax benefit must ent Pr operbe ty entirely reported as noncurrent in classified balance sheets, inasmuch as no deferred tax benefits or obligations can be shown as current. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 3

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balance Sheet Date Implications of Changes in Tax Rates and Status Made in Interim Chapter 13 - Financial I nstr uments—Long- Ter m Debt Periods Chapter 14 - Leases Chapter 15 - I ncom e Taxes

Tax rate changes may occur during an interim reporting period, either because a tax law change mandated a mid-year effective date, or because tax law changes were effective at year-end but the Chapter 17 - Stock holder s' Equit y reporting entity has adopted a fiscal year-end other than the natural year (December 31). The IAS on Chapter - Earnings interim 18 reporting, IASPer 34 Share (addressed in detail in Chapter 19), has essentially embraced a mixed view on Chapter - I nterim Financial tingconforming to a "discrete" approach (each interim period standing interim 19 reporting—with many Repor aspects Chapter 20 - but Segm ent Repor ting accounting for income taxes, conforming to the "integral" manner of on its own) others, including Chapter 21 Whatever - Accounting and Cor rection ofand Er ror s reporting. theChanges philosophical strengths weaknesses of the discrete and integral Chapter 22 - For eign Currthe encyintegral approach was clearly warranted in the matter of accounting for approaches in general, Chapter income23 taxes. - Related- Part y Disclosures Chapter 16 - Em ploy ee Benefit s

Chapter 24 - Specialized I ndustr ies

The fact that income taxes are assessed annually is the primary reason for reaching a conclusion that taxes are to be accrued based on an entity's estimated average annual effective tax rate for the full Chapter 26 - Gov er nm ent Gr an ts fiscal year. If rate changes have been enacted to take effect later in the fiscal year, the expected Appendix A - Di sclosure Checklist effective rate should take into account the rate changes as well as the anticipated pattern of earnings to Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS be experienced over the course of the year. Thus, the rate to be applied to interim period earnings (or Appendix C - Com parison of I AS, US GAAP, and UK GAAP losses, as discussed further below) will take into account the expected level of earnings for the entire I ndex forthcoming year, as well as the effect of enacted (or substantially enacted) changes in the tax rates to List of Tables become operative later in the fiscal year. In other words, as expressed by IAS 34, the estimated List of Ex hibits andrate Ex am ples "reflect a blend of the progressive tax rate structure expected to be average annual would List of Sidebar applicable tosthe full year's earnings enacted or substantially enacted changes in the income tax rates scheduled to take effect later in the financial year." Chapter 25 - I nflation and Hyperinflation

While the principle espoused by IAS 34 is both clear and logical, a number of practical issues arise in most situations. The standard does address in detail the various computational aspects of an effective interim period tax rate, some of which are summarized in the following paragraphs. Many enterprises are subject to multiplicity of taxing jurisdictions, and in some instances the amount of income subject to tax will vary from one to the next, since the tax laws in different jurisdictions will

include and exclude disparate items of income or expense from the tax base. For example, interest earned on government-issued bonds may be exempted from tax by the jurisdiction which issued them, but be defined asWfully taxrejurisdictions isnsubject to. To the extent feasible, ile ytaxable I AS 2 0by 03 other : I n t erp t at ion an d the Ap pentity licat io of the appropriate estimated average annual effective tax rate should be separately ascertained for each I n t er n at ion al Accou n t in g St an d ar ds taxing jurisdictionby and applied individually to the interim period pretax income of each jurisdiction, so ISBN:0471227366 Bar r y J. Epstein and Abbas Ali Mir za estimate of income taxes can be developed at each interim reporting date. In that the most accurate general, an overall estimated tax(952 ratepages) will not be as satisfactory for this purpose as would a John Wi ley & effective Sons © 2003 more carefully constructed set and of estimated sincequi theckpattern of taxable and deductible items will This com pact t ruly com rates, pr ehensive - refer ence esent s to account ants with a guide to depend on for fluctuate from oneprperiod the next. assistance in the prepar at ion and under standing of financial statements present ed in accordance I AS. Similarly, if the tax law prescribes different income taxwith rates for different categories of income, then to the extent practicable, a separate tax rate should be applied to each category of interim period pretax T ab le of Con t en t s income. IAS 34, while mandating such detailed rules of computing and applying tax rates across Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing jurisdiction Standar ds or across categories of income, nonetheless recognized that such a degree of precision may not be achievable in all cases. Thus, IAS 34 allows usage of a weighted-average of rates across Preface jurisdictions or across categories of income provided it is a reasonable approximation of the effect of Chapter 1 - I ntr oduction to I nter national Accounting Standar ds using more specific rates. Chapter 2

- Balance Sheet

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent In computing Chapter 3 - an expected effective tax rate given for a tax jurisdiction, all relevant features of the tax of Recognized Gains and Losses

regulations should be taken into account. Jurisdictions may provide for tax credits based on new Cash Flow St at em ent investment- in plant and machinery, relocation of facilities to backward or underdeveloped areas, Chapter 5 Financial I nstr uments—Cash Receiv ables sales, and so forth, and the expected credits research and development expenditures,and levels of export Chapter 6 I nventor y against the tax for the full year should be given consideration in the determination of an expected Chapter 7 tax - Rev enue Recogni tion, I ncluding Constr uction Contr act sand machinery, when the local taxing effective rate. Thus, the tax effect of new investment in plant Chapter 8 Property , Plant , and Equipment body offers an investment credit for qualifying investment in tangible productive assets, will be reflected Chapter - I ntangi ble Asset s fiscal year in which the new investment occurs (assuming it can be in those9 interim periods of the forecast to occur I nterests later ininFinancial a given fiscal Instr um year), ent s,and Associat not merely es, Joint in Ventur the period es, and in which the new investment Chapter 10 ent Pr oper occurs. ThisI nvestm is consistent with tythe underlying concept that taxes are strictly an annual phenomenon, but Chapter 11 - Business Combinations and Consolidat ed Finfinancial ancial Statements it is at variance with the purely discrete view of interim reporting. Chapter 4

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Sheet Date IAS 34 notesBalance that, although tax credits and similar modifying elements are to be taken into account in developing expected tax rate Chapter 13 - the Financial I nstreffective uments—LongTertomapply Debt to interim earnings, tax benefits which will relate to onetime14events are to be reflected from the interim period when those events take place. This is Chapter - Leases perhaps15most likely to be encountered in the context of capital gains taxes incurred in connection with Chapter - I ncom e Taxes occasional of investments and other capital assets; since it is not feasible to project the Chapter 16 - dispositions Em ploy ee Benefit s rate at which such transactions will occur over the course of a year, the tax effects should be Chapter 17 - Stock holder s' Equit y recognized only as the underlying events transpire. Chapter 18 - Earnings Per Share Chapter - I nterim Repor While in19most casesFinancial tax credits areting to be handled as suggested in the foregoing paragraphs, in some Chapter 20 - Segm ent Repor ting jurisdictions tax credits, particularly those which relate to export revenue or capital expenditures, are in Chapter 21 - Accounting Changes and Cor of Er rorgrants s effect government grants. Accounting forrection government is set forth in IAS 20; in brief, grants are Chapter 22 - in Forincome eign Curr ency recognized over the period necessary to properly match them to the costs which the grants Chapter 23 - RelatedPart Disclosures are intended to offset or ydefray. Thus, compliance with both IAS 20 and IAS 34 would necessitate that tax credits carefully analyzed Chapter 24 -be Specialized I ndustr iesto identify those which are in substance grants, and then accounting

for the credit consistent its true nature. Chapter 25 - I nflation andwith Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

When an interim period loss gives rise to a tax loss carryback, it should be fully reflected in that interim period. Similarly, if a loss in an interim period produces a tax loss carryforward, it should be recognized Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS immediately, but only if the criteria set forth in IAS 12 are met. Specifically, it must be deemed probable Appendix C - Com parison of I AS, US GAAP, and UK GAAP that the benefits will be realizable before the loss benefits can be given formal recognition in the I ndex financial statements. In the case of interim period losses, it may be necessary to assess not only List of Tables whether the enterprise will be profitable enough in future fiscal years to utilize the tax benefits List of Ex hibits and Exloss, am ples associated with the but furthermore, whether interim periods later in the same year will provide List of Sidebar s earnings of sufficient magnitude to absorb the losses of the current period. Appendix A - Di sclosure Checklist

IAS 12 provides that changes in expectations regarding the realizability of benefits related to net operating loss carryforwards should be reflected currently in tax expense. Similarly, if a net operating loss carryforward benefit is not deemed probable of being realized until the interim (or annual) period when it in fact becomes realized, the tax effect will be included in tax expense of that period. Appropriate explanatory material must be included in the notes to the financial statements, even on an interim basis, to provide the user with an understanding of the unusual relationship between pretax accounting income and the provision for income taxes.

Income Tax Consequences of Dividends Paid W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Historically, someI ntaxing levied t er n atjurisdictions ion al Accouhave n t in g St an income d ar ds tax rates on corporate earnings at differential rates, depending by onBar whether the earnings are retained by the entity or are distributed to shareholders. ISBN:0471227366 r y J. Epstein and Abbas Ali Mir za for this disparate treatment is that it motivates the enterprises to make Typically, the rationale John Wi ley & which Sons ©is2003 (952 pages) distributions to shareholders, deemed a socially worthwhile goal by some (it doesn't really alter wealth accumulation distortions policy). This unless com pact and t ruly are comintroduced pr ehensiveby quifiscal ck - refer ence A secondary reason for such pr esent sameliorates account antsthe with a guide to depend for rules is that this partially impact of the doubleon taxation of corporate profits (which are assistancelevel, in thethen prepar at ionagain and under standing to of financial first taxed at the corporate taxed as distributed shareholders as taxable dividends). statements present ed in accordance with I AS. IAS 12 specifically abstained from addressing the issue of how to account for this phenomenon, but this was subsequently T ab le of Con t en t s dealt with by a 2001 amendment. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Under ds the provisions of the amended IAS 12, tax effects are to be provided for current taxable earnings Standar

without making any assumptions about future dividend declarations. In other words, the tax provision is Preface

to be computed using thetotax rate applicable to undistributed Chapter 1 - I ntr oduction I nter national Accounting Standar dsearnings, even if the enterprise has a long history of making earnings distributions subsequent to year-end, which when made will generate tax - Balance Sheet savings. Under the amendment to IAS 12, if dividends are later declared, the tax effect of this event will I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 be accounted in the period which the proposed dividend is paid or becomes accruable as a of for Recognized Gainsinand Losses liability of the enterprise, if earlier. Since there is typically no legal requirement to declare distributions Chapter 4 - Cash Flow St at em ent to shareholders, this approach is clearly appropriate because to recognize tax benefits associated with Chapter 5 - Financial I nstr uments—Cash and Receiv ables dividend payments before declaration would be to anticipate income (in the form of tax benefits) before Chapter 6 - I nventor y it is earned. Chapter 2

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8 - Property , Plant Equipment The standard holds that the, and tax effect of the dividend declaration (or payment) is to be included in the Chapter 9 I ntangi ble Asset s current period's tax provision, not as an adjustment to the earlier period's earnings, taken through the I nterests in Financial ent s,when Associat Joint Ventur es, and is a distribution being retained10earnings account. This isInstr trueum even it ises, clear that the dividend Chapter nvestm ent period's Pr oper typrofits. The logic of this requirement is that the tax benefits are more made out of Ithe earlier Chapter - Business Combinations ed Fin ancial closely 11 linked to events reported in and the Consolidat income statement (i.e.,Statements past or current transactions producing Curr ent Liabilit ies, Prov isions, Cont ingencies, and Evwords, ents after he transactions and events net income) than they are to the dividend distribution. In other it ist the Chapter 12 Balance Sheet Date resulting in earnings and not the act of distributing some of these earnings to shareholders that is of the Chapter - FinancialtoI nstr uments—Longm Debt greatest13pertinence financial statementTer users. Accordingly, it is that with which the matching should Chapter 14 Leases occur. Chapter 15 - I ncom e Taxes

If dividends areploy declared before Chapter 16 - Em ee Benefit s the end of the year, but are payable after year-end, the dividends become17a -legal liability the reporting entity and taxes should be computed at the appropriate rate on Chapter Stock holder of s' Equit y

the amount declared. If the dividend is declared after year-end but before the financial statements Chapter 18 - thus Earnings Per Share are issued, under IAS 10 a liability cannot be recognized on the balance sheet at year-end, and thus the tax effect related thereto also cannot be given recognition.

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

Chapter 21 - Accounting Changes and the Cor rection of example: Er ror s To illustrate the foregoing, consider following Chapter 22 - For eign Curr ency

Amir Corporation operates in a jurisdiction where income taxes are payable at a higher rate on undistributed profits than on distributed earnings. For the year 2003, the company's taxable income Chapter 24 - Specialized I ndustr ies is $150,000. Amir also has net taxable temporary differences amounting to $50,000 for the year, Chapter 25creating - I nflation Hyperinflation thus theand need for a deferred tax provision. The tax rate on distributed profits is 25%, and Chapter 26 Gov er nm ent Gr an ts the rate on undistributed profits is 40%; the difference is refundable if profits are later distributed. Appendix A the - Di balance sclosure sheet Checklist As of date no liability for dividends proposed or declared has been reflected on Appendix B - I llustrativ e Financial St 31, atem ent s Pr esent ed the Under I AS the balance sheet. On March 2004, however, company distributes dividends of $50,000. Chapter 23 - Related- Part y Disclosures

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex The tax consequences of dividends on undistributed profits, current and deferred taxes for the year List of2003, Tablesand the recovery of 2003 income taxes when dividends are subsequently declared would be

as follows:

List of Ex hibits and Ex am ples

1. Amir Corporation recognizes a current tax liability and a current tax expense for 2003 of List of Sidebar s $150,000 x 40% = $160,000; 2. No asset is recognized for the amount (potentially) recoverable when dividends are distributed; 3. Deferred tax liability and deferred tax expense for 2003 would be $50,000 x 40% = $20,000, and 4. In the following year (2004) when the company recognizes dividends of $50,000, the

4. company will also recognize the recovery of income taxes of $50,000 x (40% - 25%) = $7,500 as a current tax asset and a reduction of the current income tax expense. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

The only exception to the foregoing accounting for tax effects of dividends that are subject to I n t er n at ion al Accou n t in g St an d ar ds differential tax rates, under amended IAS 12, arises in the situation of a dividend-paying corporation ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali which is required Mir to za withhold taxes on the distribution and remit these to the taxing authorities. In general, withholding against distributed to shareholders, and is later forwarded Johntax Wiis leyoffset & Sons © 2003the (952amounts pages) to the taxing bodies rather than to the shareholders, so that the total amount of the dividend declaration This com pact and t ruly com pr ehensive qui ck - refer ence is not altered. However, if the corporation pays the tax in addition to the full amount of the dividend pr esent s account ants with a guide to depend on for payments to shareholders, a tax falling on the corporation and, accordingly, assistance some in the might preparview at ionthis andas under standing of financial present edon inthe accordance with I AS. Amended IAS 12, however, makes it add this to the taxstatements provision reported income statement. clear that such an amount, if paid or payable to the taxing authorities, is to be charged to equity as part T ab le of Con t en t s of the dividend declaration if it does not affect income taxes payable or recoverable by the enterprise in Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing the same Standar ds or a different period. Preface

Finally, the amendment to IAS 12 provides that disclosure will be required of the potential income tax - I ntr oduction to I nter national Accounting Standar ds consequences of dividends. The reporting enterprise should disclose the amounts of the potential Chapter 2 Balance Sheet which are practically determinable, and whether there are any potential income tax- consequences I ncom e Statement, Stat em entdeterminable. of Chan ges in Equit y, and Statem ent income3tax- consequences not practically Chapter Chapter 1

of Recognized Gains and Losses

Chapter 4

- Cash Flow St at em ent

Accounting for Income Taxes in ables Business Combinations - Financial I nstr uments—Cash and Receiv

Chapter 5 Chapter 6

- I nventor y

One of the more complex aspects of interperiod income tax accounting occurs when business - Rev enue Recogni tion, I ncluding Constr uction Contr act s combinations, treated as acquisitions as defined by IAS 22, are consummated. The principal complexity Chapter 8 - Property , Plant , and Equipment relates to the recognition, at the date of the purchase, of the deferred tax effects of the differences Chapter 9 the - I ntangi blefinancial Asset s reporting bases of assets and liabilities acquired. Further difficulties arise between tax and I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and in connection Chapter 10 - with the recognition of goodwill and negative goodwill. If the reporting entity expects that I nvestm ent Pr oper ty the ultimate tax allocation will differ from the initial one (such as when disallowance by the tax Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements authorities of an allocation made to identifiable intangibles is anticipated by the taxpayer), yet another Curr ent Liabilit Prov complex matteries, must beisions, dealt Cont with.ingencies, and Ev ents after t he Chapter 12accounting Chapter 7

Balance Sheet Date

Chapter 13 -provisions Financial Iof nstr uments—LongTer m Debt Under the IAS 12, the tax effects of any differences in tax and financial reporting bases Chapter 14 Leases are to be reflected, from the date of the purchase, as deferred tax assets and liabilities. The same rules Chapter 15 to - I ncom e Taxes of deferred tax assets and liabilities arising under other circumstances (i.e., that apply the recognition Chapter the origination 16 - Emof ploy temporary ee Benefitdifferences s by the reporting entity) are equally applicable to such instances,

except 17 for -the initial recognition Chapter Stock holder s' Equit y of an asset or liability in a transaction other than a business combination when, atPer theShare time of the transaction, neither accounting profit nor taxable profit is affected. Chapter 18 - Earnings Accordingly, if deferred tax assets are not deemed to be probable of ultimate realization, they are not Chapter 19 - I nterim Financial Repor ting recognized anyent of these Chapter 20 - in Segm Repor circumstances. ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

Depending on the tax jurisdiction in which they occur, acquisitions can be either taxable or nontaxable in nature. In a taxable acquisition, the total purchase price paid will be allocated to assets and liabilities Chapter RelatedPart y reporting Disclosures for both23tax- and financial purposes, although under some circumstances the specifics of Chapter 24 Specialized I ndustr ies to the extent the allocation is made to nondeductible goodwill there will these allocations may differ, and Chapter 25 - I nflation andperiods' Hyperinflation be differences in future taxable and accounting profit. In a nontaxable acquisition, the Chapter 26 Gov er nm ent Gr an tsfor the various assets and liabilities will be carried forward, while for predecessor entity's tax bases Appendix - Di sclosure Checklist price will be allocated to the assets and liabilities acquired. Thus, in financialAreporting the purchase Appendix B - I there llustrativ Financial St atem ent s Pr esent ed Under AS and financial reporting bases. For this most cases, willebe significant differences between the Itax reason, both taxable andofnontaxable acquisitions can involve the application of deferred income tax Appendix C - Com parison I AS, US GAAP, and UK GAAP accounting. I ndex Chapter 22 - For eign Curr ency

List of Tables

Accounting for Purchase Business Combinations at Acquisition Date

List of Ex hibits and Ex am ples List of Sidebar s

IAS 12 requires that the tax effects of the tax-book basis differences of all assets and liabilities generally be presented as deferred tax assets and liabilities as of the acquisition date. In general, this grossing-up of the balance sheet is a straightforward matter. An example, in the context of the business acquisition of Windlass Corp., follows: 1. The income tax rate is a flat 40%. 2.

2. The acquisition of a business is effected at a cost of $500,000. 3. The fair values of assets acquired total $750,000.

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

4. The carryforward tax bases of assets acquired total $600,000.

ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali

Mircarryforward za 5. The fair and tax bases of the liabilities assumed in the purchase are $250,000. John Wi ley & Sons © 2003 (952 pages)

6. The difference between the ttax values ofqui the acquired, $150,000, consists of This com pact and rulyand comfair pr ehensive ck -assets refer ence pr esent s differences account antsof with a guideand to depend on for taxable temporary $200,000 deductible temporary differences of $50,000. assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. temporary differences in this case. 7. There is no doubt as to the realizability of the deductible T ab le of Con t en t s

Based on the foregoing facts, allocation of the purchase price is as follows:

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Gross purchase price

Preface

$ 500,000

Chapter Allocation 1 - to I ntr identifiable oduction toassets I nter national and (liabilities): Accounting Standar ds Chapter 2

- Balance Sheet

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

750,000 Assets other than goodwill and deferred tax I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3benefits of Recognized Gains and Losses Deferred tax benefits

20,000

(250,000) Chapter 6Liabilities, - I nventor y other than deferred tax obligations Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s tax, obligations Chapter 8Deferred - Property Plant , and Equipment

(80,000)

Chapter 9

440,000

- I ntangi ble Asset s

Net of the above allocations

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Allocation to I nvestm goodwill ent Pr oper ty $ 60,000

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

GoodwillCurr andentnegative goodwill. Liabilit ies, Prov isions, Cont ingencies,

Chapter 12 -

and Ev ents after t he

Balance Sheet Date

Goodwill whenI nstr partuments—Longof the price paid business combination accounted for as a purchase Chapter 13arises - Financial Terin m aDebt cannot 14 be -allocated Chapter Leases to identifiable assets; negative goodwill results from bargain purchases. Goodwill may be15 tax- deductible, depending on tax jurisdiction, or may be nondeductible. If it is deductible, the Chapter I ncom e Taxes

mandated periods may differ from that prescribed by IAS 22. Since under IAS goodwill is to Chapter 16 -amortization Em ploy ee Benefit be amortized over its expected economic life (generally not to exceed twenty years, although longer amortization periods can be supported), a temporary difference will often develop. Since negative Chapter 18 - Earnings Per Share goodwill is offset against all nonmonetary assets for financial reporting (if the benchmark treatment is Chapter 19 - I nterim Financial Repor ting employed), differences between tax and book depreciation will result in many situations. Chapter 17 - Stock holder s' Equit y

Chapter 20 - Segm ent Repor ting

Chapter 21 -orAccounting Changesisand rection oforErtaxable, ror s If goodwill negative goodwill notCor deductible respectively, in a given tax jurisdiction, in Chapter 22 tax - For eign is Curr ency theory its basis zero, and thus there is a difference between tax and financial reporting bases, to Chapter which one 23 -would Relatedlogically Part y Disclosures expect deferred taxes would be attributed. However, given the residual nature

of goodwill negative goodwill, Chapter 24 - or Specialized I ndustr iesrecognition of deferred taxes would in turn create yet more goodwill, and thus deferred etc. There would be little purpose achieved by loading up the balance Chapter 25more - I nflation andtax, Hyperinflation sheet with goodwill and related deferred tax in such circumstances, and the computation itself Chapter 26 -more Gov er nm ent Gr an ts would beAquite challenging. Accordingly, IAS 12 prohibits grossing up goodwill in such a fashion. Appendix - Di sclosure Checklist

Similarly,B if- there is negative goodwill which is esent not allocated the cost of assets, but rather which is Appendix I llustrativ e Financial St atem ent s Pr ed Underto I AS

presented as a deferred credit items and which is not taxable, no deferred tax benefit will be computed and presented.

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

List Tables to understand the slight inconsistency of the rules of IAS 12 as they relate to goodwill. It isofimportant List of Ex hibits and Ex am ples

1. If positive goodwill is nondeductible for tax purposes, no deferred tax liability should be associated with it; but

List of Sidebar s

2. No negative goodwill reported as a deferred revenue account in the financial statements should have a deferred tax benefit associated with it. The accounting for a taxable purchase business combination is essentially similar to that for a nontaxable one. However, unlike the previous example, in which there were numerous assets with different tax and financial reporting bases, there are likely to be only a few differences in the case of taxable purchases. In jurisdictions in which goodwill is not deductible, attempts are often made for tax

purposes to allocate excess purchase cost to tangible assets as well as to other intangibles, such as covenants not to compete. (Such attempts may or not survive review by the tax authorities, of course.) In jurisdictions where this is not a omotivation, although because W ile goodwill y I AS 2 0is 03deductible, : I n t erp re tpresumably at ion an d Ap p licat io n f goodwill is often viewed as a suspect asset, entities will still be more comfortable if purchase cost can I n t er n at ion al Accou n t in g St an d ar ds be attributed to "real" assets, even when goodwill can be amortized for tax purposes. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za

Note that proposals outstanding in late 2002 John Wi ley & Sons © 2003 (952would pages) change the accounting for certain business combinations, change the treatment of negative goodwill, and eliminate amortization of (positive) This com pact and t ruly com pr ehensive qui ck - refer ence goodwill. See Chapters 9 and 11 for discussions. pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Accounting for Purchase Business Combinations After the Acquisition Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing

T ab le of Con t en t s Standar ds

Under the provisions of the original IAS 12, net deferred tax benefits were not to be carried forward as assets unless there was a reasonable expectation they would be realized. Under revised IAS 12 the Chapter - I ntr oduction to I nter nationaltax Accounting Standar ds criterion1 has evolved slightly; deferred assets must be probable of being realized in order to be Chapter 2 Balance Sheet recognized. The assessment of this probability was discussed earlier in the chapter. Preface

Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

of Recognized Gains and Losses In the example above, it was specified that all deductible temporary differences were fully realizable, Chapter 4 - Cash St at em and therefore the Flow deferred taxent benefits associated with those temporary differences were recorded as Chapter of the acquisition 5 - Financial date. I nstr In uments—Cash other situationsand there Receiv may ables be substantial doubt concerning realizability; that is, it may be probable that the benefits will be realized, and accordingly, the deferred tax asset Chapter 6 not - I nventor y would not recognized, under 12, at the date of theContr business Chapter 7 be - Rev enue Recogni tion,IAS I ncluding Constr uction act s acquisition. If so, the allocation of the purchase price would reflect that fact, and more of the purchase cost would be allocated to Chapter 8 - Property , Planthave , and to Equipment goodwill9 than wouldble otherwise Chapter - I ntangi Asset s be the case. If at a later date it is decided that some or all of the deferred tax asset notI nterests recognized at the time the is, in fact,Ventur probable of being ultimately realized, in Financial Instrofum entacquisition s, Associat es, Joint es, and Chapter 10 of - that reevaluation will be taken into tax expense (benefit) in the period in which the the effect I nvestm ent Pr oper ty reevaluation is made.Combinations Furthermore,and the Consolidat portion of ed theFin extra goodwill recognized at the time of the Chapter 11 - Business ancial Statements business acquisition that remains unamortized at the date of the reevaluation Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he must be written off to Chapter 12 expense. Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt

To illustrate this last concept, assume that a business acquisition is made on January 1, 2003, and the deferred tax assets of $100,000 are not recognized at that time, due to an assessment that realization Chapter 15 - I ncom e Taxes is not probable. The unrecognized tax benefit is implicitly allocated to goodwill. Also assume that the Chapter 16 - Em ploy ee Benefit s goodwill is being amortized over five years. On January 1, 2005, the likelihood of ultimately realizing the Chapter 17 - Stock holder s' Equit y tax benefit is reassessed as being probable, and all of these are projected for later years. The entries Chapter 18 - are Earnings Per Share at that date as follows: Chapter 14 - Leases

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

Deferred tax benefit

100,000

Chapter 21 - Accounting Changes and Cor rection of Er ror s

100,000

Chapter 22 Income - For eign tax Curr expense ency

(benefit) Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Amortization of goodwill Chapter 25 - I nflation and Hyperinflation

Goodwill Chapter 26 - Gov er nm ent Gr an ts

60,000 60,000

Appendix A - Di sclosure Checklist

Note thatB only the remaining unamortized of goodwill associated with the original Appendix - I llustrativ e Financial St atem ent sbalance Pr esent ed Under I AS

nonrecognition of the deferred tax benefit is charged to expense at the date the deferred tax benefit is reassessed.

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

List of Tables In some situations, the amount of deferred tax benefits upon reassessment will exceed the balance in List Ex hibitsaccount, and Ex am theofgoodwill orples there may have been no goodwill recognized in connection with the business List of Sidebar acquisition ats all. IAS 12 stipulates that, as a result of this reassessment, negative goodwill cannot be

recognized, nor can any existing negative goodwill be increased. The implication is that, while negative goodwill could have been first recognized at the time of a business acquisition which involved recognition of deferred assets, it would not be possible to later recognize deferred tax benefits under such circumstances. A related issue arises when the acquirer, rather than the acquiree, had not previously recognized deferred tax benefits prior to the acquisition, due to imposition of the "probable" test. If as a result of the acquisition, this asset becomes probable of realization (e.g., if under relevant tax laws the earnings of

the acquired entity will provide the acquirer with an opportunity to utilize the deductible temporary differences), it will be given recognition, with the result that the goodwill otherwise recorded in the transaction will beWreduced, goodwill willan bed increased ile y I AS or 2 0negative 03 : I n t erp re t at ion Ap p licat ioor n first o f given recognition. I n t er n at ion al Accou n t in g St an d ar ds Bar r y J. Epstein and Abbas Ali Unitings ofby Interests Mir za

ISBN:0471227366

John Wi leycombining & Sons © 2003 (952 pages) In unitings of interests, the entities generally do not adjust carrying values of assets and This com pact and t ruly com ehensive qui - refer ence liabilities. Reissued or comparative financialpr statements ofck periods before the effective date of the pr esent s account ants with a guide to depend combination are restated on a combined basis. Although IAS on 12 for does not address the question, one assistance in the prepar at ion and under standing of financial issue that may arise is if onepresent of the combining entitieswith hadI AS. an unrecognized deferred tax benefit (i.e., statements ed in accordance the deferred tax benefit was not deemed to be probable of realization), the restated financials may or T ab le of t en t the s benefits. That is, the deferred tax benefits may be restored on a retrospective basis. may notCon reflect Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar This treatment ds depends on whether the combined entity will be able, under provisions of the tax laws,

to utilize the operating loss and tax credit carryforwards of the merged companies. If it can do so, the Preface deferred should be recognized in any restated Chapter 1 tax - I benefits ntr oduction to I nter national Accounting Standarprior ds period financial statements. If, under the law,2 the- Balance benefits Sheet cannot be utilized in a consolidated tax return, or if a consolidated return is not Chapter expected to Ibe filed, the tax benefits would beges recognized financial restated for the ncom e Statement, Stat em ent ofnot Chan in Equit y,inand Statemstatements ent uniting of interests. of Recognized Gains and Losses

Chapter 3 Chapter 4

- Cash Flow St at em ent

Under some circumstances, unitings of interests may be taxable, meaning that for tax purposes there - Financial I nstr uments—Cash and Receiv ables will be a step-up of the net assets of one of the merged entities. The differences between the new Chapter 6 - I nventor y stepped-up tax bases and the carryforward book values utilized for financial reporting purposes are Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s temporary differences giving rise to deferred tax benefits. Whether these benefits are given recognition Chapter 8 - Property , Plant , and Equipment depends on whether realization is deemed to be probable. If the deferred tax benefit is not recognized Chapter 9 - I ntangi Assetpartially s at inception, and it ble is later or fully recognized when it is determined that the likelihood of I nterests in Financial Instr um ent Associat es, Joint Ventur es,should and ultimate10realization is probable, the effect ofs,this accounting recognition be reflected in tax Chapter I nvestm ent Pr oper ty expense for the current period. Chapter 5

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Curr ent(poolings) Liabilit ies,ofProv isions, ingencies, and Ev ents after t he Note that interest willCont probably be banned under revisions currently being Chapter 12 unitings Balance Date considered by IASB.Sheet See discussion in Chapter 11. Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Tax Allocation for Business Investments

Chapter 15 - I ncom e Taxes

Chapter 16 in- Em ploy ee10, Benefit As noted Chapter theres are two basic methods of accounting for investments in the common Chapter - Stock holder s' Equit stock of17other corporations: (1)ythe cost method and (2) the equity method. The cost method requires Chapter - Earnings Per Share(investor) record the investment at its purchase price, and no additional that the18 investing corporation Chapter - I nterim tinglife of the asset (this does not include any valuation contra entry is19 made to theFinancial account Repor over the

accounts). cost is used in instances where the investor is not considered to have Chapter 20 -The Segm ent method Repor ting significant over the investee. ownership generally used is 20% of ownership. Chapter 21 -influence Accounting Changes and CorThe rection of Er ror threshold s This figure not considered Chapter 22 - isFor eign Curr ency an absolute, but it will be used to identify the break between application of the cost23and equity methods. Under the cost method, ordinary income is recognized as dividends are Chapter - RelatedPart y Disclosures declared the investee, and capital gains (losses) are recognized on disposal of the investment. For Chapter 24by - Specialized I ndustr ies

tax purposes, no provision is made during the holding period for the allocable undistributed earnings of Chapter 25 - I nflation and Hyperinflation the investee. Deferred tax computation is not necessary when using the cost method because there is no temporary difference.

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

Appendix B -method I llustrativ Financial used St atem ent s Pr esent ed Underowns I AS more than 20% of an investee or has Theequity isegenerally whenever an investor Appendix C Com parison of I AS, US GAAP, and UK GAAP significant influence over its operations. The equity method calls for recording the investment at cost I ndex and then increasing this carrying amount by the allocable portion of the investee's earnings. The List of Tables allocable portion of the investee's earnings is then included in the pretax accounting income of the List investor. of Ex hibits Dividend and Ex payments am ples are no longer included in pretax accounting income but are considered to

be of a reduction List Sidebar s in the carrying amount of the investment. However, for tax purposes, dividends are the only revenue realized. As a result, the investor needs to recognize deferred income tax expense on the undistributed earnings of the associate that will be taxed in the future. IAS 28 distinguishes between an associate and a subsidiary and prescribes different accounting treatments for each. An associate is considered to be a corporation whose stock is owned by an investor who holds more than 20% but no greater than 50% of the outstanding stock. An association situation occurs when the investor has significant influence but not control over the corporation invested in. A subsidiary, on the other hand, exists when one enterprise exerts control over another,

which is presumed when it holds more than 50% of the stock of the other entity. Under IAS 12, two conditions must both be satisfied to justify not reflecting deferred taxes in connection W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f with the earningsI of a subsidiary (a control situation), branches and associates (significant influence), n t er n at ion al Accou n t in g St an d ar ds and joint ventures. These are (1) that the parent, investor or venturer is able to control the timing of the ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali reversal of the temporary difference and (2) it is probable that the difference will not reverse in the Mir za foreseeable future. Unless conditions arepages) met, the tax effects of these temporary differences must John Wi leyboth & Sons © 2003 (952 be given recognition. This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

When a parent company that the ability control the dividend and other policies of its subsidiary assistance in has the prepar at iontoand under standing of financial determines that dividends willpresent not beeddeclared, and thus statements in accordance withthat I AS.the undistributed profit of the subsidiary will not be taxed at the parent company level, no deferred tax liability is to be recognized. If this T ab le of Con t en t s intention is later altered, the tax effect of this change in estimate would be reflected in the current Wiley I AS tax 20 03—Int er pretation and Application of I nternational Account ing period's provision. Standar ds

Preface On the other hand, an investor, even one having significant influence, cannot absolutely determine the Chapter 1 - dividend I ntr oduction to I Accordingly, nter national Accounting ds that earnings will eventually be associate's policy. it has to beStandar presumed Chapter 2 -and Balance Sheet will create taxable income at the investor company level. Therefore, deferred distributed that these tax liability must I ncom bee provided Statement, forStat theem reporting ent of Chan entity's ges share in Equit ofy,alland undistributed Statem ent earnings of its Chapter 3 of Recognized Gains and Losses associates for which it is accounting by the equity method, unless there is a binding agreement for the Chapter 4 of- the Cashinvestee Flow St at earnings toem notent be distributed within the foreseeable future. Chapter 5 - Financial I nstr uments—Cash and Receiv ables

In the case joint ventures there are a wide range of possible relationships between the venturers, Chapter 6 - of I nventor y and in some cases reporting has the ability to control Chapter 7 - Rev enuethe Recogni tion,entity I ncluding Constr uction Contr actthe s payment of dividends. As in the

foregoing, -if Property the reporting entity has the ability to exercise this level of control and it is probable that , Plant , and Equipment distributions will not be made within the foreseeable future, no deferred tax liability will be reported.

Chapter 8 Chapter 9

- I ntangi ble Asset s

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and In all these Chapter 10 - various circumstances, it will be necessary to assess whether distributions within the I nvestm ent Pr oper ty

foreseeable future are probable. The standard does not define "foreseeable future" and thus this will remain a matter of subjective judgment. The criteria of IAS 12, while subjective, are less ambiguous Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he than under Chapter 12 - the original standard, which permitted nonrecognition of deferred tax liability when it was Balance Sheet Date "reasonable to assume that (the associates's) profits will not be distributed." Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 14 - Leases To illustrate the application of these concepts, assume that Parent Company owns 30% of the Chapter 15 - Icommon ncom e Taxes outstanding stock of Investee Company and 70% of the outstanding common stock of Chapter Subsidiary 16 - Company. Em ploy ee Additional Benefit s data for the year 2003 are as follows: Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Investee Company

Subsidiary Company

Chapter 19 - I nterim Financial Repor ting

Net income

Chapter 20 - Segm ent Repor ting

$50,000

Dividends 20,000 Chapter 21 - paid Accounting Changes and Cor rection of Er ror s

$100,000 60,000

Chapter 22 - For eign Curr ency

How the foregoing data are used to recognize the tax effects of the stated events is discussed below.

Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies

Income Tax Effects from Investee Company

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

The 2003 accounting profit of Parent Company will include equity in its associate's income equal to $15,000 ($50,000 x 30%). Parent's taxable income, however, will include dividend income of $6,000 Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS ($20,000 x 30%), and, under applicable tax law, a credit of 80% of the $6,000, or $4,800, will also be Appendix C - Com parison of I AS, US GAAP, and UK GAAP allowed for the dividends received. This 80% dividends received deduction is a permanent difference I ndex between accounting and taxable profits. Appendix A - Di sclosure Checklist

List of Tables

List Ex hibitsof and am ples tax credit in 2003 depends on the expectations of Parent Company as to Theofamount theExdeferred List theofmanner Sidebarin s which the $9,000 of undistributed income will be received. In many tax jurisdictions, the

effective tax rate will differ based on method of realization; dividend income may be taxed at a different rate than capital gains (achieved on the sale of an investment in an associate, for example). If the expectation of receipt is via dividends, the temporary difference is 20% of $9,000, or $1,800, and the deferred tax credit for this originating temporary difference in 2003 is the current tax rate times $1,800. However, if the expectation is that receipt will be through future sale of the investment, the gain on which would be fully taxed, the temporary difference is $9,000 and the deferred tax credit is the current capital gains rate times the $9,000.

The entries below illustrate these alternatives. A tax rate of 34% is used for both ordinary income and for capital gains. Note that the amounts in the entries below relate only to Investee Company's incremental impact onyParent accounts. W ile I AS 2 0Company's 03 : I n t erptax re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366 Expectations

for undistributed income

Dividends This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for Income tax expense 1,020 assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. 612 b Deferred tax liability

T ab le of Con t en t s

Income taxes payable

408 a

Capital gains 2,208 1,800C 408 a

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar a Compulation ds of income taxes payable: Preface

income—30% x ($20,000) $6,000 Standar ds Chapter 1Dividend - I ntr oduction to I nter national Accounting

$6,000

Chapter 2

- Balance Sheet

(4,800)

Chapter 3

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

$1,200

Less 80% dividends received deduction

Amount included in Parent's taxable income

Chapter 4

- Cash Flow St at em ent

Chapter 5Tax - Financial I nstr uments—Cash and Receiv ables liability—34% x ($1,200) Chapter 6 b

$408

- I nventor y

Computation of deferred tax liability (dividend - Rev enue Recogni tion, I ncluding Constr uction Contr act s assumption):

Chapter 7 Chapter 8

- Property , Plant , and Equipment

Chapter 9Originating - I ntangi ble temporary Asset s difference: Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm entshare Pr oper Parent's oftyundistributed

$9,000

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements income—30% x ($30,000) Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date Less 80% dividends received deduction

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Originating temporary difference Chapter 15 - I ncom e Taxes

Deferred tax x ($1,800) Chapter 16 - Em ploy eeliability—34% Benefit s

(7,200) $1,800 $612

Chapter cComputation 17 - Stock s' Equit y of holder deferred tax liability (capital gain Chapter 18 - Earnings Per Share assumption): Chapter 19 - I nterim Financial Repor ting

Originating Chapter 20 - Segm enttemporary Repor tingdifference: Parent's share

$9,000

of -undistributed income—30% ($30,000) Chapter 21 Accounting Changes and Corxrection of Er ror s Chapter 22 - For eign Curr ency

Deferred tax liability—20% x ($9,000)

$1,800

Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies

Income Tax Effects from Subsidiary Company

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

The accounting profit of Parent Company will also include equity in Subsidiary income of $70,000 (70% x $100,000). This $70,000 will be included in pretax consolidated income if Parent and Subsidiary issue Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS consolidated financial statements. Depending on the rules of the particular tax jurisdiction, it may be Appendix C - Com parison of I AS, US GAAP, and UK GAAP that for tax purposes, Parent and Subsidiary will not file a consolidated tax return (e.g., because the I ndex prescribed minimum level of control, that is, 80%, is not present). In the present example, assume that List of Tables it will not be possible to file consolidated tax returns. Consequently, the taxable income of Parent will List of Ex hibits andincome Ex am ples include dividend of $42,000 (70% x $60,000). Assume further that there will be an 80% List of Sidebar s dividends received deduction, which will amount to $33,600. The originating temporary difference results from Parent's equity ($28,000) in Subsidiary's undistributed earnings of $40,000. Appendix A - Di sclosure Checklist

The amount of the deferred tax credit in 2003 depends on the expectations of Parent Company as to the manner in which this $28,000 of undistributed income will be received. The same expectations can exist as discussed previously, for Parent's equity in Investee's undistributed earnings (i.e., through future dividend distributions or capital gains). The entries below illustrate these alternatives. A marginal tax rate of 34% is assumed. The amounts in

the entries below relate only to Subsidiary Company's incremental impact on Parent Company's tax accounts. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds Expectations for undistributed ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali income Mir za Dividends Capital gains John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck4,760 - refer ence Income tax expense

pr esent s account ants with a guide to depend on for 1,904b Deterred assistance tax liabilityin the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Income T ab le of Con t en t staxes payable

Dividend income—70% x ($60,000)

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

9,520c

2,856a

a Computation Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing of income taxes pavable: Standar ds

Preface

12,376

Less 80% dividends received deduction

2,856a

$42,000 (33,600)

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent included in Parent's taxable income Chapter 3Amount of Recognized Gains and Losses

$8,400

Chapter 4Tax - Cash Flow St at em ent liability—34% x ($5,600)

$2,856

Chapter 5 b

- Financial I nstr uments—Cash and Receiv ables

Compulation of deferred tax liability (dividend - I nventor y assumption):

Chapter 6 Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8Originating - Propertytemporary , Plant , anddifference: Equipment Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I nterests Parent'sinshare Financial of undistributed Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty income—70% x ($40,000)

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent80% Liabilit ies, Provreceived isions, Cont ingencies, and Ev ents after t he Less dividends deduction Balance Sheet Date

Chapter 13 - Financial I nstrtemporary uments—LongTer m Debt Originating difference Chapter 14 - Leases

Deferred liability—34% x ($5,600) Chapter 15 - I ncomtax e Taxes

$28,000

(22,400) $5,600 $1,904

Chapter 16 - Em ploy ee Benefit cComputation of deferred taxs liability (capital gain Chapter 17 - Stock holder s' Equit y assumption): Chapter 18 - Earnings Per Share

Originating difference: Parent's Chapter 19 - I nterim temporary Financial Repor ting

$28,000

share of undistributed Chapter 20 - Segm ent Repor tingincome—70%. x ($40,000) Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Deferred tax liability—4% x ($28,000)

$9,420

Chapter 23 - Related- Part y Disclosures

Chapter 24 -company Specialized I ndustr ies enough percentage of the voting stock of a subsidiary and the parent, If a parent owns a large Chapter - I nflation and Hyperinflation so that 25 it may consolidate the subsidiary for both financial and tax reports, no temporary differences Chapter 26 - Gov er nm ent Gr an ts exist between pretax consolidated income and taxable income. Under the rules in some jurisdictions, it Appendix may be possible A - Di sclosure to submit Checklist separate tax returns even if consolidated returns could alternatively be filed;

in such circumstances, there may be a ent taxsrule thated grants a 100% dividends received deduction, to Appendix B - I llustrativ e Financial St atem Pr esent Under I AS avoid incurring If, in the circumstances Appendix C - Comdouble parisontaxation. of I AS, US GAAP, and UK GAAP noted above, consolidated financial statements are prepared but a consolidated tax return is not, it would be the case that a dividends received I ndex deduction of 100% would be allowed. Accordingly, the temporary difference between pretax List of Tables

consolidated and taxable income is zero if the parent assumes that the undistributed income List of Ex hibits income and Ex am ples will be realized in dividends.

List of Sidebar s

Tax Effects of Compound Financial Instruments IAS 32 established the important notion that when financial instruments are compound, the separately identifiable components are to be accounted for according to their distinct natures. For example, when an enterprise sells convertible debt instruments, those instruments have characteristics of both debt and equity securities, and accordingly, the issuance proceeds should be allocated among those components in the ratio which the fair values bear to the total proceeds. A problem arises, however,

because the taxing authorities may not agree that a portion of the proceeds should be allocated to a secondary instrument. For example, when convertible bonds are sold, for tax reporting purposes the entire proceeds are considered to:be W ile y I AS 2 0 03 I n the t erpbasis re t at of ionthe andebt d Apinstrument p licat io n oin f most jurisdictions, with no basis being allocated to the conversion feature. Accordingly this will create a temporary difference I n t er n at ion al Accou n t in g St an d ar ds between the interest expense to be recognized for financial reporting purposes ISBN:0471227366 and interest to be by Bar r y J. Epstein and Abbas Ali Mir za tax purposes, which in turn will have deferred tax implications. recognized for income John Wi ley & Sons © 2003 (952 pages)

Consider the following scenario. Tamara Corp. issues 6% convertible bonds due in ten years with a This com pact and t ruly com pr ehensive qui ck - refer ence face value of $3,000,000, with theants bonds convertible into common stock at the holders' pr esent s account withbeing a guide to depend onTamara for option. Proceeds assistance of the offering toion $3,200,000, an effective yield of approximately 5.13% at in theamount prepar at and underfor standing of financial statements present ed in accordance I AS. a time when "straight" debt with similar risks and timewith to maturity is yielding just under 6.95% in the market. Since the fair value of the debt component is thus $2.8 million out of the actual proceeds of T ab le of Con t en t s $3.2 million, the convertibility feature is seemingly worth $400,000 in the financial marketplace. Thus Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing the ratio Standar ds of fair values is as follows: Preface Debt portion: $2,700,000 + $3,200,000 = .875 (i.e., 87.5%) Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Equity- portion: $400,000 + $3,200,000 = .125 (i.e., 12.5%) Balance Sheet

Chapter 2

I ncom Statement, Stat emactual ent of proceeds Chan ges in y, and Statem If these3ratios are ethen applied to the ofEquit the offering of the ent convertible debt, $3 million, Chapter of Recognized Gains and Losses

the resulting computed amounts are used to record the transaction under the guidance of IAS 32, as - Cash Flow St at em ent follows:

Chapter 4 Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Cash

3,000,000

Unamortized net discount Chapter 8 - Property , Plant , and Equipment375,000 Chapter 9

- I ntangi ble Asset s

Debt payable

3,000,000

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty 375,000 Equity—paid-in capital Chapter 11 Business Combinations and Consolidat ed Fin ancial Statements account Chapter 10 -

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balance Sheet Date will be amortized as additional interest cost over the life of the bonds The unamortized debt discount Chapter 13 Financial I nstr uments—LongTer m Debtpurposes, but for tax purposes the deductible interest (ten years, in this example) for financial reporting Chapter 14 Leases cost will be limited, typically, to the actual interest paid in this instance. The "originating" phase of the Chapter 15 -difference I ncom e Taxes temporary will be when the compound security is first sold; the "reversing" of this temporary Chapter 16 Emoccur ploy eeasBenefit s discount is amortized until the net carrying value of the debt equals the difference will the debt Chapter 17 - Stock holder s' Equit y face value. Chapter 18 - Earnings Per Share

To illustrate, assume that the tax rate is 30%, and for simplicity, also assume that the debt discount will be amortized on a straight-line basis over the ten-year term ($375,000 ÷ 10 = $47,500 per year), Chapter 20 - Segm ent Repor ting although in practice amortization using the "effective yield" method is preferred. The entries to establish Chapter 21 - Accounting Changes and Cor rection of Er ror s deferred tax liability accounting at inception, and to reflect interest accrual and reversal of the deferred Chapter 22 - For eign Curr ency tax account are as follows: Chapter 19 - I nterim Financial Repor ting

Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies

At inception (in addition to the entry shown above)

Chapter 25 - I nflation and Hyperinflation

Chapter 26 - Gov er nm ent capital Gr an ts account Equity—paid-in

112,500

Appendix A - Di sclosure Checklist Appendix B - I llustrativ Financial St atem ent s Pr esent ed Under I AS Deferrede tax payable Appendix C - Com parison of I AS, US GAAP, and UK GAAP

112,500

Each year there after

I ndex

List of Tables Interest expense List of Ex hibits and Ex am ples

217,500 180,000

List of Sidebar sInterest expense

37,500

Unamortized debt discount Deferred tax payable Tax expense—deferred

11,250 11,250

Note that the offset to deferred tax liability at inception is a charge to equity, in effect reducing the credit

to paid-in capital for the equity portion of the compound financial instrument to a net of tax basis, since allocating a portion of the proceeds to the equity component caused the creation of a nondeductible deferred charge, W debt When the re deferred charge islicat laterioamortized, however, the reversing of ile ydiscount. I AS 2 0 03 : I n t erp t at ion an d Ap p n of the temporary difference leads to a reduction in tax expense to better "match" the higher interest I n t er n at ion al Accou n t in g St an d ar ds expense reportedbyinBar ther yfinancial statements than on the tax return. ISBN:0471227366 J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

Accounting for Income Taxes: Intraperiod Tax Allocation

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants withwith a guide to depend on for While IAS 12 is concerned predominantly the requirements of interperiod income tax allocation assistance in the prepar at ion and under standing of financial (deferred tax accounting), it also addresses the questions statements present ed in accordance with I of AS.intraperiod tax allocation. Intraperiod tax

allocation relates to the matching in the income (or other financial) statement of various categories of T ab le of Con t en t sincome or expense (continuing operations, extraordinary items, corrections of comprehensive Wiley I AS 20 03—Int er etc.) pretation Application of those I nternational Account ing principle is that tax effects fundamental errors, with and the tax effects of items. The general Standar shouldds follow the items to which they relate. The computation of the tax effects of these items is,

Preface however, complicated by the fact that many, if not most, jurisdictions feature progressive tax rates. For Chapter 1 - Iantr oductionarises to I nter Accounting ds rates should be apportioned across all that reason, question asnational to whether overall Standar "blended" Chapter 2 - Balance Sheet the disparate elements (ordinary income, corrections of errors, etc.), or whether the marginal tax effects of items other than income should reported I ncom e ordinary Statement, Stat em ent ofbe Chan ges in instead. Equit y, and Statem ent Chapter 3 of Recognized Gains and Losses

IAS 12 4does not answer this or even address it. It might, however, be instructive to consider Chapter - Cash Flow St at emquestion ent the two5approaches, this will affectand the Receiv presentation Chapter - Financial since I nstr uments—Cash ables of the income statement and, in the case of fundamental errors, the Chapter 6 - I nventor y statement of retained earnings as well. Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

The blended rate approach would calculate the average, or effective, rate applicable to all an entity's - Property , Plant , and Equipment taxable earnings for a given year (including the deferred tax effects of items that will be deductible or Chapter 9 - I ntangi ble Asset taxable in later periods, but sthat are being reported in the current year's financial statements). This I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and effective Chapter 10rate - is then used to compute income taxes on each of the individually reportable components. I nvestm ent Pr oper ty For example, if an entity has an effective blended rate of 46% in a given year, after considering the Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements various tax brackets and any available credits against the gross amount of the tax computed, this rate Curr ent the Liabilit ies, on Prov isions, Cont ingencies, and Ev ents after the t he results of discontinued is used12 to calculate taxes ordinary income, extraordinary income, Chapter Balance Sheet Date operations, the correction of fundamental errors, and the effects of changes in accounting principles, if Chapter 13 - Financial I nstr uments—Long- Ter m Debt any. Chapter 8

Chapter 14 - Leases

Chapter 15 - I ncom Taxes The alternative to ethe blended rate approach is what can be called the marginal tax effect approach. Using this technique, a series of "with-and-without" calculations will be made to identify Chapter 16 -computational Em ploy ee Benefit s

the marginal, or incremental, effects of items other than those arising from ordinary, continuing Chapter 17 - Stock holder s' Equit y operations. is essentially Chapter 18 - This Earnings Per Sharethe approach dictated under US GAAP (SFAS 109 and its various predecessors) and is the primary employed under UK GAAP as well. Since the prescription of Chapter 19 - I nterim Financial Reporapproach ting this with-and-without is detailed most extensively in current US GAAP, that explanation is Chapter 20 - Segm ent method Repor ting referred21to-extensively the following discussion. Chapter Accounting in Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Prior to the promulgation of current US GAAP, the with-and-without technique was applied under prior

Chapter 23 - RelatedPart y Disclosures US standards in a step-by-step fashion proceeding down the face of the income statement. For Chapter 24 Specialized I ndustr ies example, an entity having continuing operations, discontinued operations, and extraordinary items Chapter 25 - I nflation and Hyperinflation would calculate tax expense as follows: Chapter 26 - Gov er nm ent Gr an ts

1. Tax would be computed for the aggregate results and for continuing operations. The difference between the two amounts would be allocated to the total of discontinued operations and Appendixextraordinary B - I llustrativitems. e Financial St atem ent s Pr esent ed Under I AS Appendix A - Di sclosure Checklist

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex2. Tax expense would be computed on discontinued operations. The residual amount (i.e., the

difference between tax on the discontinued operations and the tax on the total of discontinued List of Tables and items) would then be allocated to extraordinary items. List of Exoperations hibits and Ex amextraordinary ples List of Sidebar s

Thus, the amount of tax expense allocated to any given classification in the statement of income (and the other financial statements, if relevant) was partially a function of the location in which the item was traditionally presented in the income and retained earnings statements. Under current US GAAP, total income tax expense or benefit for the period is allocated among continuing operations, discontinued operations, extraordinary items, and stockholders' equity. The standard creates a few anomalies since, as defined in current US GAAP, the tax provisions on income from continuing operations include not only taxes on the income earned from continuing operations, as

expected, but also a number of other tax effects including the following: 1. The impact of changes in tax laws and rates, which includes the effects of such changes on items that W were ile ypreviously I AS 2 0 03 :reflected I n t erp re directly t at ion in anstockholders' d Ap p licat io nequity of I n t er n at ion al Accou n t in g St an d ar ds

2. The impact changes in taxand status byofBar r y J. Epstein Abbas Ali

ISBN:0471227366

Mir za 3. Changes in estimates tax benefits of deductible temporary differences or net John Wi ley &about Sons ©whether 2003 (952the pages)

operating loss or credit are probable of -realization. This com pact carryforwards and t ruly com pr ehensive qui ck refer ence pr esent s account ants with a guide to depend on for

Note Under current USprepar GAAPatthe criterion is "more likely than not," which differs from assistance in the ion actual and under standing of financial IAS's "probable" criterion. statements present ed in accordance with I AS. T ab le of current Con t enUS t s GAAP, stockholders' equity is charged or credited with the initial tax effects of items Under Wiley I AS reported 20 03—Intdirectly er pretation and Application of I nternational Account that are in stockholders' equity, including that relateding to corrections of the effects of Standar ds accounting errors of previous periods, which under the international standards are known as Preface fundamental errors. The effects of tax rate or other tax law changes on items for which the tax effects Chapter 1 - I ntrreported oduction directly to I nter in national Accounting Standar ds were originally stockholders' equity are reported in continuing operations if they Chapter - Balance Sheetthe original event. This approach was adopted by current US GAAP because occur in2 any period after I ncomdifficulty e Statement, Stat em ent Chan ges in Equitlocation y, and Statem entthat are affected possibly of the presumed of identifying theoforiginal reporting of items Chapter 3 of changing Recognized Gains and Losses solution was to require all such effects to be reported in years later by rates; the expedient Chapter - Cash allocated Flow St at em ent the tax 4provision to continuing operations. Chapter 5 - Financial I nstr uments—Cash and Receiv ables

Example allocation using the with-and-without approach Chapter 6 of - I intraperiod nventor y Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Assume that there were $50,000 in deductible temporary differences at 12/31/02; these remain - Property , Plant , and Equipment unchanged during the current year, 2003.

Chapter 8 Chapter 9

- I ntangi ble Asset s

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10from Income continuing $400,000 I nvestm ent Properations oper ty Chapter 11 - discontinued Business Combinations ed Fin ancial Statements Loss from operationsand Consolidat(120,000) Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 Extraordinary gain on involuntary conversion 60,000 Balance Sheet Date Chapter 13 - Financial I nstr uments—LongTer m Debt(20,000) Correction of fundamental error: Chapter 14 - Leases

understatement of depreciation in Chapter 15 - I ncom e Taxes 2002

Chapter 16 - Em ploy ee Benefit s Chapter Tax credits 17 - Stock holder s' Equit y

5,000

Chapter 18 - Earnings Per Share

Tax rates 15% on first $100,000 Chapter 19 are: - I nterim Financial Repor tingof taxable income; 20% on next $100,000; 25% on next $100,000; 30% thereafter. Chapter 20 - Segm ent Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Expected future tax rates were 20% at December 31, 2002, but are judged to be 28% at December 31,

Chapter 2003. 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures

Retained at December Chapter 24 earnings - Specialized I ndustr ies31, 2002, totaled $650,000. Chapter 25 - I nflation and Hyperinflation

Intraperiod tax allocation proceeds as follows:

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

Step 1—

Tax on total taxable income of $320,000 ($400,000 - $120,000 + $60,000 -$20,000) is $61,000 ($66,000 based on rate structure, less tax credit of $5,000).

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Step I ndex

Tax on income from continuing operations of $400,000 is $85,000, net of tax credit. 2 — List of Tables ListStep of Ex hibits Ex am ples$24,000, is allocated pro rata to discontinued operations, extraordinary Theand difference, List3 of s and correction of the error in prior year depreciation. —Sidebar gain,

Step 4—

Adjustment of the deferred tax asset, amounting to a $4,000 increase due to an effective tax rate estimate change [$50,000 x (.28 - .20)] is allocated to continuing operations, regardless of the source of the temporary difference.

A summary combined income and retained earnings statement is presented below.

Income from continuing operations, before income taxes

$400,000

Income taxes on income from continuing operations: Current

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds $90,000 by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Deferred Mir za

(4,000)

John Wi ley & Sons © 2003 (952 pages)

Tax credits This com pact and t ruly com pr ehensive qui ck - refer ence(5,000) pr esent s account ants with a guide to depend on for

Income from continuing operations, net at ion and under standing of financial assistance in the prepar statements present ed in accordance with I AS.

Loss from discontinued operations, net of tax benefit of $36,000 T abExtraordinary le of Con t en tgain, s net of tax of $18,000 Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Net income Standar ds Preface Retained earnings, January 1, 2003 Chapter 1 - I ntr oduction to I nter national Accounting Standar ds

Correction of fundamental error, net of tax effects of $6,000

Chapter 2

- Balance Sheet

81,000 319,000 (84,000) 42,000 277,000 650,000 (14,000)

Retained earnings, December Stat 31, em 2003 I ncom e Statement, ent of Chan ges in Equit y, and Statem ent $913,000 -

Chapter 3 Chapter 4

of Recognized Gains and Losses

- Cash Flow St at em ent

Chapter 5 - Financial I nstr uments—Cash and Receiv ables Applicability to international accounting standards. Chapter 6

- I nventor y Since IAS is enue silentRecogni on the tion, method to be used touction compute the Chapter 7 -12 Rev I ncluding Constr Contr acttax s effects of individual captions in the

statement income, and statement of retained earnings, financial statement preparers have the Chapter 8 -ofProperty Plantthe , and Equipment option of essentially Chapter 9 using - I ntangi ble Assetaswith-and-without or blended rate approach. Both can be rationalized from either practical or theoretical perspectives. blended I nterests in Financial Instr um entThe s, Associat es,rate Jointmethod Venturwould es, andclearly be easier to apply, Chapter 10 -one set of computations using progressive tax rates would be needed. The blended rate since only I nvestm ent Pr oper ty method11 also avoids the implication and that Consolidat items other income from continuing operations Chapter - Business Combinations ed than Fin ancial Statements representedCurr the ent "lastLiabilit dollars" since theingencies, rates applicable to those would not be the highest ies, earned, Prov isions, Cont and Ev ents after items t he marginal rates. On the other hand, the with-and-without method averts the situation where the blended Balance Sheet Date rate applied to income from continuing operations Chapter 13 - Financial I nstr uments—LongTer m Debtis subject to wide variation due simply to the occasional of extraordinary and other unusual items. Chapter 14 - existence Leases Chapter 12 -

Chapter 15 - I ncom e Taxes

On balance, and given the lack of a prescribed methodology in IAS 12, the authors slightly favor the blended rate approach. Whichever methodology is employed, however, it is vital that the notes to the Chapter 17 - Stock holder s' Equit y financial statements clearly describe how the computation was made and disclose the tax effects of the Chapter - Earnings presented. Per Share IAS 12 does, however, permit the tax effects of all extraordinary items various18 components Chapter 19 - I nterim Financial Repor ting to be presented in one amount, if computation of each extraordinary item is not readily accomplished. Chapter 16 - Em ploy ee Benefit s

Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

Classification of Deferred Taxes

Chapter 22 - For eign Curr ency

Chapter 23 - surprisingly, Related- Part IAS y Disclosures Somewhat 12 states that should the reporting entity classify its balance sheet (into Chapter 24 Specialized I ndustr ies current and noncurrent assets and liabilities), deferred tax assets and liabilities may never be included Chapter 25 - I nflation andWhile Hyperinflation in the current category. not articulated in the standard, presumably the anticipated difficulties of Chapter 26 -the Gov er nm ent Gr an ts assessing amount and pattern of temporary difference reversals led to this decision. Arguably, the Appendix extent ofAany - Direquired sclosure scheduling Checklist would have been rather limited, since the only concern would have

been to assess whether the expected would occur before or after the one-year threshold. Appendix B - I llustrativ e Financial St atemreversals ent s Pr esent ed Under I AS However, established a clear prohibition, 12 is undeniably easier to apply. Appendix C having - Com parison of I AS, US GAAP, and UK IAS GAAP I ndex

Deferred tax assets pertaining to certain tax jurisdictions may be fully or partially recognizable, while those pertaining to others may not be recognized at all, based on the circumstances. Applying IAS 12's List of Ex hibits and Ex am ples "probable" criterion to the expected timing and availability of taxable temporary differences and other List of Sidebar s items entering into the computation of taxable profit in each jurisdiction is necessary to make these determinations. List of Tables

Tax assets and liabilities may never be offset in the balance sheet, except to the extent that they pertain to taxes levied by the same taxing authority. This follows from the fact that amounts due to or from independent taxing bodies would not be subject to offsetting in practice. Finally, when entities included in consolidated financial statements are taxed separately, a tax asset recognized by one member of the group should not be offset against a liability recognized by another

member of the same group, unless a legal right of offset exists. For example, in some jurisdictions the tax loss carryforward of an acquired affiliate entity cannot be used to reduce taxable profit of another member of the group, tax In such a case, the deferred W ile yeven I AS if2 consolidated 0 03 : I n t erp re t atreturns ion an dare Apbeing p licatprepared. io n o f tax asset recognized in connection with the tax loss carryforward cannot be offset against a deferred I n t er n at ion al Accou n t in g St an d ar ds tax liability of another member of the consolidated group. Further, in evaluating whether realization of ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali the tax asset is probable, Mir za the existence of the tax liability could not be considered. John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence Financial Statement Disclosures pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial

IAS 12 mandatesstatements a number of disclosures, including with someI AS. which have not been required under earlier present ed in accordance practice. The purpose of these disclosures is to provide the user with an understanding of the T ab le of Con t en ts relationship between accounting profit and the related tax effects, as well as to aid in predicting future Wiley AS 20 03—Int er pretation and nternational Account ing cashI inflows or outflows related toApplication tax effects of of Iassets and liabilities already reflected in the balance Standar sheet. ds Newly imposed disclosures are intended to provide greater insight into the relationship between Preface deferred tax assets and liabilities recognized, the related tax expense or benefit recognized in earnings, Chapter - I ntr oduction to Iof nter national ds resulting in those items. There is also and the1underlying natures the relatedAccounting temporary Standar differences Chapter 2 Balance Sheet enhanced disclosure for discontinued operations under IAS 12. Finally, when deferred tax assets are given recognition I ncomunder e Statement, definedStat conditions, em ent ofthere Chan will ges be in Equit disclosure y, and of Statem the nature ent of the evidence Chapter 3 of Recognized Gains and disclosures Losses supporting recognition. The specific are presented in the following paragraphs in greater Chapter detail. 4 - Cash Flow St at em ent Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Balance Chapter 6 - sheet I nventordisclosures. y Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

A reporting- entity is required to disclose the amount of a deferred tax asset and the nature of evidence Property , Plant , and Equipment supporting its recognition, when

Chapter 8 Chapter 9

- I ntangi ble Asset s

1. Utilization of the future taxable profits in excess of the profits I nterests in deferred Financial tax Instrasset um entiss,dependent Associat es,on Joint Ventur es, and Chapter 10 arising I nvestm from the ent reversal Pr oper ty of the existing taxable temporary differences; and Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

2. The enterprise has suffered a loss in the same tax jurisdiction to which the deferred tax assets

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter relate 12 - in either the current or preceding period. Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Income statement disclosures.

Chapter 14 - Leases

Chapter 15 - I ncom e Taxes

IAS 12 places primary emphasis on disclosure of the components of income tax expense or benefit.

Chapter 16 - Eminformation ploy ee Benefit s be disclosed about the components of tax expense for each year for The following must Chapter 17 income - Stock holder s' Equit y which an statement is presented. Chapter 18 - Earnings Per Share

The components of Financial tax expense orting benefit, which may include some or all of the following: Chapter 19 - I nterim Repor Chapter 20 - Segm Repor ting 1. Current taxent expense or benefit Chapter 21 - Accounting Changes and Cor rection of Er ror s

2. Any recognized in the current period for taxes of prior periods Chapter 22 - adjustments For eign Curr ency Chapter 23 - Related- Part y Disclosures

3. The amount of deferred tax expense or benefit relating to the origination and reversal of temporary differences

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation Chapter 4. The 26 - amount Gov er nmofent deferred Gr an ts tax expense or benefit relating to changes in tax rates or the imposition

taxes Checklist AppendixofAnew - Di sclosure Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

5. The amount of the tax benefit arising from a previously unrecognized tax loss, tax credit, or temporary difference of a prior period that is used to reduce current period tax expense

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

List of 6. Tables The amount of the tax benefit from a previously unrecognized tax loss, tax credit, or temporary List of Exdifference hibits and of Ex a amprior ples period that is used to reduce deferred tax expense List of Sidebar s

7. Deferred tax expense arising from the write-down of a deferred tax asset because it is no longer deemed probable of realization 8. The amount of tax expense relating to changes in accounting policies and fundamental errors accounted for in accordance with the allowed alternative treatment stipulated by IAS 8 (i.e., by inclusion in income of the current period) In addition to the foregoing, IAS 12 also requires that disclosures be made of the following items which

are to be separately stated: 1. The aggregate current and deferred tax relating to items that are charged or credited to equity W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

2. Tax expense related toalextraordinary during the period I n t er n at ion Accou n t in g items St an drecognized ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

3. The relationship Mir za between tax expense or benefit and accounting profit or loss either (or both) as John Wi leyreconciliation & Sons © 2003between (952 pages) a. A numerical tax expense or benefit and the product of accounting profit or com losspact times the applicable tax rate(s), disclosure of how the rate(s) was This and t ruly com pr ehensive qui ckwith - refer ence pr esent s account ants with a guide to depend on for determined; or assistance in the prepar at ion and under standing of financial

statements present ed inbetween accordance I AS. effective tax rate and applicable rate, b. A numerical reconciliation the with average T ab le of Con t enalso t s with disclosure of how the applicable rate was determined Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing 4. An explanation of changes in the applicable rate vs. the prior reporting period Standar ds Preface 5. The amount and date of expiration of unrecognized tax assets relating to deductible temporary Chapter differences, 1 - I ntr oduction to I nter national Accounting Standar ds tax losses and tax credits Chapter 2

- Balance Sheet

6. The aggregate amount ofStat any differences to investments in subsidiaries, I ncom e Statement, emtemporary ent of Chan ges in Equitrelating y, and Statem ent Chapter 3 of Recognized Gains and branches, and associates andLosses interests in joint ventures for which deferred liabilities have not Chapter been 4 - Cash recognized Flow St at em ent Chapter 5

- Financial I nstr uments—Cash and Receiv ables

type of temporary difference, including unused tax losses and credits, disclosure of 7. For -each I nventor y The amount of tion, the deferred assets andContr liabilities Chapter 7 a. - Rev enue Recogni I ncludingtax Constr uction act s included in each balance sheet presented; Chapter 8 - Property , Plantand , and Equipment Chapter 6

Chapter 9

- I ntangi ble Asset s

b. The amount of deferred income or expense recognized in the income statement, if not I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - otherwise apparent from changes in the balance sheets I nvestm ent Pr oper ty Chapter 11 - Business Combinations and Consolidat ed Finofancial Statements 8. Regarding discontinued operations, disclosure the tax expense or benefit related to Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 a. - The gain or loss on discontinuance; and Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt

b. The profit or loss from the ordinary activities of the discontinued operation for the period and all prior periods presented.

Chapter 14 - Leases

Chapter 15 - I ncom e Taxes Chapter Finally,16 in a- new Em ploy requirement, ee Benefit s disclosure must be made of the amount of deferred tax asset and the

evidence its s'presentation in the balance sheet, when both these conditions exist: Utilization Chapter 17 supporting - Stock holder Equit y is dependent upon future profitability beyond that assured by the future reversal of taxable temporary Chapter 18 - Earnings Per Share differences, theFinancial enterprise hasting suffered a loss in either the current period or the preceding period Chapter 19 - Iand nterim Repor in the jurisdiction Chapter 20 - Segm to entwhich Reporthe tingdeferred tax asset relates. Chapter 21 - Accounting Changes and Cor rection of Er ror s

Examples of informative disclosures about income tax expense

Chapter 22 - For eign Curr ency

Chapter 23 - RelatedPart y Disclosures The disclosure requirements imposed by IAS 12 are extensive and in some instances complicated. The Chapter 24 Specialized I ndustr following examples have been ies adapted from the standard itself, with some modifications. Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Note Income tax expense

Appendix A - Di sclosure Checklist

Appendix B - I llustrativ Financial St atem s Pr esent ed are Under I AS Major components of ethe provisions for ent income taxes as follows: Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables

tax expense ListCurrent of Ex hibits and Ex am ples ListDeferred of Sidebar taxs expense (benefit), relating to the origination and reversal of

2002

2003

$75,500

$82,450

12,300

(16,275)

--

7,600

$87,800

$73,775

temporary differences Effect on previously provided deferred tax assets and liabilities resulting from increase in statutory tax rates Total tax provision for the period

The aggregate current and deferred income tax expense (benefit) which was charged (credited) to stockholder's equity for the periods

2002

2003

W ileto y correction I AS 2 0 03 :ofI nfundamental t erp re t at ionerror an d Ap$(5,200) p licat io n o f Current tax, related I n t er n at ion al Accou n t in g St an d ar ds

Deferred tax, related of investments by Bartor yrevaluation J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

Total

$--

-45,000 ISBN:0471227366 $(5,200)

$45,000

This com pact and t rulyand comaccounting pr ehensive profit qui ck -is refer ence The relationship between tax expense explained by the following reconciliations: pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Note Only one required.

T ab le of Con t en t s

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface

Accounting profit

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Tax at2statutory rateSheet (43% in 2002; 49% in 2003) Chapter - Balance

2002

2003

$167,907

$132,398

$ 72,200

$ 64,875

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Tax effect Chapter 3 - of expenses which are not deductible: of Recognized Gains and Losses

contributions Chapter 4Charitable - Cash Flow St at em ent Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

600

1,300

15,000

Civil fines imposed on the entity

Effect 7on -previously provided deferred tax Constr assetsuction and liabilities Chapter Rev enue Recogni tion, I ncluding Contr act resulting s

--

7,600

from increase in statutory Chapter 8 - Property , Plant , rates and Equipment Chapter 9 provision - I ntangi ble s Total tax forAsset the period Chapter 10 -

$87,800

$73,775

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

%

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Statutory tax rate Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt

2002

2003

43.0

49.0

0.4

1.0

8.9

--

--

5.7

52.3

55.7

Chapter 12 -

Tax effect of expenses which are not deductible:

Chapter 14 - Leases

Chapter 15 - I ncom econtributions Taxes Charitable Chapter 16 - Em ploy ee Benefit s

Civil finesholder imposed on ythe entity Chapter 17 - Stock s' Equit Chapter Earnings Per Share deferred tax assets and liabilities resulting from Effect 18 on -previously provided Chapter 19 in - I statutory nterim Financial increase rates Repor ting Chapter 20 - Segm ent Repor ting

Total tax provision for the period

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter - For eign Curr ency In 2003,22the federal government imposed a 14% surcharge on the income tax. which has affected 2003 Chapter Related- Part y Disclosures current23 tax- expense as well as the recorded amounts of deferred tax assets and liabilities, since when Chapter 24 - Specialized I ndustr ies these benefits are ultimately received or settled, the new higher tax rates will be applicable. Chapter 25 - I nflation and Hyperinflation

Deferred assets liabilities included in the accompanying balance sheets as of December 31, Chapter 26tax - Gov er nmand ent Gr an ts 2002 and 2003 are as follows, as classified by categories of temporary differences:

Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex Accelerated depreciation tor tax purposes List of Tables

Liabilities for postretirement health care that are deductible only when paid

List of Ex hibits and Ex am ples

development costs deducted from taxable profits in prior years ListProduct of Sidebar s Revaluation of fixed assets, net of accumulated depreciation Deferred tax liability, net

2002

2003

$26,890

$22,300

(15,675)

(19,420)

2,500

--

--

2,160

$13,715

$5,040

W ile y I AS 2 0 03 : I for n t erpIncome re t at ion an d Ap p licatin io n Interim of Appendix: Accounting Taxes Periods I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

Interim Reporting Mir za

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages)

IAS 34, Interim Financial Reporting, established new requirements for interim reporting, while not making the This com pact and t ruly com pr ehensive qui ck - refer ence reporting of interim results mandatory. While the DSOP preceding pr esent s account ants with a guide to depend on forthis standard's promulgation essentially endorsed a discrete approach (applying measurement to financial each interim period on a stand-alone bas assistance in the prepar at ion and underprinciples standing of ed in mix accordance with I AS. the final standardstatements representspresent a judicious of integral and discrete viewpoints. As noted in the main body o chapter, IAS 34 adopts an integral viewpoint with regard to income tax expense, as indeed was necessitated T ab le of Con t en t s the fact that taxing authorities almost universally apply their requirements to a full year, taken as a whole, wit Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing attempt Standar dsat interim measurement of results of operations. Preface

In this appendix, supplementary guidance is offered, largely based on US GAAP, to assist in applying the - I ntr oduction to I nter national Accounting Standar ds principles of income tax accounting set forth in IAS 12 to interim periods when the enterprise elects (or is req Chapter 2 - Balance Sheet by local law) to report on such as basis. This guidance should be understood as being illustrative rather than I ncom eshould Statement, Stat em ent of Chan ges in Equit y, and Statem ent authoritative. Care be taken in particular regarding areas of financial reporting which are guided by Chapter 3 of Recognized Gains and Losses recently issued or revised international accounting standards (such as that for discontinuing operations). Chapter 1

Chapter 4

- Cash Flow St at em ent

Chapter 5 - Financial I nstr and Receiv ables The general consensus isuments—Cash that the appropriate perspective for interim period reporting is to view the interim p Chapter 6 - I nventor as an integral part ofythe year rather than as a discrete period. For purposes of computing income tax provisi

this objective is enue usually achieved projecting income the act fullsannual period, computing the tax thereon, a Chapter 7 - Rev Recogni tion, by I ncluding Constr uctionfor Contr applying effective, Plant rate ,toand theEquipment interim period income or loss, with quarterly (or monthly) revisions to the Chapter 8 the - Property expected results ands the tax effects thereof, as necessary. Chapter 9 annual - I ntangi ble Asset I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 Notwithstanding thisent general however, there are certain complexities that arise only in the context o I nvestm Pr operprinciple, ty

interim financial reporting. Included in this group of issues are (1) recognizing the tax benefits of losses base expected earnings of later interim or annual periods, (2) reporting the benefits of net operating loss carryforw Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 periods, in interim (3) reporting the effects of tax law changes in interim periods. Other matters requiring Balanceand Sheet Date interpretation include the classification ofTer deferred Chapter 13 - Financial I nstr uments—Longm Debt taxes on interim balance sheets and the allocation of inter period tax provisions between current and deferred expense. Chapter 14 - Leases Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 15 - I ncom e Taxes

Basic example of interim period accounting for income taxes

Chapter 16 - Em ploy ee Benefit s Chapter - Stock holder s' Equit y that accounting profit for the full fiscal year ending June 30, 2003, will be Andorra17Woolens, Inc. estimates Chapter 18 -The Earnings Per Share $400,000. company expects amortization of goodwill for the year to be $30,000, the annual premium on Chapter officer's19life- insurance I nterim Financial policy is Repor $12,000, ting and dividend income (from a less than 20% ownership interest) is

expected be $100,000. Chapter 20 to - Segm ent ReporUnder ting pertinent tax rules, goodwill is not amortizable and premiums paid on officer life insurance is not an expense. Furthermore, is sa dividends received deduction of 70% for intercorpor Chapter 21 - Accounting Changes and Cor rection there of Er ror investments of eign underCurr 20%. Chapter 22 - For ency Chapter 23 - Related- Part y Disclosures

The company recognized income of $75,000 in the first quarter of the year. The deferred tax liability arises so in connection with depreciation temporary differences; these differences totaled $150,000 at the beginning o Chapter 25 - I nflation and Hyperinflation year and are projected to equal $280,000 at year-end. The effective rate expected to apply to the reversal at Chapter 26 - Govand er nmyear-end ent Gr an is ts 34%. The change in the taxable temporary difference during the current inter year beginning Appendix A Di sclosure Checklist period is $30,000. Chapter 24 - Specialized I ndustr ies

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Andorra CWoolens must first calculate its estimated effective income tax rate for the year. This rate is comput Appendix - Com parison of I AS, US GAAP, and UK GAAP using all the tax planning alternatives available to the company (e.g., tax credits, foreign rates, capital gains I ndex rates, etc.). List of Tables List of Ex hibits and Ex am ples List of Sidebar s

Estimated pretax accounting income

$ 400,000

Permanent differences:

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Add: Nondeductible officer's life insurance premium

ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za Nondeductible organization costs John Wi ley &amortization Sons © 2003 of (952 pages)

$12,000 30,000

42,000 442,000

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion($100,000 and underxstanding Less: Dividends received deduction 70%) of financial statements present ed in accordance with I AS.

(70,000)

Estimated book taxable income T ab le of Con t en t s

Change in taxable Wiley I AS Less: 20 03—Int er pretation andtemporary Applicationdifference of I nternational Account ing Standar ds Estimated taxable income for the year

Preface

372,000 (130,000) $ 242,000

Tax on1 estimated taxable (see below) Chapter - I ntr oduction to income I nter national Accounting Standar ds Chapter 2 tax - Balance Effective rate forSheet current tax provision [$70,530/($400,000 - $130,000)] I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of Recognized Gains and Losses Chapter 4

Tax rate schedule - Cash Flow St at em ent

$ 70,530 26.1%

Taxable

Chapter 5 - Financial I nstr uments—Cash Receiv ablesTax At least Not more than Rate and income Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

$ --

$50,000

$ 50,000

$ 7,500

50,000 75,000 25% 25,000 Chapter 8 - Property , Plant , and Equipment

6,250

Chapter 9 - I ntangi ble Asset-s 75,000 Chapter 10 -

15%

34%

167,000

56,780

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and $70,530 I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

The deferred tax provision for the interim period should be based on the actual change in the temporary

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 -(depreciation, in this example) during the interim period. In this case the depreciation temporary difference Balance Sheet Date

difference by $30,000 during the period, and the expected tax rate that will apply to the reversal, in futu Chapter 13 -grew Financial I nstr uments—LongTer m Debt years, is the marginal rate of 34%. Accordingly, the tax provision for the period is as follows:

Chapter 14 - Leases

Chapter 15 - I ncom e Taxes

Ordinary interim period Chapter 16 income - Em ployfor eethe Benefit s

$75,000 30,000

Chapter 17 - Stock holder s' Equit y

Less: Change in temporary difference

Chapter 18 - Earnings Per Share

Net ordinary income Chapter 19 - I nterim Financial Repor ting

45,000

Chapter 20 - Segm ent Repor ting Applicable tax rate

26.1%

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Current tax provision

Chapter 22 - For eign Curr ency

Tax effect temporary ($30,000 x 34%) Chapter 23 - of RelatedPart ydifference Disclosures Chapter 24 - Specialized I ndustr ies Total provision

$11,755 10,200 $21,955

Chapter 25 - I nflation and Hyperinflation

Therefore, Chapter 26 -the Goventry er nmnecessary ent Gr an ts to record the income tax expense at the end of the first quarter is as follows: Appendix A - Di sclosure Checklist

IncomeBtax 21,955 Appendix - I expense llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP 11,755 Income taxes I ndex

payable—current

List of Tables

List of Ex hibits and tax Ex am ples Deferred liability

10,200

List of Sidebar s

The financial statement presentation would remain the same as has been illustrated in prior examples. In the second quarter, Andorra Woolens, Inc. revises its estimate of income for the full fiscal year. It now anticipates only $210,000 of book income, including only $75,000 of dividend income, because of dramatic changes in the national economy. Other permanent differences are still expected to total $42,000.

Estimated pretax accounting income

$210,000

Permanent differences:

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds $12,000

Add: Nondeductible officer's life insurance by Bar r y J. Epstein and Abbas Ali premiumMir za

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages) Nondeductible amortization of organization costs

30,000

42,000

This com pact and t ruly com pr ehensive qui ck - refer ence 252,000 pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial (52,500) Less: Dividends received deduction ($75,000with x I AS. statements present ed in accordance

70%)

T ab le of Con t en t s

Estimated book taxable income Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface

Less: Change in taxable temporary difference

199,500 (130,000)

Chapter 1 - taxable I ntr oduction to Ifor nterthe national Estimated income year Accounting Standar ds

$69,500

Chapter 2

$12,375

- Balance Sheet

Tax on estimated taxable income see below)

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Effective tax for current tax provision of rate Recognized Gains and Losses

Chapter 3

-

Chapter 4

- Cash Flow St at em ent [$12,375/($210,000 - $130,00)]

15.5%

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Tax rate schedule

Chapter 8 - Property , Plant , and Equipment At least Not more than Rate Taxable income Chapter 9 - I ntangi ble Asset s

$ --

Chapter 10 -

50,000

$50,000

15%

$ 50,000

Tax $ 7,500

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent75,000 Pr oper ty 25% 19,500 4,875

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

$12,375

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

The actual earnings for the second quarter were $22,000, and the change in the temporary difference was on $10,000. The tax provision for the second quarter is computed as follows:

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes

Ordinary income for the half year

$97,000

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holderin s' temporary Equit y Less: Change difference Chapter 18 - Earnings Per Share

Net ordinary income

Chapter 19 - I nterim Financial Repor ting

Applicable tax rate Chapter 20 - Segm ent Repor ting

40,000 57,000 15.5%

Chapter 21tax - Accounting Current provision Changes and Cor rection of Er ror s $ 8,835 Chapter 22 - For eign Curr ency

Tax effect of temporary difference ($40,000 x 34%)

Chapter 23 - Related- Part y Disclosures

Total provision Chapter 24 - Specialized I ndustr ies

13,600

$22,435

Chapter 25 - I nflation and Hyperinflation

Under the general principle that changes in estimate are reported prospectively, the results of prior quarters not restated for changes in the estimated effective annual tax rate. Given the provision for current and deferr Appendix A - Di sclosure Checklist income taxes that was made in the first interim period, shown above, the following entry is required to record Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS income taxes as of the end of the second quarter: Chapter 26 - Gov er nm ent Gr an ts

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Income tax expense

List of Tables

taxesand payable—current ListIncome of Ex hibits Ex am ples List of Sidebar s

Deferred tax liability

480 2,920 3,400

The foregoing illustrates the basic problems encountered in applying the promulgated GAAP to interim repor In the following paragraphs, we discuss some items requiring modifications to the approach described above

Net Operating Losses in Interim Periods

The tax effects of operating losses are treated no differently than any other temporary differences; if probable being realized, the tax effects are reflected as deferred tax benefits in the period the loss is incurred. If not deemed probable, tax effects if the changes in a later period, the Wno ile y I AS 2 0 03are : I nrecognized; t erp re t at ion an destimation Ap p licat ioofn realizability of deferred tax benefit is then recorded, with the offset being included in current period tax expense. However, I n t er n at ion al Accou n t in g St an d ar ds the desire to treatbyinterim periods as integral parts of the annual period of which they are a component, the ISBN:0471227366 Bar r y J. Epstein and Abbas Ali Mir zaof net operating losses raises a number of issues. These include (1) calculation of the accounting treatment expected annual John tax rate for &purposes of interim period income tax provisions and (2) recognition of an asset Wi ley Sons © 2003 (952 pages) the tax effects of This a loss carryforward. com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for and under standing of financial statements present ed in accordance with I AS.

in theyears. prepar at ion Carryforwardassistance from prior

Loss carryforward benefits from prior years first given recognition (i.e., by recordation of a deferred tax benef when none had been recognized in the period the loss was incurred) in interim periods are included in the Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing ordinary Standar ds tax provision. Common practice is to compute the expected annual effective tax rate on ordinary in at each interim reporting date, and use this rate to provide income taxes on ordinary income on a cumulative Preface basis at each interim date. The tax effects of extraordinary items, discontinued operations, and other Chapter 1 - I ntr oduction to I nter national Accounting Standar ds nonoperating categories were excluded from this computation: those tax effects are typically separately Chapter 2 - Balance Sheet determined on a with-and-without basis, as explained later in this appendix.

T ab le of Con t en t s

Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Recognition of a previously unrecognized tax benefit should be included as a credit in the tax provision of the Chapter 4 - Cash Flow St at em ent interim period when there is a reevaluation of the likelihood of future tax benefits being realized. Similarly, a Chapter 5 of - Financial I nstrtax uments—Cash and Receiv reduction the deferred benefit resulting from ables a revised judgment that the benefits are not probable of b Chapter 6 I nventor y realized would cause a catch-up adjustment to he included in the current interim period's ordinary tax provisi Chapter - Rev enue tion, uction Contr act s by means of the effective tax rate estima In either7 situation, theRecogni effect is notI ncluding prorated Constr to future interim periods Chapter 8 Property , Plant , and Equipment To illustrate, consider the following example. Chapter 9

- I ntangi ble Asset s

Example ofI carryforward from prior years nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 -

I nvestm ent Pr oper ty Dacca Corporation a previouslyand unrecognized net operating loss carryforward; a flat 40% tax ra Chapter 11 - Businesshas Combinations Consolidat ed$50,000 Fin ancial Statements

current and Curr future is assumed. Income for the fulland year (before NOL) entperiods Liabilit ies, Prov isions, Cont ingencies, Ev ents after t he is projected to be $80,000: in th first quarter Balance a pretaxSheet loss ofDate $10,000 will be reported.

Chapter 12 -

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter Projected 14 - annual Leases income

$80,000

Chapter 15 - I ncom e Taxes

40%

x Tax rate

Chapter 16 - Em ploy ee Benefit s

Projected liability $32,000 Chapter 17 -tax Stock holder s' Equit y Chapter 18 - Earnings Per Share

Accordingly, in the income statement for the first fiscal quarter, the pretax operating loss of $10,000 will give to a tax benefit of $10,000 x 40% = $4,000.

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

Chapter 21 - aAccounting and ($50,000 Cor rectionloss of Er ror s In addition, tax benefitChanges of $20,000 carryforward x 40%) is given recognition and is included in current22 interim period taxency provision relating to continuing operations. Thus, total tax benefit for the first fiscal Chapter - For eign Curr

quarter23 will- be $24,000 $4,000 + $20,000). Chapter RelatedPart(= y Disclosures Chapter 24 - Specialized I ndustr ies

If Dacca's second quarter results in a pretax operating income of $30,000, and the expectation for the full ye remains unchanged (i.e., operating income of $80,000), the second quarter tax provision is $12,000 ($30,000 Chapter 26 - Gov er nm ent Gr an ts 40%). Chapter 25 - I nflation and Hyperinflation Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent Under Iof AS$12,000, as follows: The tax provision for the fiscal first half-year will be ed a benefit Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex Cumulative pretax income through second quarter ($30,000 - $10,000) List of Tables

x Effective rate

List of Ex hibits and Ex am ples

$ 20,000 40%

provision ListTax of Sidebar s before recognition of NOI, carryforward benefit

$ 8,000

Benefit of NOL carryforward first recognized in first quarter

(20,000)

Total tax provision (benefit)

$(12,000)

The foregoing example assumes that during the first quarter, Dacca's judgment changed as to the full realiza of the previously unrecognized benefit of the $50,000 loss carryforward. Were this not the case, however, th benefit would have been recognized only as actual tax liabilities were incurred (through current period earnin in amounts to offset the NOL benefit.

To illustrate the latter situation, assume the same facts about earnings for the first two quarters, and assume that Dacca's judgment about realizability of prior period NOL does not change. Tax provisions for the first qua and first half are as follows: W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali Mir za Pretax income (loss) John Wi ley & Sons © 2003 (952 pages)

First quarter

First half-year

$(l0,000)

$20.000

x Effective rate This com pact and t ruly com pr ehensive qui ck - refer ence 40% pr esent s account ants with a guide to depend on for assistance in the prepar ion and underbenefit standing of financial Tax provision before recognition of NOLatcarryforward $ (4,000) statements present ed in accordance with I AS.

40%

Benefit of NOL carryforward recognized T ab le of Con t en t s

Tax provision (benefit)

$ 8,000

0

(8,000)

$ (4,000)

$0

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Notice that recognition of a tax benefit of $4,000 in the first quarter is based on the expectation of at least a breakeven full year's results. That is, the benefit of the first quarter's loss was deemed probable of realization Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Otherwise, no tax benefit would have been reported in the first quarter. Preface

Chapter 2

- Balance Sheet

Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Estimated loss for the year. - Cash Flow St at em ent

Chapter 4

Chapter 5 full - Financial nstr uments—Cash and Receiv ables When the year is Iexpected to be profitable, it will be irrelevant that one or more interim periods results in Chapter 6 I nventor y loss, and the expected effective rate for the full year should be used to record interim period tax benefits, as Chapter 7 above. - Rev enue Recogniwhen tion, Ithe ncluding Constr uction Contr act s illustrated However, full year is expected to produce a loss, computation of the expected an Chapter 8 Property , Plant , and Equipment tax benefit rate must logically take into account the extent to which a deferred tax asset will be recordable at Chapter 9 For - I ntangi ble set Asset year-end. the first ofsexamples, below, assume that the realization of tax benefits related to operating carryforwards I nterests are not inentirely Financial probable. Instr umThat ent s,is, Associat only aes, portion Joint of Ventur the benefits es, and will be recognized. Chapter 10 I nvestm ent Pr oper ty

For each the following examplesand we assume that L'avventura Corporation is anticipating a loss for the Chapter 11 of - Business Combinations Consolidat ed the Fin ancial Statements fiscal year ofCurr $150,000. A deferred tax liability of $30,000and is currently recorded ent Liabilit ies, Prov isions, Cont ingencies, Ev ents after t he on the company's books; all o credits will reverse the fifteen-year carryforward period permitted by applicable tax law. Assume that future BalanceinSheet Date taxes will at a 40%I nstr rate. Chapter 13 be - Financial uments—Long- Ter m Debt Chapter 12 -

Chapter 14 - Leases

Example 1

Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s

Assume that the company can carry back the entire $150,000 to the preceding three years. The tax potential refundable by the carryback would (remember, this is only an estimate until year-end) amount to $48,000 (an Chapter 18 amount). - Earnings Pereffective Share rate is then 32% ($48,000/$150,000). assumed The Chapter 17 - Stock holder s' Equit y

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

Ordinary income (loss)

Tax (benefit) expense

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Reporting Reporting Chapter 22 - For eign Curr ency period Chapter 23 - Related- Part yperiod Disclosures

Year-todate

Chapter 24qtr. - Specialized I ndustr ies 1st $ (50,000) $ (50,000) Chapter 25 - I nflation and Hyperinflation

2nd qtr.

Year-todate

Less previously provided

Reporting period

$(16,000)

$ --

$(16,000)

20,000

(30,000)

(9,600)

(16,000)

6,400

3rdAqtr. (70,000) Appendix - Di sclosure Checklist

(100,000)

(32,000)

(9,600)

(22,400)

Appendix - I llustrativ e Financial St atem ent s Pr esent ed Under I AS 4thBqtr. (50,000) (150,000) (48,000)

(32,000)

(16,000)

Chapter 26 - Gov er nm ent Gr an ts

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Fiscal year

I ndex

$(150,000)

$(48,000)

List of Tables

Note that both the income tax expense (2nd quarter) and benefit are computed using the estimated annual effective rate. This rate is applied to the year-to-date numbers just as in the previous examples, with any List of Sidebarbeing s adjustment made and realized in the current reporting period. This treatment is appropriate because th accrual of tax benefits in the first, third, and fourth quarters is consistent with the effective rate estimated at t beginning of the year; in contrast to those circumstances in which a change in estimate is made in a quarter relating to the realizability of tax benefits not provided previously (or provided for only partially). List of Ex hibits and Ex am ples

Example 2 In this case assume that L'avventura Corporation can carry back only $50,000 of the loss and that the remain

must be carried forward. Realization of income to offset the loss is not deemed to be probable. The estimate carryback of $50,000 would generate a tax refund of $12,000 (again assumed). The company is assumed to in the 40% tax bracket flat2rate the example). The W ile y (a I AS 0 03 :isI used n t erpto re tsimplify at ion an d Ap p licat io n o f benefit of the operating loss carryforw is recognized onlyI ntot erthe extent that it is deemed to be probable of realization. In this example, management n at ion al Accou n t in g St an d ar ds concluded that only one-fourth of the gross benefit will be realized in future years. Accordingly, only $10,000 ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali estimated tax benefit Mir zarelated to the carryforward of the projected loss is recordable. Considered in conjunctio with the carrybackJohn of $12,000, Wi ley & Sons the company © 2003 (952will pages) obtain a $22,000 tax benefit relating to the projected current loss, for an effective rate of 14.7%. The calculation of the estimated annual effective rate is as fol Thistax combenefit pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial

Expected net loss statements present ed in accordance with I AS. Tax benefit from carryback

$150,000

$12,000

T ab le of Con t en t s

$40,000 Wiley I AS Benefit 20 03—Int pretation and Application of I nternational Account ing of er carryforward ($100,000 x 40%) Standar ds Preface

(30,000)

Portion not deemed to be probable of

10,000

Chapter 1realization - I ntr oduction to I nter national Accounting Standar ds Chapter 2

- Balance Sheet Total recognized benefit

$22,000

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Estimated annual effective rateand ($22,000 of Recognized Gains Losses÷ $150,000)

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

-Ordinary Financial income I nstr uments—Cash and Receiv ables (loss)

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 9 - I ntangi bleperiod Asset s period Chapter 1 st10 qtr.-

Tax (benefit) expense

Year-to-date

Chapter 8 - Property , Plant , and Equipment Reporting Reporting Year-to-

date

Computed

14,7%

Limited to

Less previously provided

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and 10,000 $ 10,000 $ 1,470 $ -I nvestm ent$ Pr oper ty

Chapter and Consolidat ed (11,733) Fin ancial Statements 2nd11 qtr.- Business Combinations (80,000) (70,000) --

Reporting period

$ --

$ 1,470

1,470

(10,263)

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 3rd12 qtr.- Balance Sheet (100,000) (170,000) (14,667) (22.000) Date

(10,263)

(4,404)

Chapter 4th13 qtr.- Financial I nstr 20,000 uments—Long(150,000) Ter m Debt (22,000)

(22,000)

--

Chapter 14 - Leases

Fiscal year

--

$(150,000)

$(22,000)

Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy Benefit s In the foregoing, theeetax expense (benefit) is computed by multiplying the year-to-date income or loss by the Chapter 17 annual - Stock holder s' Equit estimated effective rate,y and then subtracting the amount of tax liability or benefit provided in prior int Chapter Earnings Share if the current period indicates an income or a loss, assuming of course that th periods.18It -makes no Per difference

full-year19estimated areRepor not being Chapter - I nterim results Financial ting revised. However, if the cumulative loss for the interim periods to da exceeds projected loss ting for the full year on which the effective tax benefit rate had been based, no further Chapter 20the - Segm ent Repor benefits21can be recorded, as illustrated provision for the third quarter. Chapter - Accounting Changes and Corabove rectioninofthe Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures

Operating loss occurring Chapter 24 - Specialized I ndustr ies

during an interim period.

Chapter 25 - I nflation and Hyperinflation

An instance may occur in which the company expects net income for the year and incurs a net loss during on the reporting periods. In this situation, the estimated annual effective rate, which was calculated based on th Appendix - Diincome sclosurefigure, Checklist expectedA net is applied to the year-to-date income or loss to arrive at a total year-to-date tax Appendix B I llustrativ e Financial Stprovided atem ent sisPrsubtracted esent ed Under provision. The amount previously fromI AS the year-to-date figure to arrive at the provision Appendix C Com parison of I AS, US GAAP, and UK GAAP the current reporting period. If the current period operations resulted in a loss, the tax provision for the period I ndex reflect a tax benefit. Chapter 26 - Gov er nm ent Gr an ts

List of Tables List of Ex hibits and Ex am ples

Tax Provision Applicable to Discontinuing Operations or Extraordina Items Occurring in Interim Periods

List of Sidebar s

Extraordinary items. Extraordinary items and discontinuing operations are to be shown net of their related tax effects. The interim treatment accorded these items does not differ from the fiscal year-end reporting required by GAAP. Howeve common practice is not to include these items in computation of the estimated annual tax rate. These items a generally recognized in the interim period in which they occur; that is, they are not annualized. Recognition o

tax effects of a loss due to any of the aforementioned situations would be made if the benefits are expected t realized during the year or if they will be recognizable as a deferred tax asset at year-end under the provision IAS 12. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

If a situation arises where realization is not probable in the period of occurrence but becomes assured in a ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali subsequent period Mirinzathe same fiscal year, the previously unrecognized tax benefit should be reported in inco from continuing operations it reduces thepages) tax provision to zero, with any excess reported in other catego John Wi ley until & Sons © 2003 (952 of income (e.g., discontinuing operations) that provided a means of realization for the tax benefit. This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

The following examples illustrate treatment required for reporting extraordinary items. Again, these items assistance in the the prepar at ion and under standing of financial not to be used in statements calculating present the estimated annual taxwith rate. For income statement presentation purposes, ed in accordance I AS. extraordinary items are shown net of their applicable tax provision.

T ab le of Con t en t s

Wiley I AS 20 03—Int pretation Application of I nternational Account ing The following data er apply to theand next two examples: Standar ds

1. Dynamix Company expects fiscal year ending June 30, 2003, income to be $96,000 and net permane differences to reduce taxable income by $25,500.

Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2 - Balance Sheet also incurred a $30,000 extraordinary loss in the second quarter of the year. 2. Dynamix Company I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 Example 1 of Recognized Gains and Losses Chapter 4

- Cash Flow St at em ent In this case, assume Ithat the loss can beand carried back to prior periods, and therefore the realization of any ta Chapter 5 - Financial nstr uments—Cash Receiv ables

benefit 6is assured. Based on the information given earlier, the estimated annual effective tax rate can be Chapter - I nventor y calculated follows: Chapter 7 -as Rev enue Recogni tion, I ncluding Constr uction Contr act s Chapter 8

- Property , Plant , and Equipment Expected $96,000 Chapter 9 -pretax I ntangiaccounting ble Asset s income I nterests in Financial Instr um(25,500) ent s, Associat es, Joint Ventur es, and Anticipated Chapter 10 - permanent differences I nvestm ent Pr oper ty

$70,500 ed Fin ancial Statements Chapter 11 Expected - Business taxable Combinations income and Consolidat Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—LongTer m Item Debt Tax Calculation "Excluding" Extraordinary Chapter 14 - Leases

$50,000

Chapter 15 - I ncom e Taxes

x

Chapter 16 - Em ploy 20,500 ee Benefit x s

0.15

=

$ 7,500

0.25

=

5,125

Chapter 17 - Stock holder s' Equit y

$70,500

$12,625

Chapter 18 - Earnings Per Share

annual rate = 13.15% ($12,625 ÷ $96,000) Chapter 19 - I nterim FinancialEffective Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

No adjustment in the estimated annual effective rate is required when the extraordinary, unusual, or infreque

Chapter 22 - For eign ency applicable to the item is computed using the estimated fiscal year ordinary inco item occurs. The taxCurr (benefit) Chapter 23 RelatedPart y Disclosures and an analysis of the incremental impact of the extraordinary item. The method illustrated below is applicab Chapter 24 company - Specialized I ndustr ies when the anticipates operating income for the year. When a loss is anticipated but realization of Chapter I nflation and Hyperinflation benefits25of-loss carryforwards is not probable, the company computes its estimated annual effective rate bas Chapter 26 - Govof ertax nm ent Gr an ts on the amount to be refunded from prior years. The tax (benefit) applicable to the extraordinary item is Appendix A - Di(increase) sclosure Checklist the decrease in the refund to be received. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Computation of the tax applicable to the extraordinary item is as follows:

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

ListEstimated of Tables pretax accounting income

$96,000

ListPermanent of Ex hibitsdifferences and Ex am ples

(25,500)

List of Sidebar s

(30,000)

Extraordinary item Expected taxable income

$40,500

Tax Calculation "Including" Extraordinary Item

$40,500 x 0.15 = $6,075 Tax "excluding" extraordinary item

$12,625

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion alitem Accou n t in g St an d ar ds Tax "including" extraordinary ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za Tax benefit applicable to extraordinary item John Wi ley & Sons © 2003 (952 pages)

6,075 $6,550

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for Tax (benefit) applicable to assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Ordinary income (loss)

T ab le of Con t en t s

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing OrdinaryStandar ds

Reporting Preface period

Extraordinary item

Reporting period

Yearto-date

Yeartodale

Previously provided

Reportin period

$ --

$ --

$

e Statement, Stat em ent of Chan ges(2,630) in Equit y, and Statem(6,550) ent 2nd 3qtr.- I ncom(20,000) (30,000) (1,315) Chapter of Recognized Gains and Losses

--

(6,55

Chapter 1

income (loss)

Extraordinary item

- I ntr oduction to I nter national Accounting Standar ds 1st qtr. $10,000 $ -$ 1,315 $ 1,315 Chapter 2 - Balance Sheet

3rd qtr. 40,000 Chapter 4 - Cash Flow St at em ent

--

5,260

(3,945)

(6,550)

(6,550)

Chapter 5 - Financial I nstr uments—Cash and--Receiv ables 4th qtr. 66,000 8,680

(12,625)

(6,550)

(6,550)

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Fiscal year

$96,000

$(30,000)

$12,625

$(6,55

Chapter 9

Example 2- I ntangi ble Asset s

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Again, assume that Dynamix Company estimates net income of $96,000 for the year with permanent differen Chapter 11 - that Business Combinations and Consolidat ed Fin ancial of $25,500 reduce taxable income. The extraordinary lossStatements of $30,000 cannot he carried back and the ab Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev entsexist, after tthe he only way that the loss can be to carry12 it forward is not probable. Because no deferred tax credits Chapter Balance Sheet Date

deemed to be realizable is to the extent that current year ordinary income offsets the effect of the loss. As a result, realization of the loss is assured only as, and to the extent that, there is ordinary income for the year.

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes

Tax(benefit)applicable to

Chapter 16 - Em ploy ee Benefit s

Ordinary income (loss)

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting

Ordinary

Chapter 20 - Segmincome ent Repor ting Reporting Extraordinary

Reporting Chapter 21 - Accounting Cor rection of period Er ror s period (loss) Changes and item Chapter 22 - For eign Curr ency

1st qtr.

$5,000

Chapter 23 - Related- Part y Disclosures Chapter 2nd 24 qtr.- Specialized 20,000 I ndustr ies

(30,000)

Chapter 25 - I nflation and Hyperinflation

3rd qtr.

(10,000)

Chapter 26 - Gov er nm ent Gr an ts

4th qtr. 81,000 Appendix A - Di sclosure Checklist

$ --

$ 658 2,630

Yeartodate

Extraordinary item Year-todate

Previously provided

Reportin period

$ 658

$ --

$ --

$

3,288

(3,288)[a]

--

(3,28

(3,288)

1,3

(1,973)

(4,57

--

(1,315)

1,973

(1,973)[a]

--

10,652

12,625

(6,550)[a]

Appendix B - I llustrativ e Financial St $(30,000) atem ent s Pr esent$12,625 ed Under I AS Fiscal year $96,000 $(6,55 [a]The recognition Appendix C - Com parison of I AS, US GAAP, and UK GAAP of the tax benefit to be realized relative to the extraordinary item is limited to the lesser of t I ndex total lax benefit applicable to the item or the amount available to be realized. Because realization is based on List amount of Tables of tax applicable to ordinary income during the period, the year-to-date figures for the tax benefit

fluctuate as the List of Ex hibits andyear-to-date Ex am ples tax expense relative to ordinary income fluctuates. Note that at no point does th amount of the List of Sidebar s tax benefit exceed what was calculated above as being applicable to the extraordinary item.

Discontinuing operations in interim periods. The computations described for extraordinary items will also apply to the income (loss) from the discontinuing segment, including any provisions for operating gains (losses) subsequent to the measurement date. If the decision to dispose of operations occurs in any interim period other than the first period, the operating

income (loss) applicable to the discontinuing segment has already been used in computing the estimated an effective tax rate. Therefore, a recomputation of the total tax is not required. However, the total tax is to be divided into two components. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accouincome n t in g St an d ar ds 1. That tax applicable to ordinary (loss) ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali

Mir za 2. That tax applicable to the income (loss) from the discontinuing segment John Wi ley & Sons © 2003 (952 pages)

This division is accomplished follows: A revised estimated annual effective rate is calculated for the incom This com pact as and t ruly com pr ehensive qui ck - refer ence (loss) from ordinary operations. This recomputation is then applied to pr esent s account ants with a guide to depend on for the ordinary income (loss) from the assistance theapplicable prepar at ion under standingsegment of financial preceding periods. The totalintax to and the discontinuing is then composed of two items. statements present ed in accordance with I AS.

1. The difference between the total tax originally computed and the tax recomputed on remaining ordina T ab le of income Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing 2. ds The tax computed on unusual, infrequent, or extraordinary items as described above Standar Preface

Example

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet Realtime Corporation anticipates net income of $150,000 during the fiscal year. The net permanent differenc ncom Statement, em ent of Chan ges in Equit and Statem ent for the 3year- Iwill bee$10,000. TheStat company also anticipates taxy, credits of $10,000 during the fiscal year. For Chapter of Recognized Gains and Losses purposes of this example, we assume a flat statutory rate of 50%. The estimated annual effective rate is then Chapter 4 - Cash Flow St at em ent calculated as follows: Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Estimated pretax income

$150,000

Net permanent differences Chapter 8 - Property , Plant , and Equipment

(10,000)

Chapter 9

140,000

- I ntangi ble Asset s

Taxable income

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty Statutory rate 50% Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 10 -

Tax

70,000

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he AnticipatedBalance credits Sheet Date (10,000)

Chapter 12 -

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Total estimated tax

$60,000

Chapter 14 - Leases

Chapter Estimated 15 - effective I ncom e Taxes rate ($60,000 ÷ $150,000)

40%

Chapter 16 - Em ploy ee Benefit s

The first quarters ofs'operations were as follows: Chapter 17two - Stock holder Equit y Chapter 18 - Earnings Per Share

Ordinary income (loss) Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

Reporting

Reporting

Tax provision Year-to-

Year-to-

Chapter 21 - Accounting Changes period period and Cor rection date of Er ror s date Chapter 22 - For eign Curr ency

1 st $30,000 Chapter 23qtr. - Related- Part y Disclosures Chapter 24qtr. - Specialized I ndustr ies 2nd 25,000

Less previously provided

Reporting period

$30,000

$12,000

$ --

$12,000

55,000

22,000

12,000

10,000

Chapter 25 - I nflation and Hyperinflation

In the third the decision to dispose of Division X. During the third quarter, the compa Chapter 26 - quarter, Gov er nmRealtime ent Gr an made ts earned aAtotal of $60,000. The company expects the disposal to result in a onetime charge to income of $50, Appendix - Di sclosure Checklist and estimates that operating losses subsequent to ed theUnder disposal Appendix B - I llustrativ e Financial St atem ent s Pr esent I ASwill be $25,000. The company estimates revi ordinary income in the fourth quarter to be $35,000. The two components of pretax accounting income (discontinuing operations and revised ordinary income) are shown below.

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

List of Tables List of Ex hibits and Ex am ples List of Sidebar s

DivisionX Reporting W ile y I AS Revised Loss from 2 0 03 : ordinary I n t erp re t at ion an d Ap p licat io n o f period I n t er n at ion al income Accou n t in g St an d ar ds operations 1st qtr. 2nd qtr. 3rd qtr. 4th qtr. Fiscal year

Provision for losson disposal

ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali $ 40,000 Mir za John Wi ley & Sons © 2003 40,000 (952 pages)

$(10,000)

$ --

(15,000)

--

This com pact and t ruly com pr ehensive qui ck - refer ence 80,000 (20,000) pr esent s account ants with a guide to depend on for assistance in the prepar at35,000 ion and under standing of financial -statements present ed in accordance with I AS.

(75,000)

$195,000

--

$(45,000)

$(75,000)

T ab le of Con t en t s Wiley Realtime I AS 20 must 03—Int nowerrecompute pretation and theApplication estimated of annual I nternational tax rate.Account Assume ing that all the permanent differences are Standar relateddsto the revised continuing operations. However, $3,300 of the tax credits were applicable to machinery Preface used in Division X. Because of the discontinuance of operations, the credit on this machinery would not be Chapter 1 Any - I ntr oductionof toprior I nterperiod national Accounting Standar allowed. recapture credits must be used ds as a reduction in the tax benefit from either

operations the loss on disposal. Assume that the company must recapture $2,000 of investment tax credit Chapter 2 - or Balance Sheet which is related toeDivision X. Stat em ent of Chan ges in Equit y, and Statem ent I ncom Statement, -

Chapter 3

of Recognized Gains and Losses The recomputed annual Chapter 4 - Cash estimated Flow St at em ent rate for continuing operations is as follows: Chapter 5

- Financial I nstr uments—Cash and Receiv ables Estimated Chapter 6 - (revised) I nventor yordinary income

$195,000

Chapter 7 permanent - Rev enue Recogni tion, I ncluding Constr uction Contr act s Less net differences (10,000) Chapter 8 - Property , Plant , and Equipment Chapter 9

$185,000

- I ntangi ble Asset s

Tax at statutory rateinofFinancial 50% 92,500 I nterests Instr um ent s, Associat es, Joint $Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty

Less anticipated credits from continuing operations

(6,700)

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

85,800 Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev$ents after t he Tax Chapter 12 - provision Balance Sheet Date Estimated effective tax rate ($85,800 $195,000) Chapter 13 - annual Financial I nstr uments—LongTer m ÷ Debt

44%

Chapter 14 - Leases

The next step is then to apply the revised rate to the quarterly income from continuing operations as illustrate below.

Chapter 15 - I ncom e Taxes

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y

Ordinary income

Chapter 18 - Earnings Per Share

Chapter 19 - I nterim Financial Repor ting Chapter Reporting 20 - Segm ent Reporting Repor ting

Estimated annual effective rate

Year-toperiod period Chapter 21 - Accounting Changes anddate Cor rection of Er ror s Chapter 22 - For eign Curr ency

1st qtr.

$ 40,000

$ 40,000

Tax provision Year-todate

Less previously provided

Reporting period

44%

$17,600

$ --

$17,600

80,000

44%

35,200

17,600

17,600

Chapter Hyperinflation 3rd25 qtr.- I nflation and 80,000 160,000

44%

70,400

35,200

35,200

Chapter 26 - Gov er nm ent Gr an ts

44%

85,800

70,400

15,400

Chapter 23 - Related- Part y Disclosures

2nd24 qtr.- Specialized 40,000 Chapter I ndustr ies 4th qtr.

35,000

Appendix A - Di sclosure Checklist

195,000

Fiscal Byear Appendix - I llustrativ$195,000 e Financial St atem ent s Pr esent ed Under I AS

$85,800

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

The tax benefit applicable to the operating loss from discontinuing operations and the loss from the disposal now be calculated. The first two quarters are calculated on a differential basis as shown below.

I ndex

List of Tables

List of Ex hibits and Ex am ples List of Sidebar s

Reporting period

Tax applicable to ordinary income Previously reported

Recomputed (above)

Tax (benefit) expense applicable to Division X

1 st qtr.

$ 12,000

$17,600

$ (5,600)

2nd qtr.

10,000

17,600

(7,600) $(13,200)

The only calculation remaining applies to the third quarter tax benefit pertaining to the operating loss and the on disposal of the discontinuing segment. The calculation of this amount is made based on the revised estim of annual ordinaryWincome, including thep licat effects ile y I ASboth 2 0 03 : I n t erpand re t atexcluding ion an d Ap io nofo fthe Division X losses. This is shown be I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366 Loss from operations of Division X

Provision for loss on Disposal

Estimated annual income from continuing $195,000 This com pact and t ruly com pr ehensive qui ck - refer ence operations pr esent s account ants with a guide to depend on for

$195,000

assistance in the prepar at ion and under standing of financial

Net permanent differences statements present ed in accordance with I AS. Loss from Division X operations

(10,000)

(10,000)

(45,000)

--

--

(75,000)

$140,000

$110,000

$ 70,000

$ 55,000

(6,700)

(6,700)

--

2,000

63,300

50,300

85,800

85,800

(22,500)

(35,500)

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter Amounts 10 -recognized in quarters one and two (13,200) I nvestm ent Pr oper ty

--

T ab le of Con t en t s

Provision loss er onpretation disposaland of Division X of I nternational Account ing Wiley I AS 20for 03—Int Application Standar ds Preface

Total

Chapter I ntr oduction Tax at1the- statutory ratetoofI nter 50%national Accounting Standar ds Chapter 2

- Balance Sheet

Anticipated credits (from continuing operations)

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Gains and Losses Recapture of of Recognized previously recognized tax credits as

Chapter 3

-

Chapter 4 of- disposal Cash Flow St at em ent a result Chapter 5

- Financial I nstr uments—Cash and Receiv ables Taxes after effect of Division X losses

Chapter 6

- I nventor y

Taxes7computed on Recogni estimated before theuction Contr act s Chapter - Rev enue tion,income I ncluding Constr effect of Division X losses Chapter 8 - Property , Plant , and Equipment Chapter Tax benefit 9 - I ntangi applicable ble Asset to Division s X ($5,600 + $7,600)

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Tax benefitCurr to be in theisions, third Cont quarter (9,300) entrecognized Liabilit ies, Prov ingencies, and Ev ents after $t he

Chapter 12 -

$ (35,000)

Balance Sheet Date

The quarterly tax provisions can be summarized as follows: Chapter 13 - Financial I nstr uments—LongTer m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Pretax income (loss) Chapter 16 - Em ploy ee Benefit s

Reporting period

Continuing operations

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

Operations of Division X

Tax (benefit) applicable to

Provision for loss on disposal

Continuing operations

Operations of Division X

Provision for loss on disposal

Chapter 19 - I nterim Financial Repor ting

1 st 20 qtr.- Segm ent$Repor 40,000 Chapter ting

$(10,000)

$ --

$17,600

$ (5,600)

$ --

--

17,600

(7,600)

--

(20,000)

(75.000)

35,200

(9,300)

(35,500)

--

--

15,400

--

--

Chapter - I nflation$195,000 and Hyperinflation Fiscal25 year $(45,000)

$(75,000)

$85,800

$(22,500)

$(35,500)

Chapter Changes and Cor rection of Er ror s 2nd 21 qtr.- Accounting40,000 (15,000) Chapter 22 - For eign Curr ency

3rd qtr.

80,000

Chapter 23 - Related- Part y Disclosures

4th qtr. Chapter 24 - Specialized35,000 I ndustr ies Chapter 26 - Gov er nm ent Gr an ts

The following Appendix A - Di income sclosurestatement Checklist shows the proper financial statement presentation of these unusual and infrequent Theenotes to the statement Appendix B -items. I llustrativ Financial St atem ent s Prindicate esent ed which Under items I AS are to be included in the calculation of the annual estimated rate. of I AS, US GAAP, and UK GAAP Appendix C - Com parison I ndex List of Tables

Income Statement List of Ex hibits and Ex am ples List of Sidebar s

Net sales [a] Other

income[a]

$xxxx

by Bar r y J. Epstein and Abbas Ali Costs and expenses Mir za John[a] Wi ley & Sons © 2003 (952 pages)

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent sand account ants with aexpenses guide to depend on for [a] Selling, general, administrative assistance in the prepar at ion and under standing of financial statements [a] present ed in accordance with I AS.

Interest expense T ab le of Con t en t s

Other deductions [a]

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Unusual items

Chapter 1Infrequently - I ntr oduction to I nter national Accounting Standar ds occurring items Chapter 2

- Balance Sheet

Chapter below 3

-

xxxx

ISBN:0471227366

Cost of sales

Preface

xxx

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

$xxxx xxx xx xx xxx xxx

Income (loss) from continuing operations before income taxes and other items listed

xxxx

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

[b] Chapter Provision 4 -for Cash income Flow taxes St at em(benefit) ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

xxxx

xxx

Income (loss) from continuing operations before items listed below

xxxx

Discontinuing Chapter 7 - Revoperations: enue Recogni tion, I ncluding Constr uction Contr act s Chapter 8

- Property , Plant , and Equipment Income (loss) from operations of discontinuing Division X (less applicable

xxxx

Chapter 9income - I ntangi ble of Asset s taxes $xxxx) Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

I nvestm enton Pr disposal oper ty of Division X, including provision of $xxxx for Income (loss) Chapter 11 - Business Combinations and Consolidat ed Finapplicable ancial Statements operating losses during phaseout period (less taxes of $xxxx)

xxxx

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12(loss) Income before extraordinary items and cumulative effect of a change in Balance Sheet Date

accounting principle Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter Extraordinary 14 - Leases items (less applicable income taxes of $xxxx) Chapter 15 - I ncom e Taxes

Cumulative effect on prior years of a change in accounting principle (less applicable

xxxx xxxx xxxx xxxx

Chapter 16taxes - Em of ploy ee Benefit [c]) s income $xxxx Chapter 17 - Stock holder s' Equit y

Net income (loss) of ordinary income (loss). Chapter 19 - I nterim Financial Repor ting Chapter 18 - Earnings Per Share [a]Components

Chapter 20 - Segm ent Repor ting [b]

Consists of total income taxes (benefit) applicable to ordinary income (loss), unusual items, and infrequent items.

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

[c]This amount Chapter 23 - RelatedPart ynet Disclosures is shown of income taxes. Although the income taxes are generally disclosed (as Chapter 24 - this Specialized I ndustr ies illustrated), is not required.

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

$xxxx

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Chapter 16: Employee Benefits I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

za PerspectiveMirand Issues

John Wi ley & Sons © 2003 (952 pages)

The prescribed rules This for comthe pact accounting and t ruly for comemployee pr ehensivebenefits qui ck - refer under ence international standards have esenttwo s account antsThe withcurrent a guidestandard, to dependIAS on 19, for was last revised in 1998 and evolved markedlyprover decades. assistance in the prepar at ion and under standing of financial provides broad coverage (applicable to all benefits, not merely pensions) that is largely consistent with statements present ed in accordance with I AS. those of major national accounting standard setters. Compared to earlier iterations of IAS 19, the range ofleacceptable accounting treatments has been narrowed substantially, as has also occurred T ab of Con t enalternative ts with Iother anderas will likely as "convergence" activelying sought. Wiley AS 20IAS, 03—Int pretation andcontinue Application of I nternationalisAccount Standar ds

Under current IAS 19, only the "projected unit credit" variation on the accrued benefit valuation method Preface is permitted the periodic determination of employee benefit Chapter 1 - Ifor ntr oduction to I nter national Accounting Standar ds cost. It also creates a "corridor"

approach recognition of actuarial gains and losses, requires annual valuations versus the earlier Chapter 2 to - Balance Sheet

mandate for triennial valuations, and addresses past service cost recognition and other matters never

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 attention given any in earlier standards. This latest standard is more precise in defining the extent to of Recognized Gains and Losses

which components of pension cost are to be disclosed in the financial statements, and reduces the Chapter 4 - Cash Flow St at em ent

latitude5given to preparers regarding the and amortizing of certain cost elements, such as those associated Chapter - Financial I nstr uments—Cash Receiv ables with plan amendments. - I nventor y

Chapter 6

Chapter - Rev enue tion, I ncludingdirection Constr uction Contr act s IAS 19 7identifies and Recogni provides accounting for five categories of employee benefits: short-term Chapter 8 Property , Plant , and Equipment benefits such as wages, bonuses, and emoluments such as medical care; postemployment benefits Chapter - I ntangiand ble Asset such as9 pensions otherspostretirement benefits; other long-term benefits such as sabbatical leave; I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and termination Chapter 10 - benefits; and equity compensation arrangements. Meaningful guidance is now provided on I nvestm ent Pr oper ty standards focused only on pensions. However, the most explicit and all of these, whereas the earlier Chapter - Business are Combinations and Consolidat ed Fin ancial and Statements detailed11instructions provided for defined benefit pension other postretirement benefits plans, Curr ent Liabilit ies, Prov isions, benefits, Cont ingencies, and Evas ents after tcompensation he with less on the other types of employee particularly to stock arrangements Chapter 12 Balance Sheet Date

(although the last named is the subject of a current IASB project, as discussed later in the chapter).

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter There are 14 two - Leases major classes of pension plans, defined contribution and defined benefit, with the

accounting the elatter being the far more difficult. Given the central role that accounting estimates Chapter 15 - for I ncom Taxes play in 16 the -accounting for defined benefit plans, some diversity in financial reporting will be unavoidable, Chapter Em ploy ee Benefit s and full17 disclosure of key and methods is the best means of preventing the misleading of Chapter - Stock holder s' assumptions Equit y financial Chapter 18statement - Earningsusers. Per Share Chapter 19 - I nterim Financial Repor ting

Because of the long-term nature of employee benefit plans, IAS 19 provides for delayed recognition of certain cost components, such as those resulting from changes in actuarial estimates (i.e., changes are Chapter 21 - Accounting Changes andrecognized Cor rection of Er ror s not recognized immediately but are subsequently in a gradual and systematic way). Chapter 22 For eign Curr ency Estimates and averages may be used as long as material differences do not result. Explicit Chapter 23 - RelatedPart y Disclosures assumptions and estimates of future events should be used for each specified variable included in Chapter - Specialized I ndustr ies pension24costs. Chapter 20 - Segm ent Repor ting

Chapter 25 - I nflation and Hyperinflation

Consistent the orientation of IAS, the principal emphasis of IAS 19 is upon Chapter 26 - with Gov er nmbalance ent Gr ansheet ts

calculation present value of the pension obligation. Somewhat less attention is directed toward Appendix A - of Di the sclosure Checklist

determining the fair value of plan assets and on structuring the disclosure of the elements of periodic pension costs. The most common accounting problems revolve around the computation of periodic Appendix C - Com parison of I AS, US GAAP, and UK GAAP pension expense and on the amount to be accrued on the balance sheet. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS I ndex

List Tables IASof19 also establishes requirements for disclosures to be made by employers when defined List of Ex hibitsorand Ex am benefit ples contribution defined pension plans are settled, curtailed, or terminated. Some previously List of Sidebar s deferred amounts are required to be recognized immediately under such circumstances.

IAS 19 defines all postemployment benefits other than pensions as defined benefit plans and, thus, all the complications of defined benefit pension plans exist here as well. These may be compounded, in the case of postretirement health care plans, by the need to project the escalation in future health care costs over a lengthy time horizon. The IASB is considering an amendment to IAS 19 that would prohibit the recognition of gains or losses that arise solely from past service cost and actuarial losses or gains, respectively, when a surplus in the

plan exists. This proposed amendment to IAS 19 would address what some view as a counterintuitive result presently produced by the interaction of two aspects of the standard; namely, the option to defer the gains and losses the limit onAp the amount that W ilein y the I ASpension 2 0 03 : I fund n t erpand re t at ion an d p licat io n o f can be recognized as an asset (the "asset Iceiling"). n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Equity compensation Mir zaplans, such as those inherent in stock option programs, pose particular problems, and attempts to deal the& accounting pertaining to these plans have been subject to much Johnwith Wi ley Sons © 2003 issues (952 pages) controversy. IAS This 19 establishes certain disclosure requirements but does not attempt to resolve com pact and t ruly com pr ehensive qui ck - refer ence recognition or measurement issues. A current and project, however, may result in pr esent s account ants with a guide controversial to depend on IASB for vastly improved guidance matters, perhaps by late 2003.of financial assistanceoninsuch the prepar at ion and under standing statements present ed in accordance with I AS. T ab le of Con t en t s

Sources of IAS

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing IAS 19 Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

ile yTerms I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f DefinitionsWof I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

A-E

ISBN:0471227366

This com pact and t ruly com pr ehensive qui ck - refer ence

Accrued benefit obligation pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial Actuarial present value of benefits (whether vested or nonvested) attributed by the statements present ed in accordance with I AS. pension benefit formula to employee service rendered before a specified date and T ab le of Con t en tbased s on employee service and compensation (if applicable) prior to that date. IAS 19 requires that only accrued of benefit method Account be useding to compute employee benefit Wiley I AS 20 03—Int er pretation andthe Application I nternational Standar ds obligations. Preface

Accrued valuation methods Chapter 1 - Ibenefit ntr oduction to I nter national Accounting Standar ds Chapter 2

- Balance Actuarial Sheet valuation methods that reflect retirement benefits based on service rendered

Chapter 3

-

Chapter 4

- Cash Flow Stsheet at em ent balance date is not. - Financial I nstr uments—Cash and Receiv ables

Chapter 5

by employees toStat the em date valuation. Assumptions about I ncom e Statement, entofofthe Chan ges in Equit y, and Statem entprojected salary levels of Recognized and Losses to the date Gains of retirement must be incorporated, but service to be rendered after the

Accrued Chapter 6 - Ipension nventor ycost Chapter 7

net pension costConstr accrued in excess ofs the employer's contributions. - RevCumulative enue Recogni tion, I ncluding uction Contr act

Chapter 8

- Property , Plant , and Equipment

Accrued- Ipostretirement benefit obligation ntangi ble Asset s

Chapter 9

Chapter 10 -

The actuarial present attributed to employee I nterests in Financial Instrvalue um entof s, benefits Associat es, Joint Ventur es, and service rendered to a I nvestm particular ent Prdate. oper ty Prior to an employee's full eligibility date, the accrued postretirement

benefitCombinations obligation asand of aConsolidat particulared date for an Statements employee is the portion of the expected Chapter 11 - Business Fin ancial Chapter 12 -

postretirement obligation attributedand to Ev that employee's Curr ent Liabilit ies, benefit Prov isions, Cont ingencies, ents after t he service rendered to that Balance Date date. Sheet On and after the full eligibility date, the accrued and expected postretirement

Chapter 13 - Financial benefitI nstr obligations uments—Longfor an employee Ter m Debt are the same. Chapter 14 - Leases

Actuarial value Chapter 15 - I present ncom e Taxes of a sspecified date, of an amount or series of amounts payable or receivable Chapter 16 - Em Value, ploy ee as Benefit thereafter, with yeach amount adjusted to reflect (1) the time value of money (through Chapter 17 - Stock holder s' Equit discounts for interest) and (2) the probability of payment (by means of decrements for Chapter 18 - Earnings Per Share

events such asRepor death, Chapter 19 - I nterim Financial tingdisability, withdrawal, or retirement) between the date specified and the expected date of payment.

Chapter 20 - Segm ent Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Actuarial valuation

Chapter 22 - For eign Curr ency

The process used by actuaries to estimate the present value of benefits to be paid under a retirement plan and the present values of plan assets and sometimes also of Chapter 24 - Specialized I ndustr ies future contributions. Chapter 23 - Related- Part y Disclosures

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Amortization

Appendix A - Di sclosure Usually Checklist refers to the process of reducing a recognized liability systematically by Appendix B - I llustrativ e Financial St atem s Pr esent ed Under I AS recognizing revenues or ent reducing a recognized asset systematically by recognizing Appendix C - Com parison oforI AS, US In GAAP, and accounting, UK GAAP expenses costs. pension amortization is also used to refer to the I ndex systematic recognition in net pension cost over several periods of previously List of Tables

unrecognized amounts, including unrecognized prior service cost and unrecognized

List of Ex hibits and netEx gain am ples or loss. List of Sidebar s

Attribution Process of assigning pension benefits or cost to periods of employee service. Career-average-pay formula (career-average-pay plan) Benefit formula that bases benefits on the employee's compensation over the entire period of service with the employer. A career-average-pay plan is a plan with such a formula.

Contributory plan Pension plan under which employees contribute part of the cost. In some contributory plans, contribute; W ileemployees y I AS 2 0 03wishing : I n t erpto rebe t atcovered ion an d must Ap p licat io n o f in other contributory plans, I n t er n atcontributions ion al Accou nresult t in g St d ar ds benefits. employee in an increased by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mircost za Current service John Wito leythe & Sons © 2003 (952 pages) The cost employer under a retirement benefit plan for the services rendered by This com pact and t com pr ehensive of quicost ck - refer ence identified as past service employees during theruly period, exclusive elements pr esent s account ants with a guide to depend on for cost, experience adjustments, and the effects of changes in actuarial assumptions.

Curtailment

assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

T ab le of Con t en tEvent s that significantly reduces the expected years of future service of present Wiley I AS 20 03—Int er pretation and Application I nternational Account ing employees or eliminates, for a ofsignificant number of employees, the accrual of defined Standar ds

benefits for some or all of their future services. Curtailments include (1) termination of employee's services earlier than expected, which may or may not involve closing a Chapter 1 - I ntrfacility oduction I nter national ds or to discontinuing a Accounting segment ofStandar a business, and (2) termination or suspension of Chapter 2 - Balance Sheet a plan so that employees do not earn additional defined benefits for future services. In I ncom Statement, Statfuture em entservice of Chanmay ges be in Equit y, and Statem ent of benefits theelatter situation, counted toward vesting Chapter 3 of Recognized Gains andon Losses accumulated based past services. Preface

Chapter 4

- Cash Flow St at em ent

Chapter Defined 5 - benefit Financialpension I nstr uments—Cash plan and Receiv ables Chapter 6 Chapter 7 Chapter 8 Chapter 9

- I nventor y Any postemployment benefit plan other than a defined contribution plan. These are - Revgenerally enue Recogni tion, I ncluding Construnder uctionwhich Contr act s retirement benefit plans amounts to be paid as retirement - Property , Plant and Equipmentusually by reference to employees' earnings and/or years benefits are, determinable, - I ntangi of service. ble Asset The s fund (and/or employer) is obligated either legally or constructively to

Chapter 10 -

pay thein full amount of promised benefits or notes,sufficient assets are held in I nterests Financial Instr um ent s, Associat es,whether Joint Ventur and I nvestm ent Pr oper ty the fund.

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Defined contribution Curr ent Liabilitpension ies, Provplan isions, Cont ingencies, and Ev ents after t he Balance Sheet Date Benefit plans under which amounts to be paid as retirement benefits are determined Chapter 13 - Financial nstr uments—LongTer mtogether Debt by theI contributions to a fund with accumulated investment earnings thereon; Chapter 14 - Leases the plan has no obligation to pay further sums if the amounts available cannot pay all Chapter 15 - I ncom e Taxes benefits relating to employee services in the current and prior periods. Chapter 12 -

Chapter 16 - Em ploy ee Benefit s

Employee benefits Chapter 17 - Stock holder s' Equit y All forms consideration to employees in exchange for services rendered. Chapter 18 - Earnings Per of Share Chapter 19 - I nterim Financial Repor ting

Equity compensation benefits

Chapter 20 - Segm ent Repor ting

Benefits Changes under which employees entitled to receive employer's equity financial Chapter 21 - Accounting and Cor rection ofare Er ror s Chapter 22 - For instruments, eign Curr encyor which compensate employees based on the future value of such

instruments. Chapter 23 - RelatedPart y Disclosures Chapter 24 - Specialized I ndustr ies

Equity compensation plans

Chapter 25 - I nflation and Hyperinflation

Formal or informal arrangements to provide equity compensation benefits.

Chapter 26 - Gov er nm ent Gr an ts

Appendix A - Dilong-term sclosure Checklist Expected rate of return on plan assets Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Assumption as to the rate of return on plan assets reflecting the average rate of earnings expected on the funds invested, or to be invested, to provide for the benefits included in the projected benefit obligation.

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables

List Expected of Ex hibits postretirement and Ex am ples benefit obligation List of Sidebar s The actuarial present value as of a particular date of the benefits expected to be paid

to or for an employee, the employee's beneficiaries, and any covered dependents pursuant to the terms of the postretirement benefit plan. Expected return on plan assets Amount calculated as a basis for determining the extent of delayed recognition of the effects of changes in the fair value of assets. The expected return on plan assets is determined based on the expected long-term rate of return on plan assets and the

market related value of plan assets. Experience adjustments

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Adjustments toalbenefit from I n t er n at ion Accoucosts n t in g arising St an d ar ds the differences between the previous actuarial as Abbas to future actually occurred. ISBN:0471227366 by Bar r assumptions y J. Epstein and Ali events and what Mir za John Wi ley & Sons © 2003 (952 pages)

F-P Fair value

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements ed in be accordance with Amount that an present asset could exchanged forI AS. between willing, knowledgeable parties in an

arm's-length transaction.

T ab le of Con t en t s

Wiley I AS 20plan 03—Int er pretation and Application of I nternational Account ing Final-pay Standar ds

A defined benefit plan that promises benefits based on the employee's remuneration at or near the date of retirement. It may be the compensation of the final year, or of a specified Chapter 1 - I ntr oduction to I nter national Accounting Standar ds number of years near the end of the employee's service period. Preface

Chapter 2

- Balance Sheet

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Flat-benefit Chapter 3 - formula (flat-benefit plan) of Recognized Gains and Losses

Benefit formula that bases benefits on a fixed amount per year of service, such as $20 of monthly retirement income for each year of credited service. A flat-benefit plan is a plan Chapter 5 - Financial I nstr uments—Cash and Receiv ables with such a formula. Chapter 4

- Cash Flow St at em ent

Chapter 6

- I nventor y

Chapter Fund 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Used as a verb, to pay over to a funding agency (as to fund future pension benefits or to fund pension cost). Used as a noun, assets accumulated in the hands of a funding agency I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - for the purpose of meeting pension benefits when they become due. I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Funding Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - The irrevocable transfer of assets to an entity separate from the employer's enterprise, to Balance Sheet Date

meet future obligations for the payment of retirement benefits.

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter - Leases Gain or14loss Chapter 15 - I ncom e Taxes

Change in the value of either the projected benefit obligation or the plan assets resulting from experience different from that assumed or from a change in an actuarial assumption.

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y

Chapter - Earnings Per Share Interest18cost component (of net periodic pension cost) Chapter 19 - IIncrease nterim Financial Repor ting in the present value of the accrued benefit obligation due to the passage of time. Chapter 20 - Segm ent Repor ting Chapter Measurement 21 - Accounting date Changes and Cor rection of Er ror s Chapter 22 - For eign ency plan assets and obligations are measured. Date asCurr of which Chapter 23 - Related- Part y Disclosures

Mortality Chapter 24 rate - Specialized I ndustr ies Chapter 25 - IProportion nflation andofHyperinflation the number of deaths in a specified group to the number living at the Chapter 26 - Gov beginning er nm entofGr the an period ts in which the deaths occur. Actuaries use mortality tables, which

show death rates for each age, in estimating the amount of pension benefits that will Appendix A - Di sclosure Checklist payable. Appendix B - Ibecome llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Net periodic pension cost

I ndex

List of Tables Amount recognized in an employer's financial statements as the cost of a pension plan for

period. of net periodic pension cost are service cost, interest cost (which is List of Ex hibitsaand Ex amComponents ples implicitly presented as part of service cost), actual return on plan assets, gain or loss, amortization of unrecognized prior service cost, and amortization of the unrecognized net obligation or asset existing at the date of initial application of IAS 19.

List of Sidebar s

Other long-term employee benefits Benefits other than postemployment, termination and stock equity compensation benefits, which do not fall due wholly within one year of the end of the period in which service was rendered.

Past service cost The actuarially determined cost arising on the introduction of a retirement benefit plan, on the making plan, orpon the of minimum service W ile y Iof ASimprovements 2 0 03 : I n t erpto resuch t at iona an d Ap licat iocompletion n of I n t er n at ion Accou nint in g Staanplan, d ar ds requirements for al eligibility such all of which give employees credit for benefits for ISBN:0471227366 by Bar r y to J. the Epstein and Abbas Ali or more of these service prior occurrence of one events. Mir za

Pay-as-you-go John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly pr ehensive qui ckbenefits - refer ence A method of recognizing thecom cost of retirement only at the time that cash payments pr esent s account ants with a guide to depend on for are made to employees on or after retirement. assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Plan amendment

T ab le of Con t en ts Change in terms of an existing plan or the initiation of a new plan. A plan amendment may Wiley I AS 20 03—Int er pretation Application I nternational Account ing increase benefits,and including thoseofattributed to years of service already rendered. Standar ds Preface Plan assets Chapter 1 Chapter 2

- IThe ntr oduction to I nter Accounting Standar ds fund, and qualifying insurance policies. assets held by national a long-term employee benefit - Balance Sheet Regarding assets held by a fund, these are assets (other than nontransferable financial

Chapter 3

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent - instruments issued by the reporting entity) that both of Recognized Gains and Losses

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y available to be used only to pay or fund employee benefits, are not available to 2. Are - Rev enuethe Recogni tion,entity's I ncluding uction(even Contrin actthe s event of bankruptcy), and cannot be reporting ownConstr creditors

Chapter 7 Chapter 8 Chapter 9

1. Are held by a fund that is legally separate from the reporting entity and exists solely to pay or fund employee benefits, and

- Propertyreturned , Plant , and Equipment to the reporting entity unless either - I ntangi ble Asset s

Chapter 10 -

a. The remaining assets of the fund are sufficient to meet all related employee

I nterests in Financial um ent s,of Associat es,or Joint benefitInstr obligations the plan the Ventur entity,es, or and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations andare Consolidat edtoFin ancial Statements b. The assets returned the reporting entity to reimburse it for employee Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he benefits already paid by it. Chapter 12 Balance Sheet Date

Regarding the qualifying insurance policy, this must be issued by a nonrelated party if the proceeds of the policy both

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

1. e Can be used only to pay or fund employee benefits under a defined benefit plan, Chapter 15 - I ncom Taxes and

Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock Equit y Are s' not available to the reporting entity's own creditors (even in the event of 2.holder Chapter 18 - Earningsbankruptcy) Per Share and cannot be returned to the reporting entity unless either Chapter 19 - I nterim Financial Repor ting

a. The proceeds represent surplus assets that are not needed for the policy to meet all related employee benefit obligations, or

Chapter 20 - Segm ent Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter 22 - For eign Curr b.ency The proceeds are returned to the reporting entity to reimburse it for Chapter 23 - Related- Part y Disclosures employee benefits already paid by it. Chapter 24 - Specialized I ndustr ies

Postretirement benefits Chapter 25 - I nflation and Hyperinflation All forms of benefits, Chapter 26 - Gov er nm ent Gr an ts other than retirement income, provided by an employer to retirees. Those benefits may be defined in terms of specified benefits, such as health care, tuition Appendix A - Di sclosure Checklist or legal St services, are provided retirees as the need for those benefits Appendix B - Iassistance, llustrativ e Financial atem ent that s Pr esent ed Under to I AS

arises, or they be GAAP, defined in UK terms of monetary amounts that become payable on the Appendix C - Com parison of I may AS, US and GAAP I ndex

occurrence of a specified event, such as life insurance benefits.

List of Tables

Prepaid pension cost

List of Ex hibits and Ex am ples

Cumulative employer contributions in excess of accrued net pension cost.

List of Sidebar s

Prior service cost Cost of retroactive benefits granted in a plan amendment. Projected benefit obligation The actuarial present value as of a date of all benefits attributed by the pension benefit formula to employee service rendered prior to that date. The projected benefit obligation is measured using assumptions as to future compensation levels if the pension benefit

formula is based on those future compensation levels (pay-related, final-pay, final-averagepay, or career-average-pay plans). W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Projected benefit I nvaluation t er n at ion methods al Accou n t in g St an d ar ds Actuarial valuation methods that reflect retirementISBN:0471227366 benefits based on service both rendered by Bar r y J. Epstein and Abbas Ali Mirbe za rendered by employees, as of the date of the valuation. Contrasted with and to John Wi ley & Sons © 2003 (952 pages) projected benefit valuation methods will result in a accumulated benefit valuation methods, moreThis level assignment of costs toehensive the periods of- refer employee com pact and t ruly com pr qui ck ence service, although this will not pr esent sbe account ants withallocation. a guide to Assumptions depend on forabout projected salary levels must be necessarily a straight-line assistanceThis in the prepar at ion and under standing of financial incorporated. was the allowed alternative method under the prior version of IAS 19, statements present ed in accordance with I AS. but is prohibited under the current standard. T ab le of Con t en t s

R-V

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface Retirement benefit plans Chapter 1 - I ntr oduction to I nter national Accounting Standar ds

Formal or informal arrangements whereby employers provide benefits for employees on or after termination of service, when such benefits can be determined or estimated in I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - advance of retirement from the provisions of a document or from the employers' practices. Chapter 2

- Balance Sheet

of Recognized Gains and Losses

Chapter 4 - Cash Flow St at em ent Retroactive benefits Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 8

- Property , Plant , and Equipment

Benefits granted in a plan amendment (or initiation) that are attributed by the pension benefit formula to employee services rendered in periods prior to the amendment. The cost Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s of the retroactive benefits is referred to as prior service cost. Chapter I ntangi ble Asset s Return9on- plan assets I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - Interest, dividends and other revenues derived from plan assets, together with realized and I nvestm ent Pr oper ty

unrealized gains or losses on the assets, less administrative costs including taxes payable by the plan.

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Service

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Employment taken into consideration under a pension plan. Years of employment before the inception of a plan constitute an employee's past service; years thereafter are Chapter 15 - I ncom e Taxes classified in relation to the particular actuarial valuation being made or discussed. Years of Chapter 16 - Em ploy ee Benefit s employment (including past service) prior to the date of a particular valuation constitute Chapter 17 - Stock s' Equit y prior holder service. Chapter 14 - Leases

Chapter 18 - Earnings Per Share

Settlement Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Transaction that (1) is an irrevocable action, (2) relieves the employer (or the plan) of Chapter 21 - Accounting Changes and rection ofbenefit Er ror s obligation, and (3) eliminates significant risks primary responsibility forCor a pension Chapter 22 - For related eign Curr to the ency obligation and the assets used to effect the settlement. Examples include

making Part lump-sum cash payments to plan participants in exchange for their rights to receive Chapter 23 - Relatedy Disclosures specified pension benefits and purchasing nonparticipating annuity contracts to cover Chapter 24 - Specialized I ndustr ies Chapter 25 - Ivested nflationbenefits. and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Short-term employee benefits

Appendix A - Di sclosure Checklist

than St termination and equity compensation benefits which are due within one Appendix B - IBenefits llustrativ eother Financial atem ent s Pr esent ed Under I AS year after the end of the period in which the employees rendered the related service.

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Terminal funding

List of Tables

A method of recognizing the projected cost of retirement benefits only at the time an employee retires.

List of Ex hibits and Ex am ples List of Sidebar s

Termination benefits Employee benefits payable as a result of the entity's termination of employment before normal retirement or the employee's acceptance of early retirement inducements. Unrecognized prior service cost Portion of prior service cost that has not been recognized as a part of net periodic pension cost.

Vested benefits Those benefits that, under the conditions of a retirement benefit plan, are not conditional W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f on continued employment. I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS and 2 0 03 : Examples I n t erp re t at ion an d Ap p licat io n o f Concepts, Rules, I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

ImportanceMirof za Pension and Other Benefit Plan Accounting John Wi ley & Sons © 2003 (952 pages)

For a variety of cultural, economic, and political reasons, the existence of private pension plans has This com pact and t ruly com pr ehensive qui ck - refer ence increased tremendously the past thirtyayears, these on arrangements are the most common pr esent sover account ants with guide and to depend for "fringe benefit" offered by employers in many For many employers, assistance in the prepar at ion nations. and under standing of financial pension costs have statements present ed in accordance with AS.employees and can represent an even become a very material component of compensation paidIto bigger fraction of the reporting entity's net operating results. Unlike the case with wages, the timing of T ab le of Con t en t s the payment of cash to either the plan's administrators or its beneficiaries can vary substantially from Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing the underlying economic event. This creates the possibility of misleading financial statement Standar ds presentation of the true costs of conducting business. For this reason, accounting for the cost of Preface pension plans and similar schemes (postretirement benefits other than pensions, etc.) has received a Chapter 1 - I ntr oduction to I nter national Accounting Standar ds great deal of attention from national and international standards setters. Chapter 2

- Balance Sheet

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Chapter 3

of Recognized Gains and Losses Basic Objectives of Accounting for Pension and Other Benefit Chapter 4 - Cash Flow St at em ent Plan Costs Chapter 5 - Financial I nstr uments—Cash and Receiv ables Chapter 6

I nventor y Need for- pension accounting rules.

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8 - Property , Plant and Equipment The principal objectives of ,pension accounting are to measure the compensation cost associated with Chapter employees' 9 - benefits I ntangi ble and Asset to recognize s that cost over the employees' service period. The relevant

internationalI nterests accounting standard, IASum 19, the es, accounting aspects of pensions in Financial Instr entiss,concerned Associat es,only Jointwith Ventur and I nvestm ent Pr oper ty (and other benefit plans); the funding of pension benefits is considered to be a financial management Chapter Business Combinations and Consolidat Fin ancial Statements matter, 11 and- accordingly, is not addressed by this ed pronouncement. Chapter 10 -

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

When an entity provides the amounts of which can be estimated in advance, to its retired Balance Sheetbenefits, Date employees their beneficiaries, the arrangement Chapter 13 - and Financial I nstr uments—LongTer m Debt is deemed to be a pension plan. The typical plan is written 14 and- the amount of benefits can be determined by reference to the plan documents. However, Chapter Leases the plan15and its provisions Chapter - I ncom e Taxes can also be implied from unwritten but established past practices. The accounting types of sretirement plans is suggested by, if not heavily detailed in, IAS 19. Plans Chapter 16 - for Emmost ploy ee Benefit may be unfunded, insured, trust fund, defined contribution and defined benefit plans, and deferred Chapter 17 - Stock holder s' Equit y compensation contracts, if equivalent. Independent (not employer sponsored) deferred profit sharing Chapter 18 - Earnings Per Share plans and pension payments made to selected employees on a case-by-case basis, are not considered Chapter 19 - I nterim Financial Repor ting pension plans. Chapter 20 - Segm ent Repor ting

Chapter 21 - Accounting and Cor rection ofaEr ror s The establishment of a Changes pension plan represents long-term commitment to employees. Although some Chapter - For eign ency entities22 manage theirCurr own plans, this commitment usually takes the form of contributions that are made Chapter to an independent 23 - Relatedtrustee Part y Disclosures or, in some countries, to a governmental agency. These contributions are

used by24the trustee to acquire plan assets of various kinds, although the available types of investments Chapter - Specialized I ndustr ies may be25 restricted by and governmental regulations in certain jurisdictions. Plan assets are used to generate Chapter - I nflation Hyperinflation a return, Chapter 26which - Govtypically er nm ent consists Gr an ts of earned interest and/or appreciation in asset value. Appendix A - Di sclosure Checklist

The earnings from the plan assets (and occasionally, the proceeds from their liquidation) provide the trustee with cash to pay the benefits to which the employees become entitled. These benefits in turn Appendix C - Com parison of I AS, US GAAP, and UK GAAP are defined by the terms of the pension plan, which is known as the plan's benefit formula. In the case I ndex of defined benefit plans, the benefit formula incorporates many factors, including employee List of Tables compensation, employee service longevity, employee age, and so on, and is considered to provide the List of indication Ex hibits and Ex am plesobligations and costs. It is used as the basis for determining the pension cost best of pension List of Sidebareach s recognized fiscal year. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Income statement vs. balance sheet objectives. As the accounting requirements for pensions and other forms of postemployment benefits have evolved over the years, the primary objective has been to assign the periodic costs of such plans properly to the periods in which the related benefits are received by the employers incurring these costs. These benefits are obviously received when the workers are productively working on their jobs, not during the later years when they are enjoying their retirements. For that reason, accounting long ago recognized

that the "pay-as-you-go" method of expense recognition, under which expense recognition would be deferred until the benefit payments to retirees were actually made, would cause an unacceptable mismatching of costs benefits a distortion income statement. The probable result of this W ile and y I AS 2 0 03 : and I n t erp re t at ion of anthe d Ap p licat io n of mismatching would be the overstating of earlier years' results of operations and understating those of I n t er n at ion al Accou n t in g St an d ar ds later years when by large retirement payments are being made. As pensions and other fringe benefits ISBN:0471227366 Bar r y J. Epstein and Abbas Ali expanded over the Mirpast za generation to become a material and ever-increasing fraction of workers' compensation, this John problem Wi ley & could Sonsno © 2003 longer (952be pages) ignored by accounting standards setters. This com pact and t ruly com pr ehensive qui ck - refer ence

The reason that pay-as-you-go accounting nottoeliminated long ago is that many pr esent s account ants with awas guide depend oncompletely for pension plans and similar employee benefit rather complex, and the accounting assistance in the prepar at ionplan andarrangements under standingare of financial statements edisinalso accordance necessary to report on them present properly difficult. with MostI AS. significantly, in the case of defined benefit plans, actual costs may not be known for many years, even decades, since a variety of future events T ab le of Con t en t s (employee turnover, performance of investments, salary increases, etc.) will affect the ultimate burden Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing on the ds employer. Accordingly, the measurement of expense on a current basis demands that many Standar complicated estimates be made, some involving actuarial computations, and accountants have often Preface been reluctant to anchor the financial statements to estimates that are potentially very imprecise. Only Chapter 1 - I ntr oduction to I nter national Accounting Standar ds when the impact of pay-as-you-go accounting became unacceptably distortive, due to the growing Chapter 2 - Balance Sheet occurrence and magnitude of these benefit plans, were professional standards revised to prohibit I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 use continued of that mode of accounting. of Recognized Gains and Losses Chapter 4

- Cash Flow St at em ent As pensions became an almost universal fixture of the employment landscape (in some nations, private

Chapter 5 are - Financial I nstr and Receivparticipation ables pensions mandated byuments—Cash law; in other countries, in government-sponsored plans is Chapter 6 I nventor y required), the failure to require such accounting became an impediment to meaningful financial Chapter 7 Notwithstanding - Rev enue Recogni tion, I ncluding uction actestimates, s reporting. the limitations ofConstr actuarial andContr other financial statements Chapter 8 Property , Plant , and Equipment incorporating the accrual of pension costs are vastly more accurate and useful than those based on a Chapter 9 - I ntangi ble Asset s pay-as-you-go approach. Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

ent Pr oper ty accounting standards on pension costs. EvolutionI nvestm of international

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

About thirty Curr years ago, major bodies began that pension costs be ent Liabilit ies,accounting Prov isions, standard-setting Cont ingencies, and Ev ents after urging t he accrued properly in financial statements. At first, a wide range of actuarial methods were permitted, Balance Sheet Date each of13 which could produce more meaningful results than the pay-as-you-go method, but over time the Chapter - Financial I nstr uments—LongTer m Debt range of permitted has been narrowed in major jurisdictions. Chapter 14options - Leases Chapter 12 -

Chapter 15 - I ncom e Taxes

As presently constituted, pension accounting rules have tended to focus overwhelmingly on the income statement. That is, the dominant objective has been to match income and expense properly on a Chapter 17 - Stock holder s' Equit y current basis, so that the periodic measurement of operating performance is within the bounds of Chapter 18 - Earnings Per Share material accuracy. Chapter 16 - Em ploy ee Benefit s

Chapter 19 - I nterim Financial Repor ting Chapter It has been 20 - less Segmclear ent Repor that the tingmeaningful presentation of the balance sheet has been a priority,

however. even when an employer has retained Chapter 21 Thus, - Accounting Changes and Cor rection of Er rorfull s responsibility for the ultimate payment of pension22benefits (asCurr withency defined benefit plans), the employer's statement of financial position has Chapter - For eign usually 23 excluded a complete representation of the assets and obligations of the pension scheme. This Chapter - RelatedPart y Disclosures has been partly to the facties that various "smoothing" approaches have been made to expense Chapter 24 due - Specialized I ndustr

measurement, causing balance sheet (given the rigors of double entry bookkeeping) to become the Chapter 25 - I nflation andthe Hyperinflation

repository for the resulting deferred charges and credits and thus making the overall picture from the balance sheet side less meaningful. Furthermore, accountants have been genuinely ambivalent about Appendix A - Di sclosure Checklist the validity of presenting information about the assets and obligations of the pension plan on the face of Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS the employer's balance sheet, believing that the pension plan constitutes a separate economic and Appendix C - Com parison of I AS, US GAAP, and UK GAAP reporting entity. Chapter 26 - Gov er nm ent Gr an ts

I ndex

List Tables IASof19 is a substantial advance over its predecessor standards and is very similar in approach to the List of Ex hibits and am ples corresponding USEx GAAP standards (SFAS 87, 88, and 106). In fact, it offers broader coverage than the

USofstandards, List Sidebar s touching on compensated absences and stock compensation arrangements (subjects of more extensive coverage in separate US GAAP standards, however) and short-term arrangements as well. IAS 19 broke with the past practice of permitting a range of methodologies resulting in potentially quite different financial statement results. Finally, IAS 19 greatly expanded the disclosures required by employers having defined benefit plans, again largely mimicking the US requirements. By mandating one specific actuarial costing method, IAS 19 effectively required employers sponsoring defined benefit plans to engage in annual actuarial valuations, which has increased the cost of compliance for those with such plans. Overall, the effect of IAS 19 has been to significantly increase the comparability of financial statements of entities with a wide range of employee benefit plans.

Basic Principles of IAS 19 W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f n t er n at ion al Accou n t in g St an d ar ds Applicability:I pension plans. by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za IAS 19 is applicable to both defined contribution and defined benefit pension plans. The accounting for John Wi leyis &normally Sons © 2003 (952 pages) defined contribution plans straightforward, with the objective of matching the cost of the program with the This periods which earn their Since contributions are formulacomin pact and the t rulyemployees com pr ehensive qui ckbenefits. - refer ence pr esent s account ants withwill a guide to depend on for driven, typically the payments to the plan be made currently; if they do not occur by the balance assistance in recognized the prepar atfor ionany andunpaid under standing of financial liability. Once made or sheet date, an accrual will be current contribution statements present ed in accordance with I AS. accrued, the employer has no further obligation for the value of the assets held by the plan or for the sufficiency T ab le of Conof t enfund t s assets for payment of the benefits, absent any violation of the terms of the agreement by the employer. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

IAS 19 further provides that disclosure should be made of the amount of expense recognized in Preface

connection the defined contribution pension plan. If notdsexplicitly identified in the statement of Chapter 1 - with I ntr oduction to I nter national Accounting Standar income, this should therefore be disclosed in the notes to the financial statements. - Balance Sheet

Chapter 2

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Compared Chapter 3 -to defined contribution plans, the accounting for defined benefit plans is vastly more of Recognized Gains and Losses

complex, because the employer (sponsor) is responsible not merely for the current contribution to be - Cash Flow St at em ent made to the plan on behalf of participants, but additionally for the sufficiency of the assets in the plan Chapter 5 - Financial I nstr uments—Cash and Receiv ables for the ultimate payments of benefits promised to the participants. Thus the current contribution is at Chapter 6 - I nventor y best a partial satisfaction of its obligation, and the amount of actual cost incurred is not measured by Chapter 7 Rev enue Recogni tion, I ncluding Constr uction Contr act s this alone. The measurement of pension cost under a defined benefit plan necessarily involves the Chapter 8 Property , Plant , and Equipment expertise of actuaries—persons who are qualified to estimate the numbers of employees who will Chapter - I ntangi ble Asset s in the case of vesting requirements which some of them may not yet have survive9(both as employees, I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and met; and Chapter 10as - living persons who will be available to receive the promised retirement benefits), the salary I nvestm oper(if ty these are incorporated into the benefit formula, as is commonly the levels at which they ent will Pr retire Chapter 11 - expected Business Combinations and Consolidat ed Fin Statements case), their life expectancy (since benefits areancial typically payable for life), and other factors Curr ent the Liabilit ies, Prov isions, Contneeded ingencies, and Ev the entsemployer's after t he promises. Actuarial which will influence amount of resources to satisfy Chapter 12 Balance Sheet Date by accountants, who lack the training and credentials, but the results of determinations cannot be made Chapter 13 efforts - Financial I nstr uments—LongTer m actuaries' will be critical to the ability to Debt properly account for defined benefit plan costs. Chapter 14 Leases Accounting for defined benefit plans is described at length in the following pages. Chapter 4

Chapter 15 - I ncom e Taxes Chapter Applicability: 16 - Em ployother ee Benefit employee s

benefit plans.

Chapter 17 - Stock holder s' Equit y

IAS 19 18 explicitly addresses not merely pension plans (which were dealt with by earlier iterations of this Chapter - Earnings Per Share standard as well, although in rather less detail), but also four other categories of employee and postemployment benefits. These are

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

1. Short-term employee benefits, which include wages and salaries as well as Chapter 21 - Accounting Changes and Cor rection of Er rornormal s absences, profit sharing and bonuses, and such nonmonetary fringe benefits as Chapter compensated 22 - For eign Curr ency insurance, subsidies, and employer-provided automobiles, to the extent these Chapter health 23 - RelatedPart yhousing Disclosures are granted to current (not retired) employees.

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and employee Hyperinflation 2. Other long-term benefits, such as long-term (sabbatical) leave, long-term disability Chapter benefits 26 - Govand, er nmifent Gr an tsafter twelve months beyond the end of the reporting period, profit payable Appendixsharing A - Di sclosure Checklist and bonus arrangements and deferred compensation. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

3. Termination benefits. Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

4. Equity compensation benefits, which are stock option plans, phantom stock plans, and similar compensation schemes which reward employees based upon the performance of the List of Ex hibits and Ex am ples companies' share prices. List of Tables

List of Sidebar s

Each of the foregoing categories of employee benefits will be explained later in this chapter. IAS 19 also addresses postemployment benefits other than pensions, such as retiree medical plan coverage, as part of its requirements for pension plans, since these are essentially similar in nature. While the predecessor standard IAS 19 nominally covered these plans, the new standard explicitly addresses them as being variants of defined benefit arrangements. These are discussed further later in this chapter.

IAS 19 considers all plans other than those explicitly structured as defined contribution plans to be defined benefit plans, with the accounting and reporting complexities that this implies. Unless the employer's obligation the ofd contribution due, typically driven by a W ile is y Istrictly AS 2 0 limited 03 : I n tto erp re tamount at ion an Ap p licat io ncurrently of formula based onI n enterprise performance or by employee wages or salaries, the obligations to the t er n at ion al Accou n t in g St an d ar ds employees (and the amount of recognizable expense) will have to be estimated in accordance with ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali actuarial principles. Mir za John Wi ley & Sons © 2003 (952 pages)

Cost recognition distinguished from funding This com pact and t ruly com pr ehensive qui ckpractices. - refer ence pr esent s account ants with a guide to depend on for

Although sound management practice may beand to fund retirement benefit plans on a current basis, in assistance in the prepar at ion under standing of financial presentto eddo in this accordance I AS.or absent entirely. Furthermore, in some some jurisdictionsstatements the requirement is eitherwith limited jurisdictions the currently available tax deduction for contributions to pension plans may be limited, T ab le of Con t en t s reducing the incentive to make such contributions until such time as the funds are actually needed for Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing makingdspayouts to retirees. Since the objective of periodic financial reporting is to match costs and Standar revenues properly on a current basis, the pattern of funding is obviously not a useful guide to proper Preface accounting for pension costs. Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Chapter 2

- Balance Sheet "Pay-as-you-go," accrued benefit, and projected benefit methods of I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 accounting for postretirement benefits. of Recognized Gains and Losses Chapter 4

- Cash Flow St at em ent

Before the establishment of strict accounting and financial reporting rules, it was not uncommon to - Financial I nstr uments—Cash and Receiv ables account for pensions and other similar costs on the "pay-as-you-go" basis. Briefly, this methodology Chapter 6 - I nventor y recognized current period expense equal to only the amounts of benefits actually paid out to retirees Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s and other beneficiaries in the reporting period. In support of this approach, the argument was usually Chapter 8 - Property , Plant , and Equipment made (1) it was very difficult, or expensive, to accurately measure (i.e., on an actuarial basis) the real Chapter - I plans ntangi and ble Asset s effect on periodic earnings would not be much different in any event. cost of 9such (2) the I nterests in Financial Instr um ent the s, Associat es,ofJoint Ventur es, accounting, and However, obviously violates concept accrual basis and the Chapter 10 pay-as-you-go I nvestm ent Pr oper ty presumption that periodic expense is not materially distorted is often not supported in fact. This method Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements of accounting for pensions and other postretirement programs has accordingly been barred since the Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he first version Chapter 12 - of IAS 19 was promulgated in 1983. Chapter 5

Balance Sheet Date

Chapter 13 - Financial I nstr uments—Longm Debt pay-as-you-go accounting for the cost of employee While adherence to the accrual concept Ter precluded Chapter 14 Leases benefit plans, for plans other than those which qualify as defined contribution arrangements there Chapter 15 a- range I ncom eofTaxes remained acceptable, accrual-basis-consistent methods. Earlier versions of IAS 19 granted wide discretion in selection ofs costing methods. The various techniques fall within two general Chapter 16 - Em ploy ee Benefit

groupings known as ythe "accrued benefit" and "projected benefit" methods. While the current Chapter 17 -which Stockare holder s' Equit IAS 19 18 has- ended thePer acceptability of the projected benefit methods, an understanding of the two Chapter Earnings Share approaches be helpful to Repor gaining a fuller comprehension of the intricacies of the financial reporting Chapter 19 - Iwill nterim Financial ting of pension costs Chapter 20 -plan-related Segm ent Repor tingin the financial statements of the sponsoring enterprise. Chapter 21 - Accounting Changes and Cor rection of Er ror s

The accrued (or accumulated) benefit methods are based on services provided by employees through the date of valuation (the balance sheet date), without considering future services to be rendered by Chapter 23 - RelatedPartcost y Disclosures them. Periodic pension is a function of services that are provided in the current period. Since the Chapter 24 Specialized I ndustr ies obligation for future pension payments is computed as the discounted present value of the amounts to Chapter 25 I nflation and Hyperinflation be paid in later years, accrued benefit methods will calculate increasing charges (even if wage levels Chapter 26 - Gov nm ent Gr anapproach ts are constant) aseremployees retirement, since the present values of future payments will Appendix sclosure increaseAas- Di the time toChecklist retirement shortens. Periodic charges also increase, in most actual instances, Appendix becauseBattrition - I llustrativ ratese (employees Financial St atem whoent leave, s Pr esent thereby ed Under forfeiting I AS their rights to retirement payments) decline over time, since of older less inclination to change employment. While wages will Appendix C - Com parison I AS,employees US GAAP, show and UK GAAP typically increase over time as employees age, both as a result of compensation increases due to I ndex seniority and performance improvements, and as a result (if the past is any guide) of ongoing wage List of Tables inflation, this should notples be the cause of increasing pension costs as time to retirement grows shorter, List of Ex hibits and Ex am since even accrued benefit valuation methods must be based on assumptions about future salary List of Sidebar s progression. Notwithstanding that over time these assumptions and expectations cannot be precisely accurate, the presumption should be that "estimation errors" will be randomly distributed, and that over the long run, good-faith estimates of salary progression and the resultant effects on periodic pension costs will be fairly accurate. Consequently, periodic pension costs should not drift upward as employees age because of wage increases. Chapter 22 - For eign Curr ency

The projected benefit valuation method, on the other hand, uses actuarial estimation techniques that consider both the services already rendered as well as those to be rendered by the employees. The

goal is to allocate the entire retirement cost smoothly over each employee's respective working life. The pension obligation at any point in time is computed as the present value of the aggregate future payments earnedWtoilethe date. withanaccrued benefit valuation methods, future salary y Ibalance AS 2 0 03sheet : I n t erp re tAs at ion d Ap p licat io n o f progression mustI be taken into account in determining periodic pension costs over the working lives of n t er n at ion al Accou n t in g St an d ar ds employees. The difference, however, is that future costs are spread more evenly over the full period of ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali employment (although Mir za this does not imply that straight-line allocation is an absolute requirement) as compared to the accrued John Wi ley benefit & Sons valuation © 2003 (952 methods, pages) and in particular, pension-related costs will not show the constantly pattern by the qui alternative approach simply due to the Thisincreasing com pact and t ruly exhibited com pr ehensive ck - refer ence pr esent as s account ants dates with a draw guidenear. to depend on for shortening time horizon retirement assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. Proponents of both accrued and projected benefit valuation approaches have claimed that the matching concept underlies their preferred method. For large employers having a workforce comprised T ab le of Con t en t s of individuals of all ages, and that typically replace older retiring workers with younger ones, pension Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing costs will Standar ds be similar under either method on an aggregate basis. While pension costs relative to older workers will be higher and costs relating to younger workers will be lower, if the accrued benefit Preface valuation method is used versus what would be reflected if the projected benefit valuation method were Chapter 1 - I ntr oduction to I nter national Accounting Standar ds used, with a stable mix of ages of workers, this will not significantly vary. For smaller employers, or Chapter 2 - Balance Sheet those with a workforce skewed toward younger or older workers, then holding all other considerations I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 the - periodic pattern of pension costs will diverge under these two methods. constant, of Recognized Gains and Losses Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Example of accrued and projected benefit methods

Chapter 6 - I nventor y To understand the essential difference between accrued benefit and projected benefit methods, Chapter 7 Rev enue Recogni tion, I ncluding consider a simple case of a single employeeConstr hireduction todayContr with act no sexpectation of future salary increases, Chapter 8 - Property , and Equipment and promised a total, Plant retirement benefit of $10,000 if he retires after at least 10 years' service, or $14,0009 if -after 20 ble years' service. Ignoring present valuing (which does have to be taken into account in Chapter I ntangi Asset s

the actual accounting employee benefit however), theVentur accrued benefit method would allocate I nterests infor Financial Instr um entcosts, s, Associat es, Joint es, and I nvestm ent Pr operin ty promised benefits to each of the first 10 years of service, and then 1/10 1/10 of the $10,000 = $1,000 Chapter 11 - Business Combinations and Consolidat ed10 Finyears, ancial Statements of the $4,000 increment = $400 to each of the next since accrued benefit methods would not assume the Curr employee ent Liabilit would ies,continue Prov isions, employment Cont ingencies, beyond andthe Ev ents tenthafter yeart he until after that threshold is Chapter 12 Balance Sheet Date surpassed. Projected benefit methods, on the other hand, would assign 1/20 of the $14,000 = $700 to Chapter Financial I nstr uments—LongTer m based Debt on service rendered and to be rendered until each of13 the- first 20 years' employment, being Chapter 14 Leases expected retirement. This all presumes the employee is expected to work at least 20 years (based on Chapter experience, 15 - Ithe ncom employee's e Taxes age, etc.). In actual practice, with multiple employees, statistical estimates are used fullBenefit accrual Chapter 16such - Emthat ploy ee s of benefits is normally not made for all employees, given that a certain fraction will opt out before becoming vested, etc. Chapter 17 - Stock holder s' Equit y Chapter 10 -

Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting

Net Periodic Pension Cost

Chapter 20 - Segm ent Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 -discussion. For eign Curr ency General Chapter 23 - Related- Part y Disclosures

Absent24 specific information to the Chapter - Specialized I ndustr ies contrary, it is assumed that a company will continue to provide retirement the future. The accounting for the plan's costs should be reflected in the Chapter 25 -benefits I nflationwell andinto Hyperinflation financial these Chapter 26statements - Gov er nm and ent Gr an ts amounts should not be discretionary. All pension costs should be

charged against income. No amounts should be charged directly to retained earnings. The principal focus of IAS 19 is on the allocation of cost to the periods being benefited, which are the periods in Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS which the covered employees provide service to the reporting enterprise. Appendix A - Di sclosure Checklist

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Periodic measurement of cost for defined contribution plans.

List of Tables

List of Exthe hibits andof Exaam ples contribution plan (in some cases referred to as a "money purchase" plan), Under terms defined List Sidebar swill be obligated for fixed or determinable contributions in each period, often computed as theofemployer

a percentage of the wage and salary base paid to the covered employees during the period. For one example, contributions might be set at 4% of each employee's wages and salaries, up to $50,000 wages per annum. Generally, the contributions must actually be made by a specific date, such as ninety days after the end of the enterprise's fiscal year, consistent with local law. The expense must be accrued for accounting purposes in the year the cost is incurred, whether the contribution is made currently or not. IAS 19 requires that contributions payable to a defined contribution plan be accrued currently, even if

not paid by year-end. If the amount is due over a period extending more than one year from the balance sheet date, the long-term portion should be discounted at the rate applicable to long-term corporate bonds, W if ile that orion applicable government bonds in the alternative. y Iinformation AS 2 0 03 : Iis n tknown, erp re t at an d Ap ptolicat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Employers may make further discretionary contributions to benefit plans in certain periods. For ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali example, if the entity Mir zaenjoys a particularly profitable year, the board of directors may vote to grant another 2% of wages a bonus contribution to the employees' benefit plan. The extent to which this is John as Wi ley & Sons © 2003 (952 pages) done will depend,This among other factors, on the tax laws of the relevant jurisdiction. Normally, an com pact and t ruly com pr ehensive qui ck - refer ence enterprise makingprsuch a discretionary contribution not do esent s account ants with a guide todoes depend on so for simply to reward past performance by its workers. Rather, it does so in the belief that under the gesture willofcause its employees to be motivated assistance in the prepar at ion and standing financial statements present ed forthcoming in accordance with IIAS AS. 19 addresses profit sharing and bonus to be more productive and loyal in the years. plans as a subset of its requirements concerning short-term compensation arrangements; it stipulates T ab le of Con t en t s that such a payment should be recognized only when paid or when the entity has a legal or constructive Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing obligation Standar ds to make it, and it can be reliably estimated. There appears to be no basis for deferring recognition of the expense after that point, however, even though longer-term benefits to the entity Preface might be hoped for. Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Chapter 2 - Balance Sheet Past service costs arise when a plan is amended retroactively, so that additional contributions are I ncom eto Statement, Stat em ent Chan ges inFor Equit y, and Statem entformerly required made with respect services rendered in of past years. example, if a plan Chapter 3 of Recognized Gains and Losses

contributions of 5% of salaries and is amended retroactively to provide for contributions of 6%, an extra - Cash Flow St at em ent 1 % of each employee's aggregate salary for all prior years will be transferred to the employee's Chapter 5 - Financial I nstr uments—Cash and in Receiv pension account. When plans are amended this ables fashion, it is generally management's belief that it Chapter 6 I nventor y will provide an incentive for greater efforts in the future. IAS 19 does not explicitly address retroactive Chapter 7 - Rev Recogni tion, I ncluding Constr Contr act s the requirements concerning similar amendments to enue defined contribution plans, but by uction analogizing from Chapter 8 Property , Plant , and Equipment amendments to defined benefit plans, it is clear that, if fully vested immediately (as would almost Chapter 9 be - I ntangi ble Asset s would have to be expensed currently. inevitably the case), these Chapter 4

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

TerminationsI nvestm of defined contribution plans generally provide no difficulties from an accounting ent Pr oper ty perspective, since costs have beenand recognized currently in most instances. However, if certain costs, Chapter 11 - Business Combinations Consolidat ed Fin ancial Statements such as those associated with past services and with discretionary contributions made in past Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents bonus after t he Chapter 12 years, have Balance not yet been Sheetfully Dateamortized, the remaining unrecognized portions of those costs must be expensed the period when it becomesTer probable Chapter 13 in - Financial I nstr uments—Longm Debt that the plan is to be terminated. This should be the period when the decision to terminate is made, which on occasion may precede the actual termination Chapter 14 - Leases of the plan. Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s

Periodic measurement of cost for defined benefit plans.

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

Defined benefit plans present a far greater challenge to accountants than do defined contribution plans,

Chapter 19 amount - I nterimof Financial since the expenseRepor to beting recognized currently will need to be determined on an actuarial Chapter 20 - Segm ting basis. While underentanRepor earlier version of IAS 19 both a benchmark treatment (using the accrued benefit Chapter 21 method) - Accounting Changes and Cor rectiontreatment of Er ror s (using the projected benefit valuation method) valuation and an allowed alternative Chapter 22utilized, - For eign Currthe encycurrent IAS 19 only the former is permitted. Furthermore, only a single could be under Chapter - RelatedPart y Disclosures variant 23 of the accrued benefit method—the "projected unit credit" method—will be permitted. Only this Chapter Specialized I ndustr method24 will- be discussed in theiesfollowing presentation. Chapter 25 - I nflation and Hyperinflation

Conceptually (and, for the first time, actually under the current standard IAS 19), net periodic pension cost will consist of the sum of the following six components:

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

1. Current (pure) eservice cost Appendix B - I llustrativ Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

2. Interest cost for the current period on the accrued benefit obligation

I ndex

List of 3. Tables The expected return on plan assets List of Ex hibits and Ex am ples

4. Sidebar Actuarial List of s gains and losses, to the extent recognized 5. Past service costs, to the extent recognized 6. The effects of any curtailments or settlements While the former IAS 19 did not separately address each of these elements, the current IAS 19 does follow closely the model under US GAAP and separately present these. Disclosures required by this standard effectively require that these cost components be displayed in the notes to the financial statements, while no such rule existed before under international accounting standards.

It is important to stress that current service cost, the core cost element of all defined benefit plans, must be determined by a qualified actuary. While the other items to be computed and presented are ile y I AS 2in0 most 03 : I ncases, t erp rethey t at ion d Ap p licator io even n o f calculated directly by others, also developed byWactuaries cananbe verified I n t er n at ion al Accou n t in g St an d ar ds including the enterprise's internal or external accountants. The current service cost, however, is not an ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali immediately apparent computation, as it relies upon a detailed census of employees (age, expected Mir za remaining working life, etc.) and the employer's experience (turnover, etc.), and is an intricate and John Wi ley & Sons © 2003 (952 pages) elaborate computational exercise in many cases. Current service cost can only be developed by this This com pact and t ruly com pr ehensive qui ck - refer ence careful, employee-by-employee analysis, this istobest left to pr esent s account ants withand a guide depend onthose for with the expertise to complete it. assistance in the prepar at ion and under standing of financial in accordance with I AS.

Current service cost. present ed statements

T ab le of Con t en t scost must be determined by an actuarial valuation and will be affected by assumptions Current service Wiley AS expected 20 03—Int turnover er pretation of I nternational Account suchI as of and staff,Application average retirement age, the plan'singvesting schedule, and life Standar ds

expectancy after retirement. The probable progression of wages over the employees' remaining

Preface working lives will also have to be taken into consideration if retirement benefits will be affected by levels Chapter 1 - I ntr oduction I nteras national of compensation in later to years, will beAccounting true in the Standar case ofds career average and final pay plans, among Chapter others. 2

- Balance Sheet

Chapter 3

-

Chapter 9

- I ntangi ble Asset s

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

of Recognized and Losses Under IAS 19, service costGains is based on the present value of the defined benefit obligation, and is Chapter 4 to - Cash FlowofSt at em ent attributed periods service without regard to conditional requirements under the plan calling for further 5service. Thus,I nstr vesting is not taken into account Chapter - Financial uments—Cash and Receiv ablesin the sense that there is no justification for nonaccrual to vesting. However, in the actuarial determination of pension cost, the statistical Chapter 6 - prior I nventor y probability employees leaving prioruction to vesting Chapter 7 -ofRev enue Recogni tion,employment I ncluding Constr Contrmust act s be taken into account, lest an overaccrual of costs , be made. Chapter 8 - Property Plant , and Equipment

Example of service cost attribution

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

To explain the concept of service cost, assume a single employee is promised a pension of $1,000 per year for each year worked before retirement, for life, upon retirement at age sixty or thereafter. Further Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter assume12that - this is the worker's first year on the job, and he is 30 years of age. The consulting actuary Balance Sheet Date determines that if the worker, in fact, retires at age 60, he will have a life expectancy of 15 years, and at Chapter 13 - Financial I nstr uments—Long- Ter m Debt the present value of the required benefits ($1,000/yr x 15 years = $15,000) discounted at the long-term Chapter 14 - Leases corporate bond rate, 8%, equals $8,560. In other words, based on the work performed thus far (1 year's Chapter 15 - I ncom e Taxes worth), this employee has earned the right to a lump-sum settlement of $8,560 at age 60. Since this is Chapter 16into - Em ploy ee Benefit s 30 years the future, this amount must be reduced to present value, which at 8% is a mere $851, Chapter - Stock holder s' Equit which is17the pension cost to beyrecognized currently. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 18 - Earnings Per Share

In year 19 2, this workerFinancial earns the right to yet another annuity stream of $1,000 per year upon retirement, Chapter - I nterim Repor ting which again has aent present Chapter 20 - Segm Repor value ting of $8,560 at the projected retirement age of 60. However, since age 60 is now 29 yearsChanges hence, the value of ror that Chapter 21 only - Accounting andpresent Cor rection of Er s promised benefit at the end of the current

(second) $919, Chapter 22year - Foris eign Currwhich ency represents the service cost in year 2. This pattern will continue: As the

employee ages, the current cost of pension benefits grows apace with, for example, the cost in the final working year being $8.560, before considering interest on the previously accumulated Chapter 24 - Specialized I ndustr ies obligation—which would, however, add another $18,388 of expense, for a total cost for this one Chapter 25 - I nflation and Hyperinflation employee in his final working year of $26,948. It should be noted, however, that in "real-life" situations Chapter 26 - Gov er nm ent Gr an ts for employee groups in the aggregate, this may not hold, since new younger employees will be added Appendix A - Di sclosure Checklist as older employees die or retire, which will tend to smooth out the annual cost of the plan. Chapter 23 - Related- Part y Disclosures

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex It should be noted, parenthetically, that if the projected benefit approach (the allowed alternative under List former of Tables IAS 19) were employed in the foregoing example, greater cost would be recognized in the early

years ofhibits the employee's working life, since the actuarial determination would have been based on List of Ex and Ex am ples service provided and service to be provided. In this example, it would have been projected that the List of Sidebar s employee would remain on the job for thirty years, thereby earning an annual pension of $30,000, which will have a discounted present value at retirement of $256,800. This amount would be spread evenly over the employee's working life, for an annual cost of about $8,560. That is, the pension cost associated with this worker would be $8,560 in the first year of his working life and every year thereafter. (There are a number of actuarial valuation methods, and this simplified illustration is intended only to contrast the former benchmark treatment—now the mandatory one—with the previously allowed alternative.)

Interest on the accrued benefit obligation. As noted, since the actuarial current costio isnthe W ile y I AS 2determination 0 03 : I n t erp reof t at ion anperiod d Ap p licat o f present value of the future pension benefits to be paid to retirees by virtue of their service in the current period, the longer the time I n t er n at ion al Accou n t in g St an d ar ds until the expectedbyretirement date, the lower will be the service cost recognized. However, over time ISBN:0471227366 Bar r y J. Epstein and Abbas Ali za be further increased, until at the employees' respective retirement dates the full this accrued cost Mir must amounts of the promised payments accreted. In this regard, the accrued pension liability is John Wi ley & Sons ©have 2003 been (952 pages) much like a sinking fund fromcom contributions earnings This comthat pactgrows and t ruly pr ehensive plus qui ckthe - refer ence thereon. pr esent s account ants with a guide to depend on for

Consider the example of service presented the preceding The $851 obligation recorded assistance in thecost prepar at ion andinunder standing ofsection. financial present ed in grown accordance withbyI AS. in the first year ofstatements that example will have to $919 the end of the second year. While former standard IAS 19 did not address this directly, the latest version of IAS 19 adopts the same approach as T ab le of Con t en t s was established a decade earlier under US GAAP. This $68 increase in the obligation for future Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing benefits Standar ds due to the passage of time is reported as a component of pension cost, denoted as interest cost. Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Other elements of benefit cost.

I ncomstandard e Statement, Statpresented em ent of Chan in Equit y, and Statem ent While the IAS 19 only ges a brief description of the elements of pension cost Chapter 3 former of Recognized Gains and Losses

other than current service cost, this has dramatically changed under the current standard. This - Cash Flow St at em ent identifies the expected return on plan assets, actuarial gains and losses, past service costs, and the Chapter 5 - Financial I nstr uments—Cash and ables to be explicitly addressed in the disclosure of effects of any curtailments or settlements, asReceiv categories Chapter 6 I nventor y the details of annual pension cost for defined benefit plans. These will be discussed in the following Chapter 7 in- turn. Rev enue Recogni tion, I ncluding Constr uction Contr act s sections, Chapter 4

Chapter 8

- Property , Plant , and Equipment

Chapter The expected 9 - I ntangireturn ble Asset on s

plan assets.

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 IAS 19 has adopted thePr approach I nvestm ent oper ty of the corresponding US standard in accepting the notion that since

pension11plan assets are intended as long-term investments, random and perhaps sizable Chapter - Business Combinations and Consolidat ed Fin ancialthe Statements fluctuations Curr froment period to ies, period allowed to excessively distort Liabilit Provshould isions, not Contbe ingencies, and Ev ents after t he the operating results reported by Balance the sponsoring entity. This standard identifies the expected return rather than the actual Sheet Date return on assetsI as component ofTer pension Chapter 13 plan - Financial nstrauments—Longm Debtcost, with the difference between actual and expected return being an actuarial gain or loss to be dealt with as described below (deferred to future periods or, Chapter 14 - Leases if significant, partially recognized). Expected return for a given period is determined at the start of that Chapter 15 - I ncom e Taxes period, 16 and- is long-term rates of return for assets to be held over the term of the related Chapter Embased ploy eeon Benefit s pension obligation. Expected return is to incorporate anticipated dividends, interest, and changes in fair Chapter 17 - Stock holder s' Equit y value, and is furthermore to be reduced in respect of expected plan administration costs. Chapter 18 - Earnings Per Share Chapter 12 -

Chapter 19 - I nterim Financial tingof 2003 the plan administrator expects, over the long term, and For example, assume that at Repor the start Chapter 20 historical - Segm entperformance Repor ting of plan assets, that the plan's assets will receive annual interest and based on Chapter 21 of - Accounting of Er ror s and will enjoy a market value gain of another dividends 6%, net of Changes any taxesand dueCor byrection the fund itself, Chapter For eign Curr ency 2.5%. It22is -also noted that plan administration costs average .75% of plan assets, measured by fair Chapter 23 - this RelatedDisclosures value. With data,Part any expected rate of return for 2003 would be computed as 6.00% + 2.50% - .75% = 7.75%. rate would be used Chapter 24 This - Specialized I ndustr ies to calculate the return on assets, which would be used to offset

service25 cost other benefit plan cost components for the year 2003. Chapter - I and nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

The difference between this assumed rate of return, 7.75% in this example, and the actual return enjoyed by the plan's assets would be added to or subtracted from the cumulative actuarial gains and Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS losses. In theory, over the long run, these gains and losses will largely offset, inasmuch as they are the Appendix C - Com parison of I AS, US GAAP, and UK GAAP result of random fluctuations in market returns and of demographic and other changes in the group I ndex covered by the plan (such as unusual turnover, mortality, or changes in salaries). Since these are List of Tables expected to largely offset, and given the very long time horizon over which pension benefit plan List of Ex hibits is and ples the notion of deferring these net gains or losses is appealing. performance to Ex beam judged, Appendix A - Di sclosure Checklist

List of Sidebar s

Under the current IAS 19 as originally promulgated, assets were properly considered to be plan assets only if all of the following three conditions were met: 1. The pension or other benefit plan is an entity which is legally separate from the sponsoring employer or enterprise; 2. The assets of the plan are only to be used to settle employee benefit obligations, are not available to the sponsoring enterprise's creditors, and either cannot be returned to the sponsor at all or can be returned only to the extent that assets remaining in the fund are sufficient to

meet the plan's obligations; and 3. The sponsor will have no legal or constructive obligation to directly pay the employee benefit W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f obligations, assuming that the fund contains sufficient assets to satisfy those obligations. I n t er n at ion al Accou n t in g St an d ar ds by Bar r yinJ. 2001 Epstein and Abbas Ali definition ofISBN:0471227366 An amendment effective modified IAS 19's plan assets to explicitly include certain Mir za insurance policies, and to eliminate the condition relating to sufficiency of assets in the funds. It also John Wi ley & Sons © 2003 (952 pages) slightly amends and rewords the balance of the current definition. The new definition is assets held by a This com pact and t ruly com pr ehensive qui ck - refer ence long-term employee benefit fund, and qualifying insurance policies. Regarding assets held by a fund, pr esent s account ants with a guide to depend on for these are assets assistance (other thaninnontransferable instruments by the reporting entity) that the prepar at ion financial and under standing of issued financial both statements present ed in accordance with I AS. T ab le1.of Are Conheld t en t sby a fund that is legally separate from the reporting entity and exist solely to pay or fund

employee benefits, and

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

2. Are available to be used only to pay or fund employee benefits, are not available to the reporting entity's own creditors (even in the event of bankruptcy), and cannot be returned to the reporting Chapter 1 - I ntr oduction to I nter national Accounting Standar ds entity unless either Preface

Chapter 2

- Balance Sheet

a.I ncom The eremaining assets of the fund are sufficient to meet all related employee benefit Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - obligations of the plan or the entity, or of Recognized Gains and Losses Chapter 4 Chapter 5 Chapter 6

- Cash Flow St at em ent

b. The assets are returned to the reporting entity to reimburse it for employee benefits - Financial I nstr uments—Cash and Receiv ables already paid by it. - I nventor y

Chapter 7 -the Revqualifying enue Recogni tion, I ncluding Constr uction Contr act Regarding insurance policy, this must be issued bys a nonrelated party if the proceeds of Chapter the policy 8 both - Property , Plant , and Equipment Chapter 9 - be I ntangi Asset 1. Can usedble only to spay or fund employee benefits under a defined benefit plan, and I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr 2. Are not available tooper thetyreporting entity's own creditors (even in the event of bankruptcy), and Chapter cannot 11 - Business Combinations and Consolidat ed Fin ancial be returned to the reporting entity unless eitherStatements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 a. - The proceeds represent surplus assets that are not needed for the policy to meet all Balance Sheet Date

related employee benefit obligations, or

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 14 b. - Leases The proceeds are returned to the reporting entity to reimburse it for employee benefits Chapter 15 - I ncom e Taxes already paid by it. Chapter 16 - Em ploy ee Benefit s

It should stressed that the definition of plan assets is significant for several reasons: plan assets are Chapter 17be - Stock holder s' Equit y

excluded from the sponsoring employer's balance sheet and will also serve as the basis for determining the actual and expected rates of return, which impact on the periodic determination of pension cost. By Chapter 19 - I nterim Financial Repor ting adopting a somewhat more expansive definition of plan assets, the amended IAS 19 causes some Chapter 20 - Segm ent Repor ting variations in the future computation of pension costs. Chapter 18 - Earnings Per Share

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter For eign Curr ency The IAS2219- amendment also added certain new requirements to the former standard. These additional Chapter 23 - RelatedPart y Disclosures requirements relate to recognition and measurement of the right of reimbursement of all or part of the Chapter expenditure 24 - Specialized to settle a defined I ndustr ies benefit obligation. It established that only when it is virtually certain that

another25party will reimburse some or all of the expenditure required to settle a defined benefit Chapter - I nflation and Hyperinflation obligation, Chapter 26 -the Govsponsoring er nm ent Grentity an ts would recognize its right to reimbursement as a separate asset, which would beAmeasured at Checklist fair value. In all other respects, however, the asset (amount due from the Appendix - Di sclosure pension Bplan) is to beetreated in St theatem same as plan assets. In the income statement, defined benefit Appendix - I llustrativ Financial ent way s Pr esent ed Under I AS plan expense may be presented net of theand reimbursement receivable recognized. Appendix C - Com parison of I AS, US GAAP, UK GAAP I ndex

In some situations, a plan sponsor would be able to look to another entity to pay some or all of the cost

List of Tables to settle a defined benefit obligation, but the assets held by that other party were not deemed to be plan List of Exas hibits and Ex ples assets defined in am IAS 19 (prior to the most recent revision). For example, when an insurance policy List of Sidebar would match spostemployment benefits, the assets of the insurer were not included in plan assets

because the insurer was not established solely to pay or fund employee benefits. In such cases, the sponsor recognized its right to reimbursement as a separate asset, rather than as a deduction in determining the defined benefit liability (i.e., no right of offset was deemed to exist in such instances); in all other respects (e.g., the use of the corridor), the sponsoring entity would treat that asset in the same way as plan assets. In particular, the defined benefit liability recognized under IAS 19 prior to the most recent amendment was to be increased (reduced) to the extent that net cumulative actuarial gains (losses) on the defined benefit obligation and on the related reimbursement remain unrecognized under

this standard, as explained earlier in this chapter. A brief description of the link between the reimbursement and the related obligation would be required. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

If the right to reimbursement arises under an insurance policy that exactly matches the amount and I n t er n at ion al Accou n t in g St an d ar ds timing of some or all of the benefits payable under a defined benefit plan, the fair value of the ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali reimbursement was formerly deemed to be present value of the related obligation (subject to any Mir za reduction requiredJohn if the was recoverable in full). Wireimbursement ley & Sons © 2003 (952not pages) This com pact and t ruly com pr ehensive qui ck - refer ence As amended, however, qualifying insurance policies are now to be included in plan assets, arguably pr esent s account ants with a guide to depend on for because those plans have economic to funds whose assets qualify as plan assets under assistancesimilar in the prepar at ioneffects and under standing of financial the revised definition. statements present ed in accordance with I AS. T ab le of Con t en ts Actuarial gains

and losses, to the extent recognized.

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds in the amount of the actuarially determined pension obligation and differences in the actual Changes Preface versus the expected yield on plan assets, as well as demographic changes (e.g., composition of the Chapter 1 -changes I ntr oduction I nter nationaletc.) Accounting Standar ds workforce, in lifetoexpectancy, contribute to actuarial (or "experience") gains and losses. Chapter 2 Balance Sheet While immediate recognition of these gains or losses could clearly be justified conceptually (because

these are real I ncom andehave Statement, alreadyStat occurred), em ent ofthere Chanare ges both in Equit theoretical y, and Statem arguments ent opposed to such of Recognized and Losses immediate recognition (theGains distortive effects on the measure of current operating performance resulting Chapter 4 long-term - Cash Flow St at em ent much of which will reverse of their own accord over time), as well as from very investments, Chapter 5 - Financial I nstr uments—Cash and Receivand ables great opposition by financial statement preparers users. For this reason, IAS 19 does not require Chapter 6 - I nventor y such immediate recognition, unless the fluctuations are so great that deferral is not deemed to be valid. It has essentially acceded to tion, the US approach anduction defined a 10% Chapter 7 - Rev enue Recogni I ncluding Constr Contr act s corridor as representing the range of variation to ,be "normal." While the use of a 10% threshold is arbitrary, it does have the Chapter 8 deemed - Property Plant , and Equipment advantage apparent logic,s since it has already been employed for over a decade in the US. Chapter 9 - of I ntangi ble Asset Chapter 3

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter Thus, if10 the- unrecognized actuarial gain or loss is no more than 10% of the larger of the present value I nvestm ent Pr oper ty

of the defined benefit obligation or the fair value of plan assets, measured at the beginning of the reporting period, no recognition in the current period will be necessary (i.e., there will be continued Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter deferral12of -the accumulated net actuarial gain or loss). On the other hand, if the accumulated net Balance Sheet Date actuarial gain or loss exceeds this 10% corridor, the magnitude creates greater doubt that future losses Chapter 13 - Financial I nstr uments—LongTer m Debt or gains will offset these, and for that reason some recognition will be necessary. It is suggested by IAS Chapter 14 - Leases 19 that this excess be amortized over the expected remaining working lives of the then-active Chapter 15 - I ncom e Taxes employee participants, but the standard actually permits any reasonable method of amortization as long Chapter 16 - Em ploy ee Benefit s as (1) recognition is at no slower a pace than would result from amortization over the working lives of Chapter 17 - Stock holder s' Equit y participants, and (2) that the same method is used for net gains and net losses. It would even be Chapter 18 - Earnings Per Share acceptable to fully recognize all actuarial gains or losses without regard to the 10% corridor Chapter 19 - I nterim Financial Repor tinga practice would satisfy this criterion. immediately, if so desired, since such Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 20 - Segm ent Repor ting

The corridor and the amount of any beyond thiss corridor must be computed anew each year, Chapter 21 - Accounting Changes and excess Cor rection of Er ror based on present value Chapter 22 the - For eign Curr encyof defined benefits and fair value of plan assets at the beginning of the year. Thus, may have been an unrecognized actuarial gain of $450,000 at the end of year 1, Chapter 23 - there RelatedPart y Disclosures which exceeds the 10%I ndustr corridor Chapter 24 - Specialized iesboundary by $210,000, and is therefore to be amortized over the

average25twenty-one-year remaining working life of the plan participants, indicating a $10,000 reduction Chapter - I nflation and Hyperinflation

in pension cost in year 2. If, at the end of year 2, market losses or other actuarial losses reduce the accumulated actuarial gain below the threshold implied by the 10% corridor. Accordingly, in year 3 Appendix A - Di sclosure Checklist there will be no further amortization of the net actuarial gain. This determination, therefore, must be Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS made at the beginning of each period. Depending on the amount of unrecognized actuarial gain or loss Appendix C - Com parison of I AS, US GAAP, and UK GAAP at the end of year 3, there may or may not be amortization in year 4, and so on. Chapter 26 - Gov er nm ent Gr an ts

I ndex

List of Tables In May 2002, the IASB published a proposed amendment to IAS 19 in response to concerns raised List about of Ex the hibits perceived and Ex am interaction ples of the deferred recognition and the asset ceiling provisions of IAS 19,

andofthe risk that this was creating counterintuitive results. The issue would affect only those entities List Sidebar s that have, at the beginning or end of the accounting period, a surplus in a defined benefit plan that, based on the current terms of the plan, the entity cannot fully recover through refunds or reductions in future contributions. The anomalies of concern being reported by companies using IAS were the following: 1. Gains were being reported on the occurrence of actuarial losses in their pension plans, and 2. Losses were being reported on occurrence of actuarial gains (in their pension plans).

More specifically, the issue was that the wording of the asset ceiling would have the following consequence: sometimes deferring the recognition of an actuarial loss (gain) would lead to a gain (loss) being recognizedWinile the statement. Exposure proposed y Iincome AS 2 0 03 : I n t erp reThe t at ion an d ApDraft p licat io n o f a limited amendment to IAS 19 that would have prevented gains (losses) from being recognized solely as a result of past service I n t er n at ion al Accou n t in g St an d ar ds cost or actuarial losses (gains) arising in the period. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za

Upon study, the IASB concluded that there were inconsistencies between the IASB Framework and the John Wi ley & Sons © 2003 (952 pages) discussion of the This asset ceiling in the basis of conclusions to IAS 19. Given this, and the fact that the com pact and t ruly com pr ehensive qui ck - refer ence matter of the defined asset ceiling is planned for discussion pr esent s account ants with a guide to dependby onthe for IASB as part of its convergence project on postemployment it was agreed not tostanding issue an at this time. assistance benefits, in the prepar at ion and under of Interpretation financial statements present ed in accordance with I AS.

Past service costs, to the extent recognized.

T ab le of Con t en t s

Wiley AS 20 03—Int pretation and Application of I nternational Account ingliability which results from the Past Iservice costs er refer to increases in the amount of a defined benefit Standar ds

initial adoption of a plan, or from a change or amendment to an existing plan which increases the benefits promised to the participants with respect to previous service rendered. Less commonly, a plan Chapter 1 - I ntr oduction to I nter national Accounting Standar ds amendment could reduce the benefits for past services, if local laws permit this. Employers will amend Chapter 2 a- variety BalanceofSheet plans for reasons, including competitive factors in the employment marketplace, but often it Ithe ncom e Statement, Stat em ent ges in Equit y, and among Statem ent is done with hope and expectation thatofit Chan will engender goodwill the workers and thus Chapter 3 of Recognized Gains and Losses increase future productivity. For this reason, it is sometimes the case that these added benefits will not Chapter 4 - Cash Flow St at em ent vest immediately, but rather must be earned over some defined time period. Preface

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter - I nventor y IAS 19 6requires immediate recognition of past service cost as an expense when the added benefits

vest immediately. However, areConstr not immediately recognition is to be on a straightChapter 7 - Rev enue Recogniwhen tion, Ithese ncluding uction Contrvested, act s line basis the period occurs. For example, if at January 1, 2003, the sponsoring entity Chapter 8 over - Property , Plantuntil , andvesting Equipment grants an $4,000 persemployee in future benefits, and given the number of employees expected Chapter 9 added - I ntangi ble Asset to receive these benefits this computes present value of $455,000, I nterests in Financial Instr umto entas, Associat es, Joint Ventur es,but andvesting will not be until January 1, 2008, then past cost of $455,000 ÷ 5 years = $91,000 per year will be recognized. I nvestm entaPr operservice ty (To this11 amount interest must be added, as with service cost as described above.) Chapter - Business Combinations and Consolidat ed Fin ancial Statements Chapter 10 -

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

The effects of any curtailments or settlements. Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Periodic defined benefit plan expense is also affected by any curtailments or settlements which have been incurred. The standard defines a curtailment as arising in connection with isolated events such as Chapter 15 - I ncom e Taxes plant closings, discontinuations of operations, or termination or suspension of a benefit plan. Often, Chapter 16 - Em ploy ee Benefit s corporate restructurings will be accompanied by curtailments in benefit plans. Recognition can be given Chapter 17 - Stock holder s' Equit y to the effect of a curtailment when the sponsor is demonstrably committed to make a material reduction Chapter 18 - Earnings Per Share in the number of covered employees, or it amends the terms of the plan such that a material element of Chapter 19 - I nterim Financial Repor ting future service by existing employees will no longer be covered or will receive reduced benefits. The Chapter 20 - must Segmactually ent Repor ting for it to be given recognition. curtailment occur Chapter 14 - Leases

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Settlements occur the enterprise enters into a transaction which effectively transfers the Chapter 22 - For eignwhen Curr ency obligation anotherPart entity, such as an insurance company, so that the sponsor has no legal or Chapter 23 to - Relatedy Disclosures constructive obligation to fund ies any benefit shortfall. Merely acquiring insurance which is intended to Chapter 24 - Specialized I ndustr cover the payments does not constitute a settlement, since a funding mechanism does not Chapter 25 benefit - I nflation and Hyperinflation relieve the underlying obligation.

Chapter 26 - Gov er nm ent Gr an ts

Appendix A -ofDiasclosure Checklist The effect curtailment or settlement is measured with reference to the change in present value of Appendix B I llustrativ e Financial s Prof esent ed Under I AS the defined benefits, any changeStinatem fair ent value related assets (normally there is none), and any related Appendix - Comorparison I AS, US service GAAP, and GAAP actuarialCgains lossesofand past costUK which had not yet been recognized. The net amount of I ndex these elements will be charged or credited to pension expense in the period the curtailment or List of Tablesactually occurs. For example, if a curtailment reduces the present value of future benefits by settlement List $40,000, of Ex hibits or 5% and ofEx the amprecurtailment ples obligation ($800,000), and there was also an unrecognized

actuarial gains of $60,000 and an unrecognized transition amount (past service cost) of $50,000, the List of Sidebar income statement in the curtailment period would be $40,000 + (.05 x $60,000) - (.05 x $50,000) = $41,000 reduction in pension cost for the year.

Transition adjustment. The final element of periodic pension cost under IAS 19 relates to the effect of first adopting the accounting standard. The transition amount is the present value of the benefit obligation at the date the standard is adopted, less the fair value of plan assets at that date, less any past service cost to be

deferred to later periods, if the criteria regarding vesting period are met. IAS 19 continues to offer reporting entities two alternatives, similar to those set forth in the predecessor standard, albeit with a minor alteration. IfWthe than thep licat liability would have been recognized ile ytransitional I AS 2 0 03 :liability I n t erpis regreater t at ion an d Ap io nwhich of under the entity'sI previous policy for accounting for pension costs, it must make an irrevocable choice n t er n at ion al Accou n t in g St an d ar ds to either ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali zaincrease in the pension obligation immediately, with the expense included in 1. RecognizeMir the John Wi ley Sons 2003 (952 pages) employee benefit cost& for the© period; or This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants over with anoguide to depend on for period, on the straight-line basis. 2. Amortize the transition amount longer than a five-year assistance the preparamortization at ion and under standing of financial (The earlier standardinsuggested over the remaining working lives of employees statements present ed in accordance with I AS. working at the date of transition.) The unrecognized transition amount will not be formally T ab le of included Con t en t sin the balance sheet, but must be disclosed. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing If method Standar ds (2) is elected, and the enterprise has a negative transitional liability (that is, an asset,

resulting from an excess of pension assets over the related obligation), it is limited in the amount of Preface

such asset present ontoitsI nter balance sheet to the total of any Chapter 1 - to I ntr oduction national Accounting Standar dsunrecognized actuarial losses plus past

service cost, and the present value of economic benefits available as refunds from the plan or - Balance Sheet reductions in future contributions, with the present value determined by reference to the rate on highI ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter quality 3corporate bonds. Furthermore, the amount of unrecognized transitional gain or loss as of each of Recognized Gains and Losses balance sheet date must be presented, as well as the amount recognized in the current period income Chapter 4 - Cash Flow St at em ent statement. Chapter 5 - Financial I nstr uments—Cash and Receiv ables Chapter 2

Chapter - I nventor Finally,6if method (2)yis employed, recognition of actuarial gains (which do not include negative past Chapter 7 Rev enue Recogniintion, ncluding Constr uctiongain Contr s recognized because it exceeds the service cost) will be limited two Iways. If an actuarial is act being Chapter 8 - Property , Plantthe , and Equipment 10% corridor or because enterprise has elected a more rapid method of systematic recognition, Chapter 9 I ntangi ble Asset s then the actuarial gain should be recognized only to the extent the net cumulative gain exceeds the I nterests in Financial s, Associat es, unrecognized transitional liability.Instr And,um inent determining the Joint gain Ventur or losses, on and any later settlement or Chapter 10 nvestm ent part Pr oper curtailment, Ithe related oftythe unrecognized transitional liability must be incorporated. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

IAS 19 also Curr stipulates that ies, if the transitional liability is lower theafter amount ent Liabilit Prov isions, Cont ingencies, andthan Ev ents t he which would have been Balance Sheet Date recognized under previous accounting rules, the adjustment should be taken into income immediately Chapter (i.e., amortization 13 - Financial is not I nstr permitted). uments—Long- Ter m Debt Chapter 12 -

Chapter 14 - Leases

Upon adoption of the current IAS 19, the entity was not permitted to retrospectively compute the effect of the 10% corridor on actuarial gain or loss recognition. It is clear that retrospective application would Chapter 16 - Em ploy ee Benefit s be impracticable to accomplish and would not have generated useful information and was therefore Chapter 17 - Stock holder s' Equit y prohibited. Chapter 15 - I ncom e Taxes

Chapter 18 - Earnings Per Share

Chapter 19 - I nterim Financial Repor ting

Employer's Liabilities and Assets

Chapter 20 - Segm ent Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror s

IAS 19 has as its primary, possibly sole, concern the measurement of periodic expense incurred in connection with pension plans of employers. One source of dissatisfaction with the standard is its Chapter 23 - Related- Part y Disclosures failure to address the assets or liabilities that may be recognized on the employers' balance sheets as a Chapter 24 - Specialized I ndustr ies consequence of expense recognition, which may include deferral of certain items (e.g., past service Chapter 25 I nflation and Hyperinflation costs). In fact, the amounts that may find their way onto the balance sheet will often not meet the strict Chapter 26 of - Gov er nm Gr an ts but rather, will be "deferred charges or credits." This will consist of the definition assets orent liabilities, Appendix A Di sclosure Checklist cumulative difference between the amount funded and the amount expensed over the life of the plan. Chapter 22 - For eign Curr ency

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

IAS 19 has criticized under appropriate circumstances, recognition of an Appendix C - been Com parison of Ifor AS,not USrequiring, GAAP, and UK GAAP

additional or minimum liability when plans are materially underfunded. The point of comparison is US I ndex GAAP standard SFAS 87, which does demand that this minimum liability, which results when the accumulated (accrued) benefit obligation exceeds the fair value of plan assets, and a liability in the List of Ex hibits and Ex am ples amount of the difference is not already recorded as unfunded accrued pension cost. Under that List of Sidebar s standard, the additional minimum liability is recognized by an offset to an intangible asset up to the amount of unrecognized prior service cost. Any additional debit needed is considered a loss and is shown net of tax benefits as a separate component reducing equity. The IASC Board concluded that additional measures of liability were potentially confusing and did not promise to provide relevant information. Accordingly, with the exception of any liability to be accrued under IAS 37 (regarding contingencies), the decision was made to dispense with such an item. List of Tables

Other Pension Considerations

Multiple and multiemployer plans. W ilethan y I AS 2 0plan, 03 : I IAS n t erp t at ion an dshould Ap p licat n o f separately to each plan. If an entity has more one 19reprovisions be io applied I n t er n at ion al Accou n t in g St an d ar ds Offsets or eliminations are not allowed unless there clearly is the right to use the assets in one plan to ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali pay the benefits of another plan. Mir za Wi ley & Sons © 2003 (952 pages) Participation in a John multiemployer plan (to which two or more unrelated employers contribute) requires This com pact and be t ruly com pr ehensive ck - refercost enceand that any contributions due that the contribution for the period recognized as netqui pension pr esent s account ants with a guide to depend on for and unpaid be recognized as a liability. Assets in this type of plan are usually commingled and are not assistance in the prepar at ion and under standing of financial segregated or restricted. A board of ed trustees usually administers these plans, and multiemployer plans statements present in accordance with I AS. are generally subject to a collective bargaining agreement. If there is a withdrawal from this type of plan T ab le if ofan Con t en t sobligation is either probable or reasonably possible, the provisions of international and arising Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing accounting standards that address contingencies (IAS 10) apply. Standar ds

Preface Some plans are, in substance, a pooling or aggregation of single employer plans and are ordinarily Chapter without1collective - I ntr oduction bargaining to I nter agreements. national Accounting Contributions Standar areds usually based on a selected benefit

formula.2 These plansSheet are not considered multi-employer plans, and the accounting is based on the Chapter - Balance respective interest the plan. Stat em ent of Chan ges in Equit y, and Statem ent I ncom einStatement, -

Chapter 3

of Recognized Gains and Losses

Business combinations. Chapter 4 - Cash Flow St at em ent Chapter 5

- Financial I nstr uments—Cash and Receiv ables

When an entity that sponsors a single-employer defined benefit plan is purchased in a manner that - I nventor y must be accounted for as an acquisition under the provisions of IAS 22, the purchaser should assign Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s part of the purchase price to an asset if plan assets exceed the projected benefit obligation, or to a Chapter 8 - Property , Plant , and Equipment liability if the projected benefit obligation exceeds plan assets. The projected benefit obligation should Chapter 9 - I ntangi ble Asset s include the effect of any expected plan curtailment or termination. This assignment eliminates any I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter existing10unrecognized components, and any future differences between contributions and net pension I nvestm ent Pr oper ty cost will affect the asset or liability recognized when the purchase took place. Chapter 6

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balance Date Disclosure ofSheet Pension and Other Postemployment Benefit Costs

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

For defined contribution plans, IAS 19 requires only that the amount of expense included in current Chapter 14 - Leases

period earnings bee disclosed. If further required under IAS 24 (related parties), disclosures should be Chapter 15 - I ncom Taxes made about contributions made for key management personnel. Good practice would suggest that there be disclosure of the general description of each plan identifying the employee groups covered, Chapter 17 - Stock holder s' Equit y and of any other significant matters related to retirement benefits that affect comparability with the Chapter 18 - Earnings Per Share previous period reported on. Chapter 16 - Em ploy ee Benefit s

Chapter 19 - I nterim Financial Repor ting

Chapter 20 - Segm entplans, Reporas ting For defined benefit would be expected, much more expansive disclosures are mandated. Chapter 21 - Accounting Changes and Cor rection of Er ror s These include Chapter 22general - For eign Curr ency of each plan identifying the employee groups covered 1. A description Chapter 23 - Related- Part y Disclosures

2. The recognition of actuarial gains or losses Chapter 24 - accounting Specialized policy I ndustrregarding ies Chapter 25 - I nflation and Hyperinflation

3. A reconciliation of the plan-related assets and liabilities recognized in the balance sheet, showing at the minimum

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

The present value St ofatem wholly defined obligations Appendix B a. - I llustrativ e Financial ent unfunded s Pr esent ed Under benefit I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

b. The present value (gross, before deducting plan assets) of wholly or partly unfunded obligations

List of Tables List of Ex hibits c. and TheEx fair amvalue ples of plan assets List of Sidebar s

d. The net actuarial gain or loss not yet recognized in the balance sheet e. The past service cost not yet recognized in the balance sheet f. Any amount not recognized as an asset because of the limitation to the present value of economic benefits from refunds and future contribution reductions g. The amounts which are recognized in the balance sheet

4.

4. The amount of plan assets represented by each category of the reporting entity's own financial instruments or by property which is occupied by, or other assets used by, the entity itself W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

5. A reconciliation of movements (i.e., changes) during the reporting period in the net asset or I n t er n at ion al Accou n t in g St an d ar ds liability reported in the balance sheet ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali Mir za 6. The amount of, and location in the income statement of, the reported amounts of current service John Wi ley & Sons © 2003 (952 pages)

cost, interest cost, expected return on plan assets, actuarial gain or loss, past service cost, and This com pact and t ruly com pr ehensive qui ck - refer ence effect of any curtailment or settlement pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial

7. The actualstatements return earned on plan for the reporting present ed inassets accordance with I AS. period

actuarial assumptions used, including (if relevant) the discount rates, expected T ab le8.of The Con tprincipal en t s rates of return on plan and assets, expected of salaryAccount increases Wiley I AS 20 03—Int er pretation Application of rates I nternational ing or other index or variable specified in the pension arrangement, medical cost trend rates, and any other material actuarial Standar ds Preface assumptions utilized in computing benefit costs for the period. The actuarial assumptions are to

statedtoinI nter absolute terms, not merely as references to other indices. Chapter be 1 explicitly - I ntr oduction national Accounting Standar ds Chapter 2

- Balance Sheet

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Amounts presented in the sponsor's balance sheet cannot be offset (presented on a net basis) unless I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - of offset exist. Furthermore, even with a legal right to offset (which itself would be a rarity), legal rights of Recognized Gains and Losses unless the intent is to settle on a net basis, such presentation would not be acceptable. Thus, a Chapter 4 - Cash Flow St at em ent sponsor of two plans, one being in a net asset position, and another in a net liability position, cannot be Chapter 5 - Financial I nstr uments—Cash and Receiv ables netted in most instances.

Postemployment Benefits - Property , Plant , and EquipmentConvergence Project

Chapter 8 Chapter 9

- I ntangi ble Asset s

In mid-2002, the IASB agreed to add a limited convergence project on postemployment benefits to its I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 active agenda. The stated objectives of the project do not extend to a comprehensive reexamination of I nvestm ent Pr oper ty the accounting for postemployment benefits. Rather, the goal is to build on the principles that are Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements common to most existing national standards on benefit accounting, and to seek improvements to IAS Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - specific areas. 19 in certain Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt

The project will address the following issues:

Chapter 14 - Leases

Chapter 15 - I ncomofe actuarial Taxes Recognition gains and losses Chapter 16 - Em ploy ee Benefit s

The17"asset ceiling" Chapter - Stock holder s' Equit y Chapter 18 - Earnings Per Share

The impact of the asset ceiling, if any, on the components recognized in income.

Chapter 19 - I nterim Financial Repor ting Chapter The20definitions - Segm entofRepor defined tingbenefit plans, defined contribution plans, and plan assets Chapter 21 - Accounting Changes and Cor rection of Er ror s

The allocation of cost to accounting periods

Chapter 22 - For eign Curr ency

Chapter 23 - RelatedPart y Disclosures A review of the requirements in the US GAAP standards SFAS 106, Employers' Accounting for Chapter 24 Specialized I ndustr ies Postemployment Benefits, and SFAS 112, Employers' Accounting for Postretirement Benefits other Chapter 25Pensions, - I nflationto and Hyperinflation than consider whether additional guidance in these standards should be included in Chapter 26 Gov er nm ent Gr an ts IAS 19. Appendix A - Di sclosure Checklist

Mitigation of problems that may arise the immediate recognition of actuarial gains and losses Appendix B - I llustrativ e Financial St atem entfrom s Pr esent ed Under I AS

(if the proposes a treatment) with the presentation of actuarial gains and Appendix C -Board Com parison of I such AS, US GAAP, and in UKconnection GAAP I ndex

losses under the proposals for performance reporting, presentation of the pension asset or liability in the balance sheet, and multiemployer exemptions.

List of Tables

List of Ex hibits and Ex am ples

Other Benefit Plans

List of Sidebar s

Short-term employee benefits. Per IAS 19, short-term benefits are those falling due within twelve months from the end of the period in which the employees render their services. These include wages and salaries, as well as short-term compensated absences (vacations, annual holiday, paid sick days, etc.), profit sharing and bonuses if due within twelve months after the end of the period in which these were earned, and such nonmonetary benefits as health insurance and housing or automobiles. The standard requires that

these be reported as incurred. Since they are accrued currently, no actuarial assumptions or computations will be needed and, since due currently, discounting will not be employed. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Compensated absences may provide some accounting complexities, if these accumulate and vest with I n t er n at ion al Accou n t in g St an d ar ds the employees. Under the terms of the new employee benefits ISBN:0471227366 standard, accumulating benefits can be by Bar r y J. Epstein and Abbas Ali carried forward toMir later za periods when not fully consumed currently; for example, when employees are granted two weeks' leave per& year, but can carry forward to later years an amount equal to no more John Wi ley Sons © 2003 (952 pages) than six weeks, the compensated absence benefit can be said to be subject to limited accumulation. This com pact and t ruly com pr ehensive qui ck - refer ence Depending on theprprogram, accumulation rights may limited esent s account ants with a guide to be depend onor forunlimited; and, furthermore, the usage of benefitsassistance may be defined to occur on and a last-in, basis, which in conjunction with in the prepar at ion underfirst-out standing(LIFO) of financial statements present ed inthe accordance with I AS. which employees are likely to use, if not limited accumulation rights further limits amount of benefits fully used in the period earned. T ab le of Con t en t s Wiley I AS 20 er pretation and Application I nternational The cost of03—Int compensated absences should beofaccrued in theAccount periodsing earned. In some cases (as when Standar ds

the plans subject employees to limitations on accumulation rights with or without the further restriction imposed by a LIFO pattern of usage), it will be understood that the amounts of compensated absences Chapter 1 - I ntr oduction to I nter national Accounting Standar ds to which employees are contractually entitled will exceed the amount that they are likely to actually Chapter 2 such - Balance Sheet utilize. In circumstances, the accrual should be based on the expected usage, based on past I ncom erelevant, Statement, Stat eminent Chan ges in Equitsince y, andthe Statem ent experience and, if changes theofplan's provisions last reporting period. Chapter 3 Preface

of Recognized Gains and Losses

Chapter 4 of - Cash Flow St at em ent Example compensated absences Chapter 5 - Financial I nstr uments—Cash and Receiv ables

Consider with Chapter 6 an - I entity nventor y 500 workers, each of whom earns 2 weeks' annual leave, with a carryforward option limited toenue a maximum of 6 weeks, to Constr be carried forward nos longer than 4 years. Also, this Chapter 7 - Rev Recogni tion, I ncluding uction Contr act employer a, LIFO on any usages of annual leave (e.g., a worker with 2 weeks' Chapter 8 imposes - Property Plant ,basis and Equipment carryforward and 2 ble weeks currently, taking a 3-week leave, will be deemed to have consumed Chapter 9 - I ntangi Assetearned s

the 2 currently earnedinweeks plusInstr 1 ofum the thereby the risk of ultimately I nterests Financial entcarryforward s, Associat es,weeks, Joint Ventur es,increasing and Chapter 10 older losing the carried-forward compensated absence time). Based on past experience, 80% of the I nvestm ent Pr oper ty workers11will take no more than 2 weeks' leave in any year, while the other 20% take an average of 4 Chapter - Business Combinations and Consolidat ed Fin ancial Statements extra days. At the of the each worker has an average of 5 after days't he carryforward of compensated Curr entend Liabilit ies,year, Prov isions, Cont ingencies, and Ev ents absences. The amount accrued Balance Sheet Date should be the cost equivalent of [(.80 x 0 days) + (.20 x 4 days)] x 500 workers13= -400 days' leave. Chapter Financial I nstr uments—Long- Ter m Debt Chapter 12 -

Chapter 14 - Leases Chapter 15 - I ncom e Taxes

Other16postretirement Chapter - Em ploy ee Benefitbenefits. s Chapter 17 - Stock holder s' Equit y

Other postretirement benefits include medical care and other benefits offered to retirees partially or entirely at the expense of the former employer. These are essentially defined benefit plans very much Chapter 19 - I nterim Financial Repor ting like defined benefit pension plans. Like the pension plans, these require the services of a qualified Chapter - Segmtoent Repor ting actuary20 in order estimate the true cost of the promises made currently for benefits to be delivered in Chapter 21 Accounting Changes and Cor of Er ror sincluding the age composition, life expectancies, the future. As with pensions, a variety ofrection determinants, Chapter 22 demographic - For eign Currfactors ency and other pertaining to the present and future retiree groups, and the course of Chapter 23 - RelatedPart y care Disclosures future inflation of medical (or other covered) costs (coupled with predicted utilization factors), need Chapter 24 - Specialized ndustr ies current period costs. Developing these projections requires the to be projected in order Ito compute skills and of actuaries; the pattern of future medical costs has been particularly difficult to Chapter 25 training - I nflation and Hyperinflation achieve26with anything approaching accuracy. Unlike most defined benefit pension plans, other Chapter - Gov er nm ent Gr an ts postretirement benefit plans are more commonly funded on a pay-as-you-go basis, which does not alter Appendix A - Di sclosure Checklist the accounting but does eliminate earnings plan ed assets a cost offset. Appendix B - I llustrativ e Financial St atem ent s on Pr esent UnderasI AS Chapter 18 - Earnings Per Share

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Other long-term employee benefits.

I ndex

List of Tables

These are defined by IAS 19 as including any benefits other than postemployment benefits (pensions,

List of Exmedical hibits and Ex am plestermination benefits and equity compensation plans. Examples would retiree care, etc.), List of Sidebar s include sabbatical leave, jubilee benefits, long-term profit-sharing payments, and deferred

compensation arrangements. Executive deferred compensation plans have become common in nations where these are tax-advantaged (i.e., not taxed to the employee until paid), and these give rise to deferred tax accounting issues as well as measurement and reporting questions, as benefit plans. In general, measurement will be less complex than for defined benefit pension or other postretirement benefits, although some actuarial measures may be needed. Reportedly for simplicity, IAS 19 decided to not provide the corridor approach to non-recognition of actuarial gains and losses for other long-term benefits. It also requires that past service cost (resulting

from the granting of enhanced benefits to participants on a retroactive basis) and transition gain or loss be reported in earnings in the period in which these are granted or occur. For liability measurement purposes, IAS 19Wdemands the obligation ile y I AS that 2 0 03 : I present n t erp re tvalue at ionof anthe d Ap p licat io nbeo fpresented on the balance sheet, less the fair valueI noft er any assets which have been set aside for settlement thereof. The long-term n at ion al Accou n t in g St an d ar ds corporate bond rate is used here, as with defined benefit pension obligations, to discount the expected ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mirpresent za future payments to value. As to expense recognition, the same cost elements as are set forth for pension plan expense should be©included, with the exceptions that actuarial gains and losses and John Wi ley & Sons 2003 (952 pages) past service cost This mustcom be pact recognized immediately, not amortized and t ruly com pr ehensive qui ck - refer over ence a defined time horizon. pr esent s account ants with a guide to depend on for the prepar at ion and under standing of financial statements present ed in accordance with I AS.

assistance in Termination benefits.

Termination benefits are to be recognized only when the employer has demonstrated its commitment to either terminate the employee or group of employees before normal retirement date, or provide Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing benefits Standar ds as part of an inducement to encourage early retirements. Generally, a detailed, formal plan will be necessary to support a representation that such a commitment exists. According to IAS 19, the plan Preface should, as a minimum, set forth locations, functions, and numbers of employees to be terminated; the Chapter 1 - I ntr oduction to I nter national Accounting Standar ds benefits for each job class or other pertinent category; and the time when the plan is to be Chapter 2 - Balance Sheet implemented; with inception to be as soon as possible and completion soon enough to largely eliminate I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - that any material changes to the plan will be necessary. the chance of Recognized Gains and Losses

T ab le of Con t en t s

Chapter 4

- Cash Flow St at em ent Since termination benefits do not confer any future economic benefits on the employing enterprise,

Chapter 5 - be Financial I nstrimmediately. uments—CashIf and Receiv ables these must expensed the payments are to fall due more than twelve months after the Chapter 6 I nventor y balance sheet date, however, discounting to present value is required (again, using the long-term Chapter 7 bond - Rev enue tion, such I ncluding Constr uction Contr act s likely to accept voluntary early corporate rate).Recogni Estimates, as the number of employees Chapter 8 Property , Plant , and Equipment retirement, may need to be made in many cases involving termination benefits. To the extent that Chapter - I ntangi Asset s accrual9is based onble such estimates (the possibility that greater numbers may accept, thereby triggering additional costs) I nterests further in Financial disclosure Instr of um lossentcontingencies s, Associat es, may Jointbe Ventur necessary es, andto comply with IAS 37. Chapter 10 I nvestm ent Pr oper ty Chapter - Business Combinations and Consolidat ed Fin ancial Statements Equity11compensation benefits. Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Benefits based on stock Balance Sheetoption Date and similar plans have become extremely popular in certain nations; in some cases, in fact, the fraction of executive represented by such plans overwhelms that Chapter 13 - Financial I nstr uments—LongTer m compensation Debt payable14currently Chapter - Leasesin cash. However, the accounting for such plans (and for the compensation elements thereof,15in -particular) has been very controversial, largely because national accounting standards have Chapter I ncom e Taxes long held to be if certain conditions are met. For example, under US Chapter 16 these - Em ploy ee largely Benefit noncompensatory s GAAP, the longstanding rule was that if the exercise price were no lower than fair value at grant date, Chapter 17 - Stock holder s' Equit y no compensation was attributed to the options, notwithstanding that economic and finance theory Chapter 18 - Earnings Per Share clearly demonstrates that these are compensatory, and the huge demand by executives for such Chapter 19 - I nterim Financial Repor ting benefit plans strongly suggests that in their eyes, at least, these are obviously compensation Chapter 20 - Segm ent Repor ting arrangements. Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter 22 - to Forchange eign Curr ency An attempt US GAAP to require the attribution of compensation cost to option plans was met Chapter 23 - RelatedPart y Disclosures by unprecedented opposition, largely from corporations which have grown accustomed to having Chapter substantial 24 - amounts Specialized of executive I ndustr ies compensation "off the income statement." Although a final rule

requiring disclosure of the effects of full compensation recognition was Chapter 25supplementary - I nflation and (footnote) Hyperinflation ultimately (with theanoptional, almost never employed, ability to formally report this in the Chapter 26 imposed - Gov er nm ent Gr ts income statement), theChecklist experience probably left other standard setters, such as the IASC, with the Appendix A - Di sclosure impression a strong stand on would be politically feasible. However, the impact of Appendix B - that I llustrativ e Financial St this atemissue ent s Pr esentnot ed Under I AS major financial scandals, particularly in the US, has probably changed the climate so that Appendix C - Comreporting parison of I AS, US GAAP, and UK GAAP

more meaningful expense accrual rules can now be imposed. These are under active consideration by both IASB and the US FASB.

I ndex

List of Tables

List of Ex hibits IAS and 19 Ex am ples Accordingly, does not include recognition and measurement standards regarding equity List of Sidebar s benefit plans. It simply requires that additional disclosures be made such that users of compensation

the financial statements will be assisted in their efforts to assess the impact of such benefit programs on the respective reporting entity's financial position, performance, and cash flows. Specifically, an enterprise's financial position may be affected if it is required to potentially issue equity financial instruments or convert other financial instruments, as when stock options vest and the employees are able to exercise these to acquire shares. Financial performance and cash flows, similarly, would be affected if exercise of options provides a source of cash to the enterprise, even as compensation costs are depressed (and profits are correspondingly elevated), because employees accept stock

compensation in lieu of currently reportable salary and bonus. To provide these limited insights, IAS 19 presently requires that an enterprise which provides equity W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f compensation benefits must disclose the following: I n t er n at ion al Accou n t in g St an d ar ds of suchand plans, including any vesting provisions 1. The naturebyand ISBN:0471227366 Barterms r y J. Epstein Abbas Ali Mir za

2. The accounting policy such John Wi ley ®arding Sons © 2003 (952plans pages) This com pact and t ruly com pr ehensive qui ck - refer ence

3. The amounts recognized in the financial statements for those plans pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial

4. The number and terms of theed reporting entity'swith shares statements present in accordance I AS.or other equity instruments which are held by the plan and by employees at the beginning and end of the period with explanation of T ab le of dividend, Con t en t svoting and conversion rights, exercise dates and prices and expiration dates; and the Wiley I AS 20 03—Int pretation and Application I nternational ing period changes in er rights to shares which haveofvested during Account the reporting Standar ds Preface 5. The number and terms of the reporting entity's shares or other equity instruments which were

tooduction the plantoand to national employees, or distributed Chapter issued 1 - I ntr I nter Accounting Standarby dsthe plan to employees during the period, of dividend, voting and conversion rights, exercise dates, and prices and Chapter with 2 - explanation Balance Sheet expiration and theStat fairem value of Chan consideration received by the ent entity during the period I ncomdates; e Statement, ent of ges in Equit y, and Statem

Chapter 3

-

of Recognized Gains and Losses

6. The exercise dates and exercise prices of share options exercised under the terms of Chapter 4 - number, Cash Flow St at em ent the plan during the period Chapter 5 - Financial I nstr uments—Cash and Receiv ables Chapter 6 - number I nventorof y share options held by the plan, or by employees under terms of the plan, that 7. The Chapter lapsed 7 - Rev enue Recogni tion, I ncluding Constr uctionthe Contr act s (expired without being exercised) during period Chapter 8

- Property , Plant , and Equipment 8. The andAsset principal terms of any loans or guarantees by the entity to or for the plan or Chapter 9 - amount I ntangi ble s

participants therein I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty The standard furthermore requires and disclosure, as ed of Fin theancial beginning and end of the period, of the fair Chapter 11 - Business Combinations Consolidat Statements

value of the entity's own equity financial instruments, apart from share options, which are held by equity

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 compensation plans.Sheet Finally, disclosure is required of the fair value, at issuance, of the entity's equity Balance Date

financial from options,Ter issued to the plan or to employees, or by the plan to Chapter 13instruments, - Financial I apart nstr uments—Longm Debt

employees, during the period. If it is not practicable to develop or obtain fair value data, that fact may Chapter 14 - Leases be stated in lieu of actual disclosure.

Chapter 15 - I ncom e Taxes

Chapter - Em ployentity ee Benefit When a16reporting has as multitude of plans, disclosures under IAS 19 may be made by plan, in the Chapter 17 - or Stock holder s' Equit y as are deemed to be most useful. The objective is to convey the aggregate, in such groupings Chapter 18 - Earnings PertoShare enterprise's obligations issue equity instruments under terms of these plans, as well as to Chapter 19 - I nterim Financial ting during the period. While disclosure requirements are flexible, it communicate changes in the Repor obligations Chapter 20 - Segm ent Repor ting is important that aggregation not conceal the essential characteristics of these equity compensation

arrangements. Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

As noted above, while the accounting for stock compensation plans (called "share-based payments") was not formally addressed by IAS 19, and was, in the opinions of many, unsuccessfully dealt with Chapter 24 - Specialized I ndustr ies under US GAAP, recent events have caused a sea of change in public opinion, particularly in the US Chapter 25 - I nflation and Hyperinflation where such plans are widely employed, so that there may now be sufficient support for a mandate to Chapter 26 - Gov er nm ent Gr an ts expense such costs. The FASB had previously stated that it was not going to revisit this highly Appendix A - Di sclosure Checklist contentious matter, but most recently has been reported as seeking a means to transition from the Appendix - I llustrativ e Financial atem ent smethod Pr esent(no ed Under I ASrecognition, but pro forma disclosures currentlyBmost common financialStreporting expense Appendix C Com parison of I AS, US GAAP, and UK GAAP of the effect of full recognition) to mandatory expensing of employee stock options. IASB had already I ndex announced (at the time of its creation) that it would place this topic on its technical agenda, List of Tables notwithstanding strong protests from the preparer community. Chapter 23 - Related- Part y Disclosures

List of Ex hibits and Ex am ples

TheofIASB's on the accounting to be applied to share-based payments to employees (including List Sidebarproject s

employee stock options), suppliers, creditors, and others tentatively has concluded that the payments should be recognized as expenses that should be deducted in measuring periodic earnings. The IASB has identified four measurement bases that potentially could be applied to these payments; historical cost, intrinsic value, minimum value, and fair value. Not surprisingly, fair value appears at this time to have the greatest support and may also be most stridently opposed by the preparer community. Intrinsic value is the failed method used under US GAAP, which generally results in no compensation being associated with these plans. Minimum value is a variant on fair value, but which would modify the options pricing models (such as Black-Scholes) to compensate for the fact that most employee stock

options are not freely tradable and thus, arguably, have less value than do marketable options. If the IASB were ultimately to require either full recognition or even just disclosure of the fair values of W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f share-based payments, disclosure should be required of the type of model used to determine the fair I n t er n at ion al Accou n t in g St an d ar ds value, as well as the inputs to that model, including which interest rate is used, the historical and ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali expected price volatility Mir za and the reasons for any differences between them, and the historical and expected dividend yield of(952 anypages) differences between them. John Wiand ley &discussion Sons © 2003 This com pact and t ruly com pr ehensive qui ck - refer ence SeeChapter 17 for a further discussion of this topic and the IASB's project.

pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Chapter 17: Stockholders' Equity I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

za PerspectiveMirand Issues

John Wi ley & Sons © 2003 (952 pages)

The IASC's Framework This com forpact the and Preparation t ruly comand pr ehensive Presentation qui ck -of refer Financial ence Statements defines equity as pr esent s account a guideafter to depend on for the residual interest in the assets ants of anwith enterprise deducting all its liabilities. Stockholders' equity in the prepar at ion and under standing of financial is comprised of allassistance capital contributed to the entity (including share premium, also referred to as capital statements present ed in accordance with I AS. paid-in in excess of par value) plus retained earnings (i.e., the entity's accumulated earnings less any T ab distributions le of Con t en that t s have been made therefrom). Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Stockholders' equity (referred to as equity in IAS 1) also includes reserves, such as statutory or legal Standar ds

reserves, general reserves and contingency reserves, and revaluation surplus. IAS 1 categorizes Preface stockholders' interests broad subdivisions: issueddscapital, reserves, and accumulated profits Chapter 1 - I ntr oductioninto to Ithree nter national Accounting Standar or losses. standard Chapter 2 This - Balance Sheetalso sets forth requirements for disclosures about the details of share capital for corporations and the various capital accounts of other types of enterprises. I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Chapter 3

-

of Recognized Gains and Losses

Stockholders' equity represents an interest in the net assets (i.e., assets less liabilities) of the entity. It Chapter 4 - Cash Flow St at em ent is not a claim on those assets in the sense that liabilities are. On liquidation of the business, an Chapter 5 - Financial I nstr uments—Cash and Receiv ables obligation arises for the entity to distribute any remaining assets to the shareholders after the creditors Chapter 6 - I nventor y are paid. Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter Earnings 8 are - Property not generated , Plant , and by transactions Equipment in an entity's own equity (e.g., by the issuance,

reacquisition, or reissuance Chapter 9 - I ntangi ble Asset sof its common or preferred shares). Depending on the laws of the jurisdiction of incorporation, distributions to shareholders subject to various limitations, such as I nterests in Financial Instr um ent s, Associat es, may Joint be Ventur es, and I nvestm ent Pr oper ty to the amount of retained (accounting basis) earnings.

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

A major objective of Liabilit the accounting for stockholders' equity adequate Curr ent ies, Prov isions, Cont ingencies, andisEvthe ents after t hedisclosure of the sources Chapter 12 - the capital was derived. For this reason, a number of different paid-in capital accounts may from which Balance Sheet Date be presented in the balance sheet. The rights of each class of shareholder must also be disclosed. Chapter 13 - Financial I nstr uments—LongTer m Debt Where 14 shares are reserved for future issuance, such as under the terms of stock option plans, this fact Chapter - Leases must also madee known. Chapter 15 be - I ncom Taxes

Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y

Sources of IAS

Chapter 18 - Earnings Per Share

IAS 1, 8, 16, 32

SIC 5, 16, 17

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS and 2 0 03 : Examples I n t erp re t at ion an d Ap p licat io n o f Concepts, Rules, I n t er n at ion al Accou n t in g St an d ar ds

ISBN:0471227366 by Bar r ystandards J. Epstein (IAS) and Abbas Ali International accounting have dealt only with presentation and disclosure requirements Mir za equity and have yet to address the accounting for the various components of relating to stockholders' JohnThere Wi ley are & Sons © 2003 (952 pages) accounting issues relating to the various stockholders' equity. numerous complex This com pact and t ruly com pr ehensive quibeen ck - refer components of stockholders' equity, some of which have andence others which are still being tackled pr esent s account ants with a guide to depend on for by the national standard-setting bodies. The absence of any international accounting standard dealing assistance in the prepar at ion and under standing of financial with the accounting treatmentpresent of equity transactions an Iimpediment to uniform and appropriate statements ed in accordance is with AS. accounting by international conglomerates, multinational corporations, and other companies that T ab le of Con ts comply witht en IAS.

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar Because ds of the absence of any promulgated international accounting standards on this highly complex

and important area, this chapter makes extensive use of the guidance that exists under US GAAP. Preface While this obviously on practice underStandar IAS, todsthe extent that those other rules Chapter 1 -isI ntr oductionnot to binding I nter national Accounting meaningfully deal with the economic substance of various transactions involving stockholders' equity, Chapter 2 - Balance Sheet IAS accounting decisions couldStat usefully beofinformed I ncom e Statement, em ent Chan ges by in them. Equit y, and Statem ent -

Chapter 3

of Recognized Gains and Losses

Presentation and Disclosure Requirements under IAS

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter Stockholders' 6 - I nventor equity yalso includes reserves such as statutory or legal reserves, general reserves and

contingency reserves, and revaluation surplus. IAS 1 categorizes Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s stockholders' interests in three broad subdivisions: issued, capital, reserves, and accumulated profits or losses. This newly revised standard Chapter 8 - Property Plant , and Equipment also sets requirements Chapter 9 forth - I ntangi ble Asset sfor disclosures about the details of share capital for corporations and the various capital accounts of other Instr typesumofent enterprises. I nterests in Financial s, Associat es, Joint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty

Disclosures relating to share capital. ed Fin ancial Statements Chapter 11 - Business Combinations and Consolidat Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he 1. The Chapter 12 - number or amount of shares authorized, issued, and outstanding. It is required that a Balance Sheetinformation Date company disclose relating to the number of shares authorized, issued, and Chapter outstanding. 13 - FinancialEach I nstr uments—Longm Debtconnotation. Authorized share capital is the maximum of these has a Ter different Chapter number 14 - Leases of shares that a company is permitted to issue, according to its articles of association or Chapter its 15 charter - I ncomor e Taxes bylaws (these being given different names in different countries). The number of Chapter shares 16 - Emissued ploy ee and Benefit s outstanding could vary, based on the fact that a company could have Chapter acquired 17 - Stock its holder own s'shares Equit yand is holding them as treasury stock (discussed below under

shares). Chapter reacquired 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting

2. Capital not yet paid in. In an initial public offering (IPO), subscribers may be asked initially to pay in only a portion of the par value, with the balance due in installments, which are known as Chapter 21 - Accounting Changes and Cor rection of Er ror s calls. Thus, it is likely that on the date of the balance sheet, a certain portion of the share capital Chapter 22 - For eign Curr ency is not yet paid in. For instance, while the gross amount of the stock subscription increases Chapter 23 - Related- Part y Disclosures capital, if the due date of the last and final call falls on February 7, 2003, following the Chapter accounting 24 - Specialized I ndustr year-end of ies December 31, 2002, the amount of capital not yet paid in should be Chapter shown 25 - I nflation and Hyperinflation as a deduction from stockholders' equity. In this manner, only the net amount (of capital) Chapter received 26 - Gov er an tsof the balance sheet will be properly included in net stockholders' equity. upnm toent theGr date AppendixIAS A - 1Direquires sclosure that Checklist a distinction be made between shares that have been issued and fully paid, Appendixon B the - I llustrativ e Financial St atem s Prbeen esentissued ed Under one hand, and those that ent have butI AS not fully paid, on the other hand. The Appendixnumber C - Comofparison sharesofoutstanding I AS, US GAAP, at the and beginning UK GAAPand at the end of each period presented must I ndex also be reconciled. Chapter 20 - Segm ent Repor ting

List of Tables

3. Par value per share. This is also generally referred to as legal value or face value per share. The par value of shares is specified in the corporate charter or bylaws and referred to in other List of Sidebar s documents, such as the share application and prospectus. Par value is the smallest unit of share capital that can be acquired unless the prospectus permits fractional shares (which is very unusual for commercial enterprises). In certain countries, including the United States, it is also permitted for corporations to issue no-par stock (i.e., stock that is not given any par value). In such cases, again depending on local corporation laws, sometimes a stated value is determined by the board of directors, which is then accorded effectively the same treatment as par value. IAS 1 requires disclosure of par values or of the fact that the shares were issued without par values. List of Ex hibits and Ex am ples

Traditionally, companies often issued shares at par value in cases where shares are issued immediately on incorporation or soon thereafter. However, when a well-established company with a proven shares, it may newioshares W iletrack y I ASrecord 2 0 03 issues : I n t erp re t at ion an d issue Ap p licat n o f at a premium. As a practical matter, parI nvalues a much t er n athave ion al had Accou n t in gdiminished St an d ar dsimportance as corporation laws have been modernized many and often ISBN:0471227366 will be trivial, such as $1 or even by in Bar r y J. jurisdictions, Epstein and Abbas Ali the par values za In such cases, issuance prices even at inception of a new corporation will be $0.01 per Mir share. John Wi leypar & Sons © 2003 (952 pages) substantially above value. This com pact and t ruly com pr ehensive qui ck - refer ence

4. Movements in share capital during the year. This information is usually disclosed in pr esent s account antsaccounts with a guide to depend on for assistance in the prepar at ion andgenerally under standing of financial the footnotes to the financial statements, in a statement format, although in some statements ed ininaccordance I AS. circumstances merelypresent described a narrativewith in the footnotes. This statement, referred to as of Changes in Stockholders' Equity, highlights the changes during the year in the T ab le of the ConStatement t en t s various components ofand stockholders' It also serves theing purpose of reconciling the Wiley I AS 20 03—Int er pretation Applicationequity. of I nternational Account beginning and the ending balances of stockholders' equity, as shown in the balance sheet. Standar ds Preface Under the provisions of IAS 1, enterprises must now present either a statement showing the in all thetoequity accountsAccounting (including Standar issued capital, reserves and accumulated profit or Chapter changes 1 - I ntr oduction I nter national ds or a statement Chapter loss), 2 - Balance Sheet reporting changes in equity other than those arising from transactions with, or distributions to, owners. I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3

-

of Recognized Gains and Losses

5. Rights, preferences, and restrictions with respect to the distribution of dividends and to Chapter 4 - Cash Flow St at em ent the repayment of capital. When there is more than one class of share capital with varying Chapter 5 - Financial I nstr uments—Cash and Receiv ables rights, adequate disclosure of the rights, preferences, and restrictions attached to each such Chapter 6 - I nventor y class of share capital will enhance understandability of the information provided by the financial Chapter statements. 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s Chapter 8

- Property , Plant , and Equipment 6. Cumulative preference dividends in arrears. If a company does not pay dividends on the Chapter 9 - I ntangi ble Asset s

preference shares for a certain number of years, is required (corporate law I nterests in Financial Instr um ent s, Associat es,it Joint Ventur by es, statute and I nvestm ent Pr oper worldwide requires this)tyto make up these arrears in later years, if the shares have a cumulative Chapter feature. 11 - Business TheseCombinations dividends have andtoConsolidat be paid before ed Fin ancial any dividends Statements are paid on other equity shares. Although practice most preference shares and are Ev cumulative nature; preference shares Curr ent Liabilitvaries, ies, Prov isions, Cont ingencies, ents after in t he Chapter 12 Balance Sheet that do not have thisDate feature are called noncumulative preference shares. Chapter 10 -

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

7. Reacquired Chapter 14 - Leases shares. Shares that are reacquired by a company are referred to as treasury

In those jurisdictions where the corporate or company law of the country permits the Chapter stock. 15 - I ncom e Taxes

repurchase of shares, such shares, on acquisition by the company or its consolidated subsidiary, become legally available for reissue or resale without further authorization. Shares 17 - Stock holder s' Equit y outstanding refers to shares other than those held as treasury stock. Treasury stock does not 18 - Earnings Per Share reduce the number of shares issued but affects the number of shares outstanding. It is to be 19 - I nterim Financial Repor ting noted that certain countries prohibit companies from purchasing their own shares, since to do so 20 - Segm ent Repor ting is considered as a reduction of share capital that can be achieved only with the express consent 21 the - Accounting Changes Cor rectiongeneral of Er ror smeeting and then only under certain conditions. of shareholders in an and extraordinary

Chapter 16 - Em ploy ee Benefit s Chapter Chapter Chapter Chapter Chapter

Chapter 22 - For eign Curr ency

United Part Kingdom, traditionally companies were prohibited from purchasing their own Chapter In 23 the - Relatedy Disclosures However, the UK Chapter shares. 24 - Specialized I ndustr iesCompanies Act of 1981 relaxed this prohibition by allowing this subject course to certain conditions. Even in the United States, for that matter, not Chapter practice, 25 - I nflation andof Hyperinflation recognize treasury stock, and in those states the reacquired shares are to be treated Chapter all 26 states - Gov er nm ent Gr an ts

been Checklist retired. Normally, treasury stock is shown as a reduction of stockholders' equity. AppendixasA having - Di sclosure

Under very rare circumstances it may be presented as an asset, and shown on the asset side of the balance sheet, provided that adequate disclosure is made of this. Accounting for treasury Appendix C - Com parison of I AS, US GAAP, and UK GAAP stock is discussed in further detail in the latter part of this chapter. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS I ndex

List of Tables In SIC 16, the Standing Interpretations Committee has restated the principle that an entity's own List of Exshares, hibits and Ex am ples when reacquired, are to be reported as deductions from equity and not as assets in the List of Sidebar s sheet. The acquisition transaction should be reported in the statement of changes in balance

equity. When later resold, any difference between acquisition cost and ultimate proceeds represents a change in equity, and is therefore not to be considered a gain or loss to be included in the income statement. According to the interpretation, the reductions in equity may be either shown explicitly in the balance sheet's equity section as a contra account, or reported in the notes thereto. These rules are entirely consistent with widespread practice and the requirements of other national accounting standards. Another interpretation, SIC 17, addresses the commonly asked question of how to account for

costs incurred in connection either with share issuances or with share reacquisitions (i.e., treasury share transactions). The interpretation holds that, consistent with existing practice, such costs are to be yassociated the re related transaction and W ile I AS 2 0 03 :with I n t erp t at ioncapital an d Ap p licat io n o f accounted for on a consistent basis. Thus, these costs are to be accounted for as reductions of equity if the corresponding I n t er n at ion al Accou n t in g St an d ar ds transactionbywas a share issuance, or as increases in the contra equity account when incurred in ISBN:0471227366 Bar r y J. Epstein and Abbas Ali connectionMir with za share reacquisitions. Relevant costs are limited to incremental costs directly associatedJohn withWi the the pages) issuance involves a compound instrument as discussed leytransactions. & Sons © 2003If(952 by IAS 32,This the com issuance costs should be associated the liability and equity components, pact and t ruly com pr ehensive qui ckwith - refer ence pr esent s account ants with a guide to depend on for respectively, using a rational and consistent basis of allocation. assistance in the prepar at ion and under standing of financial statements in accordance I AS. and sales contracts, including the 8. Shares reserved for present future ed issuance under with options terms and amounts. Companies issue stock options that grant the holder of these options T ab le of Con t en t s rights to a specified number of shares at a certain price. A good example of a stock option is an Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing option granted under an employee stock ownership plan (ESOP). Stock options are an Standar ds Preface increasingly popular means of employee remuneration, and usually top management is offered such noncash perquisites as part of its remuneration package. If a company has shares Chapter 1 - I ntr oduction to I nter national Accounting Standar ds reserved for future issuance under option plans or sales contracts, it is necessary to disclose the Chapter 2 - Balance Sheet number of shares, including terms and amounts, so reserved. Chapter 3 Chapter Chapter Chapter Chapter Chapter

Chapter 9 Chapter Chapter Chapter Chapter Chapter Chapter Chapter Chapter

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

An interpretation of the Standing Interpretations Committee (SIC 5) deals with situations in which 4 - Cash Flow St at em ent enterprise obligations are to be settled in cash or in equity securities, depending on the outcome 5 contingencies - Financial I nstr uments—Cash and Receiv ables of not under the issuer's control. In general, these should be classed as liabilities, 6 I nventor y in accordance with the guidance in IAS 32, unless it is judged to be a remote possibility, at the 7 - of Rev enue Recogni I ncludingwith Constr uction Contr act s time issuance, that tion, a settlement cash or another financial asset will be required. In the 8 Property , Plant , and Equipment latter case, classification as equity will be prescribed. - I ntangi ble Asset s

The accounting stock options with later in thisVentur chapter I nterests in for Financial Instr umis entdealt s, Associat es, Joint es, and and presents many intriguing 10 and complex issues, most I nvestm ent Pr oper ty of which the accounting profession has already addressed. However, by at the number of technically complex in this area, the impression may be had 11 looking - Business Combinations and Consolidat ed Fin issues ancial Statements that the profession is still unable to come to grips fully with topic. Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev entsthis after t he Under US GAAP, for 12 Balance Sheet Date example, a number of pronouncements have been issued on accounting for the cost to ESOP plans, but the Imost recent of these, 13 - Financial nstr uments—LongTerissued m Debtin 1993, is not mandatorily applicable to shares held as that date; instead, employers may continue to use the prior accounting methods for shares 14 of - Leases purchased prior to that time. Significant changes in the authoritative literature have recently 15 - I ncom e Taxes been promulgated on sthe matter of accounting for stock-based compensation (options, 16 - Em ploy ee Benefit appreciation rights, etc.). 17 - Stock holder s' Equit y These changes are also discussed later in this chapter.

Chapter 18 - Earnings Per Share

Disclosures relating to other equity.

Chapter 19 - I nterim Financial Repor ting

1. Capital paid excess Chapter 20 - Segm entin Repor ting of par value. This is the amount received on the issuance of shares that excess over the parand value. It is called paid-in capital in the United States, while Chapter is 21the - Accounting Changes Cor rection of Eradditional ror s otherCurr countries, including the United Kingdom it is referred to as "share premium." Chapter in 22some - For eign ency Chapter 23 - Related- Part y Disclosures

2. Revaluation reserve. When a company carries property, plant, and equipment at other than

Chapter historical 24 - Specialized I ndustr ies costs, as is permitted by IAS 16 (i.e., it does not follow the benchmark treatment, but Chapter instead, 25 - I nflation and Hyperinflation follows the allowed alternative treatment, and revalues property, plant, and equipment Chapter to 26 fair - Gov er nm the ent difference Gr an ts value), between the historical costs (net of accumulated depreciation) and Appendixthe A -fair Di sclosure Checklist values is credited to the revaluation reserve. Under IAS 40, certain investments other Appendixthan B - those I llustrativ e Financial St atem ent s Prcan esent ed be Under I AS at revalued amounts. Thus, a in debt or equity securities also carried Appendixrevaluation C - Com parison reserve of Icould AS, US arise GAAP, notand onlyUK from GAAP revaluations of property, plant, and equipment, but I ndex

even from other investment property.

List of Tables

The standard requires that movements of this reserve during the period (year) be disclosed, which is usually done in the footnotes. Also, restrictions as to any distributions of this reserve to List of Sidebar s shareholders should be disclosed. List of Ex hibits and Ex am ples

3. Reserves. Reserves include capital as well as revenue reserves. Also, statutory reserves and voluntary reserves are included under this category. Finally, special reserves, including contingency reserves, are included herein. Statutory reserves (or legal reserves, as they are called in some jurisdictions) are created based on the requirements of the law or the statute under which the company is incorporated. For instance, most corporate statutes in Middle Eastern countries require that companies set aside

10% of their net income for the year as a "statutory reserve," with such appropriations to continue until the balance in this reserve account equals 50% of the company's equity capital. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Sometimes a company's articles, charter, or bylaws may require that each year the company set I n t er n at ion al Accou n t in g St an d ar ds aside a certain percentage of its net profit (income) by way of a contingency or general reserve. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Unlike statutory Mir za or legal reserves, contingency reserves are based on the provisions of corporate John bylaws. Apparently, the rationale Wi ley & Sons © 2003 (952 pages)behind creation of such reserves is to make the company strong by requiring that each year a stipulated percentage of profits be plowed back This com pact and t ruly com pr ehensive qui ck - refer ence into equityprinstead of being distributed to shareholders. esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial

The standard requirespresent that movements duringwith the period statements ed in accordance I AS. (year) in these reserves be disclosed, along with the nature and purpose of each reserve presented within owners' equity.

T ab le of Con t en t s

Wiley4.I AS 20 03—Int er pretation Application of I nternational Account inga corporation's accumulated Retained earnings. Byand definition, retained earnings represents Standar ds profits (losses) less any distributions that have been made therefrom. However, based on Preface provisions contained in the international accounting standards, other adjustments are also made Chapter to 1 the - I ntr oduction to I nter national Accounting Standar ds following to be shown as adjustments to amount of retained earnings. IAS 8 requires the Chapter retained 2 - Balance Sheet earnings: I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent a. - Under the benchmark treatment, correction of fundamental errors that relate to prior of Recognized Gains and Losses periods should be reported by adjusting the opening balance of retained earnings. Chapter 4 - Cash Flow St at em ent Comparative information should be restated, unless it is impracticable to do so. Chapter 3

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

- I nventor b. Under ythe benchmark treatment, the resulting adjustment from a change in accounting policy is totion, be applied retrospectively Chapter 7 - Rev enue that Recogni I ncluding Constr uction should Contr actbe s reported as an adjustment to the opening balance retained earnings. Comparative information should be restated unless Chapter 8 - Property , Plant , andof Equipment it is impracticable to do so. Chapter 9 - I ntangi ble Asset s Chapter 6

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 When dividends have proposed but not formally approved, and hence when such intended I nvestm entbeen Pr oper ty

dividends not yet become reportable as a liability the Statements enterprise, disclosure is required by IAS Chapter 11 have - Business Combinations and Consolidat ed Fin of ancial

1. Dividends declared after the balance sheet date, but prior to the issuance of the financial statements,

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter must be12disclosed cannot Balancebut Sheet Datebe formally recognized via a charge against retained earnings (as was

sometimes in the past). Also, the amount of any cumulative preference dividends not recognized Chapter 13 - done Financial I nstr uments—LongTer m Debt as charges Chapter 14 - against Leases accumulated profits must be disclosed, whether parenthetically or in the footnotes. Chapter 15 - I ncom e Taxes

Classification between Liabilities and Equity

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y

IAS 32 18 requires that the Chapter - Earnings Per issuer Share of a financial instrument should classify the instrument, or its

components, as a liability or as equity, according to the substance of the contractual arrangement on initial recognition. The crux of the issue is the differentiation between a financial liability and an equity Chapter 20 - Segm ent Repor ting instrument. Chapter 19 - I nterim Financial Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter 22 - For eign Curr ency The standard defines a financial liability as a contractual obligation Chapter 23 - Related- Part y Disclosures

1. To deliver cash or another financial asset to another enterprise, or

Chapter 24 - Specialized I ndustr ies

Chapter 25 exchange - I nflation financial and Hyperinflation 2. To instruments with another enterprise under conditions that are potentially Chapter unfavorable. 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

An equity instrument, on the other hand, has been defined by the standard as any contract that evidences a residual interest in the assets of an enterprise after deducting all its liabilities.

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Compound financial instruments.

List of Tables

List of Ex hibits itand Ex am ples Increasingly, is not uncommon for corporations to issue financial instruments that have attributes of List of equity Sidebarand s liabilities. IAS 32 stipulates that an enterprise that issues such financial instruments, both

which are technically known as compound instruments, should classify the component parts of the financial instrument separately as equity or liability as appropriate. (For a detailed discussion on financial instruments, refer to Chapters 5 and 10.)

Accounting for Share-Based Payments At present, there is little guidance under IAS as to the accounting to be applied to the increasingly

common situation where companies use their own shares as a means of compensating executives, other employees, and outside providers of services (vendors, etc.) as an alternative or supplement to cash payments. While shares (or of io options W ile ythe I ASissuance 2 0 03 : I of n t erp re t at ionthe angranting d Ap p licat n o f to acquire shares) in exchange for services from Ioutside providers (or in exchange for property, as when shares are used to purchase n t er n at ion al Accou n t in g St an d ar ds plant and equipment) clearly requires recordation at fair value, the matter of executive or employee ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali option and share Mir issuances za remains unsettled. John Wi ley & Sons © 2003 (952 pages)

This has proven to be a very contentious issue in those instances when attempts to address the This com pact and t ruly com pr ehensive qui ck - refer ence accounting considerations have been principally in theon US. pr esent s account ants made, with a guide to depend forIn the past, the financial statement preparer community has vehemently resisted of requirements assistance in the prepar at ion the and imposition under standing of financial that would attach a cost to statements present ed insetter accordance with to I AS. such payments. When the US standard attempted impose such a requirement in the mid1990s, a well orchestrated campaign opposing it, including threatened federal legislation to prohibit T ab le of Con t en t s implementation, convinced the FASB to settle for a mere disclosure requirement. FASB was so Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing chastened Standar ds by this experience that, until fall 2002, it was adamantly opposed to reconsideration of its rule, even in the face of IASB's announcement that it would undertake a project to imposed expense Preface recognition of share-based payments. Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Chapter 2 - Balance Sheet series of revelations of corporate malfeasance and financial reporting frauds The confidence-shattering I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent in the US Chapter 3 in - the 2001–2002 period has changed the landscape significantly, making it possible to of Recognized Gains and Losses

reexamine the need for improved accounting standards in a number of areas, including executive - Cash Flow St at em ent compensation. In the US, FASB has reluctantly undertaken a project to address this. While IASB had Chapter 5 - FinancialitsI nstr uments—Cash ables already announced intention to pursueand its Receiv project, the heightened public awareness probably adds to Chapter 6 I nventor y IASB's resolve and increases the likelihood that the effort will be productive. Chapter 4

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s IASB has given some Chapter 8 already - Property , Plant , andindications Equipmentthat there will be important results from this project. Despite

the increasing use ble of share-based payment, there is no IFRS (or IAS) on how to account for these Chapter 9 - I ntangi Asset s transactions,I nterests and concerns have Instr accordingly raised aboutVentur this lack of authoritative guidance. in Financial um ent s,been Associat es, Joint es, and IOSCO (the Iorganization securities regulators), among others, has stated that the IASC (IASB's nvestm ent Prof oper ty predecessor) should consider the accounting treatment of share-based Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statementspayments. According to IASB, the use of share-based payment arrangements has increased in Europe in recent years, so Curr ent Liabilit ies, Prov isions, Cont ingencies, and Evsignificantly ents after t he Chapter 12 that recentlyBalance European standard-setting bodies have begun working on this issue and have even Sheet Date issued 13 proposals on itI nstr (which call for expense recognition). Clearly, there is a sense of urgency driving Chapter - Financial uments—LongTer m Debt the IASB address this matter. Chapter 14 to - Leases Chapter 10 -

Chapter 15 - I ncom e Taxes

For example, in July 2000 G4+1 issued a discussion paper, Accounting for Share-Based Payment. Also, a draft accounting standard, Accounting for Share Option Plans and Similar Compensation Chapter 17 - Stock holder s' Equit y Arrangements, was published by the German Accounting Standards Committee in June 2001. A Chapter 18 - Earnings Per Share discussion paper, The Accounting Treatment of Share-Based Payment , was issued by the Danish Chapter I nterim Financial Public Repor ting Institute19of-State Authorized Accountants (FSR) in April 2000. All of these documents essentially Chapter 20 that - Segm Repor ting conclude fair ent value measures need to be applied to stock-based compensation arrangements. Chapter 21 FASB's - Accounting Changes and Cor rection of Er ror s that financial statements would be more Even the ill-fated SFAS 123 stated a conclusion Chapter - For eign Curr ency relevant22and representationally faithful if the estimated fair value of employee stock options were to be Chapter 23in- determining Related- Part an y Disclosures included entity's net income, consistent with the accounting for all other forms of Chapter compensation 24 - Specialized (althoughI ndustr this was ies made optional and not required, due to strongly voiced opposition) Chapter 16 - Em ploy ee Benefit s

Chapter 25 - I nflation and Hyperinflation

IASB has considered the experience of those national standard setters which have attempted to impose appropriate standards on the accounting for share-based payments. Inevitably, their Appendix A - Di sclosure Checklist constituents have argued that (among other things) they would be competitively disadvantaged if the Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS national standard setter were to introduce changes in isolation from other standard-setting bodies. This Appendix C - Com parison of I AS, US GAAP, and UK GAAP only serves to underscore the necessity for dealing with this topic at the international level. Chapter 26 - Gov er nm ent Gr an ts

I ndex

List of is Tables This not to suggest that development of a workable fair value approach to accounting for shareList based of Excompensation hibits and Ex am payments ples will be anything other than difficult. There are a number of legitimate

concerns about List of Sidebar s the recognition and measurement of share-based payment transactions. Some of these relate to the selection of an appropriate option pricing model, identification of the salient measurement date (the date at which the fair value of the shares or options is estimated), the method of accrual of expense over the performance period, and the appropriate treatments of lapsed options, options that are repriced or otherwise modified, employee share plans with cash alternatives and share appreciation rights. In July 2001, the IASB agreed to add a project on share-based payment to its agenda. In September 2001, the IASB decided to invite comments on the July 2000 IASC/G4+1 discussion paper. Also that

month, IASB considered whether share-based payment transactions, involving the purchase of goods or services with payment made in shares or options, should be recognized in the financial statements, resulting in the recognition income statement W ile y I ASof2 an 0 03expense : I n t erp in re tthe at ion an d Ap p licat io when n o f those goods or services are consumed (or when the attributed amount does not continue to form part of a recognizable asset). The I n t er n at ion al Accou n t in g St an d ar ds tentative conclusion was that, in principle, these transactions should be recognized in the financial ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za statements, subject to the discussion of measurement and other issues. John Wi ley & Sons © 2003 (952 pages)

There is general agreement that in the absence of an observable market price, an option pricing model This com pact and t ruly com pr ehensive qui ck - refer ence will need to be used to estimate fairwith value of share options, which particular model should pr esent s accountthe ants a guide to depend onalthough for be used was not addressed. may at beion a need to stipulate assistance inThere the prepar and under standingthe of manner financialin which option pricing ed in features accordance with I AS. models are to be statements adjusted topresent incorporate common to employee share options and options issued by unlisted companies. There was also consideration of the relationship between measurement T ab le of Con t en t s date and the reporting entity model (entity approach versus proprietary approach) and the distinction Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing between Standar ds liabilities and equity. Preface

Yet another issue that has been given some consideration is whether recognition of an expense for - I ntr oduction to I nter national Accounting Standar ds share-based payments is consistent with the definition of an expense in the conceptual frameworks Chapter 2 - Balance Sheet in particular, the IASB Framework. used by standard setters, Chapter 1

Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

of Recognized Gainsconsidered and Lossesa project plan that has the objective of publishing an By March 2002, the IASB had Chapter 4 Draft - CashofFlow St at em Exposure an IFRS byent the end of 2002. Based on a presumption that the use of an option Chapter - Financial I nstr uments—Cash and Receiv ables pricing 5model will be stipulated, IASB concluded that a reporting entity should be required to disclose Chapter the model 6 -used I nventor and ythe inputs to that model (including expected volatility, expected dividends, and the risk-free7 interest rate). In addition expected volatility, entity Chapter - Rev enue Recogni tion, Ito ncluding Constr uction the Contr act s should disclose historical volatility and an explanation of the, Plant differences between historical and expected volatility. The ultimate standard Chapter 8 - Property , and Equipment issued 9should explain Chapter - I ntangi ble how Assetto s determine the risk-free interest rate and the entity should disclose how the risk-freeIinterest was determined. nterests rate in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 -

I nvestm ent Pr oper ty

The IASB has tentatively concluded, with respect to options granted that cannot be exercised during the vesting period, if the entity uses an option pricing model that values European options (which can Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter only be12 exercised onSheet their expiration dates), such as the BlackScholes model, no adjustment is Balance Date required for the inability to exercise during vesting period because the model already assumes that Chapter 13 - Financial I nstr uments—Long- Terthe m Debt the options cannot be exercised during the holding period. If, on the other hand, the entity uses an Chapter 14 - Leases option pricing model that values American options (which are exercisable at any time until expiration), Chapter 15 - I ncom e Taxes such as a binomial model, the application of the model should take account of the inability to exercise Chapter 16 - Em ploy ee Benefit s during the vesting period. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 17 - Stock holder s' Equit y

Chapter 18 also - Earnings Per Share The IASB concluded that expected life, not contracted life, should be used in the option pricing Chapter - I nterim Financial model, 19 to take account of theRepor effectting of nontransferability. Guidance will have to be given on when it

might be adjust the option pricing model for the possible capital structure effects Chapter 20necessary - Segm enttoRepor ting associated issuing Changes new shares the exercise Chapter 21 - with Accounting and upon Cor rection of Er ror sof the options. Chapter 22 - For eign Curr ency

The IASB also considered vesting conditions (based upon the assumption that the standard will require the use of a fair value measurement method, with fair value estimated at grant date). The tentative Chapter 24 - Specialized I ndustr ies conclusion was that the treatment of vesting conditions should be consistent with the objective of Chapter 25 - I nflation and Hyperinflation accounting for the services received, as consideration for the issue of shares or options. It is attempting Chapter 26 - Gov er nm ent Gr an ts to develop an example of an approach that would incorporate the existence of vesting conditions into Appendix - Di sclosure Checklist the grantAdate valuation, with that valuation applied to the services received. Under this approach, an Appendix B I llustrativ e FinancialforStservices atem ent sreceived Pr esent ed Under I AS expense would be recognized and consumed during each accounting period, and Appendix C Com parison of I AS, US GAAP, and UK GAAP that expense would not be subsequently reversed in a future accounting period even if the shares or I ndex options granted were subsequently forfeited due to failure to meet vesting conditions. This approach List Tables willofdiffer from that under the US standard, SFAS 123 (which may also be revised, now that FASB has List agreed of Ex to hibits revisit andthis Ex am matter). ples Chapter 23 - Related- Part y Disclosures

List of Sidebar s

The appropriate date at which to measure share-based payment transactions has also been the subject of IASN attention. It has tentatively agreed that, when the measurement of a share-based payment transaction is based upon the fair value of the shares or options issued (or to be issued), fair value should be estimated at grant date. In May 2002, IASB discussed application and measurement issues relating to employee share purchase plans, share-based payment transactions with parties other than employees, repricing of options (and other changes in terms and conditions), and unlisted and newly listed companies. It

tentatively concluded that there should be no exemption from the IFRS for employee share purchase plans. Furthermore, the measurement principles applying to all share-based payment transactions would be to measure services areioreceived as consideration for the W iletransactions y I AS 2 0 03 : inI nwhich t erp regoods t at ionoran d Ap p licat n of issue of equity instruments at the fair value of the goods or services received, or the fair value of the I n t er n at ion al Accou n t in g St an d ar ds equity instruments issued (or to be issued), whichever is more readily determinable. For transactions ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali measured at the fair Mir za value of the equity instruments issued (or to be issued), fair values should be estimated at grantJohn date. parties other than employees, there would be a WiFor ley &transactions Sons © 2003 with (952 pages) rebuttable presumption that theand fairt ruly value of pr the goods or received is more readily This com pact com ehensive quiservices ck - refer ence esent s account ants with a guide to depend onafor determinable. Forprtransactions with employees, there would be rebuttable presumption that the fair assistance in the prepar ionbe and under is standing of financial value of the equity instruments issued (orat to issued) more readily determinable. statements present ed in accordance with I AS.

There was also agreement reached that repricing of options (and other changes in terms and conditions), whether before or after vesting date, should be accounted for by recognizing additional Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing remuneration expense based upon the incremental value given on repricing (i.e., the difference Standar ds between the fair value of the repriced option and that of the original option, both estimated as at the Preface date of repricing). Chapter 1 - I ntr oduction to I nter national Accounting Standar ds

T ab le of Con t en t s

Chapter 2 - Balance permitting Sheet IASB contemplated the use of the minimum value model by unlisted entities that are unable I ncom e the Statement, Stat of Chan ges in Equit y, and Statem ent it later decided that there to estimate reliably fair value of em theent goods or services received. However, Chapter 3 of Recognized Gains and Losses

will be no exceptions to the use of the fair value approach. Newly listed companies will not be permitted Cash Flow St at em ent to use the -minimum value method, however, and the standard will have to give guidance on estimating Chapter 5 uments—Cash Receiventities. ables the expectedFinancial volatilityI nstr of newly listed andand unlisted Chapter 4 Chapter 6

- I nventor y Valuation theenue rightsRecogni to options shares granted will need into account all types of vesting Chapter 7 of - Rev tion, or I ncluding Constr uction Contrto acttake s

conditions, conditions and performance conditions. That is, the grant date valuation Chapter 8 - including Property , service Plant , and Equipment should 9be reduced to allow Chapter - I ntangi ble Asset for s the possibility of forfeiture because of failure to satisfy vesting conditions. The resulting valuation then be applied to theVentur services received. The entity should be I nterests in Financial Instr umwould ent s, Associat es, Joint es, and required to disclose the Pr assumptions made in determining the grant date valuation with regard to the I nvestm ent oper ty possibility forfeiture, and the entity should ed be Fin required to disclose information on actual Chapter 11 of - Business Combinations andalso Consolidat ancial Statements forfeitures compared with expected forfeitures estimated at grant date. Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 10 -

Chapter 12 -

Balance Sheet Date There will no gain Irecognized for options lapse at the end of the exercise period. Therefore, no Chapter 13 be - Financial nstr uments—LongTer mthat Debt

accounting entry is required (apart from possibly a movement within equity, i.e., a transfer from one part of equity to another if the options previously were disclosed separately).

Chapter 14 - Leases

Chapter 15 - I ncom e Taxes

Chapter 16 - Em ployaccounting ee Benefit s to be prescribed for share appreciation rights (SAR) settled in cash, With regard to the Chapter 17 agreement - Stock holder s' Equit y there was that a liability should be accrued over the vesting period, when services are Chapter 18by - Earnings Per Share provided the employees (or other parties); the liability should be measured at fair value; and there Chapter - I nterim Financial Repor tingon the face of the income statement or in the notes, of that should 19 be separate disclosure, either Chapter - Segm ent Repor ting portion 20 of the expense recognized during each accounting period that is attributable to changes in the

estimated value of the liabilityand between grant settlement date. Chapter 21 fair - Accounting Changes Cor rection of date Er rorand s Chapter 22 - For eign Curr ency

As to share plans with cash alternatives, IASB tentatively agreed that for share plans where the employee has the choice of settlement, the compound financial instrument should be separated into its Chapter 24 - Specialized I ndustr ies debt and equity components; the fair value of the compound instrument should be estimated at grant Chapter 25 - I nflation and Hyperinflation date, by first estimating the fair value of the liability component, then estimating the fair value of the Chapter 26 - Gov er nm ent Gr an ts equity component—while taking into account that the employee must forfeit the cash alternative to Appendix A - option—and Di sclosure Checklist receive the then assuming the two component values; and both components should be Appendix B I llustrativ e Financial St atem ent same s Pr esent ed Under I AS forms of share-based payment, recognized over the vesting period, in the manner as other Appendix C Com parison of I AS, US GAAP, and UK GAAP except that the debt component should be remeasured to fair value at each balance sheet date, while I ndex the equity component should not be remeasured. Chapter 23 - Related- Part y Disclosures

List of Tables

At settlement, anyEx difference List of Ex hibits and am ples between the amount of the liability component previously recognized and theofamount List Sidebarof s cash paid or the fair value of the liability component at the date it is surrendered should

be accounted for as an adjustment to the transaction amount, that is, as an adjustment to the expense. If the employee chooses the cash alternative, the cash payment will settle the liability in full. The amount of the equity component (if any) that was recognized previously should remain in equity, as it represents the equity component of the compound instrument that has been surrendered by the employee. If the employee does not elect to receive the cash alternative, the amount of the liability component of the compound instrument that previously was recognized as a liability should be transferred directly to equity.

Separate disclosures will be mandated, either on the face of the income statement or in the notes, of that portion of the expense recognized during each accounting period that is attributable to changes in the estimated fairWvalue date settlement ile y Iof ASthe 2 0liability 03 : I n tbetween erp re t atgrant ion an d Apand p licat io n o f date. I n t er n at ion al Accou n t in g St an d ar ds

For share plans that give the entity the choice of paying cash or issuing equity instruments, the ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali tentative conclusion is that, if a liability exists (for example, the choice is not a substantive choice or a Mir za constructive obligation toley settle in cash exists), the same accounting treatment as for cash-settled SAR John Wi & Sons © 2003 (952 pages) should be applied. If no liability exists, the transaction be accounted for in the same manner as This com pact and t ruly com pr ehensiveshould qui ck - refer ence other forms of equity-settled share-based payment transactions. If the entity elects to settle in cash pr esent s account ants with a guide to depend on for in the prepar ion and under standing financialto equity as the repurchase rather than issue assistance equity instruments, theatcash payment should beofdebited statements present ed in accordance withelects I AS. to settle by issuing equity instruments, of an equity interest, with limited exceptions. If the entity noleaccounting is required, (other than a movement within equity, if the various types of equity T ab of Con t en entry ts interests are disclosed separately), except as noted below. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

If the entity chooses the settlement alternative with the higher fair value, as estimated at the date of settlement, additional remuneration expense should be recognized for the excess value given, that is, Chapter 1 - I ntr oduction to I nter national Accounting Standar ds the difference between the cash paid or fair value of the equity instruments issued and the fair value of Chapter 2 - Balance Sheet the equity instruments that otherwise would have been issued (or the amount of cash that otherwise I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent would have Chapter 3 - been paid). Similarly, for share plans that allow the entity to pay cash to employees rather of Recognized Gains and Losses than issue shares upon the exercise of share options, the cash payment should be treated as the Chapter 4 - Cash Flow St at em ent repurchase of an equity instrument and debited to equity. However, if the cash paid exceeds the gain Chapter 5 - Financial I nstr uments—Cash and Receiv ables that the employee would realize on exercise of the option, additional remuneration expense should be Chapter 6 - for I nventor y recognized that excess cash paid. (All of these decisions are only tentative and subject to change Chapter 7 Rev enue Recogni tion, I ncluding Constr uction Contr act s as the deliberations continue.) Preface

Chapter 8

- Property , Plant , and Equipment The IASB tentatively agreed that equity instruments transferred directly from shareholders to Chapter 9 also - I ntangi ble Asset s

employees, Ior to other who have provided goods services entity, should be accounted nterests in parties Financial Instr um ent s, Associat es, or Joint Venturto es,the and for as share-based I nvestmpayment ent Pr oper transactions, ty unless the transfer clearly is for a purpose other than compensation for goods or servicesand supplied to the Chapter 11 - Business Combinations Consolidat ed entity. Fin ancial Statements Chapter 10 -

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS 2 0 03 : I n tof erp re t at ion an d Ap p licat io n o f Appendix A: Illustration Financial Statement Presentation Under U I n t er n at ion al Accou n t in g St an d ar ds

ISBN:0471227366 by Bar ran y J.illustration Epstein and Ali This appendix provides of Abbas the various financial statements that may be required to be presente Mir za stockholders' equity section of the balance sheet.

John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence Stockholders' Equity Section of a Balance Sheet

Capital stock:

pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Preferred stock, $100 par, 7% cumulative, 30,000 shares authorized, issued, and outstanding

T ab le of Con t en t s

Wiley I AS Common 20 03—Intstock, er pretation andstated Application of I nternational Account ing no par, value $10 per share, 500,000 shares authorized, 415,000 shares Standar ds Preface

issued

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Total capital stock

Additional paid-in I ncom ecapital: Statement, Stat em ent of Chan ges in Equit y, and Statem ent -

Chapter 3

of Recognized Gains and Losses

Issued price in excess of par value—preferred - Cash Flow St at em ent

Chapter 4

Chapter 5Issued - Financial I nstr uments—Cash Receiv ables price in excess of stated and value—common Chapter 6 - I nventor y Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s Total paid-in capital

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Donated capital

Retained earnings: I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty

Appropriated for plant expansion Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 Unappropriated Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Total capital and retained earnings

Chapter 14 - Leases

Chapter Less 10,000 15 - I ncom common e Taxes shares held in treasury, at cost Chapter 16 - Em ploy ee Benefit s

Total stockholders' equity

Chapter 17 - Stock holder s' Equit y

Retained Statement Chapter 18 - Earnings Earnings Per Share Chapter 19 at - Ibeginning nterim Financial Repor ting Balance of year, as reported

$ 3,

Chapter 20 - Segm ent Repor ting

Prior period adjustment—correction of an error in method of depreciation (less tax effect of $77,000)

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter Balance 22 at - For beginning eign Curr ofency year, restated

$ 3,

Chapter 23 - Related- Part y Disclosures

Net income for the year

Chapter 24 - Specialized I ndustr ies

Cash dividends declared during the year Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Preferred stock

(2

Appendix A - Di sclosure Checklist Appendix Common B - I llustrativ stock e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Balance at end of year

I ndex List of Tables

Statement ofand Changes in Stockholders' Equity (Including Retained Earnings Statement) List of Ex hibits Ex am ples List of Sidebar s

$4,3

Additional paid-in W Shares ile y I AS 2 0 03 : I n t erp re tShares at ion an d Ap p licat io n o f capital Amount Amount Preferred stock

Common stock

Donated capital

Retained earnings

$100,000

$3,800,00

--

--

115,00

Balance. -- and Application -400,000 $4,000,000 Wiley I AS 20 03—Int er pretation of I nternational Account ing $840,000 12/31/02, Standar ds

$100,000

$3,915,00

I n t er n at ion al Accou n t in g St an d ar ds

Balance, 12/31/02, as reported

400,000 by Bar r y --J. Epstein and -Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

$4,000,000 $840,000 ISBN:0471227366

Correction of an error in method of depr.

This com--pact and t ruly com - pr ehensive -- qui ck - refer ence -pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

T ab le of Con t en t s

restated Preface Chapter 1 - I ntr oduction to I nter national Accounting -Standar ds Preferred 30,000 $3,000,000

--

150,000

--

Chapter 2 - Balance Sheet stock issued

in public Chapter 3 offering

Chapter 4

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

- Cash Flow St at em ent

Stock options --15,000 - Financial I nstr uments—Cash and Receiv ables exercised

150,000

5,000

--

- I nventor y Net income -- tion, I ncluding -- Constr uction -- Contr act s -Chapter 7 - Rev enue Recogni

--

--

748,00

--

--

(210,000

Chapter 5 Chapter 6 Chapter Cash 8

- Property , Plant , and Equipment

Chapter 9 - I ntangi ble Asset s dividends

declared: Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

---Chapter 11 Preferred, - Business Combinations and Consolidat ed--Fin ancial Statements

$7.00 per Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date share

Chapter 12 -

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

--

--

--

--

--

(78000

Chapter Balance, 17 - Stock holder 30,000 s' Equit$3,000,000 y

415,000

$4,150,000

$995,000

$100,000

$4,375,00

Common, Chapter 14 - Leases

--

$.20 per e Taxes Chapter 15 - I ncom share

Chapter 16 - Em ploy ee Benefit s

12/31/03 Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS 2 0 03 : I nGuidance t erp re t at ion anUnder d Ap p licatUS io n oGAAP f Appendix B: Additional I n t er n at ion al Accou n t in g St an d ar ds

ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali As noted in the main portion of this chapter, international accounting standards have not addressed a Mir and za interesting issues that do arise in connection with financial reporting by number of complex John Wi ley & Sons © 2003the (952material pages) in this appendix is not authoritative, it is being enterprises in many countries. Although This com pact and t ruly com pr quiguidance. ck - refer ence provided with the intent that it be instructive asehensive additional Since these are matters that have pr esent s account ants with a guide to depend on for not been addressed by IAS, the treatments illustrated herein are not prohibited for application to assistance in the prepar at ion and under standing of financial financial statements preparedpresent in conformity with international statements ed in accordance with I AS.accounting standards.

T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

ile yUS I AS GAAP 2 0 03 : I n tTerms erp re t at ion an d Ap p licat io n o f DefinitionsWof I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

A-D

ISBN:0471227366

This com pact and t ruly com pr ehensive qui ck - refer ence

Additional paid-in capital pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial Amounts received at issuance in excess of the par or stated value of capital stock and statements present ed in accordance with I AS. amounts received from other transactions involving the entity's stock and/or It is classified by source. T ab le of Con t en tstockholders. s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Allocated shares Standar ds

ESOP shares assigned to individual participants. These shares are usually based on

Preface Chapter 1 Chapter 2

- I ntrlength oduction to I nter national Accounting ds of service, compensation, or aStandar combination of both. - Balance Sheet

Appropriation retained earnings) I ncom (of e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses A segregation of retained earnings to communicate the unavailability of a portion for Chapter 4 - Cash Flow Stdistributions. at em ent dividend Chapter 3

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Authorized shares Chapter 6 - I nventor y Chapter 7

- RevThe enuemaximum Recogni tion, number I ncluding of shares Constr permitted uction Contr to be actissued s by a corporation's charter and

Chapter 8

bylaws. - Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Callable I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty An optional characteristic of preferred stock allowing the corporation to redeem the Chapter 11 - Business Combinations and Consolidat ancial prices. Statements stock at specified future dates anded at Fin specific The call price is usually at or above the original price. Curr ent Liabilit ies, Provissuance isions, Cont ingencies, and Ev ents after t he Chapter 12 -

Balance Sheet Date

Cliff 13 vesting Chapter - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases A condition of an option or other stock award plan which provides that the employee Chapter 15 - I ncom becomes e Taxesfully vested at a single point in time. Chapter 16 - Em ploy ee Benefit s

Combination Chapter 17 - Stockplans holder s' Equit y Compensation Chapter 18 - Earnings Per Shareplans under which employees receive two or more components, such as options andRepor stockting appreciation rights, all of which can be exercised. Thus, each Chapter 19 - I nterim Financial component actually a separate plan and is accounted for as such. Chapter 20 - Segm ent Reporis ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

Committed-to-be-released shares

Chapter 22 - For eign Curr ency

ESOP shares that will be allocated to employees for service performed currently. They are usually released by payment of debt service.

Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation Compensatory plan Chapter 26 - Gov er nm ent Gr an ts

A stock option plan including elements of compensation that are recognized over the service period.

Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison I AS, US GAAP, and UK GAAP Compensatory stockofoption plans I ndex List of Tables

Plans that do not meet the criteria for noncompensatory plans. Their main purpose is to provide additional compensation to officers and employees.

List of Ex hibits and Ex am ples

retirement method List Constructive of Sidebar s Method of accounting for treasury shares that treats the shares as having been retired. The shares revert to authorized but unissued status. The stock and additional paid-in capital accounts are reduced, with a debit to retained earnings or a credit to a paid-in capital account for the excess or deficiency of the purchase cost over or under the original issuance proceeds. Contributed capital

The amount of equity contributed by the corporation's shareholders. It consists of capital stock plus additional paid-in capital. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Convertible I n t er n at ion al Accou n t in g St an d ar ds Anbyoptional of preferred stock allowing the stockholders to exchange ISBN:0471227366 Bar r y J.characteristic Epstein and Abbas Ali Mir za their preferred shares for common shares at a specified ratio. John Wi ley & Sons © 2003 (952 pages)

Cost method This com pact and t ruly com pr ehensive qui ck - refer ence pr esentofs accounting account antsfor with a guideshares to depend on for Method treasury that presents aggregate cost of reacquired assistance in the prepar at ion and under standing of financial shares as a deduction from the total of paid-in capital and retained earnings. statements present ed in accordance with I AS.

Cumulative T ab le of Con t en t s Wiley I AS 20 03—Int An er optional pretation characteristic and Application of preferred of I nternational stock. Any Account dividends ing of prior years not paid to Standar ds the preferred shareholders must be paid before any dividends can be distributed to

the common shareholders.

Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Date2of -declaration Chapter Balance Sheet I ncom Thee date Statement, on which Statthe emboard ent of of Chan directors ges in Equit votesy,that andaStatem dividend ent be paid. A legal liability of Recognized Gains is and Losseson this date in the case of cash, property, and scrip (usually current) created

Chapter 3

-

Chapter 4

- Cash Flow St at em ent dividends.

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Date6of -grant Chapter I nventor y Chapter 7

- RevThe enuedate Recogni on which tion, Ithe ncluding boardConstr of directors uction awards Contr actthe s stock to the employees in stock

Chapter 8

option, Plant plans. - Property , and Equipment

Chapter 9

- I ntangi ble Asset s

Date of payment I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty the shareholders are paid the declared dividends. The date on which Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Date of record Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet The date onDate which ownership of the shares is determined. Those owning stock on this Chapter 13 - Financial I nstr Ter mdividends. Debt date will beuments—Longpaid the declared Chapter 12 -

Chapter 14 - Leases

Deficit Chapter 15 - I ncom e Taxes Chapter 16 - Em A ploy debit ee Benefit balance s in the retained earnings account. Dividends may not generally be paid

when thiss' condition exists. Formally known as accumulated deficit. Chapter 17 - Stock holder Equit y Chapter 18 - Earnings Per Share

Discount on capital stock

Chapter 19 - I nterim Financial Repor ting

Occurs whenting the stock of a corporation is originally issued at a price below par value. Chapter 20 - Segm ent Repor The original purchasers liable to creditors for this difference. Chapter 21 - Accounting Changes and Corbecome rection ofcontingently Er ror s Chapter 22 - For eign Curr ency

E-S

Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies

Employee ownership plan (ESOP) Chapter 25 - stock I nflation and Hyperinflation Chapter 26 - Gov A form er nmofent defined Gr an tscontribution employee benefit plan whereby the employer facilitates the

purchase shares of stock in the company for the benefit of the employees, generally by Appendix A - Di sclosure of Checklist trust established the company. The may Appendix B - Iallustrativ e Financial by St atem ent s Pr esent edplan Under I ASbe leveraged by borrowings either from the employer-sponsor or fromand third-party Appendix C - Com parison of I AS, US GAAP, UK GAAPlenders. I ndex

Fixed options

List of Tables

that grant the holder the rights to a specified number of shares at fixed prices. It is List of Ex hibitsOptions and Ex am ples not dependent on achievement of performance targets.

List of Sidebar s

Graded vesting A vesting process whereby the employee becomes entitled to a stock-based award fractionally over a period of years. Issued stock The number of shares issued by the firm and owned by the shareholders and the corporation. It is the sum of outstanding shares plus treasury shares.

Junior stock Shares with certain limitations, often as to voting rights, which are granted to employees W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f pursuant to a performance compensation program. Such shares are generally convertible I n t er n at ion al Accou n t in g St an d ar ds to ordinary shares on achievement of defined goals. Legal capital

by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

The This aggregate par or stated value of stock. It represents the amount of owners' equity that com pact and t ruly com pr ehensive qui ck - refer ence cannot be distributed to shareholders. It serves the claims of the creditors. pr esent s account ants with a guide to dependto onprotect for assistance in the prepar at ion and under standing of financial

Liquidating dividend statements present ed in accordance with I AS. A dividend distribution that is not based on earnings. It represents a return of contributed T ab le of Con t en ts capital.

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Measurement date

Preface

Chapter 1 Chapter 2

date ontowhich priceAccounting used to compute under stock-based - IThe ntr oduction I nterthe national Standarcompensation ds compensation - Balance Sheet plans is fixed.

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 Noncompensatory stock options of Recognized Gains and Losses Chapter 4

Options under - Cash Flowwhich, St at em ent current GAAP, do not include an element of compensation being

Chapter 5

paid to the participants. Under GAAP all stock plans would include an element of - Financial I nstr uments—Cash andproposed Receiv ables

Chapter 6

to be measured and allocated over the service periods of the employees. - Icompensation nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Noncompensatory stock option plans

Plans whose primary purpose is widespread ownership of the firm among its employees and officers. They must meet four criteria (see APB 25, para 7, or the section on stock I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - options). I nvestm ent Pr oper ty Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

No-par stock

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - Stock that has no par value. Sometimes a stated value is determined by the board of Balance Sheet Date

directors.I nstr In this case the stated Chapter 13 - Financial uments—LongTer m value Debt is accorded the same treatment as par value stock. Chapter 14 - Leases

Outstanding stock

Chapter 15 - I ncom e Taxes

Stock issued by a corporation and held by shareholders (i.e., issued shares that are not held in the treasury).

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y Chapter 18 -method Earnings Per Share Par value

Chapter 19 - I nterim Financial Repor ting

A method of accounting for treasury shares that charges the treasury stock account for the aggregate par or stated value of the shares acquired and charges the excess of the Chapter 21 - Accounting Changes and Cor rection of Er ror s purchase cost over the par value to paid-in capital and/or retained earnings. A deficiency Chapter 22 - For Curr ency of eign purchase cost is credited to paid-in capital. Chapter 20 - Segm ent Repor ting

Chapter 23 - Related- Part y Disclosures

Participating Chapter 24 - Specialized I ndustr ies Chapter 25 - IAn nflation and characteristic Hyperinflation of preferred stock whereby preferred shareholders may share optional Chapter 26 - Gov er nm ent Gr ts ratably with theancommon shareholders in any profit distributions in excess of a Appendix A - Di sclosure Checklist predetermined rate. Participation may be limited to a maximum rate or may be unlimited Appendix B - I(full). llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Performance-based options I ndex

List of Tables Options that are granted to employees conditional on the achievement of defined goals. List of Ex hibits and Ex am ples

Phantom stock plan

List of Sidebar s

A type of stock compensation arrangement that gives employees the right to participate in the increase in value of the company's shares (book value or market value, as stipulated in the plan) without actually being required to purchase the shares initially. Quasi reorganization A procedure that reclassifies amounts from contributed capital to retained earnings to eliminate a deficit in that account. All the assets and liabilities are first revalued to their current values. It represents an alternative to a legal reorganization in bankruptcy

proceedings. Retained earnings

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

The undistributed I n t er n at ion alearnings Accou n tof inag firm. St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Service period Mir za John Wiover ley &which Sons © (952 pages)compensation award is earned by the recipient. If not The period a 2003 stock-based otherwise This com defined pact and in the t ruly plan, comit pr isehensive the vesting qui ck period. - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial Stock-based compensation statements present ed in accordance with I AS.

Any of a wide variety of compensation arrangements under which employees receive T ab le of Con t en ts shares of stock, options to purchase shares, or other equity instruments, or under which Wiley I AS 20 03—Int the employer er pretation incurs andobligations Applicationtoofthe I nternational employeesAccount based ing on the price of the company's Standar ds shares. Preface

Stock options Chapter 1 - I ntr oduction to I nter national Accounting Standar ds - Balance EnablesSheet officers and employees of a corporation to purchase shares in the corporation. I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 Stock rightsof Recognized Gains and Losses Chapter 2

Chapter 4 Chapter 5 Chapter 6 Chapter 7

- Cash Flowpresent St at em ent Enables shareholders to purchase additional shares of stock of the corporation. It - Financial I nstr uments—Cash and Receiv is commonly used if a preemptive rightables is granted to common shareholders by some state - Icorporation nventor y laws. - Rev enue Recogni tion, I ncluding Constr uction Contr act s

Suspense Chapter 8 - shares Property , Plant , and Equipment Chapter 9

shares - IESOP ntangi ble Assetthat s usually collateralize ESOP debt. They have not been allocated or

Chapter 10 -

be released. Icommitted nterests in to Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

T-V

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Tandem options

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Compensation plans under which employees receive two or more components, such as options and stock appreciation rights, whereby the exercise of one component cancels the Chapter 15 - I ncom e Taxes other(s). The accounting is based on the component that is more likely to be exercised. Chapter 14 - Leases

Chapter 16 - Em ploy ee Benefit s

Chapter 17 stock - Stock holder s' Equit y Treasury Chapter 18 - Earnings Per Share

Shares of a corporation that have been repurchased by the corporation. This stock has no

Chapter 19 - Ivoting nterim rights Financial ting no cash dividends. Some states do not recognize treasury stock. andRepor receives Chapter 20 - Segm ent cases, Repor ting In such reacquired shares are treated as having been retired. Chapter 21 - Accounting Changes and Cor rection of Er ror s

Vesting22 - For eign Curr ency Chapter Chapter 23 - RelatedPart y whereby Disclosures The process the recipient of a stock-based compensation award earns the right to Chapter 24 - Specialized I ndustr ies control or exercise the award. Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS and 2 0 03 : Examples I n t erp re t at ion an d Ap p licat io n o f Concepts, Rules, I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

Legal Capital Mir zaand Capital Stock

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages)

Legal capital typically relates to that portion of the stockholders' investment in a corporation that is permanen This com pact and t ruly com pr ehensive qui ck - refer ence represents assetsprthat will continue to with be available fordepend the satisfaction of creditor's claims. Traditionally, legal esent s account ants a guide to on for comprised of the assistance aggregate inpar orprepar statedatvalue of under common and preferred shares issued. In recent years, how the ion and standing of financial statements present in accordance with I AS.a designated par or stated value. Some states h have eliminated the requirement thatedcorporate shares have provisions of a model act that completely eliminated the distinction between par value and the amount contrib T ab le of Con t en t s par. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Ownership interest in a corporation is made up of common and, optionally, preferred shares. The common sh residual risk-taking ownership of the corporation after the satisfaction of all claims of creditors and senior cla

Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2 - Balance Preferred stock.Sheet I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Chapter 3

-

Chapter 9

- I ntangi ble Asset s

of Recognized andwho Losses Preferred shareholders areGains owners have certain rights superior to those of common shareholders. Thes Chapter - Cash Flow or St at emassets ent either to4 the earnings the of the corporation. Preferences as to earnings exist when the preferred s Chapter 5 dividend - Financial I nstr uments—Cash and ables stipulated rate (expressed either asReceiv a dollar amount or as a percentage of the preferred stock's par Preferences as to assets exist when the preferred shares have a stipulated liquidation value. If a corporation Chapter 6 - I nventor y the preferred holders would be paid a specific amount thescommon shareholders would have a right to Chapter 7 - Rev enue Recogni tion, I ncluding Constr uctionbefore Contr act of the proceeds. Chapter 8 - Property , Plant , and Equipment

In practice, preferred shares are more likely to have preferences as to earnings than as to assets. Some clas I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter - have both preferential rights. Preferred shares may also have the following features: participation shares 10 may I nvestm ent Pr oper ty beyond the stipulated dividend rate; a cumulative feature, affording the preferred shareholders the protection Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements in arrears, if any, will be fully satisfied before the common shareholders participate in any earnings distributio Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - by the corporation. Whatever preferences exist must be disclosed adequately in the financial sta or callability Balance Sheet Date the face13of- the balance sheet or in the notes. Chapter Financial I nstr uments—LongTer m Debt Chapter 14 - Leases

In exchange for the preferences, the preferred shareholders' rights or privileges are limited. For instance, the

Chapter 15 - I ncom e Taxesshareholders. The most important right denied to the preferred shareholders, howev be restricted to common Chapter 16 Em ploy ee Benefitin s the earnings of the corporation. Thus, if the corporation has exceedingly large participate without limitation Chapter 17 period, - Stock holder Equit y would tend to accrue to the benefit of the common shareholders. This is tru particular these s' earnings Chapter 18 stock - Earnings Per Share (a fairly uncommon feature) because even participating preferred stock usuall preferred is participating Chapter 19 placed - I nterim ting limitation on Financial its degreeRepor of participation. Chapter 20 - Segm ent Repor ting

Occasionally, as discussed in theand chapter, several of stock will be categorized as common (e.g., Cla Chapter 21 - Accounting Changes Cor rection of Erclasses ror s

Class B common, etc.). Since there can be only one class of shares that represents the true residual risk-tak corporation, it is clear that the other classes, even though described as common shareholders, must in fact h Chapter 23 - Related- Part y Disclosures preferential status. Typically, these preferences relate to voting rights. The rights and responsibilities of each Chapter 24 - Specialized I ndustr ies shareholder, even if described as common, must be fully disclosed in the financial statements. Chapter 22 - For eign Curr ency

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov nm ent Gr an ts Issuance of ershares. Appendix A - Di sclosure Checklist

Appendix The accounting B - I llustrativ for the e Financial sale of shares St atemby ent a scorporation Pr esent ed Under depends I AS on whether the stock has a par or stated val

or statedCvalue, amount of the the aggregate par or stated value is credited to the Appendix - Com the parison of I AS, US proceeds GAAP, andrepresenting UK GAAP preferred stock account. The aggregate par or stated value is generally defined as legal capital not subject to I ndex shareholders. List of Tables Proceeds in excess of par or stated value are credited to an additional paid-in capital account. paid-in represents the amount in excess of the legal capital that may, under certain defined conditions List of Ex capital hibits and Ex am ples

shareholders. List of Sidebar s A corporation selling stock below par value credits the capital stock account for the par value a offsetting discount account for the difference between par value and the amount actually received.

If there is a discount on original issue capital stock, it serves to notify the actual and potential creditors of the of those investors. As a practical matter, corporations avoided this problem by reducing par values to an arbi This reduction in par eliminated the chance that shares would be sold for amounts below par. Where corpora distinction between par value and amounts in excess of par, the entire proceeds from the sale of stock may b common stock account without distinction between the stock and the additional paid-in capital accounts. The illustrate these concepts:

Facts: A corporation sells 100,000 shares of $5 par common stock for $8 per share cash. Cash

W ile y I AS 2 0 03800,000 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

500,000 Commonby stock Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za 300,000 AdditionalJohn paid-in Wi ley & Sons © 2003 (952 pages)

capital

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for Facts: A corporation sells 100,000 shares of no-par common stock for $8 per share cash. assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. T abCash le of Con t en t s

800,000

Wiley I AS 20 03—Int er pretation and Application 800,000 of I nternational Account ing Common Standar ds Preface

stock

Chapter 1 stock - I ntr oduction national Accounting Standar ds Preferred will oftentobeI nter assigned a par value because in many cases the preferential dividend rate is de Chapter 2 Balance Sheet percentage of par value (e.g., 10%, $25 par value preferred stock will have a required annual dividend of $2. I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent dividend Chapter 3 can - be stated as a dollar amount per year, thereby obviating the need for par values. of Recognized Gains and Losses Chapter - Cash Flow at em ent Stock4 issued for St services. Chapter 5

- Financial I nstr uments—Cash and Receiv ables If the shares in a corporation are issued in exchange for services or property rather than for cash, the transa Chapter 6 - I nventor y

reflected fair value of the property or Constr services received. If this information is not readily available, the tr Chapter 7 at- the Rev enue Recogni tion, I ncluding uction Contr act s be recorded at the fair value of the shares that were issued. Where necessary, appraisals should be obtaine Chapter 8 - Property , Plant , and Equipment the transaction. As ble a final resort, a valuation by the board of directors of the stock issued can be utilized. Sto Chapter 9 - I ntangi Asset s

employees as compensation for services rendered should be accounted for at the fair value of the services p I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 determinable, or the value of the shares issued. I nvestm ent Pr oper ty Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

If shares are given by a major shareholder directly to an employee for services performed for the entity, this e

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 -for as a capital contribution to the company by the major shareholder and as compensation expen accounted Balance Sheet Date

company. Only when accounted for in this manner will there be conformity with the general principle that all c entity, including compensation, should be reflected in its financial statements.

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Chapter 15 - I ncom e Taxes

Issuance of stock units.

Chapter 16 - Em ploy ee Benefit s

Chapter 17 instances, - Stock holder s' Equitand y In certain common preferred shares may be issued to investors as a unit (e.g., a unit of one s Chapter - Earnings Per Share and two18shares of common can be sold as a package). Where both of the classes of stock are publicly trade

from a unit beRepor allocated Chapter 19 - offering I nterim should Financial ting in proportion to the relative market values of the securities. If only on publicly20 traded, the Chapter - Segm entproceeds Repor tingshould be allocated to the one that is publicly traded based on its known marke is allocated the other.Changes Where the value neither security is known, appraisal information might be Chapter 21 - to Accounting and market Cor rection of of Er ror s fair value oneeign class ofency security, particularly the preferred shares, can be based on the stipulated dividend r Chapter 22 of - For Curr the amount proceeds after the imputing of a value of the preferred shares would be allocated to Chapter 23 - of RelatedPart yremaining Disclosures Chapter 24 - Specialized I ndustr ies

The foregoing procedures would also apply if a unit offering were made of an equity and a nonequity security convertible debentures.

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

Stock Subscriptions

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Occasionally, particularly in the case of a newly organized corporation, a contract is entered into between the

I ndex prospective investors, whereby the latter agree to purchase specified numbers of shares to be paid for over s List of Tables period. These stock subscriptions are not the same as actual stock issuances, and the accounting differs. List of Ex hibits and Ex am ples

Theofamount List Sidebar sof stock subscriptions receivable by a corporation is sometimes treated as an asset on the balan categorized as current or noncurrent in accordance with the terms of payment. However, most subscriptions shown as a reduction of stockholders' equity in the same manner as treasury stock. Since subscribed shares rights and responsibilities of actual outstanding stock, the credit is made to a stock subscribed account inste stock accounts. If the common stock has par or stated value, the common stock subscribed account is credited for the aggre value of the shares subscribed. The excess over this amount is credited to additional paid-in capital. No disti between additional paid-in capital relating to shares already issued and shares subscribed for. This treatmen

distinction between legal capital and additional paid-in capital. Where there is no par or stated value, the enti common stock subscribed is credited to the stock subscribed account. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

As the amount due from the prospective shareholders is collected, the stock subscriptions receivable accoun I n t er n at ion al Accou n t in g St an d ar ds the proceeds are debited to the cash account. Actual issuanceISBN:0471227366 of the shares, however, must await the comp by Bar r y J. Epstein and Abbas Ali stock subscription. the debit to common stock subscribed is not made until the subscribed share MirAccordingly, za and the stock is issued. John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence The following journal entries illustrate these concepts: pr esent s account ants with a guide to depend on for

assistance thepreferred prepar at ion under standing of financial 1. 10,000 shares of $50inpar areand subscribed at a price of $65 each; a 10% down payment is rec statements present ed in accordance with I AS.

Cash T ab le of Con t en t s

65,000

Wiley I ASStock 20 03—Int er pretationreceivable and Application585,000 of I nternational Account ing subscriptions Standar ds

500,000

Preferred stock

Preface Chapter 1

- I ntrsubscribed oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

150,000

Additional paid-inStat capital I ncom e Statement, em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

2. 2,000 shares no parent common shares are subscribed at a price of $85 each, with one-half received Chapter 4 - Cash FlowofSt at em Chapter 5

- Financial I nstr uments—Cash and Receiv ables 85,000 Chapter 6Cash - I nventor y Chapter 7Stock - Rev enue Recognireceivable tion, I ncluding 85,000 Constr uction Contr act s subscriptions Chapter 8

- Property , Plant , and Equipment

Chapter 9

Common stock - I ntangi ble Asset s

170,000

subscribed I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty 3. All and one-half of theStatements remaining common subscriptions are collected Chapter 11 preferred - Businesssubscriptions Combinationsare andpaid, Consolidat ed Fin ancial subscribed shares are issued. Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 -

Balance Sheet Date

Cash [$585,000 +uments—Long($85,000 x 0.50)] Chapter 13 - Financial I nstr Ter m Debt627,500 Chapter 14 - Leases

627,500

Stock subscriptions receivable

Chapter 15 - I ncom e Taxes

Preferred subscribed Chapter 16 - Em ploystock ee Benefit s

500,000

Chapter 17 - Stock holder s' Equit y

500,000

Preferred stock

Chapter 18 - Earnings Per Share

Common stock subscribed Chapter 19 - I nterim Financial Repor ting

127,500

Chapter 20 - Segm ent Repor ting

Common stock ($170,000 x 0.75)

127,500

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Chapter 23 company - Related- Part y Disclosures When the experiences a default by the subscriber, the accounting will follow the provisions of the s Chapter 24 Specialized I ies jurisdictions, the subscriber is entitled to a proportionate number of shares corporation is chartered.ndustr In some Chapter - I nflation Hyperinflation amount25 already paid and on the subscriptions, sometimes reduced by the cost incurred by the corporation in selli Chapter 26 Gov er nm ent Gr an ts defaulted shares to other stockholders. In other jurisdictions, the subscriber forfeits the entire investment on Appendix A - already Di sclosure Checklist the amount received is credited to an additional paid-in capital account that describes its source. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Additional Paid-in Capital

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

List of Tablespaid-in capital represents all capital contributed to a corporation other than that defined as par or s Additional List of Ex hibits and Ex am ples Additional paid-in capital can arise from proceeds received from the sale of common and preferred shares in

or stated values. It can also arise from transactions relating to the following: List of Sidebar s 1. Sale of shares previously issued and subsequently reacquired by the corporation (treasury stock) 2. Retirement of previously outstanding shares 3. Payment of stock dividends in a manner that justifies the dividend being recorded at the market value distributed 4. Lapse of stock purchase warrants or the forfeiture of stock subscriptions, if these result in the retainin

4. of any partial proceeds received prior to forfeiture 5. Warrants that are detachable from bonds

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

6. Conversion of convertible bonds

by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Miron za the company's own stock, such as that which results from certain stock option plans 7. Other gains John Wi ley & Sons © 2003 (952 pages)

When the amounts are material, the sources additional paid-in This com pact and t ruly com prof ehensive qui ck - refer capital ence should be described in the financial pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Donated Capital

T ab le of Con t en t sshould also be adequately disclosed in the financial statements. Donated capital can result f Donated capital Wiley 20 03—Int (e.g., er pretation andshareholder Application donates of I nternational ing to the company in a nonreciprocal to theI AS corporation a major land or Account other assets Standar ds result when services are provided to the corporation. Under current US GAAP, such nonreciprocal transactio Preface recognized as revenue in the period the contribution is received. Chapter 1 - I ntr oduction to I nter national Accounting Standar ds

In these2 situations, cost is not adequate to reflect properly the substance of the transaction, since t Chapter - Balance historical Sheet the corporation would be zero. Accordingly, events should be Statem reflected I ncom e Statement, Stat em ent ofthese Chan ges in Equit y, and entat fair market value. If long-live donated to- the corporation,Gains they and should be recorded at their fair value at the date of donation, and the amoun of Recognized Losses should 4be depreciated over the Chapter - Cash Flow St at em entnormal useful economic life of such assets. If donations are conditional in na not be reflected formally the accounts and untilReceiv the appropriate conditions have been satisfied. However, disclo Chapter 5 - Financial I nstrinuments—Cash ables required in the financial statements of both the assets donated and the conditions required to be met. Chapter 6 - I nventor y Chapter 3

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

- Property , Plant , and Equipment Retained Earnings

Chapter 8 Chapter 9

- I ntangi ble Asset s

Legal capital, additional paid-in capital, donated collectively the contributed capital of t I nterests in Financial Instr umand ent s, Associatcapital, es, Joint Ventur es, represent and Chapter 10 other major Isource nvestmof entcapital Pr operistyretained earnings, which represents the accumulated amount of earnings of t the date11of- inception from the date reorganization) less Statements the cumulative amount of distributions made to Chapter Business (or Combinations and of Consolidat ed Fin ancial other charges to retained earnings (e.g., from treasury stock transactions). Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t heThe distributions to shareholders Chapter 12 Balance Sheet Date form of dividend payments, but may take other forms as well, such as the reacquisition of shares for amounts original13 issuance proceeds. Chapter - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Retained earnings are also affected by action taken by the corporation's board of directors. Appropriation ser purposes and serves to restrict dividend payments but does nothing to provide any resources for satisfaction Chapter 16 - Em ploy ee Benefit s loss or other underlying purpose for which the appropriation has been made. Any appropriation made from re Chapter 17 - Stock holder s' Equit y must eventually be returned to the retained earnings account. It is not permissible to charge losses against th Chapter 18 - Earnings Per Share account nor to credit any realized gain to that account. The use of appropriated retained earnings has diminis Chapter - I nterim Financial Repor ting over the19years. Chapter 15 - I ncom e Taxes

Chapter 20 - Segm ent Repor ting

An important rule relating to retained earnings transactions in a corporation's own stock can result in a Chapter 21 - Accounting Changes and Cor rection is ofthat Er ror s retained22earnings deficiency on such transactions can be charged to retained earnings) but cannot re Chapter - For eign(i.e., Curraency in retained (anyy excesses on such transactions are credited to paid-in capital, never to retained ear Chapter 23 - earnings Related- Part Disclosures Chapter 24 - Specialized I ndustr ies

If a series of operating losses have been incurred or distributions to shareholders in excess of accumulated e made and if there is a debit balance in retained earnings, the account is generally referred to as accumulated

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

Dividends

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Dividends are the pro rata distribution of earnings to the owners of the corporation. The amount and the alloc preferred and common shareholders is a function of the stipulated preferential dividend rate, the presence or List of Tables feature, (2) a cumulative feature, and (3) arrearages on the preferred stock, and the wishes of th participation List of Ex hibits and Ex am plespreferred stock dividends where a cumulative feature exists, do not accrue. Divide directors. Dividends, even List of Sidebar liability of thes corporation only when they are declared by the board of directors. I ndex

Traditionally, corporations were not allowed to declare dividends in excess of the amount of retained earning corporation could pay dividends out of retained earnings and additional paid-in capital but could not exceed t categories (i.e., they could not impair legal capital by the payment of dividends). States that have adopted th Corporation Act grant more latitude to the directors. Corporations can now, in certain jurisdictions, declare an excess of the book amount of retained earnings if the directors conclude that, after the payment of such divid of the corporation's net assets will still be a positive amount. Thus, directors can declare dividends out of unr appreciation, which, in certain industries, can be a significant source of dividends beyond the realized and re

accumulated earnings of the corporation. This action, however, represents a major departure from traditional demands both careful consideration and adequate disclosure. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Three important dividend dates are I n t er n at ion al Accou n t in g St an d ar ds 1. The declaration date by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za 2. The recordJohn dateWi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence

3. The payment date pr esent s account ants with a guide to depend on for

assistance in the prepar at ion and under standing of financial

The declaration date governspresent the incurrence of a legal liability statements ed in accordance with I AS. by the corporation. The record date refers to th when a determination is made as to which specific registered stockholders will receive dividends and in what T ab le payment of Con t en t s relates to the date when the distribution of the dividend takes place. These concepts are ill the date Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing following example: Standar ds Preface Example of payment of dividends Chapter 1 - I ntr oduction to I nter national Accounting Standar ds

On May2 1,-2003, theSheet directors of River Corp. declare a $.75 per share quarterly dividend on River Corp.'s 650 Chapter Balance common shares. dividend is payable 25 ges to holders May 15. I ncomThe e Statement, Stat em ent May of Chan in Equitof y, record and Statem ent

Chapter 3

-

Chapter May 14

- Retained Cash Flowearnings St at em ent (or Dividends) 487,500 - Financial I nstr uments—Cash and Receiv ables

Chapter 5 Chapter 6 Chapter 7 May 15

of Recognized Gains and Losses

Dividends payable - I nventor y

487,500

Chapter 8

- No Reventry enue Recogni tion, I ncluding Constr uction Contr act s - Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

May 25

Chapter 10 -

Dividends payable Cash

487,500

487,500 I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Cash I nvestm ent Pr oper ty

Chapter 11 - Business Consolidat ancial Statements If a dividends accountCombinations is used, it is and closed directlyed to Fin retained earnings at year-end. Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 Balance Sheet Date Chapter Dividends 13 -may Financial be made I nstrinuments—Longthe form of cash, Ter mproperty, Debt or scrip, which is a form of short-term note payable. Ca

either a14 given dollar amount per share or a percentage of par or stated value. Property dividends consist of t Chapter - Leases any assets cash (e.g., inventory or equipment). Finally, scrip dividends are promissory notes due a Chapter 15 - other I ncomthan e Taxes future, sometimes interest until final payment is made. Chapter 16 - Em ploybearing ee Benefit s Chapter 17 - Stock holder s' Equit y

Occasionally, what appear to be disproportionate dividend distributions are paid to some but not all of the ow corporations. Such transactions need to be analyzed carefully. In some cases these may actually represent c Chapter 19 - I nterim Financial Repor ting to the recipients. In other instances, these may be a true dividend paid to all shareholders on a pro rata basis Chapter 20 - Segm Reportheir ting rights. If the former, the distribution should not be accounted for as a dividen shareholders haveentwaived Chapter 21 Accounting Changes and Cor rection of Er ror s compensation or some other expense category and included on the income statement. If the latter, the divide Chapter Forreflect eign Curr ency on a proportional basis to all the shareholders, with an offsetting capital contrib grossed22up- to payment Chapter 23 recognized - Related- Part Disclosures company as yhaving been effectively made by those to whom payments were not made. Chapter 18 - Earnings Per Share

Chapter 24 - Specialized I ndustr ies

Property Chapter 25 - Idividends. nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

If property dividends are declared, the paying corporation may incur a gain or loss. Since the dividend should fair value of the assets distributed, the difference between fair value and book value is recorded at the time t Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS declared and charged or credited to a loss or gain account. Appendix A - Di sclosure Checklist

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Scrip dividends.

List of Tables

List Ex hibits and Ex am ples If aofcorporation declares a dividend payable in scrip that is interest bearing, the interest is accrued over time List of Sidebar expense. Thes interest is not a part of the dividend itself.

Liquidating dividends. Liquidating dividends are not distributions of earnings, but rather, a return of capital to the investing sharehol dividend is normally recorded by the declarer through charging additional paid-in capital rather than retained accounting for a liquidating dividend is affected by the laws where the business is incorporated, and these la to state.

Stock dividends. Stock dividends represent assets W ile y I ASneither 2 0 03 :an I nactual t erp redistribution t at ion an d of Apthe p licat io n oof f the corporation nor a promise to distr For this reason, aI nstock dividend is not considered a legal liability or a taxable transaction. t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Despite the recognition Mir za that a stock dividend is not a distribution of earnings, the accounting treatment of rela stock dividends (defined as being than 20pages) to 25% of the outstanding shares prior to declaration) is consi John Wi ley & Sonsless © 2003 (952 a real dividend. Accordingly, retained earnings are debited for the fair market value of the shares to be paid a This com pact and t ruly com pr ehensive qui ck - refer ence the capital stock and additional paid-in capital accounts are credited pr esent s account ants with a guide to depend on for for the appropriate amounts based on th value of the shares, if any. Ainstock dividend but not yet of paid is classified as such in the stockholder assistance the prepar at iondeclared and under standing financial statements present ed in accordance with assets, I AS. the balance sheet. Since such a dividend never reduces it cannot be a liability. T ab le of Con t en t s

The selection of 20 to 25% as the threshold for recognizing a stock dividend as an earnings distribution is arb

Wiley I AS 20 03—Inton er pretation and Application of I small nternational Account ingtend not to result in a reduced market based somewhat the empirical evidence that stock dividends Standar ds

outstanding shares. In theory, any stock dividend should result in a reduction of the market value of outstand inverse relationship to the size of the stock dividend. The aggregate value of the outstanding shares should n Chapter 1 - I ntr oduction to I nter national Accounting Standar ds greater number of shares outstanding after the stock dividend should necessitate a lower per share price. As Chapter 2 - Balance Sheet the declaration of small stock dividends tends not to have this impact, and this phenomenon supports the ac Preface

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Chapter 3

-

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Recognized Gains dividends and Losses On the otherofhand, when stock are larger in magnitude, it is observed that per share market value Chapter 4 - of Cash St at em declaration theFlow dividend. Inent such situations it would not be valid to treat the stock dividend as an earnings Chapter 5 be - Financial I nstr Receiv ables it should accounted foruments—Cash as a split. Theand precise treatment depends on the legal requirements of the state o Chapter 6 - the I nventor y par value or stated value is reduced concurrent with the stock split. on whether existing

If the par value is not reduced for a large stock dividend and if state law requires that earnings be capitalized - Property , Plant , and Equipment to the aggregate of the par value of the stock dividend declared, the event should be described as a stock sp Chapter 9 - I ntangi ble Asset s form of a dividend, with a charge to retained earnings and a credit to the common stock account for the aggr I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - the par or stated value is reduced in recognition of the split and state laws do not require treatm value. When I nvestm ent Pr oper ty there is no formal entry to record the split but merely a notation that the number of shares outstanding has in Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements per share par or stated value has decreased accordingly. Chapter 8

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Treasury Stock

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Treasury consists of a corporation's own stock that has been issued, subsequently reacquired by the fi Chapter 15 stock - I ncom e Taxes reissued Treasury Chapter 16or- canceled. Em ploy ee Benefit s stock does not reduce the number of shares issued but does reduce the num outstanding, as well as s' total stockholders' equity. These shares are not eligible to receive cash dividends. Tr Chapter 17 - Stock holder Equit y

an asset, although in some circumstances, it may be presented as an asset if adequately disclosed. Reacqu awaiting delivery to satisfy a liability created by the firm's compensation plan or reacquired stock held in a pro Chapter 19 - I nterim Financial Repor ting still considered outstanding and would not be considered treasury stock. In each case, the stock would be pr Chapter 20 - Segm ent Repor ting asset with the accompanying footnote disclosure. Chapter 18 - Earnings Per Share

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter 22 - For eignexist Curr ency Three approaches for the treatment of treasury stock: the cost, par value, and constructive retirement m Chapter 23 - Related- Part y Disclosures

Cost method. Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation

Under the cost method, the gross cost of the shares reacquired is charged to a contra equity account (treasu equity accounts that were credited for the original share issuance (common stock, paid-in capital in excess o Appendix A - Di sclosure Checklist intact. When the treasury shares are reissued, proceeds in excess of cost are credited to a paid-in capital ac Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS deficiency is charged to retained earnings (unless paid-in capital from previous treasury share transactions e Appendix C - Com parison of I AS, US GAAP, and UK GAAP the deficiency is charged to that account, with any excess charged to retained earnings). If many treasury sto I ndex made, a cost flow assumption (e.g., FIFO or specific identification) should be adopted to compute excesses List of Tables share reissuances. The advantage of the cost method is that it avoids identifying and accounting subsequent List of Ex to hibits Ex am ples related the and original issuance of the shares, and is therefore the simpler more frequently used method. The List of Sidebar s with the one-transaction concept. This concept takes the view that the classification of stock most consistent should not be affected simply because the corporation was the middle "person" in an exchange of shares fro to another. In substance, there is only a transfer of shares between two stockholders. Since the original bala accounts are left undisturbed, its use is most acceptable when the firm acquires its stock for reasons other th when its ultimate disposition has not yet been decided. Chapter 26 - Gov er nm ent Gr an ts

Par value method. Under the second approach, the par value method, the treasury stock account is charged only for the aggreg

value of the shares reacquired. Other paid-in capital accounts (excess over par value, etc.) are relieved in pr amounts recognized on the original issuance of the shares. The treasury share acquisition is treated almost a However, the common continues at the amount, thereby preserving the W ile y (or I ASpreferred) 2 0 03 : I nstock t erp reaccount t at ion an d Ap p licat io n original of an actual retirement and a treasury share transaction. I n t er n at ion al Accou n t in g St an d ar ds ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali

When the treasury accounted for by the par value method are subsequently resold, the excess of the Mirshares za value is credited to paid-in for a price below par value does not create a contingent liab John Wi leycapital. & SonsA © reissuance 2003 (952 pages) purchaser. It is only the original purchaser who risks this obligation to the entity's creditors. This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for and under standing of financial statements present ed in accordance with I AS.

Constructiveassistance retirement in themethod. prepar at ion

The constructive retirement method is similar to the par value method except that the aggregate par (or state reacquired shares is charged to the stock account rather than to the treasury stock account. This method is s Wiley I AS 20 03—Intintention er pretation Application of I nternational Account ing time period, or (2) the state of incorp is management's notand to reissue the shares within a reasonable Standar ds reacquired shares as having been retired.

T ab le of Con t en t s

Preface

Chapter 1 - I ntr oduction to I nter national Accounting The two-transaction concept is most consistent withStandar the pards value and constructive retirement methods. First Chapter 2 Balance Sheet of the firm's shares is viewed as constituting a contraction of its capital structure. Second, the reissuance of t

same as issuing I ncomnew e Statement, shares. There Stat em is ent littleofdifference Chan ges in between Equit y, the andpurchase Statem entand subsequent reissuance of t of Recognized Gains Losses issued shares and the issuance of new shares. the acquisition and retirement ofand previously

Chapter 3 Chapter 4

- Cash Flow St at em ent Treasury originally accounted forand by the costables method can subsequently be restated to conform to the Chapter 5 shares - Financial I nstr uments—Cash Receiv

retirement Chapter 6 -method. I nventorIfy shares were acquired with the intention that they would be reissued and it is later deter

reissuance unlikely (due fortion, example, to the expiration of stock Chapter 7 - is Rev enue Recogni I ncluding Constr uction Contr act s options without their exercise), it is proper t transaction. - Property , Plant , and Equipment

Chapter 8 Chapter 9

- I ntangi ble Asset s Example of accounting for treasury stock

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

1. 100 shares par value) I nvestm($50 ent Pr oper ty that were sold originally for $60 per share are later reacquired for $70 eac

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

2. All 100 shares are subsequently resold for a total of $7,500.

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

To record the acquisition, the entry is

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Cost method

Par value method

Chapter 15 - I ncom e Taxes Chapter Treasury 16 - Em ploy 7,000 ee Benefit s

Treasury stock

Constructive retiremen 5,000

Common stock

1,000

Additional paid-in capital—common stock

1,000

Retained earnings

stock 17 - Stock holder s' Equit y Chapter Chapter 18 - Earnings Per 7,000 Share Additional paid-in Cash Chapter 19 - I nterim Financial Repor ting capital—common stock Chapter 20 - Segm ent Repor ting

Retained earnings

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

7,000

Cash

Cash

Chapter 23 - Related- Part y Disclosures Chapter To record 24 the - Specialized resale, the I ndustr entry ies is Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Cost method

Par value method

Appendix A - Di sclosure Checklist

Cash

7,500

Cash

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix Treasury C - Com parison of I AS, US 7,000 GAAP, and UK GAAP Treasury I ndex

stock

List of Tables

Additional paidList of Ex hibits and Ex am ples in s List of Sidebar capital—treasury stock

Constructive retirem

7,500

Cash 5,000

Common stock

2,500

Additional paid capital—comm stock

stock 500

Additional paid-in capital—common stock

If the shares had been resold for $6,500, the entry is

Cost method

Par value method

Constructive retiremen

Cash

W6,500 ile y I AS 2 0 03 : I Cash n t erp re t at ion an d Ap p licat6,500 io n o f I n t500 er n at ion al Accou n t in g St an d ar ds [a]Retained 5,000 Treasury stock ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali earnings Mir za 1,500 & Sons © 2003 (952 pages) TreasuryJohn Wi ley7,000 Additional paid-in

Cash Common stock Additional paid-in

stock

This com pact and t ruly comcapital—common pr ehensive qui ck - refer ence capital—common pr esent s account ants with astock guide to depend on for stock assistance in the prepar at ion and under standing of financial [a]"Additional paid-in capital—treasury or "Additional paid-in capital—retired stock" of that issue would statements present ed stock" in accordance with I AS.

to the extent it exists. T ab le of Con t en t s

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Alternatively, under the par or constructive retirement methods, any portion of or the entire deficiency on the Preface acquisition may be debited to retained earnings without allocation to paid-in capital. Any excesses would alw Chapter 1 - I ntr oduction to I nter national Accounting Standar ds an "Additional paid-in capital—retired stock" account. Chapter 2

- Balance Sheet

The laws of Isome governStat theem circumstances under which a corporation ncom estates Statement, ent of Chan ges in Equit y, and Statem ent may acquire treasury stock an Chapter 3 prescribe theofaccounting the and stock. For example, a charge to retained earnings may be required in an am Recognizedfor Gains Losses treasury4 stock's In such Chapter - Cashtotal Flowcost. St at em ent cases, the accounting according to state law prevails. Also, some states d purchase of reacquired (i.e., treasury) distributions to shareholders that are no different in nat Chapter 5 cost - Financial I nstr uments—Cash andshares Receiv as ables In such6cases, the financial statement presentation should adequately disclose the substance of these transa Chapter - I nventor y presenting dividends and excess reacquisition costsContr together Chapter 7 - both Rev enue Recogni tion, I ncluding Constr uction act s in the retained earnings statement). Chapter 8

- Property , Plant , and Equipment

When a firm decides to retire the treasury stock formally, the journal entry is dependent on the method used - I ntangi ble Asset s stock. Using the original sale and reacquisition data from the illustration above, the following entry would be m

Chapter 9

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Cost method Par value method Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont 5,000 ingencies, and Ev ents after tstock he Common Common Chapter 12 -stock Balance Sheet Date

Additional capital—common stock Chapter 13 - paid-in Financial I nstr uments—LongTer m 1,000 Debt

Treasury stock

Chapter 14 - Leases Chapter 15 - I ncom e Taxes [a]Retained earnings Chapter 16 - Em ploy ee Benefit s

Treasury stock s' Equit y Chapter 17 - Stock holder

5,000 5,000

1,000 7,000

[a]"Additional Chapter 18 - Earnings paid-in Per capital—treasury Share stock" may be debited to the extent that it exists.

Chapter 19 - I nterim Financial Repor ting

If the constructive retirement method were used to record the treasury stock purchase, no additional entry wo Chapter 20 - Segm ent Repor ting on formal of Changes the shares. Chapter 21 retirement - Accounting and Cor rection of Er ror s Chapter 22 - For eign Curr ency

After the entry is made, the pro rata portion of all paid-in capital existing for that issue (i.e., capital stock and

Chapter RelatedParteliminated. y Disclosures capital)23 will- have been If stock is purchased for immediate retirement (i.e., not put into the treasur Chapter 24 Specialized I ndustr ies as that made under the constructive retirement method. record the retirement is the same Chapter 25 - I nflation and Hyperinflation

In the case donated Chapter 26 - of Gov er nm enttreasury Gr an ts stock, the intentions of management are important. If the shares are to be re stock account is debited for the par or stated value of the shares, "Donated capital" is credited for the fair ma Appendix A - Di sclosure Checklist "Additional capital—retired stock" or Under credited Appendix B - paid-in I llustrativ e Financial St atem entiss debited Pr esent ed I ASfor the difference. If the intention of managem the shares, methods accounting Appendix C - three Com parison of Iof AS, US GAAP, are andavailable. UK GAAP The first two methods, cost and par value, are analog

aforementioned treasury stock methods except that "Donated capital" is credited at the time of receipt and de reissuance. Under the cost method, the current market value of the stock is recorded (an apparent contradic List of Tables under the par value method, the par or stated value is used. Under the last method, only a memorandum ent List of Ex hibits and Ex am ples indicate the number of shares received. No journal entry is made at the time of receipt. At the time of reissua List of Sidebar s proceeds are credited to "Donated capital." The method actually used is generally dependent on the circums donation and the preference of the firm. I ndex

Other Equity Accounts There are other adjustments to balance sheet accounts that are accumulated and reflected as separate com stockholders' equity. Under current US GAAP, these include unrealized gains or losses on available-for-sale and marketable equity securities, accumulated gain or loss on translation of foreign currency-denominated fin

and the net loss not recognized as pension cost. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Stock Options I n t er n at ion al Accou n t in g St an d ar ds

ISBN:0471227366 by Bar r y for J. Epstein and Abbas Ali The matter of accounting stock options, particularly stock options issued to executives and other employe Mir za ostensibly in compensation for their efforts, has long been very controversial. No current IAS addresses this John Wipayment ley & Sons © 2003 appears (952 pages) the IASB's share-based project poised to produce the most comprehensive, fair value drive This com pact and t ruly com pr ehensive qui ck - refer ence in the body of this chapter. model of any standard-setting body. This project is discussed in detail

pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial US GAAP currently recommends, but does not require, use of a fair value model to gauge the existence and statements present ed in accordance with I AS. compensation associated with stock options granted to employees. The IASB project appears to be approac ofleanofessentially T ab Con t en t s similar fair value model, but this would be mandatorily used for all employee stock-based co arrangements. (FASB is also revisiting this reluctantly, and may well ing conclude that mandatory use of the fair Wiley I AS 20 03—Int er pretation and Application of I nternational Account Standar warranted.) ds Preface - I ntr oduction to I nterRights national Accounting Standar ds Stock Appreciation

Chapter 1 Chapter 2

- Balance Sheet

Another type I ncom of stock-based e Statement, compensation Stat em ent ofprogram Chan gesgives in Equit they,employees and Statemthe ent opportunity to participate in any of Recognized Gainshaving and Losses of the company's stock without to incur the cost of actually purchasing the shares themselves. Such p Chapter Cash Flow Ststock at em ent referred4 to-as phantom plans, stock appreciation rights, or variable stock award programs. A wide varie Chapter 5 -devised FinancialinI nstr uments—Cash and Receiv ables have been practice. Some provide for the payment of cash to the employees, while others reward Chapter shares 6of the - I nventor sponsoring y company's stock. Often such plans are granted together with compensatory stock o either combination plans or as tandem plans: the former give act thesemployees the rights to both the options an Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr stock, while the latter, Plant require theEquipment employees to choose which they will exercise (simultaneously forfeiting the Chapter 8 - Property , and Chapter 3

Chapter 9

- I ntangi ble Asset s

Under US GAAP, compensation cost incurred in connection with stock appreciation rights or other variable a I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - prospectively until full vesting is achieved, with future increases or decreases in market price res determined I nvestm ent Pr oper ty credits to periodic compensation expense. Total compensation cost is allocated ratably (if cliff vesting is prov Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements proportionally (if graded vesting is provided). When an employee forfeits options or rights for which compens Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 -been accrued, the accrual is to be reversed against compensation expense in the period of the fo previously Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Performance-based stock compensation plans often provide for payment in shares instead of cash. For exam appreciation rights plan may contain a provision that the increase in value will be distributed to the participan Chapter 15 shares - I ncomofe the Taxes sufficient sponsor's stock to have an aggregate fair market value equal to the amount of the aw Chapter 16 Em ploy ee Benefit provides only for payment in sshares (a plan that most often is referred to as a phantom stock plan), the offse Chapter Stock holder s' cost Equitshould y charge 17 for -compensation be to paid-in capital accounts. If the award is payable at the participant Chapter - Earnings Pershould Share be accrued, since the sponsor cannot control the means by which the obligati cash or18 stock, a liability Chapter 19 - I nterim Reporor ting the payment will be Financial made in cash stock at the option of the company, the offset to compensation should b account20or-toSegm equity Chapter entaccounts, Repor ting based on the best available information concerning the sponsor's intentions. A change21 from one periodChanges to another, Chapter - Accounting and the Cor amounts rection of should Er ror s be reclassified as necessary. Chapter 14 - Leases

Chapter 22 - For eign Curr ency

Accounting for stock appreciation rights has been altered by the recent standard on stock-based compensati there are many variations in these plans and thus the precise accounting cannot be stipulated in general term Chapter 24 - Specialized I ndustr ies discussion of this topic is beyond the scope of this book. Chapter 23 - Related- Part y Disclosures

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Convertible Preferred Stock

Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

The treatment of convertible preferred stock at its issuance is no different from that of nonconvertible preferr converted, the book value approach is used to account for the conversion. Use of the market value approach I ndex or loss for which there is no theoretical justification, since the total amount of contributed capital does not cha List of Tables stock is converted. When the preferred stock is converted, the "Preferred stock" and related "Additional paid List of Ex hibits and Ex am ples capital—preferred stock" accounts are debited for their original values when purchased, and "Common stock List of Sidebar s paid-in capital—common stock" (if an excess over par or stated value exists) are credited. If the book value o stock is less than the total par value of the common stock being issued, retained earnings is charged for the charge is supported by the rationale that the preferred shareholders are offered an additional return to facilita to common stock. Many states require that this excess instead reduce additional paid-in capital from other so Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Preferred Stock with Mandatory Redemption A mandatory redemption clause requires the preferred stock to be redeemed (retired) at a specified date(s).

contrast to callable preferred stock, which is redeemed at the issuing corporation's option. When combined w dividend preference, the mandatory redemption feature causes the preferred stock to have the characteristic when the stock isWtoilebey redeemed years. The represent interest, and redemp I AS 2 0 03 : inI nfive t erptoreten t at ion an d Apdividend p licat io npayments of repayment of principal. However, there is one important difference. The dividend payments do not receive th I n t er n at ion al Accou n t in g St an d ar ds treatment as do interest payments. They are not deductible in determining taxable income. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za

Despite these debt-like this class of preferred stock currently receives no special treatment u John Wicharacteristics, ley & Sons © 2003 (952 pages) treated as any other stock on issuance, and on redemption, the stock is treated as an ordinary retirement. (It This com pact and t ruly com pr ehensive qui ck - refer ence that this conflicts pr with the requirements under the international IAS 32, which does demand that a " esent s account ants with a guide to depend onstandard, for form" analysis beassistance conductedinand items mandatorily redeemable the that prepar at ionsuch and as under standing of financial stock be treated as debt. This i ed in accordance not the only one, statements in which thepresent international standardswith haveI AS. progressed beyond the US standards.) T ab le of Con t en t s

For disclosure purposes under US GAAP, the stock is treated as equity and is presented within the stockhold

Wiley 20 03—Int er pretation andofApplication of I nternational ing of theI AS balance sheet. Disclosure the amounts and timing ofAccount any redemption payments for each of the five y Standar ds

balance sheet date is required as footnote disclosure, however.

Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Book Value Plans - BalanceStock Sheet

Chapter 2

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter - of stock purchase plan, the book value plan, is intended also to be a compensation program for Another3 type of Recognized Gains and Losses

employees,- Cash although there are important secondary motives in many such plans, such as the desires to gene Flow St at em ent tie employees to the employer. Under the terms of typical book value plans, employees (or those attaining so Chapter 5 - Financial I nstr uments—Cash and Receiv ables such as manager) are given the opportunity or, in some cases, they are required to purchase shares in the c Chapter 6 - I nventor y must be sold back to the company on termination of employment. Chapter 4

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8 -GAAP, Property , Plant , and Equipment Under US if the employees participating in a nonpublic company's book value stock plan have substa Chapter 9 - I ntangi s in the company thatble areAsset at risk, the increases in book value during the period of ownership are not to be treat

compensation. However, if the employees grantedes, options to purchase I nterests in Financial Instr um entare s, Associat Joint Ventur es, andshares at book value, compensat I nvestm Pr oper ty presumably because under the latter scenario the employee has no investme recognized for valueent increases, Chapter 11 -given Business Combinations and Consolidat ed Fin ancialisStatements only being an "upside" opportunity. This interpretation also applicable to book value options granted Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he publicly held companies. Chapter 12 Chapter 10 -

Balance Sheet Date For accounting purposes, shares issued Ter at book value to employees are simply recorded as a normal stock s Chapter 13 - Financial I nstr uments—Longm Debt

that book exceeds par or stated value, additional paid-in capital accounts may also be credited. Chapter 14 value - Leases Chapter 15 - I ncom e Taxes

For such plans in publicly owned companies, GAAP states that these plans are performance plans akin to st rights, and accordingly, results in compensation expense recognition. This conclusion was reached at least in Chapter 17 - Stock holder s' Equit y pressure from the US securities regulators. Chapter 16 - Em ploy ee Benefit s

Chapter 18 - Earnings Per Share

Chapter 19 - I nterim Financial Repor ting

Junior Stock

Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

Another category of stock-based compensation program involves junior stock. Typically, such shares are sub shares of common stock with respect to voting rights, dividend rate, or other attributes, and are convertible in Chapter - RelatedPart y Disclosures shares 23 if and when stipulated performance goals are achieved. Like stock appreciation rights, grants of junio Chapter 24 Specialized I ndustrin iescontrast to fixed stock options. performance-based program, Chapter 22 - For eign Curr ency

Chapter 25 - I nflation and Hyperinflation

An interpretation GAAP holds that compensation cost incurred in connection with grants of junior s Chapter 26 - Gov erunder nm entUS Gr an ts be accrued. However, compensation is to be recognized only when it is deemed to be probable (as that term Appendix A - Di sclosure Checklist accounting withStcontingencies) that performance goals will be achieved. It may be that a Appendix B - literature I llustrativ dealing e Financial atem ent s Pr esent edthe Under I AS deemed Cprobable at the of time theUSjunior stock Appendix - Com parison I AS, GAAP, and is UKissued, GAAP but it later becomes clear that such achievement is in

circumstances, the ability to convert junior stock to regular stock is dependent on the achievement of more th performance goal, and it is not probable that all such goals can be achieved, although some of them are dee List of Tables achievement. In both scenarios, full accrual of compensation cost may be delayed until the estimated likeliho List of Ex hibits and Ex am ples improves. I ndex

List of Sidebar s

The rule specifies that the measure of compensation is derived from the comparison of the market price of o stock with the price to be paid, if any, for the junior stock. Since the junior stock will be convertible to ordinary the defined performance goals are achieved, the compensation to be received by the employees participating linked to the value of unrestricted common shares.

Put Warrant

A detachable put warrant can either be put back to the debt issuer for cash or can be exercised to acquire co GAAP holds that these instruments should be accounted for in the same manner as mandatorily redeemable The proceeds applicable to the put: Iwarrant topbe classified W ile y I AS 2 0 03 n t erp reordinarily t at ion anare d Ap licat io n o f as equity. In the case of a warrant w substantially higher than the value assigned to the warrant at issuance, however, the proceeds should be cla I n t er n at ion al Accou n t in g St an d ar ds since it is likely that the warrant will be put back to the company. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za

The original classification should not© be because of subsequent economic changes in the value of t John Wi ley & Sons 2003changed (952 pages) assigned to the put warrant at issuance, however, should be adjusted to its highest redemption price, starting This com pact and t ruly com pr ehensive qui ck - refer ence issuance until theprearliest date of the warrants. Changes in the price before the earliest put dates esent s account ants with a guide to depend onredemption for accounting estimates, and changes afteratthe putstanding dates should be recognized in income. If the put is c assistance in the prepar ion earliest and under of financial statements presentas edaincharge accordance with I AS. the adjustment should be reported to retained earnings, and if the put is classified as a liability, t reported as interest expense. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Accounting for Stock Issued to Employee Stock Ownership Plans

Preface

Increasingly, USoduction corporations have beenAccounting availing themselves Chapter 1 - I ntr to I nter national Standar ds of favorable tax regulations that encourage the employee ownership Chapter 2 stock - Balance Sheet plans. Employee stock ownership plans (ESOP) are defined contribution employe which sharesI ncom of the sponsoring Stat entity toges employees additional compensation. e Statement, emare ent given of Chan in Equit y,asand Statem ent

Chapter 3

-

of Recognized Gains and Losses

In brief, ESOP are created by a sponsoring corporation that either funds the plan directly (unleveraged ESOP Chapter 4 - Cash Flow St at em ent often the case, facilitates the borrowing of money either directly from an outside lender (directly leveraged ES Chapter 5 - Financial I nstr uments—Cash and Receiv ables employer, who in turn will borrow from an outside lender (indirectly leveraged ESOP). Borrowings from outsid Chapter 6 - I nventor y may not be guaranteed by the sponsor. Since effectively the only source of funds for debt repayment are futu Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s the sponsor, US GAAP requires that the ESOP's debt be considered debt of the sponsor. Depending on the Chapter 8 - Property , Plant , and Equipment the creation of the ESOP (estate planning by the controlling shareholder, expanding the capital base of the e Chapter 9 -the I ntangi ble Asset s motivating workforce, etc.), the sponsor's shares may be contributed to the plan in annual installments, in I nterests in Financial um ent s,shareholder Associat es, Joint Ventur es, and by the plan. from the10sponsor, or shares fromInstr an existing may be purchased Chapter I nvestm ent Pr oper ty

Chapter 11indirect - Business Combinations Consolidat edreported Fin ancialas Statements Direct or borrowings by the and ESOP must be debt in the sponsor's balance sheet. An offse Curr entasset, Liabilitisies, Prov isions, Cont ingencies, and Ev ents a after t he account, not to an also reported since the plan represents commitment (morally, if not always lega Chapter 12 Sheetand Date contributionsBalance to the plan not a claim to resources. This results in a "double hit" to the sponsor's balance Chapter 13 of - Financial Ternet m Debt recording a liabilityI nstr and uments—Longthe reduction of stockholders' equity), which is often an unanticipated and unpl Chapter 14 Leases This contra equity account was called "unearned compensation" under prior accounting rules but is now refe Chapter 15 -ESOP I ncom shares." e Taxes If the sponsor lends funds to the ESOP without a "mirror" loan from an outside len "unearned should 16 not-be in the semployer's balance sheet as debt, although the debit should still be reported as Chapter Emreported ploy ee Benefit

account. Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

As the ESOP services the debt (using contributions made by the sponsor and/or dividends received on spon the plan) the sponsor reflects the reduction of the obligation by reducing the debt and the contra equity accou Chapter 20 - Segm ent Repor ting sheet. Simultaneously, income and thus retained earnings will be affected as the contributions to the plan are Chapter 21 - Accounting Changes and Cor rection of Er ror s sponsor's current results of operations. Thus, the double hit is eliminated, but net worth continues to reflect t Chapter 22 - For eign Curr ency that compensation costs have been incurred. US GAAP requires that the interest cost component be separa Chapter 23 -compensation Related- Part y expense, Disclosures remaining that is, that the sponsor's income statement should reflect the true charac Chapter 24 Specialized I ndustr ies being incurred rather than aggregating the entire amount into a category such as "ESOP contribution." Chapter 19 - I nterim Financial Repor ting

Chapter 25 - I nflation and Hyperinflation

In a leveraged shares held serve as collateral for the debt and are not allocated to employees until th Chapter 26 - GovESOP, er nm ent Gr an ts general, Ashares must be allocated by the end of the year in which the debt is repaid; however, to satisfy the t Appendix - Di sclosure Checklist allocation take place at aent faster paceedthan retirement of the principal portion of the debt. Appendix B of - I shares llustrativmay e Financial St atem s Pr esent Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

The cost of ESOP shares allocated is measured (for purposes of reporting compensation expense in the spo statements) based on the fair value on the release date, in contrast to the actual historical cost of the shares List of Tablespaid on unallocated shares (i.e., shares held by the ESOP) are reported in the sponsor's income s Dividends List of Ex hibits and Exand/or am plesas interest expense. compensation cost I ndex

List of Sidebar s

Example of accounting for ESOP transactions Assume that Intrepid Corp. establishes an ESOP, which then borrows $500,000 from Second Interstate Bank purchases 50,000 shares of Intrepid no-par shares from the company; none of these shares are allocated to participants. The entries would be

Cash

500,000 500,000 Bank loan Wpayable ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Unearned ESOP shares (contra equity account)

by Bar r y J. Epstein and Abbas Ali za CommonMir stock John Wi ley & Sons © 2003 (952 pages)

500,000

ISBN:0471227366

500,000

This coman pact and t ruly$250,000 com pr ehensive quisponsor, ck - refer ence The ESOP then borrows additional from the Intrepid, and uses the cash to purchase a pr esent s account ants with a guide to depend on for shares, all of which are allocated to participants. assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Compensation

250,000

T ab le of Con t en t s

250,000 of I nternational Account ing Wiley I AS Common 20 03—Int er pretation and Application Standar dsstock Preface

Intrepid1Corp. contributes to theAccounting plan, whichStandar the plan Chapter - I ntr oduction to$50,000 I nter national ds uses to service its bank debt, consisting of $40 reduction $10,000 interest cost. The debt reduction causes 4,000 shares to be allocated to participants a Chapter 2 and - Balance Sheet average market value had beenStat $12emper I ncom e Statement, entshare. of Chan ges in Equit y, and Statem ent -

Chapter 3

of Recognized Gains and Losses

Chapter 4 expense - Cash Flow St at em ent 10,000 Interest Chapter 5 - Financial I nstr uments—Cash and Receiv ables

Bank loan payable

Chapter 6

- I nventor y

40,000

50,000uction Contr act s Chapter 7Cash - Rev enue Recogni tion, I ncluding Constr Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Compensation

48,000

I nterests in Financial Instr um ent 8,000 s, Associat es, Joint Ventur es, and Additional paid-in Chapter 10 I nvestm ent Pr oper ty capital Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

40,000 Unearned Curr entESOP Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date shares

Chapter 12 -

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Dividends $0.10 per share are declared (only the ESOP shares are represented in the following entry, but Chapter 14 -ofLeases equally15 on -all outstanding Chapter I ncom e Taxes shares). Chapter 16 - Em ploy ee Benefit s

Retained 2,900 Chapter 17 -earnings Stock holder s' Equit y Chapter 18 - Earnings Per Share Compensation 4,600 Chapter 19 - I nterim Financial Repor ting

Dividends Chapter 20 - Segm ent Repor ting

7,500

payable Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures

Note that in all the foregoing illustrations the effect of income taxes is ignored. Since the difference between values of shares committed to be released is analogous to differences in the expense recognized for tax and Chapter 25 - I nflation and Hyperinflation purposes with regard to stock options, the same treatment should be applied. That is, the tax effect should b Chapter 26 - Gov er nm ent Gr an ts in stockholders' equity rather than in earnings. Chapter 24 - Specialized I ndustr ies

Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Corporate Bankruptcy and Reorganizations

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Entities operating under and emerging from protection of the bankruptcy laws.

List of Tables

List of Ex hibits and Ex am ples

The going concern assumption is one of the basic postulates underlying generally accepted accounting princ

List of Sidebarfor, s among other things, the historical cost convention in financial reporting. For entities that have responsible

bankruptcy proceedings, however, the going concern assumption will no longer be of central importance. Traditionally, the basic financial statements (balance sheet, income statement, and statement of cash flows) concerns were seen as less useful for entities undergoing reorganization. Instead, the statement of affairs, re estimated realizable values and liabilities at estimated liquidation amounts, was recommended for use by suc more recent years, use of the statement of affairs has not frequently been encountered in practice. About five standard was promulgated, setting forth certain financial reporting standards for entities undergoing, and em reorganization under the bankruptcy laws.

Under GAAP, assets are presented at estimated realizable values. Liabilities are set forth at the estimated am allowed in the balance sheet and liabilities subject to compromise are to be distinguished from those that are W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f US GAAP requires that in both statements of income and cash flows, normal transactions be differentiated fr I n t er n at ion al Accou n t in g St an d ar ds occurred as a consequence of the entity's being in reorganization. While certain allocations to the latter categ ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali obvious, such as Mir legal za and accounting fees incurred, others are less clear. For example, the standard sugge in reorganization John earnsWiinterest income on funds that would normally have been used to settle obligations ow ley & Sons © 2003 (952 pages) such income will be deemed to be income arising as a consequence of the bankruptcy action. This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for Another interesting aspect of is the to be for the emergence from reorganizat assistance in this the standard prepar at ion and accounting under standing of made financial "confirmation of the plan of reorganization"). GAAP now for "fresh start" financial reporting in such in statements present ed in accordance withprovides I AS.

accounting is similar to that applied to purchase business combinations, with the total confirmed value of the T ab le of Con tfrom en t s reorganization being analogous to the purchase price in an acquisition. In both cases, this t emergence Wiley I AS 20 03—Int er pretation and Application of Iof nternational allocated to the identifiable assets and liabilities the entity, Account with anying excess being allocated to goodwill. In Standar ds

emerging from bankruptcy, goodwill (reorganization value in excess of amounts allocable to identifiable asse the excess of liabilities existing at the plan confirmation date, computed at present value of future amounts to Chapter 1 - I ntrvalue oduction to I nterReorganization national Accounting ds reorganization of assets. valueStandar is calculated with reference to a number of factors, inclu Chapter 2 Balance Sheet operating results and cash flows of the new entity. Preface

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Chapter 3

-

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

of applies Recognized and Losses This standard onlyGains to entities undergoing formal reorganization under the bankruptcy code. Less form Chapter - Cash Flow St at em ent still be 4accounted for under preexisting quasi reorganization accounting procedures. - I nventor y Quasi Reorganizations

Chapter 6 Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8 -this Property , Plantis , and Equipment Generally, procedure applicable during a period of declining price levels. It is termed "quasi" since the Chapter is eliminated 9 - I ntangi at a lower ble Asset costsand with less difficulty than a legal reorganization. Under the provisions of US G

procedures in a quasiinreorganization I nterests Financial Instrinvolve um ent s, Associat es, Joint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty

1. Proper authorization from stockholders and creditors where required

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Curr ent of Liabilit ies,toProv isions, Cont ingencies, and Ev are entscharged after t heto retained earnings, thus increas 2. Revaluation assets their current values. All losses Chapter 12 Balance Sheet Date

of Iany by charging 3. Elimination Chapter 13 - Financial nstrdeficit uments—LongTer mpaid-in Debt capital Chapter 14 a. - Leases Additional paid-in capital to the extent it exists Chapter 15 - I ncom e Taxes

when additional paid-in capital is insufficient. The par value of the stock is reduce Chapter 16 b. - EmCapital ploy ee stock Benefit s extra additional capital to which the remaining deficit is charged. Chapter 17 - Stock holder s' Equitpaid-in y Chapter 18 - Earnings Per Share

No retained earnings may be created by a reorganization. Any excess created by the reduction of par value i in capital from quasi reorganization." Retained earnings must be dated for ten years (less than ten years may Chapter 20 - Segm ent Repor ting exceptional circumstances) after a quasi reorganization takes place. Disclosure similar to "since quasi reorga Chapter 21 Accounting Changes and Cor rection of Er ror s 30, 2003" is appropriate. Chapter 19 - I nterim Financial Repor ting

Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Chapter 18: Earnings Per Share I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

za PerspectiveMirand Issues

John Wi ley & Sons © 2003 (952 pages)

Investors and other Thisconsumers com pact and of corporate t ruly com pr financial ehensiveinformation qui ck - referare encegenerally anxious to identify a pr esent s account an ants with a performance, guide to depend on for "shorthand" means of measuring entity's notwithstanding oftvoiced concerns that any in the prepar at ion and under standing of financial condensed gaugeassistance of earnings inevitably runs the risk of being an incomplete picture of results for the statements present ed in accordance with I AS. period. The accounting profession long opposed publications of earnings per share data, because of the T ab le perceived of Con t enperil t s of offering a distorted picture of entity performance. Nonetheless, investors in particular are devoted users ofand earning per share data which Account is takening to be a predictor of the entity's Wiley I AS 20 03—Int er pretation Application of I nternational Standar future ds performance. Ultimately, recognizing that such statistics were being computed in various ways Preface and then widely disseminated, the accounting standard setters decided to at least impose uniform Chapter practices. 1 - I ntr oduction to I nter national Accounting Standar ds Chapter 2

- Balance Sheet

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

The international standard addressing earnings per share (EPS) is IAS 33. It requires that one, or two if I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter there is3a complex capital Gains structure, be presented each period for which an income of Recognized and measures Losses statement is reported. The principal goal in these measures is to ensure that the number of shares Chapter 4 - Cash Flow St at em ent used in the computation(s) fully reflects the impact of dilutive securities, including those which may not Chapter 5 - Financial I nstr uments—Cash and Receiv ables be outstanding during the period, but which, if they were to become outstanding, would affect the real Chapter 6 - I nventor y future earnings available to be allocated to current shareholders. Chapter 8 entity's - Property , Plantstructure , and Equipment When the capital is uncomplicated, EPS is computed by simply dividing net income (or Chapter 9 I ntangi ble Asset loss) by the average numbers of outstanding equity shares. The computation becomes more I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and complicated Chapter 10 - with the existence of securities that, while not presently equity shares, have the potential of I nvestmequity ent Prshares oper ty to be issued in future, thereby diluting each currently outstanding causing additional Chapter - Business and Consolidat Fin ancial Statements share's11 claim to futureCombinations earnings. Examples includeedconvertible preference shares and convertible debt, Curr entoptions Liabilit ies, Prov isions, ItCont ingencies, and Ev ents t he as well as various and warrants. was long recognized thatafter if calculated earnings per share Chapter 12 Balance Sheet Date

were to ignore these potentially dilutive securities, there would be a great risk for misleading

Chapter 13 - Financial I nstr uments—Long- Ter m Debt implications. Chapter 14 - Leases

The IAS15on- EPS was the result of a joint international effort to refine EPS measurements Chapter I ncomcomputations e Taxes then extant. It largely Chapter 16 - Em ploy ee presaged Benefit s the latest iteration of the requirement under US GAAP, which is set forth in 17 SFAS 128. The s' purpose Chapter - Stock holder Equit y of IAS 33 is to prescribe the ground rules for the determination and presentation of earnings per share. Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting

As the name indicates, EPS is derived by dividing a measure of earnings by a measure of number of common shares. The standard emphasizes the denominator of the earnings per share calculation and Chapter 21 -even Accounting and Cor rection of Er ror s because different accounting policies notes that though Changes EPS calculations have limitations, Chapter 22 For eign Curr ency typically can be used in the determination of earnings, which is in the numerator of the equation, a Chapter 23 - RelatedPart ydenominator Disclosures enhances financial reporting. consistently determined Chapter 20 - Segm ent Repor ting

Chapter 24 - Specialized I ndustr ies

IAS 33 25 states that theand standard's applicability is to both enterprises whose ordinary shares or potential Chapter - I nflation Hyperinflation ordinary26shares are and enterprises that are in the process of issuing ordinary shares Chapter - Gov er nmpublicly ent Gr antraded, ts or potential shares in public securities markets. While it is not defined at what point in the Appendix A - ordinary Di sclosure Checklist

share issuance process these requirements become effective, in practice this ambiguity has not been a source of confusion.

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

I ndex Some private entities wish to report a statistical measure of performance, and often choose to use EPS List as of theTables well-understood yardstick to employ. While these entities are not required to issue EPS data, List of Ex hibits andtoEx ples when they elect doamso they must comply with IAS 33. List of Sidebar s

In situations when both parent company and consolidated financial statements are presented, IAS 33 requires that the information called for by this standard need only be presented based on the consolidated information. The reason for this rule is that users of financial statements of a parent company are interested in the results of operations of the group as a whole, as opposed to the parent company on a stand-alone basis. Of course, nothing prevents the enterprise from also presenting the parent-only information, including EPS, should it choose to do so. Again, the requirements of IAS 33 would have to be met.

Sources of IAS IAS 33

SIC 24y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f W ile I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

ile yTerms I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f DefinitionsWof I n t er n at ion al Accou n t in g St an d ar ds

ISBN:0471227366 by used Bar r yinJ.aEpstein and Abbas Ali A number of terms discussion of earnings per share have special meanings in that context. When used, theyMir arezaintended to have the meanings given in the following definitions.

John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence

Antidilution pr esent s account ants with a guide to depend on for

assistance in the prepar at ion and under standing of financial

Anstatements increase inpresent earnings per share or reduction ed in accordance with I AS. in net loss per share, resulting from the inclusion of a potentially dilutive security, in EPS calculations. T ab le of Con t en t s Wiley Basic I AS 20 earnings 03—Int er per pretation share and Application of I nternational Account ing Standar ds

The amount of net profit or loss for the period that is attributable to each ordinary share that is outstanding during all or part of the period.

Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter - Balance Sheet Call 2price Chapter 3

-

I ncom Statement, Stat em of Chan ges Equit y, and ent at the issuer's option. Thee amount at which a ent security may beinredeemed byStatem the issuer of Recognized Gains and Losses

Chapter 4 - Cash Flow St at em ent Common stock Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y shares.

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

A stock that is subordinate to all other stocks of the issuer. Also known as ordinary

Chapter Common 8 - Property stock equivalent , Plant , and Equipment Chapter 9

- I ntangi Asset s Thisble expression is used under US GAAP to denote a security which, because of its I nterests in Instr um entunder s, Associat Ventur es, and terms or Financial the circumstances whiches,it Joint was issued, is in substance equivalent to Chapter 10 I nvestm ent Pr oper ty common stock. There is no equivalent concept under the proposed international Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements accounting standards. Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balance Sheet Date Contingent issuance

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

A possible issuance of ordinary (equity) shares that is dependent on the exercise of

Chapter 14 - Leases conversion rights, options, or warrants, the satisfaction of certain conditions, or similar Chapter 15 - I ncom e Taxes arrangements. Chapter 16 - Em ploy ee Benefit s

Conversion price Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share The price that determines the number of ordinary (equity) shares into which a security Chapter 19 - I nterim Financial Repor ting is convertible. For example, $100 face value of debt convertible into five ordinary Chapter 20 - Segm ent Repor tingwould be stated to have a conversion price of $20. (equity) shares Chapter 21 - Accounting Changes and Cor rection of Er ror s

Conversion rate Curr ency Chapter 22 - For eign

The ratio (1) the number of common shares issuable on conversion to (2) a unit of Chapter 23 - RelatedPart yofDisclosures convertible security. Chapter 24 - Specialized I ndustr ies For example, a preference share may be convertible at the rate of three shares for each preference share. Chapter 25 - I nflation andordinary Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Conversion value

Appendix A - Di sclosure Checklist

The current market value of the common shares obtainable on conversion of a convertible security, after deducting any cash payment required on conversion.

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex Diluted earnings per share List of Tables

The amount of net profit for the period per share, reflecting the maximum dilutions that would have resulted from conversions, exercises, and other contingent issuances List of Sidebar s that individually would have decreased earnings per share and in the aggregate would have had a dilutive effect. List of Ex hibits and Ex am ples

Dilution A reduction in earnings per share or an increase in net loss per share, resulting from the assumption that convertible securities have been converted or that options and warrants have been exercised, or other contingent shares have been issued on the fulfillment of certain conditions. Securities that would cause such earnings dilution are

referred to as dilutive securities. Dual presentation

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

The with equal I n tpresentation er n at ion al Accou n t in gprominence St an d ar ds of two different earnings per share amounts onbythe face the income statement: One is basic earnings per share; the other is ISBN:0471227366 Bar r y J.ofEpstein and Abbas Ali Mir za earnings per share. diluted John Wi ley & Sons © 2003 (952 pages)

Earnings per share This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with guide to depend onto foreach ordinary (equity) share The amount of earnings for aa period attributable assistance in the prepar at ion and under standing of financial (common stock). For convenience, the term is used in IAS 33 to refer to either net statements present ed in accordance with I AS. income (earnings) per share or net loss per share. It should be used without qualifying T ab le of Con t en tlanguage s (e.g., diluted) only when no potentially dilutive convertible securities, options, warrants, other agreements providing for contingent issuances of ordinary Wiley I AS 20 03—Int er pretation and or Application of I nternational Account ing Standar ds (equity) shares are outstanding. Preface

Exercise Chapter 1 - Iprice ntr oduction to I nter national Accounting Standar ds Chapter 2

- Balance The amount Sheet that must be paid for a ordinary (equity) share on exercise of a stock

Chapter 3

-

option or warrant. I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

If-converted Chapter 4 - Cashmethod Flow St at em ent Chapter 6

- Financial I nstrof uments—Cash and Receiv A method computing earnings perables share data that assumes conversion of - I nventor y convertible securities as of the beginning of the earliest period reported (or at time of

Chapter 7

if later). method wasuction mandated under US GAAP. - Revissuance, enue Recogni tion, This I ncluding Constr Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 5

Option - I ntangi ble Asset s The right to purchase shares accordance I nterests in Financial Instrordinary um ent s, (equity) Associat es, JointinVentur es, andwith an agreement upon Chapter 10 I nvestm payment ent Pr ofoper a specified ty amount including, but not limited to, options granted to and stock purchase agreements entered with employees. Chapter 11 - Business Combinations and Consolidat ed into Fin ancial Statements Chapter 9

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - shares Ordinary Balance Sheet Date Chapter 13 - Financial uments—LongTer m Debtto all other stocks of the issuer. Also known as ThoseI nstr shares that are subordinate Chapter 14 - Leases common stock. Chapter 15 - I ncom e Taxes

Redemption price Chapter 16 - Em ploy ee Benefit s The amount at which a security is required to be redeemed at maturity or under a Chapter 17 - Stock holder s' Equit y sinking-fund arrangement. Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting

Senior security

Chapter 20 - Segm ent Repor ting

This is an expression used underof US GAAP and refers to a security having Chapter 21 - Accounting Changes and Cor rection Er ror s

preferential rights and which is neither an ordinary (equity) share nor a common stock equivalent (as defined above). A nonconvertible preference share is an example of a Chapter 23 - Related- Part y Disclosures senior security. Chapter 22 - For eign Curr ency

Chapter 24 - Specialized I ndustr ies

Chapter I nflation and Hyperinflation Time25of-issuance Chapter 26 - Gov er nm ent Gr an ts

The time of issuance generally is the date when agreement as to terms has been reached and announced, even though such agreement is subject to certain further Appendix B - I llustrativ e Financial St atem entor s Pr esent ed Under I AS actions, such as directors' stockholders' approval. Appendix A - Di sclosure Checklist

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex Treasury stock method List of Tables

A method of recognizing the use of proceeds that would be obtained on exercise of

List of Ex hibits and Ex am and ples warrants in computing earnings per share. It assumes that any proceeds options List of Sidebar s would be used to purchase ordinary (equity) shares at current market prices. The

proposed international standard does not prescribe this method but uses a different calculation to achieve the same result. Warrant A security giving the holder the right to purchase shares of common stock in accordance with the terms of the instrument, usually on payment of a specified amount.

Weighted-average number of shares The number of shares determined by relating (1) the portion of time within a reporting period that a particular shares of p a licat certain has been outstanding to W ile y I AS 2 0 03 : I n tnumber erp re t atof ion an d Ap io n security of t ertotal n at ion al in Accou t in g StFor an dexample, ar ds (2)I nthe time that nperiod. if 100 shares of a certain security were ISBN:0471227366 by Bar r y J.during Epsteinthe and Abbas Ali of a fiscal year outstanding first quarter and 300 shares were outstanding Mir zathe balance of the year, the weighted-average number of outstanding shares during Johnbe Wi 250 ley &[(100 Sonsx©1/4) 2003 +(952 pages) would (300 x 3/4)]. This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS and 2 0 03 : Examples I n t erp re t at ion an d Ap p licat io n o f Concepts, Rules, I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

Simple Capital Mir za Structure

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages)

A simple capital structure may be said to exist either when the capital structure consists solely of ordinary (eq This com pact and t ruly com pr ehensive qui ck - refer ence no potential ordinary shares, which could the to form of options, pr esent s account ants withbe a in guide depend on for warrants, or other rights, that on conversi aggregate, dilute assistance earnings per share. Dilutive are essentially those that exhibit the rights of debt or in the prepar at ion securities and under standing of financial statements present in accordance I AS. on their issuance to reduce the earnings per sh (including warrants and options) andedwhich have the with potential T ab le of Con t en t s

Computational guidelines.

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

In its simplest form, the EPS calculation is net income divided by the weighted-average number of ordinary s objective of the EPS calculation is to determine the amount of earnings available to each ordinary share. Com Chapter 1 - I ntr oduction to I nter national Accounting Standar ds income does not necessarily represent the earnings available to the ordinary shareholder, and a simple weig Chapter 2 - Balance outstanding does notSheet necessarily reflect the true nature of the situation. Adjustments can take the form of ma I ncom e of Statement, Stat em ent of Chan ges in Equit y, and Statem entfollowing paragraphs. of the denominator the formula used to compute EPS, as discussed in the Chapter 3 Preface

of Recognized Gains and Losses

Chapter 4 - Cash Flow St at em ent Numerator. Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter The net6 income - I nventor figure y used as the numerator in any of the EPS computations must reflect any claims agains

securities. fortion, thisI ncluding reductionConstr is that the claims of sthe senior securities must be satisfied befor Chapter 7 -The Revjustification enue Recogni uction Contr act common These securities are usually in the form of preference shares, and the deduction from Chapter 8 shareholder. - Property , Plant , and Equipment dividend thes year on the preference shares. If the preference shares are cumulative, the divi Chapter 9 declared - I ntangiduring ble Asset income (or added to the loss), whether it ent is declared ores, not. If preference shares do not have a cumulative rig I nterests in Financial Instr um s, Associat Joint Ventur es, and period dividends have omitted, such dividends should not be deducted in computing EPS. Cumulative d I nvestm entbeen Pr oper ty paid currently do not affect the calculation of EPSed in Fin theancial current period, since such dividends have already be Chapter 11 - Business Combinations and Consolidat Statements EPS computations. However, the amount in arrears should be disclosed, Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after tas he should all of the effects of the rig Chapter 12 Sheet Date on the EPS Balance calculation. Chapter 10 -

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Denominator. Chapter 14 - Leases

Chapter 15 - I ncom e Taxes

The weighted-average number of ordinary shares outstanding is used so that the effect of increases or decre EPS data is related to the portion of the period during which the related consideration affected operations. Th Chapter 17 - Stock holder s' Equit y weighted-average exists because of the effect that various transactions have on the computation of ordinary Chapter 18 - Earnings Per Share is impossible to analyze all the possibilities, the following discussion presents some of the more common tran Chapter 19 - shares I nterimoutstanding. Financial Repor of ordinary Theting theoretical construct set forth in these relatively simple examples can be Chapter 16 - Em ploy ee Benefit s

Chapter 20 - Segm ent Repor ting

If a company reacquiresChanges its own and shares (referred as streasury stock) in countries where it is legally permiss Chapter 21 - Accounting Cor rection of to Er ror shares 22 reacquired be excluded from EPS calculations as of the date of acquisition. The same theory Chapter - For eignshould Curr ency ordinary23shares during period. The number of shares newly issued is included in the computation only for Chapter - RelatedPartthe y Disclosures date. The for this treatment Chapter 24 logic - Specialized I ndustr ies is that the consideration for the shares was not available to generate earnin This same applies the reacquired shares because the consideration relative to those shares was no Chapter 25 -logic I nflation andto Hyperinflation earnings after the acquisition date.

Chapter 26 - Gov er nm ent Gr an ts

Appendix A - Di sclosure Checklist A stock dividend (bonus issue) or a stock (share) split does not generate additional resources or consideratio Appendix B I llustrativ e FinancialThe St atem ent s Prinesent ed Under I AS of a stock split or dividend, or decrease in number of shares outstanding. increase shares as a result Appendix C - Com parison of I AS, US GAAP, andas UKan GAAP split, should be given retroactive recognition appropriate equivalent charge for all periods presented. T I ndex split occurs at the end of the period, it is considered outstanding for the entire period of each period presente List of Tables dividend or split has no effect on the ownership percentage of the common stockholder. As such, to show a d List would of Ex erroneously hibits and Ex give am ples the impression of a decline in profitability when in fact it was merely an increase in th

stock dividend List of Sidebar s or split. IAS 33 carries this logic one step further by requiring the disclosure of pro forma (adjusted) amounts of basic for the period in case of issue of shares with no corresponding change in resources (e.g., stock dividends or balance sheet date, but before the issuance of the financial statements. The reason given is that the nondisc would affect the ability of the users of the financial statements to make proper evaluations and decisions. It is EPS numbers as presented on the face of the income statement are not required by IAS 33 to be retroactive US GAAP, because such transactions do not reflect the amount of capital used to produce the net profit or lo

Complications also arise when a business combination occurs during the period. The treatment of the additio nature of the combination. If the business combination is recorded as a uniting of interests, the additional sha issued at the beginning the when W ile y Iof AS 2 0year 03 : regardless I n t erp re t atof ion an dthe Ap combination p licat io n o f occurred. Conversely, if the combina acquisition, the shares are considered issued and outstanding as of the date of acquisition. The reason for th I n t er n at ion al Accou n t in g St an d ar ds income statementbytreatment accorded a uniting of interests versus an acquisition. In a uniting of interests, th ISBN:0471227366 Bar r y J. Epstein and Abbas Ali company is included Mir za in the statements for the entire year, whereas in an acquisition, the income is included o acquisition. John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence

IAS 33 recognizes is permissible foronordinary shares to be issued in partly paid form pr that esentins certain accountcountries ants with ait guide to depend for stipulates that partly paid instruments should as ordinary share equivalents to the extent to which assistance in the prepar at ion be andincluded under standing of financial present edinindividends accordance I AS. manner as fully paid shares. Further, in the ca financial reportingstatements year) to participate in with the same shares (i.e., ordinary shares issuable on fulfillment of certain conditions, such as achieving a certain level of T ab le of Con t en t s that such shares be considered outstanding and included in the computation of basic earnings per share onl Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing conditions Standar ds have been satisfied. Preface

IAS 33 gives examples of situations where ordinary shares may be issued, or the number of shares outstand - I ntr oduction to I nter national Accounting Standar ds causing corresponding changes in resources of the corporation. Such examples include bonus issues, a bon Chapter 2 Balance as a rights-issue (to Sheet existing shareholders), a share split, a reverse share split, and a capital reduction withou I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent capital.3In all Chapter - such cases the number of ordinary shares outstanding before the event is adjusted, as if the ev of Recognized Gains and Losses beginning of the earliest period reported. For instance, in a 3-to-1 bonus issue the number of shares outstan Chapter 4 - Cash Flow St at em ent multiplied by a factor of 4. These and other situations are summarized in the tabular list that follows. Chapter 1

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property ,Transaction Plant , and Equipment - I ntangi ble Asset s

Chapter 9

Weighted-Average (W/A) Computation Effect on W/A computation

Common stock outstanding at the Increase of shares outstanding by the number o I nterests in Financial Instr um ent s, Associat es, Jointnumber Ventur es, and Chapter 10 beginning of the period I nvestm ent Pr oper ty Chapter 11 - Business Combinations and Consolidat ed Increase Fin ancial Statements Issuance of common stock during the number of shares outstanding by the number o Curr ent Liabilit ies, Prov isions, Cont ingencies, andof Evthe ents after t he portion year outstanding period Chapter 12 Balance Sheet Date

Conversion into Icommon stock Chapter 13 - Financial nstr uments—LongTer m Debt Increase number of shares outstanding by the number o Chapter 14 - Leases

the portion of the year outstanding

Chapter 15 - I ncom e Taxes its stock Company reacquires Chapter 16 - Em ploy ee Benefit s

Decrease number of shares outstanding by number of sh portion of the year outstanding

Chapter 17 - Stock holder s' Equit y

Increase number of shares outstanding by number of sha due to the split

Stock dividend or split

Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting

Reverse split

Chapter 20 - Segm ent Repor ting

Decrease number of shares outstanding by decrease in

Chapter Pooling 21 - Accounting of interestChanges and Cor rection of Er ror Increase s number of shares outstanding by number of sha Chapter 22 - For eign Curr ency

Purchase

Chapter 23 - Related- Part y Disclosures

Increase number of shares outstanding by number of sha of year since acquisition

Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

In the case rights shares, the number of ordinary shares to be used in calculating basic EPS is the numbe Appendix A - of Di sclosure Checklist prior to the multiplied by the following factor: Appendix B - issue, I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Exare hibits and Ex am ples There several ways to compute the theoretical value of the shares on an ex-rights basis. IAS 33 suggest List Sidebar s fair value of the shares immediately prior to exercise of the rights to the proceeds from the exe theofaggregate

the number of shares outstanding after exercise. To illustrate, consider that the entity currently has 10,000 sh value of $15 per share, when it offers each holder rights to acquire one new share at $10 for each four share rights would be given as follows:

Thus, the ex-rights value of the ordinary shares is $14 each.

The foregoing do not characterize all possible complexities arising in the EPS computation; however, most o complex structure which is considered in the following section of this chapter. The illustration below applies t W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f simple capital structure. I n t er n at ion al Accou n t in g St an d ar ds Bar r y J. Epstein and capital Abbas Ali Example of EPSby computation-Simple structure

ISBN:0471227366

Mir za John information: Wi ley & Sons © 2003 (952 pages) Assume the following This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for Numerator information assistance in the prepar at ion and under standing of financial statements ed inbefore accordance with I AS. a. Income from ordinarypresent activities extraordinary

items T ab le of Con t en t s

$130,000

Wileyb. I AS Extraordinary 20 03—Int er pretation of I nternational Account ing loss (netand of Application tax) 30,000 Standar ds Preface c.

Net income

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Denominator in a.

Common shares outstan

b.

Shares issued for cash 4

c.

Shares issued in 10% st declared in July 2003

d.

Shares of treasury stock 10/1/03

100,000

Chapter d. 26%- Balance cumulative Sheet preference shares, $100 par, 1,000

shrs. issued and outstanding 100,000 I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 -

of Recognized Gains and Losses When calculating the numerator, Chapter 4 - Cash Flow St at em ent the claims of senior securities (i.e., preference shares) should he deducted

attributable ordinary (equity) shareholders. In thisables example the preference shares are cumulative. Thus, re Chapter 5 - to Financial I nstr uments—Cash and Receiv board of declares a preference dividend, holders of the preference shares have a claim of $6,000 (1 Chapter 6 directors - I nventor y against72003 earnings. Therefore, $6,000 must beuction deducted Chapter - Rev enue Recogni tion, I ncluding Constr Contrfrom act s the numerator to arrive at the net income a ordinary8 shares. Note that ,any Chapter - Property , Plant andcumulative Equipment preference dividends in arrears are ignored in computing this perio

been incorporated into previous periods' EPS calculations. Also note that this $6,000 would have been deduc - I ntangi ble Asset s only if a dividend of this amount had been declared during the period. The EPS calculations follow.

Chapter 9

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Earnings per common share

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - from continuing operations before extraordinary items = ($130,000 - $6,000) ÷ Ordinary shares o On income Balance Sheet Date Chapter - Financial I nstr uments—Longm Debtshares outstanding On net13income = ($100,000 - $6,000) ÷ Ter Ordinary Chapter 14 - Leases

The computation the denominator is based on the weighted-average number of ordinary shares outstandin Chapter 15 - I ncomof e Taxes weighted-average considered appropriate because of the various complexities. The table below illustra Chapter 16 - Em ployis eenot Benefit s weighted-average number of shares outstanding. Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm Item ent Repor ting

Number of shares actually outstanding

Chapter 21 of - Accounting Changes andof Cor rection of Er ror 110,000 s Number shares as of beginning Chapter 22 1/1/03 - For eign Curr ency the year Chapter 23 - Related- Part y Disclosures

Chapter 26 - Gov er nm ent Gr an ts

Treasury shares purchased 10/1/03

Appendix A - Di sclosure Checklist

12/12

[100,000 + 10%(100,000)]

Shares24issued 4/1/03 I ndustr ies Chapter - Specialized Chapter 25 - I nflation and Hyperinflation

Fraction of the year outstanding

22,000

9/12

[20,000 + 10% (20,000)] (10,000)

3/12

Weighted-average of common shares outstanding Appendix B - I llustrativnumber e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Recall that the stock dividend declared in July is considered to be retroactive to the beginning of the year. Th 4/1, 110,000 shares are considered to be outstanding. When shares are issued, they are included in the wei List of Tables the date of issuance. The stock dividend applicable to these newly issued shares is also assumed to have ex List of Ex hibits and Ex am ples Thus, we can see that of the 12,000 share dividend, 10,000 shares relate to the beginning balance and 2,00 List of Sidebar s (10% of 100,000 and 20,000, respectively). The purchase of the treasury stock requires that these shares be for the remainder of the period after their acquisition date. The figure is subtracted from the calculation becau from those outstanding prior to acquisition. To complete the example, we divided the previously derived num number of common shares outstanding to arrive at EPS. I ndex

On income from continuing operations before extraordinary items = ($130,000 - $6,000) ÷ 124,000 common On net income = ($100,000 - $6,000) ÷ 124,000 common shares

Reporting a $0.24 loss per share ($30,000 ÷ 124,000) due to the extraordinary item is optional. The numbers based on net income are the only presentation required on the face of the income statement. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Complex Capital Structure Mir za

ISBN:0471227366

Wi ley & Sons © 2003 (952 pages) The computation John of EPS under a complex capital structure involves all of the complexities discussed under t This com pact and t rulystructure com pr ehensive qui ck - refer ence potential ordinary shares that have the more. By definition, a complex capital is one that has dilutive pr esent s account ants with a guide to depend on for reduce EPS. Theassistance effects of in any antidilutive potential ordinary shares (those that increase EPS) is not to be in the prepar at ion and under standing of financial diluted earnings per share. present ed in accordance with I AS. statements T ab le of Con en t s Note that a tcomplex structure requires dual presentation of both basic EPS and diluted EPS unless the basic

per share. case er the basic EPS a loss perofshare, IAS 33 does noting prohibit an enterprise from disclosing t Wiley I AS 20In 03—Int pretation and is Application I nternational Account Standar ds For the purposes of calculating diluted EPS, the net profit attributable to ordinary shareholders and the weigh Preface outstanding be adjusted for the effects of all Standar the dilutive Chapter 1 - Ishould ntr oduction to I nter national Accounting ds potential ordinary shares. Chapter 2

- Balance Sheet

According to IAS 33, the numerator, representing the net profit attributable to the ordinary shareholders for th I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent the after-tax Chapter 3 - effect, if any, of the following items: of Recognized Gains and Losses 1. Interest recognized in the Chapter 4 - Cash Flow St at em ent period for the dilutive potential ordinary shares Chapter 5

- Financial I nstr uments—Cash and Receiv ables

2. Any dividends recognized in the period for the dilutive potential ordinary shares, where those dividend - I nventor y arriving at net profit attributable to ordinary shareholders

Chapter 6 Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8 - other Property , Plant ,inand Equipment 3. Any changes income or expenses that would result from the conversion of the dilutive potenti Chapter 9 - I ntangi ble Asset s

For instance, conversion of debentures ordinary willVentur reduce expense which will cause an I nterests in Financial Instr uminto ent s, Associatshares es, Joint es,interest and Chapter - will have a consequential effect on contributions based on the profit figure, for example, employe period. 10 This I nvestm ent Pr oper ty profit sharing plan. The effect of such changes on the bottom line should be considered in the Chapter 11 - Business Combinations andconsequential Consolidat ed Fin ancial Statements of the dilutedCurr EPS entratio. Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Chapter 12 -

Balance Sheet Date

The denominator, which has the weighted number of ordinary shares, should be adjusted (increased) by the ordinary shares that would have been outstanding assuming the conversion of all dilutive potential ordinary s

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Chapter 15 - I ncom e Taxes

Contingent Issuances of Ordinary Shares

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y

As in the computation of the basic EPS, shares whose issuance is contingent on the occurrence of certain ev outstanding and included in the computation of diluted EPS only if the stipulated conditions have been met (t Chapter 19 - I nterim Financial Repor ting Issuances that are dependent on certain conditions being met can be illustrated through the following examp Chapter 20 - Segm ent Repor ting condition or requirement in a contract to increase earnings over a period of time to a certain stipulated level a Chapter 21 - Accounting Changes and Cor rection of Er ror s level of earnings, the issuance of shares to take place; this is regarded as a contingent issuance of shares. T Chapter 22 - For eign Curr ency the computation of diluted EPS. Chapter 18 - Earnings Per Share

Chapter 23 - Related- Part y Disclosures

There are two Imethods Chapter 24 basically - Specialized ndustr ies used to incorporate the effects of potential ordinary shares, popularly referre Chapter 25 - treasury I nflation stock and Hyperinflation 1. The method Chapter 26 - Gov er nm ent Gr an ts

2. The method Appendix A - if-converted Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

These terms were first popularized by the former US GAAP requirements set forth in APB 15. IAS 33 does n methods it has prescribed by the foregoing names, but does mention, in the case of the method of accountin I ndex options that, in effect, the method prescribed by it produces the same results as the treasury stock method. Appendix C - Com parison of I AS, US GAAP, and UK GAAP List of Tables List of Ex hibitsstock and Ex am ples Treasury method. List of Sidebar s

The treasury stock method, which is used to account for the hypothetical exercise of most warrants or option computed as if the options or warrants were exercised at the beginning of the period (or date of issuance, if l obtained from the exercise were used to purchase common stock at the average market price for the period. For example, if a corporation has warrants outstanding for 1,000 shares of common stock exercisable at $10 market price of the common stock is $16 per share, the following would hypothetically occur: The company w $10) and issue 1,000 shares from the exercise of the warrants that would enable it to purchase 625 shares ($ market. The net increase in the denominator (which effects a dilution in EPS) is 375 shares (1,000 issued les

terminology of IAS 33, those 375 shares are deemed to have been issued "for no consideration." In all cases lower than the market price, assumed exercise will be dilutive and some portion of the shares will be deemed the exercise priceWisilegreater market y I AS 2than 0 03 the : I naverage t erp re t at ion anprice, d Ap pthe licatexercise io n o f should not be assumed since the re I n t er n at ion al Accou n t in g St an d ar ds

Treasury Stock Method ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za DenominatorJohn mustWi beleyincreased net dilution, as follows: & Sons © by 2003 (952 pages) Net dilution Shares - Shares repurchased This=com pact issued and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for where assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Shares issued = Proceeds received/Exercise price

T ab le of Con t en t s

Wiley I AS Shares 20 03—Int er pretation = and Application of I nternationalmarket Accountprice ing per share repurchased Proceeds received/Average Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

If-converted method. Chapter 2 - Balance Sheet I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 The if-converted method isGains usedand for those of Recognized Lossessecurities that are currently sharing in the earnings of the compan

or dividends as senior securities Chapter 4 - Cash Flow St at em ent but have the potential for sharing in the earnings as ordinary shares. The ifrecognizes the convertible security can share Chapter 5 - that Financial I nstr uments—Cash and only Receiv ablesin the earnings of the company as one or the other, n

or interest tax effects applicable to the convertible security as a senior security are not recognized in the Chapter 6 -less I nventor y

compute EPS, and the weighted-average number of shares is adjusted to reflect the conversion as of the be - Rev enue Recogni tion, I ncluding Constr uction Contr act s issuance, if later). See the example of the if-converted method for illustration of treatment of convertible secu Chapter 8 - Property , Plant , and Equipment during the period and therefore were not outstanding for the entire year. Chapter 7 Chapter 9

- I ntangi ble Asset s

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Example Chapter 10 of - the if-converted method I nvestm ent Pr oper ty Chapter Business andaConsolidat ed Fin ancial Statements Assume11a -net incomeCombinations of $50,000 and weighted-average number of common shares outstanding of 10,000. Curr ent the Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he provided regarding capital structure. Chapter 12 Balance Sheet Date

1. 7% convertible debt, 200 bonds each convertible into 40 ordinary shares. The bonds were outstanding tax rate is 40%. The bonds were issued at par ($1,000 per bond). No bonds were converted during th

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Chapter 15 -convertible, I ncom e Taxes 2. 4% cumulative preferred stock, par $100, 1,000 shares issued and outstanding. Each pre Chapter common 16 - Em ploy ee Benefit shares. The spreferred shares were issued at par and were outstanding the entire year. No sh Chapter year. 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

The first is to compute basic Chapter 19step - I nterim Financialthe Repor tingEPS, that is, assuming only the issued and outstanding ordinary shares

computed $4.60 - $4,000 preferred dividends) ÷ (10,000 ordinary shares outstanding). The dilute Chapter 20 -asSegm ent($50,000 Repor ting amount for the capital structure to be considered complex and for a dual presentation of EPS to be necessar

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter 22 - For eign Curr ency To determine the dilutive effect of the preferred stock, an assumption (generally referred to as the if-converte Chapter 23 Relatedy Disclosures the preferred stock isPart converted at the earliest date that it could have been during the year. In this example, t Chapter 24 - Specialized ndustr ies during the year, the earliest date conversion could have occurred would h the preferred had been Ifirst issued Chapter 25 - of I nflation and Hyperinflation The effects this assumption are twofold: (1) if the preferred is converted, there will be no preferred dividen Chapter 26will - Gov ent Gr an ts (2) there be er annm additional 2,000 shares of common outstanding during the year (the conversion rate is 2 f Appendix A - Diluted Di sclosure preferred). EPSChecklist is computed, as follows, reflecting these two assumptions: Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List Ex hibits andpreferred Ex am ples Theofconvertible is dilutive because it reduced EPS from $4.60 to $4.17. Accordingly, a dual presen List of Sidebar s

In the example, the convertible bonds are also assumed to have been converted at the beginning of the year assumption are twofold: (1) if the bonds are converted, there will be no interest expense of $14,000 (7% x $2 there will be an additional 8,000 shares (200 bonds x 40 shares) of common stock outstanding during the ye however, must be mentioned; namely, the effect of not having $14,000 of interest expense will increase inco expense. Consequently, the net effect of not having interest expense of $14,000 is $8,400 [(1 - 0.40) x $14,0 as follows, reflecting the dilutive preferred and the effects noted above for the convertible bonds.

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds ISBN:0471227366 The convertible debt by Bar is ralso y J. dilutive, Epstein and as itAbbas reduces Ali EPS from $4.17 to $2.92. Together the convertible bonds a Mir za $4.60 to $2.92. The following table summarizes the computations made for this example.

John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence esent s account ants with a guide to depend on for Computations ofprBasic and Diluted Earnings Per Share assistance in the prepar at ion and under standing of financial statements present edcommon in accordance FPS on outstanding stockwith I AS.

(the benchmark EPS)

T ab le of Con t en t s

Basic

WileyItems I AS 20 03—Int er pretation and Application of I nternational Account ing Numerator Denominator Numerator Standar ds

Net income Preface

$50,000

Denominator

$50,000

Numera $50,0

Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Preferred (4,000) Chapter 2 - Balance Sheet dividend Chapter 3 Common

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses 10,000 shs

10,000 shs

shs Chapter 4 - Cash Flow St at em ent outstanding Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Conversion Chapter 6 - I nventor y

2,000

of preferred Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s Chapter 8 - Property , Plant , and Equipment Conversion

8,4

Chapter 9 - I ntangi ble Asset s of bonds Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

I nvestm$46,000 ent Pr oper ty ÷ Totals

10,000 shs

$50.000

÷

12,000 shs

$58,4

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

$4.60 $4.17 EPSCurr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Chapter 12 -

Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

The preceding example was simplified to the extent that none of the convertible securities were, in fact, conv real situations, some or all of the securities may have been converted, and thus actual reported earnings (an Chapter 16 - Em ploy ee Benefit s have reflected the fact that preferred dividends were paid for only part of the year and/or that interest on conv Chapter 17 - Stock holder s' Equit y only part of the year. These factors would need to be taken into consideration in developing a time-weighted Chapter 18 - Earnings Per Share the EPS equations. Chapter 15 - I ncom e Taxes

Chapter 19 - I nterim Financial Repor ting

Chapter 20 - Segm ent Repor ting Furthermore, the sequence followed in testing the dilution effects of each of several series of convertible sec although is not always true. It is best to perform thes sequential procedures illustrated above by computin Chapter 21this - Accounting Changes and Cor rection of Er ror

potential shares from the most dilutive to the least dilutive. This rule also applies if convertible secur Chapter 22ordinary - For eign Curr ency method23 will- be applied) options (for which the treasury stock approach will be applied) are outstanding si Chapter RelatedPartand y Disclosures Chapter 24 - Specialized I ndustr ies

Finally, if some potential ordinary shares are only issuable on the occurrence of a contingency, conversion sh computation purposes only to the extent that the conditions were met as of the balance sheet date. In effect, Chapter 26 - Gov er nm ent Gr an ts should be treated as if it were also the end of the contingency period. Chapter 25 - I nflation and Hyperinflation Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS No antidilution. Appendix C - Com parison of I AS, US GAAP, and UK GAAP

No assumptions of conversion should be made if the effect would be antidilutive. As in the discussion above, I ndex which the different issues or series of convertible or other instruments that are potentially ordinary shares are List of Tables ultimate computation. List of Ex hibits and Ex amThe plesgoal in computing diluted EPS is to calculate the maximum dilutive effect. The ind securities, options, and other items should be dealt with from the most dilutive to the least dilutive to effect th List of Sidebar s Modified Treasury Stock Method Numerator Net income recomputed to reflect retirement of debt or income from investments Add interest expense less tax effects

Add income from investments less tax effects Denominator

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Common stock outstanding + Number of shares not acquired with proceeds from options and warrants by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

This com pact and t ruly com pr ehensive qui ck - refer ence

Changes toprEarnings Perwith Share Being Proposed esent s account ants a guide Calculations to depend on for assistance in the prepar at ion and under standing of financial present ed in itaccordance with that I AS.certain changes be made to IAS 33. Inasmuch As part of IASB'sstatements Improvements Project, has proposed anticipated to become effective in 2003, the likely changes are set forth in the following discussion. IASB has T ab le of Con t en t s contracts that may be settled either in common stock (referred to as "ordinary shares") or in cash, at the issu Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing the number of potential ordinary shares in the diluted earnings per share calculation based on a rebuttable p Standar ds will be settled in shares, rather than for cash. This is a conservative assumption that will show the maximum Preface settlement. SIC 24 will be withdrawn if this approach is incorporated in the revised Standard. Currently, SIC 2 Chapter 1 - I ntr oduction to I nter national Accounting Standar ds ordinary share is dilutive (that is, its conversion to ordinary shares would decrease net profit per share from c Chapter 2 - Balance Sheet its dilutive effect is included in calculating diluted earnings per share. Thus, the effect of the amendment is e I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 SIC guidance into the revised Standard itself. of Recognized Gains and Losses Chapter 4 - Cash will Flowalso St atstipulate em ent that when a contract having the foregoing characteristics is presented for The amendment Chapter 5 Financial I nstr uments—Cash Receiv ables asset or a liability, or has both an equity and component and a liability component, the reporting entity will need to Chapter 6 in- earnings I nventor ythat would have resulted during the period if the contract has been classified wholly as a changes Chapter 7 Rev enue Recogni tion, I ncluding Constr uction act s dilutive shares (from conversion of conve adjustment is similar to the one already prescribed whenContr potentially Chapter Property , Plant , and Equipment diluted 8for -EPS computation purposes under IAS 33 currently. The objective is to avoid "double counting" the or exercise having Chapter 9 - by I ntangi ble both Assetthe s number of assumed shares outstanding increased, and by having the income

decreased by the related expenses orum dividends actually accrued on the outstanding securities whose I nterests in Financial Instr ent s, Associat es, paid Jointor Ventur es, and I nvestm ent Pr oper ty being hypothesized.

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

IAS 33 is also about to be ies, amended to clarify adjustments are required Curr ent Liabilit Prov isions, Contthat ingencies, and Ev ents after t hein calculating basic earnings per involving an Balance entity's preferred Sheet Dateshares or other securities classified as equity instruments. For instance, the ex acquire13 preference over their carrying is deducted in computing the numerator for the purpos Chapter - Financialshares I nstr uments—LongTer m amount Debt per share. other words, although the premium paid by the reporting entity, being a transaction in the entity Chapter 14 -InLeases charge 15 directly against retained earnings, for EPS calculation purposes it is treated as an income statement Chapter - I ncom e Taxes other guidance already contained in IAS 33. Chapter 16 - Em ploy ee Benefit s Chapter 12 -

Chapter 17 - Stock holder s' Equit y

The existing standard will also be amended to provide additional guidance and illustrative examples on partic

Chapter - Earnings Share such as18the effects ofPer contingently issuable shares; potential ordinary shares of subsidiaries, joint ventures o Chapter 19 -written I nterimput Financial securities; options;Repor and ting purchased put and call options. Compared to the existing standard, the gu Chapter 20is- vastly Segm ent Repor ting standard expanded. Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Disclosure Requirements under IAS 33

Chapter 23 - Related- Part y Disclosures

1. Enterprises should present Chapter 24 - Specialized I ndustr ies both basic EPS and diluted EPS on the face of the income statement for e a different right to share in the net profit for the period. Equal prominence should be given to Chapter that 25 - has I nflation and Hyperinflation EPS figures for all periods presented.

Chapter 26 - Gov er nm ent Gr an ts

Appendix A - Di sclosure Checklist 2. Enterprises should present basic EPS and diluted EPS even if the amounts disclosed are negative. In Appendixmandates B - I llustrativ e Financial St atem ent s Pr esent edshare, Under but I AS even loss per share figures. per disclosure of not just earnings Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex3. Enterprises should disclose amounts used as the numerator in calculating basic EPS and diluted EPS

those amounts to the net profit or loss for the period. Disclosure is also required of the weighted-avera List of Tables theExdenominator in calculating basic EPS and diluted EPS along with a reconciliation of these List of Exused hibitsas and am ples List of Sidebar s

a. In addition to the disclosure of the figures for basic EPS and diluted EPS, as required above, if disclose per share amounts using a reported component of net profit, other than net profit or lo ordinary shareholders, such amounts should be calculated using the weighted-average numbe in accordance with the requirements of IAS 33; this will ensure comparability of the per share a b. In cases where an enterprise chooses to disclose the above per share amounts using a compo as a line item in the income statement, a reconciliation is mandated by the standard, which sho between the component of net income used with a line item reported in the income statement;

c. When additional disclosure is made by an enterprise of the above per share amounts, basic an should be disclosed with equal prominence (just as basic EPS and diluted EPS figures are give W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

5. Enterprises to disclose I nare t er nencouraged at ion al Accou n t in g St the an dterms ar ds and conditions of financial instruments or contracts shares since such terms and conditions may determine ISBN:0471227366 whether or not any potential ordinary shares a by Bar r y J. Epstein and Abbas Ali on the weighted-average number of shares outstanding and any consequent adjustments to the net p Mir za shareholders. John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence

6. If changespr(resulting from aants bonus or share split,on etc.) esent s account withissue a guide to depend for in the number of ordinary or potential ordi balance sheet date but before issuance of the financial statements, assistance in the prepar at ion and under standing of financial and the per share calculations ref present in accordance with I AS. number ofstatements shares, such a factedshould be disclosed. T ab le7.of Enterprises Con t en t s are also encouraged to disclose a description of ordinary share transactions or potential o Wiley I AS 20 03—Int er pretation andand Application of I nternational Account than capitalization issues share splits, occurring after the ing balance sheet date that are of such imp Standar ds

would affect the ability of the users of the financial statements to make proper evaluations and decisio

Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Chapter 19: Interim Financial Reporting I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

za PerspectiveMirand Issues

John Wi ley & Sons © 2003 (952 pages)

Interim financial reports This com are pact financial and t ruly statements com pr ehensive covering qui periods ck - refer ence of less than a full financial year. Most pr esentwill s account with of a guide depend on forare referred to as quarterly interim commonly such reports be for ants a period three to months (which in the prepar at ion and under standing of financial financial reports),assistance although in many jurisdictions, tradition calls for semiannual interim financial statements present ed in accordance with I AS. reporting. The purpose of quarterly or other interim financial reports is to provide financial statement users T ab le ofwith Conmore t en t stimely information for investment and credit decisions, based on the expectation that full-year willerbe a reasonable extrapolation from interim performance. Additionally, interim Wiley I AS results 20 03—Int pretation and Application of I nternational Account ing Standar reportsdscan yield significant information concerning trends affecting the business and seasonality Preface effects, both of which could be obscured in annual reports. Chapter 1

- I ntr oduction to I nter national Accounting Standar ds The basic interim reporting is to provide frequent and timely assessments of enterprise Chapter 2 objective - Balance of Sheet

performance. However, interim reporting has inherent limitations. As the reporting period is shortened,

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 -of errors in estimation and allocation are magnified. The proper allocation of annual the effects of Recognized Gains and Losses

operating is St a at significant concern. Because the progressive tax rates of most jurisdictions are Chapter 4 expenses - Cash Flow em ent applied5to total annualI nstr income and various credits may arise, the accurate determination of interim Chapter - Financial uments—Cash andtax Receiv ables

income tax- expense is often difficult. Other annual operating expenses are often concentrated in one I nventor y interim period, yet benefit the entire year's operations. Examples include advertising expenses and Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s major repairs or maintenance of equipment, which may be seasonal in nature. The effects of seasonal Chapter 8 - Property , Plant , and Equipment fluctuations and temporary market conditions further limit the reliability, comparability, and predictive Chapter 9 - I ntangi ble Asset s value of interim reports. Because of this reporting environment, the issue of independent auditor I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter association 10 - with interim financial reports remains problematic. Chapter 6

I nvestm ent Pr oper ty

Chapter 11 - Business Combinations Consolidat ed Fin ancial Statements While some national standards hadand long existed regarding interim financial reporting, most notably in Curr ent Liabilit ies,pertinent Prov isions, Cont ingencies, and Ev ents after t he international accounting the United States where the requirements were established in 1973, Chapter 12 Balance Sheet Date

standards on this topic developed only recently. The standard on interim financial reporting was issued

Chapter 13 - 1998. Financial I nstr uments—Long- Ter m Debt in February Chapter 14 - Leases

Two distinct interim reporting have been advocated, particularly by US and UK standard Chapter 15 - Iviews ncom eof Taxes setters,16 but- others that Chapter Em ploybelieve ee Benefit s the distinction is less meaningful than it appears at first blush. The first view holds the interim period Chapter 17 -that Stock holder s' Equit y is an integral part of the annual accounting period (the integral view), while the views interim period as a discrete accounting period of its own (the discrete Chapter 18 second - Earnings Perthe Share

view). Depending which view is ting accepted, expenses would either be recognized as incurred, or Chapter 19 - I nterimonFinancial Repor would be allocated to the interim periods based on forecasted annual activity levels such as sales volume. The integral approach would require more use of estimation, and forecasts of full-year Chapter 21 - Accounting Changes and Cor rection of Er ror s performance would be necessary antecedents for the preparation of interim reports. Chapter 20 - Segm ent Repor ting Chapter 22 - For eign Curr ency

Chapter 23 - Related- Part y Disclosures

Sources of IAS

Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation

IAS 1, 8, 20, 32, 34

Chapter 26 - Gov er nm ent Gr an ts

IASC's Framework for the Preparation and Presentation of Financial Statements

Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

ile yTerms I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f DefinitionsWof I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Discrete view Mir za

John Wi ley & Sons © 2003 (952 pages)

An approach to measuring interim period income by viewing each interim period This com pact and t ruly com pr ehensive qui ck - refer ence separately. pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial

Estimated annual effective tax rate statements present ed in accordance with I AS. An expected annual tax rate which reflects estimates of annual earnings, tax rates, T ab le of Con t en t s tax credits, etc. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Integral view

Preface

An approach to measuring interim period income by viewing each interim period as an integral part of the annual period. Expenses are recognized in proportion to revenues Chapter 2 - Balance Sheet earned through the use of special accruals and deferrals. Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Interim financial report

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 8

- Property , Plant , and Equipment

An interim financial report refers to either a complete set of financial statements for an interim period (prepared in accordance with the requirements of IAS 1), or a set of Chapter 6 - I nventor y condensed financial statements for an interim period (prepared in accordance with the Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s requirements of IAS 34). Chapter 9 -period I ntangi ble Asset s Interim Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and A financial reporting period shorter than a full financial year (e.g., a period of three or I nvestm ent Pr oper ty

six months).

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Last-twelve-months reports Chapter 12 Balance Sheet Date

Financial reporting for the twelve-month period which ends on a given interim date.

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Liquidation of LIFO inventories

Chapter 15 - I ncom e Taxes

The situation which occurs when quarterly sales exceed purchases and base-period costs are released into cost of goods sold.

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Seasonality

Chapter 19 - I nterim Financial Repor ting

The normal, expected occurrence of a major portion of revenues or costs in one or

Chapter 20 - Segm Reporperiods. ting twoent interim Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter Year-to-date 22 - For eign reports Curr ency Chapter 23 - RelatedPart yreporting Disclosures Financial for the period which begins on the first day of the fiscal year and Chapter 24 - Specialized ends on Iandustr givenies interim date. Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS and 2 0 03 : Examples I n t erp re t at ion an d Ap p licat io n o f Concepts, Rules, I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Alternative Mir Concepts of Interim Reporting za John Wi ley & Sons © 2003 (952 pages)

The argument is often made that interim reporting is generically different than financial reporting for a This com pact and t ruly com pr ehensive qui ck - refer ence full fiscal year. Two distinct views ants of interim developed. Under the first view, the interim pr esent s account with areporting guide to have depend on for period is considered to be an part of the accounting period. Annual operating expenses assistance in integral the prepar at ion andannual under standing of financial present accordance with I AS. on forecasted annual activity levels such are estimated andstatements then allocated to ed theininterim periods based as sales volume. When this approach is employed, the results of subsequent interim periods must be T ab le of Con t en t s adjusted to reflect estimation errors. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Under the second view, the interim period is considered to be a discrete accounting period with status equal to a fiscal year. Thus, there are no estimations or allocations different from those used for annual Chapter 1 - I ntr oduction to I nter national Accounting Standar ds reporting. The same expense recognition rules apply as under annual reporting, and no special interim Chapter 2 or- deferrals Balance Sheet accruals are applied. Annual operating expenses are recognized in the interim period in I ncom e Statement, Stat em Chan ges Equit y, and Statem ent which they are incurred, irrespective ofent theofnumber of in interim periods benefited. Chapter 3 Preface

of Recognized Gains and Losses

Chapter 4 - Cash St at em entargue that the unique expense recognition procedures are necessary to Proponents of theFlow integral view Chapter 5 - Financial I nstr uments—Cash and Receiv ables avoid creating possibly misleading fluctuations in period-to-period results. Using the integral view Chapter - I nventor y results 6in interim earnings which are indicative of annual earnings and, thus, useful for predictive

purposes. of the tion, discrete view, Constr on theuction other Contr hand,act argue that the smoothing of interim Chapter 7 -Proponents Rev enue Recogni I ncluding s results 8for -purposes forecasting annual earnings has undesirable effects. For example, a turning Chapter Property ,ofPlant , and Equipment point in9an-earnings trend that Chapter I ntangi ble Asset s occurred during the year may be obscured. I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 -have noted that the distinction between the integral and the discrete approaches is arbitrary Yet others I nvestm ent Pr oper ty

and, in fact, rather meaningless. These critics note that interim periods bear the same relationship to full years as fiscal years do to longer intervals in the life cycle of a business, and that all periodic Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12reporting financial Balancenecessitates Sheet Date the making of estimates and allocations. Direct costs and revenues are best accounted for as incurred and earned, respectively, which equates a discrete approach in most Chapter 13 - Financial I nstr uments—LongTer m Debt instances, while many indirect costs are more likely to require that an allocation process be applied, Chapter 14 - Leases which is suggestive of an integral approach. In short, a mix of methods will be necessary as dictated by Chapter 15 - I ncom e Taxes the nature of the cost or revenue item being reported upon, and neither a pure integral nor a pure Chapter 16 - Em ploy ee Benefit s discrete approach could be utilized in practice. The International Accounting Standard on interim Chapter 17 - Stock holder s' Equit y financial reporting, IAS 34, does, in fact, adopt a mix of the discrete and the integral views, as Chapter 18 - Earnings Per Share described more fully below. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

Objectives of Interim Financial Reporting: The IASC Perspective

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

The purpose of interim financial reporting is to provide information which will be useful in making

Chapter 23 decisions - Related- Part economic (as,yofDisclosures course, is annual financial information). Furthermore, interim financial Chapter 24 Specialized ndustr iesinformation specifically about the financial position, performance, and reporting is expected toI provide Chapter - I nflationposition and Hyperinflation change25 in financial of an enterprise. The objective is general enough to embrace the Chapter 26 - Gov nm ent Gr an ts preparation anderpresentation of either full financial statements or condensed information. Appendix A - Di sclosure Checklist

While accounting is often criticized for looking at anedentity's through the rearview mirror, in Appendix B - I llustrativ e Financial St atem ent s Pr esent Underperformance I AS fact it is well understood standard setters be useful, such information must provide insights Appendix C - Com parison ofbyI AS, US GAAP, andthat UK to GAAP

into future performance. As outlined in the objective of the IASC's standard on interim financial reporting, IAS 34, the primary, but not exclusive, purpose of timely interim period reporting is to provide List of Tables interested parties (e.g., investors and creditors) with an understanding of the enterprise's earningsList of Ex hibits and Ex am ples generating capacity and its cash-flow-generating capacity, which are clearly future-oriented. List of Sidebar s Furthermore, the interim data is expected to give interested parties not only insights into such matters as seasonal volatility or irregularity, and provide timely notice about changes in patterns or trends, both as to income or cash-generating behavior, but also into such balance-sheet-based phenomena as liquidity. I ndex

In reaching the positions set forth in the standard, the IASC had considered the importance of interim reporting in identifying the turning points in an enterprise's earnings or liquidity. It was concerned that the integral approach to interim reporting can mask these turning points and thereby prevent users of

the financial statements from taking appropriate actions. If this observation is correct, this would be an important reason to endorse the discrete view. In fact, the extent to which application of an integral approach masks W turning is probably related extent applied to revenue and ile y I points AS 2 0 03 : I n t erp re t at ionto anthe d Ap p licatofio"smoothing" n of expense data. It seems quite feasible that interim reporting in accordance with the integral view, if done I n t er n at ion al Accou n t in g St an d ar ds sensitively, wouldbyreveal turning points as much as reports prepared under the ISBN:0471227366 contrary approach. As Bar r y J. Epstein and Abbas Ali zaconsider national economic statistics, which are most commonly reported on proof of this, one Mir can seasonally adjusted John bases, Wi ley which & Sonsis©analogous 2003 (952 pages) to the consequence of utilizing an integral approach to interim reporting of enterprise Such data is often quite effective at This com pact financial and t ruly information. com pr ehensive quieconomic ck - refer ence pr esent s account ants with a guide to depend on for highlighting turning points and is accordingly employed far more typically than is unadjusted monthly assistance in the prepar at ion and under standing of financial data. statements present ed in accordance with I AS.

While the objectives of interim reporting are highly consistent with those of annual financial reporting, there are, in the IASC's view, further concerns. These were identified in the DSOP on interim financial Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing reporting Standar ds as involving matters of cost and timeliness, as well as questions of materiality and measurement accuracy. In general, the conclusion is that to be truly useful, the information must be Preface produced in a more timely fashion than is often the case with annual reports (although other research Chapter 1 - I ntr oduction to I nter national Accounting Standar ds suggests that users' tolerance for delayed information is markedly declining in all arenas), and that Chapter 2 - Balance Sheet some compromises in terms of accuracy may be warranted in order to achieve greater timeliness.

T ab le of Con t en t s

Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

- Cash Flow St at em ent Basic Conclusions about Application of Accounting Principles to - Financial I nstr uments—Cash and Receiv ables Interim Financial Reports

Chapter 4 Chapter 5 Chapter 6

- I nventor y

Chapter 7 a- cursory Rev enuereading Recognioftion, ncluding Constr uction act s Although the Istandard may give theContr impression that the IASC has favored a pure Chapter - Property and Equipment discrete8 view, some ,ofPlant the ,examples given in Appendix 2 to IAS 34 (e.g., those explaining the Chapter accounting 9 - treatment I ntangi ble of Asset income s taxes and employer payroll taxes, or the example which explains the

application of the standard to theInstr treatment of Associat contingent payments) lead one to believe that, in I nterests in Financial um ent s, es, lease Joint Ventur es, and I nvestm ent Pr oper fact, the IASC has pursued antyapproach which is a combination of both the discrete view and the Chapter - Business Combinations and Consolidat ed Fin ancial Statements integral11 view. Chapter 10 -

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Most noteworthy is the factDate that this approach is very different from the position under certain leading Balance Sheet national13accounting such as that under US GAAP, which mandates the integral Chapter - Financialstandards, I nstr uments—LongTer mimposed Debt view. It14 is interesting Chapter - Leases to note, however, that neither position is pure in the sense that not all measures are consistent withe the stated overall philosophy. Thus, the IASC's approach seems quite balanced. For Chapter 15 - I ncom Taxes example, in IAS 34 the sdiscrete view is endorsed in many situations, the method of accounting for Chapter 16 while - Em ploy ee Benefit income taxes prescribed is clearly compliant with an integral view, not a discrete view. Chapter 17 - Stock holder s' Equit y Chapter - Earnings Share Further,18IAS 34 statesPer that interim financial data should be prepared in conformity with accounting Chapter - I nterim Repor ting financial statements. The only exception noted is when a policies19 used in the Financial most recent annual Chapter - Segm ent Repor ting has been adopted since the last year-end financial report was issued. change20 in accounting principle Chapter 21 - Accounting Changes rection ofofErassets, ror s The standard also stipulates thatand theCor definitions liabilities, income, and expenses for the Chapter - Forare eigntoCurr ency interim 22 period be identical to those applied in annual reporting situations. Chapter 23 - Related- Part y Disclosures

While IAS in many instances, Chapter 24 -34, Specialized I ndustr ies is quite forthright about declaring its allegiance to the discrete view of interim financial reporting, it does incorporate a number of important exceptions to the principle. These matters are discussed in greater detail below.

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

Statements and Disclosures to Be Presented in Interim Financial Reports

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tablesof Content

an interim financial report.

List of Ex hibits and Ex am ples

Instead of repeating information previously presented in annual financial statements, interim financial List of Sidebar s reports should preferably focus on new activities, events, and circumstances that have occurred since the date of publication of the latest complete set of financial statements. IAS 34 has recognized the need to keep financial statement users abreast with the latest financial condition of an enterprise and has thus softened the presentation and disclosure requirements in the case of interim financial reports. Thus, in the interest of timeliness and cost considerations and to avoid repetition of information previously reported, the standard allows an enterprise, at its option, to provide information relating to its financial position in a condensed format, in lieu of comprehensive information provided in a complete set of financial statements prepared in accordance with IAS 1. The minimum requirements as to the

components of the interim financial statements to be presented (under this option) and their content are discussed later. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

IAS 34, paragraph 7, clarifies the following three important aspects of interim financial reporting. I n t er n at ion al Accou n t in g St an d ar ds ISBN:0471227366 by Bar r y J. Epstein and Abbas Alistandard to interim That the above concession extended by the financial reports is in no way Mir za intended to either prohibit or discourage an enterprise from presenting a complete set of interim John Wi ley & Sons © 2003 (952 pages) financial statements, as defined by IAS 1;

This com pact and t ruly com pr ehensive qui ck - refer ence esent s account ants with a guide to depend on for if an enterprise chooses to add That even in pr the case of condensed interim financial statements, assistance in the prepar at ion and under standing of financial line items or statements additional explanatory notes to the condensed present ed in accordance with I AS. financial statements, over and above

the minimum prescribed by this standard, the standard does not, in any way, prohibit or discourage T ab le the of Con t en t sof such extra information to the prescribed minimum basic requirements; and addition Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar That ds the recognition and measurement guidance in IAS 34 applies to a complete set of interim

financial statements as they apply to condensed interim financial statements. (Thus, a complete Preface set1of -interim financial includeStandar not only Chapter I ntr oduction to statements I nter nationalwould Accounting ds the disclosures specifically prescribed by this2 standard, also disclosures required by other IAS. For example, disclosures required by IAS Chapter - Balancebut Sheet 32, suchI ncom as interest rate risk orem credit risk, would toy,beand incorporated e Statement, Stat ent of Chan ges need in Equit Statem ent in a complete set of interim- financial statements, in addition of Recognized Gains and Losses to the selected footnote disclosures prescribed by IAS 34.)

Chapter 3 Chapter 4

- Cash Flow St at em ent

Chapter 6

- I nventor y

Minimum components of an interim financial Chapter 5 - Financial I nstr uments—Cash and Receiv ables

report.

IAS 34 sets forth minimum requirements in relation to condensed interim financial reports. The - Rev enue Recogni tion, I ncluding Constr uction Contr act s standard mandates that the following financial statements components be presented when an Chapter 8 - Property , Plant , and Equipment enterprise opts for the condensed format: Chapter 7 Chapter 9

- I ntangi ble Asset s

A condensed I nterests balance in Financial sheet Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty

A condensed income statementand Consolidat ed Fin ancial Statements Chapter 11 - Business Combinations Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 A condensed statement showing either all changes in equity or changes in equity other than those Balance Sheet Date

arising capital transactions withTer owners Chapter 13 - from Financial I nstr uments—Longm Debtand distributions to owners Chapter 14 - Leases

A condensed cash flow statement

Chapter 15 - I ncom e Taxes Chapter A selected 16 - Em ploy set ee of footnote Benefit s disclosures Chapter 17 - Stock holder s' Equit y

Form 18 and content interim Chapter - Earnings Per of Share

financial statements.

Chapter 19 - 34, I nterim Financial Repor ting that if an enterprise chooses the "complete set of (interim) 1. IAS paragraph 9, mandates Chapter financial 20 - Segm ent Repor ting statements" route instead of opting for the short-cut method of presenting only

interim financial statements, Chapter "condensed" 21 - Accounting Changes and Cor rection of then Er rorthe s form and content of those statements should to the requirements of IAS 1 for a complete set of financial statements. Chapter conform 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures

2. However, if an enterprise opts for the condensed format of interim financial reporting, then IAS 34, paragraph 10, requires that, at a minimum, those condensed financial statements should Chapter 25 - I nflation and Hyperinflation include each of the headings and the subtotals that were included in the enterprise's most recent Chapter 26 - Gov er nm ent Gr an ts annual financial statements, along with selected explanatory notes, as prescribed by the Appendix A - Di sclosure Checklist standard. Chapter 24 - Specialized I ndustr ies

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix It is interesting C - Comtoparison note that of I in AS,paragraph US GAAP,10, andIAS UK 34 GAAP mandates expansiveness in certain cases. The

Standard notes that extra line items or notes may need to be added to the minimum disclosures I ndex prescribed List of Tablesabove, if their omission would make the condensed interim financial statements misleading. This best explained through the following illustration: List of concept Ex hibits can and be Ex am ples List ofAt Sidebar s December 31, 2002, an enterprise's comparative balance sheet had trade receivables that were

considered doubtful, and hence, were fully reserved as of that date. Thus, on the face of the balance sheet as of December 31, 2002, the amount disclosed against trade receivables, net of provision, was a zero balance (and the comparative figure disclosed as of December 31, 2001, under the prior year column was a positive amount, since at that earlier point of time, that is, at the end of the previous year, a small portion of the receivable was still considered collectible). At December 31, 2002, the fact that the receivable (net of the provision) ended up being presented as a zero balance on the face of the balance sheet was well explained in the notes to the annual financial statements (which clearly showed the provision being deducted from the gross amount of

the receivable that caused the resulting figure to be a zero balance that was then carried forward to the balance sheet). If at the end of the first quarter of the following year the trade receivables were still doubtful of collection, creation of aio 100% W ile y I AS 2 0thereby 03 : I n tnecessitating erp re t at ion an d Ap p licat n o f provision against the entire balance of trade receivables as of March 31, 2003, and the enterprise opted to present a I n t er n at ion al Accou n t in g St an d ar ds condensed balance sheet as part of the interim financial report, it would ISBN:0471227366be misleading in this case by Bar r y J. Epstein and Abbas Ali Mirtrade za to disclose the receivables as of March 31, 2003, as a zero balance, without adding a note to the condensed balance sheet phenomenon. John Wi ley & Sonsexplaining © 2003 (952 this pages) This com pact and of t ruly com pr ehensive ck - refer ence disclosure earnings per sharequi (both basic EPS and diluted EPS) on the face 3. IAS 34 requires pr esent s account ants with a guide to depend on for of the interim income statement. This disclosure is applicable whether condensed or complete assistance in the prepar at ion and under standing of financial interim financial statements presented. statements presentare ed in accordance with I AS.

13, mandates that an enterprise should follow the same format in its interim T ab le4.of IAS Con t34, en tparagraph s statement changes in equity as did in its most recent Wiley I AS 20 03—Intshowing er pretation and Application of Iitnternational Account ingannual financial statements. Standar ds 5. IAS 34, paragraph 14, requires that an interim financial report be prepared on a consolidated Preface

if the enterprise's most recent annual financial statements were consolidated statements. Chapter basis 1 - I ntr oduction to I nter national Accounting Standar ds Regarding presentation of separate interim financial statements of the parent company in - Balance Sheet addition to consolidated interim financial statements, if they were included in the most recent I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter annual 3 statements, standard neither requires nor prohibits such inclusion in the of financial Recognized Gains andthis Losses interim financial report of the enterprise. Chapter 4 - Cash Flow St at em ent Chapter 2

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Selected- Iexplanatory notes. nventor y

Chapter 6

Chapter - Rev enue Recogni tion, I ncludingbe Constr uctionatContr act s date, there could clearly be far less While a7 number of notes would potentially required an interim Chapter 8 Property , Plant , and Equipment disclosure than is prescribed under other enacted IAS. IAS 34, paragraph 15, reiterates that it is Chapter 9 - Ito ntangi ble Asset s superfluous provide the same notes in the interim financial report that appeared in the most recent I nterests in Financial um ent statement s, Associat es, Joint Ventur es, and annual 10 financial statements, sinceInstr financial users have access to those statements in any Chapter ent at Pran oper ty case. On theI nvestm contrary, interim date it would be meaningful to provide an explanation of events Chapter 11 - Business Consolidat ed Fin ancial Statements and transactions that Combinations are significantand to an understanding of the changes in financial position and Curr ent enterprise Liabilit ies, since Prov isions, Cont ingencies, and EvInents after twith he this line of thinking, IAS performance of the the last annual reporting. keeping Chapter 12 Balance Sheet Date 34, paragraph 16, provides a list of minimum disclosures required to accompany the condensed Chapter - Financial I nstr uments—LongTer m Debt interim 13 financial statements, which are outlined below. Chapter 14 - Leases

1. A statement that the same accounting policies and methods of computation are applied in the interim financial statements compared with the most recent annual financial statements, or if Chapter 16 - Em ploy ee Benefit s those policies or methods have changed, a description of the nature and effect of the change Chapter 15 - I ncom e Taxes

Chapter 17 - Stock holder s' Equit y Chapter 2. Explanatory 18 - Earningscomments Per Share about seasonality or cyclicality of interim operations Chapter 19 - I nterim Financial Repor ting

3. The nature and magnitude of significant items affecting interim results that are unusual because of nature, size, or incidence

Chapter 20 - Segm ent Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter 22 - For eign Curreither ency in the aggregate or on a per share basis, presented separately for 4. Dividends paid, Chapter ordinary 23 - RelatedPart y (common)Disclosures shares and other classes of shares Chapter 24 - Specialized I ndustr ies

5. Revenue and and operating result for business segments or geographical segments, whichever has Chapter 25 - I nflation Hyperinflation the er entity's Chapter been 26 - Gov nm ent primary Gr an ts mode of segment reporting Appendix A - Di sclosure Checklist

6. Any significant events occurring subsequent to the end of the interim period

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Appendix C - Com parison of I AS, US and UK of GAAP 7. Issuances, repurchases, andGAAP, repayments debt and equity securities I ndex

8. Tables The nature and quantum of changes in estimates of amounts reported in prior interim periods of List of

the current financial year, or changes in estimates of amounts reported in prior financial years, if those changes have a material effect in the current interim period

List of Ex hibits and Ex am ples List of Sidebar s

9. The effect of changes in the composition of the enterprise during the interim period, like business combinations, acquisitions, or disposal of subsidiaries, and long-term investments, restructuring, and discontinuing operations 10. The changes in contingent liabilities or contingent assets since the most recent annual financial statements IAS 34, paragraph 17, provides examples of the kinds of disclosures that are required. For instance, an

example of unusual items might be (as given by IAS 34, paragraph 17a): ". . .the write-down of inventories to net realizable value and the reversal of such a writedown." W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Finally, in the case of a complete set of interim financial statements, the standard allows additional I n t er n at ion al Accou n t in g St an d ar ds disclosures mandated by other IASC standards. However, if the condensed format is used, then ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali additional disclosures Mir za required by other IAS standards are not required. John Wi ley & Sons © 2003 (952 pages)

Comparative This interim financial statements. com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

IAS 34 endorses assistance the concept is generally acknowledged to be more in of thecomparative prepar at ion reporting, and underwhich standing of financial useful than is thestatements presentation of information about only period. This is consistent with the present ed in accordance withaI single AS. position that has been taken by the accounting profession around the globe for many decades T ab le of Con t en t s (although comparative reports are not an absolute requirement in some jurisdictions, most notably in Wiley I AS 20 03—Int pretation and Application I nternational Account ing the US). The IASCerfurthermore mandates notofonly comparative (condensed or complete) interim Standar ds income statements (e.g., the second quarter of 2003 together with the second quarter of 2002), but the Preface inclusion of year-to-date columns as well (e.g., the first half of 2003 and also the first half of 2002). Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Thus, an interim income statement would comprise four columns of data. On the other hand, in the Chapter Balance Sheet case of2the- remaining components of interim financial statements, the presentation of two columns of I ncom e as Statement, ent34. of For Chan ges in Equit and components Statem ent data would suffice, mandatedStat byem IAS example, they,other of the interim financial Chapter 3 of Recognized Gains and Losses statements should present the following data for the two periods: Chapter 4

- Cash Flow St at em ent

Chapter - Financial I nstr andcurrent Receiv ables The5 balance sheet asuments—Cash of the end of the interim period and a comparative balance sheet as Chapter of the 6 -end I nventor of they immediately preceding financial year; Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

The cash flow statement cumulatively for the current financial year to date, with a comparative - Property , Plant , and Equipment statement for the comparable year-to-date period of the immediately preceding financial year; and

Chapter 8 Chapter 9

- I ntangi ble Asset s

I nterests in Financial Instr um ent s, Associat es, Joint es, and The10statement showing changes in equity cumulatively for Ventur the current financial year to date, with a Chapter I nvestm ent Pr oper ty

comparative statement for the comparable year-to-date period of the immediately preceding financial year.

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balance Sheetshould Date amply explain the above requirements of IAS 34. The following illustration

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

XYZ Enterprise presents quarterly interim financial statements and its financial year ends on December 31 each year. For the second quarter of 2003, the XYZ Enterprise should present the Chapter 15 - I ncom e Taxes following financial statements (condensed or complete) as of June 30, 2003: Chapter 14 - Leases

Chapter 16 - Em ploy ee Benefit s

1. An income statement with four columns presenting information for the 3-month periods ended June 30, 2003, and June 30, 2002; and for the 6-month periods ended June 30, Chapter 18 - Earnings Per Share 2003, and June 30, 2002 Chapter 17 - Stock holder s' Equit y

Chapter 19 - I nterim Financial Repor ting

Chapter 20 ent Repor 2. - ASegm balance sheetting with two columns presenting information as of June 30, 2003. and as of Chapter 21 - December Accounting31, Changes 2002 and Cor rection of Er ror s Chapter 22 - For eign Curr ency

3. - ARelatedcash flow with two columns presenting information for the 6-month periods Chapter 23 Partstatement y Disclosures ended June 30, 2003, and June 30, 2002

Chapter 24 - Specialized I ndustr ies

Chapter 25 andof Hyperinflation 4. - AI nflation statement changes in equity with two columns presenting information for the 6-month Chapter 26 - periods Gov er nm ent Gr an ts 30, 2003, and June 30, 2002 ended June Appendix A - Di sclosure Checklist

Furthermore, IAS 34,eparagraph 21, observes that for businesses, the inclusion of Appendix B - I llustrativ Financial St atem ent s Pr esent ed highly Under seasonal I AS additional statement columns for the months ending on the date of the most recent Appendix C income - Com parison of I AS, US GAAP, andtwelve UK GAAP interim report (also referred to as rolling twelve-month statements) would be very useful. The objective I ndex

of rolling twelve-month statements is that seasonality concerns are eliminated, since by definition each List of Tables

rolling period contains all the seasons of the year. (Rolling statements cannot correct cyclicality that encompasses more than one year, such as business recessions.) Accordingly, the IASC encourages List of Sidebar s companies affected by seasonality to consider including these additional statements, which could result in an interim income statement comprising six or more columns of data. List of Ex hibits and Ex am ples

Accounting Policies in Interim Periods Consistency. The standard logically states that interim period financial statements should be prepared using the

same accounting principles that had been employed in the most recent annual financial statements. This is consistent with the idea that the latest annual report provides the frame of reference that will be employed by users of ythe interim The interim W ile I AS 2 0 03information. : I n t erp re t at ionfact an dthat Ap p licat iodata n o f is expected to be useful in making projections of the forthcoming full-year's reported results of operations makes consistency of I n t er n at ion al Accou n t in g St an d ar ds accounting principles between the interim period and prior year important, since the projected results ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali for the current year Mirwill za undoubtedly be evaluated in the context of year-earlier performance. Unless the accounting principles John applied Wi ley & in Sons both© periods 2003 (952 are pages) consistent, any such comparison is likely to be less than fully valid. This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

The decision to require consistent application of accounting policies across interim periods and in assistance in the prepar at ion and under standing of financial statements present ed is in not accordance with I AS. of the view of interim reporting as being comparison with the earlier fiscal year only an implication largely a means of predicting the coming fiscal year results, it is also driven by the conclusion that T ab le of Con t en t s interim reporting periods stand alone (rather than being merely an integral portion of the full year). To Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing put it differently, when an interim period is seen as an integral part of the full year, it is easier to Standar ds rationalize applying different accounting policies to the interim periods, if doing so will more Preface meaningfully present the results of the portion of the full year within the boundaries of the annual Chapter 1 - I ntr oduction to I nter national Accounting Standar ds reporting period. For example, deferral of certain costs at interim balance sheet dates, notwithstanding Chapter 2 - Balance Sheet the fact that such costs could not validly be deferred at year-end, might theoretically serve the purpose I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - a more accurate predictor of full-year results. of providing of Recognized Gains and Losses Chapter 4

- Cash Flow St at em ent On the other hand, if each interim period is seen as a discrete unit to be reported upon without having

Chapter - Financial I nstr and Receiv ables to serve5 the higher goal ofuments—Cash providing an accurate prediction of the full-year's expected outcome, then a Chapter 6 I nventor y decision to depart from previously applied accounting principles is less easily justified. Given the IASC's Chapter 7 - Rev enue Recogni tion, I ncluding uctionfinancial Contr actreporting, s stated clear preference for the discrete viewConstr of interim its requirement regarding Chapter 8 Property , Plant , and Equipment consistency of accounting principles is entirely logical. Chapter 9

- I ntangi ble Asset s

Consolidated reporting I nterests in Financialrequirement. Instr um ent s, Associat es, Chapter 10 -

Joint Ventur es, and

I nvestm ent Pr oper ty

The standard also requires that, if the recentStatements annual financial statements were Chapter 11 - Business Combinations andenterprise's Consolidat edmost Fin ancial presented on a consolidated then the interim financial reports in the immediate succeeding year Curr ent Liabilit ies,basis, Prov isions, Cont ingencies, and Ev ents after t he Sheet similarly. Date should also Balance be presented This is entirely in keeping with the notion of consistency of application accounting The rule not, however, preclude or require publishing additional Chapter 13 - of Financial I nstrpolicies. uments—LongTerdoes m Debt "parent14 company Chapter - Leasesonly" interim reports, even if the most recent annual financial statements did include such additional data. Chapter 15 - I ncom e Taxes Chapter 12 -

Chapter 16 - Em ploy ee Benefit s

Materiality As Applied to Interim Financial Statements

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

Materiality one of Financial the most Repor fundamental concepts underlying financial reporting. At the same time, it Chapter 19 -isI nterim ting has largely attempts at definition. A number of international accounting standards do Chapter 20 - been Segmresistant ent Reporto ting

require 21 that- Accounting items be disclosed material or significant Chapter Changesifand Cor rection of Er ror sor are of "such size" as would warrant separate disclosure. For example, IAS 8 requires that items of income and expense within profit or loss from ordinary activities which are of such size and nature or incidence that their disclosure is relevant to Chapter 23 - Related- Part y Disclosures explain the performance of an enterprise are to be separately disclosed. However, guidelines for Chapter 24 - Specialized I ndustr ies performing an arithmetical calculation of a threshold for materiality (in order to measure "such size") is Chapter 25 - I nflation and Hyperinflation not prescribed in IAS 8, or for that matter in any other IAS, but rather, is left to the devices of each Chapter 26 - Gov er nm ent Gr an ts individual charged with responsibility for financial reporting to determine. Chapter 22 - For eign Curr ency

Appendix A - Di sclosure Checklist Appendix IAS 34 puts B - Iforward llustrativthe e Financial notion that St atem materiality ent s Pr esent for interim ed Under reporting I AS purposes will differ from that defined

in the context of parison an annual from the decision to endorse the discrete view of interim Appendix C - Com of Iperiod. AS, US This GAAP,follows and UK GAAP financial reporting, generally. Thus, for example, discontinuing operations or extraordinary items would I ndex have to be evaluated for disclosure purposes against whatever benchmark, such as gross revenue, is List of Tables deemed appropriate, asples that item is being reported in the interim financial statements, and not in the List of Ex hibits and Ex am prior statements or projected current full-year's (period's) results. The effect would List of year's Sidebarfinancial s

normally be to lower the threshold level for reporting such items: some items separately set forth in the interim financials might not be so presented in the full-year's annual report that later includes that same interim period. The objective is not to mislead the user of the information by failing to include a disclosure that might appear to be material within the context of the interim report, since that is the user's immediate frame of reference. If later the threshold is raised and items previously presented are no longer deemed worthy of such attention, this is not thought to create a risk of misleading the user, in contrast to a failure to disclose an item in the interim financial statements that measured against the performance parameters of the interim period might appear significant.

To illustrate, assume that Xanadu Corp. has gross revenues of $2.8 million in the first fiscal quarter and will, in fact, go on to earn revenues of $12 million for the full year. Traditionally, materiality is defined as 5% of revenues. If W in ilethe y I AS first2quarter 0 03 : I nan t erp extraordinary re t at ion an d gain Ap p oflicat $200,000 io n o f is incurred, this should be I n tin erthe n at ion al Accou n t in g statements St an d ar ds since it exceeds the defined 5% threshold for separately set forth quarterly financial ISBN:0471227366 by are Barno r y J. Epstein and Abbaslosses Ali materiality. If there other extraordinary for the balance of the year, it might validly be Mir za concluded that disclosure in the year-end financials may be omitted, since a $200,000 loss is not John Wi Sons © of 2003 (952 pages) material in the context ofley $12& million revenues. Thus, Xanadu's first quarter report might include an This com pact and t ruly com pr ehensive qui ck - referextraordinary. ence item defined as extraordinary that is later redefined as not being pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Recognition Issues T ab le of Con t en t s

General concepts.

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

The draft statement of principles holds that definitions of assets, liabilities, income, and expense should be the same for interim period reporting as at year-end. These items are defined in the IASC's Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Framework for the Preparation and Presentation of Financial Statements. The effect of stipulating that Chapter 2 - Balance Sheet the same definitions apply to interim reporting is to further underscore the concept of interim periods I ncom e Statement, Stat em ent Chan ges inreport. Equit y,For andexample, Statem ent being discrete units of time upon which theofstatements given the definition of Chapter 3 of Recognized Gains and Losses assets as resources generating future economic benefits for the enterprise, expenditures that could not Chapter 4 - Cash Flow St at em ent be capitalized at year-end because of a failure to meet this definition could similarly not be given Chapter 5 - Financial I nstr uments—Cash and Receiv ables deferred recognition at interim dates. Thus, by applying the same definitions at interim dates, the IASC Chapter 6 - I nventor y has mandated the same recognition rules as are applicable at the end of full annual reporting periods. Preface

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s However, the overall is that identical recognition and measurement rules are to be Chapter 8 while - Property , Plant ,implication and Equipment

applied9to interim the draft statement does go on to set forth a number of Chapter - I ntangifinancial ble Assetstatements, s modifications to the general rule. Instr Some are ines, simple of the limitations of I nterests in Financial umof entthese s, Associat Joint acknowledgment Ventur es, and certain measurement I nvestm enttechniques, Pr oper ty and the recognition that applying those definitions at interim dates might necessitate interpretations from those useful annual reporting. In other cases, the Chapter 11 - Business Combinationsdifferent and Consolidat ed Fin ancialfor Statements view, since such are not only wise, but probably standard clearly departs from Curr ent Liabilit ies, the Provdiscrete isions, Cont ingencies, anddepartures Ev ents after t he Chapter 12 Balance Sheet Date recognition and measurement issues are addressed below. fully necessary. These specific Chapter 10 -

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Recognition of Chapter 14 - Leases

annual costs incurred unevenly during the year.

Chapter 15 - I ncom e Taxes

It is frequently observed that certain types of costs are incurred in uneven patterns over the course of a fiscal year, while not being driven strictly by variations in volume of sales activity. For example, major Chapter 17 - Stock holder s' Equit y expenditures on advertising may be prepaid at the inception of the campaign; tooling for new product Chapter 18 - Earnings Per Share production will obviously be heavily weighted to the preproduction and early production stages. Certain Chapter 19 - I nterim Financial Repor ting discretionary costs, such as research and development, will not bear any predictable pattern or Chapter 20 -relationship Segm ent Repor necessary withting other costs or revenues. Chapter 16 - Em ploy ee Benefit s

Chapter 21 - Accounting Changes and Cor rection of Er ror s

If an integral view Chapter 22 - For eignapproach Curr ency had been elected by the IASC, there would be potent arguments made in support23 of -the accrual ory deferral of certain costs. For instance, if a major expenditure for overhauling Chapter RelatedPart Disclosures equipment scheduledI ndustr to occur Chapter 24 - isSpecialized ies during the final interim period, logic could well suggest that the expenditure anticipated in the earlier interim periods of the year. Under the discrete view Chapter 25 - Ishould nflationbe and Hyperinflation adopted26by- the however, such an accrual would be seen as an inappropriate attempt to Chapter Govstandard, er nm ent Gr an ts

smooth the operating results over all the interim periods constituting the full fiscal year. Accordingly, such anticipation of future expenses is prohibited, unless the future expenditure gives rise to a true Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS liability in the current period, or meets the test of being a contingency which is probable and the Appendix C - Com parison of I AS, US GAAP, and UK GAAP magnitude of which is reasonably estimable. Appendix A - Di sclosure Checklist

I ndex

List Tables many business enterprises grant bonuses to managers only after the annual results are Forofexample, List of Ex hibits am ples known; even ifand theExrelationship between the bonuses and the earnings performance is fairly predictable List from of past Sidebar behavior, s these remain discretionary in nature and need not be given. Such a bonus

arrangement would not give rise to a liability during earlier interim periods, inasmuch as the management has yet to declare that there is a commitment that will be honored. (Compare this with the situation where managers have contracts specifying a bonus plan, which clearly would give rise to a legal liability during the year, albeit one which might involve complicated estimation problems. Also, a bonus could be anticipated for interim reporting purposes if it could be considered a constructive obligation, for example, based upon past practice for which the enterprise has no realistic alternative and a realistic estimate of that obligation can be made).

Another example involves contingent lease arrangements. Often in operating leases the lessee will agree to a certain minimum or base rent, plus an amount that is tied to some variable such as sales revenue. This is typical, retail rental contracts, such W ile y Ifor AS instance, 2 0 03 : I nin t erp re t at ion an d Ap p licat io nas o ffor renting space in shopping malls, since it encourages the landlord to maintain the facilities in an appealing fashion such that I n t er n at ion al Accou n t in g St an d ar ds tenants are successful in attracting customers. Only the base amount of the periodic rental is a true ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za rent becomes payable as sales targets are achieved. If contingent rents are liability, until the higher payable based onJohn a sliding (e.g., 1%(952 of sales Wi ley scale & Sons © 2003 pages) volume up to $500,000, then 2% of amounts up to $1.5 million, etc.),This the com projected level of com full-year sales should not ence be used to compute rental accruals in pact and t ruly pr ehensive qui ck - refer esent sonly account with a rents guide payable to depend the early periods;prrather, the ants contingent onon theforactual sales levels already achieved assistance in the prepar at ion and under standing of financial should be so recorded. statements present ed in accordance with I AS.

While the foregoing examples were clearly categories of costs that, while often fairly predictable, would not constitute a legal obligation of the reporting enterprise until the associated conditions were fully Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing met, there Standar ds are other examples that are more ambiguous. Paid vacation time and holiday leave would often be enforceable as legal commitments, and if so, provision for these should be made in interim Preface financial statements. In other cases, as when accrued vacation time is lost if not used by the end of a Chapter 1 - I ntr oduction to I nter national Accounting Standar ds defined reporting year, such costs might not be subject to accrual under the discrete view. The facts of Chapter 2 - Balance Sheet each such situation would have to be carefully analyzed to make such a determination.

T ab le of Con t en t s

Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Revenues received seasonally, cyclically, or occasionally. - Cash Flow St at em ent

Chapter 4

Chapter 5 - Financial nstr uments—Cash ables The standard is clearI that revenues suchand as Receiv dividend income and interest earned cannot be anticipated Chapter 6 I nventor y or deferred at interim dates, unless such practice would be acceptable at year-end. Thus, interest Chapter - Rev enue Recognifor, tion, I ncluding Constr uction Contr s represents a contractual income7is typically accrued since it is well established thatact this Chapter 8 Property , Plant , and Equipment commitment. Dividend income, on the other hand, is not recognized until declared, since even when Chapter 9 - I ntangibased ble Asset highly predictable on spast experience, these are not obligations of the paying corporation until

actually declared. I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty Furthermore, seasonality factors should not be smoothed out Statements of the financial statements. For example, Chapter 11 - Business Combinations and Consolidat ed Fin ancial

retail stores Curr typically have ies, a high percentage annual revenues occurring ent Liabilit Prov isions, Contof ingencies, and Ev ents after t hein the holiday shopping period, and the quarterly other interim financial statements should fully reflect such seasonality; thus, Balance SheetorDate recognize as it occurs. Chapter 13 it - Financial I nstr uments—Long- Ter m Debt Chapter 12 -

Chapter 14 - Leases

Income Chapter 15 -taxes. I ncom e Taxes Chapter 16 - Em ploy ee Benefit s

The fact that income taxes are assessed annually by the taxing authorities is the primary reason for reaching the conclusion that taxes are to be accrued based on the estimated average annual effective Chapter 18 - Earnings Per Share tax rate for the full fiscal year. Further, if rate changes have been enacted to take effect later in the Chapter 19 -(while I nterim Financial Repor tingtake effect in midyear, more likely this would be an issue if the fiscal year some rate changes Chapter 20 -reports Segm ent ting enterprise on Repor a fiscal year and the new tax rates become effective at the start of a calendar Chapter 21 expected - Accounting Changes Cor rection of Er ror s year), the effective rateand should take into account the rate changes as well as the anticipated Chapter - For eign to Curr pattern 22 of earnings beency experienced over the course of the year. Thus, the rate to be applied to Chapter - RelatedPart(or y Disclosures interim 23 period earnings losses, as discussed further below) will take into account the expected level of earnings the entire forthcoming year, as well as the effect of enacted (or substantially enacted) Chapter 24 - for Specialized I ndustr ies changes tax rates become operative later in the fiscal year. In other words, as the standard Chapter 25in- the I nflation and to Hyperinflation puts it, 26 the-estimated average Chapter Gov er nm ent Gr an tsannual rate would "reflect a blend of the progressive tax rate structure expectedA to besclosure applicable to the full year's earnings including enacted or substantially enacted changes Appendix - Di Checklist in the income tax rates scheduled to take later the financial year." Appendix B - I llustrativ e Financial St atem enteffect s Pr esent edinUnder I AS Chapter 17 - Stock holder s' Equit y

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

IAS 34 addresses in detail the various computational aspects of an effective interim period tax rate which are summarized in the following paragraphs.

I ndex

List of Tables List of Ex hibits and am ples Multiplicity ofExtaxing

jurisdictions and different categories of income.

List of Sidebar s

Most enterprises are subject to a multiplicity of taxing jurisdictions, and in some instances the amount of income subject to tax will vary from one to the next, since different laws will include and exclude disparate items of income or expense from the tax base. For example, interest earned on governmentissued bonds may be exempted from tax by the jurisdiction that issued them, but be defined as fully taxable by other tax jurisdictions the entity is subject to. To the extent feasible, the appropriate estimated average annual effective tax rate should be separately ascertained for each taxing jurisdiction and applied individually to the interim period pretax income of each jurisdiction, so that the most accurate estimate of income taxes can be developed at each interim reporting date. In general, an

overall estimated effective tax rate will not be as satisfactory for this purpose as would a more carefully constructed set of estimated rates, since the pattern of taxable and deductible items will fluctuate from one period to the W next. ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Similarly, if the tax law prescribes different income tax rates forISBN:0471227366 different categories of income (such as by Bar r y J. Epstein and Abbas Ali the tax rate on capital Mir za gains which usually differs from the tax rate applicable to business income in many countries), John then Wi to ley the &extent practicable, a separate tax rate should be applied to each category Sons © 2003 (952 pages) of interim period pretax income. The standard, while mandating such detailed rules of computing and This com pact and t ruly com pr ehensive qui ck - refer ence applying tax ratespracross jurisdictions or across categories of on income, recognizes that in practice such esent s account ants with a guide to depend for a degree of precision may not be achievable all under cases. Thus, in such cases, IAS 34 softens its assistance in the prepar at ion in and standing ofall financial ed in accordance withacross I AS. jurisdictions or across categories of stand and allows statements usage of a present "weighted-average of rates income" provided "it is a reasonable approximation of the effect of using more specific rates." T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Tax credits. Standar ds Preface

In computing an expected effective tax rate for a given tax jurisdiction, all relevant features of the tax I ntr oduction to I nter national Accounting Standar ds regulations- should be taken into account. Jurisdictions may provide for tax credits based on new Chapter 2 Balance Sheet investment in plant and machinery, relocation of facilities to backward or underdeveloped areas, I ncom e Statement, Stat em ent levels of Chan in Equit y, and entand the expected credits research and development expenditures, ofges export sales, andStatem so forth, Chapter 3 of Recognized Gains and Losses against the tax for the full year should be given consideration in the determination of an expected Chapter 4 - Cash Flow St at em ent effective tax rate. Thus, the tax effect of new investment in plant and machinery, when the local taxing Chapter 5 - an Financial I nstr uments—Cash and Receiv ables in tangible productive assets, will be reflected body offers investment credit for qualifying investment Chapter 6 I nventor y in those interim periods of the fiscal year in which the new investment occurs (assuming it can be Chapter Rev enue tion,fiscal I ncluding uction Contrinact s period in which the new investment forecast7 to- occur laterRecogni in a given year),Constr and not merely the Chapter 8 Property , Plant , and Equipment occurs. This is consistent with the underlying concept that taxes are strictly an annual phenomenon, but Chapter 9 - I ntangi s discrete view of interim financial reporting. it is at variance withble theAsset purely Chapter 1

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

The interim reporting standard I nvestm ent Pr oper tynotes that, although tax credits and similar modifying elements are to be taken into in Combinations developing theand expected effective tax rate to apply to interim earnings, tax Chapter 11 account - Business Consolidat ed Fin ancial Statements benefits which will relate to onetime events are to be reflected in theafter interim Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents t he period when those events Chapter 12 Balance Sheet Date take place. This is perhaps most likely to be encountered in the context of capital gains taxes incurred in connection with occasional dispositions and other capital assets; since it is not Chapter 13 - Financial I nstr uments—LongTerofminvestments Debt feasible14to -project Chapter Leasesthe rate at which such transactions will occur over the course of a year, the tax effects 15 should be recognized only as the underlying events transpire. Chapter - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s

While in most cases tax credits are to be handled as suggested in the foregoing paragraphs, in some jurisdictions tax credits, particularly those that relate to export revenue or capital expenditures, are in Chapter 18 - Earnings Per Share effect government grants. The accounting for government grants is set forth in IAS 20; in brief, grants Chapter 19 - I nterim Financial Repor are recognized in income over the ting period necessary to properly match them to the costs which the Chapter 20 -intended Segm enttoRepor ting grants are offset or defray. Thus, compliance with both IAS 20 and IAS 34 would Chapter 21 - Accounting Changes and Cor analyzed rection of to Er ror s necessitate that tax credits be carefully identify those which are, in substance, grants, and Chapter 22 - For eign Currcredit ency consistent with its true nature. then accounting for the Chapter 17 - Stock holder s' Equit y

Chapter 23 - Related- Part y Disclosures

Tax loss tax creditI ndustr carrybacks Chapter 24 - Specialized ies

and carryforwards.

Chapter 25 - I nflation and Hyperinflation

When an interim period loss gives rise to a tax loss carryback, it should be fully reflected in that interim period. Similarly, if a loss in an interim period produces a tax loss carryforward, it should be recognized Appendix A - Di sclosure Checklist immediately, but only if the criteria set forth in IAS 12 are met. Specifically, it must be deemed probable Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS that the benefits will be realizable before the loss benefits can be given formal recognition in the Appendix C - Com parison of I AS, US GAAP, and UK GAAP financial statements. In the case of interim period losses, it may be necessary to assess not only I ndex whether the enterprise will be profitable enough in future fiscal years to utilize the tax benefits List of Tables with the loss, but, furthermore, whether interim periods later in the same year will provide associated List of Ex hibits and Ex am ples earnings of sufficient magnitude to absorb the losses of the current period. Chapter 26 - Gov er nm ent Gr an ts

List of Sidebar s

IAS 12 provides that changes in expectations regarding the realizability of benefits related to net operating loss carryforwards should be reflected currently in tax expense. Similarly, if a net operating loss carryforward benefit is not deemed probable of being realized until the interim (or annual) period when it in fact becomes realized, the tax effect will be included in tax expense of that period. Appropriate explanatory material must be included in the notes to the financial statements, even on an interim basis, to provide the user with an understanding of the unusual relationship between pretax accounting income and the provision for income taxes.

Volume rebates or other anticipated price changes in interim reporting periods. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f t er nwhere at ion al Accourebates n t in g St d ar ds IAS 34 prescribesI nthat volume oranother contractual changes in the prices of goods and ISBN:0471227366 by Bar r ytoJ.occur Epstein and Ali reporting period, services are anticipated over theAbbas annual these should be anticipated in the Mir za interim financial statements for periods within that year. The logic is that the effective cost of materials, Johnwill Wi ley Sons ©later 2003in (952 labor, or other inputs be &altered thepages) year as a consequence of the volume of activity during This com pact and t ruly com ehensive ck - refer ence earlier interim periods, among others, and it pr would be aqui distortion of the reported results of those earlier pr esent s account ants with a guide to depend onbased for periods if this were not taken into account. Clearly this must be on estimates, since the volume assistance in the prepar at ion and under standing of financial of purchases, etc., in later portions year may not materialize as anticipated. As with other statements presentof edthe in accordance with I AS. estimates, however, as more accurate information becomes available this will be adjusted on a T ab le of Con t en t s meaning that the results of earlier periods should not be revised or corrected. This is prospective basis, Wiley I AS 20with 03—Int pretation and Application I nternational Account ingfurthermore consistent with IAS consistent theeraccounting prescribed for of contingent rentals and is Standar ds 37's guidance on provisions. Preface

The requirement to take to volume rebates Accounting and similarStandar adjustments into effect in interim period financial Chapter 1 - I ntr oduction I nter national ds reporting equally Chapter 2 applies - Balance Sheetto vendors or providers, as well as to customers or consumers of the goods and services. In both instances,Stat however, it must probable thatent such adjustments have I ncom e Statement, em ent of Chan be gesdeemed in Equit y, and Statem been earned will occur, Gains beforeand giving recognition to them in the financials. This high a threshold has oforRecognized Losses been set the definitions Chapter 4 because - Cash Flow St at em ent of assets and liabilities in the IASC's Framework for the Preparation and Presentation of Financial Statementsand require they be recognized only when it is probable that Chapter 5 - Financial I nstr uments—Cash Receivthat ables the benefits will flow into or out from the enterprise. Thus, accrual would only be appropriate for Chapter 6 - I nventor y contractual price adjustments and related matters. Discretionary Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act srebates and other price adjustments, even if typically experienced in earlier periods, would not be given formal recognition in the interim Chapter 8 - Property , Plant , and Equipment financials. Chapter 3

Chapter 9

- I ntangi ble Asset s

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 Depreciation and amortization in interim periods. I nvestm ent Pr oper ty Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

The rule regarding depreciation and amortization in interim periods is more consistent with the discrete

Currreporting. ent LiabilitCharges ies, Prov to isions, Cont ingencies, Ev ents after t are he to be related to only those view of12 interim be recognized in theand interim periods Chapter Balance Sheet Date

assets actually employed during the period; planned acquisitions for later periods of the fiscal year are not to be taken into account.

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Chapter 15 -rule I ncom e Taxes While this seems entirely logical, it can give rise to a problem that is not encountered in the context of most16 other of Benefit revenue Chapter - Emtypes ploy ee s or expense items. This occurs when the tax laws or financial reporting

conventions permit or require Chapter 17 - Stock holder s' Equitthat y special allocation formulas be used during the year of acquisition (and often ofShare an asset. In such cases, depreciation or amortization will be an amount other Chapter 18 -disposition) Earnings Per than the19amount thatFinancial would be computed based purely on the fraction of the year the asset was in Chapter - I nterim Repor ting service.20For example, assume Chapter - Segm ent Repor ting that convention is that one-half year of depreciation is charged during

the year21the asset is acquired, of how many Chapter - Accounting Changesirrespective and Cor rection of Er ror s months it is in service. Further assume that a

particular asset is acquired at the inception of the fourth quarter of the year. Under the requirements of IAS 34, the first three quarters would not be charged with any depreciation expense related to this Chapter 23 - Related- Part y Disclosures asset (even if it was known in advance that the asset would be placed in service in the fourth quarter). Chapter 24 - Specialized I ndustr ies However, this would then necessitate charging fourth quarter operations with one-half year's (i.e., two Chapter 25 - I nflation and Hyperinflation quarters') depreciation, which arguably would distort that final period's results of operations. Chapter 22 - For eign Curr ency

Chapter 26 - Gov er nm ent Gr an ts

Appendix A - Diaddress sclosurethis Checklist IAS 34 does problem area. It states that an adjustment should be made in the final interim Appendix period soB that - I llustrativ the sum e of Financial interimStdepreciation atem ent s Pr esent and amortization ed Under I ASequals an independently computed

annual charge for these of items. there is no requirement that financial statements be Appendix C - Com parison I AS, However, US GAAP, since and UK GAAP separately presented for a final interim period (and most enterprises, in fact, do not report for a final I ndex period), such an adjustment might be implicit in the annual financials, and presumably would be List of Tables explained in the material (the standard does not explicitly require this, however). List of Ex hibits andnotes Ex amifples List of Sidebar s

The alternative financial reporting strategy, that is, projecting annual depreciation, including the effect of asset dispositions and acquisitions planned for or reasonably anticipated to occur during the year, and then allocating this ratably to interim periods, has been rejected. Such an approach might have been rationalized in the same way that the use of the effective annual tax rate was in assigning tax expense or benefits to interim periods, but this has not been done.

Inventories.

Inventories represent a major category for most manufacturing and merchandising enterprises, and some inventory costing methods pose unique problems for interim financial reporting. In general, however, the same inventory should for interim reporting as for annual W ile y I AS 2costing 0 03 : I nprinciples t erp re t at ion an dbe Aputilized p licat io no f reporting. However, the use of estimates in determining quantities, costs, and net realizable values at I n t er n at ion al Accou n t in g St an d ar ds interim dates will by be Bar more pervasive, ISBN:0471227366 r y J. Epstein and Abbas Ali Mir za

Three particular difficulties addressed in IAS 34. These are the matters of determining net John Wi leyare & Sons © 2003 (952 pages) realizable values This at interim dates, the use of the LIFO costing method, and the allocation of com pact and t ruly com pr ehensive qui ck - refer ence manufacturing variances. pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial

Regarding net realizable value determination, the standard expresses the belief that the determination statements present ed in accordance with I AS. of NRV at interim dates should be based on selling prices and costs to complete at those dates. T ab le of Con t en t s Projections should therefore not be made regarding conditions which possibly might exist at the time of Wiley I AS 20 03—Int erFurthermore, pretation and write-downs Application oftoI nternational Account the fiscal year-end. NRV taken at interiming reporting dates should be Standar ds reversed in a subsequent interim reporting period only if it would be appropriate to do so at the end of Preface the financial year. Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2 - Balance Sheet LIFO inventory costing poses unique problems because it is almost solely driven by tax regulations (although in Iancom few eindustries Statement, a case Stat em can entbeofmade Chan ges thatinthe Equit physical y, andflow Statem of goods ent follows a last-in, firstChapter 3 Recognized and Losses out pattern) of that provide anGains economic incentive to use the method. As a tax-driven accounting Chapter 4 - annual Cash Flow St at em ent is usually prescribed, and certain adjustments required at year-end procedure, measurement Chapter 5 - Financial I nstr uments—Cash Receiv ables can potentially interfere with meaningful and financial reporting if made at interim dates. The most Chapter commonly 6 -encountered I nventor y issue is that of liquidation of lower cost LIFO layers at interim dates, only to

have the quantity restored before year-end. Chapter 7 physical - Rev enue Recogni tion, I ncluding Constr uction Contr act s Chapter 8

- Property , Plant , and Equipment

To avoid distorting the operating results of the interim period in which the liquidation occurs (overstating - I ntangi ble Asset s interim profits by expensing lower cost inventory through cost of sales), as well as that of the later I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - the inventory volume is restored (having the reverse effect), common practice has long period when I nvestm ent Pr oper ty been to provide a reserve for temporary liquidations of inventory, effectively charging current period Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements cost of sales for the higher level of costs, which it is expected will be incurred when the temporary Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 -is reversed. This is the method sanctioned under US GAAP as well. liquidation Balance Sheet Date Chapter 9

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

The last of the special issues related to inventories that are addressed by IAS 34 concerns allocation of variances at interim dates. When standard costing methods are employed, the resulting variances are Chapter - I ncom etoTaxes typically15allocated cost of sales and inventories in proportion to the dollar magnitude of those two Chapter 16 - Em ploy ee Benefit s other rational system. IAS 34 requires that the price, efficiency, captions, or according to some Chapter 17 and - Stock holdervariances s' Equit y of a manufacturing enterprise are recognized in income at interim spending, volume Chapter 18 dates - Earnings Share reporting to thePer extent those variances would be recognized at the end of the financial year. It Chapter - I nterim Repor tinghave prescribed deferral of such variances to year-end based on should 19 be noted thatFinancial some standards the premise that some of the variances will tend to offset over the course of a full fiscal year, Chapter 20 - Segm ent Repor ting particularly the result Changes of volumeand fluctuations toror seasonal factors. When variance allocation is thus Chapter 21 - ifAccounting Cor rectiondue of Er s deferred, full balance of the variances are placed onto the balance sheet, typically as additions to or Chapter 22 the - For eign Curr ency deductions the Part inventory accounts. However, IAS 34 expresses a preference that these variances Chapter 23 - from Relatedy Disclosures be disposed of at interim dates (instead of being deferred to year-end) since to not do so could result in Chapter 24 - Specialized I ndustr ies reporting inventory at interim dates at more or less than actual cost. Chapter 25 - I nflation and Hyperinflation Chapter 14 - Leases

Chapter 26 - Gov er nm ent Gr an ts

Foreign Currency Translation Adjustments at Interim Dates

Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Given the adoption the viewUK regarding Appendix C IASC's - Com parison of Iof AS, USdiscrete GAAP, and GAAP interim reporting, it is not surprising that the

same approach to translation gains or losses as is mandated at year-end would be adopted in IAS 34. IAS 21 prescribes rules for translating the financial statements for foreign operations into the reporting List of Tables currency and also includes guidelines for using historical, average, or closing foreign exchange rates. It List of Ex hibits and Ex am ples also lays down rules for either including the resulting adjustments in income or in equity. IAS 34 List of Sidebar s requires that consistent with IAS 21, the actual average and closing rates for the interim period be used in translating financial statements of foreign operations at interim dates. In other words, the future changes to exchanges rates (in the current financial year) are not allowed to be anticipated by IAS 34. I ndex

Where IAS 21 provides for translation adjustments to be recognized in the income statement in the period it arises, IAS 34 stipulates that the same approach be applied during each interim period. If the adjustments are expected to reverse before the end of the financial year, IAS 34 requires that enterprises not defer some foreign currency translation adjustments at an interim date.

Adjustments to Previously Reported Interim Data While year-to-date W financial ile y I AS reporting 2 0 03 : I n is t erp notrerequired, t at ion analthough d Ap p licat theiostandard n of does recommend it in t er n at period ion al Accou n t in gthe St concept an d ar dsfinds some expression in the standard's position addition to normalI ninterim reporting, y J. Epstein and interim Abbas Ali that adjustments by notBar ber made to earlier periods' results.ISBN:0471227366 By measuring income and expense on Mir zaand then effectively backing into the most recent interim period's presentation by a year-to-date basis, Johnwas Wi ley & Sons in © 2003 (952 pages) deducting that which reported earlier interim periods, the need for retrospective adjustment of This com pact and t com pr ehensive qui ckthere - refermay encebe the need for disclosure of the information that was reported earlierruly is obviated. However, pr esent s account ants with a guide to depend on for effects of such measurement strategies when this results effectively in including adjustments in the assistance in the prepar at ion and under standing of financial most current interim period's present reported statements ed results. in accordance with I AS. T ab le of Con t en t s

Accounting Changes in Interim Periods

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

IAS 34, paragraph 43, requires that a change in accounting policy other than one for which the transition is specified by a new IAS should be reflected either

Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter - Balance By 2restating the Sheet financial statements of prior interim periods of the current year and the comparable I ncom e of Statement, Stat em ent of Chan ges in Equit y,follows and Statem ent interim periods the prior financial year, if the enterprise the benchmark treatment under Chapter 3 IAS 8, orof Recognized Gains and Losses Chapter 4

- Cash Flow St at em ent By 5restating the financial statementsand of prior interim Chapter - Financial I nstr uments—Cash Receiv ables periods of the current financial year, without

restating the comparable interim periods of the prior financial years (i.e., when the enterprise Chapter 6 - I nventor y follows allowed alternative treatment under IAS 8). Chapter 7 - the Rev enue Recogni tion, I ncluding Constr uction Contr act s Chapter 8

- Property , Plant , and Equipment

The first option would be more informative because of the salutary effects on comparability of financial ntangi ble Asset s data for the- Icurrent and preceding years. If the second option is adopted and the allowed alternative I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and treatment Chapter 10 is - followed, then the entire cumulative adjustment is to be made prospectively in the I nvestm ent Pr oper ty determination of the profit or loss for the period in which the accounting policy is changed. Chapter 9

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Curr ent Liabilit ies, Prov isions, Cont ingencies, Evensure ents after One of 12 the-objectives of the above requirement of IAS 34and is to thatt he a single accounting policy is Chapter Sheet applied to a Balance particular classDate of transactions throughout the entire financial year. To allow differing Chapter 13 - policies FinancialtoI nstr uments—LongTer m class Debt of transactions within a single financial year would accounting be applied to the same Chapter 14 Leases be disastrous since it would, as pointed out by the standard, result in "interim allocation difficulties, Chapter 15 operating - I ncom e Taxes obscured results, and complicated analysis and understandability of interim period Chapter 16 - Em ploy ee Benefit s information." Chapter 17 - Stock holder s' Equit y

Use of inShare interim Chapter 18estimates - Earnings Per

periods.

Chapter 19 - I nterim Financial Repor ting

IAS 34, paragraph 41, recognizes that preparation of interim financial statements will require a greater use of estimates than annual financial statements. Appendix 3 to the standard provides examples of Chapter 21 - Accounting Changes and Cor rection of Er ror s use of estimates to illustrate the application of this standard in this regard. The Appendix provides nine Chapter 22 - For eign Curr ency examples covering areas ranging from inventories to pensions. For instance, in the case of pensions, Chapter 23 - Related- Part y Disclosures the Appendix states that for interim reporting purposes, reliable measurement is often obtainable by Chapter 24 - Specialized I ndustr ies valuation, as opposed to obtaining the same from a professionally extrapolation of the latest actuarial Chapter 25 I nflation and Hyperinflation qualified actuary, as would be expected at the end of a financial year. Readers are advised to read the Chapter 26 - Gov er contained nm ent Gr anintsAppendix 3 of IAS 34 for further guidance on the subject. other illustrations Chapter 20 - Segm ent Repor ting

Appendix A - Di sclosure Checklist Appendix Impairment B - I llustrativ of assets e Financial in interim St atem ent periods. s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

IAS 34, paragraph 36, stipulates that an enterprise should apply the same impairment testing, I ndex

recognition, and reversal criteria at an interim period as it would at the end of its financial year. However, this does not mean that a detailed impairment calculation as prescribed by IAS 36 would List of Ex hibits and Ex am ples automatically need to be used at interim periods; instead, an enterprise would need to review for List of Sidebar s indications of significant impairments since the date of the most recent financial year to determine whether such a calculation is required. List of Tables

Interim financial reporting in hyperinflationary economies. IAS 34, paragraph 32, requires that interim financial reports in hyperinflationary economies be prepared using the same principles as at the financial year-end. Thus, the provisions of IAS 29 would need to be complied with in this regard. IAS 34 stipulates that in presenting interim data in the measuring unit,

enterprises should report the resulting gain or loss on the net monetary position in the interim period's income statement. IAS 34 also requires that enterprises do not need to annualize the recognition of the gain or loss or use rates W estimated ile y I AS 2 annual 0 03 : I ninflation t erp re t at ion in anpreparing d Ap p licatinterim io n o f period financial statements in a hyperinflationary economy. I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Chapter 20: Segment Reporting I n t er n at ion al Accou n t in g St an d ar ds ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali za PerspectiveMirand Issues

John Wi ley & Sons © 2003 (952 pages)

Segment reporting This is the comdisclosure pact and t ruly of information com pr ehensive aboutquianckentity's - refer ence operations in different industries, its esentexport s account antsand with guidecustomers. to depend on forrequirement for such disclosure is a foreign operationsprand sales, itsamajor The assistance in the prepar at ion and under standing of financial relatively recent development in the history of financial reporting. It was necessitated by the continued statements present ed in accordance with I AS. growth of complex entities operating in various disparate industries or geographical markets, making T ab le of Con tfinancial en t s entity-level statements less useful for purposes of predicting future earnings and cash flows unless detailed information is provided.of I nternational Account ing Wiley I ASfurther 20 03—Int er pretation and Application Standar ds

Proposals to require segment financial information were met with opposition from preparers which Preface objected of them, and particularly to the feared disclosure of sensitive Chapter 1 to- the I ntradditional oduction toeffort I nterrequired national Accounting Standar ds competitive data. These Chapter 2 - Balance Sheetconcerns paled, however, in comparison to the important needs of users of

financial information. It became clear that, without the ability to understand which of an entity's major

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - were making the most positive contributions to its results, users would be hindered in their operations of Recognized Gains and Losses

ability to4 make intelligent decisions. Ultimately, this need was seen as being more important Chapter - Cash Flow St atinvestment em ent than the5 perceived competitive risks to the entity. Chapter - Financial I nstr uments—Cash andreporting Receiv ables Chapter 6

- I nventor y The US Securities and Exchange Commission began requiring line-of-business information in

Chapter 7 - annual Rev enue Recogni tion, Ibut ncluding Constr uction Contr act s was not included in the annual registrants' filings in 1970, in many instances this data Chapter 8 Property , Plant , and Equipment reports issued to stockholders. By 1974, the SEC required registrants to include some of this line-ofChapter 9 information - I ntangi bleinAsset business theirs reports to stockholders. Finally, SFAS 14 was issued (in 1976), which I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and established Chapter 10 - specific requirements under US GAAP for the disclosure of segment information in financial I nvestm ent Pr oper ty reports issued to stockholders. These requirements were later deleted for interim reports and for nonChapter 11 - Business Combinations Consolidat ed was Fin ancial Statements publicly-held companies. Under thisand standard, there a rather wide range of acceptable definitions Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he of industry segments. Chapter 12 Balance Sheet Date Chapter 13international - Financial I standard, nstr uments—LongTer m Debt The first IAS 14, issued in 1981, was closely modeled on the US standard, and Chapter thus the14range - Leases of acceptable definitions of industry segments was also fairly wide. Subsequently, the

IASC significantly Chapter 15 - I ncom erevised Taxes this standard, effective in mid-1998, by changing the method of determining reportable conform Chapter 16 -segments Em ploy eeto Benefit s more closely to how the reporting entity is internally managed. Later, standard the US andyelsewhere essentially conformed their standards to this new reporting Chapter 17setters - Stockin holder s' Equit philosophy by Share IAS, as well. Chapter 18 - pioneered Earnings Per Chapter 19 - I nterim Financial Repor ting

Under the current approach, the burden of preparing segment disclosures is lessened if the segment data captured by the entity's managerial reporting system corresponds with the standard's definitions of Chapter - Accounting Changes and Cor rection Er ror s it will still be necessary to disaggregate and industry21and/or geographical segments. In otherofcases, Chapter 22 For eign Curr ency reaggregate data from the management information system in order to develop needed financial Chapter 23 -disclosures. Related- PartSegment y Disclosures statement information, while recommended for all issuers of financial statements, Chapter 24 - only Specialized I ndustr is required for those whichies have publicly traded debt or equity issues or are in the process of Chapter 25 a- Ipublic nflation and Hyperinflation preparing offering. Chapter 20 - Segm ent Repor ting

Chapter 26 - Gov er nm ent Gr an ts

IAS 14 offers Appendix A - Didetailed sclosure guidance Checklist on identifying business and geographical segments. The standard

requires that entities refer to their organizational structure and internal reporting systems in order to identify these segments. If entities' internal segments are not geographical or products/service-based, Appendix C - Com parison of I AS, US GAAP, and UK GAAP then the entities are required to make reference to the next lower level of internal segmentation to I ndex identify reportable segments. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

List of Tables

List Ex hibits and am ples Theofstandard setsEx forth detailed guidance for a dual presentation of segment data. One basis of List of Sidebar s is primary and the other secondary. Segment information should be prepared on the segmentation

basis of the same accounting policies as are the financial statements of the consolidated group or entity. Disclosure requirements for the secondary segments are considerably less detailed than for the primary ones. Sources of IAS IAS 14

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

ile yTerms I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f DefinitionsWof I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za Accounting policies

John Wi ley & Sons © 2003 (952 pages)

Specific principles, bases, conventions, rules and practices adopted by an entity in This com pact and t ruly com pr ehensive qui ck - refer ence preparing presenting itsafinancial pr esent sand account ants with guide tostatements. depend on for assistance in the prepar at ion and under standing of financial

Business segment statements present ed in accordance with I AS. A distinguishable component of an enterprise that is engaged in providing a product T ab le of Con t en t s or service or group of related products or services, and that is subject to risks and Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing returns that are different from those of other business segments. Standar ds Preface

Cash flows

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Inflows and outflows of cash and cash equivalents.

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Common Chapter 3 - costs of Recognized Gains and Losses Chapter 4

Operating incurred by the enterprise for the benefit of more than one - Cash Flow St atexpenses em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

industry segment.

Chapter 6

- I nventor y Consolidated financial information

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Aggregate (financial) information relating to an enterprise as a whole whether or not the enterprise has consolidated subsidiaries.

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Corporate Chapter 10 - assets I nvestm ent Pr oper ty

Assets maintained for general corporate purposes and not used in the operations of any industry segment.

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Discontinued operation

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Resulting from the sale or abandonment of an operation that represents a separate, major line of business of an enterprise; the assets, net profit or loss, and activities can Chapter 15 - I ncom e Taxes be distinguished physically, operationally, and for financial reporting purposes. Chapter 14 - Leases

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder Extraordinary itemss' Equit y Chapter 18 - Earnings Per Share

Income or expenses that arise from events or transactions that are clearly distinct from the ordinary activities of the enterprise and, therefore, are not expected to recur Chapter 20 - Segm ent Repor frequently orting regularly. Chapter 19 - I nterim Financial Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter General 22 - corporate For eign Curr expenses ency Chapter 23 - RelatedPart y incurred Disclosures Expenses for the benefit of the corporation as a whole, which cannot be Chapter 24 - Specialized I ndustr ies reasonably allocated to any segment. Chapter 25 - I nflation and Hyperinflation

Geographical Chapter 26 - Gov ersegment nm ent Gr an ts Appendix A - Di sclosure Distinguishable Checklistcomponent of an enterprise engaged in operations in individual

countries or groups of countries within Appendix B - I llustrativ e Financial St atem ent s Pr esent ed particular Under I ASgeographic areas, as may be determined beUS appropriate theGAAP circumstances to reflect the nature of the Appendix C - Com parison of Ito AS, GAAP, andinUK I ndex

enterprise's operations.

List of Tables

Identifiable assets

List of Ex hibits and Ex am ples

List of Sidebar s Those tangible and intangible assets used by an industry segment, including those

the segment uses exclusively, and an allocated portion of assets used jointly by more than one segment.

Industry segment A distinguishable component of an enterprise engaged in providing a different product or service or a different group of related products or services, primarily to unaffiliated customers. This term has been superseded by business segment.

Intersegment sales Transfers of products or services, similar to those sold to unaffiliated customers, between ort at geographic areas W ile y Iindustry AS 2 0 03segments : I n t erp re ion an d Ap p licatof iothe n o fenterprise. I n t er n at ion al Accou n t in g St an d ar ds

Intrasegment by sales ISBN:0471227366 Bar r y J. Epstein and Abbas Ali Mir za Transfers within an industry segment or geographic area. John Wi ley & Sons © 2003 (952 pages)

Minority interest This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

That part of the net results of operations and of net assets of a subsidiary attributable assistance in the prepar at ion and under standing of financial to statements interests which areednot directly indirectly through subsidiaries, by the present in owned, accordance withorI AS. parent. T ab le of Con t en t s Wiley Operating I AS 20 03—Int activities er pretation and Application of I nternational Account ing Standar ds

The principal revenue producing activities of an enterprise and other activities that are not investing or financing activities.

Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2 - Balance Sheet Operating profit or loss I ncom Statement, Stat emrevenue ent of Chan ges all in Equit y, andexpenses, Statem entincluding an allocated An eindustry segment's minus operating of Recognized Gains and Losses

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

portion of common costs.

Chapter 5 - Financial Ordinary activitiesI nstr uments—Cash and Receiv ables Chapter 6 Chapter 7

- I nventor y Any activities which are undertaken by an enterprise as part of its business and such - Revrelated enue Recogni tion, ncluding uctionengages Contr act sin furtherance of, incidental to or activities inI which theConstr enterprise

Chapter 8

- Property , Plant Equipment arising from,, and these activities.

Chapter 9

- I ntangi ble Asset s

Reportable segment I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty A business or geographical segment for which segment information is required to be Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements disclosed. Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Revenue Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

The gross inflow of economic benefits during a period arising in the ordinary course of

Chapter 14 - Leases business activities from sales to unaffiliated customers and from intersegment sales Chapter 15 - I ncom e Taxes excluding inflows from equity participants. or transfers, Chapter 16 - Em ploy ee Benefit s

Segment accounting Chapter 17 - Stock holder s' policies Equit y Chapter 18 - Earnings Per Share The policies adopted for reporting the consolidated financial statements of the Chapter 19 - I nterim Financial ting enterprise, as Repor well as for segment reporting. Chapter 20 - Segm ent Repor ting

Segment assets Chapter 21 - Accounting Changes and Cor rection of Er ror s assets employed by a segment in operating activities, whether directly Chapter 22 - For Operating eign Curr ency attributable or reasonably allocable to the segment; these should exclude those Chapter 23 - RelatedPart y Disclosures generating revenues or expenses which are excluded from the definitions of segment Chapter 24 - Specialized I ndustr ies revenue segment expense. Chapter 25 - I nflation andand Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Segment expense

Appendix A - Di sclosure Checklist

Expense that is directly attributable to a segment, or the relevant portion of expense that can be allocated on a reasonable basis to a segment; it excludes extraordinary Appendix C - Com parison of I AS, US GAAP, and UK GAAP items, interest expense, losses on sales of investments or extinguishment of debt, I ndex equity method losses of associates and joint ventures, income taxes, and corporate List of Tables expenses not identified with specific segments. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

List of Ex hibits and Ex am ples List Segment of Sidebar revenue s

Revenue that is directly attributable to a segment, or the relevant portion of revenue that can be allocated on a reasonable basis to a segment, and that is derived from transactions with parties outside the enterprise and from other segments of the same enterprise; it excludes extraordinary items, interest and dividend income, and gains on sales of investments or extinguishment of debt. Transfer pricing

The pricing of products or services between industry segments or geographic areas. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS and 2 0 03 : Examples I n t erp re t at ion an d Ap p licat io n o f Concepts, Rules, I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

ConceptualMirBasis for Segmental Reporting za John Wi ley & Sons © 2003 (952 pages)

As business organizations have become more complex over the years, and the conglomerate form of This com pact and t ruly com pr ehensive qui ck - refer ence organization has pr become ever more it hastobecome to concede that financial esent s account antspopular, with a guide dependnecessary on for statements whichassistance present the full scope ofion an and enterprise's operations have declined markedly in utility. in the prepar at under standing of financial statements present ed the in accordance with I AS. While it is certainly possible to assess overall financial health of the entity using such financial reports, it is much more difficult to evaluate management's operating and financial strategies, T ab le of Con t en t s particularly with regard to its emphasis on specific lines of business. For example, the extent to which Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing operating Standar ds results for a period are the result of the development of new products with greater potential for future growth vs. mature product lines which nonetheless still account for a majority of the entity's Preface total sales, would be largely masked in financial statements which did not present results by business Chapter 1 - I ntr oduction to I nter national Accounting Standar ds segment. Chapter 2

- Balance Sheet

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent The need Chapter 3 for - the inclusion of some type of disaggregated information in general-purpose financial of Recognized Gains and Losses

reports became critical by the late 1960s, and national accounting rule-making bodies accordingly - Cash Flow St at em ent began to address this topic around that time. In the US, for example, the need for segment information Chapter 5 Financial I nstr uments—Cash andupon Receiv ables was one of- the first agenda items identified the FASB's formation in 1973. The original and long Chapter 6 I nventor y operative US requirement, SFAS 14, was promulgated in 1976; while a revised standard, largely (but Chapter 7 - Rev enue Recogni tion, Iapproach ncluding Constr uction Contr actIAS s 14, was adopted as SFAS 131, not entirely) embracing the same as does the current Chapter 8 Property , Plant , and Equipment effective in 1998. In the UK, the Companies Act of 1967 first mandated the disclosure of limited Chapter 9 data; - I ntangi Asset s segment this ble requirement was expanded by later revisions of the Act, and disaggregated information was I nterests formally in Financial made part Instr ofum theent notes s, Associat to thees, financial Joint Ventur statements es, andin 1981. A related Chapter 10 ent Pr oper ty (SSAP 25) was adopted in 1990, with segments again defined either professionalI nvestm accounting standard Chapter Business (similar Combinations and Consolidat Fin ancial by class11of- business to product or serviceed areas) or byStatements geographic location, with company Curr ent Liabilit ies, Prov isions, Contofingencies, andwhich Ev entstype after he management charged with the responsibility determining oft categorization would be most Chapter 12 Balance Sheet Date meaningful to financial statement users. As in the US, a threshold value of 10% is established for Chapter - Financial I nstr uments—Longm Debt and the criteria are virtually identical to those in the making13 a determination that a segment isTer material, Chapter 14 Leases US under SFAS 14. Information to be disclosed is also modeled on the US requirement—sales, Chapter 15 results, - I ncom and e Taxes operating identifiable assets (called net assets under the UK standard, but not actually defined16 there). It is ee notBenefit clear whether the UK standard will be subject to the same sort of revisions as Chapter - Em ploy s have occurred in the US, Canada, and under the IAS. Chapter 17 - Stock holder s' Equit y Chapter 4

Chapter 18 - Earnings Per Share

On the international standard-setting scene, the relevant rules date from the original IAS 14 issued in 1983. The standard was reformatted, but not substantively altered, in 1995. In 1998 the IASC approved Chapter 20 - Segm ent Repor ting a successor to this standard, revised IAS 14, which is the basis for the following discussion. Chapter 19 - I nterim Financial Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Applicability of IAS 14

Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies

In contrast to the current US standard on segment reporting (SFAS 131), which affects the financial reports (including interim ones) of only publicly held companies, the first international standard on Chapter 26 - Gov er nm ent Gr an ts segment reporting was intended to be applicable to both publicly held and "other economically Appendix A -entities." Di sclosure Checklist significant While this term was undefined by that standard, presumably it implied that all Appendix B I llustrativ e St atem entwhich s Pr esent Under I AS based, and nondiversified, were business organizations,Financial other than those are ed small, locally Appendix C Com parison of I AS, US GAAP, and UK GAAP expected to apply the requirements of IAS 14. Chapter 25 - I nflation and Hyperinflation

I ndex

Revised IAS 14, on the other hand, stipulates that the new standard will be applicable to those entities List of Tables which have publicly List of Ex hibits and Ex traded am ples equity or debt securities. This will essentially conform the international rules with ofsthe national standard-setting bodies and limit this standard to publicly held entities. While List of those Sidebar the logic for presenting disaggregated information in the context of nonpublic enterprises is perhaps equally strong, the counterarguments—that owners and managers already have this information, and that general disclosure could place the entity in jeopardy from a competitive perspective—had been voiced so loudly for such a long time that it was not politically feasible to impose the requirement on privately owned entities.

In determining which segments of a given entity need to be separately presented, there was a contrast between the US approach and that of original IAS 14. This original standard asked that segment

information be presented for business or geographic segments whose level of revenues, profits, assets, or employment are significant in the countries in which their major operations are conducted. However, the term significant was IASan 14d declined quantify this threshold, while duly W ile y Inot AS defined, 2 0 03 : I nand t erpinrefact t at ion Ap p licatto io n of noting that other standard setters had chosen to establish such guidelines, thereby implying that those I n t er n at ion al Accou n t in g St an d ar ds could be used to by fill the vacuum. In the US, the FASB mandated a 10% boundary for recognition, but ISBN:0471227366 Bar r y J. Epstein and Abbas Ali level of employment Mir za was not stipulated as one of the criteria (only assets, revenues, and profits were so identified). John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence

Thus, the intent under original IASants 14 was the segment data by that standard to be pr esent s account with for a guide to depend on prescribed for presented by anyassistance entity having substantial activities in more thanofone industry group or geographic in the prepar at ion and under standing financial statements present in accordance with as I AS. region. It remained a matter of someedjudgment, however, to where that threshold was to be placed. T ab le of Con t en t s

The current IAS 14 takes a very different approach to defining segments and to defining the threshold

Wiley I AS 20 03—Int er pretation and segments. ApplicationUnder of I nternational Account ing at which they become reportable the new standard, the goal is to disaggregate Standar ds

business and geographical segments which have different risk and return profiles. The new standard sets forth a number of factors which can be used to determine whether the risks and returns are in fact Chapter 1 - I ntr oduction to I nter national Accounting Standar ds at variance as between two or more segments. Furthermore, it is explicitly intended that the reporting Chapter - Balance Sheet entity's 2internal organization and financial reporting system should be used to help in making this I ncom eexample, Statement, of Chan in Equitis y, organizationally and Statem ent structured should reveal determination. For theStat wayeminent which the ges enterprise Chapter 3 of Recognized Gains and Losses whether geographical segments are defined in terms of location of productive operations or location of Chapter 4 - Cash Flow St at em ent customers. Preface

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter Not only 6 is- itI nventor necessary y to define which of the business and geographical segments are to be deemed

reportable, is also that a determination be made about Chapter 7 - itRev enue required Recogni tion, I ncluding Constr uction Contr act s whether the business segments or the geographical segments will be the primary mode of segment reporting, with the alternative Chapter 8 - Property , Plant , and Equipment becoming secondary mode. This depends, under the terms of the revised standard, upon whether Chapter 9 the - I ntangi ble Asset s the dominantI nterests source and nature of risk return derives fromVentur the products in Financial Instr umand ent s, Associat es, Joint es, and and services it produces, or from operating in ent different or selling into different markets. The amount of information to be I nvestm Pr opercountries ty disclosed the primary segmentsand is much greater for the secondary segments. The lack of Chapter 11 for - Business Combinations Consolidat ed than Fin ancial Statements quantitative Curr thresholds is consistent with the decision to use the enterprise's ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he internal organization and Chapter 12 Sheet Date operation asBalance the driver of the segment reporting model. In other words, a definable portion of the business be a segment if management Chapter 13 will - Financial I nstr uments—LongTerbehaves m Debt as if it is. Chapter 10 -

Chapter 14 - Leases

Defining Industry and Geographic Segments

Chapter 15 - I ncom e Taxes

Chapter 16 - Em ploy ee Benefit s

Understanding what is meant Chapter 17 - Stock holder s' Equitby y industry segments has proven to be a difficult task for many preparers and users financialPer statement Chapter 18 -ofEarnings Share information, and furthermore, some preparers have been inclined to define a19segment an overlyRepor broad fashion, to reduce the amount of disaggregated information which Chapter - I nterimin Financial ting they present. However, there Chapter 20 - Segm ent Repor tingare very legitimate questions which can, and have, been raised on this

matter.21 For- one hypothetical example, consider a Er large Chapter Accounting Changes and Cor rection of ror smanufacturer of a range of automobiles, which

entity can convincingly argue that this represents a single segment, while other similar enterprises might hold that a number of segments exist, such as small cars, luxury cars, etc. Under the original IAS Chapter 23 - Related- Part y Disclosures 14, the requirements for segment information appeared to tolerate using a liberal interpretation, so that Chapter 24 - Specialized I ndustr ies in the foregoing example all automobile manufacturing could have been deemed a single segment. Chapter 22 - For eign Curr ency

Chapter 25 - I nflation and Hyperinflation

Chapter 26 - Gov er nm an ts has defined segments in terms more consistent with internal managerial In the current IAS 14 ent the Gr IASC Appendix - Di sclosure decision Amaking. UsingChecklist the example above, if management makes distinct decisions about the Appendix B - and I llustrativ e Financial St atem Pr esent ed Under I AS would be separate segments for production marketing of small cars ent vs.sluxury cars, then those

disclosure regardless of GAAP, brand and names other artificial distinctions among the product lines. Appendix C -purposes, Com parison of I AS, US UK or GAAP According to the new standard, "an enterprise should look to its system of internal reporting to the I ndex board of directors and the chief executive officer for the purpose of identifying its business segments or List of Tables geographical segments, for both its primary and secondary reporting formats...." List of Ex hibits and Ex am ples List of Sidebar s

Characteristics of business and geographical segments.

In the event that internally reported segments fail to satisfy the definitions of business and geographical segments, then the criteria in the standard are to be applied to ascertain the identities of the segments. The standard stipulates the following factors to be considered in determining how to group products and services into business segments: 1. The nature of the products or services;

2. The nature and technology of the production processes; 3. The types of markets in which the products or services are sold; W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

4. Major classes of customers;

by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za 5. The distribution channels and methods for the products; and John Wi ley & Sons © 2003 (952 pages)

6. A unique legislative This com pact or regulatory and t ruly com environment pr ehensiverelating qui ck - refer to part ence of the business, as might define pr esent scompanies, account antsand withutilities. a guide to depend on for banks, insurance assistance in the prepar at ion and under standing of financial

statements in accordance with areas I AS. into geographical segments: The following factors can be present used toedgroup geographical T ab le1.of Proximity Con t en t s of operations; Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing 2. ds Similarity of economic and political conditions; Standar Preface

3. Relationships between operations in different geographical areas;

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2 - Balance 4. Special risks Sheet associated with operations in a particular country; and I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of Recognized 5. Underlying currencyGains risks.and Losses Chapter 4

- Cash Flow St at em ent In the absence of internal organizationaland indicators which suffice to define business and geographical Chapter 5 - Financial I nstr uments—Cash Receiv ables

segments, foregoing criteria should be applied in an attempt to identify primary and secondary Chapter 6 -the I nventor y

segment formats. In that situation, the disclosure of segment data should include a statement to the - Rev enue Recogni tion, I ncluding Constr uction Contr act s effect that the externally reported segment data does not conform to that used internally, and the Chapter 8 - Property , Plant , and Equipment following three supplemental disclosures must be made for each segment which has revenue from Chapter 9 - I ntangi ble Asset s sales to external customers amounting to 10% or more of total enterprise revenue from external I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 customers: I nvestm ent Pr oper ty Chapter 7

1. Segment revenue from external customers; Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - total carrying amount of segment assets; and 2. The Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt

3. Capital expenditures.

Chapter 14 - Leases

Chapter - I ncom e of Taxes Internal15 indications segments are to be used whenever possible, however. The informational items to Chapter be disclosed 16 - Em forploy theeesegments, Benefit s however they are defined, are discussed below. Chapter 17 - Stock holder s' Equit y

Defining Reportable Segments

Chapter 18 - Earnings Per Share

Chapter 19 - I nterim Financial Repor ting

Chapter Reportable 20 - segments Segm ent Repor are business ting or geographical segments, whether identified either by internal

organizational or financial reporting or by of the criteria set forth above, which meet Chapter 21 - Accounting Changes and factors, Cor rection of application Er ror s the threshold test becoming reportable. A segment will be reportable if a majority of its revenue is Chapter 22 - For eignforCurr ency earned 23 from sales toPart external customers, and furthermore Chapter - Relatedy Disclosures Chapter 24 revenue - Specialized ndustrto iesexternal customers and from transactions with internal customers fromI sales 1. Its Chapter (other 25 - I nflation and is Hyperinflation segments) 10% or more of total revenue of all segments, or Chapter 26 - Gov er nm ent Gr an ts

2. Its segment result, whether profit or loss, is 10% or more of the combined result of all segments recording a profit or of all segments recording a loss, whichever is the greater in absolute Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS monetary terms, or Appendix A - Di sclosure Checklist

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

I ndex3. Its assets are 10% or more of the total assets of all segments. List of Tables

Thus, the revised IAS essentially has embraced the quantitative criteria of the former US GAAP List of Ex hibits and Ex am14 ples standard, SFAS 14, regarding the threshold criteria for reportability of individual segments. Note that List of Sidebar s

the segment will be deemed reportable if any one of the three foregoing criteria are satisfied: The test is disjunctive, not conjunctive. However, since only those segments which earn a majority of revenues from external customers are subjected to this testing, those which are essentially vertically integrated will typically not be required to report as separate segments.

Comparative financial statements. IAS 14 now provides that if a segment were deemed to be reportable in the immediate preceding period

(because one or more of the aforenoted 10% thresholds had been exceeded), then even failing each of these tests in the current year would not eliminate the need to present comparable segment data currently. However, this only management W ile y Irequirement AS 2 0 03 : I nist erp reapplicable t at ion an dif Ap p licat io n o fbelieves that the segment has continuing significance; absent this, such disclosure could be eliminated. The fact that continuing I n t er n at ion al Accou n t in g St an d ar ds disclosure is dependent upon management attitudes introduces a subjective element. This may ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali eventually be seen Miras za permitting nondisclosure of important information, and more objective criteria may have to be imposed John Wi ley at some & Sonspoint © 2003 in (952 time. pages) This com pact and t ruly com pr ehensive qui ck - refer ence

Furthermore, if a pr segment is deemed be areportable in the current esent s account ants to with guide to depend on for reporting period because it satisfies a relevant thresholdin test the atfirst the comparative prior period disclosures should be assistance the for prepar ion time, and under standing of financial statements present ed with Inotwithstanding AS. restructured to include that segment asina accordance reportable one, that it did not surpass the 10% thresholds in the prior year. In establishing these two requirements, comparability was obviously T ab le of Con t en t s given a very substantial weighting. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Segment Reporting

Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds For purposes of complying Chapter 2 - Balance Sheet with IAS 14, segments should be defined in terms of groups of related

products or services, or alternatively byent types of customers toy,whom these ent are provided. It must remain I ncom e Statement, Stat em of Chan ges in Equit and Statem a matter of- judgment as toGains how this of Recognized and guideline Losses is applied, and similar enterprises might reach different conclusions on this. For Chapter 4 - Cash Flow St example, at em ent a manufacturer of electronic and mechanical components used in the automobile market these to original manufacturers (OEM) of automobiles and Chapter 5 - industry Financialmight I nstr uments—Cash and Receivequipment ables of heavy construction equipment, and also to aftermarket suppliers, in a number of different geographic Chapter 6 - I nventor y markets (e.g., Western Europe, the former Eastern Bloc nations of Europe, and the Middle East). In Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s presenting segment data, the entity might reach at least four distinct conclusions on how to define the Chapter 8 - Property , Plant , and Equipment segments, as follows: Chapter 3

Chapter 9

- I ntangi ble Asset s

1. It might argue in that the entire business single segment; I nterests Financial Instr um ent s, represents Associat es, aJoint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty 2. It find that electronics and and Consolidat mechanical are essentially different product lines Chapter 11could - Business Combinations ed components Fin ancial Statements

and, thus, that there are two segments of the business; Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Chapter 12 -

Balance Sheet Date

3. It might conclude that the OEM market is generically different from the aftermarket, thus defining two different segments in another way; or

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Chapter 15could - I ncom e Taxes 4. It reason that automobile OEM, construction equipment OEM, and aftermarket suppliers Chapter are 16 -each Em ploy ee Benefit distinct, thussdefining three segments of the business for which information is to be Chapter disclosed. 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

Thus, it is clear that managements' judgment will continue to play a large role in financial reporting of industry segments. In reaching their decisions, however, managements should weigh the similarities Chapter 20 - Segm ent Repor ting and differences among the products or services, the risk characteristics of the markets, the growth Chapter 21 - Accounting Changes and Cor rection of Er ror s potential, and the likely future importance of the segment to the entity as a whole. If some parts of the Chapter 22 - For eign Curr ency business are subject to particular or unusual regulatory oversight (such as banking typically is), this is a Chapter 23 - Related- Part y Disclosures factor which suggests that it might constitute a separate segment for reporting purposes. The fact that Chapter 24 or - Specialized ies a product service lineI ndustr is produced in an organizationally separate unit, such as a division, may or Chapter 25 I nflation and Hyperinflation may not be determinative; thus, internal accounting data might be usable for segment reporting, but Chapter 26 -need Gov er Gr an ts might also tonm beent reclassified for that purpose. Chapter 19 - I nterim Financial Repor ting

Appendix A - Di sclosure Checklist

The determination of egeographic likewise subjectI AS to the application of substantial amounts Appendix B - I llustrativ Financial Stsegments atem ent s is Pr esent ed Under of judgment. Typically, it will be and fairlyUK obvious Appendix C - Com parisonhowever, of I AS, US GAAP, GAAP in any given circumstance how the breakdown

among regions should be accomplished. The only real question, in most cases, will be how much detail I ndex

to present. For example, if an enterprise has operations in western Europe and also in former Soviet Bloc nations such as Poland, some might conclude that these are separate segments since their List of Ex hibits and Ex am ples economic systems were so different for so long, and the emerging nations of Eastern Europe represent List of Sidebar s materially different risks and growth opportunities. Others might conclude that Europe is a single region, based on transportation requirements and other criteria, especially when compared to North American, Latin American, and Asian segments of the same business. List of Tables

Disclosure Requirements When it was finally promulgated, the revised IAS 14 required fewer disclosures than had been proposed in the Exposure Draft, but nonetheless does demand a rather expansive set of disclosures.

Reporting entities must determine which mode of categorization (i.e., industries or geographical area) is the primary, and which is the secondary, definition of its segment operations. The amount of detail required for the secondary less foranthe primary W ile y I ASsegments 2 0 03 : I nis t erp re tthan at ion d Ap p licat segments. io n o f I n t er n at ion al Accou n t in g St an d ar ds

The determination of primary segmentation is based upon the dominant source of risk and return to the ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali organization. Thus, Mirif zaan entity's strategic decisions are made primarily in terms of the geographical location of either John its operations (e.g., siting(952 of pages) manufacturing plants, sourcing materials, etc.) or its Wi ley & Sons © 2003 customers, then geographical segments will be the primary reporting format. If, on the other hand, This com pact and t ruly com pr ehensive qui ck - refer ence decisions revolvepraround product or service offerings, then business esent s account ants with a guide to depend on for segments will be the primary format. assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

In either case, the format not chosen as primary will be used as the secondary mode of segment T ab le of Con t en t s reporting. Thus, a substantial amount of informative disclosure will result in either instance although Wiley I AS 20less 03—Int er pretation andforApplication of I nternational somewhat data is provided the secondary format thanAccount for theing primary. Standar ds Preface

Primary reporting format disclosures.

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2 - Balance Sheetdisclosures are mandated for each reportable segment: The following informative I ncom e Statement, Stat em ent of Chan ges in Equit y,derived and Statem 1. Segment revenue, with separate disclosure of revenue froment external customers and Chapter 3 of Recognized Gains and Losses

revenue derived from internal customers (i.e., from other segments). Also, the nature of the - Cash Flow St at em ent segment's revenue should be described, in the manner set forth in IAS 18 (i.e., separately Chapter 5 - Financial I nstr uments—Cash and Receiv ables disclosing revenues arising from sales of goods, rendering of services, interest, royalties, Chapter dividends, 6 - I nventor y from the exchange [bartering] of goods and services in each category). and Chapter 4

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s 2. Segment result. Chapter 8 - Property , Plant , and Equipment Chapter 9

- I ntangi ble Asset s

3. Interest and dividend income and interest expense directly attributable to the segment or which I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter can 10 - be reasonably allocated to the segment, separately—except that this need not be done for I nvestm ent Pr oper ty segments whose and operations areedprimarily a financial nature. Chapter reportable 11 - Business Combinations Consolidat Fin ancialofStatements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 4. Total 12 - assets at carrying value. Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt 5. Segment liabilities. Chapter 14 - Leases

6. The Chapter 15 - contingencies I ncom e Taxes or commitments which can be directly attributed to a reportable segment or onee a reasonable basis to segments. Chapter allocated 16 - Em ploy Benefit s Chapter 17 - Stock holder s' Equit y

7. Total expenditures to acquire segment assets during the reporting period (typically referred to as capital expenditures).

Chapter 18 - Earnings Per Share

Chapter 19 - I nterim Financial Repor ting

Chapter 20 - Segm ent Repor tingamortization expense related to segment assets and included in segment 8. Total depreciation and Chapter results 21 - Accounting for the reporting Changesperiod. and Cor rection of Er ror s Chapter 22 - For eign Curr ency

9. The nature of any item of revenue or expense which due to size, nature, or incidence needs to be disclosed to explain performance of the segment for the period.

Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies

Chapter 25 - nature I nflation and Hyperinflation 10. The and amount of extraordinary items which are directly attributable to a segment or Chapter reasonably 26 - Gov er nm ent Gr allocableantotsit. Appendix A - Di sclosure Checklist

11. Significant noncash expenses, than depreciation and amortization, that were deducted in Appendix B - I llustrativ e Financial St atemother ent s Pr esent ed Under I AS atparison segment Appendixarriving C - Com of Iresults. AS, US GAAP, and UK GAAP I ndex

12. The segment's share of profit or loss of associates, joint ventures or other investments accounted for under the equity method, as well as the investment in that associate or joint List of Exventure. hibits and Ex am ples List of Tables

List of Sidebar s

13. A reconciliation of the information presented for reportable segments (the twelve categories above) to the amounts presented in the consolidated or enterprise-wide financial statements. In reconciling revenue, segment revenue from outsiders should be reconciled to total revenue from outside customers; segment results should be reconciled to a comparable measure of enterprise performance as well as to enterprise net income or loss; and segment liabilities should be reconciled to enterprise liabilities.

Secondary reporting format.

The nature of the data presented in the secondary reporting format depends upon which of the two possible criteria determined the primary format, business or geography. If the primary disclosures were W ile y I AS 2 0then 03 : Ithe n t erp re t at ion geographical, an d Ap p licat io n o f must contain, for each based on business segments, secondary, format I n t er n at ion al Accou n t in g St an d ar ds segment that has sales to external customers or segment assets totaling 10% or more of the ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali comparable enterprise-wide amounts Mir za 1. Segment revenue from external customers, John Wi ley & Sons © 2003 (952 pages) determined by the geographical location of customer or market.This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

2. Total carrying amount segment by geographical assistance in of the prepar atassets, ion anddetermined under standing of financial location of the assets. statements present ed in accordance with I AS.

3. The total amount of capital expenditure for the period being reported on, by location of assets. T ab le of Con t en t s Wiley If theI AS primary 20 03—Int modeerof pretation reporting andsegment Application information of I nternational is by geographical Account ing locations, on the other hand, Standar ds secondary format information will be, for each business segment whose revenue from sales to then the Preface external customers is 10% or more of total enterprise revenue from external customers, as follows: Chapter 1 - I ntr oduction to I nter national Accounting Standar ds

1. Segment revenue from external customers.

Chapter 2

- Balance Sheet

2. Total I carrying ncom e Statement, amount ofStat segment em entassets. of Chan ges in Equit y, and Statem ent -

Chapter 3

of Recognized Gains and Losses 3. The ofem capital Chapter 4 - total Cashamount Flow St at ent expenditures for the period. Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Finally, if the entity defines primary segment format in terms of geographical area, based on the - I nventor y location of the production or service facilities, and if the markets in which the goods or services Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s significantly differ from the location of the assets, then revenue from sales to external customers must Chapter 8 - Property , Plant , and Equipment also be reported by location of markets. The geographical markets to be identified are those whose Chapter - I ntangi ble Asset sis 10% or more of the corresponding enterprise total. sales to9 external customers Chapter 6

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Other Disclosures Which May Be Necessary

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - are necessary when a business or geographical segment is not deemed to be reportable Disclosures Balance Sheet Date

because a majority of its revenueTer from intersegment sales, yet 10% or more of enterprise sales Chapter 13it -earns Financial I nstr uments—Longm Debt to external customers is comprised of sales to external customers by this segment. This fact should be disclosed, as well as the sales revenue from external and intersegment sales generated by the Chapter 15 - I ncom e Taxes segment. Chapter 14 - Leases

Chapter 16 - Em ploy ee Benefit s

Chapter 17 for - Stock holder s' Equit y for intersegment sales should be stated. This should be the same The basis determining prices Chapter 18 the - Earnings Per Share basis that enterprise actually uses to recognize such transactions for internal reporting purposes. If Chapter 19 - has I nterim Financial Repor ting the method changed from the previous period, that fact should be adequately disclosed as well. Chapter 20 - Segm ent Repor ting

Segment to be prepared using the Chapter 21 disclosures - Accountingare Changes and Cor rection of Ersame ror s accounting principles that the enterprise uses

for general external reporting in accordance with international accounting standards. If there have been changes in accounting principles employed at the enterprise level which also impact on segment Chapter 23 - Related- Part y Disclosures informative disclosures, these should be dealt with in accordance with IAS 8. Under that standard's Chapter 24 - Specialized I ndustr ies benchmark treatment, prior period information is restated to conform with the new principles, unless Chapter 25 - I nflation and Hyperinflation impracticable to do so. Under the allowed alternative treatment, the cumulative effect of the change in Chapter 26 - Gov er nm ent Gr an ts accounting principle is reported as a charge or credit in determining current period net income. If the Appendix A -treatment Di sclosureisChecklist alternative utilized, the cumulative effect should be included in segment operating Appendix B I llustrativ e Financial St atemcan ent sbe Pr esent edwith Under I AS performance, if reasonable allocations made, sufficient disclosure to explain the Appendix C Com parison of I AS, US GAAP, and UK GAAP performance of the segments for the period. Chapter 22 - For eign Curr ency

I ndex

If there have been changes in accounting principles employed in determining segment disclosures, List of Tables which have a and material List of Ex hibits Ex amimpact ples on the data provided to users of the financial statements, such as the

method of allocating revenue and expenses to segments, then again consistent with the benchmark List of Sidebar s

treatment stipulated by IAS 8, the comparative prior period information should be restated to conform with the new methods utilized. This is important even though aggregate enterprise amounts will not have been affected by the change, since the users' understanding of segment performance may be distorted unless efforts are made to provide them with insights into these matters. Unless it is clear from other disclosures or from the body of the financial statements themselves, the segment information should include descriptions of the activities of each reportable business segment and should also indicate the composition of each geographical segment, both for primary and

secondary reporting formats. A fair amount of judgment is required in deciding on what information should be provided, but in theory, to take the geographical segment disclosure as an example, such matters as stability of ycurrencies, andan market are all potentially W ile I AS 2 0 03 political : I n t erprisks, re t at ion d Ap pgrowth licat io nexpectations of useful to recipients of the data and possibly necessary to interpret the financial disclosures most I n t er n at ion al Accou n t in g St an d ar ds meaningfully. While these are technically voluntary disclosures, in ultimately reaching a judgment as to ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir zastatements are fairly presented, the adequacy of disclosures will have to be whether the financial weighed. John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence

If an enterprise operates a single business or geographical segment and therefore is not required to, pr esent sin account ants with a guide to depend on for and does not, report either primary or secondary data, that fact should be disclosed and the assistance in the prepar at ion andsegment under standing of financial statements present ed in accordance with I AS. nature of its business segment or geographical operations should be stated. In some cases an entity will operate within a single segment, but derive revenues from a number of diverse products or T ab le of Con t en t s services; in such instances, the new standard requires that these be described and the amounts of Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing revenues Standar ds derived from any such group of products or services which constitute 10% or more of enterprise revenue should be set forth. This clearly will require the exercise of judgment, since there will Preface be a thin line between such disclosures and the admission that the entity, in fact, is operating in more Chapter 1 - I ntr oduction to I nter national Accounting Standar ds than a single segment and thus should have made the full set of informative disclosures required by Chapter 2 - Balance Sheet IAS 14. Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Finally, if the aggregate revenue from external customers from all reportable segments totals less than Chapter 4 - Cash Flow St at em ent 75% of the revenue reported by the entity as a whole, the standard requires that there be a general Chapter 5 - of Financial I nstrof uments—Cash Receivof ables description the nature the remainingand sources revenue. This would normally occur when the Chapter 6 I nventor y balance of revenues are derived from a range of individually minor activities which do not constitute a Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr actwill s not occur very often, as the defined single segment or group of segments. In practice, this situation Chapter 8 Property , Plant , and Equipment and reportable segments will typically add to more than the 75% threshold level. Chapter 9

- I ntangi ble Asset s

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Revisions to Definitions of Segments I nvestm ent Pr oper ty

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Over time, an entity may determine that the definition of industry or of geographic segments needs to

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he be revised. Chapter 12 - The effect of making such a change could be to make information presented in earlier years Balance Sheet Date

no longer comparable to that currently presented in the financial statements. Accordingly, at a minimum, the fact of having made this change must be disclosed, with a sufficient description so that Chapter 14 - Leases users can appreciate the general impact that change might have had. The reasons why the change Chapter 15 - such I ncomas e Taxes was made, to better reflect the way management is currently making decisions about the Chapter 16 Em ploy ee Benefit s segments of the business, should also be stated. If reasonably determinable, the actual effect of the Chapter - Stock s' Equit y change17 should beholder disclosed. Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 18 - Earnings Per Share

As an example, the Financial manufacturer electronic and mechanical automobile parts used in the example Chapter 19 - I nterim Reporof ting below might at some point conclude that its former manner of presentation of segment data as a Chapter 20 - Segm ent Repor ting

dichotomy electronic and Chapter 21 -between Accounting Changes andmechanical Cor rection products of Er ror s is no longer meaningful given the growing

pervasiveness of electronic components in what had previously been entirely mechanical items. Thus, the entity might determine that a more useful categorization would be by type of customer, for example, Chapter 23 - Related- Part y Disclosures original equipment manufacturers (OEM) vs. aftermarket, since the underlying economic forces differ Chapter 24 - Specialized I ndustr ies substantially between these. In the year of the change in presentation, the fact of the change and the Chapter 25 - I nflation and Hyperinflation logic for it should be presented, and if possible the prior period's data, which had been presented Chapter 26 - Gov er nm ent Gr an ts earlier on the basis of product type, should be restated on the newly adopted basis of customer class. Appendix - Di sclosure By doingAthis, the usersChecklist of the financial statements would be able to understand the trends affecting the Appendix B I llustrativ Financial being St atem ent s Pr esent ed Under I AS segments as they areecurrently defined. Chapter 22 - For eign Curr ency

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Comprehensive example of segment reporting I ndex List of Tables

To of illustrate List Ex hibitsthe andexpansion Ex am ples of reporting requirements under IAS 14, a comprehensive illustration is

given below. The facts assumed are as follows, as these would have been presented in conformity with the original IAS 14:

List of Sidebar s

(All amounts in $ millions)

Net sales

components Mechanical components W ile y I AS 2 0 03 : Electronic I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

345.0

228.6

2003

378.5

219.8

2002

29.6

13.2

36.0

8.5

2002

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for Operating profit assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. T ab le of Con t en t s

Wiley I AS 2003 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Capital expenditures

Preface

12.1ds Chapter 12002 - I ntr oduction to I nter national Accounting Standar

3.5

Chapter 2

2.5

- Balance Sheet

21.4 2003 I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Recognized Gains and Losses Identifiableofassets

Chapter 3 Chapter 4

- Cash Flow St at em ent

Chapter 52002 - Financial I nstr uments—Cash and Receiv ables

122.9

128.4

Chapter 6

- I nventor y

140.2

118.5

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

2003

Depreciation and amortization Chapter 8 - Property , Plant , and Equipment Chapter 9

- I ntangi ble Asset s

13.7

2002

15.9

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty 17.5 2003 Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 10 -

13.6

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Unallocated Chapter 12 - (corporate) assets totaled $7.6 million in 2002 and $8.1 million in 2003. Unallocated Balance Sheet Date

corporate expenses equaled $3.4 million in 2002 and $4.5 million in 2003. Intersegment sales, which are made at cost, are not material in amount. Operating profit by segment is defined as third-party Chapter 14 -operating Leases expenses; corporate overhead and financing costs are excluded from segment sales less Chapter 15 expenses. I ncom e Taxes Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 16 - Em ploy ee Benefit s

Revenue geographic Chapter 17 by - Stock holder s'area Equitisy summarized below. Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting (All amounts in $ millions) Chapter 20 - Segm ent Repor ting

Western Europe

Eastern Europe

Middle East

113.4

111.7

133.4

98.6

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Net sales Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures 348.8

2002

Chapter 24 - Specialized I ndustr ies

366.3 Chapter 25 - I nflation and Hyperinflation 2003 Chapter 26 - Gov er nm ent Gr an ts

Operating profit

Appendix A - Di sclosure Checklist

22.7ent s Pr esent ed Under 8.6I AS Appendix 2002 B - I llustrativ e Financial St atem Appendix C - Com parison of I AS, US GAAP, and UK GAAP

11.5

20.6

13.9

10.0

2002s List of Sidebar

178.4

63.2

9.7

2003

183.3

69.5

5.9

I ndex

2003

ListIdentifiable of Tables assets List of Ex hibits and Ex am ples

Western Europe includes primarily Germany and France, with a relatively small amount of activity in Belgium and the Netherlands. Eastern Europe includes Hungary, Poland, Slovakia and the Czech Republic. The Middle East is principally Lebanon and Syria, with a small level of activity in Egypt and Saudi Arabia. Sales in the Middle East are made almost entirely to aftermarket suppliers, whereas revenues derived from European markets are predominantly from original equipment manufacturers of

automobiles and construction equipment. Approximately 12% and 14% of sales in Western Europe, for 2002 and 2003, respectively, were made to aftermarket suppliers; for Eastern European sales, the corresponding percentages andre23% for an 2002 and 2003, W ile y I AS were 2 0 03 19% : I n t erp t at ion d Ap p licat io nrespectively. of I n t er n at ion al Accou n t in g St an d ar ds

It is assumed that management has determined that the primary reporting format should be by ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali business segment; Mirthe za secondary reporting format, therefore, will by geographical segment. What follows is the set John of required conform Wi ley &disclosures Sons © 2003to(952 pages) with IAS 14: This com pact and t ruly com pr ehensive qui ck - refer ence Note 10: Segment information

pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial

Management hasstatements determinedpresent that the determinant of its decision making is the major products ed primary in accordance with I AS. offered by the company, with lesser attention being based on geographical location of its customers. T ab le of Con t en t sprimary disclosures, below, are based on business segment, alternatively, electronic or Accordingly, the Wiley I AS 20 03—Int er pretation of I nternational Account ing on geographic location of mechanical components, with and the Application following secondary disclosures based Standar ds customers. Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

(All amounts in $ millions)

I ncom e Statement, Stat em ent of Chan ges inElectronic Equit y, and Statem ent components of Recognized Gains and Losses

Mechanical components

Net sales

Chapter 62002—In - I nventor y total

345.0

228.6

Chapter 7

336.3

228.6

8.7

0.0

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

external Chapter 82002—To - Property , Plant , customers and Equipment Chapter 9

- I ntangi ble Asset s 2002—Intersegment sales

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 378.5 I nvestm ent Pr oper ty 2003—In total Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

371.0 2003—To customers Curr entexternal Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Chapter 12 -

Balance Sheet Date

219.8 219.5

7.5

.3

2002 Chapter 16 - Em ploy ee Benefit s

29.6

13.2

Chapter 17 - Stock holder s' Equit y

36.0

8.5

1.2

.2

.1

0

1.1

.3

0

0

1.5

1.1

1.2

1.0

List of Sidebar 2002s

122.9

128.4

2003

140.2

118.5

2002

62.3

43.4

2003

59.6

40.1

2003—Intersegment sales Chapter 13 - Financial I nstr uments—LongTer m Debt Chapter 14 - profit Leases Operating Chapter 15 - I ncom e Taxes

2003

Chapter 18 - Earnings Per Share

Interest dividend incomeRepor ting Chapter 19and - I nterim Financial Chapter 20 - Segm ent Repor ting

2002—Interest income

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency 2002—Dividend income Chapter 23 - Related- Part y Disclosures

2003—Interest Chapter 24 - Specialized Iincome ndustr ies

Chapter 25 - I nflation and Hyperinflation

2003—Dividend income

Chapter 26 - Gov er nm ent Gr an ts

InterestAexpense Appendix - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

2002

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

2003

List of Tables

Identifiable assets, at net carrying amounts

List of Ex hibits and Ex am ples

Segment liabilities

Contingent liabilities related to contractual disputes W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f 2.5 I n t er n at ion al Accou n t in g St an d ar ds

2002

ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali 4.4 Mir za John Wi ley & Sons © 2003 (952 pages) Capital expenditures This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for 12.1 2002 assistance in the prepar at ion and under standing of financial 21.4 statements present ed in accordance with I AS. 2003

2003

T abDepreciation le of Con t enand t s amortization Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing 13.7 Standar ds2002 Preface

2003 - I ntr oduction to I nter national Accounting Standar ds Chapter Nonrecurring 2 - Balance items Sheet

17.5

1.0 1.2

3.5 2.5

15.9 13.6

Chapter 1

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 32002—Revenue 6.7 government of Recognizedfrom Gains and Losses

0

Chapter 4contract - Cash Flow St at em ent Chapter 5

- Financial I nstr uments—Cash and Receiv ables

2003—Gain from settlement of patent - I nventor y suit

2.3

0

2.2

0

Chapter 6 Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s Equity8in income of,investee Chapter - Property Plant , and Equipment Chapter 9

- I ntangi ble Asset s

2002

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty .5 2003

Chapter 10 -

0

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

InvestmentCurr in equity method investee ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date 5.6 2002

Chapter 12 -

0

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

6.9

Chapter 14 - Leases 2003 Chapter 15 - I ncom e Taxes

Segment reconciled to corresponding enterprise totals in the following section: Chapter 16 information - Em ploy eeis Benefit s Chapter 17 - Stock holder s' Equit y Chapter Net sales 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting

2002—To external customers

Chapter 20 - Segm ent Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror 336.3 s

Electronic components

Chapter 22 - For eign Curr ency

Chapter 23 - Related- Part y Disclosures

Mechanical components

228.6

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation

564.9

Enterprise total sales Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

2003—To external customers

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

371.0 Appendix C - Com parison of I AS, US GAAP, and UK GAAP Electronic components

I ndex List of Tables

Mechanical components

List of Ex hibits and Ex am ples List of Sidebar s

219.5 590.5

Enterprise total sales

Operating profit 2002 Electronic components Mechanical components

29.6 13.2

0

(3.4) Less: Unallocated corporate expenses W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds 39.4 ISBN:0471227366 byEnterprise Bar r y J. Epstein and Abbas Ali total operating Mir za profit John Wi ley & Sons © 2003 (952 pages)

2003

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for 36.0 assistance in the prepar at ion and under standing of financial Electronic components statements present ed in accordance with I AS.

8.5

T ab le of Con t en ts Mechanical components

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing (4.5) Standar ds Less: Unallocated corporate Preface

expenses

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

40.0 Enterprise total operating I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 profit of Recognized Gains and Losses Chapter Identifiable 4 - Cash assets, Flow at St net at em carrying ent amounts Chapter 5

- Financial I nstr uments—Cash and Receiv ables

2002 - I nventor y

Chapter 6 Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction 122.9 Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Electronic components

Mechanical components

128.4

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty 7.6 Unallocated corporateand assets Chapter 11 - Business Combinations Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he 258.9 BalanceEnterprise Sheet Date total assets

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

2003 Chapter 14 - Leases Chapter 15 - I ncom e Taxes

Electronic components Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y

Mechanical components Chapter 18 - Earnings Per Share

140.2 118.5 8.1

Chapter 19 - I nterim Financial Repor ting

Unallocated corporate assets

Chapter 20 - Segm ent Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror 266.8 s Chapter 22 - For eignEnterprise Curr ency total assets Chapter 23 -liabilities Related- Part y Disclosures Segment Chapter 24 - Specialized I ndustr ies

2002 Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

components Appendix A - DiElectronic sclosure Checklist

62.3

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed 43.4 Under I AS

Mechanical Appendix C - Com parison ofcomponents I AS, US GAAP, and UK GAAP

105.7

I ndex

Enterprise total liabilities

List of Tables

List of Ex hibits and Ex am ples

2003

List of Sidebar s

Electronic components Mechanical components

59.6 40.1 99.7

Enterprise total liabilities Revenue by geographic area is summarized below (based on location of customers).

(All amounts in $ millions) W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Western Europe Eastern Europe Middle East I n t er n at ion al Accou n t in g St an d ar ds

Net sales 2002

by Bar r y J. Epstein and Abbas Ali Mir za 348.8 John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

113.4

111.7

This com pact and t ruly com pr ehensive qui133.4 ck - refer ence 366.3 98.6 pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial Identifiable assets statements present ed in accordance with I AS.

2003

2002 T ab le of Con t en t s

178.4

63.2

Wiley I AS 20 03—Int er pretation and Application Account ing 183.3 of I nternational 69.5 2003 Standar ds

9.7 5.9

Preface Capital expenditures Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

2002 - Balance Sheet

8.2

4.4

3.0

Chapter 2

I ncom e Statement, Stat em 12.5 ent of Chan ges in Equit5.5 y, and Statem ent 5.9 Chapter 32003 of Recognized Gains and Losses Chapter 4 Europe - Cash includes Flow St atprimarily em ent Western Germany and France, with a relatively small amount of activity in Chapter 5 Financial I nstr uments—Cash and Receiv ablesHungary, Poland, Slovakia and the Czech Belgium and the Netherlands. Eastern Europe includes Chapter 6 The - I nventor Republic. Middley East is principally Lebanon and Syria, with a small level of activity in Egypt and Chapter 7 Rev enue in Recogni tion, IEast ncluding Constralmost uction Contr act sto aftermarket suppliers, whereas Saudi Arabia. Sales the Middle are made entirely Chapter 8 derived - Property , Plant , and Equipment revenues from European markets are predominantly from original equipment manufacturers of Chapter automobiles 9 - I ntangi and construction ble Asset s equipment. Approximately 12% and 14% of sales in Western Europe, for

2002 and 2003, respectively, were made to s, aftermarket for es, Eastern I nterests in Financial Instr um ent Associat es,suppliers; Joint Ventur and European sales, the I nvestm ent Pr oper ty 19% and 23% for 2002 and 2003, respectively. corresponding percentages were

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Chapter 21: Accounting Changes and Correction of I n t er n at ion al Accou n t in g St an d ar ds ISBN:0471227366 Bar r y J. Epstein and Abbas Ali Errors by Mir za John Wi ley & Sons © 2003 (952 pages) com pact and t ruly com pr ehensive qui ck - refer ence PerspectiveThisand Issues pr esent s account ants with a guide to depend on for

assistance the prepar financial at ion andstatements under standing Information contained in an in enterprise's overofafinancial period of time must be comparable statements present ed in accordance with I AS. if they are to be of value to users of those statements. Users of financial statements usually seek to identify trends T ab le of Con t enin t s the enterprise's financial position, performance, and cash flows by studying and analyzing the information contained in those statements. Thus it is imperative that the same accounting Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar policies dsbe applied from year to year in the preparation of financial statements, and that any departures from this rule be clearly indicated. Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Financial statements are the results of choices among different accounting principles and - Balance Sheet methodologies. Companies select those accounting principles and methods that they believe depict, in I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - statements, the economic reality of their financial position, results of operations, and their financial of Recognized Gains and Losses changes in financial position. Changes take place because of changes in the assumptions and Chapter 4 - Cash Flow St at em ent estimates underlying the application of these principles and methods, changes in the acceptable Chapter 5 - Financial I nstr uments—Cash and Receiv ables principles by a promulgating authority, such as an accounting standard-setting body, or other types of Chapter 6 - I nventor y changes. Chapter 2

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8 - for Property , Plant , and Equipment Accounting and reporting of these changes is a problem that has faced the accounting profession Chapter 9 Much - I ntangi ble Asset s for years. financial analysis is based on the consistency and comparability of annual financial

statements. IAny nterests type inof Financial accounting Instr change um ent s, creates Associat anes, inconsistency; Joint Ventur es, thus, anda primary focus of I nvestm ent Pr oper ty management in making the decision to change should be to consider its effect on financial statement Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements comparability. Chapter 10 -

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

IAS 8 deals Balance with accounting changes (i.e., changes in accounting estimates and changes in accounting Sheet Date principles) addresses the correction Ter of errors. Chapter 13 -and Financial I nstr uments—Longm Debt IAS 8 also prescribes the classification, disclosure, and accounting treatment of certain items in the income statement, such as extraordinary items, which Chapter 14 - Leases is the subject matter of Chapter 3. The objectives of this standard in prescribing such accounting Chapter 15 - I ncom e Taxes treatment is sto enhance comparability both with an enterprise's financial statements of Chapter 16 and - Emdisclosures ploy ee Benefit previous years and with the financial statements of other enterprises. Even though the correction of a Chapter 17 - Stock holder s' Equit y fundamental error in financial statements issued previously is not considered an accounting change, it Chapter 18 - Earnings Per Share is discussed in this standard and therefore is covered in this chapter. Chapter 19 - I nterim Financial Repor ting

Chapter 20 - Segm ent Repor tingstatements there is an underlying presumption that an accounting In the preparation of financial Chapter 21 once - Accounting andbe Corchanged rection ofinEraccounting ror s principle, adopted,Changes should not for events and transactions of a similar Chapter 22 consistent - For eign Curr type. This useency of accounting principles enhances the utility of the financial statements. The Chapter 23 - Relatedy Disclosures presumption that an Part entity should not change an accounting principle may be overcome only if the Chapter enterprise 24 -justifies Specialized the use I ndustr of an iesalternative acceptable accounting principle on the basis that it is

preferable. Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

The IASB has proposed substantial changes to the current standard dealing with accounting errors and voluntary changes in accounting principles. In brief, the allowed alternative treatment set forth in current Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS IAS 8—whereby the reporting entity includes the effect of the change in policy or the correction of an Appendix C - Com parison of I AS, US GAAP, and UK GAAP error in profit or loss for the current period and presents comparative information as it was reported in I ndex the financial statements of prior periods without restatement—will be eliminated. It will then be required List of Tables of all entities that the current benchmark treatment, under which comparative prior period data is List of Ex hibits andearliest Ex am ples restated and the reported retained earnings balance is adjusted for the effect of the correction List of Sidebar of an error ors a voluntary change in accounting policy, be employed in all instances. Appendix A - Di sclosure Checklist

Amendments to IAS 8 will furthermore move some guidance currently found in IAS 1 to IAS 8, while other guidance found presently in IAS 8 will be relocated to IAS 1. The incumbent term "fundamental error" will be superseded by a somewhat more broadly defined "error." Also, a formal hierarchy of IAS will be set forth for the first time by revised IAS 8. Sources of IAS

IAS 8

SIC 8 W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

ile yTerms I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f DefinitionsWof I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za Accounting policies

John Wi ley & Sons © 2003 (952 pages)

Specific principles, bases, conventions, rules, and practices adopted by an enterprise This com pact and t ruly com pr ehensive qui ck - refer ence in pr preparing and presenting esent s account ants with afinancial guide tostatements. depend on for assistance in the prepar at ion and under standing of financial

Change in accounting estimate statements present ed in accordance with I AS. A revision of an accounting measurement based on new information, more T ab le of Con t en t s experience, or subsequent developments. The use of reasonable estimates is an Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing essential part of the financial statement preparation process and does not undermine Standar ds their reliability. Since uncertainties are inherent in day-to-day business activities, Preface revisions to such accounting estimates are an acceptable practice in the accounting Chapter 1 - I ntr oduction to I nter national Accounting Standar ds process. Chapter 2

- Balance Sheet

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Change Chapter 3 - in accounting principle of Recognized Gains and Losses

A switch from one generally accepted accounting principle to another generally accepted accounting principle, including the methods of applying these principles.

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6 - I nventor y Comparability Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

The quality of information that enables users to identify similarities in and differences between two sets of economic phenomena.

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Consistency Chapter 10 I nvestm ent Pr oper ty

Consistency refers to conformity from period to period with unchanging policies and procedures. It enhances the utility of financial statements to users by facilitating Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 analysis and understanding of comparative accounting data. Balance Sheet Date Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Cumulative effect

Chapter 14 - Leases

The difference between the beginning retained earnings balance of the year in which the change is reported and the beginning retained earnings balance that would have Chapter 16 - Em ploy ee Benefit s been reported if the new principle had been applied retrospectively for all prior periods Chapter 17 - Stock holder s' Equit y that would have been affected. Chapter 15 - I ncom e Taxes

Chapter 18 - Earnings Per Share Chapter Error19 - I nterim Financial Repor ting Chapter 20 - Segm enteffect Repor ting The on the financial statements that results from mathematical mistakes, Chapter 21 - Accounting and accounting Cor rection of Er ror s mistakesChanges in applying principles, misinterpretations of facts, fraud, or Chapter 22 - For oversights. eign Curr ency Chapter 23 - Related- Part y Disclosures

Fundamental error I ndustr ies Chapter 24 - Specialized Chapter 25 - I nflation An error andthat Hyperinflation has such a significant effect on the financial statements of one or more Chapter 26 - Govprior er nmperiods ent Gr anthat ts those financial statements can no longer be considered to have

been reliable at the date of their issue. Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Pro forma information

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Financial information that is prepared on an "as if" basis. The disclosure of required numbers computed on the assumption that certain events have transpired. Where List of Tables allowed alternative treatments are followed in lieu of the benchmark treatments List of Ex hibits and Ex am ples established by IAS 8, additional pro forma information is to be presented. I ndex

List of Sidebar s

Restatement of comparative financial information The recasting of a prior period's balance sheet or income statement information where there has been a change in accounting policy or correction of a fundamental error and the benchmark treatment is followed.

W ile y I AS and 2 0 03 : Examples I n t erp re t at ion an d Ap p licat io n o f Concepts, Rules, I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

ImportanceMirof za Comparability and Consistency in Financial John Wi ley & Sons © 2003 (952 pages) Reporting This com pact and t ruly com pr ehensive qui ck - refer ence

pr esent s account ants withhave a guide depend Generally accepted accounting principles longtoheld that on an for important objective of financial assistance in the prepar at ion and under standing of financial reporting is to encourage comparability among financial statements produced by essentially similar statements present ed in accordance with I AS. enterprises. This is necessary to facilitate informed economic decision making by investors, creditors, T ab le of Con t en ts prospective employees, joint venturers, and others. While complete comparability will not be achieved as long principles accountingofand reporting remain for like transactions and Wiley I ASas 20alternative 03—Int er pretation andofApplication I nternational Accountacceptable ing Standar events,dsa driving force in developing new accounting standards is to enhance comparability. The Preface IASC's efforts in the early 1990s (the comparability project) did, in fact, narrow the range of acceptable Chapter 1 -methods I ntr oduction to I nter national Accounting Standar ds occurred as the core set of standards alternative of accounting, and further narrowing has Chapter were developed 2 - Balance to comply Sheet with the agreement with IOSCO, as described in Chapter 1. Furthermore, as the IASB prepares to accomplish theof objective about convergence of national I ncom eitself Statement, Stat em ent Chan gesofinbringing Equit y, and Statem ent Chapter 3 of Recognized andobjective Losses enshrined in the new constitution of the IASC), further accounting standards and Gains IAS (the Chapter 4 - of Cash Flow St atcan em ent elimination alternatives be anticipated. Chapter 5

- Financial I nstr uments—Cash and Receiv ables Comparability refers yto the quality of information that enables users to identify similarities in and Chapter 6 - I nventor

differences- between two sets of economic phenomena. Normally, comparability is a quantitative Rev enue Recogni tion, I ncluding Constr uction Contr act s assessment of a common characteristic.

Chapter 7 Chapter 8

- Property , Plant , and Equipment

Chapter 9 - I ntangi ble Asset s qualitative characteristic of comparability is that users be informed of the An important implication of the I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and accounting Chapter 10 - policies employed in the preparation of the financial statements, any changes in those I nvestm ent Pr oper ty

policies, and the effects of such changes. Disclosure of accounting policies was discussed in Chapters

Chapter Business Combinations and appropriate Consolidat edcommunications Fin ancial Statements 2,3, and114;- this chapter addresses the of changes in accounting policies Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he and related Chapter 12 - matters. Balance Sheet Date Chapter 13 - Financial nstr uments—LongTer m Debt Compliance with IAS Ihelps in achieving comparability, since the adoption of IAS by enterprises Chapter 14 Leases facilitates relative evaluation of financial data using a common accounting language. The need for Chapter comparability, 15 - I ncom however, e Taxes should not be confused with mere uniformity and should not be allowed to

become16a -barrier oreeanBenefit impediment to the adoption of improved accounting methods. Chapter Em ploy s Chapter 17 - Stock holder s' Equit y

As contrasted with comparability, consistency refers to a given reporting entity's conformity from period to period with unchanging policies and procedures. The quality of consistency enhances the utility of Chapter 19 - I nterim Financial Repor ting financial statements to users by facilitating analysis and understanding of comparative accounting data. Chapter 18 - Earnings Per Share

Chapter 20 - Segm ent Repor ting

Chapter 21 -toAccounting Changes and Cor rection of Er ror s According IAS 1 (revised), Chapter 22 - For eign Curr ency

...the presentation and classification of items in the financial statements should be retained from

Chapter - Relatedy Disclosures one23period to thePart next unless a significant change in the nature of the operations of the enterprise Chapter 24 Specialized I ndustr statement ies or a review of its financial presentation demonstrates that more relevant information is Chapter 25 - I nflation and Hyperinflation provided in a different way. Chapter 26 - Gov er nm ent Gr an ts

It is, however, inappropriate for an enterprise to continue accounting for transactions in the same Appendix A - Di sclosure Checklist manner ifB the policieseadopted qualitative characteristics of relevance and reliability. Thus, if more Appendix - I llustrativ Financiallack St atem ent s Pr esent ed Under I AS reliable and relevant alternatives it isand better for the enterprise to change its methods of Appendix C - Com parison of I AS, USexist, GAAP, UK GAAP accounting for defined classes of transactions.

I ndex

List of Tables

Reporting Accounting Changes

List of Ex hibits and Ex am ples List of Sidebar s

IAS 8 describes three ways of reporting accounting changes and the type of change for which each should be used. These are 1. Retrospectively 2. Currently 3. Prospectively

Retrospective treatment requires an adjustment to all current and prior period financial statements for the effect of the accounting change. Prior period financial statements presented currently are to be restated on a basis consistent newly adopted principle. W ile y I AS 2 0with 03 : Ithe n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Current treatment requires reporting the cumulative effect of the accounting change in the current ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali year's income statement as a special item. Prior period financial statements are not restated. Mir za John Wi ley & Sons © 2003 (952 pages)

Prospective treatment of accounting changes requires no restatement of prior financial statements and com pact and t ruly com pr ehensive qui ck - refer ence no computing or This reporting of the accounting change's cumulative effect in the current period's income pr esent s account ants with a guide to depend on for statement. Only current and/or future periods' financial data reflect the accounting change. assistance in the prepar at ion and underreport standing of will financial statements present ed in accordance with I AS.

Each type of accounting change and the proper treatment prescribed for them are discussed in detail in T ab le following of Con t en ts the sections. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Change in Accounting Policy

Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds A change in any accounting policy means that a reporting entity has switched from one generally

Chapter 2 accounting - Balance Sheet accepted principle to another. According to IAS 8, the term accounting policy includes the I ncom e Statement, Stat em ent ofrules Chanand ges practices in Equit y, used. and Statem ent accounting principles, bases, conventions, For example, a change in Chapter 3 of Recognized Gains and Losses

inventory costing from weighted-average to first-in, first-out would be a change in accounting policy, as - Cash Flow St at em ent would a change in accounting for borrowing costs from capitalization to immediate expensing.

Chapter 4 Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter An interpretation 6 - I nventor of ay similar definition under US GAAP provides a meaningful framework by

establishing thatenue a change intion, the components used to cost a firm's Chapter 7 - Rev Recogni I ncluding Constr uction Contr act s inventory is a change in accounting principle. FASB, interpretation also clarified that the preferability assessment (relating to the Chapter 8 This - Property Plant , and Equipment selection appropriate Chapter 9 of - Ithe ntangi ble Asset saccounting policy or principle in particular circumstances) must be made from the perspective basis and not income tax perspective. I nterests of in financial Financial reporting Instr um ent s, Associat es,from Jointthe Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty

Changes in accounting policy are permitted if

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

1. The change accounting will ingencies, result in a and more presentation of events or Curr ent in Liabilit ies, Provprinciple isions, Cont Evappropriate ents after t he Balance in Sheet Date transactions the financial statements of the enterprise, or

Chapter 12 -

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

2. The Chapter 14 - change Leases in accounting principle is required by an accounting standard-setting body, or Chapter 15 - I ncom e Taxes

3. The change in accounting principle is required by statute.

Chapter 16 - Em ploy ee Benefit s Chapter IAS 8 does 17 - not Stock regard holderthe s' Equit following y as changes in accounting policies: Chapter 18 - adoption Earnings of PeranShare accounting policy for events or transactions that differ in substance from 1. The Chapter previously 19 - I nterim Financialevents Repor ting occurring or transactions; and Chapter 20 - Segm ent Repor ting

2. The of Changes a new accounting policyoftoEraccount for events or transactions that did not occur Chapter 21 - adoption Accounting and Cor rection ror s or Curr thatency were immaterial Chapter previously 22 - For eign Chapter 23 - Related- Part y Disclosures

The provisions of IAS 8 are not applicable to the initial adoption of a policy to carry assets at revalued amounts, although such adoption is a change in accounting policy. Rather, it is dealt with as a Chapter 25 - in I nflation and Hyperinflation revaluation accordance with IAS 16 or IAS 38, as appropriate under the circumstances. Chapter 24 - Specialized I ndustr ies Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

Benchmark and Allowed Alternative Accounting Treatments

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Appendix C - Com parison of I AS,of USreporting GAAP, and UK GAAP IAS 8 prescribes two methods a change in accounting policy, depending on whether the I ndex benchmark treatment or the allowed alternative method is used. If the benchmark treatment is used, a List of Tables change in accounting policy is to be applied retrospectively (unless the amount of the resultant List of Ex hibits andthe Ex am ples relating to the prior period is not reasonably determinable). With adjustment from change List of Sidebar application ofs the retrospective effect to the change in accounting policy, the following adjustments will

have to be made: 1. The comparative information presented for the prior periods will be restated to reflect the effect of the change in accounting policy; the effect will be computed under the assumption that the new accounting policy had always been in use. 2. The cumulative effect of the change (resulting from the retrospective application of the accounting policy to prior periods) net of income taxes, if any, will be reported as an adjustment to the opening balance of the retained earnings.

3. Any other information with respect to prior periods, such as historical summaries of financial data, is also restated. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

If the allowed alternative treatment is chosen by the enterprise instead of the benchmark treatment by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

1. The cumulative Mir za effect of the change (resulting from the retrospective application of the accountingJohn policy) net&ofSons income taxes, if any, will have to be included in the determination of the Wi ley © 2003 (952 pages) current year's net profit or loss. This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

2. The comparative information for the prior assistance in the prepar at ion andperiod underpresented standing ofalongside financial the current year's figures need not be restated as in theedcase of the application statements present in accordance with I AS.of the benchmark treatment above. In other words, the comparative information will be presented as reported in the prior years' T ab le of Con t en t s financial statements. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar 3. ds Additional pro forma comparative information (prepared based on the guidelines above for the Preface application of the benchmark treatment) will also need to be presented. Chapter 1

- I ntr oduction to I nter national Accounting Standar ds The cumulative effect of a change in accounting principle is to appear as a single amount in the income Chapter 2 - Balance Sheet

statement between items and income the y, allowed alternative treatment is used, and I ncom e extraordinary Statement, Stat em ent ofnet Chan ges in ifEquit and Statem ent as a single amount shownGains as anand adjustment of Recognized Losses to the opening retained earnings balance if the benchmark treatment applied. Chapter 4 is - Cash FlowThis St atsingle em ent amount should be the difference between Chapter 3

Chapter 5 - amount FinancialofI nstr uments—Cash Receiv ables of the period, and 1. The retained earnings and at the beginning Chapter 6 - I nventor y

2. The retained earnings thatConstr woulduction have Contr beenact reported at that date if the new Chapter 7 - amount Rev enueofRecogni tion, I ncluding s principle been applied retroactively to all prior periods affected. Chapter accounting 8 - Property , Plant , had and Equipment Chapter 9

- I ntangi ble Asset s

The cumulative effect is generally determined by first calculating income before taxes for both the new I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter principle 10and - the old principle for all prior periods affected. The difference between the two incomes for I nvestm ent Pr oper ty each prior period is then determined. Next, these differences are adjusted for tax effects. Finally, the Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements net of tax differences for each prior period are totaled. This total represents the cumulative effect Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - at the beginning of the current period. The cumulative effect will either be an addition to or a adjustment Balance Sheet Date subtraction from current income, depending on how the change to the new principle affects income. Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 14 -only Leases Generally, the direct effects of the change and the related income tax effect should be included in Chapter 15 I ncom e Taxes the cumulative effect calculation (i.e., if the company changes its method of costing inventories, only Chapter 16 -of Em ploy ee Benefit s the effects the change in cost of goods sold, net of tax, are considered to be direct effects). Indirect Chapter - Stock holder s' Equit effects,17 such as the effect on ayprofit-sharing contribution or bonus payments that would have occurred Chapter 18 -of Earnings Per Share as a result the change in net income, are not included in the cumulative effect computation unless

these are recorded by the firm (i.e., the expense is actually incurred). Chapter 19 to - Ibe nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

The computation of income on a pro forma basis must be made for each period currently presented. The objective is to present income before extraordinary items and net income as if the new principle Chapter 22 - For eign Curr ency were being applied. This is achieved by adjusting each period's income before extraordinary items as Chapter 23 - Related- Part y Disclosures reported previously (i.e., applying the old principle). The adjustment is made by adding or subtracting Chapter 24 - Specialized I ndustr ies the difference in income net of tax for the period to income before extraordinary items as reported Chapter 25 - The I nflation and Hyperinflation previously. difference, net of tax, is the change in income that occurs when the new principle is Chapter 26 Gov er nm an ts applied instead of theent oldGrprinciple. This results in a figure for income before extraordinary items that Appendix A - application Di sclosure Checklist reflects the of the new principle. Net income is then calculated as normally done from the Appendix - I llustrativ e Financial St atemitems. ent s Pr esent edshare Underamounts I AS adjustedBincome before extraordinary The per required are based on the pro Appendix C Com parison of I AS, US GAAP, and UK GAAP forma income before extraordinary items net income amounts. Chapter 21 - Accounting Changes and Cor rection of Er ror s

I ndex

Theofpro forma calculation differs from that of the cumulative effect. It is to include both the direct effects List Tables of the change and the nondiscretionary adjustments of items based on income before taxes or net income. Examples of nondiscretionary items are profit-sharing expense or certain royalties. Both of List of Sidebar s these expenses are in some way based on net income, generally as a specified percentage. The related tax effects should be recognized for both the direct and nondiscretionary adjustments. List of Ex hibits and Ex am ples

The following example illustrates the computations and disclosures necessary when applying the cumulative effect method. Example of benchmark and alternative treatments of changes in accounting policy under IAS 8 In 2003, the Zircon Company adopted the percentage-of-completion method of accounting for long-

term construction contracts. The company had used the completed-contract method for all prior years. The following sections present extracts from the statements of earnings and retained earnings of Zircon W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Company before Iadjusting for the effects of the change in accounting policy. Net profit for 2003 was n t er n at ion al Accou n t in g St an d ar ds determined under the percentage-of-completion method of accounting. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

2003

2002

This com pact and t ruly com pr ehensive qui ck - refer ence Profit from ordinary activities before income taxes $120,000 $130,000 pr esent s account ants with a guide to depend on for standing of financial Income taxes assistance in the prepar at ion and under(20,000) (26,000) statements present ed in accordance with I AS.

Net profit T ab le of Con t en t s

Retained earnings, beginning

100,000

104,000

134,000

30,000

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds earnings, ending Retained $234,000 $134,000 Preface Chapter The effects 1 - of I ntr the oduction changetoinI nter accounting national policy Accounting are presented Standar dsbelow. Chapter 2

- Balance Sheet

Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, the and Statem ent Difference in income under Effect of the change of Recognized Gains percentage-of-completion and Losses method net of income taxes

Chapter 4

- Cash Flow St at em ent Prior to $20,000 Chapter 5 2002 - Financial I nstr uments—Cash and Receiv ables

$14,000

Chapter 6 - I nventor y For 2002

15,000

10,500

Chapter 7

35,000

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

as of the Chapter 8Total - Property , Plant , and Equipment

24,500

beginning of 2003 - I ntangi ble Asset s

Chapter 9

For 2003 I nterests in Financial Instr um ent s, $20,000 Associat es, Joint Ventur es, and

Chapter 10 -

$14,000

I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he The following Chapter 12 - pages provide an illustration of the accounting treatment and presentation of financial Balance Date statements under theSheet benchmark treatment and the allowed alternative treatment of the changes in Chapter 13 - policies FinancialinI nstr uments—LongTer 8. m Debt accounting accordance with IAS Chapter 14 - Leases

Changes in Accounting Policies: Benchmark Treatment Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter - Stock holder s' Equit y Income Statement Zircon 17 Company Extracts from Chapter 18 - Earnings Per Share

2003

2002 restated

Profit from ordinary Chapter 20 - Segm ent activities Repor tingbefore income taxes

$120,000

$145,000

Chapter 21taxes - Accounting Changes and Cor rection of Er ror s Income

(20,000)

(30,500)

$100,000

$114,500

Chapter 19 - I nterim Financial Repor ting

Chapter 22 - For eign Curr ency

Net profit

Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation

Zircon 26 Company Statement of Changes in Equity (Retained Earnings columns only) Chapter - Gov er nm ent Gr an ts Appendix A -earnings, Di sclosure Checklist as reported previously Retained beginning, Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

$134,000

$ 30,000

24.500

14,000

ListRetained of Tablesearnings, beginning, as restated

158,500

44,000

ListNet of profit Ex hibits and Ex am ples List of Sidebar s

100,000

114,500

$258,500

$158,500

Change in accounting policy, net of income taxes of $ 10,500 for 2003 and $6,000 for 2002 (see Note 1)

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Retained earnings, ending

Zircon Company Extracts from Notes to the Financial Statements Note 1: During 2003, Zircon Company changed the accounting policy for revenue and costs for a long-term construction contract from the completed-contract method to the percentage-ofcompletion method, to conform with the accounting treatment of contract revenue and contract costs under IAS 11, Construction Contracts. This change in accounting policy has been accounted

for retrospectively. The comparative financial statements for 2002 have been revised to conform to the changed policy. The effect of this change is to increase income from contracts by $20,000 in 2003 and $15,000 2002. Opening 2002 W ile y in I AS 2 0 03 : I n t erpretained re t at ionearnings an d Ap pfor licat io n has o f been increased by $14,000, which is the amount of the adjustment relating to periods prior to 2002, net of income tax effect of I n t er n at ion al Accou n t in g St an d ar ds $6,000. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za

Explanation.John Under the&benchmark Wi ley Sons © 2003treatment, (952 pages) a change in accounting policy should be applied retrospectively unless the amount of any resulting adjustment that relates to prior periods is not This com pact and t ruly com pr ehensive qui ck - refer ence reasonably determinable. Any resulting adjustment should pr esent s account ants with a guide to depend onbe forreported as an adjustment to the opening balance of retained Comparative information should be restated unless assistance in theearnings. prepar at ion and under standing of financial present ed in in preparing accordance with I AS. financial statements and related impracticablestatements to do so. The steps the revised disclosures are as follows: T ab le of Con t en t s The 2003 income statement is notofadjusted, sinceAccount it already Wiley I AS1.20 03—Int er pretation and Application I nternational ing reflects application of the new Standar ds policy. Preface

2002 income statement restated as follows: Chapter 12. - The I ntr oduction to I nter national is Accounting Standar ds Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

ordinaryStat activities taxes, IProfit ncom efrom Statement, em ent before of Chanincome ges in Equit y, as andpreviously Statem entreported of Recognized Gains and Losses Effect of the change in accounting policy

Chapter 5

As restated - Financial I nstr uments—Cash and Receiv ables

15,000 145,000

Chapter 7

- IIncome nventor ytaxes as previous reported - Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

restated - IAs ntangi ble Asset s

Chapter 6

$130,000

26,000

Income tax effect of the change in accounting policy ($15,000 – $10,500)

4,500 30,500

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - Net income as restated I nvestm ent Pr oper ty

$114,500

Chapter 11 Business Combinations and Consolidat ed Fin ancial Statements 3. - As presented in the statement of retained earnings, the opening retained earnings for 2002 Currrestated ent Liabilit ies, Provan isions, Cont ingencies, and Ev ents after t he the amount of adjustment was to reflect increase of $14,000, which represents Chapter 12 BalancetoSheet Date related periods prior to 2002, net of income tax effect of $6,000. The opening balance of Chapter 13 - 2003 Financial nstr uments—LongTerwhich m Debtrepresented the effect of the change at the beginning was Iadjusted by $24,500, Chapter 14 - of Leases 2003, net of income taxes. Chapter 15 - I ncom e Taxes

Changes in Accounting Policy: Allowed Alternative Treatment Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y

Under the allowed alternative treatment set forth in IAS 8, the amount computed from the retroactive application of the new accounting policy is included in income of the current period. Chapter 19 - I nterim Financial Repor ting are also required under this approach. Using the same facts as Additional pro forma presentations Chapter 20 -preceding Segm ent discussion, Repor ting the alternative treatment is illustrated as follows: in the Chapter 18 - Earnings Per Share

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Zircon Company Extracts from Income Statement

Chapter 23 - Related- Part y Disclosures

Pro forma

Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

2003

(Restated) 2003

2002

(Restated) 2002

Appendix A - Di sclosure Checklist

Profit from Appendix B - Iordinary llustrativactivities, e Financialbefore St atem ent s Pr esent ed Under I AS income taxes and effect of change in accounting policy

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

$120,000

$130,000

$120,000

$145,000

35,000

--

--

--

155,000

130,000

120,000

145,000

30,500

26,000

20,000

30,500

$124,500

$104,000

$100,000

$114,500

ListCumulative of Tables effect of change in Listaccounting of Ex hibitspolicy and Ex am ples ListProfit of Sidebar s from ordinary activities, before

income taxes Income taxes (including effect of a change in accounting policy) Net profit

Zircon Company Statement of Changes in Equity (Retained Earnings columns only) Pro forma W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f (Restated) I n t er n at ion al Accou n t in g St an d ar ds

2003 by Bar r y J. Epstein and Abbas Ali Mir za Retained earnings, beginning, as John Wi ley & Sons © 2003 (952 pages) previously reported

2002 ISBN:0471227366 2003

(Restated) 2002

$134,000

$ 30,000

$134,000

$ 30,000

--

--

24,500

14,000

30,000

158,500

44,000

Net profit 124,000Standar 104,000 Chapter 1 - I ntr oduction to I nter national Accounting ds

100,000

114,500

$258,500

$158,000

This com pact and t ruly com pr ehensive qui ck - refer ence pr esentpolicy s account Change in accounting for ants with a guide to depend on for assistance prepar at ion and under standing of financial construction contracts, net inof the income statements present ed in accordance with I AS.

taxes of $10,500 for 2003 and $6,000 (Note T abfor le 2002 of Con t en t s1)

Wiley I AS 20earnings, 03—Int er pretation and Retained beginning, asApplication of I nternational Account ing Standar ds

restated

134,000

Preface

Chapter 2 -earnings, Balance Sheet Retained ending

$258,500

$134,000

Chapter 3

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Chapter 4

- Cash Zircon Flow St Company at em ent Extracts from Notes to the Financial Statements

Chapter 5

- Financial I nstr uments—Cash and Receiv ables Note adjustment of $35,000 has been made in the income statement for 2003, representing Chapter 6 1: - I An nventor y

the7effect ofenue a change in tion, the accounting policyuction with respect Chapter - Rev Recogni I ncluding Constr Contr actto s revenue and costs for long-term construction contracts. company now uses the percentage-of-completion method instead of Chapter 8 - Property , Plant , The and Equipment the9completed-contract Chapter - I ntangi ble Asset smethod, to conform to the accounting treatment of contract revenue and costs prescribed byFinancial IAS 11. This change accounting policy hases, been I nterests in Instr um ent s, in Associat es, Joint Ventur andaccounted for Chapter 10 retrospectively. Restated pro forma information, which assumes that the new policy had always I nvestm ent Pr oper ty

been use, is presented. Beginning retainededearnings the pro forma information for 2002 has Chapter 11 in - Business Combinations and Consolidat Fin ancialinStatements been increased by $14,000, which is Cont the amount of adjustment relating Curr ent Liabilit ies, Prov isions, ingencies, and Ev ents after t heto periods prior to 2002, net of income tax effect $6,000. Balance SheetofDate

Chapter 12 -

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - LeasesUnder the allowed alternative, a retroactive computation is still required, but instead Explanation. Chapter 15 - I ncom e Taxes of including the cumulative effect of the change in the restated balance of opening retained Chapter 16 - Emitploy ee Benefit earnings, is included insincome of the current period. Furthermore, if the alternative treatment is Chapter 17 - Stock holderpro s' Equit y information must be presented (effectively, this means that the elected, additional forma Chapter 18 - Earnings Per Share benchmark treatment must also be presented if the allowed alternative is used) unless it is Chapter impracticable 19 - I nterimtoFinancial do so. Repor ting Chapter 20 - Segm ent Repor ting

Proposed changeChanges to reporting changes ins Chapter 21 - Accounting and Cor rection of Er ror

accounting policies.

Chapter 22 - For eign Curr ency

As part of the IASB Improvements Project, changes have been proposed for IAS 8. The central theme is the elimination of alternative treatments, consistent with the goal of achieving convergence among Chapter 24 - Specialized I ndustr ies various standard setters' prescribed financial reporting requirements. Chapter 23 - Related- Part y Disclosures

Chapter 25 - I nflation and Hyperinflation

Chapter 26 - Gov er nm ent delete Gr an tsthe current allowed alternative treatment of voluntary changes in As amended, IAS 8 will Appendix accounting A - policies. Di sclosure Under Checklist present rules, as explained above, both benchmark and allowed alternative

methodsBhave been prescribed. Asatem is the for corrections of errors, the benchmark approach Appendix - I llustrativ e Financial St entcase s Pr esent ed Under I AS requires Cthat comparative data beUK restated Appendix - Com parison of prior I AS, period US GAAP, and GAAP and the earliest reported retained earnings balance be adjusted for the effect of the voluntary change in accounting policy. The allowed alternative I ndex permits the reporting entity to include the effect of the change in policy in profit or loss for the current List of Tables period present information as it was reported in the financial statements of prior List of Exand hibits and Excomparative am ples periods, without restatement.

List of Sidebar s

As amended, a reporting entity will no longer be permitted by IAS 8 to include the adjustment resulting from retrospective application of changes in accounting policies in profit or loss for the current period. Also, the exemption from presenting restated comparative financial statements would be based on "undue cost or effort," from the present "impracticability" standard. In a related proposed change, the amended IAS 8 would require (rather than merely encourage) disclosure of the nature of a future change in an accounting policy when an entity has yet to implement a new standard that has been issued but not yet become effective. In addition, disclosure would be

required of the planned date of adoption, as well as an estimate of the effect of the change on the entity's financial position, unless undue cost or effort would be needed to make such an estimate. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Adoption of International Accounting Standards by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mirarises za A special situation when an enterprise adopts international accounting standards for the first John Wi ley & Sons by © 2003 (952 pages) time. While it is possible to reason analogy that this action represents a change in accounting This com pact and t ruly com prchange ehensiveinqui - refer ence principles), it is more meaningful principle (or more accurately, a simultaneous allckaccounting pr esent s account ants with a guide to depend onas forthe change from the cash to the to view this event as a change in the basis of accounting, such assistance in the prepar at ion and under standing of financial accrual basis of preparing financial statements would be. Just as it would be misleading, or at the least statements present ed in accordance with I AS. meaningless, to present comparative financial statements with one year on the cash basis and the next T ab of accrual Con t en tbasis, s onlethe with the net adjustment to beginning balances in the second year's balance sheet Wiley 20 03—Int er pretation and Application Account eitherI AS taken to second year income or shown of asI nternational a charge or credit toing beginning retained earnings, so it Standar would ds be useless to present the first year under US GAAP and the second year in accordance with IAS. Preface

With more entities embracing the question arises as to how the initial application should Chapter 1 -reporting I ntr oduction to I nter national IAS, Accounting Standar ds be reported (i.e., as Sheet a change in accounting principles or as a retroactive adjustment). The IASC's Chapter 2 - Balance Standing Interpretations Committee has for the adoption of IAS in SIC 8. This I ncom e Statement, Stat em entclarified of Chanthe gesaccounting in Equit y, and Statem ent interpretation that in the first period IAS are employed, the statements should be prepared as if of finds Recognized Gains and Losses IAS had4 always Thus, retroactive application is required, except for those standards and Chapter - Cashbeen Flow utilized. St at em ent interpretations which Ipermit a different transitional or when the effects on prior periods Chapter 5 - Financial nstr uments—Cash and Receiv treatment, ables cannot be determined. Comparative financial statements and information would be prepared in Chapter 6 - I nventor y conformity with the IAS as well. Any net adjustment would be included in the opening balance of Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s retained earnings of the earliest period reported upon. Chapter 8 - Property , Plant , and Equipment Chapter 3

Chapter 9

- I ntangi ble Asset s Proposed change to standard on first-time adoption.

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

As noted, the current requirement set forth by SIC 8 requires that, in the period of first-time application of IAS as the primary accounting basis, the financial statements of an enterprise, including comparative Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he information, Chapter 12 - should be prepared and presented as if the financial statements had always been prepared Balance Sheet Date in accordance with the IAS effective for the period of first-time application. Therefore, the Standards Chapter 13 - Financial I nstr uments—Long- Ter m Debt and Interpretations are to be applied retrospectively, except when Standards or Interpretations require Chapter 14 - Leases or permit a different transitional treatment or when the amount of the adjustment relating to prior Chapter - I ncom Taxes periods15 cannot be ereasonably determined. Adjustment amounts are to be treated as an adjustment to Chapter 16 Em ploy ee s earnings of the earliest period presented in accordance with IAS. If the opening balance ofBenefit retained Chapter 17 - Stock holder s' Equit y adjustments relating to prior periods or comparative information cannot be determined, the fact must be Chapter 18 in - Earnings Per Share disclosed the notes. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Chapter 19 - I nterim Financial Repor ting

SIC 8 thus theting body of IAS in effect in the period when the adoption is effected is to be Chapter 20 - requires Segm entthat Repor

applied21 to all prior periods being and reported on, explicitly Chapter - Accounting Changes Cor rection of Er ror s(via comparatives) or implicitly (in the adjustment to beginning retained earnings of the earlier comparative period displayed). It is not necessary, or permitted, to attempt to identify the effective dates when specific standards would have first impacted Chapter 23 - Related- Part y Disclosures the financial statements. This was done as a pragmatic solution to what would have otherwise been for Chapter 24 - Specialized I ndustr ies many reporting entities a massive undertaking (and one which might well have dissuaded some from Chapter 25 - I nflation and Hyperinflation adopting IAS). Chapter 22 - For eign Curr ency

Chapter 26 - Gov er nm ent Gr an ts

Appendix A IASB - Di sclosure Checklist Currently, has exposed a proposed new standard, First-Time Application of IFRS, which would Appendix supersede B - SIC I llustrativ 8 andealter Financial someStofatem the ent present s Pr esent procedures ed Underfor I AS implementation of IAS-compliant

financialCreporting. The proposal differs 8 in (1) creating targeted exemptions, notably in Appendix - Com parison of I AS, US GAAP,from andSIC UK GAAP specified areas where retrospective application is likely to cause undue cost or effort, while SIC 8 I ndex contained less specific exemptions that applied when retrospective application would be impracticable; List of Tables (2)ofclarifying entity List Ex hibits that and an Ex am plesapplies only the latest version of IFRS, if the exemptions are applied; (3)

clarifying hows a first-time adopter's estimates under IFRS relate to the estimates it made for the same List of Sidebar

date using its previous basis of accounting; (4) specifying that the transitional provisions in other IFRS do not apply to a first-time adopter; and (5) requiring enhanced disclosure about how the transition to IFRS affected an entity's reported financial position, financial performance, and cash flows.

If adopted, the standard will require that an entity adopting IAS (which are now called IFRS) for the first time will need to prepare an opening IFRS balance sheet at the beginning of the earliest comparative period presented in its first IFRS financial statements (to be known as the "date of transition to IFRS"). Thus, if an entity's first IFRS financial statements are for the year ended 31 December 2005, it will need

to prepare an opening IFRS balance sheet at 1 January 2004 (or earlier, if it presents comparative information for more than a single year). It would W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Recognize allI nassets and liabilities whose recognition is required by IFRS; t er n at ion al Accou n t in g St an d ar ds ISBN:0471227366 byitems Bar r yas J. assets Epstein or and Abbas Ali Not recognize liabilities if IFRS do not permit such recognition;

Mir za Johnthat Wi ley Sons © 2003 (952 pages) Reclassify items the& entity recognized under its previous basis of accounting (previous GAAP) This com pact and t ruly com pr ehensive quibut ck - refer as one type of asset, liability or component of equity, that ence are a different type of asset, liability pr esent s account ants with a guide to depend on for or component of equity under IFRS; and assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Apply IFRS in measuring all recognized assets and liabilities. T ab le of Con t en t s

The proposed standard would permit limited exemptions from the above requirement, which would be

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing optionally Standar ds available to the reporting entity. The standard would, however, require that if an entity uses

any of the exemptions, it would have to apply all applicable exemptions. Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds These proposed exemptions fall into three categories. First, since determination of cost-based

Chapter 2 - Balance measurements long Sheet after acquisition dates of assets (or incurrence date of liabilities) is expected to be I ncom e Statement, em ent Chan to gesmeasure in Equit y, and assets, Statem ent problematic, the proposal wouldStat require anofentity some liabilities, and components Chapter 3 of Recognized Gains and Losses

of equity on a different basis and use that measurement as a deemed cost. This requirement would Flow St at em ent apply only -toCash (1) property, plant, and equipment; (2) goodwill and other assets and liabilities acquired in Chapter 5 Financial I nstr uments—Cash and business combinations recognized before theReceiv date ables of transition to IFRS; (3) net employee benefit Chapter 6 I nventor y assets or liabilities under defined benefit plans (at the date of transition to IFRS, an entity would Chapter 7 them - Revin enue Recogni tion, Constr uction act s gains or losses would remain measure accordance withI ncluding IAS 19, except that noContr actuarial Chapter 8 Property , Plant , and Equipment unrecognized); and (4) cumulative translation differences relating to a net investment in a foreign Chapter 9 - I ntangi ble Asset s operation. Chapter 4

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

Second, in acknowledgement of the fact that some amounts determined under previous GAAP may be I nvestm ent Pr oper ty based on and that someand of these valuations may be more relevant to users than original Chapter 11 a- valuation Business Combinations Consolidat ed Fin ancial Statements cost in two cases, cost, the proposed standard would permit an entity to use valuations as deemed Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 Balance Date notwithstanding that Sheet a cost-based measurement under IFRS is without undue cost or effort. The first of these pertains to priorI nstr revaluations accomplished Chapter 13 - Financial uments—LongTer m Debtby means of general or specific price indices applied to a cost is broadly comparable to cost determined under IFRS, or prior revaluations to amounts Chapter 14that - Leases broadly15 comparable to fair values determined under IFRS. A reporting entity could treat such revalued Chapter - I ncom e Taxes amounts deemed under Chapter 16as - Em ploy eecost Benefit s IFRS at the date of the revaluation. Chapter 17 - Stock holder s' Equit y

The other case involves the situation where an entity had established a deemed cost under previous GAAP for some or all of its assets and liabilities by measuring them at their fair values at one particular Chapter 19 - I nterim Repor date, because of anFinancial event such as ting a privatization or initial public offering. Such event-driven Chapter 20 - Segm ent Repor ting a deemed cost at that date for subsequent accounting under IFRS. measurements would establish Chapter 18 - Earnings Per Share

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Third, the prohibit the full retrospective application of IAS 39 in one area that relies on Chapter 22 standard - For eign would Curr ency designation by management—namely, Chapter 23 - RelatedPart y Disclosures hedge accounting. Chapter 24 - Specialized I ndustr ies

If a reporting entity chooses to not use the exemptions discussed above, it would apply the IFRS that were effective in each period. This means that it might, therefore, need to consider superseded Chapter 26 - Gov er nm ent Gr an ts versions of IFRS if later versions required prospective application. By contrast, if an entity uses the Appendix A - Di Checklist exemptions, itsclosure would apply only the latest version of IFRS. Chapter 25 - I nflation and Hyperinflation

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

The proposal states thatofanI AS, entity's estimates under IFRS at the date of transition would be consistent Appendix C - Com parison US GAAP, and UK GAAP with estimates made for the same date under previous GAAP (after adjustments to reflect any I ndex difference List of Tablesin accounting policies), unless there were objective evidence that those estimates had been in error. If estimates under List of Ex hibits and Ex am ples IFRS at the date of transition need to be made, and corresponding

estimates were List of Sidebar s not required under previous GAAP, those estimates would not be permitted to reflect

conditions that arose after that date. In particular, estimates of market prices, interest rates, or foreign exchange rates at the date of transition to IFRS would reflect market conditions at that date. Hindsight would not be permitted, in other words.

Change in Amortization Method Another special case in accounting for a change in principle takes place when a company chooses to change the systematic pattern of amortizing the costs of long-lived assets to expense. When a

company adopts a new method of amortization for newly acquired identifiable long-lived assets and uses that method for all new assets of the same class without changing the method used previously for existing assets ofWthe same is re a tchange indaccounting Obviously, there is no ile y I AS class, 2 0 03 : there I n t erp at ion an Ap p licat ioprinciple. n of adjustment required to the financial statements or any cumulative type of adjustment. In these special I n t er n at ion al Accou n t in g St an d ar ds cases, a description of the nature of the method changed and the effect on net income, income before ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za extraordinary items, and related per share amounts should be disclosed in the period of the change. John Wi ley & Sons © 2003 (952 pages)

If the new methodThis is, instead, adopted for all assets, both old and new, the change would appear to be com pact and t ruly com pr ehensive qui ck - refer ence a change in accounting principle should be accounted as described above. However, under pr esent s accountwhich ants with a guide to depend for on for the provisions of assistance IAS 16, Property, Plant,atand Equipment, and IAS Intangible Assets, this is not the in the prepar ion and under standing of 38, financial statements presentinedgreater in accordance I AS. 8 and 9, establish that a change in case. These standards, discussed detail inwith Chapters depreciation method or amortization method should be made only if there has been a significant T ab le of Con t en t s change in the expected pattern of economic benefits from the use of the assets; in such case, the Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing changedsis to be accounted for as a change in accounting estimate, not a change in policy. (Change in Standar accounting estimate is discussed in the following section.) It does not appear to be contemplated by Preface international accounting standards that there could be a change in depreciation method or amortization Chapter 1 - I ntr oduction to I nter national Accounting Standar ds method to a better method that would justify change in accounting policy treatment. Since such Chapter 2 - Balance Sheet changes in depreciation method are fairly common under US GAAP, the treatment of this topic under I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - standards is certain to generate at least some controversy. international of Recognized Gains and Losses Chapter 4

- Cash Flow St at em ent

Change - Financial in Accounting I nstr uments—Cash Estimates and Receiv ables

Chapter 5 Chapter 6

- I nventor y The preparation of financial requires use act of sestimates for such items as asset Chapter 7 - Rev enue Recognistatements tion, I ncluding Constrfrequent uction Contr

service lives, salvage values, collectibility of accounts receivable, warranty costs, pension costs, and so - Property , Plant , and Equipment on. These future conditions and events and their effects cannot be perceived with certainty; therefore, Chapter 9 - I ntangi ble Asset s changes in estimates will be inevitable as new information and more experience is obtained. IAS 8 I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter - changes in estimates be handled currently and prospectively. It states that, "The effect of requires10that I nvestm ent Pr oper ty the change in accounting estimate should be accounted for in (a) the period of change if the change Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements affects that period only or (b) the period of change and future periods if the change affects both." For Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 on - January 1, 1998, a machine purchased for $10,000 was originally estimated to have a tenexample, Balance Sheet Date year life. January I1, 2003 (five years Ter later), the asset is expected to last another ten years. As a Chapter 13On - Financial nstr uments—Longm Debt result, both the current period and the subsequent periods are affected by the change. The annual Chapter 14 - Leases depreciation charge over the remaining life would be computed as follows: Chapter 8

Chapter 15 - I ncom e Taxes

Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter A permanent 19 - I nterim impairment Financial affecting Repor ting the cost recovery of an asset should not be handled as a change in

accounting should Chapter 20 - estimate Segm ent but Repor ting be treated as a loss of the period. (See the discussion in Chapter 8.) Chapter 21 - Accounting Changes and Cor rection of Er ror s

In some situations it may be difficult to distinguish between changes in accounting policy and changes in accounting estimates. For example, a company may change from deferring and amortizing a cost to Chapter 23 - Related- Part y Disclosures recording it as an expense when incurred because the future benefits of the cost have become Chapter 24 - Specialized I ndustr ies doubtful. In this instance, the company is changing its accounting principle (from deferral to immediate Chapter 25 - I nflation and Hyperinflation recognition) because of its change in the estimate of the future value of a particular cost. Chapter 22 - For eign Curr ency

Chapter 26 - Gov er nm ent Gr an ts Appendix - Diinternational sclosure Checklist AlthoughAthe accounting standards do not address this matter per se, useful guidance is

availableBby the parallel standard underedUS GAAP, Appendix - Ireference llustrativ e to Financial St atem ent s Pr esent Under I AS which is APB 20. In that standard, the board concluded that a change in accounting estimate Appendix C - Com parison of I AS, US GAAP, and UK GAAP that is in essence effected by a change in accounting principle should be reported as a change in accounting estimate, the rationale being that I ndex theofeffect of the change in accounting principle is inseparable from the effect of the change in estimate. List Tables In the example in Ex theam preceding paragraph, the company is changing its accounting principle (from List of Ex hibits and ples deferral to immediate recognition) because of its change in the estimate of the future value of a particular cost. The amount of the cumulative effect would be the same as that attributable to the current or future periods.

List of Sidebar s

Because the two changes are indistinguishable, changes of this type should logically be considered changes in estimates and accounted for in accordance with IAS 8. However, the change must be clearly indistinguishable to be combined. The ability to compute each element independently would preclude combining them as a single change. Also, for generally accepted auditing standards such a change is deemed a change in accounting principle for purposes of applying the consistency standard.

Correction of Fundamental Errors W ile y control I AS 2 0and 03 : the I n t erp re t at ion an dcare Ap pwill licatserve io n oto f minimize the number of errors Although good internal exercise of due I n t er n at ion al Accou n t in g St an d ar ds made, these safeguards cannot be expected to completely eliminate errors in the financial statements. ISBN:0471227366 Bar r y J. Epstein Abbas Aliprofession to promulgate As a result, it wasbynecessary for the and accounting standards that would ensure Mir za uniform treatment of accounting for error corrections. John Wi ley & Sons © 2003 (952 pages)

This cominternational pact and t rulyaccounting com pr ehensive qui ckdealing - refer ence IAS 8 is the promulgated standard with the accounting for error pr esent s account ants with a guide to depend on for corrections. It outlines the two methods of accounting for the correction of the fundamental errors, one assistance in the prepar at ion and under standing of financial of which is the preferred benchmark approach. IAS 8with indicates statements present ed in accordance I AS. that fundamental errors are to be treated as prior period adjustments if the benchmark treatment is followed (i.e., the amount of the T ab le of Connet t en tof s the tax effect, if any, should be reported as an adjustment to the opening balance of correction, Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing unless it is impracticable to do the retained earnings). Comparative information should also be restated Standar so. ds Preface

If the allowed alternative treatment is opted by an enterprise, Chapter 1 - I ntr oduction to I nter national Accounting Standar dsthe amount of the correction of the fundamental error should Chapter 2 - Balance Sheet be included in the determination of net profit or loss for the current period. The comparative need be restated under this y, method; instead, I ncominformation e Statement, Statnot em ent of Chan ges in Equit and Statem ent the comparative figures should be presented as reported in the financial statements of the prior period. In such a case, of Recognized Gains and Losses additional forma information Chapter 4 pro - Cash Flow St at em ent (prepared in accordance with the foregoing guidelines for the application the benchmark treatment) and should alsoables be presented (unless it is impracticable to do so). Chapter 5 - of Financial I nstr uments—Cash Receiv Chapter 3

Chapter 6

- I nventor y

IAS 8 identifies examples of fundamental errors as resulting from mathematical mistakes, mistakes in - Rev enue Recogni tion, I ncluding Constr uction Contr act s the application of accounting principles, or the oversight or misinterpretation of facts known to the Chapter 8 - Property , Plant , and Equipment accountant at the time the financial statements were prepared. A change from an unacceptable (or Chapter 9 accounting - I ntangi bleprinciple Asset s to a correct principle is considered a correction of an error, not a change incorrect) I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and in accounting Chapter 10 - principle. This should not be confused with the preferability dilemma discussed earlier, I nvestm ent Pr oper ty which involves two or more acceptable principles. Chapter 7

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Curroccur ent Liabilit Prov isions, Contand ingencies, Ev ents t he Although that ies, affect both current future and periods, weafter are concerned primarily with the Chapter 12 errors Sheet of Date reporting of Balance the correction an error occurring in financial statements issued previously. Errors Chapter 13current - Financial nstr uments—LongTer m Debt affecting and Ifuture periods require correction but do not require disclosure, as they are Chapter 14 Leases presumed to be discovered prior to the issuance of financial statements. The correction of an error in Chapter 15 - I statements ncom e Taxes the financial of a prior period discovered subsequent to their issuance should be reported

as a prior adjustment. Chapter 16 period - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y

The essential distinction between a change in estimate and the correction of an error depends on the availability of information. An estimate requires correction because by its nature it is based on Chapter 19 - I nterim Financial Repor ting incomplete information. Later data will either confirm or contradict the estimate, and any contradiction Chapter 20 - Segm ent Repor ting will require correction. An error misuses existing information available at the time of the decision and is Chapter 21 - Accounting Changes and Cor rection of Er ror s discovered at a later date. However, this discovery is not a result of additional information. Chapter 18 - Earnings Per Share

Chapter 22 - For eign Curr ency

Chapter 23 -benchmark Related- Part y Disclosures Under the treatment the required disclosures regarding the correction of a fundamental Chapter error include 24 - Specialized I ndustr ies Chapter 25 - nature I nflation Hyperinflation 1. The of and the error. Chapter 26 - Gov er nm ent Gr an ts

2. The of the correction for the current period and for each period presented. Appendix A - amount Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

3. The amount of the correction relating to periods prior to those included in the comparative information.

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

List of 4. Tables The fact that comparative information has been restated or that it is impracticable to do so. List of Ex hibits and Ex am ples

Under the allowed alternative treatment the disclosures differ since the accounting treatment differs. List of Sidebar s Under this method the clauses 2., 3., and 4. above will be replaced with

2. The amount of the correction recognized in the net profit or loss for the current period. 3. The amount of the correction included in each period for which the pro forma information is presented and the amount of the correction relating to periods prior to those included in the pro forma information. If the pro forma information could not be presented due to impracticality, this fact should be disclosed, too.

The major criterion for determining whether or not to report the correction of the error is the materiality of the correction. There are many factors to be considered in determining the materiality of the error correction. Materiality eachancorrection as well as for all corrections W ile yshould I AS 2be 0 03considered : I n t erp re for t at ion d Ap p licatindividually io n o f in total. If the correction is determined to have a material effect on income before extraordinary items, I n t er n at ion al Accou n t in g St an d ar ds net income, or thebytrend of earnings, it should be disclosed in accordance with the requirements set ISBN:0471227366 Bar r y J. Epstein and Abbas Ali Mir zaparagraph. forth in the preceding John Wi ley & Sons © 2003 (952 pages)

Thus, under benchmark treatment, the prior period adjustment should be presented in the financial This com pact and t ruly com pr ehensive qui ck - refer ence statements as follows: pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. Retained earnings, 1/1/03 as reported previously

xxx

T abCorrection le of Con t of enerror ts (description) in prior period(s) (net of $___ tax) xxx Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Adjusted xxx Standar ds balance of retained earnings at 1/1/03 Preface Net income

xxx

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Retained earnings, 12/31/03

xxx

I ncom e Statement, em ent of Chan gesshould in Equitalso y, and In comparative statements, priorStat period adjustments be Statem shown ent as adjustments to the Chapter 3 of Recognized Gains and Losses

beginning balances in the retained earnings statements. The amount of the adjustment on the earliest - Cash Flow St at em ent statement shall be the cumulative effect of the error on periods prior to the earliest period presented. Chapter 5 - Financial I nstr uments—Cash and Receiv ables The later retained earnings statements presented should also show a prior period adjustment for the Chapter 6 - amount I nventoras y of the beginning of the period being reported on. cumulative Chapter 4

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter Example 8 of - Property accounting , Plantfor , and fundamental Equipment errors under IAS 8 Chapter 9

- I ntangi ble Asset s

In 2003, theIbookkeeper of DhowInstr Corp. that 2002Ventur the company nterests in Financial umdiscovered ent s, Associat es,inJoint es, and failed to record in the Chapter 10 accounts depreciation I nvestm entexpense Pr oper ty in the amount of $20,000, relating to a newly constructed building. The following extracts from theand statement of ed income and Statements retained earnings for 2003 and 2002 Chapter 11presents - Business Combinations Consolidat Fin ancial before correction of the error: Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 -

Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

2003

2002

$200,000

$230,000

General including depreciation Chapter 16 and - Emadministrative ploy ee Benefit expenses, s

(80,000)

(80,000)

Chapter 17 - Stock s' Equit y Net income fromholder ordinary activities, before income taxes Chapter 18 - Earnings Per Share

120,000

150,000

Chapter 19 - I nterim Financial Repor ting

(20,000)

(30,000)

Chapter Net profit 20 - Segm ent Repor ting

100,000

120,000

Chapter 21 - Accounting Changes and Cor rection of Er ror s

150,000

30,000

$250,000

$150,000

Chapter 14 - Leases

Gross profit

Chapter 15 - I ncom e Taxes

Income taxes

Retained earnings, beginning

Chapter 22 - For eign Curr ency

Retained ending Chapter 23 -earnings, Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies

Dhow Corp.'s income tax rate was 20% for both years.

Chapter 25 - I nflation and Hyperinflation

Chapter 26 - Gov er nm entanGrillustration an ts The following provides of the accounting treatment and presentation of financial Appendix A - under Di sclosure Checklist treatment and the allowed alternative treatment, in accordance with statements the benchmark Appendix IAS 8. B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Correction of Fundamental Error: Benchmark Treatment

List of Tables List of Ex hibits and Ex am ples

Dhow Corp. Extracts from Income Statement

List of Sidebar s

2003

2002 restated

Gross profit

$200,000 W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds General and administrative expenses, including depreciation (80,000) ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Net income fromMir ordinary activities, before income taxes 120,000 za John Wi ley & Sons © 2003 (952 pages) Income taxes (20,000) This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for $100,000 assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Net profit

$230,000 (100,000) 130,000 (26,000) $104,000

T ab le of Con t en t s

Dhow Corp. Statement of Changes in Equity Earnings columns only) Wiley I AS 20 03—Int er pretation and Application of (Retained I nternational Account ing Standar ds 2003

Preface - I ntr oduction to I nter national Accounting Standar ds Retained beginning, as reported previously Chapter 2 -earnings, Balance Sheet

2002 restated

Chapter 1

$150,000

$ 30,000

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Correction (16,000) Chapter 3 - of fundamental error, net of income taxes of $4,000 of Recognized Gains and Losses (see Note 1)

--

Chapter 4

- Cash Flow St at em ent

Retained -earnings, beginning, as restated Financial I nstr uments—Cash and Receiv ables Chapter Net profit 6 - I nventor y Chapter 5 Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Retained earnings, ending

Chapter 10 -

134,000

30,000

100,000

104,000

$234,000

$134,000

I nterests Dhow in Financial Corp. Extracts Instr um ent from s, Associat Noteses, to Joint the Financial Ventur es, Statements and I nvestm ent Pr oper ty

Note 1: The company failed to record a depreciation charge in the amount of $20,000 in 2002. The financial statements for 2002 have been restated to correct this error.

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

BalanceUnder Sheetthe Date Explanation. benchmark treatment of fundamental errors, the amount of correction of a Chapter 13 Financial I nstr uments—LongTer m Debt should be reported by adjusting the opening balance fundamental error that relates to prior periods Chapter 14 Leases of retained earnings. Comparative information should be restated unless it is impracticable to do Chapter - Isteps ncom einTaxes so.15 The preparing the revised financial statements and related disclosures are as follows: Chapter 16 - Em ploy ee Benefit s

1. As presented in the statement of retained earnings, the opening retained earnings was

Chapter 17 - adjusted Stock holder Equit y which represented the amount of error, $20,000, net of income tax by s' $16,000, Chapter 18 - effect Earnings Per Share of $4,000. Chapter 19 - I nterim Financial Repor ting

2. - The comparative amounts in the income statement were restated as follows: Chapter 20 Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

General andency administrative expenses, including depreciation, before Chapter 22 - For eign Curr

$ 80,000

correction Chapter 23 - RelatedPart y Disclosures Chapter 24 - Specialized I ndustr ies Amount of correction Chapter 25 - I nflation and Hyperinflation

As restated

Chapter 26 - Gov er nm ent Gr an ts

Income taxes before correction Appendix A - Di sclosure Checklist Appendix B - IAmount llustrativof e Financial correctionSt atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

As restated

List of Tables

Correction of Fundamental Error: Allowed Alternative Treatment

List of Ex hibits and Ex am ples List of Sidebar s

Dhow Corp. Extracts from Income Statement

20,000 $100,000 $ 30,000 4,000 $ 26,000

Pro forma W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n(Restated) of 2003 2003 I n t er n at ion al Accou n t in g St an d ar ds 2002 by Bar r y J. Epstein and Abbas Ali $200,000 Mir za General and administrative John Wi ley & Sons © 2003 (952 pages)

Gross profit

(Restated) 2002

ISBN:0471227366

$230,000

$200,000

$230,000

expenses, including This depreciation com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with(80,000) a guide to depend on for (see Note 1) (80,000) (80,000)

(100,000)

assistance in the prepar at ion and under standing of financial Correction of entry (Note 1) present ed in accordance (20,000) with I AS.-statements

--

--

income taxes 100,000 150,000 Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing 120,000 Standar ds Income taxes (including effect of a

130,000

ordinary activities, before T abProfit le of from Con t en ts

Preface correction of a fundamental error) 16,000 30,000 Chapter 1 - I ntr oduction to I nter national Accounting Standar ds

Net profit

Chapter 2

- Balance Sheet

Chapter 3

-

$ 84,000

$120,000

20,000

26,000

$100,000

$104,000

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Chapter 4

- Cash Flow St at em ent Dhow Corp. Statement Changes in and Equity (Retained Earnings columns only) Chapter 5 - Financial I nstrof uments—Cash Receiv ables Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Pro forma 2003

2002

(Restated) 2003

Retained earnings, I nterests beginning, in Financialas Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty reported previously $150,000 $ 30,000 $150,000

(Restated) 2002 $ 30,000

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Correction of fundamental error, net

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - taxes of $4,000 (Note 1) --16,000 of income Balance Sheet Date

--

Chapter 13 -earnings, Financial beginning, I nstr uments—LongTer m Debt Retained as Chapter restated 14 - Leases Chapter 15 - I ncom e Taxes

Net profit

Chapter 16 - Em ploy ee Benefit s

Retained ending Chapter 17 -earnings, Stock holder s' Equit y

150,000

30,000

134,000

30,000

84,000

120,000

100,000

104,000

$234,000

$150,000

$234,000

$134,000

Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting

Dhow Corp. Extracts from Notes to the Financial Statements

Chapter 20 - Segm ent Repor ting Chapter 21 1: - Accounting Changes Cor rection of Er ror s charge in the amount of $20,000 in 2002. An Note The company failedand to record a depreciation Chapter 22 For eign Curr ency adjustment has been made in the income statement for 2002, representing the correction of the Chapter 23 - RelatedPartRestated y Disclosures fundamental error. pro forma information for 2003 and 2002 is presented as if the error Chapter - Specialized ies had24been correctedI ndustr in 2002. Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Explanation. Under the allowed alternative treatment of fundamental errors, the amount of correction of a fundamental error that relates to prior periods should be included in the Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS determination of net profit or loss for the current period. Comparative information should be Appendix C - Com of Iin AS, USfinancial GAAP, and UK GAAPof the prior period. Additional pro forma presented asparison reported the statements I ndex information (effectively, the benchmark treatment) should be presented, unless impracticable to do List ofso. Tables Appendix A - Di sclosure Checklist

List of Ex hibits and Ex am ples List of Sidebar s

Proposed change to reporting the effect of accounting errors. The proposed amendments to IAS 8 would redefine accounting errors and would also eliminate the available alternative treatment for the financial statement effects of accounting errors being corrected. The amendment, if adopted, will remove the distinction between fundamental errors and other errors, as had formerly been made. The current standard defines "fundamental errors" as those identified in the current period that are of such significance that financial statements of one or more prior periods

could no longer be deemed reliable as of the date of their original issue. Under the amended standard, a more expansive definition will be adopted, as follows: Errors are omissions W ile y I AS from, 2 0 03 and : Iother n t erpmisstatements re t at ion an d Ap of,pthe licatentity's io n o f financial statements for one or I n t er nthat at ion al discovered Accou n t in g ancurrent d ar ds period and relate to reliable information that more prior periods are inSt the ISBN:0471227366 by Bar r y J. those Epsteinprior andperiod Abbas financial Ali (a) was available when statements were prepared; and (b) could Mirexpected za reasonably be to have been obtained and taken into account in the preparation and Wi ley & Sons statements. © 2003 (952 pages) presentation John of those financial This com pact and t ruly com pr ehensive qui ck - refer ence prthe esent s account ants with a guide to depend on forin applying accounting policies, Errors include effects of mathematical mistakes, mistakes in the prepar at ion and and fraud. under standing of financial oversights orassistance misinterpretations of facts, statements present ed in accordance with I AS.

Proposed to IAS 8 will also remove the allowed alternative treatment of corrections of T ab le of Conamendments t en t s

errors set out in the current standard. As discussed earlier in the present chapter, IAS 8 established

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing both a ds benchmark and an allowed alternative method of correcting errors. The benchmark approach Standar

(which will be the sole permitted method under the provisions of the proposed amended IAS 8) requires Preface that comparative prior period data be restated and the earliest Chapter 1 - I ntr oduction to I nter national Accounting Standar ds reported retained earnings balance be

corrected for the effect of the error. The allowed alternative permits the reporting entity to include the - Balance Sheet amount of the correction of an error in profit or loss for the current period and present comparative I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - as it was reported in the financial statements of prior periods, without restatement. This will information of Recognized Gains and Losses be banned the proposed Chapter 4 - under Cash Flow St at em entamended IAS 8. Chapter 2

Chapter 5

- Financial I nstr uments—Cash and Receiv ables In some cases, restatement of comparative data cannot be accomplished, and IAS 8 offers an

Chapter 6 -when I nventor exemption it isy"impracticable" to do so. Under revised IAS 8, if the proposed change is enacted, Chapter 7 Rev enue tion, I ncluding Constr uction Contr act s this exemption wouldRecogni exist only if it could not be accomplished without "undue cost or effort." It would Chapter 8 -toProperty , Plant , and Equipment only apply those prior periods to which the described condition applied; other prior periods would Chapter 9 I ntangi ble Asset s have to be restated. Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Chapter 22: Foreign Currency I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

za PerspectiveMirand Issues

John Wi ley & Sons © 2003 (952 pages)

In recent years globalization This com pactseems and t ruly to have com pr become ehensive thequi watchword. ck - refer ence Corporations worldwide are esent s boundaries account ants and withengaging a guide toindepend on for trade. Global economic reaching beyond pr national international assistance in the prepar at ion and under standing of financial restructuring is rampant: signings of trade pacts such as GATT, NAFTA, and the World Trade statements present ed in accordance with I AS. Organization (WTO) have lent further impetus to the process of internationalization. International activity by most T ab le of Con t en t sdomestic corporations has increased significantly, which means that transactions are consummated not er only with independent foreign entities but also withing foreign subsidiaries. Wiley I AS 20 03—Int pretation and Application of I nternational Account Standar ds

Foreign subsidiaries, associates, and branches typically handle their accounts and prepare financial Preface statements the respective currencies the countries in which they are located. Thus, it is more than Chapter 1 - in I ntr oduction to I nter national of Accounting Standar ds likely that Chapter 2 a- multinational Balance Sheetcompany (MNC) ends up receiving, at year-end, financial statements from

various foreign subsidiaries expressed in a number of foreign currencies, such as francs, pounds, lira,

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter dinars, 3dirhams, riyals, andGains yen. and However, of Recognized Lossesfor users of these financial statements to analyze the MNC's

foreign 4involvement properly, these foreign currency denominated financial statements must first be Chapter - Cash Flow St at em ent expressed terms that the users can understand. This means that the foreign currency financial Chapter 5 -inFinancial I nstr uments—Cash and Receiv ables

statements- of the various subsidiaries will have to be translated into the currency of the country where I nventor y the MNC is registered.

Chapter 6 Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8 - Property , Plant , and Equipment The international accounting standards governing the translation of foreign currency financial Chapter 9 I ntangi ble Asset s statements and foreign currency transactions are found primarily in IAS 21, The Effects of Changes in I nterests in Financial um ent Foreign10Exchange Rates. IAS 21Instr applies to s, Associat es, Joint Ventur es, and Chapter I nvestm ent Pr oper ty

1. Accounting for foreign currency transactions (e.g., exports, imports, and loans) which are denominated in other than an enterprise's functional currency

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

2. Translation of foreign currency financial statements of branches, divisions, subsidiaries, and Chapter 13 - Financial I nstr uments—Long- Ter m Debt other investees that are incorporated in the financial statements of an enterprise by Chapter consolidation, 14 - Leases proportionate consolidation, or by the equity method Chapter 15 - I ncom e Taxes

IAS 21 16 did-not hedges accounting for foreign currency items, other than the classification of Chapter Emaddress ploy ee Benefit exchange arising a foreign currency liability accounted for as a hedge of a net Chapter 17 differences - Stock holder s' Equitfrom y investment a foreign Chapter 18 - in Earnings Perentity. ShareIAS 39 has established the accounting for hedges of a net investment in a foreign which closelyRepor parallels Chapter 19entity, - I nterim Financial ting that prescribed for cash flow hedging as set forth under this standard. Chapter 20 - Segm ent Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror s

The IASB's Improvements Project has proposed several changes to IAS 21. These are discussed in

Chapter 22 - For eign Curr ency this chapter. Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies

Sources of IAS

Chapter 25 - I nflation and Hyperinflation Chapter 26 21, - Gov ent 7, Gr11, an ts19, 30 IAS 39er nm SIC Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

ile yTerms I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f DefinitionsWof I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Closing rate Mir za

John Wi ley & Sons © 2003 (952 pages)

This refers to the spot rate (defined below) at the balance sheet date.

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for Conversion assistance in the prepar at ion and under standing of financial statements in accordance with I AS. The exchangepresent of oneedcurrency for another. T ab le of Con t en t s

Exchange difference

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing The difference resulting from reporting the same number of units of a foreign currency Standar ds

in the reporting currency at different exchange rates.

Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Exchange rate

This refers to the ratio for exchange of two currencies.

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Fair value

Chapter 4

- Cash Flow St at em ent

Chapter 5

The amount for which an and asset couldables be exchanged, or a liability could be settled, - Financial I nstr uments—Cash Receiv

Chapter 6

- I nventor y

between knowledgeable willing parties in an arm's-length transaction.

Chapter 7

Rev enue Recogni tion, I ncluding Constr uction Contr act s Foreign- currency

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

A currency other than the reporting currency of the entity being referred to (e.g., the yen is a foreign currency for a US reporting entity). (Under US GAAP, composites of I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 currencies such as the Special Drawing Rights on the International Monetary Fund I nvestm ent Pr oper ty [SDR] used to set prices or denominate amounts of loans, and so on, have the Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements characteristics of foreign currency for purposes of applying SFAS 52. No such Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 clarification or interpretation is found in the IAS.) Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Foreign currency financial statements

Chapter 14 - Leases

Financial statements that employ as the unit of measure a foreign currency that is not the reporting currency of the enterprise.

Chapter 15 - I ncom e Taxes

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - currency Stock holder s' Equit y Foreign transactions Chapter 18 - Earnings Per Share

Transactions whose terms are denominated in a foreign currency or require settlement in a foreign currency. Foreign currency transactions arise when an Segm ent Repor ting enterprise (1) buys or sells on credit goods or services whose prices are denominated Accounting Changes and(2) Cor rection or of lends Er ror s funds and the amounts payable or receivable in foreign currency, borrows For are eigndenominated Curr ency in foreign currency, (3) is a party to an unperformed foreign RelatedPart y contract, Disclosures exchange or (4) for other reasons acquires or disposes of assets or incurs or Specialized I ndustr ies settles liabilities denominated in foreign currency.

Chapter 19 - I nterim Financial Repor ting Chapter 20 Chapter 21 Chapter 22 Chapter 23 Chapter 24 -

Chapter 25 - I nflation and Hyperinflation

Foreign translation Chapter 26 - currency Gov er nm ent Gr an ts The process of expressing in the reporting currency of the enterprise amounts that Appendix A - Di sclosure Checklist are denominated oratem measured a different Appendix B - I llustrativ e Financial St ent s Pr in esent ed Undercurrency. I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Foreign entity

I ndex

When the activities of a foreign operation are not an integral part of those of the reporting entity, such a foreign operation is referred to as a foreign entity. List of Ex hibits and Ex am ples List of Tables

List of Sidebar s

Foreign operation A foreign subsidiary, associate, joint venture, or branch of the reporting enterprise whose activities are based or conducted in a country other than the country where the reporting enterprise is domiciled. Functional currency A term used under US GAAP in relation to foreign currency translations wherein it is defined as the currency of the primary economic environment in which the entity

operates; normally, that is the currency of the environment in which an entity primarily generates and expends cash. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Monetary items I n t er n at ion al Accou n t in g St an d ar ds Money assets liabilities to be received or paid in fixed or determinable ISBN:0471227366 by Barheld r y J.and Epstein andand Abbas Ali Mir za of money. Stated differently, monetary items refer to cash, claims to receive amounts John Wi ley & Sons © 2003 (952 pages) a fixed amount of cash, and obligations to pay a fixed amount of cash. This com pact and t ruly com pr ehensive qui ck - refer ence

Net investment in a foreign entity pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial This refers to the reporting enterprise's share in the net assets of that entity. statements present ed in accordance with I AS.

Nonmonetary T ab le of Con t en t s items Wiley I AS 20 03—Int All balance er pretation sheet anditems Application other than of I nternational cash, claims Account to cash, ingand cash obligations. Standar ds

Reporting currency Preface Chapter 1 Chapter 2

- I ntrThe oduction to I nter national Standar dsits financial statements. currency in which an Accounting enterprise presents - Balance Sheet

ReportingI ncom enterprise e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Losses An entity orGains groupand whose financial statements are being referred to. Under this Chapter 4 - Cash Flow St at em ent standard, those financial statements reflect (1) the financial statements of one or Chapter 5 - Financial I nstr uments—Cash and Receiv ables proportionate consolidation, or equity more foreign operations by consolidation, Chapter 6 - I nventor y accounting; (2) foreign currency transactions; or (3) both of the foregoing. Chapter 3

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Spot8rate Chapter - Property , Plant , and Equipment Chapter 9

The ble exchange - I ntangi Asset s rate for immediate delivery of currencies exchanged.

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 Transaction dateent Pr oper ty I nvestm Chapter 11 - Business and Consolidat ed Fin ancial Statements In the Combinations context of recognition of exchange differences from settlement of monetary Curr ent Liabilit ies, Provforeign isions, currency Cont ingencies, and Ev ents after t hedate refers to the date at items arising from transactions, transaction Chapter 12 Balance Datecurrency transaction (e.g., a sale or purchase of merchandise or whichSheet a foreign Chapter 13 - Financial I nstr uments—Longm Debt services the settlement forTer which will be in a foreign currency) occurs and is recorded Chapter 14 - Leases in the accounting records. Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS and 2 0 03 : Examples I n t erp re t at ion an d Ap p licat io n o f Concepts, Rules, I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

Classification Mir za of Foreign Operations

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages)

Under IAS 21, theThis waycom in which the foreign operations are financed and operate (i.e., in relation to the pact and t ruly com pr ehensive qui ck - refer ence reporting entity) determines the method thata would bedepend used toon translate their financial statements. Thus, pr esent s account ants with guide to for the classification assistance accorded to foreign determine methodology to be used in in athe preparoperation at ion and will under standing the of financial statements present edAccording in accordance with translating their financial statements. to IAS 21,I AS. a foreign operation may be classified as either (1) a foreign operation that is integral to the operations of the reporting entity or (2) a foreign T ab le of Con t en t s operation that is not integral to the operations of the reporting entity (referred to as a foreign entity). Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

The following factors, if present, indicate that a foreign operation is a foreign entity (i.e., that the foreign operation is not integral to the operations of the reporting entity):

Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

1. Its activities are carried out with significant autonomy. - Balance Sheet

Chapter 2

I ncom e Statement, Stat em ent of are Channot gesa in Equit y, and Statem 2. Transactions with the reporting entity high proportion of theent foreign enterprise's Chapter 3 of Recognized Gains and Losses

operations.

Chapter 4

- Cash Flow St at em ent

Chapter 5 activities - Financial I nstr uments—Cash andfrom Receiv 3. Its are financed principally its ables own resources or through local borrowings in lieu of Chapter the 6 -reporting I nventor yentity's funds. Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s 4. Cost of labor,, material, other components of the foreign operation's products or services are Chapter 8 - Property Plant , andand Equipment

paid- or settled primarily in the local currency rather than the currency of the reporting entity. I ntangi ble Asset s

Chapter 9

I nterests in Financial Instrin um ent s, Associat es,than Jointthe Ventur es, and 5. Its are principally made currencies other reporting currency. Chapter 10 sales I nvestm ent Pr oper ty Chapter 11 - Business and Consolidat ed Fin ancial Statements 6. Cash flows of Combinations the reporting enterprise are insulated from the day-to-day activities of the foreign Curr ent Liabilit ies,being Prov isions, Cont ingencies, and Ev ents of after operation rather than affected directly by the activities thet he foreign operation. Chapter 12 Balance Sheet Date Chapter The classification 13 - Financial of aI nstr foreign uments—Longoperation is Ter tombe Debt based on the facts of each case, and sometimes this

determination could be quite subjective and unclear. Thus, a degree of caution is to be exercised in Chapter 14 - Leases judgments classification of borderline cases, since on such a classification will depend the Chapter 15 -relating I ncom eto Taxes method16 that willploy ultimately besused to translate the foreign operation's financial statements into the Chapter - Em ee Benefit reporting Chapter 17 currency. - Stock holder s' Equit y Chapter 18 - Earnings Per Share

Translation of Foreign Operations That Are Integral to the Operations of the Reporting Enterprise

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter 22 - For eign Curr ency The financial statements of foreign operations that are integral to the operations of the reporting Chapter 23 -should Relatedy Disclosures enterprise bePart translated based on the premise that these are, in substance, the transactions of the reporting enterpriseI itself. Chapter 24 - Specialized ndustrThe ies requirements for translating the financial statements of such a

foreign 25 operation areand the Hyperinflation following: Chapter - I nflation Chapter 26 - Govcurrency er nm ent monetary Gr an ts 1. Foreign items should be reported using the closing rate. Appendix A - Di sclosure Checklist

2. Foreign currency nonmonetary when at historical costs should be reported using Appendix B - I llustrativ e Financial St atemitems ent s Pr esentcarried ed Under I AS rateofatI AS, the US date of the transaction. Appendixthe C -exchange Com parison GAAP, and UK GAAP I ndex

3. Foreign currency nonmonetary items when carried at fair values (e.g., revalued property, plant, and equipment under the allowed alternative treatment prescribed by IAS 16) should be reported List of Exusing hibits exchange and Ex am ples rates that existed when the fair values were determined. List of Tables

List of Sidebar s

4. Generally, all income and expense items should be translated using exchange rates at the dates of the transactions. In practice, a rate that approximates the actual rate at the date of the transaction is used. For instance, an average rate based on month-end exchange rates might be used for translation of the annual expense and income figures on the financial statement of the foreign operation into the reporting currency. However, as specifically provided by the standard, depreciation expense should be translated using the exchange rate at the date of purchase of the asset, unless the asset is carried at fair value (i.e., revalued under the allowed alternative treatment prescribed by IAS 16), in which case the rate that existed on the date of such

valuation is to be used. 5. Generally, exchange differences arising from reporting an entity's monetary items at rates W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f different from those in which they were initially reported in previous financial statements should I n t er n at ion al Accou n t in g St an d ar ds be recognized as income or expense in the period in which they arise. Note, however, that an ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali exception Mir is made, in the case of exchange differences relating to monetary items which are, in za substance,John partWi ofley the&enterprise's net investment in a foreign entity. In such a case they should Sons © 2003 (952 pages) be classified as a separate component of equity in the reporting enterprise's financial statements This com pact and t ruly com pr ehensive qui ck - refer ence until disposal of the net investment at which time they pr esent s account ants with a guide to depend should on for be recognized as income or expense (of the samein period the gain loss on standing disposal is Similarly, exchange assistance the prepar at ion or and under of recognized). financial present in accordance with I AS. as a hedge of an enterprise's net differencesstatements which arise from aedforeign liability accounted investment in a foreign entity should be classified as a separate component of equity on the T ab le of Con t en t s balance sheet until the disposal of the net investment (at which time they should be recognized Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing as income or expense in the same period as the gain or loss on disposal is recognized). Standar ds Preface

IAS 21 elaborates upon the translation methodology for plant assets and inventories as follows:

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

1. The- translation of the cost and depreciation of property, plant, and equipment is to be done Balance Sheet based on rates in effect at the date(s) of acquisition, and if revalued (i.e., carried at fair value), I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter then 3 - at the exchange rate(s) at the date(s) of such revaluation. of Recognized Gains and Losses Chapter 2

Chapter 4

- Cash Flow St at em ent

2. Inventories should be translated at the rates in effect at the dates of acquisition; however, if - Financial I nstr uments—Cash and Receiv ables carried at a lower realizable value (or recoverable amount), then the exchange rate prevailing on Chapter the 6 -date I nventor wheny such lower realizable value (or recoverable amount) was determined (the rate in Chapter which 7 - Rev enue I ncluding Constr uction Contr act case willRecogni be thetion, closing rate, since determination ofslower of cost or net realizable value is Chapter usually 8 - Property , Plant , and Equipment undertaken at the balance sheet date). Chapter 5

Chapter 9

- I ntangi ble Asset s

Sometimes an adjustment may be required to Associat reduce the carrying amount of an asset in the financial I nterests in Financial Instr um ent s, es, Joint Ventur es, and Chapter 10 statements of I nvestm the reporting ent Pr oper entity ty even though such an adjustment was not necessary in the separate, foreign 11 currency based financial statements of theedforeign operation. This stipulation of IAS 21 can best Chapter - Business Combinations and Consolidat Fin ancial Statements be illustratedCurr by ent the Liabilit following study. Cont ingencies, and Ev ents after t he ies, case Prov isions, Chapter 12 -

Balance Sheet Date

Example Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Inventory of merchandise owned by a foreign operation (which is integral to the operations of the reporting enterprise) is being carried by the foreign operation at 3,750,000 SR (Saudi riyals) on its Chapter 16 - Em ploy ee Benefit s balance sheet. Suppose that the exchange rate fluctuated from 3.75 SR = 1 US dollar at September Chapter 17 - Stock holder s' Equit y 15, 2002, when the merchandise was bought, to 4.25 SR = 1 US dollar at December 31, 2002 (i.e., the Chapter 18 - Earnings Per Share balance sheet date). The translation of this item into the reporting currency will necessitate an Chapter 19 - to I nterim Financial Reporamount ting adjustment reduce the carrying of the inventory to its net realizable value if this value when Chapter 20 -into Segm Repor ting translated theent reporting currency is lower than the carrying amount translated at the rate prevailing Chapter 21 - of Accounting and Cor rection of Er ror s on the date purchaseChanges of the merchandise. Chapter 15 - I ncom e Taxes

Chapter 22 - For eign Curr ency

Although net realizable value, which in terms of Saudi riyals is 4,000,000 (SR), is higher than the Chapter 23 the - RelatedPart y Disclosures carrying24amount in Saudi riyalsies (i.e., 3,750,000 SR) when translated into the reporting currency (i.e., US Chapter - Specialized I ndustr dollars)25 at -the balance sheet date, the net realizable value is lower than the carrying amount (translated Chapter I nflation and Hyperinflation into the reporting currency at the exchange rate prevailing on the date of acquisition of the merchandise). Thus, on the financial statements of the foreign operation the inventory would not have Appendix A - Di sclosure Checklist to he adjusted. However, when the net realizable value is translated at the closing rate (which is 4.25 Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS SR = 1 US dollar) into the reporting currency, it will require the following adjustment: Chapter 26 - Gov er nm ent Gr an ts

Appendix C - Com parison of I AS, US GAAP, and UK GAAP

I ndex1. Carrying amount translated at the exchange rate on September 15, 2002 (i.e.. the date of

acquisition) = SR 3,750,000 @ 3.75 SR to 1 US dollar= $1,000,000.

List of Tables

List of hibits and Ex am ples translated at the closing rate = SR 4,000,000 @ 4.25 SR to 1 US dollar = 2. ExNet realizable value List of Sidebar s $941,176.

3. Adjustment needed = $1,000,000 - $941,176 = $58,824.

Conversely, IAS 21 further stipulates that an adjustment that already exists on the financial statements of the foreign operation may need to be reversed in the financial statements of the reporting enterprise. To illustrate this point, the facts of the example above are repeated, with some variation, below.

Example All other factual details remaining the same as the preceding example; it is now assumed that the W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f inventory, which is on al theAccou booksn tof the operation at Saudi riyals (SR) 3,750,000, instead I ncarried t er n at ion in g Stforeign an d ar ds has a net realizable value of SR 3,250,000 at year-end. Also assume that the exchange rate fluctuated ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali from SR 3.75 = I Mir USza dollar at the date of acquisition of the merchandise to SR 3.00 = 1 US dollar on the balance sheet date. John Wi ley & Sons © 2003 (952 pages) This com pact and t ruly com pr ehensive qui ck - refer ence

Since in terms of pr Saudi theants net realizable value on the on balance sheet date was lower than the esentriyals, s account with a guide to depend for carrying value of assistance the inventory, anprepar adjustment must havestanding been made on the balance sheet of the in the at ion and under of financial present in accordance withamount I AS. foreign operation statements (in Saudi riyals) to ed reduce the carrying to the lower of cost or net realizable value. In other words, a contra asset account (i.e., a lower of cost or market reserve) representing the T ab le of Con t en t s difference between the carrying amount (SR 3,750,000) and the net realizable value (SR 3,250,000) Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing must have been created on the books of the foreign operation. Standar ds Preface On translating the financial statements of the foreign operation into the reporting currency, however, it Chapter - I ntr to I nter national Standar is noted1 that dueoduction to the fluctuation of theAccounting exchange rates thedsnet realizable value when converted to the Chapter 2 currency - Balance[SR Sheet reporting 3,250,000 (@ 3.00 SR = 1 US dollar) = $1,083,333] is no longer lower than the I ncom evalue Statement, of Chan ges in Equit y, and rate Statem ent translated carrying which Stat is toem beent converted at the exchange prevailing on the date of Chapter 3 of the Recognized Gains[SR and3,750,000 Losses acquisition of merchandise (@ SR 3.75 = I US dollar) = $1,000,000]. Chapter 4

- Cash Flow St at em ent Thus, a5reversal of the adjustment (for lower of costables or market) is required on the financial statements Chapter - Financial I nstr uments—Cash and Receiv

of the reporting enterprise, upon translation of the financial statements of the foreign operation. Chapter 6 - I nventor y Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

- I ntangi Methods ble Asset s Translation Commonly Used in Translating Financial I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 Statements Operations I nvestmof entForeign Pr oper ty Chapter 9

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

The methodology for translating foreign currency denominated financial statements has evolved over

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter time, as12differing theories Balance Sheet have Date gained popularity and as the limitations of particular methods have

become realized. No single method accomplishes all objectives perfectly, and understanding translated financial statements continues to present challenges for both preparers and users.

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Chapter 15 - I ncom e Taxes The challenges arise, in part, because four rather different methods have been, or continue to be, used Chapter 16 Em ploy ee Benefit s of entities' foreign operations. The primary distinction among the to translate assets and liabilities Chapter 17is- the Stock holder s' Equit y methods classification scheme employed to distinguish assets and liabilities that would be Chapter 18 -atEarnings Percurrent Share (i.e., latest balance sheet date) or historical (i.e., date of asset translated either the acquisition liabilityFinancial incurral)Repor rate.ting Under IAS 21, the current rate method is used to translate the Chapter 19 - or I nterim

financial a foreign Chapter 20statements - Segm ent of Repor ting entity. Chapter 21 - Accounting Changes and Cor rection of Er ror s

Prior practices (some of which are continuing under certain national GAAP standards) included the use of the temporal, the monetary/nonmonetary, and the current/noncurrent methods. The temporal Chapter 23 - Related- Part y Disclosures method translates cash, receivables, payables, and assets and liabilities carried at either present or Chapter 24 - Specialized I ndustr ies future values at the current rate, with all remaining assets and liabilities carried at historical costs Chapter 25 - I nflation and Hyperinflation translated at the applicable historical rates. In essence, under this method, the accounting principles Chapter - Gov erthe nm ent Gr anand ts liabilities in the foreign statements are retained, but there will be used to26 measure assets Appendix A Di sclosure Checklist foreign exchange gains or losses that arise due to the translation methodology which are not a result of Appendix B events - I llustrativ Financial St atem ent s Pr esent ed UnderThis I ASwas the mandated method in the economic thateaffect the foreign entity's operations. Appendix C Com parison of I AS, US GAAP, and UK GAAP United States under prior GAAP (current US GAAP, SFAS 52, requires that the current rate method to I ndex be used in most, but not all, situations). Chapter 22 - For eign Curr ency

List of Tables

Results similarand to Ex those obtained under the temporal method are generally obtained from the use of the List of Ex hibits am ples

monetary/nonmonetary method. This translation technique (which is required under US GAAP when the books and records are not maintained in the functional currency) translates all nonmonetary assets and liabilities at their relevant historical rates. While the monetary/nonmonetary distinction will often roughly coincide with the current/noncurrent one, this will not generally be true (e.g., for noncurrent investments in monetary assets).

List of Sidebar s

The third method encountered is the current/noncurrent method, which employs balance sheet classification as the sole criterion for choice of translation rate. Current assets and liabilities are translated at the current rate and noncurrent assets and liabilities at the applicable historical rates.

Major weaknesses under this approach relate to the treatments accorded to inventory and long-term debt. Inventory, a current asset, must be translated at its current cost, a major departure from traditional GAAP.WThe long-term ile ytranslation I AS 2 0 03 of : I foreign-denominated n t erp re t at ion an d Ap p licat io ndebt o f under this approach, at historical rates inIeffect when the debt was incurred, could also be misleading to users. For instance, n t er n at ion al Accou n t in g St an d ar ds from the perspective of a US reporting entity, if the dollar were to weaken, it will require the use of more ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali dollars to repay the Mir foreign-denominated za obligation, but this fact would not be apparent from the reporting entity's John financial statements. Additional complications arise because some balance sheets are Wi ley & Sons © 2003 (952 pages) not classified, andThis there variations betweenquicurrent noncurrent classifications in commay pactalso and be t ruly com pr ehensive ck - referand ence esent s account ants with a guide to depend on for classified balanceprsheets. assistance in the prepar at ion and under standing of financial statements present in accordance with I AS.mandated by IAS for translation of The final approach, the current rate ed method, is the approach financial statements of a foreign entity. The distinguishing feature of this method is that all assets and T ab le of Con t en t s liabilities, both monetary and nonmonetary, are translated at the closing (balance sheet date) rate, Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing which ds obviously simplifies the process and also more closely corresponds to the viewpoint of users, Standar who tend to relate to currency rates then in existence rather than those of prior years. Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds The theoretical basis for the current rate method is the "net investment concept," wherein the foreign

Chapter - Balance entity is2 viewed as aSheet separate entity that the parent invested into, rather than being considered as part I ncom e Statement, Stat em ent of Chan ges inthe Equit y, and Statem ent the internal relationships of the parent's operations. Information provided about foreign entity retains Chapter 3 of Recognized Gains and Losses

and results created in the environment (economics, legal, and political) where the entity operates. This - Cash Flow St at em ent approach works best, of course, when foreign-denominated debt is used to purchase assets that create Chapter 5 - Financial Irevenues; nstr uments—Cash and Receiv ables as a hedge against the effects caused by foreign-denominated these assets thus serve Chapter 6 I nventor y changes in the exchange rate on the debt. Any excess (i.e., net) assets will be affected by this foreign Chapter 7 risk, - Revand enuethis Recogni I ncluding Constr uctioninContr act s company's balance sheet, as exchange is thetion, effect that is recognized the parent Chapter 8 Property , Plant , and Equipment described below. Chapter 4

Chapter 9

- I ntangi ble Asset s

Under US GAAP, if the local currency functional currency, (which is the normal I nterests in foreign Financialentity's Instr um ent s, Associatises,the Joint Ventur es, and Chapter 10 situation), the current method is prescribed for translating the foreign entity's financial statements. I nvestm entrate Pr oper ty On the 11 other hand, if Combinations the US dollar and is the functional the foreign operation, a different Chapter - Business Consolidat edcurrency Fin ancial of Statements technique, called the remeasurement method, must be employed the foreign entity's Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents when after ttranslating he Chapter 12 financial statements. This distinction is not made under IAS, however. Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Translation of Financial Statements of a Foreign Operation That Is Not Integral to the Operations of the Reporting Enterprise (i.e., Chapter 16 - Em ploy ee Benefit s Chapter Foreign 17 - Stock Entity) holder s' Equit y Chapter 14 - Leases

Chapter 15 - I ncom e Taxes

Chapter 18 - Earnings Per Share

The following rules should beRepor usedting in translating the financial statements of a foreign entity: Chapter 19 - I nterim Financial 1. All liabilities, Chapter 20 assets - Segm and ent Repor ting whether monetary or nonmonetary, should be translated at the closing Chapter rate. 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

2. Income and expense items should be translated at the exchange rates at the dates of the transactions, except when the foreign entity reports in a currency of a hyperinflationary economy Chapter 24 - Specialized I ndustr ies (as defined in IAS 29), in which case they should be translated at the closing rates. Chapter 23 - Related- Part y Disclosures

Chapter 25 - I nflation and Hyperinflation

Chapter 26 resulting - Gov er nm ent Gr an ts 3. All exchange differences should be classified as a separate component of equity of the Appendixreporting A - Di sclosure enterprise Checklist until disposal of the net investment in a foreign entity. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Guidance under IAS 21 in Special Situations

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

List of Tables interests. Minority List of Ex hibits and Ex am ples

When a foreign List of Sidebar s entity is consolidated but is not wholly owned by the reporting enterprise, there will be minority interest reported in the consolidated balance sheet. IAS 21 requires that the accumulated exchange differences resulting from translation and attributable to the minority interest be allocated to and reported as minority interest instead of as a separate component of equity.

Goodwill arising on acquisition of a foreign entity. Any goodwill (which in the authors' opinion includes negative goodwill) arising on the acquisition of a foreign entity should be treated as either 1.

1. An asset (or a liability in case of negative goodwill) of the foreign entity and translated at the closing rate, or W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

2. An asset (or a liability in case of negative goodwill) of the reporting entity which is either already I n t er n at ion al Accou n t in g St an d ar ds expressed in the reporting currency or is converted to the reporting currency, such as ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali nonmonetary items that are carried at historical costs and translated at the exchange rate on the Mir za date of theJohn transaction accordance IAS 21. Wi ley & in Sons © 2003 (952with pages) This com pact and t ruly com pr ehensive qui ck - refer ence

Fair value adjustments toants carrying amount of assets and liabilities arising on pr esent s account with a guide to depend on for assistance in the prepar at ion and under standing of financial acquisition of a foreign entity. statements present ed in accordance with I AS.

IAS 21 prescribes the same treatment for this as well as for goodwill arising on acquisition of a foreign entity (discussed above).

T ab le of Con t en t s

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Exchange differences on elimination of intragroup balances.

Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds While incorporating the financial statements of a foreign entity into those of the reporting enterprise,

Chapter - Balance Sheet normal 2consolidation procedures such as elimination of intragroup balances and transactions are I ncom e Statement, Statand em ent Chan ges in Equit Statem ent exchange differences undertaken as required by IAS 27 IASof31. However, IAS y, 21and requires that Chapter 3 of Recognized Gains and Losses

arising from intragroup monetary items should not be eliminated against corresponding amounts arising - Cash Flow St at em ent on other intragroup balances. This is because monetary items represent commitments to convert one Chapter 5 - Financial and Receiv ables to a gain or loss through currency currency into anotherI nstr and uments—Cash expose the reporting enterprise Chapter 6 I nventor y fluctuations. Thus, on consolidation, such exchange differences would continue to be recognized either Chapter 7 -orRev enue Recogni tion,arise I ncluding uction circumstances Contr act s as income expense, or if they from Constr exceptional described in IAS 21, they should Chapter 8 Property , Plant , and Equipment be classified as equity until the disposal of the net investment. Chapter 4

Chapter 9

- I ntangi ble Asset s

Different Ireporting dates.Instr um ent s, Associat es, nterests in Financial Chapter 10 -

Joint Ventur es, and

I nvestm ent Pr oper ty

When reporting datesCombinations for the financial of Fin a foreign entity and those of the reporting Chapter 11 - Business and statements Consolidat ed ancial Statements enterprise differ, theLiabilit foreign entity switches andand prepares Curr ent ies, Provnormally isions, Cont ingencies, Ev entsfinancial after t hestatements with reporting Balance dates coinciding withSheet thoseDate of the reporting enterprise. However, sometimes this may not be practicable to do. In13such circumstances IAS 27 allows theDebt use of financial statements drawn up to different dates, Chapter - Financial I nstr uments—LongTer m provided the difference is no more than three months. In such a case, the assets and liabilities of Chapter 14that - Leases the foreign Chapter 15 - entity I ncomshould e Taxesbe translated at the exchange rates prevailing on the balance sheet date of the foreign 16 entity. should be made for any significant movements in exchange rates between Chapter - EmAdjustments ploy ee Benefit s the balance sheet date of the foreign entity and that of the reporting entity in accordance with the Chapter 17 - Stock holder s' Equit y provisions of IAS 27 and IAS 28 relating to this matter. Chapter 18 - Earnings Per Share Chapter 12 -

Chapter 19 - I nterim Financial Repor ting

Disposal of a foreign entity.

Chapter 20 - Segm ent Repor ting

Chapter 21 - Accounting Changes and Cor rection Er ror sas a separate component of equity until the Any cumulative exchange differences are to be ofcarried Chapter 22of- the For eign Curr ency in terms of the specific stipulation in IAS 21. The standard prescribes the disposal foreign entity Chapter 23 of - RelatedPart y Disclosures treatment the cumulative exchange differences account on the disposal of the foreign entity. This Chapter balance, 24which - Specialized has been I ndustr deferred, ies should be recognized as income or expense in the same period in

which the or lossand onHyperinflation disposal is recognized. Chapter 25 gain - I nflation Chapter 26 - Gov er nm ent Gr an ts

Disposal has been defined to include a sale, liquidation, repayment of share capital, or abandonment of all or part of the entity. Normally, payment of dividends would not constitute a repayment of capital. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS However, in rare circumstances, it does; for instance, when an enterprise pays dividends out of capital Appendix C - Com parison of I AS, US GAAP, and UK GAAP instead of divisible profits, as defined in the companies' acts of certain countries where this expression I ndex is used, such as the United Kingdom, this would constitute repayment of capital. In such List of Tables circumstances, obviously, dividends paid would constitute a disposal for the purposes of this standard. Appendix A - Di sclosure Checklist

List of Ex hibits and Ex am ples

IASof21 further List Sidebar s stipulates that in the case of a partial disposal of an interest in a foreign entity, only a proportionate share of the related accumulated exchange differences is recognized as a gain or a loss. A write-down of the carrying amount of the foreign entity does not constitute a partial disposal, and thus the deferred exchange differences carried forward as part of equity would not be affected by such a write-down.

Change in classification of a foreign operation. Since whether or not a foreign operation is categorized as a foreign entity depends on the way the

foreign operation operates in relation to the reporting enterprise or is financed, a subsequent change in these circumstances could sometimes lead to a change of classification. In such circumstances the translation procedures the revised classification should be W ile yapplicable I AS 2 0 03 :toI n t erp re t at ion an d Ap p licat io n o f applied from the date of change in the classification. I n t er n at ion al Accou n t in g St an d ar ds ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali

Comprehensive Mir example of the practical application of the current rate method za John Wi ley & Sons © 2003 (952 pages)

Assume that a US company has a 100%-owned subsidiary in Germany that began operations in 2002. This com pact and t ruly com pr ehensive qui ck - refer ence The subsidiary's operations consist of leasing space an office building. This building, which cost 500 pr esent s account ants with a guide to in depend on for deutsche marks (DM), was financed primarily by German banks. of Allfinancial revenues and cash expenses are assistance in the prepar at ion and under standing present ed The in accordance AS. received and paidstatements in deutsche marks. subsidiarywith alsoI maintains its books and records in DM. T ab Con t management en t s Asleaof result, of the US company has decided that the financial statements of the German Wiley I AS 20 03—Int er pretation and Application inga foreign operation that was not subsidiary be translated for incorporation into ofitsI nternational financials asAccount if it were Standar ds

integral to the operations of the reporting entity, in other words, as if it were a foreign entity. The subsidiary's balance sheet at December 31, 2002, and its combined statement of income and retained Chapter 1 for - Ithe ntr oduction to I nter national31, Accounting ds below in DM. earnings year ended December 2002, areStandar presented Preface

Chapter 2

- Balance Sheet

Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

German Company Balance Sheet at December 31, 2002

Chapter 4

- Cash Flow St at em ent

Assets Chapter 5

Liabilities andables stockholders' equity - Financial I nstr uments—Cash and Receiv

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Cash

DM

50

20 Chapter 8Note - Property , Plant , and Equipment receivable Chapter 9

Accounts payable

DM

10

Unearned rent

- I ntangi ble Asset s

100 Land Mortgage I nterests in Financial Instr um ent s, Associat es, Jointpayable Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty

30

400

500

40

Building Chapter 11 - Business Combinations and Consolidat edCommon Fin ancial stock Statements Curr ent Liabilit ies, Prov isions, and Ev ents after t he (10) Cont ingencies, Chapter 12 Accumulated Additional paid-in capital Balance Sheet Date

160

depreciation

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes

20

Retained earnings DM

Chapter 16 - Em ploy ee Benefit s Total assets

660

Chapter 17 - Stock holder s' Equit y

Total liabilities and stockholders' equity

DM

660

Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21Company - Accounting ChangesStatement and Cor rection of Er ror and s German Combined of Income Retained Earnings for the Year Ended Chapter December 22 - 31, For eign 2002Curr ency Chapter 23 - Related- Part y Disclosures

Revenues

DM

Chapter 24 - Specialized I ndustr ies

Operating (including depreciation expense of DM 10) Chapter 25 - expenses I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Net income

170 DM

Appendix A - Di sclosure Checklist

Add retained earnings, January 1, 2002

Deduct Cdividends Appendix - Com parison of I AS, US GAAP, and UK GAAP

List of Ex hibits and Ex am ples

Various exchange rates for 2002 are as follows: List of Sidebar s

30 --

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS I ndex Retained earnings, December 31, 2002 List of Tables

200

(10) DM

20

1 DM

=

$0.40 at the beginning of 2002 (when the common stock was issued and the land and building were financed through the mortgage)

1 DM

=

$0.43 for I n tweighted-average er n at ion al Accou n t in2002 g St an d ar ds

1 DM

=

Mir za $0.42 at the date the dividends were declared and the unearned rent was received

1 DM

=

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali John Wi ley & Sons © 2003 (952 pages)

This com pact and t ruly com pr ehensive qui ck - refer ence

$0.45 at the end of 2002 pr esent s account ants with a guide to depend on for

assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Since the German subsidiary is a foreign entity (as per IAS 21), the German company's financial statements must be translated into US dollars in terms of the provisions of IAS 21 (i.e., by the current Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing rate method). This translation process is illustrated below. Standar ds

T ab le of Con t en t s

Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

German Company Balance Sheet Translation at December 31, 2002 Assets - I ncom e Statement, Stat em ent of Chan ges inDM Equit y, and Exchange Statem ent rates

Chapter 3 Chapter 4

of Recognized Gains and Losses

- Cash Flow St at em ent

DM

US dollars

Chapter 5Cash - Financial I nstr uments—Cash and Receiv ables

50

0.45

$ 22.50

Chapter 6

- I nventor y

20

0.45

9.00

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

0.45

45.00

490 0.45 Building (net)in Financial Instr um ent s, Associat es, Joint I nterests Ventur es, and

220.50

Accounts receivable

100

Chapter 8Land - Property , Plant , and Equipment Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I nvestm ent Pr oper ty

DM

660

$297.00

Chapter 11 - Business Total assets Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter Liabilities 12 - and stockholders' equity Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt DM Accounts payable Chapter 14 - Leases

Unearned Chapter 15 - I ncom erent Taxes Chapter 16 - Em ploy ee Benefit s

Mortgage payable

30

0.45

$ 13.50

10

0.45

4.50

400

0.45

180.00

40

0.40

16.00

160

0.40

64.00

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Common stock Chapter 19 - I nterim Financial Repor ting

Additional paid-in Chapter 20 - Segm ent Reporcapital ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

Retained earnings

20

Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures

--

Cumulative exchange difference Chapter 24 - Specialized I ndustr ies

(see income statement) --

8.70 10.30

(translation Chapter 25 - I nflation adjustments) and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Total liabilities and stockholders' equity

DM

660

$297.00

Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables

German Company Combined Income and Retained Earnings Statement Translation for the Year Ended December 31, 2002

List of Ex hibits and Ex am ples List of Sidebar s

DM

Exchange rates

US dollars

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f 0.43 I n t er n at ion al Accou n t in g St an d DM ar ds 200

Revenues

by Bar r y J. and Abbas Ali Expenses (including DM 10Epstein depreciation Mir za expense)

170

$86.00

ISBN:0471227366 0.43

73.10

John Wi ley & Sons © 2003 (952 pages)

Net income

DM qui ck30 This com pact and t ruly com pr ehensive - refer ence pr esent s account ants with a guide to depend on for Add retained earnings, January 1 --assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. Deduct dividends (10) 0.42

$12.90 -(4.20)

T abRetained le of Conearnings, t en t s December 31 DM 20 Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

$ 8.70

Preface Chapter 1 Company - I ntr oduction to I nterof national Standar German Statement Cash Accounting Flows for the YeardsEnded December 31, 2002 Chapter 2 - Balance Sheet

DM

Chapter 3

-

Exchange

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent rates of Recognized Gains and Losses

US dollars

Chapter 4 - Cash Flow St at em ent Operating activities Chapter 5

- Financial I nstr uments—Cash and Receiv ables

0.43

$ 12.90

10 es, and 0.43 I nterests in Financial Instr um ent s, Associat es, Joint Ventur Depreciation I nvestm ent Pr oper ty

4.30

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements (20) 0.43

(8.60)

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 Balance Sheet Date 30 0.43 IncreaseI nstr in accounts payable Chapter 13 - Financial uments—LongTer m Debt

12.90

Chapter 6Net - Iincome nventor y Chapter 7

DM

30

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Adjustments to reconcile net income to net - Property , Plant , and Equipment cash provided by operating activities:

Chapter 8 Chapter 9

- I ntangi ble Asset s

Chapter 10 -

Increase in accounts receivable

10

Chapter 14 - Leases

Increase in unearned rent Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s

Net cash provided by operating activities

DM

0.42

60

4.20 $ 25.70

Chapter 17 - Stock holder s' Equit y

Investing Chapter 18 - activities Earnings Per Share

(100)

0.40

(40.00)

Chapter 21 Purchase - Accounting of building Changes and Cor rection of Er ror s

(500)

0.40

(200.00)

Chapter 22 - For eign Curr ency

(600)

Chapter 19 - I nterim Financial Repor ting

Purchase of land

Chapter 20 - Segm ent Repor ting

Net cash used by investing activities

(240.00)

Chapter 23 - Related- Part y Disclosures Chapter Financing 24 - Specialized activities I ndustr ies

Chapter 25 - I nflation and Hyperinflation

Common stock issue

200

0.40

80.00

400

0.40

160.00

0.42

(4.20)

Chapter 26 - Gov er nm ent Gr an ts Appendix Mortgage A - Di sclosure Checklist payable

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

paid of I AS, US GAAP, and UK GAAP Appendix Dividends C - Com parison

(10)

I ndex

590

235.80

N/A

1.00

50

$ 22.50

--

---

Net cash provided by financing

List of Tables

exchange rate changes on cash ListEffect of Ex on hibits and Ex am ples ListIncrease of Sidebar in scash and equivalents

DM

Cash at beginning of year Cash at end of year

DM

50

0.45

$22.50

The following points should be noted concerning the current rate method: 1. All assets and liabilities are translated using the current exchange rate at the balance sheet date

1. (1 DM = $0.45). All revenues and expenses should be translated at the rates in effect when these items are recognized during the period. Due to practical considerations, however, weighted-average rates can: Ibe used revenues W ile y I AS 2 0 03 n t erp re to t attranslate ion an d Ap p licat ioand n o fexpenses (1 DM = $0.43). I n t er n at ion al Accou n t in g St an d ar ds

2. Stockholders' equity accounts are translated by using historical exchange rates. Common stock ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali was issuedMiratzathe beginning of 2002 when the exchange rate was 1 DM = $0.40. The translated balance ofJohn retained the(952 result of the weighted-average rate applied to revenues and Wi leyearnings & Sons ©is2003 pages) expenses This and com the specific rate in effect when the dividends were declared (1 DM = $0.42). pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

3. Cumulative exchangeindifferences adjustments) from translating all assets and assistance the prepar at(translation ion and under standing of result financial liabilities atstatements the currentpresent rate, while equity ed in stockholders' accordance with I AS.is translated by using historical and weighted-average rates. The adjustments have no direct effect on cash flows; however, changes T ab le of Con t en t s in exchange rate will have an indirect effect on sale or liquidation. Prior to this time, the effect is Wiley I AS 20 03—Int er pretation and Application I nternational ing rather than the subsidiary's uncertain and remote. Also, the effect of is due to the netAccount investment Standar ds operations. For these reasons the translation adjustments balance is reported as a separate Preface component in the stockholders' equity section of the US company's consolidated balance sheet. Chapter 1 - I ntr oduction to I nter national Accounting Standar ds This balance essentially equates the total debits of the subsidiary (now expressed in US dollars) Chapter with 2 - the Balance total Sheet credits (also in dollars). It may also be determined directly, as shown next, to verify I ncom e Statement, the translation process. Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of Recognized Gains and Losses

Chapter 4 - cumulative Cash Flow St at em ent differences (translation adjustments) credit of $10.30 is calculated as 4. The exchange Chapter follows: 5 - Financial I nstr uments—Cash and Receiv ables Chapter 6

- I nventor y

Chapter 7Net - Rev enueatRecogni tion, I ncluding Contr act s assets the beginning of 2002Constr (afteruction common stock

200 DM (0.45 0.40)

=

$10.00 credit

nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 Net- Iincome 30 DM I nvestm ent Pr oper ty

=

.60 credit

Chapter 8was - Property , Plant issued and the, and landEquipment and building were acquired Chapter 9through - I ntangi mortgage ble Assetfinancing) s

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

(0.45 0.43)

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balance Sheet Date Dividends

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

10 DM (0.45 0.42)

=

.30debit

Chapter 15 - I ncom e Taxes

Exchange difference (translation adjustment)

Chapter 16 - Em ploy ee Benefit s

$10.30 credit

Chapter 17 - Stock holder s' Equit y Chapter 5. Since 18 - Earnings the translation Per Share adjustments balance that appears as a separate component of

equity isRepor cumulative in nature, the change in this balance during the year should be Chapter stockholders' 19 - I nterim Financial ting financial Chapter disclosed 20 - Segmin entthe Repor ting statements. In the illustration, this balance went from zero to $10.30 at of 2002.Changes The analysis of rection this change was Chapter the 21 -end Accounting and Cor of Er ror s presented previously. In addition, assume that occurred Chapter the 22 -following For eign Curr ency during 2003: Chapter 23 - Related- Part y Disclosures Chapter German 24 - Specialized Company I ndustr Balance ies Sheet December 31 Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

Assets

2003

2002

Increase/(decrease)

DM an d100 DMio n o50 Cash W ile y I AS 2 0 03 : I n t erp re t at ion Ap p licat f I n t er n at ion al Accou n t in g St an d ar ds

Accounts by Bar r yreceivable J. Epstein and Abbas Ali Mir za Land John Wi ley & Sons © 2003 (952 pages)

--

DM

50

20

(20)

ISBN:0471227366

150

100

50

This com pact and t ruly com pr ehensive 480 qui ck - refer ence 490 Building (net) pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under730 standing DM DMof financial 660 DM statements present ed in accordance with I AS. Total assets

(10) 70

Liabilities T ab le of Con t en t s and stockholders' equity Wiley I AS 20 03—Int er pretation and Application of IDM nternational ing 50 Account DM 30 Accounts payable Standar ds Preface

--

Unearned rent

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheetpayable Mortgage

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y 30 Retained earnings - Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8 Chapter 9

450

(10)

400

50

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent 40 40 Common stock of Recognized Gains and Losses

160

Additional paid-in capital

- Property ,Total Plantliabilities , and Equipment and - I ntangi ble Asset s stockholders' equity

Chapter 10 -

20

10

Chapter 1

Chapter 7

DM

DM

730

DM

--

160

--

20

10

660

DM

70

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

German Company Combined Statement of Income and Retained Earnings for the Year

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter Ended 12 December 2003 Balance Sheet 31, Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt Revenues

DM

Chapter 14 - Leases

Operating expenses (including depreciation expense of DM 10)

170

Chapter 15 - I ncom e Taxes

Net- Em income Chapter 16 ploy ee Benefit s

DM

Chapter 17 - Stock holderearnings, s' Equit y Jan. 1, 2003 Add: Retained Chapter 18 - Earnings Per Share

50 20

Deduct dividends

(40)

Chapter 19 - I nterim Financial Repor ting

Retained earnings, Dec. 31, 2003 Chapter 20 - Segm ent Repor ting

220

DM

30

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Exchange rates were:

Chapter 23 - Related- Part y Disclosures

1 DM = $0.45 at the Chapter 24 - Specialized I ndustr iesbeginning of 2003 Chapter 25 - I nflation and Hyperinflation

1 DM = $0.48 weighted-average for 2003

Chapter 26 - Gov er nm ent Gr an ts

Appendix A - Di Checklist 1 sclosure DM = $0.50 at the end of 2003 Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

1 DM = $0.49 dividends were in 2003 and land bought by incurring mortgage Appendix C - Com parison of when I AS, US GAAP, and UKpaid GAAP I ndex

The translation process for 2003 is illustrated below.

List of Tables

List of Ex hibits and Ex am ples

German Company Balance Sheet Translation at December 31, 2003

List of Sidebar s

Assets

DM

Exchange rates

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

I n t er n at ion al Accou n t in g St an d arDM ds Cash

100

0.50

ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali

150

US dollars $ 50.00

0.50

75.00

480 0.50 Building This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to DM depend730 on for assistance in the prepar at ion and under standing of financial Total asets

240.00

Mir za Land John Wi ley & Sons © 2003 (952 pages)

$365.00

statements present ed in accordance with I AS.

Liabilities and stockholders' equity T ab le of Con t en t s

DM

50

0.50

$ 25.00

450

0.50

225.00

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds40

0.40

16.00

Chapter 2

- Balance Sheet

Chapter 3

-

0.40 I ncom e Statement, Stat em ent of Chan ges in Equit160 y, and Statem ent Addl. paid-in capital of Recognized Gains and Losses

64.00

Chapter 4

Retained earnings - Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y Cumulative exchange difference

Chapter 7

- Rev(translation enue Recogni tion, I ncluding Constr uction Contr act s adjustments)

Chapter 8

- Property , Plant , and Equipment

Accounts payable Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Mortgage payable

Preface

Common stock

30

(see income statement)

-DM

21.90

730

- I ntangi ble Asset s Total liabilities and I nterestsstockholders' in Financial Instr um ent s, Associat es, Joint Ventur es, and equity Chapter 10 I nvestm ent Pr oper ty Chapter 9

13.10

$365.00

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter German 12 Company Combined Income and Retained Earnings Statement Translation for Balance Sheet Date

Ended December 31, 2003 Chapter the 13 -Year Financial I nstr uments—LongTer m Debt

DM

Chapter 14 - Leases

Exchange rates

Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s

Revenues

Chapter 17 - Stock holder s' Equit y

DM

Operating expenses (including Chapter 18 - Earnings Per Share depreciation of DM 10) Chapter 19 - I nterim Financial Repor ting Chapter 20 ent Repor ting Net- Segm income

DM

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Add: Retained earnings 1/1/03

Chapter 22 - For eign Curr ency

Less: Dividends Chapter 23 - RelatedPart y Disclosures Chapter 24 - Specialized I ndustr ies Retained earnings 12/31/03

220

0.48

$105.60

170

0.48

81.60

50

0.48

$ 24.00

20

--

(40) DM

US dollars

30

0.49

8.70 (19.60) $ 13.10

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

German Company Statement of Cash Flows for the Year Ended December 31, 2003

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

DM

Exchange rates

US dollars

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

OperatingI nactivities t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

Net Mirincome za

DM

ISBN:0471227366 50 .48

$24.00

John Wi ley & Sons © 2003 (952 pages)

Adjustments to reconcile net income com pact and t ruly com pr ehensive qui ck - refer ence toThis net cash provided by operating pr esent s account ants with a guide to depend on for activities: assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. T ab le of Con t en t s

10

.48

4.80

.48

9.60

20

.48

9.60

(10)

.48

(4.80)

Depreciation

20 ing Wiley I AS 20 03—Int er pretation and Application of I nternational Account Decrease in accounts receivable Standar ds Preface

Increase in accounts payable

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Decrease in unearned rent

Chapter 4

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses DM 90 Net cash provided by operating - Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act(50) s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi Net ble cash Asset used s by investing activities

$43.20

activities

activities Chapter 6Investing - I nventor y

.49

Purchase of land

(50)

(24.50) (24.50)

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 Financing activities I nvestm ent Pr oper ty

50 Chapter 11 - Business Combinations Mortgage payable and Consolidat ed Fin ancial Statements

.49

24.50

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 (40) .49 Balance Sheet Date Dividends

(19.60)

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Net cash provided by financing Chapter 14 - Leases

10

4.90

NA

3.90

50

$27.50

50

22.50

activities Chapter 15 - I ncom e Taxes

Chapter 16 - Emof ploy ee Benefit s changes on cash Effect exchange rate Chapter 17 - Stock holder s' Equit y

Increase in cash and equivalents

Chapter 18 - Earnings Per Share

DM

Cash at beginning of Repor year ting Chapter 19 - I nterim Financial Chapter 20 - Segm ent of Repor Cash at end yearting

DM

100

.50

$50.00

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

the analysis that was presented before, the total exchange differences (translation Chapter Using 23 - RelatedPart y Disclosures attributable to 2003 would be computed as follows: Chapter adjustment) 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation

Net- Gov assets atent January Chapter 26 er nm Gr an ts1, 2003 Appendix Net A - Di sclosure income forChecklist 2003

200 DM (0.50 - 0.45)

=

$ 11.00 credit

50 DM (0.50 - 0.48)

=

1.00 credit

=

.40debit

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Dividends for 2003

40 DM (0.50 - 0.49)

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Total

$11.60 credit

List of Tables

The balance in the cumulative exchange differences (translation adjustment) account at the end of 2003 would be $21.90 ($10.30 from 2002 and $11.60 from 2003).

List of Ex hibits and Ex am ples List of Sidebar s

6. Use of the equity method by the US company in accounting for the subsidiary would result in the following journal entries based on the information presented above:

2002

2003

Original W investment ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds80 [a] Investment in German subsidiary

--

ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali Mir za Cash John Wi ley & Sons © 2003 (952 pages)

80

--

com pact and t ruly com pr ehensive qui ck - refer ence EarningsThis pickup pr esent s account ants with a guide to depend on for

24 assistanceininGerman the prepar at ion and under12.90 standing of financial Investment subsidiary

[b]

statements present ed in accordance with I AS.

T ab le of Con t en t s

12.90

Equity in subsidiary income

Wiley I AS 20 03—Int er pretation and Application of I nternational2002 Account ing Standar ds Preface

24 2003

Dividends received

Chapter 1

- I ntr oduction to I nter national Accounting Standar 4.20ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Cash

19.60

4.20Statem ent I ncom e Statement, Stat em ent of Chan ges in Equit y, and Investment German of Recognized Gains in and Losses

19.60

subsidiary

Chapter 5Exchange - Financialdifference I nstr uments—Cash (translation andadjustments) Receiv ables Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Investment in German subsidiary

10.30

11.60

10.30 11.60 Translation adjustments [a][$0.40 x common stock of 40 DM plus additional paid-in capital of 160 DM] I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I nvestm ent Pr oper ty

[b][$0.48

x net income of 50 DM]

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter Note 12 - that the stockholders' equity of the US company should be the same whether or not the Balance Sheet Date

German subsidiary is consolidated (IAS 28). Since the subsidiary does not report the translation adjustments on its financial statements, care should be exercised so that it is not forgotten in Chapter 14 - Leases application of the equity method. Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 15 - I ncom e Taxes

Chapter 16the - Em ee Benefit s 7. If USploy company disposes of its investment in the German subsidiary, the translation Chapter adjustments 17 - Stock holder s' Equit y balance becomes part of the gain or loss that results from the transaction and must Chapter be 18 eliminated. - Earnings Per ForShare example, assume that on January 2, 2004, the US company sells its entire

300 DM. Theting exchange rate at this date is I DM = $0.50. The balance in the Chapter investment 19 - I nterimfor Financial Repor account at December 31, 2003, is $115 as a result of the entries made previously. Chapter investment 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Investment in German Subsidiary Chapter 23 - Related- Part y Disclosures

1/1/02

80.00

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation 12.90 Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

4.20

10.30

Appendix B -1/1/03 I llustrativ e Financial 99.00 St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

24.00

I ndex List of Tables List of Ex hibits and Ex am ples

12/31/03

List of Sidebar s

11.60

19.60

115.00

The following entries would be made to reflect the sale of the investment:

Cash (300 DM x $0.50)

150

115 Investment W ile y I ASin2German 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds subsidiary by Bar r y J. Epstein and Abbas Ali

Gain from sale of subsidiary Mir za

ISBN:0471227366

35

John Wi ley & Sons © 2003 (952 pages) Translation adjustments 21.90 This com pact and t ruly com pr ehensive qui ck - refer ence

21.90 pr esent account ants with a guide to depend on for Gain froms sale of subsidiary

assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

If the US company had sold a portion of its investment in the German subsidiary, only a share of the translation adjustments balance (cumulative amount of exchange T ab le of proportionate Con t en t s differences) haveand become part of gain or loss from the Wiley I AS 20 03—Int erwould pretation Application of the I nternational Account ing transaction. To illustrate, if Standar ds 80% of the German subsidiary was sold for 250 DM on January 2, 2004, the following journal Preface entries would be made: Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2Cash - Balance Sheet

125

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent InvestmentGains in German subsidiary (0.8 x $115) of Recognized and Losses

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

92 33

Gain from sale of subsidiary

difference (translation adjustments) (0.8 x $21.90) Chapter 6Cumulative - I nventorexchange y Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

17.52

Gain from sale of subsidiary

17.52

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter For an 10 illustration of the remeasurement method under US GAAP, refer to the Appendix of this chapter. I nvestm ent Pr oper ty Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Translation Foreign Currency Transactions Curr entof Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Chapter 12 -

Balance Sheet Date According IAS 21, Ianstr foreign currency transaction Chapter 13 -toFinancial uments—LongTer m Debt is a transaction that is "denominated in or requires

settlement a foreign currency." Denominated means that the amount to be received or paid is fixed in Chapter 14 -inLeases terms of15the of units of a particular foreign currency, regardless of changes in the exchange Chapter - Inumber ncom e Taxes rate.

Chapter 16 - Em ploy ee Benefit s Chapter 17 viewpoint - Stock holder Equit y From the of as'US company, for instance, a foreign currency transaction results when it Chapter Earnings Per Share imports18 or -exports goods or services to a foreign entity or makes a loan involving a foreign entity and Chapter - I nterim Repor ting agrees 19 to settle the Financial transaction in currency other than the US dollar (the reporting currency of the US Chapter 20 -In Segm entsituations, Repor ting the US company has "crossed currencies" and directly assumes the risk company). these Chapter 21 - Accounting and foreign Cor rection of Er ror of fluctuating exchangeChanges rates of the currency inswhich the transaction is denominated. This risk

may lead recognition foreign exchange differences in the income statement of the US company. Chapter 22 to - For eign Curr of ency Note that differences can result only when the foreign currency transactions are denominated Chapter 23 exchange - Related- Part y Disclosures in a foreign Chapter 24 - currency. Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation

When a US company imports or exports goods or services and the transaction is to be settled in US dollars, the US company will incur neither gain nor loss because it bears no risk due to exchange rate Appendix A - Di sclosure Checklist fluctuations. The following example illustrates the terminology and procedures applicable to the Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS translation of foreign currency transactions. Chapter 26 - Gov er nm ent Gr an ts

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex Assume that a US company, an exporter, sells merchandise to a customer in Germany on December 1,

2002, for 10,000 DM. Receipt is due on January 31, 2003, and the US company prepares financial List of Tables statements onand December 31, 2002. At the transaction date (December 1, 2002), the spot rate for List of Ex hibits Ex am ples immediate exchange of foreign currencies indicates that 1 DM is equivalent to $0.50. List of Sidebar s To find the US dollar equivalent of this transaction, the foreign currency amount, 10,000 DM, is multiplied by $0.50 to get $5,000. At December 1, 2002, the foreign currency transaction should be recorded by the US company in the following manner: Accounts receivable—Germany 5,000; sales 5,000. The accounts receivable and sales are measured in US dollars at the transaction date using the spot rate at the time of the transaction. While the accounts receivable is measured and reported in US dollars, the receivable is denominated or fixed in DM.

This characteristic may result in foreign exchange differences if the spot rate for DM changes between the transaction date and the date of settlement (January 31, 2003). If financial statements are prepared between the transaction and date, receivables liabilities that are W ile y I date AS 2 0 03 :the I n tsettlement erp re t at ion an dallAp p licat io n oand f denominated in aI foreign currency (the US dollar) must be restated to reflect the spot rates in existence n t er n at ion al Accou n t in g St an d ar ds at the balance sheet date. ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali Mir za

Assume that on December 2002, the spot rate for DM is 1 DM = $0.52. This means that the 10,000 John Wi ley 31, & Sons © 2003 (952 pages) DM are now worth $5,200 and that the accounts receivable denominated in DM should be increased by This com pact and t ruly com pr ehensive qui ck - refer ence $200. The following journal entry would be recorded of December pr esent s account ants with a guide toas depend on for 31, 2002: assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. Accounts receivable—Germany 200 T ab le of Con t en t s

200

Foreign currency exchange

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar dsdifference Preface

Note that the sales account, which was credited on the transaction date for $5,000, is not affected by - I ntr oduction to I nter national Accounting Standar ds changes in the spot rate. This treatment exemplifies the two-transaction viewpoint (which is a US Chapter 2 - Balance Sheet GAAP expression). In other words, making the sale is the result of an operating decision, while bearing I ncom e Statement, em result ent of of Chan ges in Equit y, and Statem ent the amount determined the risk3of fluctuating spot ratesStat is the a financing decision. Therefore, Chapter of Recognized Gains and Losses as sales revenue at the transaction date should not be altered because of a financing decision to wait Chapter 4 - Cash Flow St at em ent until January 31, 2003, for payment of the account. Chapter 1

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter The risk6 of- aI nventor foreign yexchange transaction loss can be avoided either by demanding immediate Chapter payment 7 on - Rev December enue Recogni 1 or by tion, entering I ncluding intoConstr a forward uction exchange Contr act scontract to hedge the exposed asset

(accounts The, fact the US company in the example did not act in either of these two Chapter 8 receivable). - Property , Plant and that Equipment ways is9reflected byble requiring Chapter - I ntangi Asset s the recognition of foreign currency exchange differences (transaction gains or losses) in its inincome statement as financial nonoperating I nterests Financial Instr um (reported ent s, Associat es, Joint or Ventur es, and items) in the period during whichI nvestm the exchange ent Pr oper rates ty changed.

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

This treatment has been criticized, however, because both the unrealized gain and/or loss are

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - in the financial statements, a practice that is at variance with traditional GAAP. recognized Balance Sheet Date

Furthermore, earnings willuments—Longfluctuate because changes in exchange rates and not because of Chapter 13 - Financial I nstr Ter mofDebt changes economic activities of the enterprise. Chapter 14in- the Leases Chapter 15 - I ncom e Taxes

On the settlement date (January 31, 2003), assume that the spot rate is 1 DM = $0.51. The receipt of

Chapter Em ploy eeconversion Benefit s 10,000 16 DM- and their into US dollars would be journalized in the following manner: Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

Foreign currency

Chapter 19 - I nterim Financial Repor ting

Foreign transaction Chapter 20currency - Segm ent Repor tingloss

5,100 100

Chapter 21 - Accounting Changes and Cor rection of 5,200 Er ror s

Accounts

Chapter 22 - For eign Curr ency receivable—Germany Chapter 23 - Related- Part y Disclosures

Cash

Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Foreign currency

5,100 5,100

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist The net effect of this foreign currency transaction was to receive $5,100 from a sale that was measured Appendix llustrativThis e Financial atem ent s Prcurrency esent ed Under I AS gain of $100 is reported on two originallyBat- I$5,000. realizedStnet foreign transaction

income statements: a $200 gainUS in GAAP, 2002 and $100 loss in 2003. The reporting of the gain in two Appendix C - Com parison of I AS, and aUK GAAP income statements causes a temporary difference between pretax accounting and taxable income. This I ndex results because the transaction gain of $100 is not taxable until 2003, the year the transaction was List of Tables completed or and settled. Accordingly, inter-period tax allocation is required for foreign currency transaction List of Ex hibits Ex am ples gains or losses. List of Sidebar s

Benchmark vs. Allowed Alternative Treatments of Exchange Differences The benchmark treatment for exchange differences requires recognition as income or expense in the period in which they arise. Under current IAS (which will possibly change due to the IASB's Improvements Project, however), there is an allowed alternative treatment for certain exchange

differences. This results in capitalization of the loss incurred due to effect of exchange rate changes on foreign-denominated obligations associated with asset acquisitions, as described in the following paragraphs. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Capitalizationbyof losses resulting from severe currency devaluation or ISBN:0471227366 Barcertain r y J. Epstein and Abbas Ali Mir za depreciation. John Wi ley & Sons © 2003 (952 pages)

The benchmark treatment for the be applied to- refer exchange This com pact andaccounting t ruly com prto ehensive qui ck ence differences that arise from pr esent s item account ants with ainguide to depend on for settlement of a monetary denominated a foreign currency (e.g., an invoice for the purchase of assistance the prepar at ion period and under standing of financial machinery) is to report theseinitems in current earnings. However, for narrowly defined statements present ed in accordance with I AS. circumstances, IAS 21 provides an alternative treatment which may be selected by the reporting entity. Under alternative method, if the exchange gain or loss resulted from a severe devaluation T ab le of this Conoptional, t en t s or depreciation, and certain conditions are met, difference may be Wiley I AS 20 03—Int er pretation and Application of Ithis nternational Account ingadded or deducted from the Standar carrying ds amount of the asset acquired (e.g., the machinery). In order to qualify for such alternative accounting, the following conditions must be met: Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

The exchange difference had to arise in the context of a severe devaluation or depreciation of the - Balance Sheet currency; this cannot simply be the continuation of ongoing devaluation, but rather must be I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - unexpected, and significant. sudden, of Recognized Gains and Losses Chapter 2

Chapter 4

- Cash Flow St at em ent The reporting entity cannot be reporting in the currency of a hyperinflationary economy, as defined

Chapter Financial I nstr uments—Cash and Receiv ables by 5IAS- 29. Chapter 6

- I nventor y There haveRecogni been no practical means of uction hedging theact risk Chapter 7 -must Rev enue tion, I ncluding Constr Contr s of devaluation or depreciation. The

standard does not imply thatEquipment there was a complete impossibility of doing so, but only that it would Chapter 8 - Property , Plant , and have impractical the circumstances. As interpreted further by SIC 11, this means that Chapter 9 been - I ntangi ble Assetunder s the foreign-denominated liability have been settled (e.g., a forward transaction) and I nterests in Financial Instrcould um entnot s, Associat es, Joint Ventur es,via and that it was impracticable I nvestm ent Pr opertotyhedge prior to the occurrence of the devaluation event. This threshold would met if the foreign currency were noted available the market, and that it was impracticable Chapter 11 -be Business Combinations and Consolidat Fin ancialinStatements to utilizeCurr derivatives. ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 10 -

Chapter 12 -

Balance Sheet Date The13acquisition theuments—Longassets must have Chapter - Financialof I nstr Ter mbeen Debt "recent," which while not defined by IAS 21, was

later interpreted by SIC 11 as being within twelve months prior to the severe devaluation or depreciation.

Chapter 14 - Leases

Chapter 15 - I ncom e Taxes

Chapter 16 - Emisploy ee ifBenefit A final caveat that, such sa loss is experienced and the allowed alternative method under IAS 21 is Chapter Stock y invoked17to -add theholder loss s'toEquit the carrying value of an acquired asset, this may have to be limited so that Chapter 18 - Earnings Share does not exceed the lower of the replacement cost and the amount the carrying value of Per the asset Chapter 19 - Ifrom nterim Repor recoverable theFinancial sale or use ofting the asset. Chapter 20 - Segm ent Repor ting

If the alternative methodChanges is used,and it must be continued Chapter 21 - Accounting Cor rection of Er ror in s use for other similar situations (i.e., exchange differences arising in the context of the above described conditions), adding losses to other assets acquired as appropriate. This will be illustrated by means of the following example:

Chapter 22 - For eign Curr ency

Chapter 23 - Related- Part y Disclosures

Chapter 24 of - Specialized I ndustr ies Example capitalization of exchange differences Chapter 25 - I nflation and Hyperinflation Chapter 26 Company - Gov er nmInternational ent Gr an ts enters into a binding contract to import a machine from country A on Sandoval Appendix January A1,-2003. Di sclosure The terms Checklist of the contract specify that payments must commence within twelve

months of date ofethe purchase contract. reporting of Sandoval company undergoes a Appendix B -the I llustrativ Financial St atem ent s PrThe esent ed Undercurrency I AS severe devaluation, there no US practical hedging the exchange risk, and the foreign currency Appendix C - Com parison of is I AS, GAAP,means and UKofGAAP necessary for the settlement of the liability is not available. The foreign currency liability is to be settled I ndex as of follows: List Tables List of Ex hibits and Ex am ples

30, 2003 ListJune of Sidebar s

25% of the purchase price

September 30, 2003

25% of the purchase price

December 31, 2003

25% of the purchase price

March 31, 2003

25% of the purchase price

The exchange losses incurred on the payments made on June 30, September 30, and December 31, 2002, can clearly be capitalized based on the interpretation of the term "recent acquisition" in SIC 11 since these dates fall within twelve months of the date of acquisition. The final installment payment,

March 31, 2003 (which is beyond the period of twelve months from the date of acquisition) also qualifies for capitalization with the cost of the asset, according to SIC 11, since the "recent" limitation relates to the event ofydevaluation the an asset acquisition and W ile I AS 2 0 03 : in I nrelation t erp re t to at ion d Ap p licat io n o f does not limit the accounting for subsequent disbursements on that acquisition. I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Thus, if other conditions Mir za for capitalization continue to be met, such as the lack of availability of foreign currency necessary forWisettlement and the impracticality of hedging the exchange risk, John ley & Sonsof © the 2003liability, (952 pages) such exchange losses should continue to be capitalized once the alternative method is elected This com pact and t ruly com pr ehensive qui ck - refer ence (provided the adjusted carrying amount does not exceed the recoverable amount of the asset). pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

While the foregoing option is presently available, if the proposed (as of mid-2002) changes are enacted, IAS 21 will no longer allow this, and SIC 11 will be withdrawn. See the discussion of the Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Improvements Project proposals later in this chapter. Standar ds

T ab le of Con t en t s

Preface

Disclosure Requirements - I ntr oduction to I nter national Accounting Standar ds

Chapter 1 Chapter 2

- Balance Sheet

A number ofI ncom disclosure requirements have been prescribed by IAS 21. Primarily, disclosure is required e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of the amounts of exchange differences included in net income or loss for the period, exchange of Recognized Gains and Losses differences that are included in the carrying amount of an asset, and those that are classified as equity Chapter 4 - Cash Flow St at em ent along with a reconciliation of the beginning and ending Chapter 5 - Financial I nstr uments—Cash and Receiv ablesbalance in the cumulative exchange difference account carried as part of the equity. Chapter 6 - I nventor y Chapter 7 - Rev Recogni tion, I ncluding uction Contr actdisclosure s When there is aenue change in classification of aConstr foreign operation, is required as to the nature of Chapter 8 Property , Plant , and Equipment the change, reason for the change, and the impact of the change on the current and each of the prior Chapter 9 - I ntangi ble Asset years presented. When the sreporting currency is different from the currency of the country of domicile, I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and the reason Chapter 10 - for this should be disclosed, and in case of any subsequent change in the reporting I nvestm ent Pr oper ty currency, the reason thereof should also be disclosed. An enterprise should also disclose the method Chapter 11to- translate Business goodwill Combinations andvalue Consolidat ed Fin ancial Statements selected and fair adjustments arising on the acquisition of a foreign entity. Curr ent Liabilit of ies,anProv isions, Cont ingencies, and Ev ents after t he policy. Disclosure is encouraged enterprise's foreign currency risk management Chapter 12 Balance Sheet Date Chapter 13 - Financial I nstr uments—LongTer m Debt The following additional disclosures are required by SIC 19: Chapter 14 - Leases

When measurement currency is different from the currency of the country in which the Chapter 15 -the I ncom e Taxes enterprise is domiciled, the reason for using a different currency;

Chapter 16 - Em ploy ee Benefit s

Chapter - Stockfor holder Equit y in measurement currency or presentation currency; and The17reason any s'change Chapter 18 - Earnings Per Share

When statements areting presented in a currency other than the enterprise's measurement Chapter 19 -financial I nterim Financial Repor currency, the ent reason for using a different presentation currency, and a description of the method Chapter 20 - Segm Repor ting used the translation process. Chapter 21 in - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Yet further disclosure requirements have been imposed by SIC 30:

Chapter 23 - Related- Part y Disclosures

Chapter 24 -financial Specialized I ndustr ies When statements are presented in a currency other than the measurement currency, an Chapter 25 - I nflation Hyperinflation enterprise shouldand state the fact that the measurement currency reflects the economic substance of Chapter underlying 26 - Govevents er nm ent and Gr an circumstances; ts Appendix A - Di sclosure Checklist

When financial statements are presented in a currency other than the measurement currency, and the measurement currency is the currency of a hyperinflationary economy, an enterprise should Appendix C - Com parison of I AS, US GAAP, and UK GAAP disclose the closing exchange rates between measurement currency and presentation currency I ndex existing at the date of each balance sheet presented; Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

List of Tables

List ofWhen Ex hibits and Ex am ples additional information not required by IAS is displayed in financial statements and in a List ofcurrency Sidebar sother than presentation currency, as a matter of convenience to certain users, an

enterprise should: Clearly identify such information as supplementary information; Disclose the measurement currency used to prepare the financial statements and the method of translation used to determine the supplementary information displayed; Disclose the fact that the measurement currency reflects the economic substance of the

underlying events and circumstances of the enterprise and the supplementary information is displayed in another currency for convenience purposes only; and W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

DiscloseI nthe currency in which supplementary information is displayed. t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za Proposed Changes to IAS 21

John Wi ley & Sons © 2003 (952 pages)

The IASB's Improvements Project that certain This com pact and has t rulyproposed com pr ehensive qui ck -changes refer encebe made to IAS 21. These pr esent s account ants withand a guide depend will on for changes are deemed likely to be enacted quitetopossibly be effective before year-end 2003. assistance in following the preparparagraphs. at ion and under standing of financial These are summarized in the statements present ed in accordance with I AS.

Foreign currency derivatives that are properly addressed by IAS 39 would be removed from the scope of IAS 21. Also, hedging guidance would be moved to IAS 39.

T ab le of Con t en t s

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

The current concept of reporting currency set forth in IAS 21 would be replaced with two other concepts:functional currency (defined as the currency in which the entity measures the items in Chapter 1 - I ntr oduction to I nter national Accounting Standar ds its financial statements) and presentation currency (which is the currency in which the entity Chapter 2 - Balance Sheetstatements). In the amended IAS 21, the term functional currency is used in presents its financial I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent place Chapter 3 of - measurement currency, which was used in SIC 19, since functional currency is the more of Recognized Gains and Losses commonly used term, although having essentially the same meaning as measurement currency. Preface

Chapter 4

- Cash Flow St at em ent

Chapter 5 entity—be - Financial it I nstr uments—Cash andaReceiv ables Each a stand-alone entity, parent of a group, or an operation within a group (such as Chapter a subsidiary, 6 - I nventor associate y or branch)—will be required to determine its functional currency and

measure itsenue results and financial position in that currency. The Chapter 7 - Rev Recogni tion, I ncluding Constr uction Contr act s proposed definition of functional currency is "the ,currency of Equipment the primary economic environment in which the entity operates." Some Chapter 8 - Property Plant , and of the in Asset SIC 19 Chapter 9 -guidance I ntangi ble s on how to determine a measurement currency will be incorporated into IAS 21. IGreater will be um given to Associat the currency of the economy nterests emphasis in Financial Instr ent s, es, Joint Ventur es, andthat determines the pricing of transactions thetycurrency in which transactions are denominated. Consequently, I nvestmthan ent Prtooper

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

An entity (whether a stand-alone entity or an operation within a group) would not have a free

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 choice of functional currency. Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt

An entity could not avoid restatement under IAS 29, for example, by adopting a stable currency (such as the functional currency of its parent) as its functional currency.

Chapter 14 - Leases

Chapter 15 - I ncom e Taxes Chapter The16provisions - Em ploy ee in Benefit IAS 21son distinguishing between foreign operations that are integral to the

operations ofholder the reporting Chapter 17 - Stock s' Equit yentity and foreign entities will be revised, to become part of the indicators of whatPer is Share an entity's functional currency. As a consequence, Chapter 18 - Earnings Chapter 19 - I nterim Financial Repor ting

There will be no distinction between integral foreign operations and foreign entities. Instead, an entity that was previously classified as an integral foreign operation will have the same Chapter 21 - Accounting Changes and Cor rection of Er ror s functional currency as the reporting entity. Chapter 20 - Segm ent Repor ting Chapter 22 - For eign Curr ency

Chapter 23 There - RelatedPartonly y Disclosures will be one translation method needed for foreign operations, the method Chapter 24 described - Specialized in IAS I ndustr 21 as iesapplying to foreign entities. Chapter 25 - I nflation and Hyperinflation

The language in IAS 21—which deals with the distinction between an integral foreign operation and a foreign entity and which specifies the translation method to be used for the Appendix A - Di sclosure Checklist former—will be deleted. Chapter 26 - Gov er nm ent Gr an ts

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Appendix - Com parison of I AS, US GAAP, and 21, UK permitting GAAP The Callowed alternative treatment in IAS the capitalization of exchange differences I ndex arising in severe devaluation circumstances would be eliminated, making all such gains or losses List ofrecognizable Tables in current earnings. List of Ex hibits and Ex am ples

amended IAS 21, goodwill and fair value adjustments to assets and liabilities that arise on List ofUnder Sidebar s

the acquisition of a foreign entity will be required to be treated as part of the assets and liabilities of the acquired entity and translated at the closing rate. A reporting entity (whether a group or a stand-alone entity) will be permitted to present its financial statements in the currency (or currencies) of its choice. An entity (whether a stand-alone entity, a parent of a group, or an operation within a group) will be required to translate its results and financial position from its functional currency into the

presentation currency (or currencies) using the same method as IAS 21 requires for translating a foreign operation for inclusion in the reporting entity's financial statements. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

ComparativeI amounts will have to be translated as follows: n t er n at ion al Accou n t in g St an d ar ds

ISBN:0471227366 by Barwhose r y J. Epstein and currency Abbas Ali is not the currency For an entity functional of a hyperinflationary economy

Mir za John Wi leyliabilities & Sons ©in2003 pages) Assets and the (952 comparative balance sheet will be translated at the closing This com pact and t ruly com pr quithe ck - refer rate at the date of that balance ehensive sheet (i.e., priorence year's comparatives are translated at pr esent s account ants with a guide to depend on for the prior year's closing rate). assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Income and expense items in the comparative income statement will be translated at

rates at the dates of the transactions (i.e., the prior year's comparatives will be T ab le of Con t en texchange s translated at the prior year's actual or averageAccount rate). ing Wiley I AS 20 03—Int er pretation and Application of I nternational Standar ds Preface Chapter 1 Chapter 2 Chapter 3 Chapter 4

For an entity whose functional currency is the currency of a hyperinflationary economy, and for which the comparative amounts are being translated into the currency of a - I ntr oduction to I nter national Accounting Standar ds hyperinflationary economy, all amounts (both balance sheet and income statement items) - Balance Sheet would be translated at the closing rate of the most recent balance sheet presented (i.e., the I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent prior year's comparatives, adjusted for subsequent changes in the price level, are of Recognized Gains and as Losses translated at the current year's closing rate). - Cash Flow St at em ent

Chapter 5 For - Financial uments—Cash Receiv an entityI nstr whose functional and currency isables the currency of a hyperinflationary economy, and Chapter 6 for - I nventor y which the comparative amounts are being translated into the currency of a Chapter 7 nonhyperinflationary - Rev enue Recogni tion, I ncluding uction s economy, all Constr amounts areContr thoseactpresented in the prior year financial Chapter 8 statements - Property , (i.e., Plant these , and Equipment are not adjusted for either subsequent changes in the price level or Chapter 9 subsequent - I ntangi ble changes Asset s in exchange rates). This translation method would apply both when translating I nterests the in Financial financial Instr statements um ent s,of Associat a foreign es, operation Joint Ventur fores, inclusion and in the financial Chapter 10 I nvestm ent ty operation for inclusion in the financial statements of the reporting statements of Pr a oper foreign Chapter 11 entity, - Business Combinations andthe Consolidat Fin ancial Statements and when translating financialedstatements of an entity into a different presentation Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he currency. Chapter 12 Balance Sheet Date

11 is toI nstr be withdrawn sinceTer the alternative for accounting for exchange Chapter 13 SIC - Financial uments—Longm allowed Debt Chapter 14 differences - Leases under conditions of severe devaluation would be deleted, and SIC 19 is to be

with its provisions folded into revised IAS 21. Chapter 15 withdrawn, - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s

Hedging a Net Investment in a Foreign Entity Or Specific Transactions Chapter 19 - I nterim Financial Repor ting Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

Chapter 20 - Segm ent Repor ting

Hedging a Net investment.

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 -21 For eign ency hedge accounting for foreign currency items other than classification of While IAS did notCurr address Chapter exchange 23 differences - Related- Part arising y Disclosures on a foreign currency liability accounted for as a hedge of a net

investment a foreign Ientity, Chapter 24 - in Specialized ndustrthe ies recent issuance of IAS 39 has established accounting requirements which largely paralleland those for cash flow hedges. (Cash flow hedging is discussed in Chapter 10.) Chapter 25 - I nflation Hyperinflation Specifically, IASer39 Chapter 26 - Gov nmstates ent Grthat an ts the portion of the gain or loss on the hedging instrument that is determined be an effective hedge is to be recognized directly in equity via the statement of changes Appendix A - to Di sclosure Checklist in equity,B whereas thee ineffective hedge is to beI AS either recognized immediately in results Appendix - I llustrativ Financial Stportion atem entofs the Pr esent ed Under of operations if the hedging instrument is a derivative instrument, or else reported directly in equity if the instrument is not a derivative.

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

List Tables Theofgain or loss associated with an effective hedge is reported similar to foreign currency translation List of or Ex loss, hibits as and am ples equity account. In fact, if the hedge is fully effective (which is rarely gain anExadditional List of Sidebar s achieved in practice, however) the hedging gain or loss will be equal in amount and opposite in sign to

the translation loss or gain. In the examples set forth earlier in this chapter (see page 824), which illustrated the accounting for a foreign (German) operation of a US company, the cumulative translation gain as of year-end 2002 was reported as $10.30. If the US entity had been able to enter into a hedging transaction that was perfectly effective (which would most likely have involved a series of currency forward contracts), the net loss position as of that date would have been $10.30. If this were reported in stockholders' equity, as required under IAS 39, it would have served to exactly offset the cumulative translation gain at that

point in time. It should be noted that under the translation methodology prescribed by IAS 21 the ability to precisely W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f hedge the net (accounting) investment in the German subsidiary would have been very remote, since I n t er n at ion al Accou n t in g St an d ar ds the cumulative translation gain or loss is determined 'by both the changes in exchange rates since the ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali common stock issuances of the subsidiary (which occurred at discrete points in time and thus could Mir za conceivably haveJohn beenWihedged), as©well the changes in the various periodic increments or ley & Sons 2003as (952 pages) decrements to retained earnings (which having occurred throughout the years of past operations, would This com pact and t ruly com pr ehensive qui ck - refer ence involve a complexprarray of exchange rates, making hedging difficult to achieve). As a practical esent s account ants with a guide to dependvery on for matter, hedging the net investment in a foreign subsidiary would of serve a very limited economic purpose assistance in the prepar at ion and under standing financial statements present in accordance I AS. at best. Such hedging is more often ed done to avoid thewith potentially embarrassing impact of changing exchange rates on the reported results of operations and financial position of the parent company, T ab le of Con t en t s which may be important to management, but rarely connotes real economic performance over a longer Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing time horizon. Standar ds Preface

Notwithstanding the foregoing comments, it is possible for a foreign currency transaction to act as an - I ntr oduction to I nter national Accounting Standar ds economic hedge against a parent's net investment in a foreign entity if

Chapter 1 Chapter 2

- Balance Sheet

Chapter 3

-

1. The transaction is designated as a hedge.

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

2. It is effective as a hedge.

Chapter 4

- Cash Flow St at em ent

Chapter 5 - Financial nstr uments—Cash anda Receiv To illustrate, assume Ithat a US parent has whollyables owned British subsidiary which has net assets of £2 Chapter nventor y can borrow £2 million to hedge its net investment in the British subsidiary. million.6The- IUS parent

Assume7 further that the British pound is theConstr functional Chapter - Rev enue Recogni tion, I ncluding uctioncurrency Contr actand s that the £2 million liability is denominated in pounds. Fluctuations in the exchange rate for pounds will have no net effect on the Chapter 8 - Property , Plant , and Equipment parent company's balance sheet because increases (decreases) in the translation Chapter 9 - I ntangiconsolidated ble Asset s adjustmentsI nterests balance in due to the translation net investment will be Financial Instr um entof s, the Associat es, Joint Ventur es,offset and by decreases (increases) in this balance due to adjustment of the liability denominated in pounds. I nvestm entthe Pr oper ty

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Hedging transactions. Curr ent Liabilit ies,

Chapter 12 -

Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

It may be important for managers to hedge specific foreign currency denominated transactions, Chapter 13 more - Financial I nstr uments—LongTer m Debt such as14merchandise sales or purchases which involve exposure for the time horizon over which the Chapter - Leases

foreign currency denominated receivable or payable remains outstanding. For example, consider the illustration set forth earlier in this chapter (see page 755), which discussed the sale of merchandise by Chapter 16 - Em ploy ee Benefit s a US entity to a German customer, denominated in deutschmarks, with the receivable being due some Chapter 17 - Stock holder s' Equit y time after the sale. During the period the receivable remains pending, the creditor is at risk for currency Chapter 18 - Earnings Per Share exchange rate changes that might occur, leading to exchange rate gains or losses, depending on the Chapter 19 - I nterim Financial Repor ting direction the rates move. The following discussion sets forth the possible approach that could have Chapter 20 - (and Segmthe ent accounting Repor ting therefore) to reduce or eliminate this risk. been taken Chapter 15 - I ncom e Taxes

Chapter 21 - Accounting Changes and Cor rection of Er ror s

In the example, the US could have entered into a forward exchange contract on December 1, Chapter 22 - For eign Currcompany ency 2002, to23sell 10,000 Part DMyfor a negotiated amount to a foreign exchange broker for future delivery on Chapter - RelatedDisclosures January2431, 2003. SuchI ndustr a forward Chapter - Specialized ies contract would be a hedge against the exposed asset position created25 by-having anand account receivable denominated in DM. The negotiated rate referred to above is Chapter I nflation Hyperinflation called a26futures ornm forward Chapter - Gov er ent Grrate. an ts This instrument would qualify as a derivative under IAS 39. Appendix A - Di sclosure Checklist

In most cases, this futures rate is not identical to the spot rate at the date of the forward contract. The

Appendix B -between I llustrativ e Financial St atem Pr esent edat Under I AS of the forward contract is referred to as difference the futures rate andent thes spot rate the date Appendix C Com parison of I AS, US GAAP, and UK GAAP a discount or premium. Any discount or premium must be amortized over the term of the forward I ndex contract, generally on a straight-line basis. The amortization of discount or premium is reflected in a List of Tables separate revenue or expense account, not as an addition or subtraction to the foreign currency List of Ex hibits andorExloss am ples transaction gain amount. It is important to observe that under this treatment, no net foreign currency transaction gains or losses result if assets and liabilities denominated in foreign currency are List of Sidebar s

completely hedged at the transaction date. To illustrate a hedge of an exposed asset, consider the following additional information for the German transaction. On December 1, 2002, the US company entered into a forward exchange contract to sell 10,000 DM on January 31, 2003, at $0.505 per DM. The spot rate on December 1 is $0.50 per DM. The journal entries that reflect the sale of goods and the forward exchange contract appear as follows:

Forward exchange contract entries W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat iorate n o f 1 DM = (futures I n t er n at ion al Accou n t in g St an d ar ds Sale transaction entries $0.505) ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

12/1/02 (spot rate 1 DM = Due from exchange This com pact and t ruly com pr ehensive qui ck - refer ence $0.50) brokeron for pr esent s account ants with a guide to depend

5,050

at ion and under standing of financial Accounts assistance in the prepar 5,000 statements present ed in accordance with I AS. Due to exchange receivable—Germany broker T ab le of Con t en t s

5,000

5,000

50

Sales er pretation and Application of I nternational Account Premium Wiley I AS 20 03—Int ing on Standar ds forward contract Preface

12/31/02 (spot rate 1 DM = Foreign currency - I ntr oduction to I nter national Accounting Standar ds $0.52) transaction loss

Chapter 1 Chapter 2

200

- Balance Sheet

Accounts 200of Chan ges in Equit y,Due I ncom e Statement, Stat em ent and to Statem ent exchange Chapter 3 receivable—Germany of Recognized Gains and Losses broker Chapter 4

- Cash Flow St at em ent

Chapter 5

Premium on forward Foreign currency - Financial I nstr uments—Cash and Receiv ables

Chapter 6

- Itransaction nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s 200

Chapter 8

gain - Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

200 25

contract

25

Financial revenue ($25 = $50/2 months)

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

1/31/03I nvestm (spot rate 1 oper DM =ty ent Pr Chapter$0.51) 11 - Business Combinations and Consolidat ed Fin ancial Statements

Curr ent Liabilit ies, Prov isions, Cont ingencies,Due and to Ev exchange ents after tbroker he 5,100 ChapterForeign 12 - currency Balance Sheet Date

currency transaction ChapterForeign 13 - Financial I nstr uments—Long-100 Ter m Debt Chapterloss 14 - Leases Chapter 15 - I ncom e Taxes

Accounts receivable—Germany

5,200

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

Foreign currency

5,100

Foreign currency transaction gain

100

Cash

Chapter 19 - I nterim Financial Repor ting

5,050

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 23 - Related- Part y Disclosures

5,050

Due from exchange broker

Chapter 20 - Segm ent Repor ting Chapter 22 - For eign Curr ency

5,200

Premium on forward contract

Chapter 24 - Specialized I ndustr ies

Financial revenue

25 25

Chapter 25 - I nflation and Hyperinflation Chapter The following 26 - Gov points er nmshould ent Gr an betsnoted from the entries above: Appendix A - net Di sclosure 1. The foreign Checklist currency transaction gain or loss is zero. The account "Due from exchange Appendixbroker" B - I llustrativ Financial atem ent s Prand esent ed amount Under I AS is fixede in terms ofStUS dollars, this is not affected by changes in spot rates Appendixbetween C - Comthe parison of I AS, US and UK GAAPThe account "Due to exchange broker" is fixed or transaction andGAAP, settlement dates. I ndex denominated in DM. The US company owes the exchange broker 10,000 DM, and these must List of Tables be delivered on January 31, 2003. Because this liability is denominated in DM, its amount is

by List of Exdetermined hibits and Ex amspot plesrates. Since spot rates change, this liability changes in amount equal to the changes List of Sidebar s in accounts receivable because both of the amounts are based on the same spot rates. These changes are reflected as foreign currency transaction gains and losses which net out to zero. 2. The premium on forward contract is fixed in terms of US dollars. This amount is amortized to a financial revenue account over the life of the forward contract on a straightline basis. 3. The net effect of this transaction is that $5,050 was received on January 31, 2003, for a sale originally recorded at $5,000. The $50 difference was taken into income via amortization.

Interpretations on Currency Transactions As Derivatives W ile y I AS 2 0 03 : IGuidance n t erp re t at ion an d Ap p licat io naddressed of The IASC's IAS 39 Implementation Committee (IGC) has a few issues that pertain I n t er n at ion al Accou n t in g St an d ar ds to translation of financial statements and foreign currency transactions. It has considered whether a ISBN:0471227366 by requires Bar r y J. Epstein and Abbas Ali currency swap that an exchange of different currencies of equal fair values at inception is a Mir za derivative, and has ruled that indeed it is. The IGC finds that the definition of a derivative instrument John Wi ley & Sons © 2003 (952 pages) includes such currency swaps because the initial exchange of currencies of equal fair values does not com pact and t ruly com pr ehensive qui ck - refer ence result in an initial This net investment in the contract, but instead, is an exchange of one form of cash for pr esent s account ants with a guide to depend on for another form of cash of equal value. Such a contract has underlying variables (the foreign exchange assistance in the prepar at ion and under standing of financial rates) and will bestatements settled at apresent future ed date. Thus, the criteria for being defined as a derivative financial in accordance with I AS. instrument are all met.

T ab le of Con t en t s

Wiley I AS 20 03—Int pretation similar and Application of I nternational Accounthow ing such a swap works. Assume The IGC offers an er illustration to the following to demonstrate Standar ds Corp. and Basic GmbH enter into a five-year fixed-for-fixed currency swap on euros and US that Axis Preface dollars. The current spot exchange rate is 1 euro per dollar. The five-year interest rate in the United Chapter - I ntr oduction to I nter Accounting Standar ds countries is 6%. At the initiation of the States 1is presently 8%, while thenational five-year interest rate in euro Chapter 2 - pays Balance Sheet euros to Basic, which in return pays $20 million to Axis. During the life of the swap, Axis 20 million swap, Axis and I ncom Basic e Statement, make periodic Stat em interest ent of Chan payments ges into Equit each y, other and Statem gross ent (i.e., without netting). Basic Chapter 3 Recognized Gains andeuros Losses pays 6% perofyear on the 20 million it has received (1.2 million euros per year), while Axis pays Chapter - Cash Flow at em ent 8% per4year on the 20 St million dollars it has received ($1.6 million per year). At the termination of the Chapter 5 two - Financial uments—Cash and Receivprincipal ables swap, the partiesI nstr again exchange the original amounts. Chapter 6

- I nventor y The IGC also noted that tion, certain foreignConstr currency denominated Chapter 7 has - Rev enue Recogni I ncluding uction Contr act s transactions can involve embedded

derivative instruments. It illustrates this concept with an example of a supply contract that provides for - Property , Plant , and Equipment payment in a currency other than (1) the currency of the primary economic environment of either party Chapter 9 - I ntangi ble Asset s to the contract and (2) the currency in which the product is routinely priced in international commerce. I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 This arrangement contains an tyimplicit embedded derivative that should be separated under IAS 39. I nvestm ent Pr oper Chapter 8

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

In the IGC's example, a Norwegian company agrees to sell oil to a company in France. The oil contract

Currin entSwiss Liabilit ies, Prov isions, Cont ingencies, and Ev ents denominated after t he is denominated francs, although oil contracts are routinely in US dollars in Chapter 12 Balance Sheet Date

international commerce. Importantly, neither company carries out any significant activities in Swiss francs. In this case, the Norwegian company regards the supply contract as a host contract with an Chapter 14 - Leases embedded foreign currency forward to purchase Swiss francs. The French company regards the supply Chapter Taxes with an embedded foreign currency forward to sell Swiss francs. Each contract15as- aI ncom host econtract Chapter 16 Em ploy ee s company includes fair Benefit value changes on the currency forward in net profit or loss unless the reporting Chapter 17 -designates Stock holder y enterprise its'asEquit a cash flow hedging instrument, if doing so would be appropriate under the Chapter 18 - Earnings Per Share circumstances. Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

Interpretations on Reporting Currency

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter - For eignCurrency—Measurement Curr ency SIC 19,22 Reporting and Presentation of Financial Statements under IAS 21 Chapter - RelatedDisclosures and IAS2329, effectivePart in y2001, addressed the importance of selecting a reporting currency which Chapter provides 24useful - Specialized information I ndustr about ies the reporting entity, reflecting the substance of underlying economic

events 25 and- other circumstances relevant to that entity. In other words, a reporting currency cannot be Chapter I nflation and Hyperinflation selected it provides Chapter 26because - Gov er nm ent Gr an an ts opportunity for the reporting entity to conceal or obfuscate important economic that would otherwise be communicated to users of the financial statements. SIC 19 Appendix A effects - Di sclosure Checklist providesBthat all currencies otherStthan for ed primary reporting purposes are to be Appendix - I llustrativ e Financial atemthat ent sused Pr esent Under financial I AS

treated as currencies in US theGAAP, measurement of items in its financial statements, and in performing Appendix C -foreign Com parison of I AS, and UK GAAP

translation of the financial statements. Furthermore, a reporting entity does not have an arbitrary choice to avoid restatement under the provisions of IAS 29 (see Chapter 25) of financial statements which are List of Tables measured in the currency of an economy which meets the threshold test for hyperinflation under that List of Ex hibits and Ex am ples standard. I ndex

List of Sidebar s

SIC 19 provides an example of a Russian entity which reports in Russian rubles and also applies IAS 29 during a period in which the Russian economy is suffering from hyperinflation. The entity is not, however, precluded from also reporting in a foreign currency, such as German marks, for the convenience of users of the financial statements. SIC 30, Reporting Currency—Translation from Measurement Currency to Presentation Currency , which interprets IAS 21 and IAS 29, addresses the issue of how an enterprise should translate its financial statements from a currency used for measuring items in its financial statements (measurement

currency) into another currency for presentation purposes (presentation currency). SIC 30 builds upon the foundation established by SIC 19, by explaining the mechanism of translation of financial statements from aW"measurement "reporting currency." the guidance offered by ile y I AS 2 0 03 :currency" I n t erp reto t ataion an d Ap p licat io n oThus, f SIC 30 should beI applied in conjunction with that of SIC 19. It should be noted that SIC 19 requires that n t er n at ion al Accou n t in g St an d ar ds the translation method used should not lead to reporting in a manner that is inconsistent with the ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali measurement of items Mir za in the financial statements. John Wi ley & Sons © 2003 (952 pages)

SIC 30 elaboratesThis on com the pact mechanism of restatement of financial statements from "measurement and t ruly com pr ehensive qui ck - refer ence currency" to "presentation currency" and explains the requirements of SIC 19 should be applied as pr esent s account ants with a guidehow to depend on for follows: assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

1. Assets and liabilities for all balance sheets presented (including comparatives) should be T ab le of translated Con t en t s at the closing rate at the date of each balance sheet presented, except when an enterprise's measurement is of theI nternational currency of Account a hyperinflationary economy, in which Wiley I AS 20 03—Int er pretation and currency Application ing Standar ds case assets and liabilities for all balance sheets presented (including comparatives) should be Preface translated at the closing rate existing at the date of the most recent balance sheet presented; Chapter and 1 - I ntr oduction to I nter national Accounting Standar ds Chapter 2

- Balance Sheet

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

2. Income and expense items for all periods presented (including comparatives) should be I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter translated 3 at the exchange rates existing at the dates of the transactions or at a rate that of Recognized Gains and Losses approximates the actual exchange rates, except when an enterprise's measurement currency is Chapter 4 - Cash Flow St at em ent the currency of a hyperinflationary economy, in which case income and expense items for all Chapter 5 - Financial I nstr uments—Cash and Receiv ables periods presented (including comparatives) should be translated at the closing rate existing at Chapter 6 - I nventor y the end of the most recent period presented. Chapter 8 - Property Plant than , and the Equipment 3. Equity items, ,other net profit or loss for the period, that are included in the balance of Chapter accumulated 9 - I ntangi ble Asset s profit or loss should be translated at the closing rate existing at the date of each I nterests Financial Instr um when ent s, Associat es, measurement Joint Ventur es,currency and sheet inpresented, except an entity's is the currency of a Chapter balance 10 I nvestm ent Pr oper ty in which case equity items for all balance sheets presented hyperinflationary economy, Chapter (including 11 - Business Combinations and Consolidat ed Fin Statements comparatives) should be translated at ancial closing rate existing at date of the most recent Currsheet; ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he balance and Chapter 12 Balance Sheet Date Chapter 4. All 13 resulting - Financial exchange I nstr uments—LongdifferencesTer should m Debt be reported directly in equity. Chapter 14 - Leases

SIC 30 also addresses convenience translations. These are presentations of additional information not required by IAS, displayed in a currency other than the currency used in presenting financial Chapter 16 - Em ploy ee Benefit s statements, as a convenience to certain users. SIC 30 requires that in such circumstance an enterprise Chapter 17 - Stock holder s' Equit y should Chapter 15 - I ncom e Taxes

Chapter 18 - Earnings Per Share

1. Clearly identify the information Chapter 19 - I nterim Financial Repor tingas supplementary information to distinguish it from the information required by IAS; and

Chapter 20 - Segm ent Repor ting

Chapter 21 - Accounting Changes and Cor rection s for presenting the information. 2. Disclose the method of translation used of asEr a ror basis Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Chapter 23: Related-Party Disclosures I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

za PerspectiveMirand Issues

John Wi ley & Sons © 2003 (952 pages)

Transactions between This com enterprises pact and that t rulyare comconsidered pr ehensive "related qui ck - refer parties" ence (as defined by IAS) must be pr esent s accountstatements ants with a of guide depend entity. on for Such disclosures are commonly adequately disclosed in financial the to reporting assistance in the prepar at ion and under standing of financial required, and most accounting standard-setting bodies around the world have created similar statements present ed in accordance with I AS. mandates. The rationale for compelling these disclosures is based upon the concern that enterprises T ab which le of are Conrelated t en t s to each other, either by virtue of their ability to "control" or exercise "significant influence" aserdefined) have leverage in the setting of prices Wiley I AS 20(both 03—Int pretationusually and Application of I nternational Account ing to be charged. If these were Standar simply ds mingled with transactions with normal arm's-length customers or vendors, the users of the Preface financial statements would be impeded in their ability to project future earnings and cash flow for the Chapter entity. Thus, 1 - I ntr in order oduction to ensure to I ntertransparency national Accounting a reporting Standar enterprise ds is required to disclose the nature, type, and of its transactions with related parties. Chapter 2 components - Balance Sheet I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter IAS 24 3addresses the related-party and prescribes extensive disclosures. This standard became of Recognized Gains andissue Losses

effective and apart from Chapter 4 in- 1986, Cash Flow St at em ent a reformatting in 1994, no substantive changes or revisions have

been made it. However, the IASB has,and as Receiv part ofables its Improvements Project, proposed a number of Chapter 5 - to Financial I nstr uments—Cash

changes to- the standard, which if adopted will be published as amended IAS 24 in 2003. (The proposed I nventor y changes are set forth at the conclusion of this chapter.)

Chapter 6 Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8 IAS - Property , Plant , and Equipment Although 24 recognizes states "related-party relationships are a normal feature of commerce and Chapter 9 I ntangi ble Asset s business," it nevertheless recognizes that a related-party relationship could have an effect on the I nterests Financialresults Instr um Associat es, Jointdue Ventur es, possibility and financial and inoperating ofent thes, reporting entity, to the that transactions Chapter 10position I nvestm ent Pr oper ty withrelated parties may not be effected at the same amounts as are those between unrelated parties. Chapter - Business Combinations andofConsolidat ed Fin ancial Statements For that11reason, extensive disclosure such transactions is deemed necessary to convey a full picture Curr ent Liabilit ies, Provof isions, Cont ingencies, and Ev ents after t he of the entity's position and results operations. Chapter 12 Balance Sheet Date Chapter 13 -24 Financial I nstr uments—Longm Debt While IAS has been operative for wellTer over a decade now, one notices that related-party Chapter 14 - Leases transactions are still not being disclosed properly in all instances. This is probably due to the perceived

sensitive ofesuch disclosures. As a consequence, even when footnotes to financial statements Chapter 15nature - I ncom Taxes that are16captioned transactions," are presented, it is often fairly evident that the full gamut Chapter - Em ploy"related-party ee Benefit s of disclosures as holder required by IAS Chapter 17 - Stock s' Equit y 24 are not included. There seems to be a particular resistance to reporting types ofShare related-party transactions, such as loans to directors, key management Chapter 18 certain - Earnings Per personnel, close members of theting executives' families. Chapter 19 - or I nterim Financial Repor Chapter 20 - Segm ent Repor ting

IAS 1 demands that there be full compliance with all IAS as a prerequisite to making a claim that

Chapter 21statements - Accounting Changes and Cor rection of Er ror swith IAS. This requirement extends to the financial have been prepared in conformity Chapter 22 For eign Curr ency disclosures to be made as well. As a practical matter, it becomes incumbent upon the auditors to Chapter 23 whether - RelatedPart y Disclosures ascertain disclosures, including related-party disclosures, comply with IAS when the financial Chapter 24 - represent Specializedsuch. I ndustr ies statements Chapter 25 - I nflation and Hyperinflation

Related-party disclosures prescribed by most accounting standards around the globe, including US Chapter 26 - Gov er nm ent Grare an ts GAAP and GAAP. Checklist The US GAAP counterpart of IAS 24 is SFAS 57, which was issued in 1982. On Appendix A - UK Di sclosure

the other hand, the UK standard, FRS 8, is a comparatively recent offering on the subject, having been issued in 1995. There are some significant differences between both the US and UK standards and IAS Appendix C - Com parison of I AS, US GAAP, and UK GAAP 24; however, in general, these three standards could be considered similar to each other. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS I ndex

List of Tables

Sources of IAS

List of Ex hibits and Ex am ples List of Sidebar s

IAS 1, 5, 8, 24, 27, 28, 30

ile yTerms I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f DefinitionsWof I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za Close members of the family of an individual

John Wi ley & Sons © 2003 (952 pages)

For the purpose of IAS 24, close members of the family of an individual are defined as This com pact and t ruly com pr ehensive qui ck - refer ence "those that may beants expected influence, or beoninfluenced by, that person in their pr esent s account with a to guide to depend for dealings withinthe assistance theenterprise." prepar at ion and under standing of financial statements present ed in accordance with I AS.

Control T ab le of Con t en t s

An enterprise is considered to have the ability to control another enterprise if either of

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing the two conditions is met: (1) it owns, directly or indirectly, through subsidiaries, more Standar ds

than one-half of the voting power of the other enterprise; or (2) it owns a substantial interest in the voting power along with the power to direct, by statute or agreement, Chapter 1 - I ntr oduction to I nter national Accounting Standar ds the financial and operating policies of the management of that other enterprise. Preface

Chapter 2

- Balance Sheet

I ncom e Statement, Key 3management personnelStat em ent of Chan ges in Equit y, and Statem ent Chapter of Recognized Gains and Losses

For the purpose of IAS 24, key management personnel are defined as ''those persons having authority and responsibility for planning, directing, and controlling the activities Chapter 5 - Financial I nstr uments—Cash and Receiv ables of the reporting enterprise, including directors and officers of companies and close Chapter 6 - I nventor y members of the families of such individuals." Chapter 4

- Cash Flow St at em ent

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8 - party Property , Plant , and Equipment Related Chapter 9

- I ntangi ble Asset s

Chapter 10 -

Entities are considered to be related parties when one of them either has the ability to

I nterests Financial Instr umexercise ent s, Associat es, Joint Ventur es, controlinthe other, or can significant influence overand the other in making I nvestm ent Pr oper ty

financial and operating decisions.

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Related-party transactions Chapter 12 Balance Sheet Date

Related-party transactions are dealings between related parties involving transfer of resources or obligations between them, regardless of whether a price is charged for Chapter 14 - Leases the transactions. Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 15 - I ncom e Taxes

Chapter 16 - Eminfluence ploy ee Benefit s Significant Chapter 17 - Stock holder s' Equit y

For the purposes of this standard, an enterprise is considered to possess the ability to

Chapter 18 - Earnings Per significant Share exercise influence over another enterprise if it participates in, as opposed Chapter 19 - I nterim Financial ting and operating policy decisions of that other enterprise. to controls, theRepor financial Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS and 2 0 03 : Examples I n t erp re t at ion an d Ap p licat io n o f Concepts, Rules, I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

The Need for Mir zaRelated-Party Disclosures

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages)

For strategic reasons, enterprises sometimes carry out certain aspects of their business activity through This com pact and t ruly com pr ehensive qui ck - refer ence associates or subsidiaries. For example, in aorder that has a guaranteed supply of raw pr esent s account ants with guidetotoensure depend on itfor materials, an enterprise mayindecide to purchase majorstanding portion of of financial its requirements (of raw materials) assistance the prepar at ion andaunder statements with I AS. A variant of this phenomenon could be through a subsidiary. This is present referrededtoinasaccordance vertical integration. the following: an enterprise whose subsidiaries are in diverse businesses that are quite dissimilar to the T ab le of Con t en t s business of the parent may decide to make a substantial trade investment in the business of its major Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing supplier. Standar ds In this way, it could control or exercise significant influence over the financial and operating decisions of its major supplier (the investee). Such related-party relationships and transactions are a Preface normal feature of commerce and business. Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Chapter 2 - Balance Sheet could have an impact on the financial position and operating results of the A related-party relationship I ncom e Statement, Chan ges in Equit y, and Statem ent reporting because of Stat anyem of ent the of following reasons: Chapter 3 enterprise of Recognized Gains and Losses

1. Related parties may enter Chapter 4 - Cash Flow St at em ent into certain transactions with each other which unrelated parties may not -normally want to enter into. Financial I nstr uments—Cash and Receiv ables

Chapter 5

Chapter 6 - I nventor y 2. Amounts charged for transactions between related parties may not be comparable to amounts Chapter charged 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s for similar transactions between unrelated parties. Chapter 8

- Property , Plant , and Equipment 3. The existence Chapter 9 - mere I ntangi ble Asset of s the relationship may sometimes be sufficient to affect the dealings of the

reporting enterprise with other (unrelated) parties. enterprise may stop I nterests in Financial Instr um ent s, Associat es, (For Joint instance, Ventur es,an and purchasing I nvestm from ent Pr itsoper major ty supplier on acquiring a subsidiary which is a competitor of its major supplier.) and Consolidat ed Fin ancial Statements Chapter [erstwhile] 11 - Business Combinations Chapter 10 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 4. Transactions between enterprises would not have taken place if the related-party relationship Balance Sheet Date

existed. For example, a company sells its entire output to an associate at cost. It would Chapter had 13 - not Financial I nstr uments—LongTer m Debt survived but for these related-party sales to the associate, since it does not have any Chapter not 14 -have Leases

takers for the kind of goods it deals in. In other words, the only reason it remains in business is because it is able to sell its total output to an associate that is committed to purchase its total Chapter 16 - Em ploy ee Benefit s production. Chapter 15 - I ncom e Taxes

Chapter 17 - Stock holder s' Equit y

Chapter 18of- peculiarities Earnings Per such Shareas the above that distinguish related-party transactions from transactions Because Chapter 19 - I nterim Financial Reporstandards ting with unrelated parties, accounting (including IAS) have almost universally mandated financial Chapter 20 -disclosure Segm ent Repor ting statement of such transactions. Disclosures of related-party transactions in financial statements, in a way, isChanges a meansand of conveying to users of financial statements that certain Chapter 21 - Accounting Cor rection aofmessage Er ror s

related-party relationships exist as of the date of the financial statements, or certain transactions were Chapter 22 - For eign Curr ency consummated with related parties during the period which the financial statements cover, and the Chapter 23 - RelatedPart y Disclosures results 24 of these related-party transactions have been incorporated in the financial statements being Chapter - Specialized I ndustr ies presented. related-party transactions could have an effect on the financial position and operating Chapter 25 - Since I nflation and Hyperinflation results 26 of the reporting disclosure of such transactions would be prudent based on the Chapter - Gov er nm ententerprise, Gr an ts

much-acclaimed principle of transparency (in financial statements). In this way, the users of financial statements could make informed decisions while using the information presented to them in the Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS financial statements. Appendix A - Di sclosure Checklist

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Scope of the Standard

List of Tables

List of Ex hibits and Ex am ples

IAS 24 is to be applied in dealing with related parties and transactions between a reporting enterprise and its related parties. The requirements of this standard apply to the financial statements of each reporting enterprise.

List of Sidebar s

Applicability The requirements of the standard should be applied only to the related-party relationships described in IAS 24, paragraph 3, which are summarized below. a. Enterprises that control (directly or indirectly through intermediaries) or are controlled by, or are

a. under common control with the reporting enterprise. Examples: parent company, subsidiaries, and fellow subsidiaries; W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

b. Associates, as defined in IAS 28; I n t er n at ion al Accou n t in g St an d ar ds

ISBN:0471227366 Bar r y J.directly Epsteinorand Abbas Ali c. Individualsbyowning, indirectly, an interest in the voting power of the reporting Mir za enterprise that gives them significant influence over the enterprise, and close members of the John Wi ley & Sons © 2003 (952 pages) family of any such individual;

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent spersonnel account ants with a guide to depend for d. Key management and close members of theonfamilies of such individuals; and assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

e. Enterprises in which a substantial interest in the voting power is owned, directly or indirectly, by T ab le of any Con person t en t s described in c. or d. above, or over which such a person is able to exercise

significant enterprises owned Account by Wiley I AS 20 03—Intinfluence. er pretationThis andincludes Application of I nternational ing Standar ds Directors of the reporting enterprise;

Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Major shareholders of the reporting enterprise; and

IEnterprises ncom e Statement, that have Stataem member ent of Chan of key ges management in Equit y, and in Statem common entwith the reporting of Recognized Gains and Losses enterprise.

Chapter 5

- Financial I nstr uments—Cash and Receiv ables Substance over Form - I nventor y

Chapter 6

Chapter 7 - Rev enue Recogni I ncluding Constr uction Contr act The standard clarifies that in tion, applying the deeming provisions of sIAS 24 to each possible related-party Chapter 8 Property , Plant , and Equipment relationship, consideration should be given to the substance of the relationship and not merely the legal Chapter form. 9

- I ntangi ble Asset s

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Exclusions

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent6,Liabilit isions,the Cont ingencies, Evrelated ents after t he for the purposes of the IAS 24,12 paragraph doesies, not Prov consider following as and being parties Chapter Balance Sheet Date

standard. In other words, the standard specifically excludes the following:

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

1. Two having only a common director, notwithstanding the specific requirements of Chapter 14 - companies Leases

IAS 24, paragraphs 3(d) and 3(e) summarized above. However, if the common director is in fact able to affect the policies of both companies in their mutual dealing, then such a possibility has Chapter 16 - Em ploy ee Benefit s to be evaluated on its own merits. Chapter 15 - I ncom e Taxes

Chapter 17 - Stock holder s' Equit y

Chapter 18 - Earnings Per Share agencies, entities, or departments which have a major role to play in the enterprises day2. Certain Chapter to-day 19 - I nterim Financial Repor ting business. For example Chapter 20 - Segm ent Repor ting

a. Providers of finance (banks and creditors)

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 b. - For Trade eign Curr unions ency Chapter 23 - Related- Part y Disclosures

c. Public utilities

Chapter 24 - Specialized I ndustr ies Chapter 25 d. - I nflation and Hyperinflation Government departments and agencies Chapter 26 - Gov er nm ent Gr an ts

3. Entities upon which the enterprise may be economically dependent, due to the volume of Appendix A - Di sclosure Checklist the enterprise with ForUnder example Appendixbusiness B - I llustrativ e Financialtransacts St atem ent s Prthem. esent ed I AS Appendix C a. - Com parisoncustomer; of I AS, US GAAP, and UK GAAP A single I ndex

b. A major supplier; List of Tables List of Ex hibits and Ex am ples

c. A franchisor;

List of Sidebar s

d. A distributor; or e. A general agent.

Exemptions IAS 24, paragraph 4, exempts disclosure of related-party transactions in the following cases: 1.

1. In consolidated financial statements, in respect of intragroup transactions; 2. In parent company's financial statements, when they are published or made available, say, by W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f being attached to the consolidated financial statements; I n t er n at ion al Accou n t in g St an d ar ds Bar r y J. Epstein and owned Abbas Ali 3. In financialbystatements of wholly subsidiary, if its ISBN:0471227366 parent, which is incorporated in the Mir za same country, provides consolidated financial statements in that country; and John Wi ley & Sons © 2003 (952 pages)

com pact of and t ruly com pr ehensive qui ck - refer 4. In financialThis statements state-controlled enterprises, with ence respect to transactions with other pr esent s account ants with a guide to depend on for state-controlled enterprises. assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

The standard does not require that any indication be given in the financial statements that transactions occurred that T ab le of Con t enfell t s within these exemptions. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Significant Influence

Preface

Chapter 1 - I ntrof oduction to Ito nter nationalsignificant Accountinginfluence Standar ds The existence the ability exercise is an important concept in relation to this Chapter 2 Balance Sheet standard. It is one of the two criteria mentioned in the definition of a related party, which when present

would, for the purposes of this standard, one party related to another. In other words, for the I ncom e Statement, Stat em entmake of Chan ges in Equit y, and Statem ent Recognized Losses purposes of of this standard, Gains if oneand party is considered to have the ability to exercise significant influence Chapter 4 - Cash St at emofent over another, thenFlow by virtue this requirement of the standard, the two parties are considered to be Chapter related.5 - Financial I nstr uments—Cash and Receiv ables Chapter 3

Chapter 6

- I nventor y The existence the Recogni ability totion, exercise significant influence may Chapter 7 - Revof enue I ncluding Constr uction Contr act sbe evidenced in one or more of the

following ways: - Property , Plant , and Equipment 1. By onsthe board of directors of the other enterprise; Chapter 9 representation - I ntangi ble Asset Chapter 8

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 participation 2. By process of the other enterprise; I nvestm ent in Prthe operpolicy-making ty Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

3. By having material intercompany transactions between two enterprises;

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Balance Sheet Date 4. By interchange of managerial personnel between two enterprises; or

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

5. By on another enterprise for technical information. Chapter 14 dependence - Leases Chapter 15 - I ncom e Taxes

Significant influence may be gained through agreement or statute or share ownership. Under the provisions of IAS 24, similar to the presumption of significant influence under IAS 28, an enterprise is Chapter 17 - Stock holder s' Equit y deemed to possess the ability to exercise significant influence if it directly or indirectly through Chapter 18 - Earnings Per Share subsidiaries holds 20% or more of the voting power of another enterprise (unless it can be clearly Chapter 19 - I nterim Financial Repor ting demonstrated that despite holding such voting power the investor does not have the ability to exercise Chapter 20 -influence Segm entover Repor ting significant the investee). Conversely, if an enterprise, directly or indirectly through Chapter 21 Accounting Changes and of Er rorof s another enterprise, it is presumed that the subsidiaries, owns less than 20% of Cor the rection voting power Chapter - Fornot eign Curr ency investor22does possess the ability to exercise significant influence (unless it can be clearly Chapter 23 - RelatedPart y Disclosures demonstrated that the investor does have such an ability despite holding less than 20% of the voting Chapter - Specialized I ndustr ies the concept of significant influence, IAS 28 also clarifies that "a power).24 Further, while explaining Chapter substantial 25 - or I nflation majority and ownership Hyperinflation by another investor does not necessarily preclude an investor from having 26 significant influence" added). Chapter - Gov er nm ent Gr an(emphasis ts Chapter 16 - Em ploy ee Benefit s

Appendix A - Di sclosure Checklist

In the authors' opinion, by defining the term "related party" to include the concepts of control and significant influence, and by further broadening the definition to cover not just direct related-party Appendix C - Com parison of I AS, US GAAP, and UK GAAP relationships, but even indirect ones like those with "close members of the family of an individual," the I ndex IASC has cast a wide net to cover related-party transactions which would normally not be considered List of Tables otherwise. This makes disclosures under this standard subjective, and the related-party issue itself a List of Ex hibits and Ex am since ples it lends itself to aggressive interpretations by the reporting enterprise. This more contentious one, List of Sidebar s have a significant bearing on the related-party disclosures emanating from these obviously could interpretations. On the one hand, based on a strict interpretation of the provisions of the standard, certain hitherto unreported related-party transactions may now have to be disclosed, but on the other hand, reporting enterprises may not do so, based on an aggressive stand taken by them. However, in taking such an aggressive stance, the reporting enterprises are well advised to get ready with good strong reasoning to support any nondisclosure of related-party transactions, lest they cross the thin line of not fully complying with IAS under the revised IAS 1, which may have serious repercussions in terms of financial statement reporting under IAS. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Methods of Pricing Related-Party Transactions W ile y I AS 2 0 03 : business I n t erp re tentities at ion an Ap p licat io n o f recognition based on the The transfer of resources between isdgiven accounting t er n at ion al between Accou n t in g St an d ar ds prices charged in unrelated-party transactions prices charged forI ntransactions them. Normally, ISBN:0471227366 by Bar r However, y J. Epsteina and Abbas Ali may have some are arm's-length prices. related party degree of flexibility in setting prices Mir za for related-party transactions by virtue of either the existence of control or the ability to exercise John Wi ley & Sons © 2003 (952 pages) significant influence over the other party. This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide on for in a variety of ways. The following Pricing of transactions between related parties can to bedepend accomplished assistance in the prepar at ion and under standing of financial methods are some of the ways that related-party transactions may be priced: statements present ed in accordance with I AS.

1. Comparable uncontrolled price method T ab le of Con t en t s Wiley I AS When 20 03—Int merchandise er pretation supplied and Application in a related-party of I nternational transaction Account anding the conditions relating thereto are Standar ds similar to normal trading conditions, this method is used. Under this method, prices are set by Preface reference to similar (comparable) goods sold in an economically similar (comparable) market to Chapter a 1 buyer - I ntrunrelated oduction to nterseller. national Accounting Standar ds to Ithe Chapter 2

- Balance Sheet

2. Resale price method I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of Recognized Gains and Losses

When the sale of the merchandise is routed through a related party, or the goods are first - Cash Flow St at em ent transferred to a related party before their actual sale to an independent third party, this method 5 - Financial I nstr uments—Cash and Receiv ables is often used. Under the resale price method, the "resale price" to be charged by the ultimate 6 - I nventor y seller, in this case the intermediary related party, is reduced by a margin in order to arrive at a 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s transfer price to be charged to the intermediary related party, the reseller. The margin 8 - Property Plant , and Equipment represents an, amount from which the reseller would seek to cover his costs and make an 9 I ntangi ble Asset s appropriate profit.

Chapter 4 Chapter Chapter Chapter Chapter Chapter

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

I nvestm ent Pr oper ty 3. Cost-plus method

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

WhenCurr theent parties intend to add a certain markup to the thet merchandise, this method is Liabilit ies, Prov isions, Cont ingencies, and Evcost ents of after he used.Balance Under this method, Sheet Date a certain percentage is added as a markup to the supplier's cost. The of Imarkup is normallyTer based on comparable returns in similar businesses or Chapter percentage 13 - Financial nstr uments—Longm Debt based on either capital employed or turnover. Chapter industries 14 - Leases Chapter 12 -

Chapter 15 - I ncom e Taxes

Besides the foregoing three pricing methods, the standard also recognizes these two special situations.

Chapter 16 - Em ploy ee Benefit s

"noholder price"s'isEquit charged between related parties; for instance, in the case of sharing of 1. Where Chapter 17 - Stock y

common services (e.g., secretarial services at the group corporate headquarters) by related companies free of cost, or free provision of management services to certain companies in the Chapter 19 - I nterim Financial Repor ting group, or the extension of free credit to an associate, resulting in intercorporate debt at no Chapter 20 - Segm ent Repor ting interest; and Chapter 18 - Earnings Per Share

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter 22 - Fortransactions eign Curr ency 2. Where are priced at cost; otherwise transactions would not have taken place if Chapter such 23 - RelatedPart y Disclosures a related-party relationship did not exist. Chapter 24 - Specialized I ndustr ies

To illustrate let us the following example of a vertical integration: Chapter 25 - Ithis, nflation andconsider Hyperinflation Subsidiary Chapter 26 - GovA ersells nm entmost Gr anoftsits production to fellow Subsidiary B, at cost, because Subsidiary A was specially by the parent company in order to ensure the timely supply of raw materials to Appendix A - Diestablished sclosure Checklist Subsidiary B, which has traditionally experienced Appendix B - I llustrativ e Financial St atem ent s Pr esent ed stoppages Under I AS in work due to erratic supply of essential raw materials. Thus, a majorand portion of the production of Subsidiary A is sold to Appendix C - Com parison of I AS, US GAAP, UK GAAP

I ndex Subsidiary B. Also, the product that Subsidiary A produces has no demand in the market it

operates in; thus it sells most of its production to its fellow subsidiary at cost (since it would be unable to break even otherwise).

List of Tables

List of Ex hibits and Ex am ples List of Sidebar s

Financial Statement Disclosures IAS 24 recognizes that in many countries certain related-party disclosures are prescribed by law. Particularly transactions with directors, because of the fiduciary nature of their relationship with the enterprise, are mandated financial statement disclosures in those countries. In fact, the corporate legislations in some countries go a step further and require certain disclosures which are even more stringent than the disclosure requirements under IAS 24, or for that matter, disclosure requirements under most leading accounting standards.

For example, under the Companies Act of a certain country, besides the usual disclosures pertaining to related-party transactions, under the corporate law, companies are required to disclose not just yearile ydue I ASto2or 0 03 : In t erpdirectors re t at ion or ancertain d Ap p licat io n of end balances thatWare due from other related parties, but are required to n t er n at balances ion al Accou t in g St an d ar ds disclose even theI highest for nthe period (for which financial statements are presented) which ISBN:0471227366 by from Bar r ythem J. Epstein Abbas Ali were due to or due to theand corporate entity. In the authors' opinion, the IASC might consider Mir za specifically adding such a requirement to the current list of disclosures under IAS 24, since the present John Wi ley & Sons © 2003 (952 pages) requirement to disclose only outstanding balances with related parties as of the balance sheet date This com pact ruly com pr ehensive qui ck - refer ence lends itself to manipulations byand thetreporting enterprises. pr esent s account ants with a guide to depend on for

assistance in the prepar at ion and under standing of financial For example, an enterprise which has advanced large sums of money to its directors could make statements present ed in accordance with I AS. arrangements with the directors to get them to repay the loans to the enterprise a few days before the T ab last le day of Con of the t en treporting s period and agree to loan back to those directors these amounts right after the first day nexterreporting Under the disclosure requirements in IAS 24 (discussed Wiley I AS of 20 the 03—Int pretation period. and Application of present I nternational Account ing Standar below),dsit does not appear that such amounts of loans to directors (despite being material) would need Preface to be disclosed, since none of them were actually outstanding at the end of the reporting period. Chapter However, 1 if- the I ntr oduction requirements to I nter of national IAS 24 were Accounting extended Standar to include ds disclosure of not just outstanding balances the end Sheet of the reporting period, but also the highest balance(s) due to or due from related Chapter 2 at - Balance parties during the eperiod for which financial statements are I ncom Statement, Statthe em ent of Chan ges in Equit y, presented, and Statemthen ent such manipulations, like Chapter 3 of Recognized Gains and be Losses the above-mentioned artifice, would caught under such broad disclosure requirements. Chapter 4

- Cash Flow St at em ent In the authors' furtherI nstr opinion, such additional disclosures Chapter 5 - Financial uments—Cash and Receiv ables appear to be within the spirit of the standard

and would -go a long way in improving or rather enhancing transparency in financial reporting. It should I nventor y be noted that under IAS 30, paragraph 58(a), banks and similar financial institutions are specifically Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s required to make this additional disclosure (for a detailed discussion of disclosures of related-party Chapter 8 - Property , Plant , and Equipment transactions in the case of banks and similar financial institutions, see Chapter 24). Chapter 6

Chapter 9

- I ntangi ble Asset s

I nterests Financialexamples Instr um ent Associat es, Jointrelated-party Ventur es, and IAS 24,10 paragraph 19,inprovides ofs,situations where transactions may lead to Chapter I nvestm ent Pr oper ty disclosures by a reporting enterprise in the period that they affect. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Purchases ofies, goods or unfinished, meaning progress) Curror entsales Liabilit Prov(finished isions, Cont ingencies, and Ev entswork afterint he

Chapter 12 -

Balance Sheet Date Purchases or sales ofuments—Longproperty and other Chapter 13 - Financial I nstr Ter m assets Debt Chapter 14 - Leases

Rendering or receiving of services

Chapter 15 - I ncom e Taxes

Chapter 16 - Em ploy ee Benefit s Agency arrangements Chapter 17 - Stock holder s' Equit y

Leasing arrangement Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting

Transfer of research and development

Chapter 20 - Segm ent Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror s License agreements Chapter 22 - For eign Curr ency

Finance (including and equity participation in cash or in kind) Chapter 23 - RelatedPartloans y Disclosures Chapter 24 - Specialized I ndustr ies

Guarantees and collaterals

Chapter 25 - I nflation and Hyperinflation Chapter Management 26 - Gov er nm contracts ent Gr an ts Appendix A - Di sclosure Checklist

The foregoing should not be considered an exhaustive list of situations requiring disclosure, and as very clearly stated in the standard, these are only "examples of situations . . . which may lead to Appendix C - Com parison of I AS, US GAAP, and UK GAAP disclosures." In practice, many other situations are encountered which would warrant disclosure. For I ndex example, a maintenance contract for maintaining and servicing computers, entered into with a List of Tables subsidiary company, would need to be disclosed by the reporting enterprise. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

List of Ex hibits and Ex am ples

List Sidebar s IASof24, paragraphs 20 and 21, require disclosure of a related-party relationship where control exists,

irrespective of whether there have been transactions between the related parties. In the authors' opinion, it is worth noting that an important aspect of this requirement which may not be very obvious to the reader is that disclosure is only necessary under this requirement of the standard in the case of a related-party relationship that arises only through control. Thus, by inference, one would conclude that in the case of a related-party relationship by virtue of significant influence, there is no need to disclose a related-party relationship under this requirement of the standard, unless there have been actual transactions based on this relationship.

To illustrate this point, let us consider the following example: Company A owns 25% of Company B, and by virtue of share ownership of more than 20% of the voting power,Wwould ile y I AS be considered 2 0 03 : I n t erp to re possess t at ion the an dability Ap p licat to exercise io n o f significant influence over n t er n at ionyear, al Accou n t in g A Stentered an d ar dsinto an agency agreement with Company B; Company B. IDuring the Company ISBN:0471227366 Bar r y J. Epstein and Abbas however, no by transactions took place duringAlithe year between the two companies based on the Mir zaSince Company A is considered a related party to Company B by virtue of the agency contract. John Wi ley & Sons © 2003 (952 pages) ability to exercise significant influence, no disclosure of this related-party relationship would be This com pact and t ruly 20 com pr ehensive qui ckhowever, - refer ence needed under IAS 24, paragraphs and 21. In case, Company A owned 51% or more pr esent s account ants with a guide to depend on for of the voting power of Company B and thereby would be considered related to Company B on the assistance in the prepar at ion and under standing of financial basis of control instead, present disclosure this relationship would be needed, irrespective of whether statements ed inofaccordance with I AS. any transactions actually took place between them. T ab le of Con t en t s

Per IAS paragraph 22, if there have been oftransactions between parties, the reporting Wiley I AS 24, 20 03—Int er pretation and Application I nternational Accountrelated ing Standar ds should disclose enterprise Preface

The1 nature of the related-party transaction Chapter - I ntr oduction to I nter national Accounting Standar ds Chapter 2

- Balance Sheet The type of transactions

Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

of Recognized Gains and Losses The elements of the transactions necessary for an understanding of the financial statements

Chapter 4

- Cash Flow St at em ent The elements necessary an understanding of the financial statements, as per IAS 24, paragraph 23, Chapter 5 - Financial I nstrfor uments—Cash and Receiv ables

would normally include Chapter 6 - I nventor y Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

An indication of the volume of the transactions, either as an amount or an appropriate proportion

Chapter 9 - I ntangi ble Asset sproportions of outstanding items Amounts or appropriate I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 Pricing policies I nvestm ent Pr oper ty Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Thus, for example, when an enterprise purchases raw materials amounting to $5 million from an

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - company, and these purchases account for 75% of its total purchases for the year, the associated Balance Sheet Date

following the above requirement Chapter 13disclosures - Financial Iunder nstr uments—LongTer m Debt would seem appropriate: Chapter During 14 - the Leases year, purchases amounting to $5 million (alternative wording: 75% of purchases for the

year) made from an associated company. These purchases were made at normal commercial Chapter 15 were - I ncom e Taxes terms. 31, s2003, the balance remaining outstanding from this associated company Chapter 16 - At EmDecember ploy ee Benefit amounted to holder $ 2.3 million. Chapter 17 - Stock s' Equit y Chapter 18 - Earnings Per Share

IAS 24, paragraph 24, requires that items of a similar nature may be disclosed in aggregate. However, when separate disclosure is necessary for an understanding of the effects of the related-party Chapter 20 - Segm ent Repor ting transactions on the financial statements of the reporting enterprise, aggregation is not proper. Chapter 19 - I nterim Financial Repor ting

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter A good22 example - For eign of an Curr aggregated ency disclosure is total sales made during the year to a number of

associated of separately disclosing sales made to each associated company. Chapter 23 - companies, Related- Partinstead y Disclosures Further,24an- example of a separate Chapter Specialized I ndustr ies disclosure (as opposed to aggregated disclosure) is the disclosure of year-end related parties disclosed separately by category (e.g., directors, Chapter 25 balances - I nflationfrom and various Hyperinflation associated Chapter 26 - companies, Gov er nm entetc.) Gr anIn ts the latter case, it makes sense to disclose separately by categories of

related parties, insteadChecklist of aggregating all balances from various related parties together and disclosing, Appendix A - Di sclosure say, the total amount due from all related parties as one amount. In fact, separate disclosure in this case seems necessary for an understanding of the effects of related-party transactions on the financial Appendix C - Com parison of I AS, US GAAP, and UK GAAP statements of the reporting enterprise. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS I ndex

List Tables IASof24, paragraph 24, reiterates one of the exemptions from disclosure mandated earlier in the List of Ex hibits Ex am ples 4[a]). which was discussed earlier in this chapter. Per IAS 24, paragraph standard, (i.e.,and in paragraph List Sidebar s of transactions between members of a group is unnecessary in consolidated financial 24,ofdisclosure

statements, since the consolidated financial statements present information about the parent and subsidiaries as a single reporting enterprise. However, in the case of associated companies, since they are not presented as a single reporting enterprise, and intracompany transactions are not eliminated (due to use of the equity method of accounting), separate disclosure of related-party transactions is warranted. IAS 24, paragraph 18, specifically mentions other IAS, wherein disclosures of related-party transactions have been prescribed as well. The following IAS have been cited by IAS 24:

IAS 5, which calls for disclosure of significant intercompany transactions and investments in, and balances with, group and associated companies W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I nstandard t er n at ionhas al Accou n t in g St an d arreplaced ds Note This been repealed and by IAS 1 which contains similar disclosure ISBN:0471227366 requirements. by Bar r y J. Epstein and Abbas Ali Mir za

IAS 27, whichJohn requires of a(952 listpages) of significant subsidiaries Wi ley disclosure & Sons © 2003 This com pact and t ruly com pr ehensive qui ck - refer ence

IAS 28, whichprrequires disclosure of a list of significant esent s account ants with a guide to dependassociates on for assistance in the prepar at ion and under standing of financial

IAS 8, which statements requires disclosure items and exceptional items (i.e., those that are of present edofinextraordinary accordance with I AS. such size, nature, or incidence that their disclosure is relevant to explain the performance of the T ab le enterprise) of Con t en t sthat arise in transactions with related parties Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Proposed Changes to Related-Party Disclosure Requirements

Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

The IASB's Improvements Project has resulted in proposed changes to IAS 24. The changes proposed - Balance Sheet will revise the scope of required disclosures.

Chapter 2 Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

of Recognized Gains and Losses Language would be added to clarify that the standard does not require disclosure of management Chapter 4 Cash Flow St at em ent compensation, expense allowances, and similar items paid in the ordinary course of an entity's Chapter 5 Financial I nstr uments—Cash and Receiv ables operations. Chapter 6

- I nventor y Examples related wouldConstr be relocated within Chapter 7 -ofRev enue parties Recognipresently tion, I ncluding uction Contr actthe s standard. The present exemption of

financial state-controlled enterprises from disclosing transactions with other stateChapter 8 statements - Property ,of Plant , and Equipment controlled Chapter 9 enterprises - I ntangi ble would Asset s be eliminated—thus, related-party disclosures would be more broadly

defined under the revised IAS 24.Instr Theum definition of related parties would I nterests in Financial ent s, Associat es, Joint Ventur es, be andexpanded to include parties Chapter 10control with joint over the entity; joint ventures in which the entity is a venturer; and postemployment I nvestm ent Pr oper ty benefit 11 plans for the benefit of employees of the entity, of any entity that is a related party of the Chapter - Business Combinations and Consolidat ed Fin or ancial Statements entity. However, twoLiabilit venturers would not be deemed related parties simply Curr ent ies, Prov isions, Cont ingencies, and Ev ents after t hebecause they share control over a joint venture. Balance Sheet Date

Chapter 12 -

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

The proposed amendment will also clarify, in the definition of related party, that nonexecutive directors are key management personnel. A definition of "close members of the family of an individual" would Chapter 15 - I ncom e Taxes also be added. Chapter 14 - Leases

Chapter 16 - Em ploy ee Benefit s

Chapter 17 proposes - Stock holder s' Equit y the current IAS 24 discussion of methods used to price transactions The IASB to eliminate Chapter 18related - Earnings Per There Share is no requirement for remeasurement of related-party transactions. It between parties. Chapter would be 19 made - I nterim a requirement Financial Repor that ting amounts of related-party transactions be disclosed—the current

practice20of-disclosing proportions of transactions and outstanding balances in respect of related parties Chapter Segm ent Repor ting would be henceforth. Chapter 21 banned - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

IAS 24's present set of examples of transactions that are to be disclosed if they are with a related party would be expanded to include a settlement of liabilities on behalf of the entity or by the entity on behalf Chapter 24 - Specialized I ndustr ies of another party. Chapter 23 - Related- Part y Disclosures

Chapter 25 - I nflation and Hyperinflation

Chapter 26 - Gov er nm ent Gr an ts New disclosure requirements about outstanding balances with related parties would be added also. Appendix These include A - Di sclosure their terms Checklist and conditions including whether they are secured, and the nature of the

consideration to be provided in settlement; guarantees given or received; and provisions Appendix B - I llustrativ e Financial St atem ent sdetails Pr esentof edany Under I AS for doubtful The established subclassification of amounts payable to, and receivable from, Appendix C - debts. Com parison of I AS, US GAAP, and UK GAAP different categories of related parties would be extended to provide a more comprehensive analysis of I ndex these related-party balances and would also apply to related-party transactions. List of Tables List of Ex hibits and Ex am ples

A requirement will be added by amended IAS 24 to disclose the expense recognized during the period in respect of bad or doubtful debts due from related parties. It will be clarified that any representations that related-party transactions were made on terms equivalent to those that prevail in arm's-length transactions can be made only if such disclosures can be substantiated. Finally, the current provision relating to the expected disclosure of pricing policies for related-party transactions would be eliminated.

List of Sidebar s

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Chapter 24: Specialized Industries I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

za Banks and Mir Similar Financial Institutions John Wi ley & Sons © 2003 (952 pages)

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Perspective and Issues

Disclosure requirements relating to financial statements of banks and similar financial institutions are T ab le of Conint en t s 30. A broad definition of the term "bank" has been given by IAS 30 and covers all contained IAS Wiley 20 03—Int(whether er pretation Application of I nternational thoseI AS enterprises theand word bank is included in their Account name oring not) Standar ds

1. Which are financial institutions

Preface

Chapter 1 - I ntrprincipal oduction activities to I nter national Accounting Standar 2. Whose are to accept deposits anddsborrow money with the intention of lending Chapter and 2 - investing Balance Sheet Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

of are Recognized Gains andofLosses 3. Which within the scope banking and similar legislations

Chapter 4

- Cash Flow St at em ent Since banks' operations differ in many material respects Chapter 5 - Financial I nstr uments—Cash and Receiv ables from other commercial enterprises and liquidity

and solvency is of paramount importance, their financial reporting inevitably will be somewhat - I nventor y specialized in nature. In recognition of their special needs, IAS 30 lays down a number of disclosure Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s requirements. Some of these disclosures may seem unusual from the standpoint of other commercial Chapter 8 - Property , Plant , and Equipment enterprises and may be perceived by users of the banks' financial statements as excessive or Chapter 9 - I ntangi ble Asset s superfluous; however, these disclosures have been made mandatory for banks, keeping in view the I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter special10 characteristics of banks' operations and the role they play in maintaining public confidence in I nvestm ent Pr oper ty the monetary system of the country through their close relationship with regulatory authorities (such as Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements the country's central bank) and the government. Further, a bank is exposed not only to liquidity risks but Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 -arising from currency fluctuations, interest rate movements, changes in market prices, and even risks Balance Sheet Date counterparty failure. These risks are associated not only with assets and liabilities, which are Chapter 13 - Financial I nstr uments—Long- Ter m Debt recognized on a bank's balance sheet, but also with off-balance-sheet items. Thus, certain disclosure Chapter 14 - Leases requirements as outlined by IAS 30 relate to off-balance-sheet items as well. Chapter 6

Chapter 15 - I ncom e Taxes

Chapter 16 - Em ployofeeIAS Benefit s The development 30 took about ten years, an inordinate amount of time when contrasted to Chapter 17 - Stockproduced holder s' Equit y other standards by IASC. This was partly because of IASC's efforts to obtain input from Chapter bankers18worldwide, - Earningsand Per partly Share due to the regulated nature of the banking industry, which adds to the

complexity imposing uniform disclosure requirements across national boundaries. Chapter 19 - of I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

Although IAS 30 applies exclusively to financial statements of banks and similar financial institutions, it does not, of itself, define all the disclosures required by those entities. They must also conform to the Chapter 22 - For eign Curr ency requirements of standards such as IAS 24 (related parties) and IAS 16 (long-lived assets). IAS 7 Chapter 23 - Related- Part y Disclosures incorporates special provisions that are applicable to financial institutions, and its appendix illustrates Chapter 24 - Specialized I ndustr ies the use of the direct method by financial institutions. Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter 25 - I nflation and Hyperinflation

Apart from necessitated by the enactment of new standards, IAS 30 has remained Chapter 26 - minor Gov errevisions nm ent Gr an ts intact since promulgation. However, over the past half-decade the IASC (and now the IASB) came to Appendix A - its Di sclosure Checklist recognize there was the need to update and conform IASI AS 30 to the many standards produced Appendix B that - I llustrativ e Financial St atem ent s Pr esent ed Under since its Cissuance. In 1999, a project to doand thisUK was started, and the IASB is continuing with this, with its Appendix - Com parison of I AS, US GAAP, GAAP project on deposit taking, lending, and securities activities—which would apply to entities other than I ndex

those regulated as banks. It is expected that a new standard will be exposed and possibly finalized in List of Tables 2003.

List of Ex hibits and Ex am ples List of Sidebar s

Sources of IAS IAS 1, 7, 16, 18, 24, 30, 32, 37, 39

W ile y I AS and 2 0 03 : Examples I n t erp re t at ion an d Ap p licat io n o f Concepts, Rules, I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

AccountingMirPolicies za

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages)

IAS 1, which applies to financial statements of all commercial, industrial, and business enterprises in This com pact and t ruly com pr ehensive qui ck - refer ence general (which includes andants similar institutions well), requires that disclosure be made of pr esent banks s account with financial a guide to depend onasfor all significant accounting policies were adopted in the preparation and presentation of an entity's assistance in the that prepar at ion and under standing of financial statements present in standard accordance with and I AS.also since different banks use diverse financial statements. To comply withedthe above methods for recognition and measurement of items on their financial statements, disclosure of accounting T ab le of Con t en t s policies relating to certain important items has been prescribed by IAS 30. This will enable users of the Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing bank'sds financial statements to better understand the basis of preparation of those financial statements. Standar Specifically, disclosure of the following accounting policies is prescribed by the standard: Preface setting forthAccounting the recognition ofds the principal types of income. An example of 1. The Chapter 1 - accounting I ntr oductionpolicy to I nter national Standar follows: Chapter this 2 -disclosure Balance Sheet I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter "Interest 3 income and loanand commitment fees are recognized on a time proportion basis[1] taking into of Recognized Gains Losses

the principal and the rate applicable. Other fee income is recognized when Chapter account 4 - Cash Flow St at emoutstanding ent due." - Financial I nstr uments—Cash and Receiv ables

Chapter 5

Chapter "Accrual 6 - I nventor y of interest ceases on loans placed in the nonaccrual status if in the opinion of the Chapter management 7 - Rev enue the Recogni tion, uctionas Contr loans areI ncluding unlikely toConstr be repaid peract thes terms of agreement or when the principal Chapter or 8 interest - Property , Plant , and Equipment is past due ninety days or more."[2] Chapter 9 - I ntangi ble Asset s

2. Accounting policies relating to um theent valuation of investments andes,dealing I nterests in Financial Instr s, Associat es, Joint Ventur and securities. An illustration follows: I nvestm ent Pr oper ty

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Extract from "Summary of Significant Accounting Policies" Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Chapter 12 -

Balance Sheet Date

Trading investments. Trading investments are carried at fair values with any gain or loss arising from changes in fair values being taken to the Income Statement.

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Chapter 15 - Note I ncom e Taxes Before amendment (consequential to the enactment of IAS 39), paragraphs 24 and 25 of Chapter 16 - Em ploy Benefit s IASee30 mandated that banks disclose market values of dealing securities and marketable Chapter 17 - Stockinvestment holder s' Equit securities y if these values were different from their carrying amounts in the

financial statements. In order not to be inconsistent with the requirements of IAS 39 (and Chapter 18 - Earnings Per Share to conform the current thinking on fair value accounting), the amended paragraphs 24 Chapter 19 - I nterim Financialto Repor ting of IAS Chapter 20 - Segmand ent 25 Repor ting 30 now require disclosure of fair values of each class of its financial assets and liabilities. Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

3. Accounting policy explaining the distinction between transactions and events that result in the recognition of assets and liabilities on the balance sheet versus those that give rise to contingencies Chapter and 24 - commitments, Specialized I ndustr ies off-balance-sheet items. An example follows: including Chapter 23 - Related- Part y Disclosures

Chapter 25 - I nflation and Hyperinflation

"Summary Chapter Extract 26 - Govfrom er nm ent Gr an ts of Significant Accounting Policies" Appendix A - Di sclosure Checklist

Commitments. Undrawn lending facilities, such as lines of credit extended to customers, that are irrevocable according to agreements with customers (and cannot be withdrawn at the discretion of Appendix C - Com parison of I AS, US GAAP, and UK GAAP the bank), are disclosed as commitments rather than as loans and advances to customers. If, and to I ndex the extent, the facilities are utilized by customers before year-end, these will be reported as actual List of Tables loans and advances. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

List of Ex hibits and Ex am ples List of 4. Sidebar Accounting s policy that outlines the basis for the determination of

a. The provision for possible losses on loans and advances b. Write-off of uncollectable loans and advances Note 1: Provision for Loan Losses. Provision is made for possible losses in relation to loans and advances to customers that have been individually reviewed and specifically identified as doubtful and is referred to as specific provision. A general provision based on experience is also made based on the risks that are likely to be present in any portfolio of bank advances that

have not yet been identified specifically. Loans and advances on which all legal and other possible courses of action for recovery have been exhausted are written off as bad debts. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

5. AccountingI npolicy explaining the basis for determining and setting aside amounts toward general t er n at ion al Accou n t in g St an d ar ds banking risks and the accounting treatment accorded toISBN:0471227366 this reserve.

by Bar r y J. Epstein and Abbas Ali Mir za Regulatory bodies, such as the central bank of the country in which the bank is incorporated, or local John Wi ley & Sons © 2003 (952 pages)

legislation may require or allow a bank to set aside amounts for general banking risks, including This com pact and t ruly com pr ehensive qui ck - refer ence future losses or other unforeseeable risks or even reserves for contingencies over and above pr esent s account ants with a guide to depend on for accruals required by in IAS It would proper to allow to charge these additional assistance the37. prepar at ionnot andbeunder standing of banks financial reserves tostatements the income statement, as this would distort present ed in accordance with I AS. the true financial position of the bank. Thus, IAS 30 requires that the above mentioned reserves be appropriated out of the retained earnings and T ab le of Con t en t s be separately disclosed as such. An example is Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Note 1: Statutory Reserves. As required by the Companies Commercial Code of Nation XYZ, and in accordance with the bank's articles of association, 10% of the net income for the year is Chapter 1 - I ntr oduction to I nter national Accounting Standar ds set aside as a statutory reserve annually. Such appropriations of net income are to continue Chapter 2 - Balance Sheet until the balance in the statutory reserve equals 50% of the bank's paid-up capital. Preface

Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Preparation and of Banks' Financial Statements - Cash Flow St atPresentation em ent

Chapter 4 Chapter 5

- Financial I nstr uments—Cash and Receiv ables

The following ground rules have been established by IAS 30 for the preparation and presentation of the - I nventor y financial statements of banks:

Chapter 6 Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s 1. The of Equipment a bank should be presented in a manner that groups income and expenses Chapter 8 - income Propertystatement , Plant , and

and Chapter by 9 nature - I ntangi blediscloses Asset s the amounts of the principal types of income and expenses. This principle

has been further elucidated by the standard as follows: I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and ent Pr oper ty income statement or in the footnotes should include, but are not limited to, a.I nvestm Disclosures in the Chapter 11 - Business Combinations the following items: and Consolidat ed Fin ancial Statements Chapter 10 -

Chapter 12 -

Curr ent ies,and Provsimilar isions, income Cont ingencies, and Ev ents after t he 1. Liabilit Interest Balance Sheet Date

Chapter 13 - Financial I nstr uments—LongTersimilar m Debtcharges 2. Interest expense and Chapter 14 - Leases

Dividend income Chapter 15 - I ncom3. e Taxes Chapter 16 - Em ploy ee Benefit s

4. Fee and commission income

Chapter 17 - Stock holder s' Equit y

Chapter 18 - Earnings Per Share 5. Fee and commission expense Chapter 19 - I nterim Financial Repor ting

less losses arising from dealing securities Chapter 20 - Segm6. ent Gains Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s

7. Gains less losses arising from investment securities

Chapter 22 - For eign Curr ency

Chapter 23 - Relatedy Disclosures 8. Part Gains less losses arising from dealing in foreign currencies Chapter 24 - Specialized I ndustr ies

9. and Other operating income Chapter 25 - I nflation Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

10. Losses on loans and advances

Appendix A - Di sclosure Checklist Appendix B - I llustrativ 11. General e Financial andStadministrative atem ent s Pr esent expenses ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

12. Other operating expenses

I ndex List of Tables

These disclosures, to be incorporated into the bank's income statement, are of course in

List of Ex hibits and Ex amto ples addition disclosure requirements of other international accounting standards. List of Sidebar s

b. Separate disclosure of the principal types of income and expenses as above is essential in order that users of the bank's financial statements can assess the performance of the bank. c. To enhance financial statement transparency, IAS 30 prohibits the offsetting of income and expense items, except those relating to hedges and to assets or liabilities wherein the legal right of setoff exists and the offsetting represents the expectation as to the realization or settlement of the asset or liability. In case income and expense items were allowed to be offset, it would prevent users from assessing the return on particular classes of assets; this,

in a way, would restrict users of financial statements in their assessment of the performance of the bank. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

income statement items are, however, allowed to be presented on a net basis: d. TheI nfollowing t er n at ion al Accou n t in g St an d ar ds 1. Gains or lossesand from dealings ISBN:0471227366 by Bar r y J. Epstein Abbas Ali in foreign currencies Mir za 2. Gains disposals John Wi ley or & losses Sons © from 2003 (952 pages) of investment securities This com pact and t ruly com pr ehensive qui ck - refer ence 3. Gains or losses from disposals and changes in the carrying amount of dealing pr esent s account ants with a guide to depend on for securities assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Example of bank financial reporting T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface

ABC Banking Corporation Statement of Income For the Years Ended December 31, 2003 - I ntr oduction to I nter national Accounting Standar ds and 2002

Chapter 1 Chapter 2

- Balance Sheet

Chapter 3

-

2003

2002

$400,000

$380,000

(205,000)

(200,000)

195,000

180,000

2,000

2,000

14,000

10,000

20,000

13,000

50,000

40,000

$ 8,000

$ 8,000

$289,000

$253,000

70,000

50,000

1,000

1,000

$ 71,000

$ 51,000

$218,000

$202,000

9,000

8,000

Appendix A - Di sclosure Checklist

$227,000

$210,000

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

$ 80,000

$ 75.000

11,000

10,000

6,000

6,000

$130,000

$119,000

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Operating income

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables Interest income

Chapter 6

- I nventor y

Chapter 7

expense - RevInterest enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Net interest income

Chapter 10 -

I nterests in Financial Instr umsecurities ent s, Associat es, Joint Ventur es, and Net income from trading I nvestm ent Pr oper ty

Chapter 11 - Business Net gain Combinations from dealings and inConsolidat foreign currencies ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Net gain from disposal of available-for-sale investments Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Fees and commission

Chapter 14 - Leases

Chapter 15 - I ncom e Taxes Other operating income Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y

Operating expenses Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting

Provision for losses on loans and advances

Chapter 20 - Segm ent Repor ting

Chapter 21 - Accounting and Cor rection of Er ror s ProvisionChanges for impairment of investments Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures

Profit from operations Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation

Other income

Chapter 26 - Gov er nm ent Gr an ts

General and administration expenses

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Depreciation on property and equipment

List of Tables

Provision for taxation List of Ex hibits and Ex am ples List of Sidebar s

Net income for the year

2. The balance sheet of a bank should group assets and liabilities by nature and list them in the order of their respective liquidity. This is explained further by the standard as follows: a. Disclosure of the grouping of assets and liabilities by their nature and listing them by their respective liquidity is illustrated by the standard. These are to be made either on the face of

the balance sheet or in the footnotes. The following disclosures are prescribed with a provision that disclosures should include but are not limited to: W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds Assets

Liabilities

by Bar r y J. Epstein and Abbas Ali Cash and balances with the central bank Mir za John Wi bills ley &and Sons © 2003 (952 pages) for Treasury other bills eligible

ISBN:0471227366

Deposits from other banks

Other money market deposits rediscounting central This com pactwith andthe t ruly com prbank ehensive qui ck - refer ence Amounts owed to other depositors pr esent s account ants with a guide to depend on for

Government and other securities held for of deposits assistance in the prepar at ion and under standing ofCertificates financial dealing purposes statements present ed in accordance with I AS. Promissory notes and other liabilities Placements with, and loans and advances to, evidenced by paper T ab le of Con t en t s other banks Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing borrowed funds Other Standar ds Other money market placements Preface

Loans and advances to customers

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv b. Grouping the assets and liabilities by ables nature does not pose a problem and, in fact, is probably - I nventor the most y logical way of combining financial statement items for presentation on the bank's balance sheet.tion, For instance, with Contr otheract banks and loans/advances to other banks - Rev enue Recogni I ncluding deposits Constr uction s are combined andEquipment presented as a separate line item on the asset side of a bank's balance - Property , Plant , and sheetble and referred to as placements with other banks. These items would, however, be - I ntangi Asset s presented differently onum financial statements of other commercial enterprises since deposits I nterests in Financial Instr ent s, Associat es, Joint Ventur es, and with banks those I nvestm ent Prin oper ty instances would be combined with other cash and bank balances, and loans toCombinations banks wouldand probably be classified as investments. - Business Consolidat ed Fin ancial Statements On the other hand, balances with other banks are not combined with balances with otherafter parts of the money market, even Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents t he thoughSheet by nature Balance Date they are placements with other financial institutions, since this gives a better understanding of the bank's relations - Financial I nstr uments—LongTer m Debt with and dependency on other banks versus other constituents of the money market. - Leases

Chapter 6 Chapter 7 Chapter 8 Chapter 9 Chapter 10 Chapter 11 Chapter 12 Chapter 13 Chapter 14

Investment securities

I ncom e Statement, Stat of Chan gesinto in Equit y, and income Statem ent These disclosures, toem beent incorporated the bank's statement, are of course in of Recognized Gains and Losses

addition to disclosure requirements of other international accounting standards.

Chapter 15 - I ncom e Taxes

c. Listing of assets by liquidity could be considered synonymous with listing of liabilities by maturity, since maturity is a measure of liquidity in case of liabilities. For instance, certificates - Stock holder s' Equit y of deposits are liabilities of banks and have contractual maturities of perhaps, one month, - Earnings Per Share three months, six months, and one year. Similarly, there are other bank liabilities, such as - I nterim Financial Repor ting promissory notes, that may not be due, perhaps, for another three years from the balance - Segm entdate. Repor ting a relative maturity analysis would suggest that the certificates of deposit be sheet Thus, - Accounting Changes Cor rection Er ror s or above the promissory notes since they would listed on the bank'sand balance sheetofbefore - For eign Curr ency Similarly, assets of a bank could be analyzed based on their relative liquidity, mature earlier. - RelatedPart yassets Disclosures and those that are more liquid than others (i.e., will convert into cash faster than - Specialized I ndustr others) should beieslisted on the balance sheet above the others. Thus, cash balances and balances the central bank are usually listed above other assets on the balance sheets of - I nflation andwith Hyperinflation allerbanks, - Gov nm ent being Gr an tsrelatively more liquid than other assets.

Chapter 16 - Em ploy ee Benefit s Chapter 17 Chapter 18 Chapter 19 Chapter 20 Chapter 21 Chapter 22 Chapter 23 Chapter 24 Chapter 25 Chapter 26

Appendix A - Di sclosure Checklist

d. Offsetting of assets against liabilities, or vice versa, is generally not allowed unless a legal right of setoff exists and the offsetting represents the expectation as to the realization or Appendix C - Com parison of I AS, US GAAP, and UK GAAP settlement of the asset or liability. This is true even in the case of other enterprises; IAS 1, I ndex which applies to all enterprises reporting in accordance with IAS, including banks, contains List of Tables similar provisions. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

List of Ex hibits and Ex am ples

e. s The recently superseded IAS 25 provided that enterprises not normally distinguishing List of Sidebar between current and long-term investments in their balance sheets were nevertheless to make such a distinction for measurement purposes. Under IAS 39, the current versus longterm distinction is no longer important, but it will instead be necessary to assign all such investments to the trading, available-for-sale, or held-to-maturity portfolios. IAS 30 stipulates that banks must disclose the market value of investments in securities if different from the carrying values in the financial statements. Since both trading and available-for-sale securities are carried in the balance sheet at fair value, this added disclosure requirement now only impacts held to maturity securities, which are maintained at amortized cost.

Example W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

ABC Banking Mir zaCorporation Balance Sheet As at December 31, 2003 and 2002 John Wi ley & Sons © 2003 (952 pages)

2003

2002

This com pact and t ruly com pr ehensive qui ck - refer ence Assets pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial $ 480,000 statements presentwith ed incentral accordance Cash and balances bank with I AS.

$ 370,000

3,685,000

2,990,000

8,286,000

6,786,000

364,000

26,000

T ab le of Con t en tPlacements s with other banks Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Portfolio held for trading Preface Chapter 1

- I ntrNontrading oduction to investments I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

40,000

28,000

Chapter 3

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent 358,000 of Recognized and Losses InvestmentGains property

283,000

Chapter 4

- Cash Flow St at em ent

Chapter 5

Property and equipment, and net Receiv ables - Financial I nstr uments—Cash

90,000

89,000

Chapter 6

- I nventor y

55,000

44,000

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

$13,358,000

$10,616,000

Chapter 9

- I ntangi ble Asset s

Loans and advances, net

Other assets

Total assets

Liabilities and Equity I nterests in Shareholders' Financial Instr um ent s, Associat es, Joint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty

Liabilities: Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t$he2,187,000 Balance SheetDue Dateto banks

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

$ 998,000

8,040,000

6,536,000

Chapter 16 - Em ploy ee Benefit s

1,300,000

1,380,000

Chapter 18 - Earnings Per Share

108,000

96,000

$11,635,000

$ 8,930,000

$ 1,250,000

$ 1,250,000

73,000

60,000

29,000

12,000

325,000

325,000

46,000

39,000

$ 1,723,000

$ 1,686,000

$13,358,000

$10,616,000

Chapter 14 - Leases Chapter 15 - I ncom e Taxes

Customer deposits

loan from government Chapter 17 - Stock holder s' Long-term Equit y Other liabilities Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Total liabilities

Chapter 23 - RelatedPart y Disclosures Shareholders' Equity: Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation

Share capital

Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

Statutory reserve

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

Contingency reserve

List of Tables List of Ex hibits and Ex am ples General reserve List of Sidebar s

Retained earnings Total shareholders' equity Total liabilities and shareholders' equity

$15,300,000

$12,100,000

Commitments and contingent liabilities W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

Cash Flow Statement for Banks and Other Financial Institutions This com pact and t ruly com pr ehensive qui ck - refer ence

Cash flow statements ares account an integral Every enterprise is required to present a pr esent antspart withofa financial guide to statements. depend on for cash flow statement in accordance with the IAS 7. of financial assistance in the prepar at ionprovisions and underof standing statements present ed in accordance with I AS.

Although the general requirements of IAS 7 are common to all enterprises, the standard does contain T ab le of Con t en t s special provisions that are applicable only to financial institutions. These specific provisions deal with Wiley I AS 20 pretation Application of The I nternational ing are to be reported on a net basis: reporting of03—Int certainercash flowsand on a "net basis." followingAccount cash flows Standar ds

1. Cash receipts and payments on behalf of customers when the cash flows reflect the activities of the Preface

rather than those of theAccounting enterprise;Standar the standard refers to "the accepting and repayment of Chapter customer 1 - I ntr oduction to I nter national ds demand deposits of a bank" - Balance Sheet

Chapter 2

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent 2. Cash Chapter 3 - receipts and payments for the acceptance and repayment of deposits with a fixed maturity of Recognized Gains and Losses

date

Chapter 4

- Cash Flow St at em ent

Chapter 5 - placement Financial I nstr uments—Cash andwithdrawal Receiv ables 3. The of deposits with and of deposits from other financial institutions Chapter 6 - I nventor y

4. Cash advances and loans to customers andContr the act repayment of those advances and loans Chapter 7 - Rev enue Recogni tion, made I ncluding Constr uction s Chapter 8

- Property , Plant , and Equipment

The appendix to IAS 7 (see the discussion below) illustrates the application of the standard to financial I ntangi ble Asset s institutions- preparing cash flow statements under the direct method (for a more detailed discussion of cash I nterests in Financial flow statements, see Chapter 4). Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 Chapter 9

I nvestm ent Pr oper ty

Chapter 11 of - Business Combinations and banks Consolidat ed Fin ancial Statements Example cash flow statement for Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Neighborhood Bank Consolidated Statement of Cash Flows For the Year Ended December 31, 2003

Chapter 14 - Leases

Chapter 15 - I ncom e Taxes

Cash flows from operating Chapter 16 - Em ploy ee Benefitactivities: s Chapter 17 - Stock holder s' Equit y

Interest and commission receipts

$28,447

Chapter 18 - Earnings Per Share

Chapter 19 - I nterim Financial Repor ting Interest payments Chapter 20 - Segm ent Repor ting

Recoveries on Changes loans previously written of offEr ror s Chapter 21 - Accounting and Cor rection Chapter 22 - For eign Curr ency

Cash payments to employees and suppliers

(23,463) 237 (997)

Chapter 23 - Related- Part y Disclosures

Chapter 24 - Specialized Operating profitI ndustr beforeies changes in operating assets Chapter 25 - I nflation and Hyperinflation

4,224

Appendix A - Di sclosure Checklist

(650)

(Increase) decrease Chapter 26 - Gov er nm ent Gr anin ts operating assets: Placements with other banks

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Deposits with Central bank for regulatory purposes

I ndex List of Tables

Funds advanced to customers

234 (288)

List of Ex hibits and Ex am ples List of Sidebar s

Net increase in credit card receivables Interest receivable

(360) (120)

Increase (decrease) in operating liabilities: Deposits from customers

600

(200)

Balances due to other banks W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Net cashI from operating activities before income tax n t er n at ion al Accou n t in g St an d ar ds by Barpaid r y J. Epstein and Abbas Ali Income taxes

ISBN:0471227366

Mir za ley & Sons © 2003 (952 pages) Net cashJohn fromWi operating activities This com pact and t ruly com pr ehensive qui ck - refer ence Cash flows fromprinvesting activities: esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial Proceedsstatements from disposal of subsidiary Y present ed in accordance with I AS. T ab le of Con t en t s received Dividends Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar dsInterest received Preface

Proceeds from sales of nontrading securities

Chapter 1

(100) $3,340

50 200 300 1,200

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2Purchase - BalanceofSheet investment property I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 of Recognized Gains and Losses Purchase of property, plant, and equipment Chapter 4

3,440

(600) (500)

- Cash Flow St at em ent

650

cash from investing activitiesand Receiv ables Chapter 5Net - Financial I nstr uments—Cash Chapter 6 - I from nventor y Cash flows financing activities: Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s

of ,equity Chapter 8Issuance - Property Plant ,capital and Equipment Chapter 9

- I ntangi ble Asset s

Issue of preference shares by subsidiary undertaking

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestmpaid ent Pr oper ty Dividends

Chapter 10 -

1,000 800 (1,600)

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

200

Net Curr cashent from financing activities Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

Chapter 12 -

Balance Sheet Date

Effects of exchange rate changes on cash and cash equivalents

600

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Net increase in cash and cash equivalents Chapter 14 - Leases

4,790

Chapter 15 - cash I ncom e Taxes Cash and equivalents at beginning of period Chapter 16 - Em ploy ee Benefit s

4,050

Cash and cash equivalents at end of period

Chapter 17 - Stock holder s' Equit y

$8,840

Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

Disclosure Requirements for Banks and Similar Institutions

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Contingencies commitments Chapter 23 - Related- and Part y Disclosures

including off-balance-sheet items.

Chapter 24 - Specialized I ndustr ies

Contingent liabilities are possible obligations that arise from past events whose existence will be confirmed only by the ultimate outcome of one or more uncertain future events that are not wholly within the Chapter 26 - Gov er nm ent Gr an ts control of the enterprise. Contingent liabilities could also be present obligations that arise from past Appendix A - Di sclosure Checklist events but are not recognized either because it is not probable that an outflow of resources will be required Appendix B - the I llustrativ e Financial St atem ent s Pr esent ed Under I AS or because amount of the obligation cannot be measured reliably. Generally, the accounting for and Appendix C Com parison of I AS, US GAAP, and UK GAAP disclosure of provisions and contingent liabilities has been addressed by IAS 37. Exceptions have been I ndex made in certain cases; for instance, liabilities of life insurance companies arising from insurance policies List of Tables issued by them and other entities, such as retirement benefit plans, have been specifically excluded from List Ex hibits and 37. Ex am ples theofscope of IAS However specific contingent liabilities relating to the banking industry (see list below) List Sidebar sto be disclosed in accordance with the provisions of IAS 30, since provisions or contingent areofrequired liabilities of banking or similar financial institutions have not specifically been excluded from the purview of IAS 37. Chapter 25 - I nflation and Hyperinflation

This means that the general principles of recognizing provisions or disclosing contingent liabilities as set forth in IAS 37 will differ for the banking industry compared to other commercial enterprises. This has raised some eyebrows, and for good reason. The often asked questions on this issue are the following: If the general principles of disclosure of contingent liabilities as set out in IAS 37 are equally applicable to banks and other similar institutions as they are applicable to other commercial enterprises, then why does IAS 30

still address this area? Is it a case of redundancy or is it there for a purpose that is not obvious? These queries are amply clarified by IAS 30, Paragraph 27, which states ...This standard W ile isyofI AS particular 2 0 03 : relevance I n t erp re t at toion banks an dbecause Ap p licatbanks io n o foften engaged in transactions that I n t er n at ion al and Accou n t in g St an d some ar ds revocable and others irrevocable, which are lead to contingent liabilities commitments, ISBN:0471227366 by Bar r y in J. amount Epstein and Ali frequently significant and Abbas substantially larger than those of other commercial enterprises. Mir za John Wi ley & Sons © 2003 The disclosures required in this regard are(952 thepages) following: pact and t ruly com pr ehensive quicredit ck - refer ence andcom amount of commitments to extend that are irrevocable because they cannot 1. The natureThis pr esent s account ants with a guide to depend on for be withdrawn at the discretion of the bank without incurring significant penalty or expenses assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

2. The nature and amount of contingencies and commitments arising from off-balance-sheet items, T ab le of including Con t en t sthose relating to Wiley I AS 20a.03—Int er pretation and Application I nternational ing of indebtedness, bank Direct credit substitutes, which of include general Account guarantees Standar ds

acceptances, and standby letters of credit, which serve as financial backup for loans and securities

Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

b. - Balance Transaction-related Sheet contingencies, which include performance bonds, bid bonds, warranties, and standby letters of credit related to particular I ncom e Statement, Stat em ent of Chan ges in Equit y,transactions and Statem ent

Chapter 3

-

of Recognized Gains and Losses

c. Trade-related which are self-liquidating and short-term trade-related - Cash Flow St at emcontingencies, ent contingencies arising from the movement Chapter 5 - Financial I nstr uments—Cash and Receiv ables of goods, such as documentary credit wherein the underlying goods are used as security for the bank credit; sometimes referred to as trust Chapter 6 - I nventor y receipts, or simply as TR Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s Chapter 4

Chapter 8 Chapter 9

- Property Plant , and Equipment d. Sales ,and repurchase agreements that are not reflected or recognized on the bank's balance - I ntangi ble Asset s sheet

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

entand Pr oper ty exchange rate related items, which include items such as options, e.I nvestm Interest foreign Chapter 11 - Business futures,Combinations and swaps and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

f.Balance Other Sheet commitments, including other off-balance-sheet items such as revolving underwriting Date facilitiesI nstr anduments—Longnote issuanceTer facilities Chapter 13 - Financial m Debt Chapter 14 - Leases

It is important for the users of the bank's financial statements to be cognizant about the contingencies and irrevocable commitments because these may have an effect in the future on the liquidity and solvency of Chapter 16 - Em ploy ee Benefit s the bank. For instance, undrawn facilities, to which the bank is irrevocably committed, could serve as a Chapter 17 - Stock holder s' Equit y good example of what could happen to a bank's liquidity position if a majority of the customers utilize them Chapter 18 - Earnings Share when there is a sudden shortage of funds in the market, due to economic at the same time, for Per example, Chapter I nterim Financial Repor ting such irrevocable commitments and contingencies, in the footnotes reasons19or- otherwise. Thus, disclosing Chapter 20 - Segm Repor tingimportance to the user of the bank's financial statements. or elsewhere, is ofent paramount Chapter 15 - I ncom e Taxes

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Also, off-balance-sheet Chapter 22 - For eign Curritems, ency such as letters of credit (LC), guarantees, acceptances, and so on, constitute important of the bank's business and thus should be disclosed in the financial Chapter 23 an - RelatedPartpart y Disclosures

statements, since without knowing Chapter 24 - Specialized I ndustr ies about the magnitude of such items, a fair evaluation of the bank's

financial position is not possible (mostly because it adds significantly to the level of business risk the bank is exposed to at any given point of time).

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

Appendix A - Di which sclosure Certain items areChecklist typically not included in the balance sheet are commonly referred to as memoranda Appendix B I llustrativ e Financial atem ent s Pr esent ed These Under Iare AS often interrelated items which are both accounts, and less frequently areStcalled contra items. Appendix C Com parison of I AS, US GAAP, and UK GAAP contingent assets and contingent liabilities, such as bills held for collection for customers, that if and when I ndex collected will in turn be remitted to the customer and not retained by the bank. The logic is that since the List asset of Tables and liability both have contingent aspects, and since the bank is effectively only acting as an agent

on of behalf of aand customer, it is valid to exclude both elements from the statement of financial condition. The List Ex hibits Ex am ples existence of ssuch items, however, generally must be disclosed even if not formally recognized. List of Sidebar Example of disclosure of contingencies and commitments

2003

2002

$10,000

$ 9,000

11,000

8,000

12,000

11,000

13,000

12,000

15,000

12,000

$61,000

$52,000

At December 31,W2003 contingent and commitments ile y Iand AS 22002, 0 03 : the I n t erp re t at ionliabilities an d Ap p licat io n o f were the following (in 000s of US dollars): I n t er n at ion al Accou n t in g St an d ar ds Letters of credit by Bar r y J. Epstein and Abbas Ali Guarantees

ISBN:0471227366

Mir za John Wi ley & Sons © 2003 (952 pages)

Acceptances This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for Bills for collection assistance in the prepar at ion and under standing of financial statements present ed in accordance with I AS. Commitments under undrawn lines of credit T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface - I ntr oduction to I nter national Accounting Standar ds Maturities of Assets and Liabilities

Chapter 1 Chapter 2

- Balance Sheet

Information about of assets andofliabilities most important required of banks, I ncom ematurities Statement, Stat em ent Chan gesisinthe Equit y, and Statemdisclosures ent Chapter 3 Recognized Gains and Losses since it givesofusers a concise picture of the bank's liquidity. Well managed banks typically exhibit closely Chapter - Cash Flow St at emsuch ent as loans and investments, and liabilities, such as time deposits. To the aligned4maturities of assets, extent these are mismatched, it not only and raises a liquidity Chapter 5 - Financial I nstr uments—Cash Receiv ables (or even solvency) question, but also in periods of changing rates Chapter 6 interest - I nventor y it places the bank at risk of having its normal "spread" (the difference between interest7earned and interest or Contr turn negative. Since even an otherwise healthy Chapter - Rev enue Recognipaid) tion, Ibecome ncludingdiminished Constr uction act s institution, positive can have mismatches in some of the maturities, potential problems Chapter 8 -having Property , Plant ,net andworth, Equipment are identified through schedule of asset and liability maturities which would not otherwise be apparent Chapter 9 - I ntangi ble the Asset s from the financial statements. I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 -

I nvestm ent Pr oper ty

Maturity groupings applied to assets and liabilities differ from bank to bank, and IAS 30 does not prescribe the periods but only gives examples of periods that are used in practice, as follows:

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he

1. Up toBalance one month Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

2. From one month to three months

Chapter 14 - Leases

Chapter 15 - I ncom Taxes to one year 3. From three emonths Chapter 16 - Em ploy ee Benefit s

4. From one year tos'five years Chapter 17 - Stock holder Equit y Chapter 18 - Earnings Per Share

5. From five years and above

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm entthe Repor ting periods adopted by a bank should be the same for assets and liabilities. It is imperative that maturity Chapter 21 - Accounting Changes are and matched Cor rectionand of Er ror s to light dependency, if any, on other sources of This ensures that the maturities brings Chapter liquidity.22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures

Maturities be expressed in more than one way, for instance, by remaining period to the repayment Chapter 24 could - Specialized I ndustr ies

date or by the original period to the repayment date. IAS 30 recommends that the maturity analysis of assets and liabilities be presented by the remaining period to the repayment date, as this provides the best Chapter 26 - Gov er nm ent Gr an ts basis to evaluate the liquidity of the bank. Chapter 25 - I nflation and Hyperinflation Appendix A - Di sclosure Checklist

Appendix - I llustrativ e Financial atembe entwithdrawn s Pr esent edeven Under AS In some Bcountries time deposits St could on Idemand, and advances given by the bank Appendix C Com parison of I AS, US GAAP, and UK GAAP may be repayable on demand, in which case, maturities according to the contractual dates should be used I ndex for the purposes of this analysis since it reflects the liquidity risks attaching to the bank's assets and liabilities. List of Tables List of Ex hibits and Ex am ples

Certain assets do not have a contractual maturity date. In all such cases the period in which these assets are assumed to mature is usually taken to be the expected date on which the assets will be realized. For instance, in the case of fixed assets that have no maturity date as such, as in the case of a certificate of deposit, the authors are of the opinion that their remaining useful lives as of the balance sheet date could be used as a measure of the maturity profile of these assets.

List of Sidebar s

Example of disclosure of maturities of assets and liabilities The maturity profile of assets and liabilities at December 31, 2003, was as follows:

($ in thousands) to t3at ion an3d months 1 of W ile y I AS 2 0 03 : I n t Up erp re Ap p licatto io n year I n t er n at ion al Accoumonths n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Mir za Cash and short-term John Wi funds ley & Sons © 2003$(952 10,157 pages)

Assets

1 year to 5 years

Over 5 years

ISBN:0471227366

$ --

$ --

$-

--

-

--

-

--

284,281

2,150

--

366,259

-

--

57,997

$ 94,854

$368,409

$ 342,278

Chapter 7 -from Rev enue Constr uction Contr$act s Deposits banksRecogni tion, I ncluding $105,492 18,400

$ --

$ --

130,127

--

30,865

--

330,000

--

$490,992

$ --

This com pact and t ruly com pr ehensive qui ck - refer ence Deposits with banks 298,771 -pr esent s account ants with a guide to depend on for assistance in the prepar at101,013 ion and under standing of financial Investments—available-for-statements present ed in accordance with I AS. sale T abTrading le of Con t en t s investments

113,109

76,173

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Investments—held-to-maturity --Standar ds Preface Accrued interest and other 9,919 18,681 Chapter assets1 - I ntr oduction to I nter national Accounting Standar ds Chapter 2

- Balance Sheet

Investment property

--

--

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Fixed assets --of Recognized Gains and Losses

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Total assets

$532,269

Liabilities Chapter 6 - I nventor y Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Customer deposits

36,062

1,033

Accrued interest andinother 9,952es, and I nterests Financial Instr um ent38,882 s, Associat es, Joint Ventur payable I nvestm ent Pr oper ty

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat Statements Medium-term facilities --ed Fin ancial 250,000 Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 Total liabilities $180,436 $279,385 Balance Sheet Date Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Concentration of Assets, Liabilities and Off-Balance-Sheet Items

Chapter 15 - I ncom e Taxes

Chapter 16 - Em ploy ee Benefit s

Chapter 17 -required Stock holder s' Equit yany significant concentrations of its assets, liabilities, and off-balance-sheet Banks are to disclose Chapter 18 - Earnings Per are Share items. Such disclosures a means of identification of potential risks, if any, that are inherent in the

realization the assets and liabilities Chapter 19 -ofI nterim Financial Repor ting(the funds available) to the bank. Chapter 20 - Segm ent Repor ting

Concentration of assets, liabilities, and off-balance-sheet items could be disclosed in the following ways:

Chapter 21 - Accounting Changes and Cor rection of Er ror s

1. By Chapter 22 geographical - For eign Currareas ency such as individual countries, group of countries, or regions within a country Chapter 23 - Related- Part y Disclosures

2. By customer groups such as governments, public authorities, and commercial enterprises

Chapter 24 - Specialized I ndustr ies

Chapter 25 industry - I nflation and Hyperinflation 3. By sectors such as real estate, manufacturing, retail, and financial Chapter 26 - Gov er nm ent Gr an ts

4. Other of risk that are appropriate in the circumstances of the bank Appendix A - Diconcentrations sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Example of disclosure of concentration of assets, liabilities, and off-balance-sheet items

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

($ in thousands) W ile y I AS 2 0 03 : I2003 n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Off-

North America

Offbalancesheet

ISBN:0471227366

by Bar r y J. Epstein and Abbas Ali balanceMir za Assets Liabilities sheet John Wi ley & Sons © 2003 (952 pages)

Geographical region

2002

Assets

Liabilities

This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial $ 679,829 $26,103 $ 57,479 statements present ed in accordance with I AS. $ 681,958

$ 86,267

$ 146,099

662,690

1,117,110

71,328

216,486

98,236

10,525

370

198,138

$1,338,510

$965,813

$1,559,583

T ab le of Con t en t s

Europe 662,259and Application 778,470 of I nternational 621,316 Account 574,699 Wiley I AS 20 03—Int er pretation ing Standar ds Middle East

93,003

Preface

184,485

114,984

Other 1 Chapter

--- ds - I ntr oduction to279 I nter national Accounting Standar

Chapter Total 2

- Balance$1,395,370 Sheet

Chapter 3

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash 2003 and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

$989,058

Assets

$793,779

($ in thousands)

Liabilities

2002

Offbalancesheet

Assets

Liabilities

Offbalancesheet

Industry sector I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty

$ 314,563

$866,483

$715,141

$ 482,874

Banking Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

$846,513

$1,484,248

and

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 finance Balance Sheet Date Chapter 13 - Financial I nstr uments—LongTer m Debt 40,535 --

--

40,777

--

--

3,797

11,811

224,829

--

1,649

--

--

315,554

--

--

--

63,871

68,744

--

72,947

Food processing

Chapter 14 - Leases

Chapter 15 - I ncom e Taxes

336,966 Chapter 16 - Em ploy ee Benefit s Luxury Chapter 17 merchandise - Stock holder s' Equit y Chapter 18 - Earnings Per Share

Retail

356,879

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting 96,743 Real estate

Chapter 21 - Accounting Changes and Cor rection of Er ror s

153,151

Manufacturing Chapter 22 - For eign Curr ency

--

--

124,366

--

--

118,779

2,956

81,366

119,300

739

$989,058

$793,779

$1,338,510

$965,813

$1,559,583

and servicesPart y Disclosures Chapter 23 - RelatedChapter 24 - Specialized I ndustr ies 96,533

Other

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent$1,395,370 Gr an ts

Total

Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Losses on Loans and Advances

I ndex

List of Tables

Loans and advances to customers may sometimes become uncollectable, and in those circumstances the bank would have to suffer losses on loans, advances, and other credit facilities. The amount of losses that List of Sidebar s are specifically identified and the potential losses not specifically identified should both be recognized as expenses and deducted from the carrying amount of the loans and advances. The assessment of these losses is dependent on management judgment and it is essential that it should be applied consistently from one period to another. Any amounts are set aside in excess of the foregoing provision for losses on loans and advances, if required by local circumstances or legislation, should be treated as an appropriation of retained earnings and are not to be included in the determination of net profit or loss for the period. Similarly, any credits resulting in the reduction of such amounts are to be credited to retained earnings. List of Ex hibits and Ex am ples

A number of disclosure requirements are prescribed by IAS 30 in this regard, as summarized below. 1. The accounting policy describing the basis on which uncollectable loans and advances are recognizedWas ilean y I AS expense 2 0 03 :and I n t written erp re t at off. ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

2. Details of movements in the provision and advances during the period: These ISBN:0471227366 by Bar r y J. Epstein and Abbasfor Alilosses on loans Mir zainclude the amount recognized as an expense in the period on account of losses on details should Wi ley & Sons © 2003charged (952 pages) loans and John advances, the amount in the period for loans and advances written off, and the amount credited in pact the period resulting from the recovery ofence the amounts previously written off. This com and t ruly com pr ehensive qui ck - refer pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing financial 3. The aggregate amount of the provision for losses on loansofand advances at the balance sheet date. statements present ed in accordance with I AS.

4. The aggregate amount included in the balance sheet as loans and advances on which no interest T ab le of Con t en t s has been accrued (referred to in some countries as "interest in suspense" or "reserved interest") and Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing the basis used to determine the carrying amount of such loans and advances. Standar ds

Preface Example of disclosure of loans and advances Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Chapter 2

- Balance Sheet

2003

2002

50,000

50,000

(10,000)

(20,000)

Chapter 7 -end Revof enue act s Balance, the Recogni year tion, I ncluding Constr uction Contr $540,000

$430,000

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Balance, beginning of theGains year and Losses $500,000 $400,000 Chapter 4 - Cash Flow St at em ent Chapter 3

-

Provision during the year—against specific advances

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Written the Chapter 6 off - Iduring nventor y year Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Example Chapter 10 of - disclosure of interest in suspense I nvestm ent Pr oper ty Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

2003

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Sheet Date interest is not taken to income Loans and Balance advances on which $2,000,000 Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 12 -

2002 $1,500,000

Changes in interest in suspense:

Chapter 14 - Leases

Balance, of year Chapter 15 -beginning I ncom e Taxes Chapter 16 - during Em ploythe ee Benefit Reserved year s Chapter 17 - Stock holder s' Equit y

Released during the year

Chapter 18 - Earnings Per Share Chapter Balance, 19 end - I nterim of year Financial Repor ting

$ 500,000

$ 490,000

50,000

30,000

(10,000)

(20,000)

$ 540,000

$ 500,000

Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Related-Party Transactions

Chapter 23 - Related- Part y Disclosures

Chapter Specialized to I ndustr ies Parties 24 are- considered be related if one has the ability to control the other or exercise significant Chapter 25 over - I nflation and in Hyperinflation influence the other making financial and operating decisions. IAS 24 requires that related-party Chapter 26 - Gov nm ent GrWhen an ts a bank has entered into transactions with related parties, the nature of the transactions be er disclosed. Appendix A - Di sclosure Checklist relationship (e.g., director, shareholder, etc.), the type of transaction (loans and advances or off-balance-

sheet financing, etc.),eand the elements of sthe transaction should Appendix B - I llustrativ Financial St atem ent Pr esent ed Under I AS be disclosed. The elements that are to be disclosedC include the bank's lending policyand to related parties and, in respect of related-party transactions, Appendix - Com parison of I AS, US GAAP, UK GAAP the amount included in or the proportion of I ndex List of 1. Tables Each of loans and advances, deposits and acceptances, and promissory notes; disclosures may List of Exinclude hibits and theEx aggregate am ples amounts outstanding at the beginning and end of the year as well as changes

in these List of Sidebar s accounts during the year 2. Each of the principal types of income, interest expense, and commissions paid 3. The amount of the expense recognized in the period for the losses on loans and advances and the amount of the provision at the balance sheet date 4. Irrevocable commitments and contingencies and commitments from off-balance-sheet items Example of related-party disclosures

Note 5: Related-Party Transactions. The bank has entered into transactions in the ordinary course of business with certain related parties, such as shareholders holding more than 20% equity interest in the W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f bank and with certain directors of the bank. I n t er n at ion al Accou n t in g St an d ar ds ISBN:0471227366 Bar and r y J. 2002, Epstein and Abbas Ali At December 31, by 2003 the following balances were outstanding in the aggregate in relation to Mir za those related-party transactions:

John Wi ley & Sons © 2003 (952 pages)

This com pact and t ruly com pr ehensive qui ck - refer ence 2003 ants with2002 pr esent s account a guide to depend on for assistance in the prepar at ion and under standing of financial Loans and advances 2,000,000 1,800,000 statements present ed in accordance with I AS.

Customer deposits

T ab le of Con t en t s

750,000

600,000

Guarantees 3,000,000 1,500,000 Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds For the years ended December 31, 2003 and 2002, the following income and expense items are included in Preface the aggregate the above-related transactions: Chapter 1 - I ntramounts oduction arising to I nterfrom national Accounting Standar ds Chapter 2

- Balance Sheet

Chapter 3

-

I ncom e Statement, 2003 Stat 2002 em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Interest income 300,000 270,000 - Cash Flow St at em ent Chapter Interest 5 expense - Financial I nstr 40,000 uments—Cash 35,000and Receiv ables Chapter 4 Chapter 6

- I nventor y Commissions 60,000

30,000

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Disclosure of inGeneral Banking Risks I nterests Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 -

I nvestm ent Pr oper ty Based on legislation or circumstances, a bank needStatements to set aside a certain amount each year for Chapter 11 local - Business Combinations and Consolidat ed may Fin ancial

general banking risks, including future losses other unforeseeable risks, Curr ent Liabilit ies, Prov isions, Cont or ingencies, and Ev ents after t hein addition to the provision for Chapter 12 loans losses on and Sheet advances Balance Date explained earlier. The bank may also be required to earmark a certain

amount13 each year asI anstr contingency reserve, Chapter - Financial uments—LongTer mover Debtand above the amounts accrued under IAS 10. All such amounts aside should be treated as appropriations of retained earnings, and any credits resulting from Chapter 14set - Leases the reduction of such amounts should be returned directly to retained earnings and not included in Chapter 15 - I ncom e Taxes determination of net income or loss for the year.

Chapter 16 - Em ploy ee Benefit s

Chapter 17 - Stock holder s' Equit y

Disclosure of Assets Pledged as Security

Chapter 18 - Earnings Per Share

Chapter 19 - I nterim Financial Repor ting

If the bank is required by law or national custom to pledge assets as security to support certain deposits or other liabilities, the bank should then disclose the aggregate amount of secured liabilities and the nature Chapter 21 - Accounting Changes and Cor rection of Er ror s and carrying amount of the assets pledged as security. Chapter 20 - Segm ent Repor ting Chapter 22 - For eign Curr ency

Chapter 23 - Related- Part y Disclosures

Disclosure of Trust Activities

Chapter 24 - Specialized I ndustr ies

Chapter 25 - I nflation and Hyperinflation

If a bank is holding in trust, or in any other fiduciary capacity, assets belonging to others, those assets should not be included on the bank's financial statements since they are being held on behalf of third Appendix A - Di sclosure Checklist parties such as trusts and retirement funds. If a bank is engaged in significant trust activities, this deserves Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS disclosure of the fact and an indication of the extent of those trust activities. Such disclosure will take care Appendix C - Comliability parisoninofcase I AS, the US GAAP, and in UKitsGAAP of any potential bank fails fiduciary capacity. The safe custody services that banks I ndex offer are not part of these trust activities. Chapter 26 - Gov er nm ent Gr an ts

List of Tables List of Ex hibits and Ex am ples

Anticipated Revisions to IAS 30

List of Sidebar s

When IAS 30 was promulgated, many of the now-extant standards had yet to be issued, and banking, as an important highly regulated industry with worldwide impact, was perhaps uniquely in need of standardized financial reporting guidance. However, by the late 1990s, many began to note that IAS 30 was in need of an overhaul, since there were growing instances of redundancies with other later standards, and in some particulars, a need for new or expanded coverage. Also, fundamental changes had been taking place in the financial services industries, and in the way in which financial institutions were managing their activities and their risk exposures.

The IASC added a project to its agenda to revise IAS 30 in 1999, and in 2000, appointed a steering committee for that purpose, including representatives of financial institutions, auditors, and bank and securities regulators. endorsed undertaking is io continuing to use that steering committee, W ileIASB y I AShas 2 0 03 : I n t erpthat re t at ion an d Apand p licat n of which has been expanded to include analysts and nonfinancial institutions, as an advisory group. While a I n t er n at ion al Accou n t in g St an d ar ds review of IAS 30 by is still a central mission, it has been tentatively concluded that the project should also ISBN:0471227366 Bar r y J. Epstein and Abbas Ali Mir za consider disclosure and presentation issues that arise for all types of entities that engage in deposit taking, lending, or securities whether or(952 notpages) regulated and supervised as banks. This is because, since Johnactivities, Wi ley & Sons © 2003 IAS 30 was first released, thereand hast ruly been widespread of regulatory barriers in many countries, This com pact com pr ehensivedismantling qui ck - refer ence pr esent s account antsbanks with aand guide to depend on forservices firms and conglomerates in and increasing competition between nonbank financial assistance the prepar at ion and under standing of financial providing the same types ofinfinancial services. This, in turn, makes it inappropriate to limit the scope of this statements present ed in accordance with I AS. project to banks and similar financial institutions. T ab le of Con t en t s

Three types of changes to the existing requirements of IAS 30 are being examined. The first would be to

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing eliminate Standar ds apparent redundancies between IAS 30 and other mostly subsequent standards. For example,

the guidance in IAS 30 on the offsetting of assets and liabilities may be duplicative of that now incorporated Preface into IAS 1 and IAS 32. The disclosures about fair values are now addressed globally by IAS 32, as are - I ntr oduction to I nter national Accounting Standar ds matters pertaining to the disclosure of maturities of assets and liabilities. Related-parties disclosures are Chapter 2 - Balance Sheet set forth by IAS 24, and information regarding concentrations of credit risk is required by IAS 32. Finally, I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 - about recognition of loan losses in IAS 30 may have been superfluous due to the later the guidance of Recognized Gains and Losses issuance of IAS 39. Chapter 4 - Cash Flow St at em ent Chapter 1

Chapter 5 category - Financial nstr uments—Cash Receiv ablesto bring the existing requirement under IAS 30 up to A second ofI revisions would beand done in order Chapter 6 I nventor y date. According to IASB, financial services industry representatives have been positive about the guidance Chapter 7 relative - Rev enue Recogni tion, Constr uction Contr act s in IAS 30 to balance sheetI ncluding and income statement presentation, but believe that further guidance Chapter 8 Property , Plant , and Equipment would help eliminate remaining differences across countries in reporting formats which result in costs for Chapter 9 institutions - I ntangi ble Asset s in several jurisdictions and difficulties for users in comparing financial financial operating statements across I nterests countries. in Financial Thus, Instr there um ent may s, Associat be needes, forJoint further Ventur more es,detailed and guidance, which would Chapter 10 I nvestm remaining ent Pr oper ty reduce or eliminate variations. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Finally, a third category of ies, changes to IASCont 30 would be undertaken enhance the quality of disclosures. Curr ent Liabilit Prov isions, ingencies, and Ev ents to after t he Two key areas are Sheet Date Balance

Chapter 12 -

Chapter 13 - Financial I nstr uments—LongTer m Debt 1. Disclosures supplementing the balance sheet and income statement, and Chapter 14 - Leases

2. Risk information Chapter 15 - exposure I ncom e Taxes Chapter 16 - Em ploy ee Benefit s

The types of risk exposures to be considered in the project include financial risks (e.g., credit, liquidity, cash flow interest rate, and market risks), solvency risk and operational risks. The IASB believes that in recent Chapter 18 - Earnings Per Share years the techniques employed by entities for measuring and managing their business activities and risk Chapter 19 - I nterim Financial Repor ting exposures have evolved rapidly, and risk management concepts and approaches that were not used ten Chapter 20 -have Segm ent gained Repor ting years ago now acceptance. In addition, many public and private sector initiatives have Chapter 21 Accounting Changes andinCor rection of Er ror s proposed significant improvements the disclosure framework for entities undertaking deposit taking, Chapter - For eign Curr ency lending22 and securities activities, including the original and the second Basel Capital Accords. Thus, there Chapter - RelatedPart y Disclosures may be23 a need to consider expanding the already comprehensive set of disclosure requirements found in Chapter IAS 30.24 - Specialized I ndustr ies Chapter 17 - Stock holder s' Equit y

Chapter 25 - I nflation and Hyperinflation

IASB has that an "activity-based" approach will be followed in developing a new or Chapter 26 tentatively - Gov er nm decided ent Gr an ts

revised standard; thus, any type of entity engaging in the delineated activities (deposit taking, lending, and securities) would be subject to it, whether engaging in banking or not. For example, lending activities by Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS manufacturers would be covered by the new standard (this follows closely the decision taken in the US, Appendix C - Com parison of I AS, US GAAP, and UK GAAP where a Statement of Position by the AICPA's accounting standard-setting arm dealt with all lending I ndex activities, including that arising in the context of normal trade receivables.) Appendix A - Di sclosure Checklist

List of Tables

List of Ex hibits and Ex am ples that this project should not specify fixed reporting formats. Instead, it should IASB has tentatively decided List of Sidebar s consider prescribing line items or note disclosures related to deposit taking, lending, or securities activities

that should be presented in the financial statements of any entity for which that item is material. There is a perceived need to coordinate with the IASB Reporting Performance Project. Also, it was agreed that the project should develop illustrative formats for the financial statements of an entity that carries out deposit taking, lending, or securities activities as its predominant business activities (e.g., a banks and financial conglomerates). A draft ED is being developed, which has proposed (subject to further change, of course) that

Financial assets and financial liabilities arising from deposit taking, lending and securities activities be presented on the face of the balance sheet, in order of their relative liquidity W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Income and expenses arising from such activities be classified by their nature—in particular, I n t er n at ion al Accou n t in g St an d ar ds distinguishing interest, fees and commissions, and other gains and losses arising from financial assets ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali and financialMir liabilities za John Wi ley & Sons © 2003 (952 pages)

Certain minimum line items are to be presented on the face of the balance sheet and on the face of the This com pact and t ruly com pr ehensive qui ck - refer ence income statement. pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial

The notion of prescribing specific financial statement with line items statements present ed in accordance I AS. is a controversial one. Given that the scope of the project is wider than was the scope of IAS 30, there is the likelihood of interaction with the T ab le of Con t enof t sIAS 1, 32, and 39. Those standards already require disclosure of similar amounts in the requirements Wiley 20 03—Int er pretation and This Application I nternational Account ing further attention. notesI AS to the financial statements. matter ofwill obviously be receiving Standar ds

With regard to disclosure about the composition of financial assets, financial liabilities, income and Preface expenses from to deposit taking, lending andStandar securities Chapter 1 resulting - I ntr oduction I nter national Accounting ds activities, IASB provided the following insights: Chapter 2

- Balance Sheet

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter 3 disclosure If the of certain for line items presented on the face of the balance sheet of Recognized Gainssubclassifications and Losses

is useful to understanding the credit quality of an entity's assets, it should be integrated with the other - Cash Flow St at em ent disclosures relating to credit risk; and

Chapter 4 Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6 -an I nventor y When entity undertakes a securities activity for which it has fiduciary responsibilities, the aggregate Chapter 7 Rev enue Recogni tion, I ncluding Constr Contr act s amount of financial assets involved should beuction disclosed. Chapter 8

- Property , Plant , and Equipment Concerning disclosure Chapter 9 - Ithe ntangi ble Assetof s narrative information and quantitative data about the various financial risk

exposures—pertaining credit, liquidity, cash flow interest rate, and es, market I nterests in to Financial Instr um ent s, Associat es, Joint Ventur and risks—and risk management policies, IASB has tentatively that I nvestm ent Pr operagreed ty

Chapter 10 -

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Principles should be developed and the relationship with IAS 32 should be assessed to avoid overlaps.

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Disclosure should be provided in the financial statements (as opposed to outside the financial statements) if such information were to be required.

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Chapter - I ncom ewould Taxesnot necessarily preclude incorporating the information in the financial statements Such an15approach Chapter by way 16 of reference - Em ploy ee in Benefit the financial s statements to information provided in material accompanying the

financial Chapter 17statements. - Stock holder s' Equit y Chapter 18 - Earnings Per Share

Also proposed is disclosure of a narrative description of an entity's risk management process, and quantitative data of the entity's exposure to each significant financial risk. The draft ED proposed that Chapter 20 - Segm ent Repor ting quantitative information would be disclosed "through the eyes of management," with certain minimum Chapter 21 - Accounting Changes and Cor rection of Er ror s quantitative disclosures required for each of the risks. However, IASB has expressed concern over the Chapter 22 - For eign Curr ency volume of disclosures that could result in some circumstances. There are similarities in the areas of risks to Chapter 23 - Relatedy Disclosures be disclosed with thePart existing requirements of IAS 32, and accordingly the interaction between the Chapter 24 Specialized I ndustr ies and the requirements of IAS 32 (and whether a common set of proposed financial risk disclosures Chapter 25 for - I nflation and could Hyperinflation principles disclosure be developed for all entities to apply) will be given attention. Under such an Chapter 26 Gov er nm ent Gr an ts approach, some of the disclosure requirements in IAS 32 might need revision or clarification, and some of Appendix - Di sclosure Checklistproposed in the project might form application guidance. the moreAdetailed disclosures Chapter 19 - I nterim Financial Repor ting

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

IASB hasC also indicated that Appendix - Com parison of I AS, US GAAP, and UK GAAP I ndex

Disclosure of the extent to which an entity's exposure to credit risk is protected by collateral pledged as

List ofsecurity Tables or any other credit enhancements should not be required. List of Ex hibits and Ex am ples

Advisory Group should consider further whether to use expected or contractual maturity dates List ofThe Sidebar s when disclosing minimum quantitative information about liquidity risk in light of the guidance in IAS 32. The Advisory Group should reconsider the proposal to disclose the weighted average effective interest rate for each major currency in which financial instruments are denominated. On the matter of potential disclosure of information about solvency risk, the IASB tentatively supported disclosure of information about regulatory capital requirements established by legislation or other regulation. A draft amendment to IAS 1 would require that all entities disclose a narrative description of

their solvency risk exposure and their objectives and significant policies for managing the risk. Disclosure of certain additional information about significant self-imposed or externally imposed financial requirements with respect to solvency IASB that W ile y I risk AS 2was 0 03also : I n tproposed. erp re t at ion an dthus Ap phas licatindicated io n o f I n t er n at ion al Accou n t in g St an d ar ds

Disclosure of compliance with imposed financial requirements relating to solvency risk may be more ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali appropriate inMiraza discussion by management outside the financial statements. The Advisory Group was asked to continue developing disclosures John Wi ley & Sonsthe © 2003 (952 pages)for input to the topic of the financial aspects of Management's Discussion and Analysis, which is being considered by a partner national standard This com pact and t ruly com pr ehensive qui ck - refer ence setter. pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial

The distinction between present solvency and liquidity riskI AS. requires clarification; and statements ed risk in accordance with T ab le Disclosure of Con t en t information s about any self-imposed financial requirements relating to solvency risk (for Wiley example, I AS 20 03—Int er pretation and Application of I nternational internal rate of return for business units) shouldAccount not be ing required. The Advisory Group should Standar ds consider limiting the disclosure information about any externally imposed financial requirements to Preface situations when a regulator imposes such requirements. Chapter 1 - I ntr oduction to I nter national Accounting Standar ds

Another2 issue is the Sheet need for disclosure of information about operational risks. The IASB's draft Chapter - Balance amendment Ito IASe 1Statement, proposed that all ent entities disclose narrative ncom Stat em of Chan ges in aEquit y, anddescription Statem ent of their operational risk exposure, -their objectives Gains and significant policies for managing the risk, and, when operational risk is of Recognized and Losses measured, Chapter 4 - summary Cash Flowquantitative St at em ent data of their actual risk position as at the reporting date. IASB has indicated Chapter 5 that - Financial I nstr uments—Cash and Receiv ables Chapter 3

Chapter 6

- I nventor y

Disclosure of information about operational risk may be more appropriate in a discussion by - Rev enue Recogni tion, I ncluding Constr uction Contr act s management outside the financial statements. The Advisory Group was asked to continue developing Chapter 8 - Property , Plant , and Equipment the disclosures for input to the topic of the financial aspects of Management's Discussion and Analysis, Chapter 9 -isI ntangi Asset s by a partner national standard setter; and which being ble considered Chapter 7

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

I nvestm Pr oper ty risk—the risk of loss due to inadequate or malfunctioning internal The definition ofent operational Chapter 11 - Business Combinations and ed Fin ancial Statementsbe clarified in order to remove any processes, people and systems, orConsolidat due to external events—should Curr ent Liabilitwith ies, the Provother isions, Contof ingencies, and Ev ents after t he possibility of overlap types risks. Chapter 12 Balance Sheet Date IASB has anuments—LongExposure Document will be issued in early 2003, and that a final standard on Chapter 13 indicated - Financialthat I nstr Ter m Debt

presentation and disclosure will be produced in the latter part of the year. Chapter 14 - Leases [1]IAS 18 specifically requires that interest income be recognized on a time proportion basis. Chapter 15 - I ncom e Taxes

Chapter 16 - Em ploy ee Benefit s [2]In

some countries this is referred to as "interest in suspense" or "reserved interest."

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

ile y I AS 2 0 03 : I n t erp re t at Retirement ion an d Ap p licat io n of AccountingWand Reporting by Benefit Plans I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

Perspective and Issues

This comand pactcontent and t ruly pr ehensive qui ck - financial refer encereports of retirement benefit IAS 26 sets out the form of com the general-purpose pr esent s account ants with a guide to depend on for plans. This standard deals with accounting and reporting to all participants assistance in the prepar at ion and under standing of financial of a plan as a group, and not with reports which might present be made statements ed to in individuals accordanceabout with I their AS. particular retirement benefits. The standard applies to T ab le of Con t en t s Wiley Defined I AS 20 03—Int contribution er pretation plansand where Application benefitsofare I nternational determinedAccount by contributions ing to the plan together with Standar ds investment earnings thereon; and Preface

Defined planstowhere benefitsAccounting are determined bydsa formula based on employees' earnings Chapter 1 - I benefit ntr oduction I nter national Standar and/or of service. Chapter 2 - years Balance Sheet I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter - be compared to IAS 19. The former addresses the financial reporting considerations for the IAS 26 3may of Recognized Gains and Losses

benefit plan itself, as the reporting entity, while the latter deals with employers' accounting for the cost - Cash Flow St at em ent of such benefits as they are earned by the employees. While these standards are thus somewhat Chapter 5 - Financial I nstr uments—Cash and Receiv ables related, there will not be any direct interrelationship between amounts reported in benefit plan financial Chapter 6 - I nventor y statements and amounts reported under IAS 19 by employers. Chapter 4

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter - Property , Plantfor , and Equipment IAS 26 8became effective financial statements of retirement benefit plans in 1988. While IAS 19 has Chapter been revised 9 - I ntangi twice,ble IAS Asset 26 was s never revised by the IASC. It was, however, reformatted in 1994 to

bring it in line with theincurrent IASC practice. arees,noJoint current plans address this topic again. I nterests Financial Instr um ent s,There Associat Ventur es, to and

Chapter 10 -

I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat Sources ed Fin ancial of IASStatements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he IAS 26 Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

ile yTerms I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f DefinitionsWof I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za Actuarial present value of promised retirement benefits John Wi ley & Sons © 2003 (952 pages)

The present value of the expected future payments by a retirement benefit plan to This com pact and t ruly com pr ehensive qui ck - refer ence existing past employees, to the already rendered. pr esentand s account ants with a attributable guide to depend onservice for assistance in the prepar at ion and under standing of financial

Defined benefit plans present ed in accordance with I AS. statements Retirement benefit plans whereby retirement benefits to be paid to plan participants T ab le of Con t en t s are determined by reference to a formula usually based on employees' earnings Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing and/or years of service. Standar ds Preface

Defined contribution plans

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Retirement benefit plans whereby retirement benefits to be paid to plan participants are determined by contributions to a fund together with investment earnings thereon.

Funding

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

The transfer of assets to a separate entity (distinct from the employer's enterprise), the"fund," to meet future obligations for the payment of retirement benefits.

Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contr act s Net assets available for benefits Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

The assets of a retirement benefit plan less its liabilities other than the actuarial present value of promised retirement benefits.

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Participants

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

The members of a retirement benefit plan and others who are entitled to benefits

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he underSheet the plan. Balance Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt

Retirement benefit plans

Chapter 14 - Leases

Formal or informal arrangements based upon which an enterprise provides benefits for its employees on or after termination of service, which are usually referred to as Em ploy ee Benefit s "termination benefits." These could take the form of annual pension payments or Stock holder s' Equit y lump-sum payments. Such benefits, or the employer's contributions towards them, Earnings Per Share should however be determinable or possible of estimation in advance of retirement, I nterim Repor ting from Financial the provisions of a document (i.e., based on a formal arrangement) or from the Segm ent Repor ting enterprise's practices (which is referred to as an informal arrangement).

Chapter 15 - I ncom e Taxes Chapter 16 Chapter 17 Chapter 18 Chapter 19 Chapter 20 -

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Vested Chapter 22 -benefits For eign Curr ency Chapter 23 - RelatedPart y Disclosures Entitlements, the rights to which, under the terms of a retirement benefit plan, are not Chapter 24 - Specialized I ndustr ies conditional on continued employment. Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS and 2 0 03 : Examples I n t erp re t at ion an d Ap p licat io n o f Concepts, Rules, I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

Scope

ISBN:0471227366

IAS 26 should beThis applied in accounting and reporting by retirement benefit plans. The terms of a com pact and t ruly com pr ehensive qui ck - refer ence retirement plan may require that the plan pr esent s account ants withpresent a guidean to annual dependreport; on for in some jurisdictions this may be a statutory requirement. IAS 26 doesprepar not establish mandate for the publication of such reports by assistance in the at ion andaunder standing of financial ed in accordance withbyI AS. retirement plans. statements However, ifpresent such reports are prepared a retirement plan, then the requirements of this standard should be applied to them. T ab le of Con t en t s Wiley I ASregards 20 03—Int er pretationbenefit and Application I nternational IAS 26 a retirement plan as a ofseparate entity,Account distincting from the employer of the plan's Standar ds

participants. It is noteworthy that this standard also applies to retirement benefit plans that have sponsors other than employer (e.g., trade associations or groups of employers). Furthermore, this Chapter 1 - I ntr oduction to I nter national Accounting Standar ds standard deals with accounting and reporting by retirement benefit plans to all participants as a group; Chapter Balance it does 2not-deal with Sheet reports to individual participants with respect to their retirement benefit I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent entitlements. Chapter 3 Preface

of Recognized Gains and Losses

Chapter 4 - Cash Flow the St atsame em entbasis of accounting and reporting to informal retirement benefit The standard applies Chapter 5 - Financial I nstr uments—Cash and Receiv ablesplans. It is also worthy of mention that this arrangements as it applies to formal retirement benefit Chapter 6 applies - I nventor y standard whether or not a separate fund is created and regardless of whether there are

trustees. requirements thisI ncluding standard Constr also apply retirement Chapter 7 The - Rev enue Recognioftion, uctiontoContr act s benefit plans with assets invested with an8insurance company, unless the contract with the insurance company is in the name of a Chapter - Property , Plant , and Equipment specified a group of participants and the responsibility is solely of the insurance company. Chapter 9 participant - I ntangi bleorAsset s Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Defined Contribution Plans

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Retirement Chapter 12 - benefit plans are usually described as being either defined contribution or defined benefit Sheet of Date plans. WhenBalance the quantum the future benefits payable to the retirement benefit plan participants is Chapter 13 - by Financial I nstr uments—LongTer m Debt determined the contributions paid by the participants' employer, the participants, or both, together Chapter 14 Leases with investment earnings thereon, such plans are defined contribution plans. Defined benefit plans, by Chapter 15promise - I ncom certain e Taxesbenefits, often determined by formulae which involve factors such as years of contrast, service16 and- Em salary at thes time of retirement, without regard to whether the plan has sufficient Chapter ploylevel ee Benefit

assets;17 thus the ultimate for payment (which may be guaranteed by an insurance Chapter - Stock holder s' responsibility Equit y company, government or some other entity, depending on local law and custom) remains with the Chapter 18 the - Earnings Per Share employer. rare circumstances, ating retirement benefit plan may contain characteristics of both defined Chapter 19 -InI nterim Financial Repor contribution and defined benefit Chapter 20 - Segm ent Repor ting plans; such a hybrid plan is deemed to be a defined benefit plan for the purposes this standard. Chapter 21 of - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

IAS 26, para 13, requires that the report of a defined contribution plan contain a statement of the net

Chapter - RelatedPart y Disclosures assets 23 available for benefits and a description of the funding policy. In preparing the statement of the Chapter 24 Specialized ndustr ies the guidance contained in IAS 26, para 32 (i.e., that plan investments net assets available for Ibenefits, Chapter - I nflation and value, Hyperinflation should 25 be carried at fair which for marketable securities would be market value) should be Chapter 26 Gov er nm ent Gr an ts followed. In case an estimate of fair value is not possible, disclosure is required of the reason as to why Appendix - Di sclosure fair valueA has not beenChecklist used. As a practical matter, most plan assets will have determinable market Appendix values, since B - I llustrativ the plans' e Financial trustees'Stdischarge atem ent s of Pr esent their fiduciary ed Under responsibilities I AS will generally mandate that

only marketable investments beUS held. Appendix C - Com parison of I AS, GAAP, and UK GAAP I ndex

An example of a statement of net assets available for plan benefits, for a defined contribution plan, is set forth below.

List of Tables

List of Ex hibits and Ex am ples List of Sidebar s

XYZ Defined Contribution Plan Statement of Net Assets Available for Benefits December 31, 2003 (in thousands of US dollars)

Assets Investments at fair value

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

US government securities

by Bar r y J. Epstein and Abbas Ali Mir za US municipal bonds John Wi ley & Sons © 2003 (952 pages)

5,000

ISBN:0471227366

US equityThis securities com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for assistance in the prepar at ion and under standing of financial Non-US equity securities statements present ed in accordance with I AS.

US debt securities

3,000 3,000 3,000 2,000

T ab le of Con t en t s

Wiley I AS Non-US 20 03—Int er pretation and Application of I nternational Account ing corporate bonds Standar ds Preface

Others

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Total investments Sheet

2,000 1,000 19,000

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter Receivables 3 of Recognized Gains and Losses

Amounts from stockbrokers Chapter 4 -due Cash Flow St at em ent on sale of securities Chapter 5 interest - Financial I nstr uments—Cash and Receiv ables Accrued Chapter 6

- I nventor y

Dividends- receivable Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 7 Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Total receivables

Cash

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Total assets Chapter 12 Liabilities

15,000 5,000 2,000 22,000 5,000 46,000

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 -payable Financial I nstr uments—Long- Ter m Debt Accounts Chapter 14 - Leases

Amounts to stockbrokers on purchase of securities Chapter 15 - I ncomdue e Taxes

10,000

Chapter 16 - Em ploy ee Benefit s

11,000

Benefits payable to participants—due and unpaid

Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Total accounts payable Chapter 19 - I nterim Financial Repor ting

Accrued expenses

21,000

Chapter 20 - Segm ent Repor ting

11,000

Chapter 21 - Accounting Changes and Cor rection of Er ror s

32,000

Total liabilities

Chapter 22 - For eign Curr ency

Net assets availablePart fory benefits Chapter 23 - RelatedDisclosures

14,000

Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation

Defined plans. Chapter 26 -benefit Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

When amounts to be paid as retirement benefits are determined by reference to a formula, usually based on employees' earnings and/or years of service, such retirement benefit plans are defined Appendix C - Com parison of I AS, US GAAP, and UK GAAP benefit plans. The key factor is that the benefits are fixed or determinable, without regard to the I ndex adequacy of assets which may have been set aside for payment of the benefits. This contrasts to the List of Tables defined contribution plans approach, which is to provide the workers, upon retirement, with the amounts List of Ex hibits and set Ex am ples plus or minus investment earnings or losses which have been accumulated which have been aside, List of Sidebar s thereon, however great or small that amount may be. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

IAS 26, para 17, requires that the report of a defined benefit plan should contain either 1. A statement that shows a. The net assets available for benefits; b. The actuarial present value of promised retirement benefits, distinguishing between vested and nonvested benefits; and c.

c. The resulting excess or deficit; or

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

available forStbenefits 2. A statement I n tof ernet n at assets ion al Accou n t in g an d ar dsincluding either

ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali a. A note disclosing the actuarial present value of promised retirement benefits, Mir za distinguishing between vested and nonvested benefits; or

John Wi ley & Sons © 2003 (952 pages)

b. A reference This com pact to this and information t ruly com pr inehensive an accompanying qui ck - refer actuarial ence report. pr esent s account ants with a guide to depend on for assistance in the ionmandate, and underthat standing of of financial IAS 26, para 28, recommends, butprepar does atnot in each the three formats described present ed of in aaccordance withor I AS. above, a trustees'statements report in the nature management directors' report and an investment report may also accompany the statements. T ab le of Con t en t s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing The standard does not make it incumbent upon the plan to obtain annual actuarial valuations. If an Standar ds

actuarial valuation has not been prepared on the date of the report, the most recent valuation should be used as the basis for preparing the financial statement. The date of the valuation used should be Chapter 1 - I ntr oduction to I nter national Accounting Standar ds disclosed. Actuarial present values of promised benefits should be based either on current or projected Chapter 2 - Balance Sheet salary levels; whichever basis is used should be disclosed. The effect of any changes in actuarial I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent assumptions Chapter 3 - that had a material impact on the actuarial present value of promised retirement benefits of Recognized Gains and Losses should also be disclosed. The report should explain the relationship between actuarial present values Chapter 4 - Cash Flow St at em ent of promised benefits, the net assets available for benefits and the policy for funding the promised Chapter 5 - Financial I nstr uments—Cash and Receiv ables benefits. Preface

Chapter 6

- I nventor y

Chapter 7 case - Revof enue Recogni tion, I ncluding uction Contr s As in the defined contribution plans,Constr investments of a act defined benefit plan should be carried at fair value, for marketable Chapter 8 which - Property , Plant , and securities, Equipment would be market value (IAS 26, para 32). Chapter 9

- I ntangi ble Asset s

The following are examples of the alternative types of reports prescribed for a defined benefit plan: I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

Chapter 10 -

I nvestm ent Pr oper ty

Chapter 11 - Business and Consolidat ed FinAvailable ancial Statements ABC Defined BenefitCombinations Plan Statement of Net Assets for Benefits, Actuarial Present Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Value of Accumulated Retirement Benefits and Plan Excess or Deficit December 31, 2003 (in Chapter 12 Balance Sheet Date thousands of US dollars) Chapter 13 - Financial I nstr uments—Long- Ter m Debt

1.

Statement of Net Assets Available for Benefits

Chapter 14 - Leases

Chapter 15 - I ncom e Taxes Assets Chapter 16 - Em ploy ee Benefit s

Investments at fair value Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

US government securities Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

US municipal bonds Chapter 21 - Accounting Changes and Cor rection of Er ror s

50,000 30,000

Chapter 22 - For eign Curr ency

30,000

Chapter 24 - Specialized I ndustr ies

30,000

US equity Chapter 23 - RelatedPart securities y Disclosures Non-US equity securities

Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

US debt securities

20,000

Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Non-US corporate bonds

20,000

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables

Others

List of Ex hibits and Ex am ples List of Sidebar s

10,000 190,000

Total investments

Receivables Amounts due from stockbrokers on sale of securities Accrued interest Dividends receivable

150,000 50,000 20,000

220,000 Total receivables W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Cash

by Bar r y J. Epstein and Abbas Ali Mir za assets Total John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

50,000 460,000

Liabilities This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

Accountsassistance payable in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

Amounts due to stockbrokers on purchase of securities

100,000

T ab le of Con t en t s

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Benefits payable to participants-due and unpaid Standar ds

110,000

Preface

210,000

Chapter 1

Total accounts payable - I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet Accrued expenses

Chapter 3

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Chapter 4

- Cash Flow StTotal at em ent liabilities

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6 Chapter 7

- I nventor y Net assets available for benefits - Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

2.

110,000 320,000 140,000

Actuarial present value of accumulated plan benefits

Chapter 9Vested - I ntangi ble Asset s benefits I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 Nonvested I nvestmbenefits ent Pr oper ty Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

100,000 20,000 120,000

Curr entTotal Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

3. 13 Excess of netI nstr assets available for Chapter - Financial uments—LongTerbenefits m Debt over actuarial present value of

20,000

accumulated plan benefits Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s

ABC Defined Benefit Statement of Changes in Net Assets Available for Benefits Chapter 17 - Stock holderPlan s' Equit y December 2003 (in of US dollars) Chapter 18 - 31, Earnings Per thousands Share Chapter 19 - I income nterim Financial Repor ting Investment Chapter 20 - Segm ent Repor ting

Interest incomeChanges and Cor rection of Er ror s Chapter 21 - Accounting

40,000

Chapter 22 - For eign Curr ency

10,000

Dividend income

Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Net appreciation (unrealized gain) in fair value of investments Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an tsincome Total investment

10,000 60,000

Appendix A - Di sclosure Checklist

Plan contributions

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix Employer C - Com parison of I AS, US GAAP, and UK GAAP contributions I ndex

Employee contributions List of Tables List of Ex hibits and Ex am ples

List of Sidebar sTotal plan contributions

Total additions to net asset value

50,000 50.000 100,000 160,000

Plan benefit payments Pensions (annual)

30,000

Lump sum payments on retirement

30,000

Severance pay

10,000

15,000

Commutation of superannuation benefits W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f

Total plan benefit payments I n t er n at ion al Accou n t in g St an d ar ds Total deductionsbyfrom Bar rnet y J.asset Epstein value and Abbas Ali

ISBN:0471227366

Mir za Net increase in asset value John Wi ley & Sons © 2003 (952 pages)

85,000 85,000 75,000

Net assets available for benefits This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

Beginningassistance of year in the prepar at ion and under standing of financial statements present ed in accordance with I AS.

End of year

65,000 140,000

T ab le of Con t en t s

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

Additional Disclosures

Preface

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds IAS 26,2para 34, requires Chapter - Balance Sheet that the reports of a retirement benefit plan, both defined benefit plans and

defined contribution plans, should also contain the following information: I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent

Chapter 3

-

of Recognized Gainsinand 1. A statement of changes netLosses assets available for benefits;

Chapter 4

- Cash Flow St at em ent 2. A of Isignificant accounting and Chapter 5 summary - Financial nstr uments—Cash and policies; Receiv ables Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

3. A description of the plan and the effect of any changes in the plan during the period.

Chapter 8 - Property , Plant and Equipment In accordance with IAS 26,, para 35, reports provided by retirement benefits plans may include the Chapter following, 9 if- applicable: I ntangi ble Asset s I nterestsofinnet Financial um entfor s, Associat Joint Ventur es, and assets Instr available benefitses, disclosing 1. A Chapter 10statement I nvestm ent Pr oper ty

Assets Combinations at the end of the suitably classified; Chapter 11 a. - Business and period Consolidat ed Fin ancial Statements

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 b. - The basis of valuation of assets; Balance Sheet Date Chapter 13 -c.Financial nstr uments—LongTer m Debt Details Iof any single investment exceeding either 5% of the net assets available for Chapter 14 - Leases benefits or 5% of any class or type of security; Chapter 15 - I ncom e Taxes

any investment in the employer; and Chapter 16 d. - EmDetails ploy eeof Benefit s Chapter 17 - Stock holder s' Equit y

e. Liabilities other than the actuarial present value of promised retirement benefits;

Chapter 18 - Earnings Per Share

Chapter 19statement - I nterim of Financial Repor tingassets available for benefits showing the following: 2. A changes in net Chapter 20 - Segm ent Repor ting

a. Employer contributions;

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 b. - For Employee eign Curr ency contributions; Chapter 23 - Related- Part y Disclosures

c. Investment income such as interest and dividends;

Chapter 24 - Specialized I ndustr ies

Chapter 25 d. - I nflation and Hyperinflation Other income; Chapter 26 - Gov er nm ent Gr an ts

paid or payable (analyzed, for example, as retirement, death and disability Appendix A e. - Di Benefits sclosure Checklist benefits, and lump-sum Appendix B - I llustrativ e Financial St atempayments); ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex

f. Administrative expenses;

List of Tables g. Other expenses; List of Ex hibits and Ex am ples

h. s Taxes on income; List of Sidebar i. Profits and losses on disposal of investments and changes in value of investments; and j. Transfers from and to other plans; 3. A description of the funding policy; 4. For defined benefit plans, the actuarial present value of promised retirement benefits (which may distinguish between vested benefits and nonvested benefits) based on the benefits promised

under the terms of the plan, on service rendered to date and using either current salary levels or projected salary levels. This information may be included in an accompanying actuarial report to be read inW conjunction with information; ile y I AS 2 0 03 :the I n trelated erp re t at ion an d Apand p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

5. For defined benefit plans, a description of the significantISBN:0471227366 actuarial assumptions made and the by Bar r y J. Epstein and Abbas Ali method used to calculate the actuarial present value of promised retirement benefits. Mir za John Wi ley & Sons © 2003 (952 pages)

According to IAS 26, para 36, since the report of a retirement benefit plan contains a description of the This com pact and t ruly com pr ehensive qui ck - refer ence plan, either as part of the financial information or in a separate report, it may contain the following: pr esent s account ants with a guide to depend on for

in the prepar ionemployee and undergroups standing of financial 1. The namesassistance of the employers and at the covered; statements present ed in accordance with I AS.

2. The number of participants receiving benefits and the number of other participants, classified as T ab le of Con t en t s appropriate; Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar 3. ds The type of plan—defined contribution or defined benefit; Preface

4. A asoduction to whether participants contribute to the plan; Chapter 1 note - I ntr to I nter national Accounting Standar ds Chapter 2

- Balance Sheet

Chapter 3

-

5. A description of the retirement benefits promised to participants;

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

6. A description of any plan termination terms; and

Chapter 4

- Cash Flow St at em ent

Chapter 5 - Financial I nstr1. uments—Cash and Receiv ables covered by the report. 7. Changes in items through 6. during the period Chapter 6 - I nventor y

Furthermore, it is not Recogni uncommon refer to Constr other documents Chapter 7 - Rev enue tion, to I ncluding uction Contrthat act s are readily available to users and in which the is described, andEquipment to include only information on subsequent changes in the report. Chapter 8 plan - Property , Plant , and Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

AgricultureW ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Mir za John Wi ley & Sons © 2003 (952 pages)

ISBN:0471227366

Perspective and Issues

This com pact and existence, t ruly com prthe ehensive qui ckbeen - referfocused ence Over most of its twenty-eight-year IASC has on the task of developing or pr esent s account ants with a guide to depend on for endorsing existing standards which are pertinent to general-purpose financial reporting. In the more assistance in the prepar at ion and under standing of financial recent of these years, completion ofed theincore set of standards, statements present accordance with I AS. which too was oriented toward generalpurpose financial statement needs, has been of paramount importance. The special needs of individual T ab le of Conhave, t en t sof necessity, received very little attention. industries Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar Havingdsessentially completed that task of producing this core set of standards, and having received Preface endorsements from the European Commission and, with some caveats, from IOSCO, and having Chapter 1 - I ntr oduction toitsI nter national to Accounting Standar ds from key standard-setting bodies successfully restructured operations gain further support Chapter (particularly 2 - Balance the US'sSheet FASB), the IASC is now turning greater attention to the financial reporting needs

of specialized industries. Apart from banking (which beeny,subject to expanded disclosure rules for I ncom e Statement, Stat em ent of Chan geshas in Equit and Statem ent of and Recognized Gains and Losses several years has been addressed earlier in this chapter), specialized industries have received Chapter Cash Flow St at em ent virtually4 no- previous attention from the IASC. This is now changing, with a major project on agriculture Chapter having 5culminated - Financial in Ianstr new uments—Cash standard (IAS and 41), Receiv and ables with new projects on insurance and the extractive industries Chapter 6 in - I various nventor ystages of completion. Chapter 3

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Agriculture, the first industry to be given a comprehensive financial reporting model (banking was given - Property , Plant , and Equipment only expanded disclosure rules), has received a great deal of attention from IASC. A draft statement of Chapter 9 - I ntangi ble Asset s position was issued about five years ago, marking the first real attention paid to one of the world's most I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 -economic activities by any of the world's accounting rule-making bodies. For developing prominent I nvestm ent Pr oper ty nations, agriculture is indeed disproportionately significant, and given the IASC's role in establishing Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements financial reporting standards for those nations, the focus on agriculture was perhaps to be expected. Chapter 8

Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

IAS 41, Agriculture, has the distinction of being the final standard approved by the former IASC before Chapter 13 - Financial I nstr uments—Long- Ter m Debt the restructuring approved in 2000 became effective, with a newly constituted International Accounting Chapter 14 -Board Leases(IASB) taking over as the rule-making body of the IASC. IAS 41 becomes effective for Standards Chapter 15 I ncom e Taxes financial statements covering periods beginning on or after 1 January 2003. Chapter 16 - Em ploy ee Benefit s

IAS 41 17 is significant because Chapter - Stock holder s' Equititywill effect major change in the financial reporting for a highly significant economic andPer furthermore because it represents perhaps the most comprehensive break with Chapter 18 sector, - Earnings Share historical accounting made to ting date. In some ways, IAS 41 is even more significant than the Chapter 19 cost - I nterim Financial Repor

standards the past Chapter 20 -which Segmover ent Repor ting several years have departed from the historical cost convention for

purposes of reporting changes in values of financial instruments. Fair values for agricultural products, unlike for most financial instruments, are not immediately obtainable (e.g., from quotation bureaus).

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

Chapter 23standard - Relatedy Disclosures The new isPart explained in detail in the following pages. Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist

Sources of IAS IAS 41

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

ile yTerms I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f DefinitionsWof I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Active marketMir za

John Wi ley & Sons © 2003 (952 pages)

Market for which all these conditions exist: the items traded within the market are This com pact and t ruly com pr ehensive qui ck - refer ence homogeneous; willing sellers can normally be found at any time; and pr esent s account antsbuyers with a and guide to depend on for prices are available to theatpublic. assistance in the prepar ion and under standing of financial statements present ed in accordance with I AS.

Agricultural activity T ab le of Con t en t s

Managed biological transformation of biological assets into agricultural produce for

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing sale, consumption, further processing, or into other biological assets. Standar ds Preface

Agricultural land

Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Land used directly to support and sustain biological assets in agricultural activity; the land itself is not a biological asset, however.

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

Agricultural produce

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

The harvested product of the enterprise's biological assets awaiting sale, processing, or consumption.

Chapter 7 biological - Rev enue Recogni Bearer assets tion, I ncluding Constr uction Contr act s Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Those which bear agricultural produce for harvest. The biological assets themselves are not the primary agricultural produce, but rather are self-regenerating (such as I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 sheep raised for wool production; fruit trees). I nvestm ent Pr oper ty

Chapter 11 - Business Biological assets Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he LivingSheet plants and animals controlled by the enterprise as a result of past events. Balance Date

Control may he through ownership or through another type of legal arrangement.

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases

Biological transformation

Chapter 15 - I ncom e Taxes

The processes of growth, degeneration, production and procreation, which cause qualitative and quantitative changes in living organisms and the generation of new Chapter 17 - Stock holder s' Equit y assets in the form of agricultural produce or additional biological assets of the same Chapter 18 - Earnings Per Share class. Chapter 16 - Em ploy ee Benefit s

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Carrying amount Chapter 21 - Accounting Cor rection of Er ror s in the balance sheet after deducting any Amount Changes at which and an asset is recognized Chapter 22 - For accumulated eign Curr ency depreciation or amortization and accumulated impairment losses Chapter 23 - RelatedPart y Disclosures thereon. Chapter 24 - Specialized I ndustr ies

Consumable biological assets Chapter 25 - I nflation and Hyperinflation Chapter 26 - GovThose er nm ent which Gr anare ts to be harvested as the primary agricultural produce, such as

livestock intended for meat production, annual crops, and trees to be felled for pulp. Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

Fair value

Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables

The amount for which an asset could be exchanged or a liability settled between knowledgeable, willing parties in an arm's-length transaction.

List of Ex hibits and Ex am ples

Group of biological assets

List of Sidebar s

A herd, flock, etc., that is managed jointly to ensure that the group is sustainable on an ongoing basis, and is homogeneous as to both type of animal or plant and activity for which the group is deployed.

Harvest The detachment of agricultural produce from the biological asset, the removal of a living plant from agricultural land for sale and replanting, or the cessation of a biological asset's life processes.

Immature biological assets Those that are not yet harvestable or able to sustain regular harvests. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

Mature biological assets

by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Those Mir zawhich are harvestable or able to sustain regular harvest. Consumable biological assets are©mature when they have attained harvestable specifications; John Wi ley & Sons 2003 (952 pages) bearer biological assets are mature when they are able to sustain regular harvests. This com pact and t ruly com pr ehensive qui ck - refer ence pr esent s account ants with a guide to depend on for

Net realizableassistance value in the prepar at ion and under standing of financial statements present ed in in the accordance I AS.of business, less the estimated costs of Estimated selling price ordinary with course and the estimated costs necessary to make the sale. T ab le of Con t en tcompletion s Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds

Chapter 2

- Balance Sheet

Chapter 3

-

Chapter 4

- Cash Flow St at em ent

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

Chapter 6

- I nventor y

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Chapter 8

- Property , Plant , and Equipment

Chapter 9

- I ntangi ble Asset s

Chapter 10 -

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and I nvestm ent Pr oper ty

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements Chapter 12 -

Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Balance Sheet Date

Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 14 - Leases Chapter 15 - I ncom e Taxes Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS and 2 0 03 : Examples I n t erp re t at ion an d Ap p licat io n o f Concepts, Rules, I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali

Background Mir za

ISBN:0471227366

John Wi ley & Sons © 2003 (952 pages)

Historically, agricultural activities received scant, if any, attention from the world's accounting standard This com pact and t ruly com pr ehensive qui ck - refer ence setters. This mayprhave been due to thewith factathat thetomajor national esent s account ants guide depend on for and international accounting standard setters have been in those of the at US UK,standing whose economies assistance the prepar ionand andthe under of financial are far less dependent statements present in accordance with I AS. of the world. The IASC, in seeking to upon agriculture than those of manyed lesser-developed nations become the world's preeminent accounting standard setter, has until very recently had its greatest T ab le of Con t en t s impact on the financial reporting standards of the developing nations, many of which have adopted IAS Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing as a whole, and many more of which have based their respective national standards on the IAS. Standar ds Perhaps because of the IASC's sensitivity to this constituency, its agriculture project, begun some five Preface years ago, received a good deal of serious attention. The culmination of this lengthy project, the newly Chapter 1 - I ntr oduction to I nter national Accounting Standar ds issued standard IAS 41, is by far the most comprehensive addressing of this financial reporting topic Chapter 2 - Balance Sheet ever undertaken. Chapter 3

-

I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent of Recognized Gains and Losses

The earlier exclusion of agriculture from most established accounting and financial reporting rules can Chapter 4 - Cash Flow St at em ent best be understood in the context of certain unique features of the industry. These include biological Chapter 5 - Financial I nstrprocreation, uments—Cash and Receiv ables transformations (growth, production, degeneration) which alter the very substance of the Chapter 6 I nventor y biological assets; the wide variety of characteristics of the living assets which challenge traditional Chapter 7 - Rev enue Recogni tion, I ncluding Constr uction Contrin actthe s industry; and the predominance of classification schemes; the nature of management functions Chapter 8 Property , Plant , and Equipment small, closely held ownership. On the other hand, since in many nations agriculture is a major industry, Chapter - I ntangi ble Assetfor s over 50% of gross national product, logic would suggest that in some9 cases accounting comprehensive I nterests systems in Financial of financial Instrreporting um ent s, for Associat business es, Joint enterprises Ventur es, cannot and be deemed complete Chapter 10 I nvestm ent Pr ty while excluding so large aoper segment of the economy. Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

In the past, the lack urgency dealing with this been Currgeneral ent Liabilit ies,ofProv isions,inCont ingencies, andsubject Ev entshas after t he abetted by the fact that much of agriculture controlled Balance is Sheet Date by closely held or family held businesses, with few, if any, outside owners13 who might have demanded formal Chapter - Financial I nstr uments—LongTerfinancial m Debt statements prepared in accordance with agreedupon accounting principles. Also, grantors of farm credit have historically looked to the character of the Chapter 14 - Leases borrower, resident with deep roots in the community, rather than to financial Chapter 15 usually - I ncomae longtime Taxes statements. While of these factors continue to be valid, the IASC concluded that the time had Chapter 16 - Em ploysome ee Benefit s long since arrived to give financial reporting concerns their due attention. Chapter 17 - Stock holder s' Equit y Chapter 12 -

Chapter 18 - Earnings Per Share

In the realm of previously established international accounting standards, most of the rules which

Chapter - I nterim Repor ting logically19could have Financial addressed agricultural issues (IAS 2 on inventories; IAS 16 on plant, property, and Chapter 20 - and Segm ent 18 Repor ting equipment; IAS on revenue recognition) deliberately excluded most or all agriculture-related Chapter 21 - Accounting andfinancial Cor rection of Er ror s for agriculture-related enterprises would have applications. A review ofChanges published statements Chapter 22the - For eign Curr ency of this neglect: a wide range of methods and principles have been applied revealed consequences Chapter - Related- as Partforest y Disclosures to such23 businesses products, livestock, and grain production. Chapter 24 - Specialized I ndustr ies

For example, some forest products companies have accounted for timberlands at original cost, Chapter 25 - I nflation and Hyperinflation

charging depreciation only to the extent of net harvesting, with reforestation costs charged to expense as incurred. Others in the same industry capitalized reforestation costs and even carrying costs, and Appendix A - Di sclosure Checklist charged depletion on a units-of-production basis. Still others have been valuing forest lands at the net Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS present value of expected future cash flows. This wide disparity obviously has impaired users' ability to Appendix C - Com parison of I AS, US GAAP, and UK GAAP gauge the relative performance of enterprises operating within a single industry group, hindering I ndex investment and other decision making by them. Chapter 26 - Gov er nm ent Gr an ts

List of Tables List Ex hibits andthe Ex am plesconcluded in the mid-1990s that excluding agriculture from the scope of IAS Forofthis reason, IASC

was longer List of no Sidebar s appropriate. At the same time, it also accepted the need for a relatively simple, uniform, and coherent set of principles applicable to this industry grouping because of the preponderance of small, less sophisticated businesses. The IASC concluded that extending certain modifications to the historical cost model, which had already been applied by existing IAS (e.g., to plant and equipment and to investments), offered the best solution to this problem. The new standard will apply only to biological assets, as those are the aspects of agriculture which have unique characteristics; the accounting for assets such as inventories and plant and equipment will be guided by such existing standards as IAS 2 and 16. In other words, once the biological transformation process is complete (e.g., when grain is harvested, animals are slaughtered, or trees are cut down), the specialized accounting principles

imposed on agriculture will cease to apply. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Defining Agriculture I n t er n at ion al Accou n t in g St an d ar ds

ISBN:0471227366 by defined Bar r y J. as Epstein and Abbas Ali Agriculture is to be essentially the management of the biological transformation of plants Mir za and animals to yield produce for consumption or further processing. The term agriculture encompass John Wi ley & Sons © 2003cropping, (952 pages)orchards, plantations, and aquiculture. Agriculture is livestock, forestry, annual and perennial This com pact and t ruly com ehensive qui - refer ence distinguished from "pure exploitation," whereprresources arecksimply removed from the environment (e.g., pr esent s account ants with a guide to depend on for by fishing or deforestation) without management initiatives such as operation of hatcheries, assistance in the prepar at ion and under standing of financial reforestation, or other attempts to manage their regeneration. statements present ed in accordance with I AS. IAS 41 does not apply to pure exploitation activities, nor does it apply to agricultural produce, which is harvested and is thus a T ab le of Con t en t s of the biological assets. The standard furthermore does not govern accounting for nonliving product Wiley I AS 20 produce 03—Int erwhich pretation and Application of I nternational Account ing in integrated agribusiness agriculture is incorporated in further processing, as occurs Standar ds enterprises that involve activities which are not unique to agriculture.

Preface

IAS 41 1sets- Iforth a three-part test or set Accounting of criteria for agricultural activities. First, the plants or animals Chapter ntr oduction to I nter national Standar ds which are object Sheet of the activities must be alive and capable of transformation. Second, the change Chapter 2 the - Balance must be managed, implies a range (e.g., fertilizing the soil I ncom e which Statement, Stat em ent of of activities Chan ges in Equit y, and Statem entand weeding in the case of crop growing; feeding and providing health care in the instance of animal husbandry; etc.). Third, of Recognized Gains and Losses there must a basis of change, such as the ripeness of vegetables, the weight Chapter 4 - be Cash Flow for St atthe em measurement ent of animals, of trees, and so forth. If these Chapter 5 - circumference Financial I nstr uments—Cash and Receiv ables three criteria are all satisfied, the activity will be impacted by the financial reporting requirements imposed by IAS 41. Chapter 6 - I nventor y Chapter 3

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Biological assets are the principal assets of agricultural activities, and they are held for their - Property , Plant , and Equipment transformative potential. This results in two major types of outcomes: the first may involve asset Chapter 9 ntangi ble Asset sor quality improvement; degeneration; or procreation. The second involves changes as- Ithrough growth I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and the creation Chapter 10 - of separable products initially qualifying as agricultural produce. The management of the I nvestm ent Pr oper ty biological transformation process is the distinguishing characteristic of agricultural activities. Chapter 8

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Curr ent ies, Provassets isions, Cont ingencies, activities, and Ev ents after t heare held for their Biological areLiabilit the principal of agricultural and they Chapter 12 assets Balance SheetThis Date transformative potential. results in two major types of outcomes: the first may involve asset Chapter 13 - Financial uments—LongTer m Debt changes—as throughI nstr growth or quality improvement, degeneration, or procreation. The second Chapter 14 Leases involves the creation of separable products initially qualifying as agricultural produce. The management Chapter 15 - I ncom e Taxes of the biological transformation process is the distinguishing characteristic of agricultural activities. Chapter 16 - Em ploy ee Benefit s

Biological often are managed in groups, as exemplified by herds of animals, groves of trees, Chapter 17 assets - Stock holder s' Equit y

and fields of crops. To be considered a group, however, the components must be homogeneous in nature and there must further be homogeneity in the activity for which the group is deployed. For Chapter 19 - I nterim Financial Repor ting example, cherry trees maintained for their production of fruit are not in the same group as cherry trees Chapter 20 - Segm ent Repor ting grown for lumber. Chapter 18 - Earnings Per Share

Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter - For eign Curr ency IAS 41 22 applies to forests and similar regenerative resources excluded from IAS 16; producers' Chapter 23 - of RelatedPart yagriculture, Disclosuresand forest products, including those excluded from IAS 2, to the inventories livestock, extent they to be measured at net realizable value; and natural increases in herds and agricultural Chapter 24 - are Specialized I ndustr ies

and forest from IAS 18. It also addresses financial statement presentation and Chapter 25 -products I nflation excluded and Hyperinflation disclosure Chapter 26 -(the Govprimary er nm entprovince Gr an ts of IAS 1 revised). Furthermore, it establishes that, unless explicit exclusions provided, all international accounting standards are meant to apply equally to Appendix A - are Di sclosure Checklist agriculture. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP

Basic Principles of IAS 41: Fair Value Accounting Is Necessary

I ndex

List of Tables

IASof41 to all enterprises which undertake agricultural activities. Animals or plants are to be List Ex applies hibits and Ex am ples

recognized List of Sidebaras s assets when it is probable that the future economic benefits associated with the asset

will flow to the reporting entity, and when the cost or value to the enterprise can be measured reliably. There is a strong presumption that any enterprise entering into agricultural activities on a for-profit basis will have an ability to measure cost and/or fair value. The new standard also governs the initial measurement of agricultural produce, which is the end product of the biological transformation process; it furthermore guides the accounting for government grants pertaining to agricultural assets. The most important feature of the new standard is the requirement that biological assets are to be measured at each balance sheet date at their respective fair values. This departure from historical cost

is the most significant facet of IAS 41, and is one which has generated a good deal of debate during the drafting and exposure draft stages. The imperative to deploy fair value accounting springs from the fact that there areWlong fort at many crops extreme ile y production I AS 2 0 03 : periods I n t erp re ion an d Ap(an p licat io n o f being forests under management for as long as thirty years before being harvested) and, even more typically, for livestock. I n t er n at ion al Accou n t in g St an d ar ds In the absence ofby fairBar value accounting with changes in value being reported ISBN:0471227366 in operating results, the r y J. Epstein and Abbas Ali entire earnings ofMir a long-term za production process might only be reported at lengthy intervals, which would not faithfully John represent Wi ley &the Sons underlying © 2003 (952economic pages) activities being carried out. This is entirely analogous to long-term construction projects, which qui percentage-of-completion accounting is This com pact and t ruly com pr for ehensive ck - refer ence pr esent account ants reasons. with a guide to depend on for commonly prescribed, fors very similar assistance in the prepar at ion and under standing of financial statements present ed revenue in accordance I AS. Historical cost based accounting, with to be with recognized only upon ultimate sale of the assets, would often result in a gross distortion of reported results of operations, with little or no earnings being T ab le of Con t en t s reflected in some periods, or even losses being reported to the extent that production expenses are not Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing inventoried. Other periods—when trees are harvested, for example—would reflect substantial reported Standar ds profits. Thus, the use of historical costs based on completed transactions is no longer deemed Preface meaningful in the case of agricultural activities. Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Chapter 2 are - Balance Sheet distortions seen as being misleading, but it also has been concluded that Not only such periodic I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent each stage Chapter 3 - of the biological transformation process has significance. Each stage (growth, of Recognized Gains and Losses

degeneration, procreation, and production) is now seen as contributing to the expected economic Cash Flow St at em ent benefits to-be derived from the biological assets. Unless a fair value model were employed for financial Chapter 5 Financial and Receiv ables reporting, there wouldI nstr be auments—Cash lack of explicit recognition (in effect, no matching) of the benefits associated Chapter 6 I nventor y with each of these discrete events. Furthermore, this recognition underlines the need to apply the same Chapter 7 - Rev enue Recogni tion, I ncluding uction Contr act s measurement concept to each stage in the Constr life cycle of the biological assets; for example, for live Chapter 8 Property , Plant , and Equipment weight change, fleece weight change, aging, deaths, lambs born, and wool shorn, in the case of a flock Chapter 9 - I ntangi ble Asset s of sheep. Chapter 4

Chapter 10 -

I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and

The obviousI nvestm argument ent in Prfavor oper tyof historical cost based measures derives from the superior reliability of that mode measurement. With completed transactions, there is no imprecision due to the inherently Chapter 11 -ofBusiness Combinations and Consolidat ed Fin ancial Statements subjective process of making or obtaining fair value assessments. contrast, superior relevance is Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev entsBy after t he Chapter 12 the strongest argument forDate current value measurement schemes. The IASC evaluated various Balance Sheet measures, cost and netTer realizable Chapter 13 - including Financial current I nstr uments—Longm Debt value, as well as market value, as alternatives to historical but ultimately identified fair value (ironically, the one approach not addressed in the Chapter 14 cost, - Leases IASC's 15 seminal document, Chapter - I ncom e Taxes the Framework for the Preparation and Presentation of Financial Statements) asploy having the best Chapter 16 - Em ee Benefit s combination of attributes for the determination of agriculture-related earnings. The IASC was particularly influenced by the market context in which agriculture takes place Chapter 17 - Stock holder s' Equit y and the transformative characteristics of biological assets, and it concluded that fair value would offer Chapter 18 - Earnings Per Share the best balance of relevance, reliability, comparability, and understandability. Chapter 19 - I nterim Financial Repor ting

Chapter 20 -also Segm ent Reporthat ting annual determinations of fair value would be necessary to properly The IASC concluded Chapter Accountingimpact Changes and Cor rection of Er ror s portray 21 the- combined of nature and financial transactions for any given reporting period. Less Chapter 22measurements - For eign Curr ency frequent were rejected because of the continuous nature of biological transformations, Chapter RelatedPart y Disclosures the lack23of -direct correlation between financial transactions and the different outcomes arising from Chapter 24 transformation - Specialized I ndustr biological (thus,ies the former could not serve as surrogate indicators of the latter during off

periods), volatilities often characterize natural and market environments affecting agriculture, Chapter 25the - I nflation andwhich Hyperinflation and the26 fact thatermarket-based Chapter - Gov nm ent Gr an ts measures are in fact readily available. Appendix A - Di sclosure Checklist

The idea of maintaining historical cost as an allowed alternative was rejected, essentially because historical cost is not viewed as meaningful in the context of biological assets, but also due to concerns Appendix C - Com parison of I AS, US GAAP, and UK GAAP about the extreme lack of comparability that would result from permitting two so disparate I ndex methodologies to coexist. Notwithstanding the fact that historical cost is rejected as being meaningful in List Tables the IASC agreed that an exception should exist for those circumstances when fair value thisofcontext, List of Ex be hibits and Ex am ples In such instances, historical costs will continue to be employed instead. cannot reliably estimated. Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

List of Sidebar s

Determining Fair Values The primary determinant of fair value is market value, just as it is for financial instruments having active markets (as defined in IAS 32, discussed at length in Chapter 5). The required use of "farm gate" market prices will reflect both the "as is" and "where is" attributes of the biological assets. That is, the value is meant to pertain to the assets as they exist, where they are located, in the condition they are in as of the measurement (balance sheet) date. They are not hypothetical values, as for instance hogs

when delivered to the slaughterhouse. Where these "farm gate" prices are not available, market values will have to be reduced by transaction costs, including transport, to arrive at net market values which would equate to fair values byre IAS W ile y I ASas 2 0intended 03 : I n t erp t at 41. ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

In the case of products for which market values might not be readily available, other approaches to fair ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali value determination will have to be employed. This is most likely to become an issue where market Mir za values exist but, due imperfections, are not deemed to be useful. For example, when access JohntoWimarket ley & Sons © 2003 (952 pages) to markets is restricted or unduly influenced by temporary monopoly or monopsony conditions, or when This com pact and t ruly com pr ehensive qui ck - refer ence no market actually exists as of the balance sheet alternative pr esent s account ants with a guidedate, to depend on formeasures will be called for. In such circumstances, it assistance might be necessary to at refer indicators the most recent market prices for in the prepar ion to andsuch under standing as of financial presentprices ed in accordance with I AS. the class of assetstatements at issue, market for similar assets (e.g., different varieties of the same crop), sector benchmarks (e.g., relating value of a dairy farm to the kilograms of milk solids or fat produced), T ab le of Con t en t s net present value of expected future cash flows discounted at a risk-class rate, or net realizable values Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing for short-cycle products for which most growth has already occurred. Last and probably least useful Standar ds would be historical costs, which might be particularly suited to biological assets which have thus far Preface experienced little transformation. Chapter 1 - I ntr oduction to I nter national Accounting Standar ds Chapter 2 - Balance Sheet One practical problem arises when an indirect method of valuation implicitly values both the crop and I ncom e Statement, em ent IAS of Chan ges in Equit y, such and Statem ent must be allocated to the the land itself, taken together asStat a whole. 41 indicates that valuations Chapter 3 of Recognized Gains and Losses

different assets, to give a better indication of the future economic benefits each will confer. If a - Cash Flow St at em ent combined market price, for example, can be obtained for the land plus the immature growing crops Chapter 5 - Financial uments—Cash situated thereon, andI nstr a quotation for theand landReceiv aloneables can also be obtained, this will permit a fair value Chapter 6 I nventor y assessment of the immature growing crops (while the land itself will generally be presented on the Chapter - Revat enue I ncluding uction Contrtechnique act s balance7 sheet cost,Recogni not fairtion, value, under Constr IAS 16). Another would involve the subdivision of Chapter 8 Property , Plant , and Equipment the assets into classes based on age, quality, or other traits, and the valuation of each subgroup by Chapter 9 to - I market ntangi ble Asset sWhile these methods may involve added effort, IAS 41 concludes that the reference prices. usefulness of the resulting financial statements will be es, materially enhanced I nterests in Financial Instr um ent s, Associat Joint Ventur es, andif this is done. Chapter 10 Chapter 4

I nvestm ent Pr oper ty Increases fair valueCombinations due to the growth of the biological asset is only one-half of the accounting Chapter 11 in - Business and Consolidat ed Fin ancial Statements

equation, of Curr course, since ies, there willisions, normally been and costEv inputs incurred ent Liabilit Prov Conthave ingencies, ents after t he to foster the growth (e.g., Sheet Datefields, etc.). Under the provisions of IAS 41, costs of producing and applications Balance of fertilizer to the harvesting are to be charged to expense as incurred. This is necessary, since if costs Chapter 13 -biological Financial assets I nstr uments—LongTer m Debt were added to the assets' carrying value (analogous to interest on borrowings in connection with longChapter 14 - Leases term construction Chapter 15 - I ncom projects) e Taxes and the assets were then also adjusted to fair value, there would be risk of double-counting cost values increases. As mandated, however, value increases due to either price Chapter 16 - Em ploy ee or Benefit changes or growth, or both, willy be taken into current income, where costs of production will be Chapter 17 - Stock holder s' Equit appropriately matched against them, resulting in a meaningful measure of the net result of periodic Chapter 18 - Earnings Per Share operations. Chapter 12 -

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

Recognition of Changes in Biological Assets

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency

When the IASC's agriculture project was undertaken, the presumption was that changes resulting from fluctuations in fair value were generically distinct from physical changes due to growth and other natural Chapter 24 - Specialized I ndustr ies phenomena. Accordingly, the 1996 DSOP proposed that the change in carrying amounts for a group of Chapter 25 - I nflation and Hyperinflation biological assets would be so allocated. The original intent was to have the former, which corresponds Chapter 26 - Gov er nm ent Gr an ts to revaluations of plant and equipment assets under the alternative treatment permitted by IAS 16, Appendix - Di sclosure Checklist reportedAdirectly in equity, while the latter would be included in current period operating results. Appendix B I llustrativ e Financial St atem entwas s Pr esent ed Undersound, I AS the practical difficulties of allocating However, even if this bifurcation strategy conceptually Appendix C Com parison of I AS, US GAAP, and UK GAAP such value changes soon became obvious. Chapter 23 - Related- Part y Disclosures

I ndex

By of theTables time the Exposure Draft, E65, was issued, the IASC's position had shifted to the inclusion of List both value List of of Ex these hibits and Exchanges am ples in current period results of operations. The draft did urge separate disclosure ofsthe fair value changes and the effects of growth, either on the face of the income List of Sidebar

statement or in the notes thereto; this was not to be made an actual requirement. The final standard, IAS 41, has dropped this suggestion entirely, probably because it would have proven to be unpopular and therefore rarely complied with. The actual recognition and measurement requirements of IAS 41 are as follows: 1. Biological assets are to be measured at their fair value, less estimated point-of-sale costs, except where fair value cannot be measured reliably. In the latter instance, historical cost is to be used.

2. Agricultural produce harvested from an enterprise's biological assets should be measured at fair value less estimated point-of-sale costs at the point of harvest. That amount effectively becomes W ile ytoI which AS 2 0 further 03 : I n tprocessing erp re t at ioncosts an d may Ap p licat io n o f as the conditions warrant, with the cost basis, be added, t er n at ionguided al Accou t in g2,StInventories, an d ar ds accountingI nthereafter bynIAS or other applicable standard. by Bar r y J. Epstein and Abbas Ali

ISBN:0471227366

Mir za is that fair value can be measured reliably for a biological asset. That 3. The presumption John Wibe ley rebutted, & Sons © only 2003 (952 pages) presumption can at the time of initial recognition, for a biological asset for which market-determined This com pact and prices t ruly or com values pr ehensive are not quiavailable ck - refer ence and for which alternative estimates pr esent s account ants with a guide to depend on for of fair value are determined to be clearly unreliable. Once the fair value of such a biological assistance in the prepar at ion and under standing of financial asset becomes reliably measurable, it must be measured at its fair value less estimated point-ofstatements present ed in accordance with I AS. sale costs. T ab le of Con t en t s

If 20 an03—Int active er market exists a biological or for agricultural Wiley4.I AS pretation andfor Application of Iasset nternational Account ing produce, the quoted price in that market is the appropriate basis for determining the fair value of that asset. If an active Standar ds Preface market does not exist, however, the reporting entity should use market-determined prices or

as the recent market transaction when available. Chapter values, 1 - I ntrsuch oduction to most I nter national Accounting Standarprice, ds Chapter 2

- Balance Sheet

Chapter 5

- Financial I nstr uments—Cash and Receiv ables

5. Under certain circumstances, market-determined prices or values may not be available for an I ncom e Statement, Stat em ent of Chan ges in Equit y, and Statem ent Chapter asset, 3 - as it exists in its current condition. In these circumstances, the entity should use the of Recognized Gains and Losses present value of expected net cash flows from the asset discounted at a current marketChapter 4 - Cash Flow St at em ent determined pretax rate, in determining fair value. Chapter 6 - gain I nventor y which is reported upon initial recognition of biological assets, and also those 6. The or loss Chapter arising 7 - Rev enuechanges Recogni in tion, Constr uction point-of-sales Contr act s from fairI ncluding value less estimated costs, should be included in net

or loss for the ,period in which the gain or loss arises. That is, these are reported in current Chapter profit 8 - Property , Plant and Equipment results operations, and not taken directly into equity. Chapter period 9 - I ntangi bleofAsset s I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and Chapter 10 - gain or loss arising from the initial recognition of agricultural produce should be included in 7. The I nvestm ent Pr oper ty

or loss for the period which it arises. Chapter net 11 -profit Business Combinations andinConsolidat ed Fin ancial Statements Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 - is to be accounted for under IAS 16, Property, Plant, and Equipment, or IAS 40, 8. Land Balance Sheet Date

Investment Property, as is appropriate under the circumstances. Biological assets that are physically attached to land are recognized and measured at their fair value less estimated pointChapter 14 - Leases of-sales costs, separately from the land. Chapter 13 - Financial I nstr uments—Long- Ter m Debt Chapter 15 - I ncom e Taxes

Chapter 16the - Em ployreceives ee Benefitan s unconditional government grant related to a biological asset measured 9. If entity Chapter at 17 its - Stock holder s' Equit y fair value less estimated point-of-sales costs, the grant should be recognized as income

it first becomes receivable. If the grant related to a biological asset measured at its fair Chapter when 18 - Earnings Per Share less estimate point-of-sale Chapter value 19 - I nterim Financial Repor ting costs is conditional, including grants which require an entity not in specified Chapter to 20 engage - Segm ent Repor tingagricultural activity, the grant should be recognized in income when the attaching to it are met. of Er ror s Chapter conditions 21 - Accounting Changes and first Cor rection Chapter 22 - For eign Curr ency

10. For government grants pertaining to biological assets which are measured at cost less accumulated depreciation and any accumulated impairment losses, IAS 20, Accounting for Chapter 24 - Specialized I ndustr ies Government Grants and Disclosure of Government Assistance, should be applied. (See Chapter Chapter 26.) 25 - I nflation and Hyperinflation Chapter 23 - Related- Part y Disclosures

Chapter 26 - Gov er nm ent Gr an ts

11. Some for the sale of biological assets or agricultural produce are not within the scope Appendix A - Dicontracts sclosure Checklist Instruments: Recognition Measurement, because the reporting entity 39, Financial AppendixofBIAS - I llustrativ e Financial St atem ent s Pr esent edand Under I AS deliverofthe commodity, settle up in cash. Under IAS 41, such contracts Appendixexpects C - Comtoparison I AS, US GAAP, rather and UKthan GAAP I ndex

are to be measured at fair value until the biological assets are sold or the produce is harvested.

List of Tables

Agricultural Produce

List of Ex hibits and Ex am ples List of Sidebar s

Agricultural produce is distinguished from biological assets and is not to be measured at fair value other than at the point of harvest, which is the point where biological assets become agricultural produce. For example, when crops are harvested they become agricultural produce and are initially valued at the fair value as of the date of harvest, at the location of harvest (i.e., the value of harvested crops at a remote point of delivery would not be a pertinent measure). If there has been a time interval between the last valuation and the harvest, the value as of the harvest date should be determined or estimated; any increase or decrease since the last valuation would be taken into earnings.

Financial Statement Presentation W ile y Balance sheet.

I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

ISBN:0471227366 Although the DSOP by Bar issued r y J. early Epstein in the andagriculture Abbas Ali project has suggested that biological assets should Mir za class of assets, being part of neither current nor noncurrent assets, this was be set forth as a distinct Wi ley & Sons © 2003 pages) eliminated beforeJohn the Exposure Draft was (952 issued. The draft stipulated that the biological assets should This com and t rulyassets, com pr ehensive qui ck - refer ence be included in current andpact noncurrent as appropriate, either in the aggregate or by major pr esent s account ants with encouraged a guide to depend on for assets be categorized according groups of biological assets. It furthermore that biological assistance in the prepar at ion and under standing of financial to class of animalstatements or plant, nature of activities (e.g., being maintained for harvesting or as breeding present ed in accordance with I AS. stock), and the maturity or immaturity for the intended purpose. If the plant or animal is being T ab le of Con tfor en tconsumption s maintained (to be harvested, etc.), maturity is gauged by attainment of harvestable Wiley specifications. I AS 20 03—Int If the er pretation plant or animal and Application is for bearing of I nternational purposes, the Account maturity ing criterion will be the attainment Standar ds of sufficient maturity to sustain economic harvests.

Preface

In any event, theoduction nature and stage of production of each group Chapter 1 - I ntr to I nter national Accounting Standar ds of biological assets should be described in narrative the notes to the financial statements. Consumable biological assets should be Chapter 2 - format BalanceinSheet

differentiatedI ncom fromebearer assets, with further subdivisions into and ent immature subgroups for Statement, Stat em ent of Chan ges in Equit y, mature and Statem Chapter each of3these. The purpose of these disclosures is to give the users of the financial statements some of Recognized Gains and Losses insight 4into- the timing cash flows, since the mature subgroups will presumably be realized Chapter Cash Flow of St future at em ent through5 market transactions in the near future, andables the pattern of cash flows resulting from bearer Chapter - Financial I nstr uments—Cash and Receiv assets 6differs from those deriving from consumables. Chapter - I nventor y Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

Income -statement. Property , Plant , and

Chapter 8

Equipment

Chapter 9 - I ntangi Asset s The changes in fairble value should be presented on the face of the income statement, ideally broken I nterests in Financial Instr um entHowever, s, Associatgroup es, Joint Ventur es,may andbe reserved to the notes to down between groups of biological assets. level detail Chapter 10 I nvestm ent Pr oper ty

the financial statements.

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

Also, while separate Curr ent Liabilit disclosure ies, Prov of the isions, components Cont ingencies, of fairand value Ev ents change after(i.e., t he that due to growth and that Sheet due to price Balance changes) had Date been encouraged in the exposure draft, this is no longer being promoted, Chapter - Financial I nstr prohibited uments—LongTerClearly, m Debt the change in fair value which is a consequence of while of13course not being either. Chapter 14 Leases price changes (whether general inflation or specific changes in the market prices of given commodities, such as15wheat, due to factors such as the expectations regarding the harvest) is generically distinct Chapter - I ncom e Taxes from the16growth which has occurred during the period being reported on. Distinguishing between these Chapter - Em ploy ee Benefit s two factors would be important in making the financial reporting process more meaningful, and several Chapter 17 - Stock holder s' Equit y examples of how this dichotomizing of fair value changes can be accomplished and presented in the Chapter 18 - Earnings Per Share financial statements was included in the Exposure Draft preceding IAS 41's issuance. Chapter 19 - I nterim Financial Repor ting Chapter 12 -

Chapter 20 - Segm ent Repor ting

IAS 1 permits the presentation of expenses in accordance with either a natural classification (e.g., materials purchases, depreciation, etc.) or a functional basis (cost of sales, administrative, selling, Chapter 22 draft - For eign Curr ency etc.). The statement on agriculture had urged that the natural classification of income and Chapter 23 RelatedPart Disclosures expenses be adopted fory the income statement. Sufficient detail is to be included in the face of the Chapter - Specialized I ndustr iesanalysis of operating performance. However, these are income24 statement to support an Chapter 25 - I nflationnot and Hyperinflation recommendations, strict requirements. Chapter 21 - Accounting Changes and Cor rection of Er ror s

Chapter 26 - Gov er nm ent Gr an ts

Disclosures. Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS

IAS 41 establishes new disclosure requirements for biological assets measured at cost less any accumulated depreciation and any accumulated impairment losses (i.e., for those exceptional biological I ndex assets which are not being carried at fair value). The new disclosures are as follows: Appendix C - Com parison of I AS, US GAAP, and UK GAAP List of Tables

1. ExAhibits separate reconciliation of changes in the carrying amount of those biological assets List of and Ex am ples List of Sidebar s

2. A description of those biological assets 3. An explanation of why fair value cannot be measured reliably 4. A statement of the range of estimates within which fair value is highly likely to lie (if this is possible to give) 5. The amount of any gain or loss recognized on disposal of the biological assets 6.

6. The depreciation method used 7. The useful lives or the depreciation rates used; and

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds

8. The gross carrying amount and the accumulated depreciation at the beginning and end of the ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali reporting period.

Mir za Wi ley these & Sonsdisclosures © 2003 (952 pages) In addition to the John foregoing, are required This com pact and t ruly com pr ehensive qui ck - refer ence of biological assets previously measured at cost less any accumulated 1. If the fair value pr esent s account ants with a guide to depend on for depreciation and anyinaccumulated losses subsequently assistance the prepar at impairment ion and under standing of financial becomes reliably measurable, the reporting entity must disclosewith a description of the biological assets, and statements present ed in accordance I AS.

explanation of how fair value has become reliably measurable, and the effect of the change in accounting method; and

T ab le of Con t en t s

Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar 2. ds Information about any significant decreases in the expected level of government grants related Preface to agricultural activity covered by IAS 41. Chapter 1

- I ntr oduction to I nter national Accounting Standar ds The normally anticipated Chapter 2 - Balance Sheetdisclosures regarding the nature of operations, which are necessary to comply

with IAS 1, also apply to entitiesStat engaging in Chan biological agricultural operations. These disclosures I ncom e Statement, em ent of ges inand Equit y, and Statem ent could incorporate, either inGains narrative form or as quantified terms, information about the groups of of Recognized and Losses biological the nature Chapter 4 assets, - Cash Flow St at emof entactivities regarding each of these groups, the maturity or immaturity for intended ofI each group, the relative significance Chapter 5 purposes - Financial nstr uments—Cash and Receiv ables of different groups by reference to nonmonetary amounts Chapter 6 - I nventor y (e.g., numbers of animals, acres of trees) dedicated to each, and nonfinancial measures estimates of thetion, physical quantities eachContr groups Chapter 7 -orRev enue Recogni I ncluding Constrof uction act sof assets at the balance sheet date and the output of agricultural produce during the reporting period. Chapter 8 - Property , Plant , and Equipment Chapter 3

Chapter 9

- I ntangi ble Asset s Good practice, necessary to make the financial statements meaningful for users, would dictate that I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and disclosures Chapter 10 - be made of the measurement bases used to derive fair values; whether an independent I nvestm ent Pr oper ty appraiser was utilized; where relevant, the discount rate employed to compute net present values, Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements along with the number of years' future cash flows assumed; additional details about the changes in fair Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter value from 12 - the prior period, where needed; any restrictions on title and any pledging of biological assets Balance Sheet Date as security for liabilities; commitments for further development or acquisitions of biological assets; Chapter 13 - Financial I nstr uments—Long- Ter m Debt specifics about risk management strategies employed by the entity (note that the use of hedging is Chapter 14 - Leases widespread; the futures market, now heavily employed to control financial risks, was developed Chapter 15 - I ncom e Taxes originally for agricultural commodities); and activities which are unsustainable, along with estimated Chapter - Em ploy of eethose Benefitactivities. s dates of16cessation Other possible disclosures include the carrying amount of Chapter 17 - land Stock(at holder s' Equit y agricultural either historical cost or revalued amount) and of agricultural produce (governed by Chapter 18 - subject Earnings Share classification in the balance sheet). IAS 2, and to Per separate Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

Agricultural Land

Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - land For eign Currdeemed ency Agricultural is not a biological asset; thus, the principles espoused in IAS 41 for biological Chapter 23 - RelatedPartdo y Disclosures and agricultural assets not apply to land. The requirements of IAS 16, which are applicable to other Chapter 24 -of Specialized I ndustr ies equipment, apply equally to agricultural land. The use of the allowed categories plant, property, and Chapter alternative 25 -method I nflation(i.e., and revaluation), Hyperinflationparticularly for land-based systems such as orchards, plantations,

and forests, where the Chapter 26 - Gov er nm entfair Gr value an ts of the biological asset was determined from net realizable values which included the underlying Appendix A - Di sclosure Checklistland, would be logical and advisable, but is not actually a requirement. It would also usefulness of the statements if land held by entities engaged in Appendix B - enhance I llustrativthe e Financial St atem ent financial s Pr esent ed Under I AS agricultural is further theUK balance Appendix C - activities Com parison of I AS,classified US GAAP,inand GAAP sheet according to specific uses. Alternatively, this information can be conveyed in the notes to the financial statements. I ndex List of Tables

Intangible Assets Related to Agriculture

List of Ex hibits and Ex am ples List of Sidebar s

Under IAS 38, intangible assets may be carried at cost (the benchmark treatment) or at revalued amounts (the allowed alternative treatment), but only to the extent that active markets exist for the intangibles. In general, it is not expected that such markets will exist for commonly encountered classes of intangible assets. On the other hand, agricultural activities are expected to frequently involve intangibles such as water rights, production quotas, and pollution rights, and it is anticipated that for these intangibles active markets may in fact exist. To enhance the internal consistency of financial statements of entities engaged in biological and

agriculture operations, if intangibles which pertain to the entity's agricultural activities have active markets, these should be presented in the balance sheet at their fair values. This is not, however, an actual requirement. W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f I n t er n at ion al Accou n t in g St an d ar ds by Bar r y J. Epstein and Abbas Ali Government Grants Mir za

ISBN:0471227366

ley & Sonsfor © 2003 (952 pages) IAS 20 addressesJohn the Wi accounting government grants, whether received with conditions attached or This com pact and t ruly com pr ehensive quiabove, ck - referIAS ence41 effectively amends this in the not, and whether received in cash or otherwise. As noted pr esent s account ants with a guide to depend on for case of reporting by entities an unconditional government grant related to a biological asset measured assistance in the prepar at ion and under standing of financial at its fair value less estimated point-of-sale costs. It also that, for grants which are conditional, statements present ed in accordance with provides I AS. recognition in income will occur when there is reasonable assurance that the conditions have been met. T ab of Con t en ts If le conditional grants are received before the conditions have been met, the grant should be recognized Wiley AS 20 03—Int pretation For andgrants Application of I nternational Account ing as a Iliability, not aserrevenue. received in the form of nonmonetary assets, fair value is to be Standar ds in order to account for the grant. assessed Preface Chapter 1

- I ntr oduction to I nter national Accounting Standar ds Transition to the New Standard - Balance Sheet

Chapter 2

I ncom efor Statement, Stat em ent of Chan gesperiods in Equitbeginning y, and Statem IAS 41 3is effective financial statements covering on orent after January 1, 2003. Chapter of Recognized Gains and Losses

Entities are to apply the measurement criteria as of the beginning of the fiscal (financial reporting) year. - Cash Flow St at em ent The adjustment to previously reported carrying amounts will be determined as of the date of Chapter 5 - Financial I nstr uments—Cash and Receiv ables implementation and accounted for consistent with IAS 8. That standard permits a benchmark treatment Chapter 6 I nventor y of retrospective restatement (unless the adjustment relating to prior periods is not reasonably Chapter 7 - Rev enue I ncluding uction act s determinable) and anRecogni allowedtion, alternative of Constr including theContr cumulative effect of the change in net profit Chapter 8 Property , Plant , and Equipment for loss but with supplemental prior period information on a retrospectively restated basis (again, unless Chapter 9 - Iamounts ntangi bleare Asset prior period nots reasonable determinable). In either event, the impact of the change in accounting method be confused valuees, changes occurring during the current reporting I nterestswill in not Financial Instr umwith ent s,fair Associat Joint Ventur es, and Chapter 10 I nvestm ent Pr oper ty period. Chapter 4

Chapter 11 - Business Combinations and Consolidat ed Fin ancial Statements

As a result of theent adoption of the new standard on agriculture, consequential changes have Curr Liabilit ies, Prov isions, Cont ingencies, and Evseveral ents after t he been made to a number ofDate other international standards. IAS 2 has been amended to explicitly Balance Sheet recognize the cost of uments—Longagricultural produce harvested by the reporting entity is the fair value thereof Chapter 13 that - Financial I nstr Ter m Debt as of the of harvest, at the place of harvest. Other less noteworthy changes will be made to IAS Chapter 14date - Leases 16, 17, 15 20,- and 36.e Taxes Chapter I ncom Chapter 12 -

Chapter 16 - Em ploy ee Benefit s Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting Chapter 21 - Accounting Changes and Cor rection of Er ror s Chapter 22 - For eign Curr ency Chapter 23 - Related- Part y Disclosures Chapter 24 - Specialized I ndustr ies Chapter 25 - I nflation and Hyperinflation Chapter 26 - Gov er nm ent Gr an ts Appendix A - Di sclosure Checklist Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix C - Com parison of I AS, US GAAP, and UK GAAP I ndex List of Tables List of Ex hibits and Ex am ples List of Sidebar s

W ile y I AS 2 0 03 : I n t erp re t at ion an d Ap p licat io n o f Extractive Industries I n t er n at ion al Accou n t in g St an d ar ds

ISBN:0471227366 by Bar r yits J. attention Epstein and Abbas Ali of specialized Having recently focused on the needs industries, the IASC has identified za certain extractiveMir industries worthy of being addressed by it. These industries have significant financial John Wi ley & Sons © 2003 (952 pages) accounting and reporting issues with broad applicability, and these industries may be disproportionately This com pact and t ruly com pr ehensive qui ck - refer ence the IAS have been most relevant in the economies of the lesser-developed nations upon which pr esent s account ants with a guide to depend on for influential. In particular, the IASC has directed attention to those industries which it believes most often assistance in the prepar at ion and under standing of financial operate on an international and exert significant statementsbasis, present ed which in accordance with I AS.economic influence worldwide. The current accounting and reporting practices by participants in these industries are seen as being quite T ab le of Con t s will vary significantly from those of entities in other types of industries, making withindiverse, andt en often Wiley I AS and 20 03—Int er pretationcomparisons and Application of I nternational ing industry across-industry difficult for users ofAccount the financial statements.

Standar ds

Before its demise, the IASC had undertaken a major project to develop financial reporting requirements Preface for the 1"upstream" activities of mining and petroleumStandar industries. Chapter - I ntr oduction to I nter national Accounting ds This effort yielded a major Issues Paper (which is summarized in the balance of this section), with the expectation that definitive Chapter 2 - Balance Sheet standards were to ebe promulgated theEquit IASB, as successor I ncom Statement, Statin em2002. ent ofHowever, Chan ges in y, and Statem ent to IASC, has placed this project among those in which its and interests of Recognized Gains Lossesare secondary, and accordingly no noticeable progress has been made a year ago. This project does not appear on IASB's technical projects schedule, Chapter 4 - since Cash Flow St at em ent suggesting any standard on this topic might beables several years in the future. Nonetheless, the Issues Chapter 5 - that Financial I nstr uments—Cash and Receiv Paper does provide nonauthoritative guidance and is presented here for that purpose. Chapter 6 - I nventor y Chapter 3

Chapter 7

- Rev enue Recogni tion, I ncluding Constr uction Contr act s

The upstream activities of mining and petroleum producers consist of exploration and production. - Property , Plant , and Equipment These exclude the "downstream" activities such as refining, marketing, and transportation, which would Chapter 9 I ntangi ble Asset continue to- be governed by sother relevant international standards, such as IAS 2, addressing I nterests in Financial Instr um ent s, Associat es, Joint Ventur es, and accounting Chapter 10 - for inventory. Chapter 8

I nvestm ent Pr oper ty

Chapter 11 - Paper Business Combinations Consolidat ed Fin ancial Statements The Issues sets forth in vastand detail the accounting practices found in the mining and petroleum Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he industries, discussing the strengths and weaknesses of each of the alternative methods. It also Chapter 12 Balance Sheet Date expresses the Steering Committee's tentative views on the propriety and advisability of each of these Chapter 13 - practices, Financial I nstr uments—LongTerwhat m Debt accounting which strongly imply the forthcoming standard will prescribe Chapter 14 Leases (notwithstanding that extensive due process will precede the adoption of final requirements). IASC has Chapter 15 - Ito ncom e Taxes taken pains explain, furthermore, that even its tentative views do not imply unanimity among Chapter committee 16 -members Em ploy eeand Benefit mays not represent the views of the IASB, which will ultimately rule on any

proposal. Chapter 17 - Stock holder s' Equit y Chapter 18 - Earnings Per Share

Key Issues

Chapter 19 - I nterim Financial Repor ting Chapter 20 - Segm ent Repor ting

The issues identifies a number of rection key financial issues which must be resolved. These Chapter 21 - paper Accounting Changes and Cor of Er rorreporting s include22 the- following items: Chapter For eign Curr ency Chapter 23 - RelatedPart y Disclosures 1. Which costs of finding, acquiring, and developing mineral reserves should be capitalized; Chapter 24 - Specialized I ndustr ies

2. How should be depreciated (amortized); Chapter 25 - Icapitalized nflation andcosts Hyperinflation Chapter 26 - Gov er nm ent Gr an ts

3. The extent to which quantities and values of mineral reserves, rather than costs, should impact upon recognition, measurement, and disclosure; and

Appendix A - Di sclosure Checklist

Appendix B - I llustrativ e Financial St atem ent s Pr esent ed Under I AS Appendix 4. How C - Com to define, parison classify, of I AS,and US GAAP, measure andmineral UK GAAP reserves. I ndex

With regard to cost recognition, the two most popular methods, "full costing" and "successful efforts," are seen as representing the two extremes. Under full cost accounting, all costs incurred in searching List of Ex hibits and Ex am ples for, acquiring, and developing mineral reserves in a large cost center, such as a country or continent, List of Sidebar s are capitalized as part of the cost of whatever reserves have been found, even though a specific cost was incurred in a failed effort. The underlying theory is that entities in such industries know that many "dry holes" must be drilled (to use the oil exploration industry as an example) to find one producing well, and accordingly are cognizant of the fact that all such costs are actually the necessary costs of developing successful wells. Full cost accounting is used by many midsize to small petroleum enterprises, but rarely has been employed by mining enterprises. List of Tables

On the other hand, under successful efforts accounting (which is used by most large oil and gas

companies and by some mining enterprises), costs that lead directly to finding mineral reserves are capitalized, while costs that do not lead directly to mineral reserves are charged to expense. The concept here is not soymuch associated are rightfully charged to W ile I AS 2that 0 03costs : I n t erp re t at ion with an d unsuccessful Ap p licat io n oefforts f current expense, Ibut rather, from a practical perspective, given that many projects are ongoing at any n t er n at ion al Accou n t in g St an d ar ds time (which is particularly true for the larger entities), essentially the same result will occur with less ISBN:0471227366 by Bar r y J. Epstein and Abbas Ali complicated accounting, Mir za if only costs associated with successful ventures are capitalized and amortized. In other John words, Wi leythe & Sons matching © 2003objective (952 pages) is met equally well, in these situations, by use of the less burdensomeThis successful method ofehensive accounting. com pactefforts and t ruly com pr qui ck - refer ence pr esent s account ants with a guide to depend on for

According to the IASC paper, mining enterprises an accounting assistance in many the prepar at ion and underuse standing of financialmethod which lies between statements present in accordance I AS. Other entities use various hybrid the extremes of the full costing and ed successful effortswith methods. methods, adding to the difficulty of establishing a taxonomy of accounting methods. Imposing a uniform T ab le of Con t en t s methodology is thus seen as being a pressing need. Wiley I AS 20 03—Int er pretation and Application of I nternational Account ing Standar ds

A third major approach to cost capitalization is the "area-of-interest" method. According to the IASC paper, some view the area-of-interest concept (sometimes also referred to as the "project method") as Chapter 1 - I ntr oduction to I nter national Accounting Standar ds a variation on the successful efforts method of accounting, while others see it as a version of full cost Chapter 2 - applied Balance on Sheet accounting an area-of-interest basis. Under the area-of-interest approach, all costs that I ncom e area Statement, Stat em ent of Chan in Equit y, and Statem relate directly to an of interest or that can be ges logically allocated to the ent area of interest are recorded Chapter 3 of Recognized Gains and Losses as belonging to that area. That is, prospecting costs, mineral acquisition costs, exploration costs, Chapter 4 - Cash Flow St at em ent appraisal costs, and development costs are associated with an individual geological area that has Chapter - Financial I nstr uments—Cash and Receiv ables features5 that are conducive to a coordinated, unified search program and that has been identified as Chapter 6 I nventor y being a favorable environment for the presence of, or known to contain, a mineral deposit. These costs Chapter 7 accumulated - Rev enue Recogni tion, I ncluding Constr Contr act s depreciated as the reserves from would be and deferred for each areauction of interest, to be Chapter 8 Property , Plant , and Equipment that area of interest are produced. Preface

Chapter 9

- I ntangi ble Asset s

The area-of-interest is Instr believed tos,beAssociat fairly commonly employed in the mining industry, I nterestsapproach in Financial um ent es, Joint Ventur es, and Chapter 10 although theI nvestm preciseent extent of ty its usage remains under debate. Some studies cited by IASC suggest Pr oper that this11method is theCombinations most commonly used way ed to account costs—more so than either the Chapter - Business and Consolidat Fin ancialfor Statements successful efforts or full cost methods. Thus, while the area-of-interest approach is not one which is set Curr ent Liabilit ies, Prov isions, Cont ingencies, and Ev ents after t he Chapter 12 forth in mostBalance textbooks (which Sheet Datetypically only cite the successful efforts and full costing approaches), it may have currency actual usage.Ter m Debt Chapter 13 great - Financial I nstrin uments—LongChapter 14 - Leases

Probably the other issue which is most important and central to this project is whether financial reporting is to be based on traditional historical costs, or on a fair value basis, driven by estimates of Chapter 16 - Em ploy ee Benefit s actual mineral reserves on hand and expected final selling prices therefor. The latter approach has Chapter 17 - Stock holder s' Equit y been advocated for decades (in the US, the SEC's proposed "reserve recognition accounting," which C