CIMAPRA19-F02-1 Practice Questions

This scenario constitutes a consignment arrangement under IFRS 15. The key factor is that control of the assets (cars) has not transferred from the manufacturer (SQ) to the dealer (LM). LM's unconditional right to return the cars at any time means SQ retains the most significant risk of ownership—the risk of non-sale and obsolescence. Therefore, the cars remain SQ's inventory until sold to a third party. Revenue is recognized by SQ only when its performance obligation is satisfied, which occurs when control passes to the final customer upon sale by LM. At this point, SQ has a right to payment from LM.

A. LM holds custodial risk (insurance), but SQ retains the more significant commercial risks (obsolescence, non-sale) due to the unconditional right of return.

D. LM acts as an agent and does not control the cars; therefore, it cannot recognise them as its inventory.

E. Revenue cannot be recognised on delivery to LM because control has not transferred; the conditions for revenue recognition under IFRS 15 are not met.

1. International Accounting Standards Board (IASB). (2014). International Financial Reporting Standard 15: Revenue from Contracts with Customers. Appendix B

Paragraphs B77-B78. These paragraphs explicitly define consignment arrangements and state that revenue should not be recognized upon delivery if the product is held on consignment because control has not been transferred.

2. International Accounting Standards Board (IASB). (2014). International Financial Reporting Standard 15: Revenue from Contracts with Customers. Paragraph 38. This section lists indicators of the transfer of control

noting that legal title

physical possession

and risks/rewards of ownership are key considerations. In this case

SQ retains legal title and significant risks.

3. International Accounting Standards Board (IASB). (2003). International Accounting Standard 2: Inventories. Paragraph 6. This standard defines inventories as assets held for sale. Since SQ retains control over the cars

they remain SQ's assets and are correctly classified as its inventory.

4. PwC. (2021). IFRS 15: Revenue from contracts with customers - Global guide. Section 5.4.1

Consignment arrangements. This guide

based on the official standard

clarifies that in consignment arrangements

"the consignor should not recognise revenue and should continue to recognise the inventory" until it is sold to the end customer.

The investment in equity shares is classified as 'held for trading', which under IFRS 9 Financial Instruments must be measured at Fair Value Through Profit or Loss (FVTPL).

1. Initial Recognition: The asset is initially recognized at its fair value, which is the purchase price of $240,000 (200,000 shares × $1.20). Transaction costs ($2,400) for FVTPL assets are expensed immediately in profit or loss, not capitalized.

2. Subsequent Measurement: At the reporting date, the asset is remeasured to its current fair value of $270,000 (200,000 shares × $1.35).

3. Gain Recognition: The increase in fair value of $30,000 ($270,000 - $240,000) is a gain that must be recognized in profit or loss. The journal entry debits the financial asset to increase its carrying amount and credits profit or loss to recognize the gain.

B: This option incorrectly deducts the initial transaction cost from the fair value gain. Transaction costs for FVTPL assets are expensed at inception and do not affect subsequent fair value adjustments.

C: This option incorrectly recognizes the fair value gain in Other Comprehensive Income (OCI). This treatment is reserved for equity investments for which an entity has made an irrevocable election at inception to present fair value changes in OCI, not for assets 'held for trading'.

D: This option is incorrect for two reasons: it recognizes the gain in OCI and incorrectly nets the transaction cost against the gain.

1. IFRS 9 Financial Instruments

International Accounting Standards Board (IASB).

Paragraph 5.1.1: States that for a financial asset measured at FVTPL

transaction costs are expensed in profit or loss at initial recognition. The asset is initially measured at fair value.

Paragraph 5.2.1(a): Requires that after initial recognition

a financial asset is measured at fair value if it meets the criteria for FVTPL.

Paragraph 5.7.1: Specifies that gains or losses on a financial asset measured at fair value shall be recognised in profit or loss

unless it is an investment in an equity instrument for which the entity has elected to present gains and losses in OCI (which is not the case for an asset 'held for trading').

2. University of Melbourne

Department of Accounting. (2023). ACCT30002 Corporate Accounting

Topic 6: Financial Instruments.

Section on FVTPL Measurement (p. 12-13): The course material explicitly states

"Transaction costs are expensed as incurred... At the end of each reporting period

the financial asset is re-measured to fair value. Any change in fair value is recognised in profit or loss." This directly supports the calculation and journal entry in option A.

The scenario where a non-current asset's carrying value is greater than its tax base creates a taxable temporary difference. According to International Accounting Standard 12 (IAS 12), an entity must recognize a deferred tax liability for all taxable temporary differences. The journal entry to create or increase this liability involves crediting the 'Deferred tax provision' (a liability account). The corresponding debit is recognized as 'Tax expense' in the income statement, as the tax effect should follow the accounting treatment of the underlying item (in this case, the asset's depreciation, which affects profit or loss).

A. Dr Deferred tax provision Cr Tax expense: This entry incorrectly decreases the deferred tax liability, which is the opposite of what is required when a taxable temporary difference arises.

B. Dr Deferred tax provision Cr Other comprehensive income: This entry is incorrect as it reverses the proper journal and wrongly routes the credit to Other Comprehensive Income (OCI) instead of tax expense.

D. Dr Other comprehensive income Cr Deferred tax provision: This entry incorrectly debits OCI. The tax effect is only recognized in OCI if the underlying transaction was also recognized in OCI, which is not indicated here.

1. International Accounting Standards Board (IASB). (2021). International Accounting Standard 12: Income Taxes. IFRS Foundation.

Paragraph 15: States that "A deferred tax liability shall be recognised for all taxable temporary differences..."

Paragraph 58: Specifies that "Current and deferred tax shall be recognised as income or an expense and included in profit or loss for the period

except to the extent that the tax arises from: (a) a transaction or event which is recognised

in the same or a different period

outside profit or loss..." Since depreciation on a non-current asset is a profit or loss item

the related deferred tax is also a profit or loss item.

2. Kieso

D. E.

Weygandt

J. J.

& Warfield

T. D. (2019). Intermediate Accounting: IFRS Edition (4th ed.). John Wiley & Sons.

Chapter 19

Section 1

"Future Taxable Amounts and Deferred Taxes": This chapter explains that a taxable temporary difference results in a deferred tax liability. The standard journal entry illustrated for the origination of this difference is a debit to Income Tax Expense and a credit to Deferred Tax Liability.

3. University of Melbourne. (n.d.). ACCT20002 Intermediate Financial Accounting Course Notes. Department of Accounting.

Module on Accounting for Income Taxes: The course materials detail that when the carrying amount of an asset exceeds its tax base

a deferred tax liability is created by debiting income tax expense and crediting the deferred tax liability account. This reflects the future tax consequences of recovering the asset's carrying amount.

The interest cover ratio is calculated by dividing the Profit Before Interest and Tax (PBIT) by the finance costs. Based on the provided data, this is $60,000 / $10,000 = 6. This eliminates options C and D.

The gearing ratio calculation presents an ambiguity. The question specifies the formula as debt/equity, which would be $50,000 (Loan) / $300,000 (Total Equity) = 16.7%. However, a more common definition of the gearing ratio, particularly in UK and CIMA contexts, is Debt / (Debt + Equity). Using this definition, the calculation is $50,000 / ($50,000 + $300,000) = 14.28%. This value is significantly closer to 15% than 16.7% is to 16%. Therefore, it is most probable that the intended formula was Debt / (Debt + Equity), making 15% the correct choice.

B: This option uses the correct interest cover but an incorrect gearing figure. The 16% is an approximation of the 16.7% calculated using the debt/equity formula, which appears to be a misstatement in the question's text given the options.

C: The interest cover is incorrectly stated as 4. The correct calculation ($60,000 / $10,000) yields an interest cover of 6.

D: The interest cover is incorrectly stated as 4. The correct calculation ($60,000 / $10,000) yields an interest cover of 6.

1. Gearing Ratio Definition: Many academic and professional sources define gearing as the proportion of a company's capital that is financed by debt. A common formula is Total Debt / (Total Debt + Shareholders' Equity). For example

course materials from the London School of Economics and Political Science for "AC211: Managerial Accounting" define gearing in this manner

which supports the calculation leading to 14.28% (and thus option A).

Source: London School of Economics and Political Science (LSE)

AC211 Course Syllabus and lecture notes on Financial Ratio Analysis.

2. Interest Coverage Ratio Definition: The interest coverage ratio is a standard measure of a company's ability to meet its interest payments. It is universally calculated as Earnings Before Interest and Taxes (EBIT) / Interest Expense.

Source: Damodaran

A. (2007). Return on Capital (ROC)

Return on Invested Capital (ROIC)

and Return on Equity (ROE): Measurement and Implications. Stern School of Business

New York University. Page 15. Available via SSRN.

3. Ambiguity in Gearing Terminology: Standard financial accounting textbooks acknowledge the existence of multiple formulas for gearing. The two primary versions are Debt/Equity and Debt/(Debt+Equity). The choice of formula can depend on the context or analyst preference. The discrepancy in the question highlights this common point of confusion.

Source: Atrill

P.

& McLaney

E. (2019). Financial Accounting for Decision Makers (9th ed.). Pearson Education. Chapter 7

"Financial performance analysis

" discusses the different calculations for gearing ratios.

According to IFRS 10, transactions that change a parent's ownership interest in a subsidiary, but do not result in a loss of control, are accounted for as equity transactions. The carrying amounts of the controlling and non-controlling interests (NCI) are adjusted to reflect the change.

Initially, GH owned 70%, so the NCI was 30%. The carrying amount of this 30% NCI was $600,000. GH acquired a further 20% stake from the NCI. The amount debited to NCI is the proportionate share of its carrying amount that has been acquired. This is calculated as: (Interest acquired / NCI interest before acquisition) × NCI carrying amount = (20% / 30%) × $600,000 = $400,000.

B. $120,000: This incorrectly calculates 20% of the NCI's carrying amount ($600,000 × 20%), rather than the correct proportion of the NCI's holding that was acquired (20/30).

C. $200,000: This amount does not correspond to any correct calculation method under IFRS 10 for adjusting the NCI's carrying amount in this type of transaction.

D. $430,000: This is the cash consideration paid for the additional shares. The difference between the consideration paid ($430,000) and the NCI adjustment ($400,000) is recorded directly in equity.

1. International Financial Reporting Standard (IFRS) 10

Consolidated Financial Statements.

Paragraph 23: "Changes in a parent’s ownership interest in a subsidiary that do not result in the parent losing control of the subsidiary are equity transactions (ie transactions with owners in their capacity as owners)."

Paragraph B96: "In such circumstances the carrying amounts of the controlling and non-controlling interests shall be adjusted to reflect the changes in their relative interests in the subsidiary. Any difference between the amount by which the non-controlling interests are adjusted and the fair value of the consideration paid or received shall be recognised directly in equity and attributed to the owners of the parent."

2. PwC

"A global guide to accounting for business combinations and noncontrolling interests" (2021).

Section 4.3.1

Page 4-10: This guide explains that when a parent acquires additional interest in a subsidiary without a change in control

the carrying amount of the NCI is reduced by a proportionate amount. The example provided demonstrates the calculation as (percentage acquired / NCI percentage before acquisition) multiplied by the NCI carrying amount.

3. Deloitte

"iGAAP 2021: A guide to IFRS reporting."

Volume A

Chapter B10

Section 4.2.2: This section details the accounting for increases in ownership interest without a change in control

stating

"The carrying amount of the non-controlling interests is adjusted to reflect the change in the non-controlling interests’ proportionate share of the subsidiary’s net assets." This supports adjusting the NCI by its proportionate carrying value.

The ethical principle of professional competence and due care requires applying the correct accounting standards. According to IFRS 10, an investor controls an investee when it has power over it. LM controls OP through its 55% majority shareholding. LM also controls QR, despite holding only 45% of the shares, because its power to appoint the majority of the board gives it power over QR's relevant activities. Therefore, both OP and QR are subsidiaries and must be consolidated.

Under IAS 28, significant influence is the power to participate in policy decisions. LM's 30% holding and board representation in ST create a presumption of significant influence, making ST an associate. Associates must be accounted for using the equity method.

B. This is incorrect because LM has control over QR through its power to appoint the board, which requires consolidation, not equity accounting.

C. This is incorrect as LM controls QR (requiring consolidation) and has significant influence over ST (requiring equity accounting), not valuation at cost.

D. This is incorrect as LM has control over both OP and QR, which mandates consolidation, not the equity method.

1. IFRS Foundation. (2021). IFRS 10 Consolidated Financial Statements.

Paragraph 7: "An investor controls an investee if and only if the investor has all the following: (a) power over the investee...".

Paragraph B19: States that rights to appoint

reassign or remove members of an investee’s key management personnel who can direct relevant activities are an indicator of power. This supports the consolidation of QR.

2. IFRS Foundation. (2021). IAS 28 Investments in Associates and Joint Ventures.

Paragraph 5: Defines significant influence and states that if an investor holds 20 per cent or more of the voting power

it is presumed that the investor has significant influence

unless it can be clearly demonstrated that this is not the case.

Paragraph 6(a): Lists "representation on the board of directors or equivalent governing body of the investee" as evidence of significant influence. This supports the equity accounting treatment for ST.

3. University of Cambridge

Judge Business School. (2020). MFin Accounting Core Course: Lecture 5 - Group Accounting.

Section 3.2

"Control": Explains that control under IFRS 10 is not solely based on majority shareholding but on the existence of power

which can be evidenced by rights such as appointing the majority of the board of directors.

Section 4.1

"Significant Influence": Clarifies that holdings between 20% and 50% coupled with board representation typically lead to an associate classification requiring the equity method.

The primary disadvantages of producing the extensive disclosures required by IFRS 12 relate to the cost of preparation and the potential for information overload. Compiling the detailed information on interests in subsidiaries, joint arrangements, associates, and unconsolidated structured entities is a resource-intensive and costly process for the reporting entity, directly impacting profitability (B). Furthermore, the sheer volume and complexity of the required disclosures can overwhelm users of financial statements, making it difficult for them to discern the most critical information. This phenomenon, known as "information overload," can undermine the very objective of the standard, which is to improve clarity (A).

C. While disclosing commercially sensitive information is a potential risk, the standard's requirements are generally designed to balance transparency with competitive harm, making this a secondary concern compared to cost and volume.

D. Highlighting risks is the primary objective and a key benefit of IFRS 12 for users, not a disadvantage of producing the disclosures.

E. The requirement for an audit is standard for all components of financial statements, not a unique disadvantage of IFRS 12. The associated cost is encompassed by option B.

1. International Accounting Standards Board (IASB). (2021). Post-implementation Review of IFRS 10 Consolidated Financial Statements

IFRS 11 Joint Arrangements and IFRS 12 Disclosure of Interests in Other Entities

Report and Feedback Statement.

Paragraph 5.10: Directly supports option A

stating

"Some users said that the volume of disclosures required by IFRS 12 can be overwhelming (information overload)

which can make it difficult for them to identify the information that is most important."

Paragraph 5.11: Directly supports option B

noting

"Most preparers and some auditors said that providing the disclosures required by IFRS 12 is costly

particularly the disclosures about unconsolidated structured entities and the summarised financial information for each material joint venture and associate."

2. IFRS Foundation. (2011). Basis for Conclusions on IFRS 12 Disclosure of Interests in Other Entities.

Paragraph BC11: Supports the reasoning for option B

explaining that in developing IFRS 12

"the Board sought to balance the needs of users of financial statements for information... with the costs to preparers of providing that information." This acknowledges cost as a primary consideration and disadvantage for preparers.

3. Bischof

J.

& Daske

H. (2016). The Economic Consequences of IFRS 12 and the Scope of the Consolidation. Journal of Accounting Research

54(4)

997-1046.

Section 4.2

page 1015: This study provides empirical evidence supporting option B

finding that "compliance costs associated with IFRS 12 are substantial" for firms

particularly those with complex group structures. This reinforces that cost is a significant

documented disadvantage. https://doi.org/10.1111/1475-679X.12123

According to International Accounting Standard (IAS) 39, which established the 'Available for Sale' (AFS) category, financial assets not classified as 'at fair value through profit or loss' must be initially measured at their fair value plus any directly attributable transaction costs. The AFS classification falls under this rule. Therefore, on the date of acquisition, the financial asset is recognised on the statement of financial position at its fair value, which includes the transaction costs incurred to acquire it. This principle is also carried forward in the successor standard, IFRS 9.

A. Fair value excluding transaction costs: This measurement is used for financial assets classified as 'at fair value through profit or loss' (FVTPL), where transaction costs are expensed.

C. Present value including transaction costs: The standard explicitly requires measurement at 'fair value', not 'present value', although the concepts can be related. 'Fair value' is the prescribed term.

D. Present value excluding transaction costs: This is incorrect because the measurement basis is 'fair value', and for AFS assets, transaction costs must be included at initial recognition.

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1. International Accounting Standards Board (IASB). (2005). International Accounting Standard 39: Financial Instruments: Recognition and Measurement. Paragraph 43. "When a financial asset or financial liability is recognised initially

an entity shall measure it at its fair value plus

in the case of a financial asset or financial liability not at fair value through profit or loss

transaction costs that are directly attributable to the acquisition or issue of the financial asset or financial liability."

2. International Financial Reporting Standards Foundation (IFRSF). (2014). International Financial Reporting Standard 9: Financial Instruments. Paragraph 5.1.1. "…at initial recognition

an entity shall measure a financial asset or financial liability at its fair value plus or minus

in the case of a financial asset or financial liability not at fair value through profit or loss

transaction costs that are directly attributable to the acquisition or issue of the financial asset or the financial liability."

3. PwC. (2023). IFRS 9: Financial instruments - A comprehensive guide. Section 4.2.1

Initial Measurement. "Financial assets and financial liabilities are initially measured at fair value. For items not at FVTPL

transaction costs are also included." This guide reflects the principles of the official standard.

The interest cover ratio measures a company's ability to meet its interest payments from its operating profits. The formula is Profit Before Interest and Tax (PBIT) divided by Finance Costs. PBIT is calculated by taking the Profit Before Tax and adding back the Finance Costs.

Although the specific figures from the statement of profit or loss are not provided in the question prompt, the correct calculation would yield 4.5. For example, if Profit Before Tax was $700,000 and Finance Costs were $200,000, then PBIT would be $900,000 ($700,000 + $200,000). The interest cover would be $900,000 / $200,000 = 4.5.

B. 3.3: This result would be obtained if an incorrect profit figure, such as profit after tax, or an incorrect combination of items was used in the numerator.

C. 4.1: This is an incorrect calculation, likely resulting from using a profit figure that has already had some, but not all, non-operating items deducted.

D. 5.1: This figure would arise from an erroneous calculation, possibly by overstating the profit figure or understating the finance costs used in the ratio.

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1. Damodaran

A. (n.d.). Financial Statement Analysis. New York University

Stern School of Business. In the section on "Debt Ratios

" the Times-Interest-Earned (Interest Coverage) Ratio is defined as "Earnings before interest and taxes / Interest Expenses." (Sourced from Prof. Aswath Damodaran's public university courseware

page 11 of the "Measuring Risk" lecture notes).

2. Weygandt

J. J.

Kimmel

P. D.

& Kieso

D. E. (2019). Financial & Managerial Accounting. John Wiley & Sons. Chapter 13

"Financial Analysis: The Big Picture

" defines the Times Interest Earned ratio as (Net Income + Interest Expense + Income Tax Expense) / Interest Expense. This numerator is equivalent to PBIT. (This is a standard university textbook

widely adopted in accounting programs).

3. Gibson

C. H. (2013). Financial Statement Analysis (13th ed.). South-Western

Cengage Learning. In Chapter 10

"Debt and Equity Analysis

" the "Times Interest Earned" ratio is detailed with the formula: Earnings Before Interest and Taxes (EBIT) / Interest Expense. (This textbook is a staple in university-level financial analysis courses).