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CA Final | Inter | Foundation Test Series‌

QUESTION‌
BANK‌
IN AL
CA F TING
R EP OR
NC IAL
FINA
UPDATED FOR SEPT 25

Include all questions from ICAI Study Material, RTPs, MTPs,

past papers, and other relevant materials.
 CA FINAL

FINANCIAL REPORTING

TOPIC WISE QUESTION BANK

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 Chapter 1

INTRODUCTION TO INDIAN ACCOUNTING STANDARDS

Topic 1 Definition of Net Worth and Threshold Criteria for Ind AS

Applicability

Question 1

ICAI Illustration

Following is a snapshot of audited balance sheet of company A as on 31st March 2014.

Company A’s equity shares are listed on Bombay Stock Exchange since 2010

Liabilities Rs. in crores Assets Rs. in crores

Equity Share Capital 160 Fixed Assets 455

Securities Premium 200 Investments 200

General Reserve 150 Current Assets 50

Revaluation Reserve 40 Miscellaneous Expenditure 80

not written off
75
Profit and Loss A/c
160
Liabilities

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 785 Total 785
Total

(a) As per roadmap, which Phase company A fall into?

(b) Will your answer change if Company A is an unlisted company?

(Study material)

Answer

Calculation of Net Worth:

Particulars Rs. in crores

Equity Share Capital 160

Securities Premium 200

General Reserve 150

Profit and Loss A/c 75

Miscellaneous Expenditure not written off (80)

Net Worth as per Section 2(57) of The Companies Act, 2013 505

Note – Revaluation Reserve would not be included in the calculation of net worth as per
definition mentioned in section 2(57) of The Companies Act, 2013 .The company is a listed
company and it does meet the net worth threshold of Rs.500 Crores. Hence it would be covered
under phase I. Hence Ind AS would be applicable to the company for accounting periods
beginning on or after 1st April 2016. Even if Company A is an unlisted company as company A’s
net worth is more than 500 Crores, it would be covered under Phase I of the road map and

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hence Ind AS would be applicable for the accounting periods beginning on or after 1st April
2016.

Question 2

ICAI Illustration

Let’s say in Illustration 1, the balance of profit and loss account is negative Rs. 375 crores.
When Ind AS should be applicable to Company A? Will you answer change if Company A is an
unlisted company?

(Study material)

Answer

If the balance of Profit and Loss A/c is negative 375 Crores, the net worth as per section 2(57) of
The Companies Act, 2013 would be Rs. 55 Crores (Equity share capital Rs. 160 Cr + Securities
Premium Rs. 200 Cr + General Reserve Rs. 150 Cr – Debit balance of P&L Rs.375 Cr –
Miscellaneous expenditure not written off Rs. 80 Cr). Hence, it does not meet the criteria as
mentioned in Phase I. i.e. Listed company or Net worth of Rs. 500 Cr or more. However, as
Company A is a listed company, it will irrespective be covered under Phase II as the first criteria
of phase II states “companies whose equity or debt securities are listed or are in the process of
being listed on any stock exchange in India or outside India and having net worth of less than
rupees five hundred crore”. Hence, Ind AS would be applicable to Company A for the
accounting periods beginning on or after 1st April 2017. If Company A is an unlisted company,
Ind AS would not be applicable until it breaches the net worth criteria mentioned in the
roadmap.

Question 3

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ICAI Illustration

The net worth of Company B (an unlisted company) was Rs. 600 crores as on 31st March
2014. However due to losses incurred in FY 14-15, the net worth of the company was Rs. 400
Crores as on 31st March 2015. From when company B shall apply Ind AS?

(Study material)

Answer

Here the company’s net worth as on cut-off date was greater than Rs. 500 crores, which
suggests that it should be covered under phase I of the roadmap. A question may however arise
in mind that since, the net worth as on immediately preceding year-end was Rs. 400 crores,
would the company be covered under phase II of the roadmap?

net worth threshold criteria for a company are once met, then it shall be required to comply
with Ind AS, irrespective of the fact that as on later date its net worth falls below the criteria
specified.”

In view of the above, the Company B will be required to follow Ind AS for accounting periods
beginning on or after 1st April 2016

Question 4

ICAI Illustration

The net worth of Company C (an unlisted company) was Rs. 400 crores as on 31st March
2014. However, the net worth of the company was Rs. 600 Crores as on 31st March 2015.
From when company B shall apply Ind AS?

(Study material)

Answer

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Similar issue has been encountered in ITFG Bulletin 1, Issue 1 which gives reference to clause 2b
of the notification wherein it is stated that: “For companies which are not in existence on 31st
March, 2014 or an existing company falling under any of thresholds specified in sub-rule (1) for
the first time after 31st March, 2014, the net worth shall be calculated on the basis of the first
audited financial statements ending after that date in respect of which it meets the thresholds
specified in sub-rule (1)” Hence, any company that meets the thresholds as specified in the
Companies (Indian Accounting Standards) Rules, 2015 in a particular financial year, Ind AS will
become applicable to such company in immediately next financial year. Hence, in the present
case, Company C is covered by Phase I of the roadmap and accordingly, Ind AS will be applicable
to Company C for accounting periods beginning on or after 1st April 2016

Topic 2 Applicability of Ind AS to Subsidiaries, Holding Companies, and

Group Structures

Question 5

ICAI Illustration

Company D is the parent company of group A. Company A is an unlisted company having net
worth of 60 crores as on 31st March 2014. Following are the other companies of the group.

Name of the company Relationship Net worth as on 31st March

2014

Company B (Unlisted) Subsidiary of Company A Rs. 600 Crore

Company C (Unlisted) Subsidiary of Company B Rs. 150 Crore

Whether Ind AS be applicable to companies A, B and C?

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 (Study material)

Answer

Company A and C are unlisted and do not exceed the net worth criteria. However, the net
worth of Company B exceeds Rs. 500 Crore hence it would be covered under Phase I of the
roadmap. As Ind AS be applicable to Company B, the parent company of Company B i.e.
Company A and subsidiary of Company B i.e. Company C would also get covered under Ind AS
irrespective of net worth criteria. Hence Ind AS would be applicable to all three companies i.e.
Company A, B and C.

Question 6

ICAI Illustration

Following is the structure of Company D

All the companies in above structure are unlisted companies and the net worth of company E
is Rs. 300 Crores and net worth of all the other companies is below Rs. 250 crores. To which
company would Ind AS be applicable?

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 (Study material)

Answer

As mentioned in the Companies (Indian Accounting Standards) Rules, 2015, if Ind AS is

applicable to a company, it would also be applicable to its Holding Company, subsidiary
company, associate company and Joint Venture. As the turnover of company E is above Rs. 250
crores, it would be covered under Phase II of the roadmap. Hence, its subsidiary (Company F),
associate (Company G) and Holding (Company D) would also be covered under Ind AS with
effect from 1st April 2017. With respect to other companies of the group, following guidance is
given in ITFG clarification bulletin 15, Issue 10: “It may be noted that Ind AS applies to holding,
subsidiary, joint venture and associate companies of the companies which meet the net
worth/listing criteria. This requirement does not extend to another fellow subsidiary of a
holding company which is required to adopt Ind AS because of its holding company relationship
with a subsidiary meeting the net worth/listing criteria. Holding company will be required to
prepare separate and consolidated financial statements mandatorily under Ind AS, if one of its
subsidiaries meets the specified criteria and therefore, such subsidiaries may be required by
the holding company to furnish financial statements as per Ind AS for the purpose of preparing
Holding company’s consolidated Ind AS financial statements. Such fellow subsidiaries may,
however, voluntarily opt to prepare their financial statements as per Ind AS.” Hence the other
companies of the group i.e. Company H and Company I would not be covered under Ind AS.
However, as mentioned in ITFG, Company H and I would be required to prepare its financial
statements under Ind AS so as to facilitate Company D for preparation of its consolidated
financial statements. Hence, though statutorily Company H and I may continue to prepare its
financial statements under AS, but it will also have to converge to Ind AS. Moreover, they may
also opt to voluntarily adopt Ind AS and prepare its statutory accounts under Ind AS too.

Question 7

ICAI Illustration

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ABC Inc., incorporated in a foreign country has a net worth of Rs. 700 Crores. It has two
subsidiaries Company X whose net worth as on 31st March 2014 is Rs. 600 Crores and
Company Y whose net worth is Rs. 150 Crores. Whether Company X and Y would be required
to follow Ind AS from accounting periods commencing on or after 1st April 2016 on the basis
of their own net worth or on the basis of the net worth of ABC Inc.?

(Study material)(MTP May’25)

Answer

Similar issue has been dealt in ITFG Clarification Bulletin 2, Issue 2. ITFG noted that as per Rule
4(1)(ii)(a) of the Companies (Indian Accounting Standards) Rules, 2015, Company X having net
worth of Rs. 600 crores at the end of the financial year 2015-16, would be required to prepare
its financial statements for the accounting periods commencing from 1st April, 2016, as per the
Companies (Indian Accounting Standards) Rules, 2015. While Company Y Ltd. having net worth
of Rs. 150 crores in the year 2015-16, would be required to prepare its financial statements as
per the Companies (Accounting Standards) Rules, 2006. Since, the foreign company ABC Inc., is
not a company incorporated under the Companies Act, 2013 or the earlier Companies Act,
1956, it is not required to prepare its financial statements as per the Companies (Indian
Accounting Standards) Rules, 2015. As the foreign company is not required to prepare financial
statements based on Ind AS, the net worth of foreign company ABC would not be the basis for
deciding whether Indian Subsidiary Company X Ltd. and Company Y Ltd. are required to prepare
financial statements based on Ind AS.

Question 8

ICAI Illustration

As per the roadmap, Ind AS is applicable to Company X from the financial year 2017-18.
Company X (non-finance company) is a subsidiary of Company Y (NBFC). Company Y is an
unlisted NBFC company having net worth of Rs. 400 crores. What will be the date of

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applicability of Ind AS for company X and company Y? If Ind AS applicability date for parent
NBFC is different from the applicability date of corporate subsidiary, then, how will the
consolidated financial statements of parent NBFC be prepared?

(Study material)

Answer

In accordance with the roadmap, it may be noted that NBFCs having net worth of less than 500
crore shall apply Ind AS from 1 April, 2019 onwards. Further, the holding, subsidiary, joint
venture or associate company of such an NBFC other than those covered by corporate roadmap
shall also apply Ind AS from 1 April, 2019. Accordingly, in the given case, Company Y (NBFC)
shall apply Ind AS for the financial year beginning 1 April, 2019 with comparative for the period
ended 31 March, 2019 . Company X shall apply Ind AS in its statutory individual financial
statements from financial year 2017-2018 (as per the corporate roadmap). However, for the
purpose of Consolidation by Company Y for financial years 2017-2018 and 2018-2019, Company
X shall also prepare its individual financial statements as per AS.

Topic 3 : Applicability of Ind AS to Joint Ventures and Associates

Question 9

Fresh Vegetables Limited (FVL) was incorporated on 2 nd April, 20X1 under the provisions of
the Companies Act, 2013 to carry on the wholesale trading business in vegetables. As per the
audited accounts of the financial year ended 31 st March, 20X7 approved in its annual general
meeting held on 31st August, 20X7 its net worth, for the first time since incorporation,
exceeded Rs. 250 crore. The financial statements since inception till financial year ended 31st
March, 20X6 were prepared in accordance with the Companies (Accounting Standards) Rules

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2006. It has been advised that henceforth it should prepare its financial statements in
accordance with the Companies (Indian Accounting Standards) Rules, 2015.

The following additional information is provided by the Company:

− FVL has in the financial year 20X2-20X3 entered into a 60:40 partnership with Logistics
Limited and incorporated a partnership firm 'Vegetable Logistics Associates' (VLA) to carry on
the logistics business of vegetables from farm to market.

− FVL also has an associate company Social Welfare Limited (SWL) that was incorporated in
July, 20X5 as a charitable organization and registered under section 8 of the Companies Act,
2013. Social Welfare Limited has been the associate company of FVL since its incorporation.

Examine the applicability of Ind AS on VLA & SWL.

(RTP May ’22)

Answer

Applicability of Ind AS in general:

 Currently Ind AS is applicable to the following companies except for companies other than
banks and Insurance Companies, on mandatory basis:
a) All companies which are listed or in process of listing in or outside India on Stock
Exchanges.

b) Unlisted companies having net worth of Rs. 250 crore or more but less than Rs. 500
crore.

c) Holding, Subsidiary, Associate and Joint venture of above

 Companies listed on SME exchange are not required to apply Ind AS on mandatory basis.

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 Once a company starts following Ind AS either voluntarily or mandatorily on the basis of
criteria specified, it shall be required to follow Ind AS for all the subsequent financial
statements even if any of the criteria specified does not subsequently apply to it.
 Application of Ind AS is for both standalone as well as consolidated financial statements if
threshold criteria met or adopted voluntarily
 Companies meeting the thresholds for the first time at the end of an accounting year shall
apply Ind AS from the immediate next accounting year with comparatives.
 Companies not covered by the above roadmap shall continue to apply existing Accounting
Standards notified in the Companies (Accounting Standards) Rules, 2006.

Since the net worth of FVL in immediately preceding year exceeded Rs. 250 crore, Ind

AS is applicable to it. The entity VLA and SWL have to be examined as they may fall
in criteria (c) above.

Applicability of Ind AS on VLA

Joint arrangement can be either joint operation or joint venture. However, for the purpose of
identifying the applicability of Ind AS, the Act defines Joint venture (as an explanation to section
2(6) of the Companies Act, 2013), as follows:

“The expression "joint venture" means a joint arrangement whereby the parties that have joint
control of the arrangement have rights to the net assets of the arrangement”.

Accordingly, if an entity is classified as joint operation and not joint venture, then Ind AS would
not be applicable to such entity.

In the case of VLA, if partners conclude that they have rights in the assets and obligations for
the liabilities relating to the partnership firm then this would be a joint operation.

However, Ind AS would not be applicable on VLA in such a case since it is the case of joint
operation (and not a joint venture).

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Alternatively, if partners conclude that they have joint control of the arrangement and have
rights to the net assets of the arrangement relating to the partnership firm, then this would be
a joint venture. In such a case, Ind AS would be applicable to them.

Applicability of Ind AS on SWL

Social Welfare Limited (SWL) is the associate company of FVL. Accordingly, Ind AS would be
applicable on SWL too irrespective of the fact that SWL has been incorporated as a charitable
organization.

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 Chapter 2

Conceptual Framework for Financial Reporting under Indian

Accounting Standards (Ind AS)

Topic 1: Faithful Representation

Question 1

Discuss with respect to 'Conceptual Framework for Financial Reporting under Indian
Accounting Standards', 'faithful representation', one of the qualitative characteristics of
financial information.

(May ‘23)

Answer 1

EITHER

Faithful representation

To be useful, financial information must faithfully represent the substance of the phenomena
that it purports to represent. In many circumstances, the substance of an economic
phenomenon and its legal form are the same. If they are not the same, providing information
only about the legal form would not faithfully represent the economic phenomenon.

To be a perfectly faithful representation, a depiction would have following three characteristics:

(a) Complete: A complete depiction includes all information necessary for a user to understand
the phenomenon being depicted, including all necessary descriptions and explanations.

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(b) Neutral: A neutral depiction is without bias in the selection or presentation of financial
information. Neutrality is supported by the exercise of prudence. Prudence is the exercise of
caution when making judgements under conditions of uncertainty. The exercise of prudence
means that assets and income are not overstated, and liabilities and expenses are not
understated. Equally, the exercise of prudence does not allow for the understatement of assets
or income or the overstatement of liabilities or expenses.
(c) Free from error: Free from error means there are no errors or omissions in the description
of the phenomenon, and the process used to produce the reported information has been
selected and applied with no errors in the process. In this context, being free from error
does not mean perfectly accurate in all respects. For example, an estimate of an
unobservable price or value cannot be determined to be accurate or inaccurate. However, a
representation of that estimate can be faithful if the amount is described clearly and
accurately as being an estimate, the nature and limitations of the estimating process are
explained, and no errors have been made in selecting and applying an appropriate process
for developing the estimate.

Topic 2: Cost Constraint on Useful Financial Information

Question 2

Discuss the following in the context of 'Conceptual Framework for Financial Reporting under
Indian Accounting Standards':

The cost constraint on useful financial information

(PYP ,May ’22)

Answer 2

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The cost constraint on useful financial information;

Role of Cost: Cost is a pervasive constraint on the information that can be provided by financial
reporting. Reporting financial information imposes costs, and it is important that these costs
are justified by the benefits of reporting that information.

Basis of Assessment of Cost: Both the providers and users of financial information incur costs
in reporting and analyzing financial information. In applying the cost constraint, ICAI assesses
whether the benefits of reporting particular information are likely to justify the costs incurred
to provide and use that information. When applying the cost constraint in formulating a
proposed Ind AS, the ICAI seeks information from providers of financial information, users,
auditors, academics and others about the expected nature and quantity of the benefits and
costs of that Ind AS. In most situations, assessments are based on a combination of quantitative
and qualitative information.

Cost Perspective: Due to the inherent subjectivity, assessments of different individuals about
the costs and benefits of reporting particular items of financial information will vary. Therefore,
ICAI seeks to consider costs and benefits in relation to financial reporting generally, and not just
in relation to individual reporting entities.

Topic 3: Executory Contracts

Question 3

Discuss the following in the context of 'Conceptual Framework for Financial Reporting under
Indian Accounting Standards':

Executory contracts.

(PYP ,May ’22)

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Answer 3

Executory Contracts:

Definition: An executory contract is a contract, or a portion of a contract, that is equally

unperformed — neither party has fulfilled any of its obligations, or both parties have partially
fulfilled their obligations to an equal extent.

Outcome of Executory Contract: An executory contract establishes a combined right and

obligation to exchange economic resources. The rights and obligations are inter-dependent and
cannot be separated. Hence, the combined rights and obligations constitute a single asset or
liability.

The entity has an asset if the terms of the exchange are currently favourable; it has a liability if
the terms of the exchange are currently unfavourable.

Basis of Disclosure: Whether such an asset or liability is included in the financial statements
depends on both the recognition criteria and the measurement basis selected for the asset or
liability, including, if applicable, any test for whether the contract is onerous.

Topic 4: Recognition of Inventory / Assets

Question 4

Defense Innovators Limited is a public sector undertaking and is engaged in the construction
of warships and submarines. XYZ Private Limited approached Defense Innovators Limited for
construction of "specially designed" ships for it, which will be used by XYZ Private Limited for
transportation of specific goods. The offer was accepted by the Defense Innovators Limited
and both the companies entered into an agreement for the construction and delivery of 3
specially designed ships on 'Fixed Price' basis with variable component in respect to certain

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items. Base and depot (B & D) spares for all three ships shall be procured by Defense
Innovators Limited and will be paid on the cost of the item with certain percentage.

The contract states that "certain equipment" out of variable cost items, will be supplied by
XYZ Private Limited at 'free of cost' for installation on board of ship.

It is, therefore, to be noted as under:

(i) Some equipment is procured by Defense Innovators Limited in the presence of the XYZ
Private Limited's representative for technical scrutiny as well as negotiating the prices. The
vendors of these equipment are paid by Defense Innovators Limited. The cost of the
equipment along with the cost of installation and profit thereon is claimed and reimbursed by
XYZ Private Limited to Defense Innovators Limited.

(ii) There is certain other equipment for which orders are directly placed and also paid by the
XYZ Private Limited. This equipment is known as 'Buyer Furnished Equipment (BFE)' and are
delivered to the company 'free of cost' for installing in the ship. The labour cost of Installation
of these are already included in the price component of the contract. BFEs are returned to the
buyer after completion of the ship. The period required for construction of one ship was
approximately four years. Whether the cost of Buyer Furnished Equipment's (BFE's) supplied
by XYZ Private Limited to Defense Innovators Limited forinstalling the same in the ships can
be considered as 'inventory' by Defense Innovators Limited and then on delivery of ship will
be recognized as revenue in its books of account? Elaborate.

(MTP March ’23 & RTP May’22)

Answer 4

Before any item can be recognized as an inventory, it should meet the definition of ‘asset’ as
given in the Conceptual Framework for Financial Reporting under Ind AS, issued by the Institute
of Chartered Accountants of India as follows:

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“An asset is a present economic resource controlled by the entity as a result of past events and
economic resource is a right that has the potential to produce economic benefits”.

The orders in respect of Buyer Furnished Equipment’s (BFEs) are directly placed by the buyer
and payment in respect of them is made by the buyer. These are then supplied to the company
for installing in the ship and the buyer pays installation charges which are included in the
contract price. Thus, the company has neither incurred any cost on BFEs nor any amount is
recoverable on account of such equipment except installation charges. Accordingly, such
equipment are not ‘assets’ that may be considered as a part of its contract work-in progress. In
fact, after installation in the ship, BFEs are returned to the buyer after completion of the ship.
Thus, these are only held by the company in the capacity of a bailee. Since, it cannot be
considered as an ‘asset’, therefore, it can neither be considered as ‘inventory’ nor as ‘work -in-
progress’. Further, it can also not be considered as a part of sale value or revenue of the
company as no consideration would be receivable with respect to the cost of such equipment.
On the basis of the above, it can be concluded that:

(i) The BFEs cannot be considered as inventories / Work- in- progress for Defense Innovators
Limited.

(ii) The BFE’s cost cannot be considered as part of sales value / contract revenue to Defense
Innovators Limited.

Topic 5: Capital Maintenance Concepts – Financial vs Physical

Question 5

Explain Financial capital maintenance and Physical capital maintenance as per the Framework
and differentiate it.

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 (MTP March ‘18)

Answer 5

A. Financial Capital maintenance

Under this concept, a profit is earned only if the financial (or money) amount of the net assets
at the end of the period exceeds the financial (or money) amount of net assets at the beginning
of the period, after excluding any distribution to, and contribution from, owners during the
period. Financial Capital Maintenance can be measured in either nominal monetary units or
units of constant purchasing power. (May 22)

B. Physical Capital maintenance

Under this concept, a profit is earned only if the physical productive capacity or operating
capability of the entity (or resources and funds needed to achieve that capacity) (May 22) at the
end of the period exceeds the physical productive capacity at the beginning of the period, after
excluding any distributions to, and contributions from, owners during the period.

C. Major differences between Physical Capital & Financial Capital

The principle difference between the two concepts of capital maintenance is the treatment of
the effect of changes in the prices of assets and liabilities of the entity. (May 22)

• The physical capital maintenance concept requires the adoption of the current cost basis as
measurement whereas financial capital maintenance concept does not require the use of a
particular basis of measurement.

• Financial capital maintenance where capital is defined in terms of nominal monetary units,
profit represents the increase in nominal money capital over the period. Thus, increase in the
prices of assets held over the period, conventionally referred to as holding gains are
conceptually profits. They might not be recognized as such however, until the assets are
disposed of in an exchange transaction.(May 22) When the concept of financial capital

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maintenance is defined in terms of constant purchasing power units, profit represents the
increase in invested purchasing power over the period. Thus, only that part of the increase in
the prices of assets that exceeds the increase in the general level of prices is regarded as profit.
The rest of the increase is treated as a capital maintenance adjustment and hence as part of
equity. (May 22)

• Under the concept of physical capital maintenance when capital is defined in terms of the
physical productive capacity, profit represents the increase in that capital over the period. All
price changes affecting the assets and liabilities of the entity are viewed as changes in the
measurement of the physical productive capacity of the entity; hence, they are treated as
capital maintenance adjustments that are part of equity and not as profit.

Question 6

Mr. Unique commenced business on 1/04/17 with Rs. 20,000 represented by 5,000 units of
the product @ Rs. 4 per unit. During the year 2017-18, he sold 5,000 units @ Rs. 5 per unit.
During 2017-18, he withdraw Rs. 4.000.

• 31/03/18: Price of the product @ Rs. 4.60 per unit

• Average price indices: 1/4/17: 100 & 31/3/18: 120

Find out:

(i) Financial capital maintenance at Historical Cost

(ii) Financial capital maintenance at Current Purchasing Power

(iii) Physical Capital Maintenance

(PYP May’19)

Answer 6

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 Financial Capital Maintenance at historical costs

Rs. Rs.

Closing capital (Rs. 25,000 – Rs. 4,000) 21,000

Less: Capital to be maintained

Opening capital (At historical cost) -

Introduction (At historical cost) 20,000 (20,000)

Retained profit 1,000

Financial Capital Maintenance at current purchasing power

Rs. Rs.

Closing capital (Rs. 25,000 – Rs. 4,000) 21,000

Less: Capital to be maintained

Opening capital (At closing price) (5,000 Rs.4.80) 24,000

Introduction (At closing price) Nil (24,000)

Retained profit (3,000)

Physical Capital Maintenance

Rs. Rs.

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Closing capital (Rs. 25,000 – Rs. 4,000) 21,000

Less: Capital to be maintained

Opening capital (At current cost) (5,000 Rs. 4.60) 23,000

Introduction (At current cost) Nil (23,000)

Retained profit (2,000)

Topic 6: Equity, Income, and Expenses

Question 7

What is Equity, Income and Expenses as per ‘Framework for Financial Reporting under Ind
AS’? How the information with respect to income and expenses helps the users in
understanding of the financial statements?

(MTP Oct’22)

Answer 7

Equity: Equity claims are claims on the residual interest in the assets of the entity after
deducting all its liabilities. In other words, they are claims against the entity that do not meet
the definition of liability.

Income and Expenses: Income is increases in assets, or decreases in liabilities, that result in
increases in equity, other than those relating to contributions from holders of equity claims.

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Expenses are decreases in assets, or increases in liabilities, that result in decreases in equity,
other than those relating to distributions to holders of equity claims. Income and expenses are
the elements of financial statements that relate to an entity’s financial performance. Users of
financial statements need information about both an entity’s financial position and its financial
performance. Hence, although income and expenses are defined in terms of changes in assets
and liabilities, information about income and expenses is just as important as information
about assets and liabilities. Different transactions and other events generate income and
expenses with different characteristics. Providing information separately about income and
expenses with different characteristics can help users of financial statements to understand the
entity’s financial performance.

Topic 7 Asset Recognition Criteria (Conceptual Framework vs Ind AS 38)

Question 8

Explain the criteria in the Conceptual Framework for Financial Reporting for the recognition
of an asset and discuss whether there are inconsistencies with the criteria in Ind AS 38.

(PYP Nov 22)

Answer 8

The Conceptual Framework defines an asset as a present economic resource controlled by the
entity as a result of past events. An economic resource is a right that has the potential to
produce economic benefits. Assets should be recognized if they meet the Conceptual
Framework definition of an asset and such recognition provides users of financial statements
with information that is useful i.e. it is relevant as well as results in faithful representation.
However, the criteria of a cost-benefit analysis always exists i.e. the benefits of the information
must be sufficient to justify the costs of providing such information. The recognition criteria

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outlined in the Conceptual Framework allows for flexibility in the application in amending or
developing the standards.

Para 8 of Ind AS 38 ‘Intangible Assets’, defines an intangible asset as an identifiable non-

monetary asset without physical substance. Further, Ind AS 38 defines an asset as a resource:

(a) controlled by an entity as a result of past events; and

(b) from which future economic benefits are expected to flow to the entity.

Furthermore, Para 21 of Ind AS 38 states that an intangible asset shall be recognized if, and only
if:

(a) it is probable that the expected future economic benefits that are attributable to the asset
will flow to the entity; and

(b) the cost of the asset can be measured reliably.

This requirement is applicable both in case of an externally acquired intangible asset or an

internally generated intangible asset. The probability of expected future economic benefits
must be based on reasonable and supportable assumptions that represent management’s best
estimate of the set of economic conditions that will exist over the useful life of the asset.
Further, as per Para 33 of Ind AS 38, the probability recognition criterion is always considered
to be satisfied for intangible assets acquired in business combinations. If the recognition criteria
are not satisfied, Ind AS 38 requires the expenditure to be expensed as and when it is incurred.

It is notable that the Conceptual Framework does not prescribe a ‘probability criterion’. As long
as there is a potential to produce economic benefits, even with a low probability, an item can
be recognized as an asset according to the Conceptual Framework. However, in terms of
intangible assets, it could be argued that recognizing an intangible asset having low probability
of generating economic benefits would not be useful to the users of financial statements given
that the asset has no physical substance.

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The recognition criteria and definition of an asset under Ind AS 38 are different as compared to
those outlined in the Conceptual Framework. To put in simple words, the criteria in Ind AS 38
are more specific, but definitely do provide information that is relevant and a faithful
representation. When viewed from the prism of relevance and faithful representation, the
requirements of Ind AS 38 in terms of recognition appear to be consistent with the Conceptual
Framework.

Question 9

ICAI Illustration

Explain the criteria in the Conceptual Framework for Financial Reporting for the recognition
of an asset and discuss whether there are inconsistencies with the criteria in Ind AS 38,
Intangible Assets.

(Study material)

Answer

The Conceptual Framework defines an asset as a present economic resource controlled by the
entity as a result of past events. An economic resource is a right that has the potential to
produce economic benefits. Assets should be recognized if they meet the Conceptual
Framework definition of an asset and such recognition provides users of financial statements
with information that is useful (i.e. it is relevant as well as results in faithful representation).
However, the criteria of a cost benefit analysis always exists i.e. the benefits of the information
must be sufficient to justify the costs of providing such information. The recognition criteria
outlined in the Conceptual Framework allows for flexibility in the application in amending or
developing the standards.

Para 8 of Ind AS 38, Intangible Assets defines an intangible asset as an identifiable non-
monetary asset without physical substance. Further, Ind AS 38 defines an asset as a resource:

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(a) controlled by an entity as a result of past events; and

(b) from which future economic benefits are expected to flow to the entity.

Furthermore, Para 21 of Ind AS 38 states that an intangible asset shall be recognised if, and only
if:

(a) it is probable that the expected future economic benefits that are attributable to the asset
will flow to the entity; and

(b) the cost of the asset can be measured reliably.

This requirement is applicable both in case of an externally acquired intangible asset or an

internally generated intangible asset. The probability of expected future economic benefits
must be based on reasonable and supportable assumptions that represent management’s best
estimate of the set of economic conditions that will exist over the useful life of the asset.
Further, as per Para 33 of Ind AS 38, the probability recognition criterion is always considered
to be satisfied for intangible assets acquired in business combinations. If the recognition criteria
are not satisfied, Ind AS 38 requires the expenditure to be expensed as and when it is incurred.
It is notable that the Conceptual Framework does not prescribe a ‘probability criterion’. As
long as there is a potential to produce economic benefits, even with a low probability, an item
can be recognized as an asset according to the Conceptual Framework. However, in terms of
intangible assets, it could be argued that recognizing an intangible asset having low probability
of generating economic benefits would not be useful to the users of financial statements given
that the asset has no physical substance.

The recognition criteria and definition of an asset under Ind AS 38 are different as compared to
those outlined in the Conceptual Framework. To put in simple words, the criteria in Ind AS 38
are more specific, but definitely do provide information that is relevant and a faithful
representation. When viewed from the prism of relevance and faithful representation, the
requirements of Ind AS 38 in terms of recognition appear to be consistent with the Conceptual
Framework.

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Topic 8: Measurement Bases (Mixed Measurement Approach)

Question 10

The directors of Jayant Ltd. have received the following email from its majority shareholder:
To: Directors of Jayant Ltd.

Re: Measurement

I recently read an article published in the financial press about the ‘mixed measurement
approach’ that is used by lots of companies. I hope Jayant Ltd. does not follow such an
approach because ‘mixed’ seems to imply ‘inconsistent’. I believe that consistency is of
paramount importance, and hence feel it would be better to measure everything in a uniform
manner. It would be appreciated if you could provide further information at the next annual
general meeting on measurement bases, covering what approach is taken by Jayant Ltd. and
why, and the potential effect such an approach has on the investors trying to analyses the
financial statements.

Prepare notes for the directors of Jayant Ltd. to discuss the issue raised in the shareholders’
email with reference to the Conceptual Framework wherever appropriate.

(Study material)

Answer 10

‘Mixed measurement’ approach implies that a company selects different measurement bases
(e.g. historical cost or fair value) for its various assets and liabilities, rather than using one single
measurement basis for all items. The measurement basis so selected should reflect the type of
entity and the sector in which it operates and the business model that the entity adopts.

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There are criticisms of the mixed measurement approach, particularly under the IFRS regime,
because investors think that if different measurement bases are used for assets and liabilities,
the resulting figures could lack relevance or exhibit little meaning.

It is however important to note that figures of items in the financial statements cannot be
derived by following a one-size-fits-all approach. Such an approach may not provide relevant
information to users. A particular measurement basis may be easier to understand, more
verifiable and less costly to implement. Therefore, to state that ‘mixed measurement’ approach
is ‘inconsistent’ is a poor argument. In reality, a mixed approach may actually provide more
relevant information to the stakeholders.

The Conceptual Framework confirms the allowance of the usage of a mixed measurement
approach in developing standards. The measurement methods included in the standards are
those which the standard-setters believe provide the most relevant information and which
most faithfully represent the underlying transaction or event. Based on the reactions to the
convergence to Ind AS, it feels that most investors feel this approach is consistent with their
analysis of financial statements. Thus, the arguments against a mixed measurement are far
outweighed by the greater relevance achieved by such measurement bases.

Jayant Ltd. prepares its financial statements under Ind AS, and therefore applies the
measurement bases permitted in Ind AS. Ind AS adopt a mixed measurement basis, which
includes current value (fair value, value in use, fulfilment value and current cost) and historical
cost.

Where an Ind AS allows a choice of measurement basis, the directors of Jayant Ltd. must
exercise judgment as to which basis will provide the most useful information for its primary
users. Furthermore, when selecting a measurement basis, measurement uncertainty should
also be considered. The Conceptual Framework states that for some estimates, a high level of
measurement uncertainty may outweigh other factors to such an extent that the resulting
information may be of little relevance.

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Topic 9: Derecognition of Financial Assets & Faithful Representation

Question 11

ICAI Illustration

Derecognition vs. Faithful Representation

As at 31 March 20X2, Natasha Ltd. carried trade receivables of Rs. 280 crores in its balance
sheet. At that date, Natasha Ltd. entered into a factoring agreement with Samantha Ltd., a
financial institution, according to which it transferred the trade receivables in exchange for an
immediate cash payment of Rs. 250 crores. As per the factoring agreement, any shortfall
between the amount collected and Rs. 250 crores will be reimbursed by Natasha Ltd. to
Samantha Ltd. Once the trade receivables have been collected, any amounts above Rs. 250
crores, less interest on this amount, will be repaid to Natasha Ltd. The directors of Natasha
Ltd. are of the opinion that the trade receivables should be derecognized.

You are required to explain the appropriate accounting treatment of this transaction in the
financial statements for the year ending 31 March 20X2, and also evaluate this transaction in
the context of the Conceptual Framework. hence there is outcome uncertainty.

(Study material)

Answer

Accounting Treatment:

Trade Receivables fall within the ambit of financial assets under Ind AS 109, Financial
Instruments. Thus, the issue in question is whether the factoring arrangement entered into
with Samantha Ltd. requires Natasha Ltd. to derecognize the trade receivables from its financial
statements.

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As per Para 3.2.3, 3.2.4, 3.2.5 and 3.2.6 of Ind AS 109, Financial Instruments, an entity shall
derecognize a financial asset when, and only when:

(a) the contractual rights to the cash flows from the financial asset expire, or

(b) it transfers the financial asset or substantially all the risks and rewards of ownership of the
financial asset to another party.

(c) In the given case, since the trade receivables are appearing in the Balance Sheet of Natasha
Ltd. as at 31 March 20X2 and are expected to be collected, the contractual rights to the cash
flows have not expired.

(d) As far as the transfer of the risks and rewards of ownership is concerned, the factoring
arrangement needs to be viewed in its substance, rather than its legal form. Natasha Ltd. has
transferred the receivables to Samantha Ltd. for cash of Rs. 250 crores, and yet, it remains
liable for making good any shortfall between Rs. 250 crores and the amount collected by
Samantha Ltd. Thus, in substance, Natasha Ltd. is effectively liable for the entire Rs. 250 crores,
although the shortfall would not be such an amount. Accordingly, Natasha Ltd. retains the
credit risk despite the factoring arrangement entered.

(e) It is also explicitly stated in the agreement that Samantha Ltd. would be liable to pay to
Natasha Ltd. any amount collected more than Rs. 250 crores, after retaining an amount
towards interest. Thus, Natasha Ltd. retains the potential rewards of full settlement.

(f) A perusal of the above clearly shows that substantially all the risks and rewards continue to
remain with Natasha Ltd., and hence, the trade receivables should continue to appear in the
Balance Sheet of Natasha Ltd. The immediate payment (i.e. consideration as per the factoring
agreement) of Rs. 250 crores by Samantha Ltd. to Natasha Ltd. should be regarded as a financial
liability, and be shown as such by Natasha Ltd. in its Balance Sheet.

Topic 10: Fair Value Measurement under Ind AS

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Question 12

ICAI Illustration

The directors of Hind Ltd. are particular about the usefulness of the financial statements.
They have opined that although Ind AS implement a fair value model, Ind AS are failing in
reflecting the usefulness of the financial statements as they do not reflect the financial value
of the entity. Discuss the views of the directors as regards the use of fair value in Ind AS and
the fact that the Ind AS do not reflect the financial value of an entity, making special
reference to relevant Ind AS and the Conceptual Framework.

(Study material)

Answer

Usage of Fair Value in Ind AS:

Treatment under Ind AS:

The statement of the directors regarding Ind AS implementing a fair value model is not entire
accurate. Although Ind AS do use fair value (and present value), it is not a complete fair value
system. Ind AS are often based on the business model of the entity and on the expectations of
realizing the asset- and liability-related cash flows through operations and transfers.

It is notable that what is preferred is a mixed measurement system, with some items being
measured at fair value while others measured at historical cost.

About Fair Value (Ind AS 113)

Ind AS 113 defines fair value as the price that would be received to sell an asset or paid to
transfer a liability in an orderly transaction between market participants at the measurement
date. This price is an exit price.

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Ind AS 113 has given consistency to the definition and application of fair value, and this
consistency is applied across other Ind AS, which are generally required to measure fair value in
accordance with Ind AS 113. However, it cannot be implied that Ind AS requires all assets and
liabilities to be measured at fair value. Rather, many entities measure most items at
depreciated historical costs, although the exception being in the case of business combinations,
where assets and liabilities are recorded at fair value on the date of acquisition. In other cases,
usage of fair value is restricted.

Examples of use of fair value in Ind AS:

a) Ind AS 16 Property, Plant and Equipment permits revaluation through other comprehensive
income, provided it is carried out regularly.

b) Disclosure of fair value of Investment Property in Ind AS 40, while the companies account
for the same under the cost model.

c) Ind AS 38 Intangible Assets allows measurement of intangible assets at fair value with
corresponding changes in equity, but only if the assets can be measured reliably by way of
existence of an active market for them.

d) Ind AS 109 Financial Instruments requires some financial assets and liabilities to be measured
at amortized cost and others at fair value. The measurement basis is largely determined by the
business model for that financial instrument. Where the financial instruments are carried at fair
value, depending on the category and circumstances, the movement in the fair value (gain or
loss) is either recognized in profit or loss or in other comprehensive income.

Topic 11: Discontinued Operations & Held-for-Sale Classification

Question 13

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ICAI Illustration

Everest Ltd. is a listed company having investments in various subsidiaries. In its annual
financial statements for the year ending 31 March 20X2 as well as 31 March 20X3, Everest
Ltd. classified Kanchenjunga Ltd. a subsidiary as ‘held-forsale’ and presented it as a
discontinued operation. On 1 November 20X1, the shareholders had authorized the
management to sell all of its holding in Kanchenjunga Ltd. within the year. In the year to 31
March 20X2, the management made a public announcement of its intention to sell the
investment but did not actively try to sell the subsidiary as it was still operational within the
Everest group.

Certain organizational changes were made by Everest Ltd. during the year to 31 March 20X3,
thereby resulting in additional activities being transferred to Kanchenjunga Ltd. Additionally,
during the year ending 31 March 20X3, there had been draft agreements and some
correspondence with investment bankers, which showed in principle only that Kanchenjunga
was still for sale.

Discuss whether the classification of Kanchenjunga Ltd. as held for sale and its presentation
as a discontinued operation is appropriate, by referring to the principles of the relevant Ind
AS and evaluating the treatment in the context of the Conceptual Framework for Financial
Reporting. loss provide summarised information and more detailed information is provided in
the notes.

(Study material)

Answer

Kanchenjunga Ltd. is a disposal group in accordance with Ind AS 105, Non-current Assets Held
for Sale and Discontinued Operations. Disposal group can be defined as a group of assets to be
disposed of, by sale or otherwise, together as a group in a single transaction, and liabilities
directly associated with those assets that will be transferred in the transaction. Para 6 of Ind AS
105 provides that a disposal group shall be classified as held for sale if its carrying amount will

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be recovered principally through a sale transaction rather than through continuing use. Ind AS
105 is particularly strict as far as the application of held for sale criteria is concerned, and often
the decision to sell an asset or a disposal group is made well before the criteria are met.

Thus, as per Ind AS 105, for the asset (or disposal group) to be classified as held for sale, it must
be available for immediate sale in its present condition subject only to terms that are usual and
customary for sales of such assets (or disposal groups) and its sale must be highly probable.

For the sale to be highly probable:

a) The appropriate level of management must be committed to a plan to sell the asset (or
disposal group).

b) An active programme to locate a buyer and complete the plan must have been initiated.

c) The asset (or disposal group) must be actively marketed for sale at a price that is reasonable
in relation to its current fair value.

d) The sale should be expected to qualify for recognition as a completed sale within one year
from the date of classification.

e) It is unlikely that significant changes to the plan will be made or that the plan will be
withdrawn.

In the given case, the draft agreements and correspondence with investment bankers are not
specific enough to fit in the points above to prove that the criteria for held for sale was met at
that date. Additional information would be needed to confirm that the subsidiary was available
for immediate sale, and that it was being actively marketed at an appropriate price so as to
satisfy the criteria in the year to 31 March 20X2.

Further, the organizational changes made by Everest Ltd. in the year 20X2-20X3 are a good
indicator that Kanchenjunga Ltd. was not available for immediate sale in its present condition at
the point of classification. The fact that additional activities have been given to Kanchenjunga

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Ltd. indicate that the change wasn’t insignificant. The shareholders had authorized for a year
from 1 November 20X1. There is no evidence that this authorization extended beyond 1
November 20X2.

Conclusion:

Based on the information provided in the given case, it appears that Kanchenjunga Ltd. should
not be classified by Everest Ltd. as a subsidiary held for sale. Instead, the results of the
subsidiary should be reported as a continuing operation in the financial statements for the year
ending 31 March 20X2 and 31 March 20X3.

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 Chapter 3 Unit-1

Ind AS 1 “Presentation of Financial Statements”

Topic 1 : Current vs Non-current Classification

Question 1

A holding company [being the entity under consideration] gives a loan / inter corporate
deposit to a subsidiary that is recoverable on demand, at a rate of interest at 10%.

(a) Should such loan be disclosed as a current/non-current asset in the books of the holding
company? How relevant would the commercial reality of the transaction be in comparison to
the legal terms of the transaction?

(b) How this loan / inter-corporate deposit that is repayable on demand would be classified
in the books of the subsidiary?

(MTP Oct 21)

Answer 1

(a) Paragraph 66 (c) of Ind AS 1 provides that an asset shall be classified as current when an
entity expects to realise the asset within a period of twelve months after the reporting period.
To determine the expectation of the entity, the commercial reality of the transaction should
also be considered. If the loans have been given with an understanding that these loans would
not be called for repayment even though a clause may have been added that these are
recoverable on demand, it should be classified as a non-current asset.

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(b) Paragraph 69(c) of Ind AS 1 provides that a liability should be classified as current if the
liability is due to be settled within twelve months after the reporting period. Since the
loan/inter- corporate deposit would become due immediately as and when demanded and
presuming that the entity does not have an unconditional right to defer settlement of the
liability for at least twelve months after the reporting period, it should be classified as current
liability.

Question 2

Charm Limited (the 'Company') is a manufacturing company, which is into manufacturing of

wires and cables and has assessed its operating cycle to be 15 months. The Company has
some trade receivables which are receivable within a period of 12 months from the reporting
date i.e. 31st March 2021.

With respect to the following transactions, which took place during the financial year 2020-
2021, give your opinion based on relevant Ind AS:

• The Company has received a contract of Rs. 10 crore on 31st March 2021. The terms of the
contract require the Company to make a security deposit of 20% of the contract value with
the customer. The Company made a security deposit of Rs. 2 crore on 31st March 2021.
This contract will be completed in about 14 months. 70% of the deposit will be refunded
immediately and the balance 30% of the deposit will be refunded after 3 months from the
completion of the contract. The Company wants to present the security deposit of Rs. 2 crore
as non-current. Is the management's decision correct?

• The Company has some trade receivables that are due after 14 months from the date of the
balance sheet; the management of the Company expects to receive the amount within the
period of the operating cycle. Despite the fact that these are receivables in 14 months, the
management would like to present these as current. Is the management's decision correct?

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• In the normal course of business, the Company has given 2 contracts and received a total
security deposit of Rs. 4 crore. Rs. 3 crore is received from X Limited and Rs. 1 crore is
received from Y Limited on 31st March 2021. These are repayable on completion of the
contract. However, if the contract is cancelled within the contract term of 18 months,
then the deposit becomes payable immediately. The Company is positive about the contract
with X Limited but is in doubt about the contract received from Y Limited. The Company
wants to present the amount of Rs. 3 crore as non-current and Rs. 1 crore as current in the
balance sheet. Is the management's decision correct?

• The Company is planning to replace a machinery. It has given an advance of Rs. 1 crore for
purchase of new machinery which will be delivered in 6 months from the date of the balance
sheet. It has sold the old machinery for Rs. 0.5 crore, the payment of which is due in 10
months from the date of the balance sheet. The Company wants to present both these
amounts as current since they will be settled within twelve months from the end of the
reporting period. Is the management's decision correct?

(PYP July 21)

Answer 2

Operating cycle of Charm Limited = 15 months

(i) The security deposit made by the Company with the customers be classified as current assets
to the extent of 70% (Rs. 2 crore x 70% = Rs. 1.40 crore) as it will be refunded immediately on
completion of 14 months of contract i.e. within the operating cycle of 15 months.

However, 30% of the security deposit will be refunded after 3 months of completion of the
contract (14+3 = 17 months) i.e. after 2 months of operating cycle (Operating cycle of the
Company is 15 months). Hence, it will be classified as non-current. Therefore, management’s
decision is not correct. (Refer Para 66 of Ind AS 1)

(ii) Yes, the Company’s decision of presenting the trade receivables as Current Assets is correct
despite the fact that these are receivables in 14 months’ time since the operating cycle of the

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company is 15 months and any event arising due to trade will be considered as current if its
settlement is within the tenure of operating cycle. Additionally, the Company also need to
disclose amounts that are receivable within a period of 12 months and after 12 months from
the reporting date. (Refer Para 60 and 61 of Ind AS 1)

(iii) Paragraph 69(d) of Ind AS 1 states that an entity shall classify a liability as current when it
does not have an unconditional right to defer settlement of the liability for at least twelve
months after the reporting period.

Although it is expected that X Limited will fulfil the contract and the deposit will not be
refunded, but in case of cancellation within the contract term, refund of security deposit is a
condition that is not within the control of the entity. Hence, Charm Limited does not have an
unconditional right to defer settlement of the liability for at least twelve months after the
reporting period. Accordingly, the deposit will have to be classified as current liability in case of
both X and Y Limited.

(iv) Yes, the management decision to classify the payment of Rs. 0.5 crore as a current asset is
correct since the payment will be realized in less than twelve months from the end of the
reporting period.

Capital advances are advances given for procurement of Property, Plant and Equipment etc.
Typically, companies do not expect to realize them in cash. Rather, over the period, these get
converted into non-current assets. Hence, capital advances should be treated as other non-
current assets irrespective of when the Property, Plant and Equipment is expected to be
received.

Under Ind AS Schedule III, Capital Advances are not to be classified under Capital Work in
Progress since they are specifically to be disclosed under other non-current assets.

Accordingly, advance of Rs. 1 crore given for purchase of machinery is ‘Capital advance’ which
will be classified as non-current as it relates to acquisition of noncurrent item i.e., machinery.
Hence, management decision to classify it as current is incorrect.

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Question 3

An entity has the following trial balance line items. How should these items be classified, i.e.,
current or non-current as per Ind AS 1?

(a) Receivables (viz., receivable under a contract of sale of goods in which an entity deals)

(b) Advance to suppliers

(c) Income tax receivables [other than deferred tax]

(d) Insurance spares

(MTP Sep’22, RTP May’21)

Answer 3

a) As per paragraph 66(a) of Ind AS 1, an entity shall classify an asset as current when it expects
to realize the asset, or intends to sell or consume it, in its normal operating cycle.

Paragraph 68 provides the guidance that current assets include assets (such as inventories and
trade receivables) that are sold, consumed or realised as part of the normal operating cycle
even when they are not expected to be realised within twelve months after the reporting
period.

In accordance with above, the receivables that are considered a part of the normal operating
cycle will be classified as current asset.

If the operating cycle exceeds twelve months, then additional disclosure as required by
paragraph 61 of Ind AS 1 is required to be given in the notes.

b) As discussed in point (a) above, advances to suppliers for goods and services would be
classified in accordance with normal operating cycle if it is given in relation to the goods or

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services in which the entity normally deals. If the advances are considered a part the normal
operating cycle, it would be classified as a current asset. If the operating cycle exceeds twelve
months, then additional disclosure as required by paragraph 61 of Ind AS 1 is required to be
given in the notes

c) Classification of income tax receivables [other than deferred tax] will be driven by paragraph
66(c) of Ind AS 1, i.e., based on the expectation of the entity to realise the asset. If the
receivable is expected to be realised within twelve months after the reporting period, then it
will be classified as current asset else non-current asset.

d) Para 8 of Ind AS 16 states that items such as spare parts, stand-by equipment and servicing
equipment are recognised in accordance with this Ind AS when they meet the definition of
property, plant and equipment. Otherwise, such items are classified as inventory.

Accordingly, the insurance spares that are treated as an item of property, plant and equipment
would normally be classified as non-current asset whereas insurance spares that are treated as
inventory will be classified as current asset if the entity expects to consume it in its normal
operating cycle

Question 4

A Limited has prepared the following draft balance sheet as on 31st March 20X1:

Particulars 31stMarch, 31st March,

20X1 20X0

ASSETS

Cash 250 170

Cash equivalents 70 30

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Non-controlling interest’s share of profit for the year 160 150

Dividend declared and paid by A Limited 90 70

Accounts receivable 2300 1800

Inventory at cost 1500 1650

Inventory at fair value less cost to complete and sell 180 130

Investment property 3100 3100

Property, plant and equipment (PPE) at cost 5200 4700

Total 12,850 11,800

CLAIMS AGAINST ASSETS

Long term debt (Rs. 500 crore due on 1st January each year) 3,300 3,885

Interest accrued on long term debt (due in less than 12 260 290
months)

Share Capital 1,130 1,050

Retained earnings at the beginning of the year 1,875 1,740

Profit for the year 1,200 830

Non-controlling interest 830 540

Accumulated depreciation on PPE 1,610 1,240

Provision for doubtful receivables 200 65

Trade payables 880 790

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Accrued expenses 15 30

Warranty provision (for 12 months from the date of sale) 600 445

Environmental restoration provision (restoration expected in 765 640

20X6)

Provision for accrued leave (due within 12 months) 35 25

Dividend payable 150 230

Total 12,850 11,800

Prepare a consolidated balance sheet using current and non-current classification in

accordance with Ind AS 1. Operating cycle of the entity is 12 months.

(MTP, April 22)

Answer 4

A Limited Consolidated Balance Sheet as at 31st March 20X1

(Rs. in crore)

Particulars Note 31st March, 31st March,

20X1 20X0

ASSETS

Non-current assets

(a) Property, plant and equipment 1 3,590 3,460

(b) Investment property 3,100 3,100

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Total non-current assets 6,690 6,560

Current assets

(a) Inventory 2 1,680 1,780

(b) Financial assets

(i) Trade and other receivables 3 2,100 1,735

(ii) Cash and cash equivalents 4 320 200

Total current assets 4,100 3,715

Total assets 10,790 10,275

EQUITY & LIABILITIES

Equity attributable to owners of the parent

Share capital 1,130 1,050

Other Equity 5 2,825 2,350

Non-controlling interests 830 540

Total equity 4,785 3,940

LIABILITIES

Non-current liabilities

(a) Financial Liabilities

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(i) Borrowings - Long-term debt 6 2,800 3,385

(b) Provisions

(i) Long-term provisions (environmental restoration) 765 640

Total non-current liabilities 3,565 4,025

Current liabilities

(a) Financial Liabilities

(i) Trade and other payables 7 895 820

(Other than micro enterprises and small enterprises)

(ii) Current portion of long-term debt 8 500 500

(iii) Interest accrued on long-term Debt 260 290

(iv) Dividend payable 150 230

(b) Provisions

(i) Warranty provision 600 445

(ii) Provisions for accrued leave 35 25

Total current liabilities 2,440 2,310

Total liabilities 6,005 6,335

Total equity and liabilities 10,790 10,275

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Working Notes:

Notes Particulars Basis Calculation Amount Rs.

Rs. in crore in crore

1 Property, plant Property, plant and equipment 5,200 – 1,610 3,590

and equipment (PPE) at cost less Accumulated (4,700 – (3,460)
(depreciation on PPE 1,240)

2 Inventory Inventory at cost add Inventory at 1,500 + 180 1,680

fair value less cost to complete and (1,650 + 130) (1,780)
sell

3 Trade and other Accounts receivable less Provision 2,300 – 200 2,100
receivables for doubtful receivables (1,800 – 65) (1,735)

4 Cash and cash Cash and cash equivalents 250 + 70 320

equivalents (170+ 30) (200)

5 Other Equity Retained earnings at the beginning 1,875 + 2,825

of the year add Profit for the year 1,200– 160 – (2,350)
less Non-controlling interest’s 90 (1,740 +
share of profit for the year less 830 – 150 –
Dividend declared by A Limited 70

6 Long-term debt Long-term debt less Due on 1st 3,300 – 500 2,800
January each year (3,885 – 500) (3,385)

7 Trade & other Trade payables add Accrued 880 + 15 895

payables expenses (790 + 30) (820)

8 Current portion of Due on 1st January each year - 500

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 long- term debt - (500)

Note: Figures in brackets represent the figures for the comparative year.

Question 5

ICAI Illustration

On 1st April, 20X3, Charming Ltd issued 100,000 Rs. 10 bonds for Rs. 1,000,000. On 1st April,
each year interest at the fixed rate of 8 percent per year is payable on outstanding capital
amount of the bonds (ie the first payment will be made on 1st April, 20X4). On 1st April each
year (i.e from 1st April, 20X4), Charming Ltd has a contractual obligation to redeem 10,000 of
the bonds at Rs. 10 per bond. In its statement of financial position at 31st March, 20X4. How
should this be presented in the financial statements?

(Study material)

Answer

Charming Ltd must present Rs. 80,000 accrued interest and Rs. 1,00,000 current portion of the
non- current bond (i.e. the portion repayable on 1st April, 20X4) as current liabilities. The Rs.
9,00,000 due later than 12 months after the end of the reporting period is presented as a non-
current liability.

Question 6

ICAI Illustration

Paragraph 69(a) of Ind AS 1 states “An entity shall classify a liability as current when it
expects to settle the liability in its normal operating cycle”. An entity develops tools for
customers and this normally takes a period of around 2 years for completion. The material is

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supplied by the customer and hence the entity only renders a service. For this, the entity
receives payment upfront and credits the amount so received to “Income Received in
Advance”. How should this “Income Received in Advance” be classified, i.e., current or non-
current?

(Study material)

Answer

Ind AS 1 provides “Some current liabilities, such as trade payables and some accruals for
employee and other operating costs, are part of the working capital used in the entity’s normal
operating cycle. An entity classifies such operating items as current liabilities even if they are
due to be settled more than twelve months after the reporting period.”

In accordance with the above, income received in advance would be classified as current
liability since it is a part of the working capital, which the entity expects to earn within its
normal operating cycle.

Question 7

ICAI Illustration

OMN Ltd has a subsidiary MN Ltd. OMN Ltd provides a loan to MN Ltd at 8% interest to be
paid annually. The loan is required to be paid whenever demanded back by OMN Ltd.

How should the loan be classified in the financial statements of OMN Ltd? Will it be any
different for MN Ltd?

(Study material)

Answer

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The demand feature might be primarily a form of protection or a tax-driven feature of the loan.
Both parties might expect and intend that the loan will remain outstanding for the foreseeable
future. If so, the instrument is, in substance, long-term in nature, and accordingly, OMN Ltd
would classify the loan as a non-current asset.

However, OMN Ltd would classify the loan as a current asset if both the parties intend that it
will be repaid within 12 months of the reporting period.

MN Ltd would classify the loan as current because it does not have the right to defer repayment
for more than 12 months, regardless of the intentions of both the parties. The classification of
the instrument could affect initial recognition and subsequent measurement. This might
require the entity’s management to exercise judgement, which could require disclosure under
judgements and estimates.

Topic 2 : Operating Cycle Concept

Question 8

An entity manufactures passenger vehicles. The time between purchasing of underlying raw
materials to manufacture the passenger vehicles and the date the entity completes the
production and delivers to its customers is 11 months. Customers settle the dues after a
period of 8 months from the date of sale.

(a) Will the inventory and the trade receivables be current in nature?

(b) Assuming that the production time was say 15 months and the time lag between the date
of sale and collection from customers is 13 months, will the answer be different?

(RTP May ’22, MTP March ’23)

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Answer 8

Inventory and debtors need to be classified in accordance with the requirement of paragraph
66(a) of Ind AS 1, which provides that an asset shall be classified as current if an entity expects
to realise the same or intends to sell or consume it in its normal operating cycle.

(a) In this case, time lag between the purchase of inventory and its realisation into cash is 19
months [11 months + 8 months]. Both inventory and the debtors would be classified as current
if the entity expects to realise these assets in its normal operating cycle.

(b) No, the answer will be the same as the classification of debtors and inventory depends on
the expectation of the entity to realise the same in the normal operating cycle. In this case,
time lag between the purchase of inventory and its realisation into cash is 28 months [15
months + 13 months]. Both inventory and debtors would be classified as current if the entity
expects to realise these assets in the normal operating cycle.

Additional information as required by paragraph 61 of Ind AS 1 will be required to be made by

the entity, which provides “Whichever method of presentation is adopted, an entity shall
disclose the amount expected to be recovered or settled after more than twelve months for
each asset and liability line item that combines amounts expected to be recovered or settled:

(a) No more than twelve months after the reporting period, and

(b) More than twelve months after the reporting period.”

Question 9

An entity manufactures passenger vehicles. The time between purchasing of underlying raw
materials to manufacture the passenger vehicles and the date the entity completes the
production and delivers to its customers is 11 months. Customers settle the dues after a
period of 8 months from the date of sale.

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(a) Will the inventory and the trade receivables be current in nature?

(b) Assuming that the production time was say 15 months and the time lag between the date
of sale and collection from customers is 13 months, will the answer be different?

(Study material)

Answer 9

Inventory and debtors need to be classified in accordance with the requirement of Ind AS 1,
which provides that an asset shall be classified as current if an entity expects to realize the
same or intends to sell or consume it in its normal operating cycle.

(a) In this case, time lag between the purchase of inventory and its realisation into cash is 19
months [11 months + 8 months]. Both inventory and the debtors would be classified as current
if the entity expects to realise these assets in its normal operating cycle.

(b) No, the answer will be the same as the classification of debtors and inventory depends on
the expectation of the entity to realise the same in the normal operating cycle. In this case,
time lag between the purchase of inventory and its realisation into cash is 28 months [15
months + 13 months]. Both inventory and debtors would be classified as current if the entity
expects to realise these assets in the normal operating cycle.

Question 10

XYZ Limited (the ‘Company’) is into construction of turnkey projects and has assessed its
operating cycle to be 18 months. The Company has certain trade receivables and payables
which are receivable and payable within a period of twelve months from the reporting date,
i.e., 31st March, 20X2.

In addition to above there are following items/transactions which took place during financial
year 20X1-20X2:

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S. No. Items/transactions

(1) The company has some trade receivables which are due after 15 months from the
date of the balance sheet. So, the company expects that the payment will be received
within the period of operating cycle.

(2) The company has some trade payables which are due for payment after 14 months

from the date of balance sheet. These payables fall due within the period of operating
cycle. Though the company does not expect that it will be able to pay these payables
within the operating cycle because the nature of business is such that generally
projects get delayed and payments from customers also get delayed.

(3) The company was awarded a contract of 100 crore on 31st March, 20X2. As per the

terms of the contract, the company made a security deposit of 5% of the contract

value with the customer, of 5 crore on 31st March, 20X2. The contract is expected

to be completed in 18 months’ time. The aforesaid deposit will be refunded back after
6 months from the date of the completion of the contract.

(4) The company has also given certain contracts to third parties and have received
security deposits from them of 2 crore on 31st March, 20X2 which are repayable on

completion of the contract but if contract is cancelled before the contract term of 18

months, then it becomes payable immediately. However, the Company does not
expect the cancellation of the contract.

Considering the above items/transactions answer the following:

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(i) The company wants to present the trade receivable as current despite the fact that these
are receivables in 15 months’ time. Does the decision of presenting the same as current is
correct?

(ii) The company wants to present the trade payables as non-current despite the fact that
these are due within the operating cycle of the company. Does the decision of presenting the
same as non-current is correct?

(iii) Can the security deposit of 5 crore made by the company with the customers be
presented as current?

(iv) Can the security deposit of 2 crore taken by the company from contractors be presented
as non-current?

(Practice Question)

Answers 10

(i) Yes, but additionally the Company also need to disclose amounts that are receivable within a
period of 12 months and after 12 months from the reporting date. (Refer Para 60 and 61 of Ind
AS 1)

(ii) No, the Company cannot disclose these payables as non-current and the Company also need
to disclose amounts that are payable within a period of 12 months and after 12 months from
the reporting date. (Refer Para 60 and 61 of Ind AS 1)

(iii) No, because the amount will be received after the operating cycle of the Company. (Refer
Para 66 of Ind AS 1)

(iv) No, because the amount may be required to be paid before completion of the contract in
case the contract is cancelled. (Refer Para 69 of Ind AS 1).

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Question 11

ICAI Illustration

X Ltd. provides you the following information:

Raw material stock holding period : 3 months

Work-in-progress holding period : 1 month

Finished goods holding period : 5 months

Debtors collection period : 5 months

You are requested to compute the operating cycle of X Ltd.

(Study material)

Answer

The operating cycle of X Ltd. will be computed as under:

Raw material stock holding period + Work-in-progress holding period + Finished goods holding
period + Debtors collection period = 3 + 1 + 5 + 5 = 14 months.

Question 12

ICAI Illustration

Inventory or trade receivables of X Ltd. are normally realised in 15 months. How should X Ltd.
classify such inventory / trade receivables: current or non-current if these are expected to be
realised within 15 months?

(Study material)

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Answer

These should be classified as current.

Question 13

ICAI Illustration

B Ltd. produces aircrafts. The length of time between first purchasing raw materials to make
the aircrafts and the date the company completes the production and delivery is 9 months.
The company receives payment for the aircrafts 7 months after the delivery.

(a) What is the length of operating cycle?

(b) How should it treat its inventory and debtors?

(Study material)

Answer

(a) The length of the operating cycle will be 16 months.

(b) Assuming the inventory and debtors will be realised within normal operating cycle, i.e., 16
months, both the inventory as well as debtors should be classified as current.

Question 14

ICAI Illustration

X Ltd provides you the following information:

Raw material stock holding period : 3 months

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Work-in-progress holding period : 1 month

Finished goods holding period : 5 months

Debtors collection period : 5 months

The trade payables of the Company are paid in 12.5 months. Should these be classified as
current or non-current?

(Study material)

Answer

In this case, the operating cycle of X Ltd. is 14 months. Since the trade payables are expected to
be settled within the operating cycle i.e. 12.5 months, they should be classified as a current.

Question 15

ICAI Illustration

Entity A has two different businesses, real estate and manufacturing of passenger vehicles.
With respect to the real estate business, the entity constructs residential apartments for
customers and the normal operating cycle is three to four years. With respect to the business
of manufacture of passenger vehicles, normal operating cycle is 15 months. Under such
circumstance where an entity has different operating cycles for different types of businesses,
how classification into current and non-current be made?

(Study material)

Answer

As per paragraph 66(a) of Ind AS 1, an asset should be classified as current if an entity expects
to realise the same, or intends to sell or consume it in its normal operating cycle. Similarly, as

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per paragraph 69(a) of Ind AS 1, a liability should be classified as current if an entity expects to
settle the liability in its normal operating cycle. In this situation, where businesses have
different operating cycles, classification of asset/liability as current/non- current would be in
relation to the normal operating cycle that is relevant to that particular asset / liability. It is
advisable to disclose the normal operating cycles relevant to different types of businesses for
better understanding.

Question 16

ICAI Illustration

An entity has placed certain deposits with various parties. How the following deposits should
be classified, i.e., current or non-current?

(a) Electricity Deposit

(b) Tender Deposit/Earnest Money Deposit [EMD]

(c) GST Deposit paid under dispute or GST payment under dispute.

(Study material)

Answer

(a) Electricity Deposit - At all points of time, the deposit is recoverable on demand, when the
connection is not required. However, practically, such electric connection is required as long as
the entity exists. Hence, from a commercial reality perspective, an entity does not expect to
realise the asset within twelve months from the end of the reporting period. Hence, electricity
deposit should be classified as a non-current asset.

(b) Tender Deposit/Earnest Money Deposit [EMD] - Generally, tender deposit / EMD are paid
for participation in various bids. They normally become recoverable if the entity does not win

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the bid. Bid dates are known at the time of tendering the deposit. But until the date of the
actual bid, one is not in a position to know if the entity is winning the bid or otherwise.
Accordingly, depending on the terms of the deposit if entity expects to realise the deposit
within a period of twelve months, it should be classified as current otherwise non-current.

(c) GST Deposit paid under dispute or GST payment under dispute –Classification of GST
deposits paid to the Government authorities in the event of any legal dispute, which is under
protest would depend on the facts of the case and the expectation of the entity to realise the
same within a period of twelve months. In the case the entity expects these to be realised
within 12 months, it should classify such amounts paid as current else these should be classified
as non-current.

Topic 3 : Offsetting Rules (When Allowed)

Question 17

Is offsetting permitted under the following circumstances?

(a) Expenses incurred by a holding company on behalf of subsidiary, which is reimbursed by

the subsidiary - whether in the separate books of the holding company, the expenditure and
related reimbursement of expenses can be offset?

(b) Whether profit on sale of an asset against loss on sale of another asset can be offset?

(c) When services are rendered in a transaction with an entity and services are received from
the same entity in two different arrangements, can the receivable and payable be offset?

(RTP Nov ’21)

Answer 17

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(a) As per paragraph 33 of Ind AS 1, offsetting is permitted only when the offsetting reflects the
substance of the transaction. In this case, the agreement/arrangement, if any, between the
holding and subsidiary company needs to be considered. If the arrangement is to reimburse the
cost incurred by the holding company on behalf of the subsidiary company, the same may be
presented net. It should be ensured that the substance of the arrangement is that the
payments are actually in the nature of reimbursement.

(b) Paragraph 35 of Ind AS 1 requires an entity to present on a net basis gains and losses arising
from a group of similar transactions. Accordingly, gains or losses arising on disposal of various
items of property, plant and equipment shall be presented on net basis. However, gains or
losses should be presented separately if they are material.

(c) Ind AS 1 prescribes that assets and liabilities, and income and expenses should be reported
separately, unless offsetting reflects the substance of the transaction. In addition to this, as per
paragraph 42 of Ind AS 32, a financial asset and a financial liability should be offset if the entity
has legally enforceable right to set off and the entity intends either to settle on net basis or to
realise the asset and settle the liability simultaneously.

In accordance with the above, the receivable and payable should be offset against each other
and net amount is presented in the balance sheet if the entity has a legal right to set off and the
entity intends to do so. Otherwise, the receivable and payable should be reported separately.

Question 18

Is offsetting permitted under the following circumstances?

(a) Expenses incurred by a holding company on behalf of subsidiary, which is reimbursed by

the subsidiary - whether in the separate books of the holding company, the expenditure and
related reimbursement of expenses can be offset?

(b) Whether profit on sale of an asset against loss on sale of another asset can be offset?

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(c) When services are rendered in a transaction with an entity and services are received from
the same entity in two different arrangements, can the receivable and payable be offset?

(Practice Question)

Answers 18

(a) As per paragraph 33 of Ind AS 1, offsetting is permitted only when the offsetting reflects the
substance of the transaction.

In this case, the agreement/arrangement, if any, between the holding and subsidiary company
needs to be considered. If the arrangement is to reimburse the cost incurred by the holding
company on behalf of the subsidiary company, the same may be presented net. It should be
ensured that the substance of the arrangement is that the payments are actually in the nature
of reimbursement.

(b) Paragraph 35 of Ind AS 1 requires an entity to present on a net basis gains and losses arising
from a group of similar transactions. Accordingly, gains or losses arising on disposal of various
items of property, plant and equipment shall be presented on net basis. However, gains or
losses should be presented separately if they are material.

(c) Ind AS 1 prescribes that assets and liabilities, and income and expenses should be reported
separately, unless offsetting reflects the substance of the transaction. In addition to this, as per
paragraph 42 of Ind AS 32, a financial asset and a financial liability should be offset if the entity
has legally enforceable right to set off and the entity intends either to settle on net basis or to
realise the asset and settle the liability simultaneously.

In accordance with the above, the receivable and payable should be offset against each other
and net amount is presented in the balance sheet if the entity has a legal right to set off and the
entity intends to do so. Otherwise, the receivable and payable should be reported separately.

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Question 19

ICAI Illustration

Is offsetting of revenue against expenses, permissible in case of a company acting as an agent

and having sub-agents, where commission is paid to sub-agents from the commission
received as an agent?

(Study material)

Answer

On the basis of the guidance regarding offsetting, net presentation in the given case would not
be appropriate, as it would not reflect substance of the transaction and would detract from the
ability of users to understand the transaction.

Accordingly, the commission received by the company as an agent is the gross revenue of the
company. The amount of commission paid by it to the sub-agent should be considered as an
expense and should not be offset against commission earned by it.

Topic 4 : Going Concern Assessment

Question 20

ICAI Illustration

Entity XYZ is a large manufacturer of plastic products for the local market. On 1st April, 20X6
the newly elected government unexpectedly abolished all import tariffs, including the 40 per
cent tariff on all imported plastic products. Many other economic reforms implemented by
the new government contributed to the value of the country’s currency Rs. appreciating

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significantly against most other currencies. The currency appreciation severely reduced the
competitiveness of the entity’s products.

Before 20X6 entity XYZ was profitable. However, because it was unable to compete with low
priced imports, entity XYZ went into losses. As at 31st March, 20X7, entity XYZ’s equity was
Rs. 1,000. During the second quarter of financial year ended 31 March 20X7, the management
restructured entity’s operations. That restructuring helped reduce losses for the third and
fourth quarters to Rs. 400 and Rs. 380, respectively. During the year ended 31st March, 20X7,
entity XYZ reported a loss of Rs. 4,000. In January 20X7, the local plastic industry and labour
union lobbied government to reinstate tariffs on plastic. On 15th March, 20X7, the
government announced that it would reintroduce limited plastic import tariffs at 10 percent
in 20X8. However, it emphasised that those tariffs would not be as protective as the tariffs
enacted by the previous government. In its latest economic forecast, the government predicts
a stable currency exchange rate in the short term with a gradual weakening of the
jurisdiction’s currency in the longer term.

Management of the entity XYZ undertook a going concern assessment at 31st March, 20X7.
Management projects / forecasts that imposition of a 10 per cent tariff on the import of
plastic products would, at current exchange rates, result in entity XYZ returning to
profitability. How should the management of entity XYZ disclose the information about the
going concern assessment in entity XYZ’s 31st March, 20X7 annual financial statements?

(Study material)

Answer

Going concern is a general feature to be considered while preparing the financial statements.
As per Ind AS 1, when preparing financial statements, management shall make an assessment
of an entity’s ability to continue as a going concern. An entity shall prepare financial statements
on a going concern basis unless management either intends to liquidate the entity or to cease
trading or has no realistic alternative but to do so. When management is aware, in making its
assessment, of material uncertainties related to events or conditions that may cast significant

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doubt upon the entity’s ability to continue as a going concern, the entity shall disclose those
uncertainties. An entity is required to disclose the facts, if the financial statements are not
prepared on a going concern basis. Along with the reason, as to why the financial statements
are not prepared on a going concern basis.

While assessing the going concern assumption, an entity is required to take into consideration
all factors covering atleast but not limited to 12 months from the end of reporting period.

On the basis of Ind AS 1 and the facts and circumstances of this case, the following disclosure is
appropriate:

Extracts from the notes to entity XYZ’s 31st March, 20X7 financial statements?

Note 1: Basis of preparation

On the basis of management’s assessment at 31 March 20X7, the financial statements have
been prepared on the going concern basis. However, management’s assessment assumes that
the government will reintroduce limited plastic import tariffs and that the currency exchange
rate will remain constant. On 15 March 20X7, the government announced that limited import
tariffs will be imposed in 20X8. However, the government emphasised that the tariff would not
be as protective as the 40 percent tariff in effect before 20X7. Provided that Rs. does not
strengthen, management projects / forecasts that a 10 percent tariff on all plastic products
would result in entity XYZ returning to profitability. As at 31st March, 20X7 entity XYZ had net
assets of Rs. 1,000. If import tariffs are not imposed and currency exchange rates remain
unchanged, entity XYZ’s liabilities could exceed its assets by the end of financial year 20X7-
20X8. On the basis of their assessment of these factors, management believes that entity XYZ is
a going concern.

Topic 5 : Disclosure Requirements

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Question 21

XYZ Limited (the ‘Company’) is into the manufacturing of tractor parts and mainly supplying
components to the Original Equipment Manufacturers (OEMs). The Company does not have
any subsidiary, joint venture or associate company. During the preparation of financial
statements for the year ended 31st March, 20X1, the accounts department is not sure about
the treatment / presentation of below mentioned matters. Accounts department approached
you to advice on the following matters.

S. No. Matters

(i) There are qualifications in the audit report of the Company with reference to two
Ind AS.

(ii) Is it mandatory to add the word “standalone” before each of the components of
financial statements?

(iii) The Company is Indian Company and preparing and presenting its financial
statements in. Is it necessary to write in the financial statements that the financial
statements have been presented in

(iv) The Company had sales transactions with 10 related party parties during previous
year. However, during current year, there are no transactions with 4 related
parties out of aforesaid 10 related parties. Hence, Company is of the view that it
need not disclose sales transactions with these 4 parties in related party
disclosures because with these parties there are no transactions during current
year.

Evaluate the above matters with respect to preparation and presentation of a general-
purpose financial statement.

(Study material)(MTP May ’25)

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Answers 21

(i) Yes, an entity whose financial statements comply with Ind AS shall make an explicit and
unreserved statement of such compliance in the notes. An entity shall not describe financial
statements as complying with Ind AS unless they comply with all the requirements of Ind AS.
(Refer Para 16 of Ind AS 1)

(ii) No, but need to disclose in the financial statement that these are individual financial
statements of the Company. (Refer Para 51(b) of Ind AS 1)

(iii) Yes, Para 51(d) of Ind AS 1 inter alia states that an entity shall display the presentation
currency, as defined in Ind AS 21 prominently, and repeat it when necessary for the information
presented to be understandable.

(iv) No, as per Para 38 of Ind AS 1, except when Ind AS permit or require otherwise, an entity
shall present comparative information in respect of the preceding period for all amounts
reported in the current period’s financial statements. An entity shall include comparative
information for narrative and descriptive information if it is relevant to understanding the
current period’s financial statements.

Question 22

ICAI Illustration

An entity prepares its financial statements that contain an explicit and unreserved statement
of compliance with Ind AS. However, the auditor’s report on those financial statements
contains a qualification because of disagreement on application of one Accounting Standard.
In such case, is it acceptable for the entity to make an explicit and unreserved statement of
compliance with Ind AS?

(Study material)

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Answer

Yes, it is possible for an entity to make an unreserved and explicit statement of compliance with
Ind AS, even though the auditor’s report contains a qualification because of disagreement on
application of Accounting Standard(s), as the preparation of financial statements is the
responsibility of the entity’s management and not the auditors. In case the management has a
bona fide reason to believe that it has complied with all Ind AS, it can make an explicit and
unreserved statement of compliance with Ind AS

Topic 6 : Materiality & Exceptional Items

Question 23

As per the statutory requirements, exceptional items are required to be disclosed whereas
Ind AS 1 requires separate disclosures of material items and how these are to be presented in
the financial statements. Does that imply that ‘exceptional’ means ‘material’? Give examples.
How should these be presented in the financial statements?

(RTP Nov’22)

Answer 23

Exceptional items have not been defined in Indian Accounting Standards (Ind AS). However,
paragraph 97 of Ind AS 1 requires that when items of income or expense are material, an entity
shall disclose their nature and amount separately.

As per Ind AS 1, information is material if omitting, misstating or obscuring it could reasonably

be expected to influence decisions that the primary users of general purpose financial
statements make on the basis of those financial statements, which provide financial
information about a specific reporting entity. Materiality depends on the nature or magnitude

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of information, or both and it could be the determining factor. When items of income and
expense within profit or loss from ordinary activities are of such size, nature or incidence that
their disclosure is relevant to explain the performance of the enterprise for the period, the
nature and amount of such items should be disclosed separately. Generally, items of income or
expense fulfilling the abovementioned criteria are classified as exceptional items and are
disclosed separately.

From the above, it appears that all material items are not exceptional items. In other words,
exceptional items are those items which meet the test of ‘materiality’ (size and nature) and the
test of ‘incidence’.

Following are some examples which may give rise to a separate disclosure of items as an
‘exceptional item’ in financial statements if they meet the test of ‘materiality’ and ‘incidence’:

(a) write-downs of inventories to net realisable value or of property, plant and equipment to
recoverable amount, as well as reversals of such write-downs;

(b) restructurings of the activities of an entity and reversals of any provisions for the costs of
restructuring;

(c) disposals of items of property, plant and equipment;

(d) disposals of investments;

(e) discontinued operations;

(f) litigation settlements; and

(g) other reversals of provisions

Topic 7 : Presentation of Income/Expense

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Question 24

Mike Ltd. has undertaken following various transactions in the financial year ended
31.03.2018:Rs

Rs.

(a) Re-measurement of defined benefit plans 1,54,200

(b) Current service cost 1,05,000

(c) Changes in revaluation surplus 75,000

(d) Gains and losses arising from translating the monetary assets in foreign 45,000
currency

(e) Gains and losses arising from translating the financial statements of a 39,000
foreign operation

(f) Gains and losses arising from investments in equity instruments 60,000
designated at fair value through other comprehensive income

(g) Income tax expenses 21,000

(h) Share based payments cost 2,01,000

Identify and present the transactions in the financial statements as per Ind AS 1.

(PYP May’19)

Answer 24

Items impacting the Statement of Profit and Loss for the year ended 31st
March, 2018

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Current service cost 1,05,000

Gains and losses arising from translating the monetary assets in foreign 45,000
currency

Income tax expenses 21,000

Share based payments cost 2,01,000

Items impacting the Other Comprehensive Income for the year ended 31st March,
2018

Pre measurement of defined benefit plans 1,54,200

Changes in revaluation surplus 75,000

Gains and losses arising from translating the financial statements of a foreign 39,000
operation

Gains and losses from investments in equity instruments designated at fair 60,000
value through other comprehensive income

Question 25

Entity A has undertaken various transactions in the financial year ended 31st March, 20X1.
Identify and present the transactions in the financial statements as per Ind AS 1. Rs.

Remeasurement of defined benefit plans 2,57,000

Current service cost 1,75,000

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Changes in revaluation surplus 1,25,000

Gains and losses arising from translating the monetary assets in foreign 75,000
currency

Gains and losses arising from translating the financial statements of a foreign 65,000
operation

Gains and losses from investments in equity instruments designated at fair 1,00,000
value through other comprehensive income

Income tax expense 35,000

Share based payments cost 3,35,000

(MTP April ’21 & March ’18)

Answer 25

Items impacting the Statement of Profit and Loss for the year ended 31st March 20X1

(Rs.)

Current service cost 1,75,000

Gains and losses arising from translating the monetary assets in foreign currency 75,000

Income tax expense 35,000

Share based payments cost 3,35,000

Items impacting the other comprehensive income for the year ended 31st March, 20X1

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 (Rs.)

Remeasurement of defined benefit plans 2,57,000

Changes in revaluation surplus 1,25,000

Gains and losses arising from translating the financial statements of a foreign 65,000
operation

Gains and losses from investments in equity instruments designated at fair value 1,00,000
through other comprehensive income

Topic 8 : Refinancing and Roll-over Agreements

Question 26

Company A has taken a long term loan arrangement from Company B. In the month of
December 20X1, there has been a breach of material provision of the arrangement. As a
consequence of which the loan becomes payable on demand on March 31, 20X2. In the
month of May 20X2, the Company started negotiation with the Company B for not to demand
payment as a consequence of the breach. The financial statements were approved for the
issue in the month of June 20X2. In the month of July 20X2, both companies agreed that the
payment will not be demanded immediately as a consequence of breach of material
provision. Advise on the classification of the liability as current / non –current.

(RTP May’18)

Answer 26

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As per para 74 of Ind AS 1 “Presentation of Financial Statements” where there is a breach of a
material provision of a long-term loan arrangement on or before the end of the reporting
period with the effect that the liability becomes payable on demand on the reporting date, the
entity does not classify the liability as current, if the lender agreed, after the reporting period
and before the approval of the financial statements for issue, not to demand payment as a
consequence of the breach.

In the given case, Company B (the lender) agreed for not to demand payment but only after the
financial statements were approved for issuance. The financial statements were approved for
issuance in the month of June 20X2 and both companies agreed for not to demand payment in
the month of July 20X2 although negotiation started in the month of May 20x2 but could not
agree before June 20X2 when financial statements were approved for issuance. Hence, the
liability should be classified as current in the financial statement for the year ended March 31,
20X2.

Question 27

In December 20X1 an entity entered into a loan agreement with a bank. The loan is repayable
in three equal annual installments starting from December 20X5. One of the loan covenants is
that an amount equivalent to the loan amount should be contributed by promoters by March
24 20X2, failing which the loan becomes payable on demand. As on March 24, 20X2, the
entity has not been able to get the promoter’s contribution. On March 25, 20X2, the entity
approached the bank and obtained a grace period up to June 30, 20X2 to get the promoter’s
contribution. The bank cannot demand immediate repayment during the grace period. The
annual reporting period of the entity ends on March 31, 20X2.

(i) As on March 31, 20X2, examine the classification of the loan to be done by the entity as
per Ind AS?

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(ii) Assume in anticipation that it may not be able to get the promoter’s contribution by due
date. In February 20X2, the entity approached the bank and got the compliance date
extended up to June 30, 20X2 for getting promoter’s contribution. In this case, examine
whether the loan classification as on March 31, 20X2 be different from (a) above?

(MTP March ‘18)

Answer 27

(i) Paragraph 75 of Ind AS 1, inter alia, provides, “An entity classifies the liability as non - current
if the lender agreed by the end of the reporting period to provide a period of grace ending at
least twelve months after the reporting period, within which the entity can rectify the breach
and during which the lender cannot demand immediate repayment.” In the present case,
following the default, grace period within which an entity can rectify the breach is less than
twelve months after the reporting period. Hence as on March 31, 20X2, the loan will be
classified as current.

(ii) Ind AS 1 deals with classification of liability as current or non-current in case of breach of a
loan covenant and does not deal with the classification in case of expectation of breach. In this
case, whether actual breach has taken place or not is to be assessed on June 30, 20X2, i.e.,
after the reporting date. Consequently, in the absence of actual breach of the loan covenant as
on March 31, 20X2, the loan will retain its classification as non-current.

Question 28

An entity has taken a loan facility from a bank that is to be repaid within a period of 9 months
from the end of the reporting period. Prior to the end of the reporting period, the entity and
the bank enter into an arrangement, whereby the existing outstanding loan will,
unconditionally, roll into the new facility which expires after a period of 5 years.

(a) Should the loan be classified as current or non-current in the balance sheet of the entity?

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(b) Will the answer be different if the new facility is agreed upon after the end of the
reporting period?

(c) Will the answer to (a) be different if the existing facility is from one bank and the new
facility is from another bank?

(d) Will the answer to (a) be different if the new facility is not yet tied up with the existing
bank, but the entity has the potential to refinance the obligation?

(RTP Nov ‘19)

Answer 28

Para 69 of Ind AS 1 defines current liabilities as follows:

An entity shall classify a liability as current when:

(i) it expects to settle the liability in its normal operating cycle;

(ii) it holds the liability primarily for the purpose of trading;

(iii) the liability is due to be settled within twelve months after the reporting period; or

(iv) it does not have an unconditional right to defer settlement of the liability for at least twelve
months after the reporting period. Terms of a liability that could, at the option of the
counterparty, result in its settlement by the issue of equity instruments do not affect its
classification.

An entity shall classify all other liabilities as non-current.

Accordingly, following will be the classification of loan in the given scenarios:

a) The loan is not due for payment at the end of the reporting period. The entity and the bank
have agreed for the said roll over prior to the end of the reporting period for a period of 5

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years. Since the entity has an unconditional right to defer the settlement of the liability for at
least twelve months after the reporting period, the loan should be classified as non-current.

b) Yes, the answer will be different if the arrangement for roll over is agreed upon after the
end of the reporting period because as per paragraph 72 of Ind AS 1, “an entity classifies its
financial liabilities as current when they are due to be settled within twelve months after the
reporting period, even if: (a) the original term was for a period longer than twelve months,
and (b) an agreement to refinance, or to reschedule payments, on a long-term basis is
completed after the reporting period and before the financial statements are approved for
issue.” As at the end of the reporting period, the entity does not have an unconditional right to
defer settlement of the liability for at least twelve months after the reporting period. Hence
the loan is to be classified as current.

c) Yes, loan facility arranged with new bank cannot be treated as refinancing, as the loan with
the earlier bank would have to be settled which may coincide with loan facility arranged with a
new bank. In this case, loan has to be repaid within a period of 9 months from the end of the
reporting period, therefore, it will be classified as current liability.

d) Yes, the answer will be different and the loan should be classified as current. This is
because, as per paragraph 73 of Ind AS 1, when refinancing or rolling over the obligation is not
at the discretion of the entity (for example, there is no arrangement for refinancing), the
entity does not consider the potential to refinance the obligation and classifies the obligation
as current.

Question 29(Illustration)

An entity has taken a loan facility from a bank that is to be repaid within a period of 9 months
from the end of the reporting period. Prior to the end of the reporting period, the entity and
the bank enter into an arrangement, whereby the existing outstanding loan will,
unconditionally, roll into the new facility which expires after a period of 5 years.

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(a) How should such loan be classified in the balance sheet of the entity?

(b) Will the answer be different if the new facility is agreed upon after the end of the
reporting period?

(c) Will the answer to (a) be different if the existing facility is from one bank and the new
facility is from another bank?

(d) Will the answer to (a) be different if the new facility is not yet tied up with the existing
bank, but the entity has the potential to refinance the obligation?

(PYP May ‘23)

Answer 29

(a) The loan is not due for payment at the end of the reporting period. The entity and the bank
have agreed for the said roll over prior to the end of the reporting period for a period of 5
years. Since the entity has an unconditional right to defer the settlement of the liability for at
least twelve months after the reporting period, the loan should be classified as non-current.

(b) Yes, the answer will be different if the arrangement for roll over is agreed upon after the
end of the reporting period, since assessment is required to be made based on terms of the
existing loan facility. As at the end of the reporting period, the entity does not have an
unconditional right to defer settlement of the liability for at least twelve months after the
reporting period. Hence the loan is to be classified as current.

(c) Yes, loan facility arranged with new bank cannot be treated as refinancing, as the loan with
the earlier bank would have to be settled which may coincide with loan facility arranged with a
new bank. In this case, loan has to be repaid within a period of 9 months from the end of the
reporting period, therefore, it will be classified as current liability.

(d) Yes, the answer will be different and the loan should be classified as current. This is because,
as per paragraph 73 of Ind AS 1, when refinancing or rolling over the obligation is not at the

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discretion of the entity (for example, there is no arrangement for refinancing), the entity does
not consider the potential to refinance the obligation and classifies the obligation as current.

Question 30

ICAI Illustration

An entity has taken a loan facility from a bank that is to be repaid within a period of 9 months
from the end of the reporting period. Prior to the end of the reporting period, the entity and
the bank enter into an arrangement, whereby the existing outstanding loan will,
unconditionally, roll into the new facility which expires after a period of 5 years.

(e) How should such loan be classified in the balance sheet of the entity?

(f) Will the answer be different if the new facility is agreed upon after the end of the
reporting period?

(g) Will the answer to (a) be different if the existing facility is from one bank and the new
facility is from another bank?

(h) Will the answer to (a) be different if the new facility is not yet tied up with the existing
bank, but the entity has the potential to refinance the obligation?

(Study material)

Answer

(e) The loan is not due for payment at the end of the reporting period. The entity and the bank
have agreed for the said roll over prior to the end of the reporting period for a period of 5
years. Since the entity has an unconditional right to defer the settlement of the liability for at
least twelve months after the reporting period, the loan should be classified as non-current.

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(f) Yes, the answer will be different if the arrangement for roll over is agreed upon after the end
of the reporting period, since assessment is required to be made based on terms of the existing
loan facility. As at the end of the reporting period, the entity does not have an unconditional
right to defer settlement of the liability for at least twelve months after the reporting period.
Hence the loan is to be classified as current.

(g) Yes, loan facility arranged with new bank cannot be treated as refinancing, as the loan with
the earlier bank would have to be settled which may coincide with loan facility arranged with a
new bank. In this case, loan has to be repaid within a period of 9 months from the end of the
reporting period, therefore, it will be classified as current liability.

(h) Yes, the answer will be different and the loan should be classified as current. This is because,
as per paragraph 73 of Ind AS 1, when refinancing or rolling over the obligation is not at the
discretion of the entity (for example, there is no arrangement for refinancing), the entity does
not consider the potential to refinance the obligation and classifies the obligation as current.

Topic 9 : Liabilities with Conditional Clauses

Question 31

Entity A had obtained a long-term bank loan during January 2019, which is subject to certain
financial covenants. One of such covenants states that during the tenure of the loan, debt
equity ratio of 65:35 is to be maintained at all time. In case of breach of this covenant, the
loan will be repayable immediately. The loan agreement also states that these covenants will
be assessed at the end of each quarter and reported to the bank within a month from the end
of each quarter. If the covenants are breached at this time, the loan will be repayable
immediately. The entity closes its annual accounts as on 31st March every year.

You are required to show how the loan will be classified as on 31st March 2020, if:

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(i) At the financial year end, Entity A determines that it is not in breach of any of the
covenants;

(ii) At the quarter ending 31st December 2019, Entity A's debt equity ratio became 75:25 and
thus breaches the covenant, however it obtains a waiver from the bank. The terms of the
waiver specify that if Entity A rectifies the breach within a period of 12 months from the
reporting date then the bank cannot demand repayment immediately on account of the
breach during this period. Entity A expects to rectify the breach by raising additional equity
capital by means of a rights issue to the existing shareholders and expects that the issue will
be fully subscribed;

(iii) Considering the same facts as in (ii) above, except obtaining the waiver clause, what
would be your answer?

(PYP Jan ‘21)

Answer 31

Para 74 of Ind AS 1 ‘Presentation of Financial Statements’, states that where there is a breach
of a material provision of a long-term loan arrangement on or before the end of the reporting
period with the effect that the liability becomes payable on demand on the reporting date, the
entity does not classify the liability as current, if the lender agreed, after the reporting period
and before the approval of the financial statements for issue, not to demand payment as a
consequence of the breach.

However, an entity classifies the liability as non-current, if the lender agreed by the end of the
reporting period to provide a period of grace ending at least twelve months after the reporting
period, within which the entity can rectify the breach and during which the lender cannot
demand immediate repayment.

(i) The entity has obtained a long-term loan during January, 2019. Since repayment period of
the loan is not mentioned in the question, it is assumed that on 31st March 2020, the
repayment period of the loan is more than 12 months. Further, the entity has not breached the

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covenants specified in the loan; therefore, as at 31st March, 2020, the loan will be classified as
‘non-current liability.

(ii) In the second case, though there is a breach of covenant on 31 st December, 2019 i.e.
before reporting date of 31st March, 2020, yet the bank had agreed to provide a period of
grace for twelve months from the reporting period, within which the entity A can rectify the
breach and during this period bank cannot demand immediate repayment. Also, entity A has
intention to rectify the breach. Thus, entity A w ill classify the liability of bank loan as non-
current liability in its books as at 31st March, 2020.

(iii) Since the covenant for the bank loan has been breached during the quarter ended 31st
December, 2019 and reported to the bank within one month from the end of the quarter i.e. by
31st January, 2020, the bank loan becomes repayable immediately. Therefore, it will be
presented as current liability in the books of entity A as on 31st March, 2020.

Question 32

In December 20X1 an entity entered into a loan agreement with a bank. The loan is repayable
in three equal annual instalments starting from December 20X5. One of the loan covenants is
that an amount equivalent to the loan amount should be contributed by promoters by 24th
March, 20X2, failing which the loan becomes payable on demand. As on 24th March, 20X2,
the entity has not been able to get the promoter’s contribution. On 25th March, 20X2, the
entity approached the bank and obtained a grace period upto 30th June, 20X2 to get the
promoter’s contribution. The bank cannot demand immediate repayment during the grace
period. The annual reporting period of the entity ends on 31st March.

(a) As on 31st March, 20X2, how should the entity classify the loan?

(b) Assume that in anticipation that it may not be able to get the promoter’s contribution by
due date, in February 20X2, the entity approached the bank and got the compliance date

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extended upto 30th June, 20X2 for getting promoter’s contribution. In this case will the loan
classification as on 31st March, 20X2 be different from (a) above?

(Study material)

Answers 32

(a) Ind AS 1, inter alia, provides, “An entity classifies the liability as non-current if the lender
agreed by the end of the reporting period to provide a period of grace ending at least twelve
months after the reporting period, within which the entity can rectify the breach and during
which the lender cannot demand immediate repayment.” In the present case, following the
default, grace period within which an entity can rectify the breach is less than twelve months
after the reporting period. Hence as on 31st March, 20X2, the loan will be classified as current.

(b) Ind AS 1 deals with classification of liability as current or non-current in case of breach of a
loan covenant and does not deal with the classification in case of expectation of breach. In this
case, whether actual breach has taken place or not is to be assessed on 30th June, 20X2, i.e.,
after the reporting date. Consequently, in the absence of actual breach of the loan covenant as
on 31st March, 20X2, the loan will retain its classification as non-current.

Question 33

Company A has taken a long-term loan from Company B. In the month of December 20X1,
there was a breach of material provision of the arrangement. As a consequence of which the
loan becomes payable on demand on 31st March, 20X2. In the month of May 20X2, the
company started negotiation with company B for not to demand payment as a consequence
of the breach. The financial statements were approved for the issue in the month of June
20X2. In the month of July 20X2, both the companies agreed that the payment will not be
demanded immediately as a consequence of breach of material provision. Advise on the
classification of the liability as current / non-current.

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 (Study material)

Answers 33

As per para 74 of Ind AS 1 “Presentation of Financial Statements”, where there is a breach of a

material provision of a long-term loan arrangement on or before the end of the reporting
period with the effect that the liability becomes payable on demand on the reporting date, the
entity does not classify the liability as current, if the lender agreed, after the reporting period
and before the approval of the financial statements for issue, not to demand payment as a
consequence of the breach. An entity classifies the liability as non-current if the lender agreed
by the end of the reporting period to provide a period of grace ending at least twelve months
after the reporting period, within which the entity can rectify the breach and during which the

lender cannot demand immediate repayment. In the given case, Company B (the lender) agreed
for not to demand payment but only after the reporting date and the financial statements were
approved for issuance. The financial statements were approved for issuance in the month of
June 20X2 and both companies agreed for not to demand payment in the month of July 20X2
although negotiation started in the month of May 20X2 but could not agree before June 20X2

when financial statements were approved for issuance. Hence, the liability should be classified
as current in the financial statement as at 31st March, 20X2.

Topic 10 : Comparative Information & Retrospective Adjustments

Question 34

A Company presents financial results for three years (i.e., one for current year and two
comparative years) internally for the purpose of management information every year in
addition to the general-purpose financial statements. The aforesaid financial results are

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presented without furnishing the related notes because these are not required by the
management for internal purposes. During the current year, management thought why not
they should present third year statement of profit and loss also in the general-purpose
financial statements. It will save time and will be available easily whenever management
needs this in future.

With reference to above background, answer the following:

(i) Can management present the third statement of profit and loss as an additional
comparative in the general-purpose financial statements?

(ii) If management present third statement of profit and loss in the general-purpose financial
statement as comparative, is it necessary that this statement should- be compliant of Ind AS?

(iii) Can management present third statement of profit and loss only as additional
comparative in the general-purpose financial statements without furnishing other
components (like balance sheet, statement of cash flows, statement of change in equity) of
financial statements?

(Practice Question)

Answers 34

(i) Yes, as per Para 38C of Ind AS 1, an entity may present comparative information in addition
to the minimum comparative financial statements required by Ind AS, as long as that
information is prepared in accordance with Ind AS. This comparative information may consist of
one or more statements referred to in paragraph 10 but need not comprise a complete set of
financial statements. When this is the case, the entity shall present related note information for
those additional statements.

(ii) Yes, as per Para 38C of Ind AS 1, an entity may present comparative information in addition
to the minimum comparative financial statements required by Ind AS, as long as that
information is prepared in accordance with Ind AS.

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(iii) Yes, as per Para 38C of Ind AS 1, an entity may present comparative information in addition
to the minimum comparative financial statements required by Ind AS, as long as that
information is prepared in accordance with Ind AS. This comparative information may consist of
one or more statements referred to in paragraph 10 but need not comprise a complete set of
financial statements. When this is the case, the entity shall present related note information for
those additional statements.

Question 35

A company, while preparing the financial statements for financial year 20X1- 20X2,
erroneously booked excess revenue of 10 crore. The total revenue reported in financial year
20X1-20X2 was 80 crore. However, while preparing the financial statements for 20X2-20X3, it
discovered that excess revenue was booked in financial year 20X1-20X2 which it now wants
to correct in the financial statements. However, the management of the company is not sure

whether it need to present the third balance sheet as additional comparative. With regard to
the above background, answer the following:

(i) Is it necessary to provide the third balance sheet at the beginning of the preceding period
in this case?

(ii) The company wants to correct the errors during financial year 20X2-20X3 by giving impact
in the figures of current year only. Is the contention of the management, correct?

(Practice Question)

Answers 35

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(i) No, as per Para 40A of Ind AS 1, an entity shall present a third balance sheet as at the
beginning of the preceding period in addition to the minimum comparative financial statements
required in paragraph 38A if:

(a) it applies an accounting policy retrospectively, makes a retrospective restatement of items

in its financial statements or reclassifies items in its financial statements; and

(b) the retrospective application, retrospective restatement or the reclassification has a

material effect on the information in the balance sheet at the beginning of the preceding
period.

(ii) No, management need to correct the previous year figures to correct the error but need not
to furnish third balance sheet at the beginning of preceding period. (Refer Para 40A of Ind AS 1)

Question 36

ICAI Illustration

A retail chain acquired a competitor in March, 20X1 and accounted for the business
combination under Ind AS 103 on a provisional basis in its 31st March, 20X1 annual financial
statements. The business combination accounting was finalised in 20X1-20X2 and the
provisional fair values were updated. As a result, the 20X0-20X1 comparatives were adjusted
in the 20X1-20X2 annual financial statements. Does the restatement require an opening
statement of financial position (that is, an additional statement of financial position) as of 1st
April, 20X0?

(Study material)

Answer

An additional statement of financial position is not required, because the acquisition had no
impact on the entity’s financial position at 1st April, 20X0.

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 Chapter 3 Unit-2

Ind AS 34 “Interim Financial Reporting’’

Topic 1: Recognition and Measurement Principles

Question 1

Pharma Ltd. manufactures surgical items. Pharma Ltd. has shown a net profit of Rs. 50,00,000
for the second quarter of 2020-2021.

Following adjustments are made while computing the net profit:

(i) Bad debts of Rs. 2,60,000 incurred during the quarter. 40% of the bad debts have been
deferred to the next quarter.

(ii) Additional depreciation of Rs. 5,20,000 resulting from the change in the method of
depreciation.

(iii) Exceptional loss of Rs. 8,16,000 incurred during the second quarter. 60% of exceptional
loss has been deferred to next quarter.

(iv) Rs. 4,70,000 expenditure on account of sales expenses pertaining to the second quarter is
deferred on the argument that the third quarter will have more sales, therefore, third quarter
should be debited by higher expenditure. The expenditures are uniform throughout all
quarters.

Analyse and ascertain the correct net profit to be shown in the interim financial results of the
second quarter to be presented to the Board of Directors as per Ind AS 34.

(PYP Dec ‘21)

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Answer 1

The quarterly net profit has not been correctly stated. As per Ind AS 34, Interim Financial
Reporting, the quarterly net profit should be adjusted and restated as follows:

(i) The treatment of bad debts is not correct as the expenses incurred during an interim
reporting period should be recognized in the same period. Accordingly, Rs. 1,04,000 (Rs.
2,60,000 40%) should be deducted from Rs. 50,00,000 in the second quarter itself.

(ii) Recognizing additional depreciation of Rs. 5,20,000 in the same quarter is correct and is in
tune with Ind AS 34.

(iii) Treatment of exceptional loss is not as per the principles of Ind AS 34, as the entire amount
of Rs. 8,16,000 incurred during the second quarter should be recognized in the same quarter.
Hence Rs. 4,89,600 (ie. Rs. 8,16,000 60%) which was deferred for next quarter should be
deducted from the profits of second quarter only.

(iv) (a) As per Ind AS 34 the income and expense should be recognised when they are earned
and incurred respectively. As per para 39 of Ind AS 34, the costs should be anticipated or
deferred only when it is appropriate to anticipate or defer that type of cost at the end of the
financial year; and

(b) Costs are incurred unevenly during the financial year of an enterprise.

Therefore, the treatment done relating to deferment of Rs. 4,70,000 is not correct as
expenditures are uniform throughout all quarters. Thus, considering the above, the correct net
profits to be shown in Interim Financial Report of the second quarter shall be

Rs

Net Profit of second quarter 50,00,000

Adjustments

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Less: Bad debts wrongly deferred to third quarter 1,04,000

Exceptional loss wrongly deferred to third quarter 4,89,600

Sales expenses wrongly deferred to third quarter 4,70,000 (10,63,600)

Revised Profit 39,36,400

Question 2

ABC Ltd. requires assistance on whether the following revenue can be anticipated or cost can
be deferred as of 30th June, 20X1 while preparing the interim financial statements:

(i) Dividend income from its investment which is declared in September of every year.

(ii) 60% of the advertising cost for the whole year is incurred by ABC Ltd. In the first quarter
and the remaining 40% in the second quarter.

(MTP Sep ‘23)

Answer 2

Paragraphs 37 and 38 of Ind AS 34, Interim Financial Reporting state that revenues that are
received seasonally, cyclically, or occasionally within a financial year shall not be anticipated or
deferred as of an interim date if anticipation or deferral would not be appropriate at the end of
the entity’s financial year. Examples include dividend revenue, royalties, and government
grants. Additionally, some entities consistently earn more revenues in certain interim periods of
a financial year than in other interim periods, for example, seasonal revenues of retailers. Such
revenues are recognised when they occur.

Further, for costs incurred unevenly during the financial year, para 39 of Ind AS 34 states that
costs that are incurred unevenly during an entity’s financial year shall be anticipated or

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deferred for interim reporting purposes if, and only if, it is also appropriate to anticipate or
defer that type of cost at the end of the financial year. In view of the above guidance, in the
given case, dividend income received by ABC Limited cannot be anticipated and recognised in
financial statements as of 30th June, 20X1.

Further, considering that 60% of advertising cost for the whole year has been incurred by ABC
Ltd during the first quarter and 40% in the second quarter, it is a cost incurred unevenly.
Applying principles of paragraph 39, it is not appropriate to defer the charge of an incurred
advertising expense (60% of whole year cost) at the end of the quarter. Accordingly, all the
advertising costs incurred till 30th June, 20X1 should be charged to P&L while preparing its
financial statements as of 30th June, 20X1.

Question 3

ICAI Illustration

Innovative Corporation Private Limited (or “ICPL”) is dealing in seasonal product and the sales
pattern of the product, quarter wise is as under during the financial year 20X1-20X2:

Qtr. I Qtr. II Qtr. III Qtr. IV

ending 30 June ending 30 September ending 31 December ending 31 March

10% 10% 60% 20%

For the first quarter ending on 30 June, 20X1, ICPL has provided the following information :

Particulars Amounts (in crore)

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Sales 70

Employees benefits expenses 25

Administrative and other expenses 12

Finance cost 4

ICPL while preparing interim financial report for first quarter wants to defer Rs 16 crores
expenditure to third quarter on the argument that third quarter is having more sales
therefore third quarter should be debited by more expenditure. Considering the seasonal
nature of business and that the expenditures are uniform throughout all quarte Rs Calculate
the result of first quarter as per Ind AS 34 and comment on the company’s view.

(Study material)

Answer

Result of the first quarter ending 30 June

Particulars Amounts (in crore)

Sales 70

Total Revenue (A) 70

Less: Employees benefits expenses (25)

Administrative and other expenses (12)

Finance cost (4)

Total Expense (B) (41)

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Profit (A-B) 29

Note- As per Ind AS 34, the income and expense should be recognized when they are earned
and incurred respectively. Seasonal incomes will be recognized when they occur. Therefore, the
argument of ICPL is not correct considering the priciples of Ind AS 34.

Question 4

ICAI Illustration

ABC Limited manufactures automobile parts. ABC Limited has shown a net profit of Rs
20,00,000 for the third quarter of 20X1. Following adjustments are made while computing the
net profit:

(i) Bad debts of Rs 1,00,000 incurred during the quarter. 50% of the bad debts been deferred
to the next quarter.

(ii) Additional depreciation of Rs 4,50,000 resulting from the change in the method of
depreciation.

(iii) Exceptional loss of Rs 28,000 incurred during the third quarter. 50% of exceptional loss
have been deferred to next quarter.

(iv) Rs 5,00,000 expenditure on account of administrative expenses pertaining to the third

quarter is deferred on the argument that the fourth quarter will have more sales; therefore
fourth quarter should be debited by higher expenditure. The expenditures are uniform
throughout all quarters.

Ascertain the correct net profit to be shown in the Interim Financial Report of third quarter to
be presented to the Board of Directors .

(Study material)

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Answer

In the instant case, the quarterly net profit has not been correctly stated. As per Ind AS 34,
Interim Financial Reporting, the quarterly net profit should be adjusted and restated as follows:

(i) The treatment of bad debts is not correct as the expenses incurred during an inter
imreporting period should be recognised in the same period. Accordingly, Rs 50,000 should be
deducted from Rs 20,00,000.

(ii) Recognising additional depreciation of Rs 4,50,000 in the same quarter is correct and is in
tune with Ind AS 34.

(iii) Treatment of exceptional loss is not as per the principles of Ind AS 34, as the entire amount
of Rs 28,000 incurred during the third quarter should be recognized in the same quarter. Hence
Rs 14,000 which was deferred should be deducted from the profits of third quarter only.

(iv) As per Ind AS 34 the income and expense should be recognised when they are earned and
incurred respectively. As per para 39 of Ind AS 34, the costs should be anticipated or deferred
only when:

(i) it is appropriate to anticipate or defer that type of cost at the end of the financial year, and

(ii) costs are incurred unevenly during the financial year of an enterprise.

Therefore, the treatment done relating to deferment of Rs 5,00,000 is not correct as

expenditures are uniform throughout all quarters. Thus considering the above, the correct net
profits to be shown in Interim Financial Report of the third quarter shall be Rs 14,36,000 (Rs
20,00,000 -Rs 50,000 - Rs 14,000 - Rs 5,00,000

Topic 2: Presentation and Disclosure Requirements

[Link]
Question 5

The entity’s financial year ends on 31st March. What are the “reporting periods” for which
financial statements (condensed or complete) in the interim financial report of the entity as
on 30th September, 20X1 are required to be presented, if:

(i) Entity publishes interim financial reports quarterly

(ii) Entity publishes interim financial reports half-yearly.

(RTP May ’23)

Answer 5

Paragraph 20 of Ind AS 34, Interim Financial Reporting states as follows:

“Interim reports shall include interim financial statements (condensed or complete) for periods
as follows:

a) balance sheet as of the end of the current interim period and a comparative balance sheet as
of the end of the immediately preceding financial year.

b) statements of profit and loss for the current interim period and cumulatively for the current
financial year to date, with comparative statements of profit and loss for the comparable
interim periods (current and year-to-date) of the immediately preceding financial year.

c) statement of changes in equity cumulatively for the current financial year to date, with a
comparative statement for the comparable year-to-date period of the immediately preceding
financial year.

d) statement of cash flows cumulatively for the current financial year to date, with a
comparative statement for the comparable year-to-date period of the immediately preceding
financial year.

[Link]
Accordingly, periods for which interim financial statements are required to be presented are
provided herein below:

(i) Entity publishes interim financial reports quarterly

The entity will present the following financial statements (condensed or complete) in its interim
financial report of 30th September, 20X1:

Balance sheet at 30th September 31st March 20X1 - -

20X1

Statement of 3 months ended 3 months ended 6 months ended 6 months ended

profit and loss 30th September 30th September 30th September
th
30 September
for 20X1 20X1 20X0
20X0

Statement of 6 months ended 6 months ended

changes in 30th September 30th September
equity for 20X1 20X0

Statement of 6 months ended 6 months - -

cash flows for 30th September ended 30th
September
20X1

20X0

(ii) Entity publishes interim financial reports half-yearly

The entity’s financial year ends 31st March. The entity will present the following financial
statements (condensed or complete) in its half-yearly interim financial report of 30th
September, 20X1:

[Link]
Balance sheet at 30th September, 20X1 31st March, 20X1

Statement of profit and loss 6 months ending 30th 6 months ending 30th
for September, 20X1 September, 20X0

Statement of changes in 6 months ending 30th 6 months ending 30th

equity for September 20X1 September 20X0

Statement of cash flows for 6 months ending 30th 6 months ending 30th
September 20X1 September 20X0

Question 6

Heavy Limited has a plant with normal capacity to produce 90,000 units of a product per
annum and expected fixed production overhead for the year is Rs. 18,00,000. There are no
quarterly / seasonal variations. Hence, normal expected production of each quarter is
uniform. The actual production of the year is 87,000 units. The production details of each
quarter are as under:

Quarter I: 20,000 units

Quarter II: 24,000 units

Quarter III: 23,500 units

Quarter IV: 19,500 units

Calculate the allocation of fixed production overhead for all the four quarters. Will the
quarterly results affect annual result? Give your answer as per Ind AS 34 read with Ind AS 2.

(PYP July 21)

[Link]
Answer 6

Since it is considered that there is no quarterly / seasonal variation, then normal expected
production for each quarter is 22,500 units (90,000 units / 4 quarters) and fixed production
overheads for the quarter are Rs. 4,50,000 (Rs. 18,00,000 / 4 quarters). Fixed production
overhead to be allocated per unit of production in every quarter will be Rs. 20 per unit.

(Fixed overheads / Normal production i.e. Rs. 4,50,000 / 22,500 units = Rs. 20 per unit.

Particulars Quarters

I II III IV

Actual fixed production 4,50,000 9,00,000 13,50,000 18,00,000

overheads on year to date
basis Rs.

Actual production (Units) 20,000 24,000 23,500 19,500

Actual production year to date 20,000 44,000 67,500 87,000

basis (Units)

Fixed overheads to be 4,00,000 8,80,000 13,50,000 17,40,000

absorbed on year to date basis

(Rs.)

Under recovery year to date 50,000 20,000 NIL 60,000

(Rs)

Quarter I:

Unallocated fixed production overheads Rs.50,000 (i.e. Rs. 4,50,000 – Rs. 4,00,000) to be
charged as expense as per Ind AS 2 and consequently as per Ind AS 34 .

[Link]
Quarter II:

Since production increased in second quarter by 1,500 units (24,000 – 22,500) i.e. more than
the normal expected production, hence Rs. 30,000 (1,500 units Rs. 20 per unit) will be
reversed by way of a credit to the statement of profit and loss of the 2 and quarter and debit to
cost of production / inventory cost.

Quarter III:

Earlier, Rs. 50,000 was not allocated to production / inventory cost in the 1st quarter. Out of it,
Rs. 30,000 was reversed in the 2nd quarter. To allocate entire Rs. 13,50,000 till third quarter to
the production, as per Ind AS 34, remaining Rs. 20,000 (Rs. 50,000 – Rs. 30,000) will be reversed
by way of a credit to the statement of profit and loss of the 3rd quarter and debit to the cost of
production / inventory cost.

Quarter IV:

Unallocated fixed production overheads Rs. 60,000 {i.e. Rs. 4,50,000 – (Rs. 20 19,500)} in the
4th quarter will be expensed off as per the principles of Ind AS 2 and Ind AS 34 by way of a
charge to the statement of profit and loss.

For the year:

The cumulative result of all the quarters would also result in unallocated overheads of Rs.
60,000, thus, meeting the requirements of Ind AS 34 that the quarterly results should not affect
the measurement of the annual result.

Question 7

ICAI Illustration

[Link]
Fixed production overheads for the financial year is Rs 10,000. Normal expected production
for the year, after considering planned maintenance and normal breakdown, also considering
the future demand of the product is 2,000 MT. It is considered that there are no quarterly /
seasonal variations. Therefore, the normal expected production for each quarter is 500 MT
and the fixed production overheads for the quarter are Rs 2,500.

Actual production achieved Quantity (In MT)

First quarter 400

Second quarter 600

Third quarter 500

Fourth quarter 400

Total 1,900

Presuming that there are no quarterly / seasonal variation, calculate the allocation of fixed
production overheads for all the four quarters as per Ind AS 34 read with Ind AS 2. Will the
quarterly results affect the annual results?

(Study material)

Answer

If it is considered that there is no quarterly / seasonal variation, therefore normal expected

production for each quarter is 500 MT and fixed production overheads for the quarter are Rs
2,500.

Fixed production overhead to be allocated per unit of production in every quarter will be Rs 5
per MT (Fixed overheads / Normal production).

[Link]
Quarters Allocations

First Quarter ➢ Actual fixed production overheads = Rs 2,500

➢ Fixed production overheads based on the allocation rate of Rs 5 per unit

allocated to actual production = Rs 5 400 = Rs 2,000

➢ Unallocated fixed production overheads to be charged as expense as per

Ind AS 2 and consequently as per Ind AS 34 = Rs 500

Second Quarter ➢ Actual fixed production overheads on year-to-date basis = Rs 5,000

➢ Fixed production overheads to be absorbed on year-to-date basis =

1,000 Rs 5 = Rs 5,000

➢ Earlier, Rs 500 was not allocated to production in the 1st quarter. To give
effect to the entire Rs 5,000 to be allocated in the second quarter, as per Ind
AS 34, Rs 500 are reversed by way of a credit to the statement of profit and
loss of the 2nd quarter.

Third Quarter ➢ Actual production overheads on year-to-date basis = Rs 7,500

➢ Fixed production overheads to be allocated on year-to-date basis= 1,500

5 = Rs 7,500

➢ There is no under or over recovery of allocated overheads. Hence, no

further action is reuired

Fourth Quarter ➢ Actual fixed production overheads on year-to date basis = Rs 10,000

➢ Fixed production overheads to be allocated on year-to-date basis 1,900

5 = Rs 9,500

[Link]
 ➢ Rs 500, i.e., [Rs 2,500 – (Rs 5 400)] unallocated fixed production
overheads in the 4th quarter, are to be expensed off as per the principles of
Ind AS 2 and Ind AS 34 by way of a charge to the statement of profit and loss.

➢ Unallocated productions overheads for the year Rs 500 (i.e Rs 10,000 – Rs

9,500) are expensed in the Statement of profit and loss as per Ind AS 2.

Topic 3: Correction of Errors in Prior Periods

Question 8

While preparing interim financial statements for the half-year ended 30 September 20X2, an
entity discovers a material error (an improper expense accrual) in the interim financial
statements for the period ended 30 September 20X1 and the annual financial statements for
the year ended 31 March 20X2. The entity does not intend to restate the comparative
amounts for the prior period presented in the interim financial statements as it believes it
would be sufficient to correct the error by restating the comparatives in the annual financial
statements for the year ended 31 March 20X3. Is this acceptable? Discuss in accordance with
relevant Ind AS.

(RTP Nov ‘21)

Answer 8

Paragraph 42 of Ind AS 8, inter alia, states that an entity shall correct material prior period
errors retrospectively in the first set of financial statements approved for issue after their
discovery by restating the comparative amounts for the prior period(s) presented in which the
error occurred.

[Link]
Paragraph 28 of Ind AS 34 requires an entity to apply the same accounting policies in its interim
financial statements as are applied in its annual financial statements (except for accounting
policy changes made after the date of the most recent annual financial statements that are to
be reflected in the next annual financial statements).

Paragraph 15B of Ind AS 34 cites ‘corrections of prior period errors’ as an example of events or
transactions which need to be explained in an entity’s interim financial report if they are
significant to an understanding of the changes in financial position and performance of the
entity since the end of the last annual reporting period.

Paragraph 25 of Ind AS 34, Interim Financial Statements, states as follows:

“While judgement is always required in assessing materiality, this Standard bases the
recognition and disclosure decision on data for the interim period by itself for reasons of
understandability of the interim figures. Thus, for example, unusual items, changes in
accounting policies or estimates, and errors are recognized and disclosed on the basis of
materiality in relation to interim period data to avoid misleading inferences that might result
from nondisclosure. The overriding goal is to ensure that an interim financial report includes all
information that is relevant to understanding an entity’s financial position and performance
during the interim period.”

In view of the above, the entity is required to correct the error and restate the comparative
amounts in interim financial statements for the half-year ended 30 September 20X2.

Topic 4: Income Tax in Interim Reporting

Question 9

[Link]
An entity reports quarterly, earns Rs. 1,50,000 pre-tax profit in the first quarter but expects to
incur losses of Rs. 50,000 in each of the three remaining quarters. The entity operates in a
jurisdiction in which its estimated average annual income tax rate is 30%.

The management believes that since the entity has zero income for the year, its income-tax
expense for the year will be zero. State whether the management’s views are correct. If not,
then calculate the tax expense for each quarter as well as for the year as per Ind AS 34.

(RTP Nov’19)

Answer 9

As per para 30 (c) of Ind AS 34 ‘Interim Financial Reporting’, income tax expense is recognized
in each interim period based on the best estimate of the weighted average annual income tax
rate expected for the full financial year. Accordingly, the management’s contention that since
the net income for the year will be zero no income tax expense shall be charged quarterly in the
interim financial report, is not correct.

The following table shows the correct income tax expense to be reported each quarter in
accordance with Ind AS 34:

Period Pre-tax earnings (in Effective tax rate Tax expense (in Rs.)
Rs.)

First Quarter 1,50,000 30% 45,000

Second Quarter (50,000) 30% (15,000)

Third Quarter (50,000) 30% (15,000)

Fourth Quarter (50,000) 30% (15,000)

Annual 0 0 0

[Link]
Question 10

Company A expects to earn Rs. 15,000 pre-tax profit each quarter and has a corporate tax
slab of 20 percent on the first Rs. 20,000 of annual earnings and 40 per cent on all additional
earnings. Actual earnings match expectations. Calculate the amount of income tax to be
shown in each quarter.

(MTP April 22)

Answer 10

The following table shows the amount of income tax expense that is reported in each quarter:

Expected Total Income= 15,000 4 = Rs. 60,000

Expected Tax as per slabs = 20,000 20% + 40,000 40% = Rs 20,000

Average Annual Income tax rate = 100 = 33.33%

Q1 Q2 Q3 Q4

Profit before tax 15,000 15,000 15,000 15,000

Tax expense 5,000 5,000 5,000 5,000

Question 11

Narayan Ltd. provides you the following information and asks you to calculate the tax
expense for each quarter, assuming that there is no difference between the estimated
taxable income and the estimated accounting income: Estimated Gross Annual Income-
Rs.33,00,000 (inclusive of Estimated Capital Gains of Rs. 8,00,000) Estimated Income of

[Link]
Quarter I is Rs. 7,00,000, Quarter II is Rs. 8,00,000, Quarter III (including Estimated Capital
Gains of Rs. 8,00,000) is Rs. 12,00,000 and Quarter IV is Rs. 6,00,000

Tax On Capital Gains 12%

Rates: On Other Income: First Rs. 5,00,000 30%

Balance Income 40%

(MTP Oct 21)

Answer 11

As per para 30(c) of Ind AS 34 ‘Interim Financial Reporting’, income tax expense is recognized in
each interim period based on the best estimate of the weighted average annual income tax rate
expected for the full financial year.

If different income tax rates apply to different categories of income (such as capital gains or
income earned in particular industries) to the extent practicable, a separate rate is applied to
each individual category of interim period pre-tax income

Rs

Estimated annual income exclusive of estimated capital gain

(33,00,000 – 8,00,000) (A) 25,00,000

Tax expense on other income:

30% on Rs. 5,00,000 1,50,000

40% on remaining Rs. 20,00,000 8,00,000

(b) 9,50,000

[Link]
Weighted average annual income tax rate = = = 38 %

Tax expense to be recognized in each of the quarterly reports

Rs.

Quarter I - Rs. 7,00,000 38% 2,66,000

Quarter II - Rs. 8,00,000 38% 3,04,000

Quarter III - Rs. (12,00,000 - 8,00,000) 38% 1,52,000

Rs. 8,00,000 12% 96,000 2,48,000

Quarter IV - Rs. 6,00,000 38% 2,28,000

10,46,000

Question 12

An entity’s accounting year ends is 31st December, but its tax year end is 31st March. The
entity publishes an interim financial report for each quarter of the year ended 31st
December, 2019. The entity’s profit before tax is steady at Rs.10,000 each quarter, and the
estimated effective tax rate is 25% for the year ended 31 st March, 2019 and 30% for the year
ended 31st March, 2020. How the related tax charge would be calculated for the year 2019
and its quarters?

(RTP Nov’20)

Answer 12

[Link]
 Table showing computation of tax charge:

Quarter Quarter Quarter Quarter Year ending

ending 31st ending 30th ending 30th ending 31st 31st
March, 2019 June, 2019 September, December, December,
2019 2019 2019

Rs. Rs. Rs. Rs. Rs.

Profit before 10,000 10,000 10,000 10,000 40,000

tax

Tax charge (2,500) (3,000) (3,000) (3,000) (11,500)

7,500 7,000 7,000 7,000 28,500

Since an entity’s accounting year is not same as the tax year, more than one tax rate might
apply during the accounting year. Accordingly, the entity should apply the effective tax rate for
each interim period to the pre-tax result for that period

Question 13

ICAI Illustration

Company A has reported Rs 60,000 as pre tax profit in first quarter and expects a loss of Rs
15,000 each in the subsequent quarters. It has a corporate tax slab of 20 percent on the first
Rs 20,000 of annual earnings and 40 per cent on all additional earnings. Calculate the amount
of tax to be shown in each quarter.

(Practice Question)

Answer

[Link]
Amount of income tax expense reported in each quarter would be as below

Expected total Income = Rs 15,000 [60,000 - (15,000 3)]

Expected tax as per slabs = 15,000 x 20% = Rs 3,000

Average Annual Income tax rate = = 20%

Q1 Q2 Q3 Q4

Profit / (Loss) 60,000 (15,000) (15,000) (15,000)

before tax

Tax charge / 12,000 (3,000) (3,000) (3,000)

(credit)

Question 14

ICAI Illustration

ABC Ltd. presents interim financial report quarterly. On 1.4.20X1, ABC Ltd. Has carried
forward loss of Rs 600 lakhs for income-tax purpose for which deferred tax asset has not been
recognized. ABC Ltd. earns Rs 900 lakhs in each quarter ending on 30.6.20X1, 30.9.20X1,
31.12.20X1 and 31.3.20X2 excluding the carried forward loss. Income-tax rate is expected to
be 40%. Calculate the amount of tax expense to be reported in each quarter.

(Study material)

Answer

Amount of income tax expense reported in each quarter would be as below: The estimated
payment of the annual tax on earnings for the current year:

[Link]
Rs 3,000* = Rs 1,200 lakhs.

*(3,600 lakhs - Rs 600 lakhs) = Rs 3,000 lakhs

Average annual effective tax rate = 100 = 33.33% Tax expense to be shown in each

quarter = 900 33.33% = Rs 300 lakhs

Topic 5: Employee Benefits and Obligations

Question 15

PQR Ltd. is preparing its interim financial statements for quarter 3 of the year. How the
following transactions and events should be dealt with while preparing its interim financials:

The company has a practice of declaring bonus of 10% of its annual operating profits every
year. It has a history of doing so.

(RTP Nov’22)

Answer 15

A bonus is anticipated for interim reporting purposes, if and only if,

(a) the bonus is a legal obligation or past practice would make the bonus a constructive
obligation for which the entity has no realistic alternative but to make the payments, and

(b) a reliable estimate of the obligation can be made. Ind AS 19, Employee Benefits provides
guidance in this regard.

A liability for bonus may arise out of legal agreement or constructive obligation because of
which it has no alternative but to pay the bonus and accordingly, needs to be accrued in the

[Link]
annual financial statements. Bonus liability is accrued in interim financial statements on the
same basis as they are accrued for annual financial statements. In the instant case, bonus
liability of 10% of operating profit for the year to date may be accrued. In the given case, since
the company has past record of declaring annual bonus every year, the same may be accrued
using a reasonable estimate (applying the principles of Ind AS 19, Employee Benefits) while
preparing its interim results.

Topic 6: Anticipation or Deferral of Unevenly Incurred Costs

Question 16

PQR Ltd. is preparing its interim financial statements for quarter 3 of the year. How the
following transactions and events should be dealt with while preparing its interim financials:

(i) It makes employer contributions to government-sponsored insurance funds that are

assessed on an annual basis. During Quarter 1 and Quarter 2 larger amount of payments for
this contribution were made, while during the Quarter 3 minor payments were made (since
contribution is made upto a certain maximum level of earnings per employee and hence for
higher income employees, the maximum income reaches before year end).

(ii) The entity intends to incur major repair and renovation expense for the office building.
For this purpose, it has started seeking quotations from vendors. It also has tentatively
identified a vendor and expected costs that will be incurred for this work.

(RTP Nov’22)

Answer 16

[Link]
Paragraph 28 of Ind AS 34, Interim Financial Reporting states that an entity shall apply the same
accounting recognition and measurement principles in its interim financial statements as are
applied in its annual financial statements.

Further, paragraphs 32 and 33 of Ind AS 34, Interim Financial Reporting state that for assets,
the same tests of future economic benefits apply at interim dates and at the end of an entity’s
financial year. Costs that, by their nature, would not qualify as assets at financial year-end
would not qualify at interim dates either. Similarly, a liability at the end of an interim reporting
period must represent an existing obligation at that date, just as it must at the end of an annual
reporting period. An essential characteristic of income (revenue) and expenses is that the
related inflows and outflows of assets and liabilities have already taken place. If those inflows
or outflows have taken place, the related revenue and expense are recognised otherwise not.
The Conceptual Framework does not allow the recognition of items in the balance sheet which
do not meet the definition of assets or liabilities

Considering the above guidance, while preparing its interim financials, the transactions and
events of the given case should be dealt with as follows:

(i) If employer contributions to government-sponsored insurance funds are assessed on an

annual basis, the employer’s related expense is recognised using an estimated average annual
effective contribution rate in its interim financial statements, even though a large portion of the
payments have been made early in the financial year. Accordingly, it should work out an
average effective contribution rate and account for the same accordingly, in its interim
financials.

(ii) The cost of a planned overhaul expenditure that is expected to occur in later part of the year
is not anticipated for interim reporting purposes unless an event has caused the entity to have
a legal or constructive obligation. The mere intention or necessity to incur expenditure related
to the future is not sufficient to give rise to an obligation.

[Link]
Topic 7: Seasonal Revenue and Expense Recognition

Question 17

Due to decline in market price in second quarter, Happy India Ltd. incurred an inventory loss.
The Market price is expected to return to previous levels by the end of the year. At the end of
year, the decline had not reversed. When should the loss be reported in interim statement of
profit and loss of Happy India Ltd.?

(Study material)

Answer 17

Loss should be recognised in the second quarter of the year

[Link]
 Chapter 3 Unit-3

Ind AS 7 “Statement of cash Flows”

Topic 1: Basics and Definitions

Question 1

ICAI Illustration

Company has provided the following information regarding the various assets held by
company on 31st March 20X1. Find out, which of the following items will be part of cash and
cash equivalents for the purpose of preparation of cash flow statement as per the guidance
provided in Ind AS 7:

[Link]. Name of the Security Additional Information

1 Fixed deposit with SBI 12%, 3 years maturity on 1st January 20X4

2 Fixed deposit with HDFC 10%, original term was for 2 years, but due for
maturity on 30th June 20X1

3 Redeemable Preference shares in ABC Acquired on 31st January 20X1 and the
ltd redemption is due on 30th April 20X1

4 Cash balances at various banks All branches of all banks in India

5 Cash balances at various banks All international branches of Indian banks

[Link]
 6 Cash balances at various banks Branches of foreign banks outside India

7 Bank overdraft of SBI Fort branch Temporary overdraft, which is payable on

demand

8 Treasury Bills 90 days maturity

(Study material)

Answer

[Link]. Name of the Security Decision

1 Fixed deposit with SBI Not to be considered – long term

2 Fixed deposit with HDFC Exclude as original maturity is not less than 90
days from the date of acquisition

3 Redeemable Preference shares in ABC Include as due within 90 days from the date of
Ltd. acquisition

4 Cash balances at various banks Include

5 Cash balances at various banks Include

6 Cash balances at various banks Include

7 Bank overdraft of SBI Fort branch Include (Assumed as integral part of an

entity's cash management)

8 Treasury Bills Include

[Link]
Question 2

ICAI Illustration

From the following transactions taken from a private sector bank operating in India, identify
which transactions will be classified as operating and which would be classified as Investing
activity.

[Link]. Nature of transaction paid

1 Interest received on loans

2 Interest paid on Deposits

3 Deposits accepted

4 Loans given to customers

5 Loans repaid by the customers

6 Deposits repaid

7 Commission received

8 Lease rentals paid for various branches

9 Service tax paid

10 Furniture purchased for new branches

11 Implementation of upgraded banking software

12 Purchase of shares in 100% subsidiary for opening a branch in Abu Dhabi

[Link]
 13 New cars purchased from Honda dealer, in exchange ofold cars and remaining
amount paid in cash

14 Provident fund paid for the employees

15 Issued employee stock options

(Study material)

Answer

[Link]. Nature of transaction paid Operating / Investing / Not to be considered

1 Interest received on loans Operating – Main revenue generating activity

2 Interest paid on Deposits Operating – Main expenses of operations

3 Deposits accepted Operating – in case of financial institutes

4 Loans given to customers Operating – in case of financial institutes

5 Loans repaid by the customers Operating – in case of financial institutes

6 Deposits repaid Operating – in case of financial institutes

7 Commission received Operating – Main revenue generating activity

8 Lease rentals paid for various branches Operating – Main expenses of operations

9 Service tax paid Operating – Main expenses of operations

10 Furniture for new branches Investing – Assets purchased

11 Implementation of upgraded banking Investing – Purchased for long term purpose

software

[Link]
 12 Purchase of shares in 100% subsidiary Investing – strategic investment
for opening a branch in Abu Dhabi

13 New cars purchased from Honda Investing-for cash payment

dealer, in exchange of old cars and
cash payment

14 Provident fund paid for the employees Operating

15 Issued employee stock options Not to be considered. No cash flow

Question 3

ICAI Illustration

An entity has entered into a factoring arrangement and received money from the factor.
Examine the said transaction and state how should it be presented in the statement of cash
flows?

(Study material)

Answer

Under factoring arrangement, it needs to be assessed whether the arrangement is recourse or

non-recourse.

Question 4

ICAI Illustration

[Link]
A firm invests in a five-year bond of another company with a face value of Rs 10,00,000 by
paying Rs 5,00,000. The effective rate is 15%. The firm recognises proportionate interest
income in its income statement throughout the period of bond.

Based on the above information answer the following question:

a) How the interest income will be treated in cash flow statement during the period of bond?

b) On maturity, whether the receipt of Rs 10,00,000 should be split between interest income
and receipts from investment activity.

(Study material)

Answer

Interest income will be treated as income over the period of bond in the income statement.
However, there will be no cash flow in these years because no cash has been received. On
maturity, receipt of Rs 10,00,000 will be classified as investment activity with a bi furcation of
interest income & money received on redemption of bond.

Topic 2: Classification of Cash Flows

Question 5

Entity A acquired a subsidiary, entity B, during the year. Summarized information from the
consolidated statement of profit and loss and balance sheet is provided, together with some
supplementary information.

Consolidated statement of profit and loss Amount(Rs.)

[Link]
Revenue 3,80,000

Cost of sales (2,20,000)

Gross profit 1,60,000

Depreciation (30,000)

Other operating expenses (56,000)

Interest cost (4,000)

Profit before taxation 70,000

Taxation (15,000)

Profit after taxation 55,000

Consolidated balance sheet 20X2 20X1

Amount(Rs.) Amount(Rs.)

Assets

Cash and cash equivalents 8,000 5,000

Trade receivables 54,000 50,000

Inventories 30,000 35,000

Property, plant and equipment 1,60,000 80,000

Goodwill 18,000 -

[Link]
Total assets 2,70,000 1,70,000

Liabilities

Trade payables 68,000 60,000

Income tax payable 12,000 11,000

Long term debt 1,00,000 64,000

Total liabilities 1,80,000 1,35,000

Shareholders’ equity 90,000 35,000

Total liabilities and shareholders’ 2,70,000 1,70,000

Other information

All of the shares of entity B were acquired for Rs. 74,000 in cash. The fair values of assets
acquired and liabilities assumed were:

Particulars Amount (Rs.)

Inventories 4,000

Trade receivables 8,000

Cash 2,000

Property, plant and equipment 1,10,000

Trade payables (32,000)

[Link]
Long term debt (36,000)

Goodwill 18,000

Cash consideration paid 74,000

Prepare statement of cash flows of Entity A.

(MTP May ’20 & RTP May’20)

Answer 5

This information will be incorporated into the consolidated statement of cash flows as
follows:

Statement of cash flows for 20X2 (extract) Amount (Rs) Amount (Rs)

Cash flows from operating activities

Profit before taxation 70,000

Adjustments for non-cash items:

Depreciation 30,000

Decrease in inventories (Note 1) 9,000

Decrease in trade receivables (Note 2) 4,000

Decrease in trade payables (Note 3) (24,000)

Interest paid to be included in financing activities 4,000

Taxation (11,000 + 15,000 – 12,000) (14,000)

[Link]
Net cash inflow from operating activities 79,000

Cash flows from investing activities

Cash paid to acquire subsidiary (74,000 – 2,000) (72,000)

Net cash outflow from investing activities (72,000)

Cash flows from financing activities

Interest paid (4,000)

Net cash outflow from financing activities (4,000)

Increase in cash and cash equivalents 3,000

Cash and cash equivalents at the beginning of the year 5,000

Cash and cash equivalents at the end of the year 8,000

Working Notes:

1. Inventories

Total inventories of the Group at the end of the year Rs. 30,000

Inventories acquired during the year from subsidiary (Rs. 4,000)

Rs. 26,000

Opening inventory (Rs. 35,000)

Decrease in inventory Rs. 9,000

[Link]
2. Trade Receivables

Total trade receivables of the Group at the end of the year Rs.54,000

Trade receivables acquired during the year from subsidiary (Rs.8,000)

Rs.46,000

Opening trade receivables (Rs.50,000)

Decrease in trade receivables Rs. 4,000

3. Trade Payables

Rs

Trade payables at the end of the year 68,000

Trade payables of the subsidiary assumed during the year (Rs.32,000)

Rs. 36,000

Opening Trade payable (Rs. 60,000)

Decrease in Trade payables Rs. 24,000

Question 6

A Ltd., whose functional currency is Indian Rupee, had a balance of cash and cash equivalents
of Rs. 2,00,000, but there are no trade receivables or trade payables balances as on 1st April,

[Link]
20X1. During the year 20X1-20X2, the entity entered into the following foreign currency
transactions:

• A Ltd. purchased goods for resale from Europe for €2,00,000 when the exchange rate was
€1 = Rs. 50. This balance is still unpaid at 31st March, 20X2 when the exchange rate is €1 = Rs.
45. An exchange gain on retranslation of the trade payable of Rs. 5,00,000 is recorded in
profit or loss.

• A Ltd. sold the goods to an American client for $ 1,50,000 when the exchange rate was $1 =
Rs. 40. This amount was settled when the exchange rate was $1 = Rs. 42. A further exchange
gain regarding the trade receivable is recorded in the statement of profit or loss.

• A Ltd. also borrowed €1,00,000 under a long-term loan agreement when the exchange rate
was €1 = Rs. 50 and immediately converted it to Rs. 50,00,000. The loan was retranslated at
31st March, 20X2 @ Rs. 45, with a further exchange gain recorded in the statement of profit
or loss.

• A Ltd. therefore records a cumulative exchange gain of Rs. 18,00,000 (10,00,000 + 3,00,000 +
5,00,000) in arriving at its profit for the year

• In addition, A Ltd. records a gross profit of Rs. 10,00,000 (Rs. 60,00,000 – Rs. 50,00,000) on
the sale of the goods.

• Ignore taxation.

How cash flows arising from the above transactions would be reported in the statement of
cash flows of A Ltd. under indirect method?

(MTP Oct ’19 & April ‘18)

Answer 6

Statement of cash flows

[Link]
Particulars Amount (Rs.)

Cash flows from operating activities

Profit before taxation (10,00,000 + 18,00,000) 28,00,000

Adjustment for unrealized exchange gains/losses:

Foreign exchange gain on long term loan *€ 2,00,000 (10,00,000)

Rs. (50 – 45)]

Decrease in trade payables [1,00,000 Rs. (50 – 45)] (5,00,000)

Operating Cash flow before working capital changes 13,00,000

Changes in working capital (Due to increase in trade 50,00,000

payables)

Net cash inflow from operating activities 63,00,000

Cash inflow from financing activity 50,00,000

Net increase in cash and cash equivalents 1,13,00,000

Cash and cash equivalents at the beginning of the 2,00,000

period

Cash and cash equivalents at the end of the period 1,15,00,000

Question 7

Use the following data of ABC Ltd. to construct a statement of cash flows using the direct and
indirect methods:

[Link]
 20X2 20X1

Cash 4,000 14,000

Accounts Receivable 25,000 32,500

Prepaid Insurance 5,000 7,000

Inventory 37,000 34,000

Fixed Assets 3,16,000 2,70,000

Accumulated Depreciation (45,000) (30,000)

Total Assets 3,42,000 3,27,500

Accounts Payable 18,000 16,000

Wages Payable 4,000 7,000

Debentures 1,73,000 1,60,000

Equity Shares 88,000 84,000

Retained Earnings 59,000 60,500

Total Liabilities & Equity 3,42,000 3,27,500

20X2

Sales 2,00,000

Cost of Goods Sold (1,23,000)

Depreciation (15,000)

[Link]
Insurance Expense (11,000)

Wages (50,000)

Net Profit 1,000

During the financial year 20X2 company ABC Ltd. declared and paid dividend of 2,500.

During 20X2, ABC Ltd. Paid Rs 46,000 in cash to acquire new fixed assets. The accounts
payable was used only for inventory. No debt was retired during 20X2.

(Study material)

Answer 7

A. DIRECT METHOD

Cash flows from operating activities 20X2

Cash received from customers 2,07,500

Cash paid for inventory (1,24,000)

Cash paid for insurance (9,000)

Cash paid for wages (53,000)

Net cash flow from operating activities 21,500

Cash flows from investing activities

Purchase of fixed assets (46,000)

Cash flows from financing activities

[Link]
Dividend paid (2,500)

Proceeds from issuance of debentures 13,000

Proceeds from issue of equity 4,000

Net cash flows from financing activities 14,500

Net decrease in cash and cash equivalents (10,000)

Opening Cash Balance 14,000

Closing Cash Balance 4,000

B. INDIRECT METHOD

Cash flows from operating activities 20X2

Net Profit 1,000

Adjustments for Depreciation 15,000

16,000

Decrease in accounts receivable 7,500

Decrease in prepaid insurance 2,000

Increase in inventory (3,000)

Increase in accounts payable 2,000

Decrease in wages payable (3,000)

[Link]
Net cash flow from operating activities 21,500

Cash flows from investing activities

Purchase of fixed assets (46,000)

Cash flows from financing activities

Dividend paid (2,500)

Proceeds from issue of debentures 13,000

Proceeds from issue of equity 4,000

Net cash flows from financing activities 14,500

Net decrease in cash and cash equivalents (10,000)

Opening Cash Balance 14,000

Closing Cash Balance 4,000

Working Notes:

Fixed Assets Account

Particulars Amount Particulars Amount

To Balance b/d 2,70,000 By Balance c/d 3,16,000

To Cash (Purchase of Fixed 46,000

Assets)

3,16,000 3,16,000

[Link]
 Inventory Account

Particulars Amount Particulars Amount

To Balance b/d 34,000 By Cost of goods sold 1,23,000

To Creditors account (credit 2,000 By Balance c/d 37,000

purchase)

To Purchase (Bal. Figure) 1,24,000

1,60,000 1,60,000

Accounts Payable Account

Particulars Amount Particulars Amount

To Balance c/d 18,000 By Balance b/d 16,000

By Inventory Account 2,000

(credit purchase) ([Link].)

18,000 18,000

Equity Share Capital Account

Particulars Amount Particulars Amount

To Balance c/d 88,000 By Balance b/d 84,000

By Bank account (Proceeds 4,000

[Link]
 from equity share issued)

88,000 88,000

Question 8

Entity A acquired a subsidiary, Entity B, during the year. Summarised information from the
Consolidated Statement of Profit and Loss and Balance Sheet is provided, together with some
supplementary information.

Consolidated Statement of Profit and Loss

Amount (Rs )

Revenue 3,80,000

Cost of sales (2,20,000)

Gross profit 1,60,000

Depreciation (30,000)

Other operating expenses (56,000)

Interest cost (4,000)

Profit before taxation 70,000

Taxation (15,000)

Profit after taxation 55,000

[Link]
 Consolidated balance sheet

20X2 20X1

Assets Amount (Rs ) Amount (Rs )

Cash and cash equivalents 8,000 5,000

Trade receivables 54,000 50,000

Inventories 30,000 35,000

Property, plant and equipment 1,60,000 80,000

Goodwill 18,000 —

Total assets 2,70,000 1,70,000

Liabilities

Trade payables 68,000 60,000

Income tax payable 12,000 11,000

Long term debt 1,00,000 64,000

Total liabilities 1,80,000 1,35,000

Shareholders’ equity 90,000 35,000

Total liabilities and shareholders 2,70,000 1,70,000

Other information

[Link]
All of the shares of entity B were acquired for Rs 74,000 in cash. The fair values of assets
acquired and liabilities assumed were:

Particulars Amount (Rs)

Inventories 4,000

Trade receivables 8,000

Cash 2,000

Property, plant and equipment 1,10,000

Trade payables (32,000)

Long term debt (36,000)

Goodwill 18,000

Cash consideration paid 74,000

Prepare the Consolidated Statement of Cash Flows for the year 20X2, as per Ind AS 7.

(Study material)

Answer 8

This information will be incorporated into the Consolidated Statement of Cash Flows as follows:

Statement of Cash Flows for the year ended 20X2 (extract)

Amount (Rs) Amount (Rs)

Cash flows from operating activities

[Link]
Profit before taxation 70,000

Adjustments for non-cash items:

Depreciation 30,000

Decrease in inventories (W.N. 1) 9,000

Decrease in trade receivables (W.N. 2) 4,000

Decrease in trade payables (W.N. 3) (24,000)

Interest paid to be included in financing activities 4,000

Taxation (11,000 + 15,000 – 12,000) (14,000)

Net cash generated from operating activities 79,000

Cash flows from investing activities

Cash paid to acquire subsidiary (74,000 – 2,000) (72,000)

Net cash outflow from investing activities (72,000)

Cash flows from financing activities

Interest paid (4,000)

Net cash outflow from financing activities (4,000)

Increase in cash and cash equivalents during the 3,000

year

Cash and cash equivalents at the beginning of the 5,000

year

[Link]
Cash and cash equivalents at the end of the year 8,000

Working Notes:

1. Calculation of change in inventory during the year

(Rs)

Total inventories of the Group at the end of the year 30,000

Inventories acquired during the year from subsidiary (4,000)

26,000

Opening inventories 35,000

Decrease in inventories 9,000

2. Calculation of change in Trade Receivables during the year

(Rs)

Total trade receivables of the Group at the end of the year 54,000

Trade receivables acquired during the year from subsidiary (8,000)

46,000

Opening trade receivables 50,000

Decrease in trade receivables 4,000

[Link]
3. Calculation of change in Trade Payables during the year

(Rs)

Trade payables at the end of the year 68,000

Trade payables of the subsidiary assumed during the year (32,000)

36,000

Opening trade payables 60,000

Decrease in trade payables 24,000

Question 9

From the following data of Galaxy Ltd., prepare statement of cash flows showing cash
generated from Operating Activities using direct method as per Ind AS 7:

31.3.20X2 (Rs) 31.3.20X1 (Rs)

Current Assets:

Inventory 1,20,000 1,65,000

Trade receivables 2,05,000 1,88,000

Cash & cash equivalents 35,000 20,500

Current Liabilities:

Trade payable 1,95,000 2,15,000

[Link]
Provision for tax 48,000 65,000

Summary of Statement of Profit and Loss

Sales 85,50,000

Less: Cost of sales (56,00,000) 29,50,000

Other Income

Interest income 20,000

Fire insurance claim received 1,10,000 1,30,000

30,80,000

Depreciation (24,000)

Administrative and selling expenses (15,40,000)

Interest expenses (36,000)

Foreign exchange loss (18,000) (16,18,000)

Net Profit before tax and extraordinary income 14,62,000

Income Tax (95,000)

Net Profit 13,67,000

Additional information:

[Link]
(i) Trade receivables and Trade payables include amounts relating to credit sale and credit
purchase only.

(ii) Foreign exchange loss represents increment in liability of a long-term borrowing due to
exchange rate fluctuation between acquisition date and balance sheet date.

(Practice Question)

Answer 9

Statement Cash Flows from operating activities of Galaxy Ltd. For the year ended 31st March
20X2 (Direct Method)

Particulars Rs. Rs.

Operating Activities:

Cash received from Trade receivables (W.N. 3) 85,33,000

Less: Cash paid to Suppliers (W.N.2) 55,75,000

Payment for Administration and Selling expenses 15,40,000

Payment for Income Tax (W.N.4) 1,12,000 (72,27,000)

13,06,000

Adjustment for exceptional items (fire insurance 1,10,000

claim)

Net cash generated from operating activities 14,16,000

Working Notes:

[Link]
1. Calculation of total purchases

Cost of Sales = Opening stock + Purchases – Closing Stock

Rs 56,00,000 = Rs1,65,000 + Purchases – Rs1,20,000

Purchases = Rs 55,55,000

2. Calculation of cash paid to Suppliers

Trade Payables

Particulars Amount Particulars Amount

To Bank A/c (balancing 55,75,000 By Balance b/d 2,15,000

figure)

To Balance c/d 1,95,000 By Purchases (W.N.1) 55,55,000

57,70,000 57,70,000

3. Calculation of cash received from Customers

Trade Receivables

Particulars Amount Particulars Amount

To Balance b/d 1,88,000 By Bank A/c (balancing 85,33,000

figure)

To Sales 85,50,000 By Balance c/d 2,05,000

87,38,000 87,38,000

[Link]
4. Calculation of tax paid during the year in cash

Provision for tax

Particulars Amount Particulars Amount

To Bank A/c (balancing 1,12,000 By Balance b/d 65,000

figure)

To Balance c/d 48,000 By Profit and Loss A/c 95,000

1,60,000 1,60,000

Question 10

ICAI Illustration

From the following transactions, identify which transactions will be qualified for the
calculation of operating cash flows, if company is into the business of trading of mobile
phones.

[Link]. Nature of Transaction

1 Receipt from sale of mobile phones

2 Purchases of mobile phones from various companies

3 Employees expenses paid

4 Advertisement expenses paid

[Link]
5 Credit sales of mobile

6 Miscellaneous charges received from customers for repairs of mobiles

7 Loss due to decrease in market value of the closing stock of old mobile phones

8 Payment to suppliers of mobile phones

9 Depreciation on furniture of sales showrooms

10 Interest paid on cash credit facility of the bank

11 Profit on sale of old computers and printers, in exchange of new laptop and printer

12 Advance received from customers

13 Sales Tax and excise duty paid

(Study material)

Answer

[Link]. Nature of Transaction Included / Excluded with reason

1 Receipt from sale of mobile phones Include – main revenue generating activity

2 Purchases of mobile phones from Include – expenses related to main operations

various companies of business

3 Employees expenses paid Include – expenses related to main operations

of business

4 Advertisement expenses paid Include – expenses related to main operations

of business

[Link]
 5 Credit sales of mobile Do not include – Credit transaction will not be
included in cash flow (receipts from customers
will be included)

6 Misc. charges received from Include – supplementary revenue generating

customers for repairs of mobiles activity

7 Loss due to decrease in market value Do not include - Non cash transaction
of the closing stock of old mobile
phones

8 Payment to suppliers of mobile Include – cash outflow related to main

phones operations of business

9 Depreciation on furniture of sales Do not include – non cash item

showrooms

10 Interest paid on cash credit facility of Do not include – cost of finance

the bank

11 Profit on sale of old computers and Do not include – non cash item
printers, in exchange of new laptop
and printer

12 Advance received from customers Include – Related to operations of business

13 Sales tax and excise duty paid Include – related to operations of business

Question 11

ICAI Illustration

[Link]
From the following transactions taken from a parent company having multiple businesses and
multiple segments, identify which transactions will be classified as Operating, Investing and
Financing:

Sr. No Nature of transaction

1 Issued preference shares

2 Purchased the shares of 100% subsidiary company

3 Dividend received from shares of subsidiaries

4 Dividend received from other companies

5 Bonus shares issued

6 Purchased license for manufacturing of special drugs

7 Royalty received from the goods patented by the company

8 Rent received from the let out building (letting out is not main business)

9 Interest received from loans and advances given

10 Dividend paid

11 Interest paid on security deposits

12 Purchased goodwill

13 Acquired the assets of a company by issue of equity shares (not parting any cash)

14 Interim dividends paid

15 Dissolved the 100% subsidiary and received the amount in final settlement

[Link]
 (Study material)

Answer

[Link]. Nature of transaction Operating / Investing / Financing

/ Not to be considered

1 Issued preference shares Financing

2 Purchased the shares of 100% subsidiary Investing

company

3 Dividend received from shares of subsidiaries Investing

4 Dividend received from other companies Investing

5 Bonus shares issued No cash flow

6 Purchased license for manufacturing of special Investing

drugs

7 Royalty received from the goods patented by the Operating

company

8 Rent received from the let out building (letting Investing

out is not main business)

9 Interest received from loans and advances given Investing

10 Dividend paid Financing

11 Interest paid on security deposits Financing

12 Purchased goodwill Investing

[Link]
 13 Acquired the assets of a company by issue of Not to be considered
equity shares (not parting any cash)

14 Interim dividends paid Financing

15 Dissolved the 100% subsidiary and received the Investing

amount in final settlement

Question 12

ICAI Illustration

X Limited acquires fixed asset of Rs 10,00,000 from Y Limited by accepting the liabilities of Rs
8,00,000 of Y Limited and balance amount it paid in cash. How X Limited will treat all those
items in its cash flow statements?

(Study material)

Answer

Investing and financing transactions that do not require the use of cash and cash equivalents
shall be excluded from a statement of cash flows. X Limited should classify cash payment of Rs
2,00,000 under investing activities. The non-cash transactions – liabilities and asset should be
disclosed in the notes to the financial statements

Topic 3 : Computation Using Direct & Indirect Methods

Question 13

[Link]
Company A acquires 70% of the equity stake in Company B on July 20, 20X1. The
consideration paid for this transaction is as below:

(a) Cash consideration of Rs 15,00,000

(b) 200,000 equity shares having face of Rs 10 and fair value of Rs 15 per share.

On the date of acquisition, Company B has cash and cash equivalent balance of Rs 2,50,000 in
its books of account.

On October 10, 20X2, Company A further acquires 10% stake in Company B for cash
consideration of Rs 8,00,000.

Advise how the above transactions will be disclosed/presented in the statement of cash flows
as per Ind AS 7.

(RTP May’18)

Answer 13

As per para 39 of Ind AS 7, the aggregate cash flows arising from obtaining control of subsidiary
shall be presented separately and classified as investing activities.

As per para 42 of Ind AS 7, the aggregate amount of the cash paid or received as consideration
for obtaining subsidiaries is reported in the statement of cash flows net of cash and cash
equivalents acquired or disposed of as part of such transactions, events or changes in
circumstances.

Further, investing and financing transactions that do not require the use of cash or cash
equivalents shall be excluded from a statement of cash flows. Such transactions shall be
disclosed elsewhere in the financial statements in a way that provides all the relevant
information about these investing and financing activities.

[Link]
As per para 42A of Ind AS 7, cash flows arising from changes in ownership interests in a
subsidiary that do not result in a loss of control shall be classified as cash flows from financing
activities, unless the subsidiary is held by an investment entity, as defined in Ind AS 110, and is
required to be measured at fair value through profit or loss. Such transactions are accounted
for as equity transactions and accordingly, the resulting cash flows are classified in the same
way as other transactions with owners.

Considering the above, for the financial year ended March 31, 20X2 total consideration of Rs
15,00,000 less Rs 250,000 will be shown under investing activities as “Acquisition of the
subsidiary (net of cash acquired)”.

There will not be any impact of issuance of equity shares as consideration in the cash flow
statement however a proper disclosure shall be given elsewhere in the financial statements in a
way that provides all the relevant information about the issuance of equity shares for non -
cash consideration.

Further, in the statement of cash flows for the year ended March 31, 20X3, cash consideration
paid for the acquisition of additional 10% stake in Company B will be shown under financing
activities.

Question 14

From the following data, identify the nature of activities as per Ind AS 7.

[Link]. Nature of transaction

1 Cash paid to employees

2 Cash paid for development of property costs

3 Borrowings repaid

[Link]
 4 Cash paid to suppliers

5 Loan to Director

6 Bonus shares issued

7 Dividends paid

8 Cash received from trade receivables

9 Proceeds from sale of PPE

10 Depreciation of PPE

11 Advance received from customers

12 Purchased goodwill

13 Payment of promissory notes

( RTP May’21)

Answer 14

S. No. Nature of transaction Activity as per Ind AS 7

1 Cash paid to employees Operating activity

2 Cash paid for development costs Investing activity

3 Borrowings repaid Financing activity

4 Cash paid to suppliers Operating activity

5 Loan to Director Investing activity

[Link]
 6 Bonus shares issued Non-cash item

7 Dividends paid Financing activity

8 Cash received from trade receivables Operating activity

9 Proceeds from sale of PPE Investing activity

10 Depreciation of PPE Non-cash item

11 Advance received from customers Operating activity

12 Purchased goodwill Investing activity

13 Payment of promissory notes Financing activity

Question 15

From the following data of Galaxy Ltd., prepare statement of cash flows showing cash
generated from Operating Activities using direct method as per Ind AS 7:

31.3.20X2 31.3.20X1

Rs Rs

Current Assets:

Inventory 1,20,000 1,65,000

Trade receivables 2,05,000 1,88,000

Cash & cash equivalents 35,000 20,500

[Link]
Current Liabilities:

Trade payable 1,95,000 2,15,000

Provision for tax 48,000 65,000

Summary of Statement of Profit and Loss Rs

Sales 85,50,000

Less: Cost of sales (56,00,000) 29,50,000

Other Income

Interest income 20,000

Fire insurance claim received 1,10,000 1,30,000

30,80,000

Depreciation (24,000)

Administrative and selling expenses (15,40,000)

Interest expenses (36,000)

Foreign exchange loss (18,000) (16,18,000)

Net Profit before tax and extraordinary income 14,62,000

Income Tax (95,000)

Net Profit 13,67,000

Additional information:

[Link]
(i) Trade receivables and Trade payables include amounts relating to credit sale and credit
purchase only.

(ii) Foreign exchange loss represents increment in liability of a long-term borrowing due to
exchange rate fluctuation between acquisition date and balance sheet date.

(MTP Sep’22, RTP Nov ’21)

Answer 15

Statement of Cash Flows from Operating Activities (Direct Method)

of Galaxy Ltd. for the year ended 31 March 20X2

Particulars Rs Rs

Operating Activities:

Cash received from Trade receivables (W.N. 3) 85,33,000

Less: Cash paid to Suppliers (W.N.2) 55,75,000

Payment for Administration and Selling expenses 15,40,000

Payment for Income Tax (W.N.4) 1,12,000 (72,27,000)

13,06,000

Adjustment for exceptional items (fire insurance 1,10,000

claim)

Net cash generated from operating activities 14,16,000

Working Notes:

1. Calculation of total purchases

[Link]
Cost of Sales = Opening stock + Purchases – Closing Stock Rs 56,00,000 = Rs 1,65,000 +
Purchases – Rs 1,20,000 Purchases = Rs 55,55,000

2. Calculation of cash paid to Suppliers

Trade Payables

Rs Rs

To Bank A/c(balancing 55,75,000 By Balance b/d 2,15,000

figure

To Balance c/d 1,95,000 By Purchases (W.N.1) 55,55,000

57,70,000 57,70,000

3. Calculation of cash received from Customers

Trade Receivables

Rs Rs

To Balance b/d 1,88,000 By Bank A/c 85,33,000

(balancing figure)

To Sales 85,50,000 By Balance c/d 2,05,000

87,38,000 87,38,000

4. Calculation of tax paid during the year in cash

[Link]
 Provision for tax

Rs Rs

To Bank A/c(balancing 1,12,000 By Balance b/d 65,000

figure)

To Balance c/d 48,000 By Profit and Loss A/c 95,000

1,60,000 1,60,000

Question 16

ICAI Illustration

Find out the cash from operations by direct method and indirect method from the following
information:

Operating statement of ABC Ltd. for the year ended 31.3.20X2

Particulars Rs

Sales 5,00,000.00

Less: Cost of goods sold 3,50,000.00

Administration & Selling Overheads 55,000.00

Depreciation 7,000.00

Interest Paid 3,000.00

Loss on sale of asset 2,000.00

[Link]
Profit before tax 83,000.00

Tax (30,000.00)

Profit After tax 53,000.00

Balance Sheet as at 31st March

20X2 20X1

Assets

Non-current Assets

Property, Plant and Equipment 75,000.00 65,000.00

Investment 12,000.00 10,000.00

Current Assets

Inventories 12,000.00 13,000.00

Trade receivables 10,000.00 7,000.00

Cash and cash equivalents 6,000.00 5,000.00

Total 1,15,000.00 1,00,000.00

Equity and Liabilities

Shareholders’ Funds 60,000.00 50,000.00

Non-current Liabilities 33,000.00 35,000.00

[Link]
Current Liabilities

Trade Payables 12,000.00 8,000.00

Payables for Expenses 10,000.00 7,000.00

Total 1,15,000.00 1,00,000.00

(Study material)

Answer

1. Cash flow from Operations by Direct Method

Particulars Rs See Note

Cash Sales 4,97,000.00 1

Less: Cash Purchases 3,45,000.00 2

Overhead 52,000.00 3

Interest - Financing

Depreciation - Non cash item

Loss on sale of asset - Investing item

Cash profit 100,000.00

Less: Tax (30,000.00)

Cash profit after tax 70,000.00

[Link]
Note No 1 - Cash Receipts from Sales and Trade receivables

Particulars Rs

Sales 5,00,000.00

Add : Opening Trade receivables 7,000.00

Less : Closing Trade receivables (10,000.00)

Cash Receipts 4,97,000.00

Note No 2 :- Payment to Trade Payables for Purchases

Particulars Rs

Cost of goods sold 3,50,000.00

Closing inventories 12,000.00

Less: Opening inventories (13,000.00)

Purchase 3,49,000.00

Add: Opening Trade Payables 8,000.00

Less: Closing Trade Payables (12,000.00)

Payment to creditors 3,45,000.00

Particulars Rs

[Link]
Overheads 55,000.00

Add: Opening payables 7,000.00

Less: Closing payables (10,000.00)

Payment for Overheads 52,000.00

Topic 4 : Special Cases and Complex Scenarios

Question 17

Z Ltd. (India) has an overseas branch in USA. It has a bank account having balance of USD
7,000 as on 1st April 2019. During the financial year 2019-2020, Z Ltd. acquired computers for
its USA office for USD 280 which was paid on same date. There is no other transaction
reported in USA or India.

Exchange rates between INR and USD during the financial year 2019-2020 were:

Date USD 1 to INR

1st April 2019 70.00

30th November 2019 71.00 (Date of purchase of computer)

31st March 2020 71.50

Average for 2019-2020 70.50

[Link]
Please prepare the extract of Cash Flow Statement for the year ended 31stMarch 2020 as per
the relevant Ind AS and also show the foreign exchange profitability from these transactions
for the financial 2019-2020?

(PYP Jan’21)

Answer 17

In the books of Z Ltd.

Statement of Cash Flows for the year ended 31 st March 2020

Rs Rs

Cash flows from operating activities

Net Profit (Refer Working Note) 10,360

Adjustments for non-cash items:

Foreign Exchange Gain (10,360)

Net cash outflow from operating activities 0

Cash flows from investing activities

Acquisition of Property, Plant and Equipment (19,880)

Net cash outflow from Investing activities (19,880)

Cash flows from financing activities 0

Net change in cash and cash equivalents (19,880)

Cash and cash equivalents at the beginning of the year i.e. 4,90,000

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1st April 2019

Foreign Exchange difference 10,360

Cash and cash equivalents at the end of the year i.e.

31st March 2020 4,80,480

Working Note:

Computation of Foreign Exchange Gain

Bank Account USD Date USD Exchange Rate Rs

Opening balance 1.4.2019 7,000 70.00 4,90,000

Less: Purchase of Computer 30.11.2019 280 71.00 19,880

Closing balance calculated 6,720 4,70,120

Closing balance (at year 31.3.2020 6,720 71.50 4,80,480

end spot rate)

Foreign Exchange Gain 10,360

credited to Profit and Loss
account

Question 18

ICAI Illustration

An entity has bank balance in foreign currency aggregating to USD 100 (equivalent to Rs
4,500) at the beginning of the year. Presuming no other transaction taking place, the entity

[Link]
reported a profit before tax of Rs 100 on account of exchange gain on the bank balance in
foreign currency at the end of the year. What would be the closing cash and cash equivalents
as per the balance sheet?

(Study material)

Answer

For the purpose of statement of cash flows, the entity shall present the following:

Amount (Rs)

Profit before tax 100

Less: Unrealized exchange gain (100)

Cash flow from operating activities Nil

Cash flow from investing activities Nil

Cash flow from financing activities Nil

Net increase in cash and cash equivalents during the year Nil

Add: Opening balance of cash and cash equivalents 4,500

Cash and cash equivalents as at the year-end 4,500

Question 19

The opening balance sheet at 1st April, 20X6 of an Indian company (which account for its
transactions in INR (Rs), which consists of cash of Rs 1,00,000 and share capital of Rs 100,000.
The Company borrows a long term loan on 30th September, 20X6 for US $ 2,200 when the

[Link]
rate of exchange is 1 US $= Rs 87. There are no other transactions during the year. The
exchange rate at the balance sheet date of 31st March, 20X7 is 1 US $ = Rs 85.

The summarized balance sheet at 31st March, 20X7 is as follows:

Rs Rs

Assets

Cash (1,00,000+1,91,400) 2,91,400

2,91,400

Equity and liabilities

Capital and reserves

Share capital 1,00,000

Other Equity

Retained Earning 4,400 1,04,400

Non- current liabilities

Long -term loan 1,87,000

Total equity and liabilities 2,91,400

Required:

How the foreign exchange difference arising from unsettled transactions will reflect in the
Statement of Cash Flows?

[Link]
 (RTP May’25)

Answer 19

The foreign currency loan, having been translated at the rate ruling at the receipt date to Rs
1,91,400 (US $ 2,200 x Rs 87), is translated at the balance sheet date to Rs 1,87,000 (US $ 2,200
x Rs 85). The exchange gain of Rs 4,400 is recognised in the Statement of profit and loss. The
cash is made up of Rs 1,00,000 (received from the share issue) and Rs 1,91,400 (received on
converting the currency loan immediately to Rs).

Statement of Cash Flows

Rs

Cash flows from operating activities

Profit 4,400

Less: Foreign exchange gain (4,400)

Net cash flow from operating activities A 0

Cash flows from financing activities

Receipts of foreign currency loan 1,91,400

Net cash flow from financing activities B 1,91,400

Net increase in cash and cash equivalent A+B 1,91,400

Cash and cash equivalents at the beginning of the reporting period 1,00,000

Cash and cash equivalents at the end of the reporing period* 2,91,400

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* Represents year end cash balances.

The exchange gain of Rs 4,400 does not have any cash flow effect and is related to financing
activities. Therefore, it needs to be eliminated from profit. A similar adjustment would be
necessary if the loan remains outstanding at 31st March, 20X8.

Topic 5 : Business Combinations and Subsidiary Acquisitions

Question 20

In the year 2020-2021, one land was sold for Rs 5 crore and another land purchased for Rs 3
crore by XYZ Limited. Company reported Cash Flow on a Net Basis in Cash Flow Statement i.e.
Rs 2 crore in Investing Activity as Cash receipt from Sale of Land. Advise whether treatment
given as above is correct or not as per the provisions of Ind AS 7. Also, calculate the cash from
operations by indirect method from the following information:

(PYP Dec ‘21)

Operating Statement of XYZ Limited for the year ended 31st March, 2021

Particulars Rs

Sales 20,00,000

Less: Cost of goods sold (14,00,000)

Administration & selling overheads (2,20,000)

Depreciation (28,000)

Interest paid (12,000)

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Loss on sale of asset (8,000)

Profit before tax 3,32,000

Less: Tax (1,20,000)

Profit after tax 2,12,000

Balance Sheet as on 31st March

2021 (Rs) 2020 (Rs)

Assets

Non-current assets

Property, plant and equipment 3,00,000 2,60,000

Investment 48,000 40,000

Current assets

Inventories 48,000 52,000

Trade receivables 40,000 28,000

Cash and cash equivalents 24,000 20,000

Total 4,60,000 4,00,000

Equity and liabilities

Shareholders’ funds 2,40,000 2,00,000

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Non-current Liabilities 1,32,000 1,40,000

Current liabilities

Trade payables 48,000 32,000

Expenses payables 40,000 28,000

Total 4,60,000 4,00,000

Answer 20

(i) Correct treatment of cash flow:

If nothing is specifically mentioned, then as per Ind AS 7, the cash flows will be presented on
gross basis. Gross basis means the receipts would be shown separately and the payments will
be shown separately. Accordingly, in the year 2020-2021, while presenting the information,
entity will show separately cash outflow from investing activity of Rs 3 crore for purchase of
land and cash inflow from investing activity of Rs 5 crore from sale of land.

(ii) Cash flow from Operations by Indirect Method

Rs

Profit After Tax 2,12,000

Add back / (Less): Depreciation 28,000

Interest paid 12,000

Loss on sale of an asset 8,000

Adjustments for changes in inventory and operating receivables and 2,60,000

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payables

Decrease in inventory 4,000

Increase in trade receivables (12,000)

Increase in trade payables 16,000

Increase in expenses payables 12,000

Net cash generated from operating activity 2,80,000

Topic 6 : Disclosures and Notes to Financial Statements

Question 21

What will be the classification for following items in the statement of cash flows

(i) Banks / Financial institutions and (ii) Other Entities ? of both

[Link] Particulars

1 Interest received on loans and advances given

2 Interest paid on deposits and other borrowings

3 Interest and dividend received on investments in subsidiaries, associates and in

other entities

4 Dividend paid on preference and equity shares, including tax on dividend paid on
preference and equity shares by other entities

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 5 Finance charges paid by lessee under finance lease

6 Payment towards reduction of outstanding finance lease liability

7 Interest paid to vendor for acquiring fixed asset under deferred payment basis

8 Principal sum payment under deferred payment basis for acquisition of fixed
assets

9 Penal interest received from customers for late payments

10 Penal interest paid to suppliers for late payments

11 Interest paid on delayed tax payments

12 Interest received on tax refunds

(RTP Nov’22)

Answer 21

The following are the classification of various activities in the Statement of Cash Flows:

[Link]. Particulars Classification for reporting cash flows

Banks/financial Other entities

institutions

1 Interest received on loans and Operating Activities Investing activities

advances given

2 Interest paid on deposits and other Operating Activities Financing activities

borrowings

[Link]
 3 Interest and dividend received on Investing activities Investing activities
investments in subsidiaries, associates
and in other entities

4 Dividend paid on preference and Financing activities Financing activities

equity shares, including tax on
dividend paid on preference and
equity shares by other entities

5 Finance charges paid by lessee under Financing activities Financing activities

finance lease

6 Payment towards reduction of Financing activities Financing activities

outstanding finance lease liability

7 Interest paid to vendor for acquiring Financing activities Financing activities

fixed asset under deferred payment
basis

8 Principal sum payment under Investing activities Investing activities

deferred payment basis for
acquisition of fixed assets

9 Penal interest received from Operating Activities Operating Activities

customers for late payments

10 Penal interest paid to suppliers for Operating Activities Operating Activities

late payments

11 Interest paid on delayed tax payments Operating Activities Operating Activities

[Link]
 12 Interest receivedon tax refunds Operating Activities Operating Activities

[Link]
 Chapter 4 Unit 1

Ind AS 8 “ACCOUNTING POLICIES, CHANGES IN ACCOUNTING

ESTIMATES AND ERRORS

Topic: 1 Understanding Accounting Policies

Question 1

ICAI Illustration

Entity ABC acquired a building for its administrative purposes and presented the same as
property, plant and equipment (PPE) in the financial year 20X1-20X2. During the financial
year 20X2-20X3, it relocated the office to a new building and leased the said building to a
third party. Following the change in the usage of the building, Entity ABC reclassified it from
PPE to investment property in the financial year 20X2-20X3. Should Entity ABC account for
the changes a change in accounting policy?

(Study material)

Answer

Paragraph 16(a) of Ind AS 8 provides that the application of an accounting policy for
transactions, other events or conditions that differ in substance from those previously occurring
are not changes in accounting policies.

As per Ind AS 16, ‘property, plant and equipment’ are tangible items that:

(c) are held for use in the production or supply of goods or services, for rental to others, or for
administrative purposes; and

[Link]
(d) are expected to be used during more than one period.”

As per Ind AS 40, ‘investment property’ is property (land or a building—or part of a building—or
both) held (by the owner or by the lessee as a right-of-use asset) to earn rentals or for capital
appreciation or both, rather than for:

c) use in the production or supply of goods or services or for administrative purposes; or

(d) sale in the ordinary course of business.”

As per the above definitions, whether a building is an item of property, plant and equipment
(PPE) or an investment property for an entity depends on the purpose for which it is held by the
entity. It is thus possible that due to a change in the purpose for which it is held, a building that
was previously classified as an item of property, plant and equipment may warrant
reclassification as an investment property, or vice versa. Whether a building is in the nature of
PPE or investment property is determined by applying the definitions of these terms from the
perspective of that entity. Thus, the classification of a building as an item of property, plant and
equipment or as an investment property is not a matter of an accounting policy choice.

Accordingly, a change in classification of a building from property, plant and equipment to

investment property due to change in the purpose for which it is held by the entity is not a
change in an accounting policy.

Question 2

ICAI Illustration

Whether change in functional currency of an entity represents a change in accounting policy?

(Study material)

Answer

[Link]
Paragraph 16(a) of Ind AS 8 provides that the application of an accounting policy for
transactions, other events or conditions that differ in substance from those previously occurring
are not changes in accounting policies.

As per Ind AS 21, ‘functional currency’ is the currency of the primary economic environment in
which the entity operates.

Paragraphs 9-12 of Ind AS 21 list factors to be considered by an entity in determining its

functional currency. It is recognized that there may be cases where the functional currency is
not obvious. In such cases, Ind AS 21 requires the management to use its judgement to
determine the functional currency that most faithfully represents the economic effects of the
underlying transactions, events and conditions.

Paragraph 13 of Ind AS 21 specifically notes that an entity’s functional currency reflects the
underlying transactions, events and conditions that are relevant to it. Accordingly, once
determined, the functional currency is not changed unless there is a change in those underlying
transactions, events and conditions. Thus, functional currency of an entity is not a matter of an
accounting policy choice

In view of the above, a change in functional currency of an entity does not represent a change
in accounting policy and Ind AS 8, therefore, does not apply to such a change. Ind AS 21
requires that when there is a change in an entity’s functional currency, the entity shall apply the
translation procedures applicable to the new functional currency prospectively from the date of
the change.

Question 3

ICAI Illustration

An entity developed one of its accounting policies by considering a pronouncement of an

overseas national standard-setting body in accordance with Ind AS 8. Would it be permissible

[Link]
for the entity to change the said policy to reflect a subsequent amendment in that
pronouncement?

(Study material)

Answer

In the absence of an Ind AS that specifically applies to a transaction, other event or condition,
management may apply an accounting policy from the most recent pronouncements of
International Accounting Standards Board and in absence thereof those of the other standard-
setting bodies that use a similar conceptual framework to develop accounting standards. If,
following an amendment of such a pronouncement, the entity chooses to change an accounting
policy, that change is accounted for and disclosed as a voluntary change in accounting policy. As
such a change is a voluntary change in accounting policy, it can be made only if it results in
information that is reliable and more relevant (and does not conflict with the sources in Ind AS
8).

Question 4

ICAI Illustration

Whether a change in inventory cost formula is a change in accounting policy or a change in

accounting estimate?

(Study material)

Answer

As per Ind AS 8, accounting policies are the specific principles, bases, conventions, rules and
practices applied by an entity in preparing and presenting financial statements. Further,
paragraph 36(a) of Ind AS 2, ‘Inventories’, specifically requires disclosure of ‘cost formula used’
as a part of disclosure of accounting policies adopted in measurement of inventories.

[Link]
Accordingly, a change in cost formula is a change in accounting policy

Question 5

Entity ABC acquired a building for its administrative purposes and presented the same as
property, plant and equipment (PPE) in the financial year 20X1-20X2. During the financial
year 20X2-20X3, it relocated the office to a new building and leased the said building to a
third party. Following the change in the usage of the building, Entity ABC reclassified it from
PPE to investment property in the financial year 20X2-20X3. Should Entity ABC account for
the change as a change in accounting policy?

(PYP Dec’21)

Answer 5

Paragraph 16(a) of Ind AS 8 provides that the application of an accounting policy for
transactions, other events or conditions that differ in substance from those previously occurring
are not changes in accounting policies.

As per Ind AS 16, ‘property, plant and equipment’ are tangible items that:

(a) are held for use in the production or supply of goods or services, for rental to others, or for
administrative purposes; and

(b) are expected to be used during more than one period.”

As per Ind AS 40, ‘investment property’ is property (land or a building—or part of a building—or
both) held (by the owner or by the lessee as a right-of-use asset) to earn rentals or for capital
appreciation or both, rather than for:

(a) use in the production or supply of goods or services or for administrative purposes; or

(b) sale in the ordinary course of business.”

[Link]
As per the above definitions, whether a building is an item of property, plant and equipment
(PPE) or an investment property for an entity depends on the purpose for which it is held by the
entity. It is thus possible that due to a change in the purpose for which it is held, a building that
was previously classified as an item of property, plant and equipment may warrant
reclassification as an investment property, or vice versa. Whether a building is in the nature of
PPE or investment property is determined by applying the definitions of these terms from the
perspective of that entity. Thus, the classification of a building as an item of property, plant and
equipment or as an investment property is not a matter of an accounting policy choice.

Accordingly, a change in classification of a building from property, plant and equipment to

investment property due to change in the purpose for which it is held by the entity is not a
change in an accounting policy.

Question 6

A carpet retail outlet sells and fits carpets to the general public. It recognizes revenue when
the carpet is fitted, which on an average is six weeks after the purchase of the carpet.

It then decides to sub-contract the fitting of carpets to self-employed fitters. It now

recognizes revenue at the point-of-sale of the carpet.

Whether this change in recognising the revenue is a change in accounting policy as per the
provision of Ind AS 8.

(Study material)

Answer 6

Therefore, there would not be any need to retrospectively change the prior period figures for
revenue already recognized.

[Link]
Question 7

ICAI Illustration

Whether an entity can change its accounting policy of subsequent measurement of property,
plant and equipment (PPE) from revaluation model to cost model?

(Study material)

Answer

Paragraph 29 of Ind AS 16 provides that an entity shall choose either the cost model or the
revaluation model as its accounting policy for subsequent measurement of an entire class of
PPE.

A change from revaluation model to cost model for a class of PPE can be made only if it meets
the condition specified in Ind AS 8 paragraph 14(b) i.e. the change results in the financial
statements providing reliable and more relevant information to the users of financial
statements. For example, an unlisted entity planning IPO may change its accounting policy from
revaluation model to cost model for some or all classes of PPE to align the entity’s accounting
policy with that of listed markets participants within that industry so as to enhance the
comparability of its financial statements with those of other listed market participants within
the industry. Such a change – from revaluation model to cost model is not expected to be
frequent.

Where the change in accounting policy from revaluation model to cost model is considered
permissible in accordance with Ind AS 8 paragraph 14(b), it shall be accounted for
retrospectively, in accordance with Ind AS 8.

Topic : 2 Voluntary Change in Accounting Policy & Justification

[Link]
Question 8

Can an entity voluntarily change one or more of its accounting policies?

(Study material)

Answer 8

A change in an accounting policy can be made only if the change is required or permitted by Ind
AS 8.

As per para 14 of Ind AS 8, an entity shall change an accounting policy only if the change:

(a) is required by an Ind AS; or

(b) results in the financial statements providing reliable and more relevant information about
the effects of transactions, other events or conditions on the entity’s financial position, financial
performance or cash flows.

Para 15 of the standard states that the users of financial statements need to be able to
compare the financial statements of an entity over time to identify trends in its financial
position, financial performance and cash flows. Therefore, the same accounting policies are
applied within each period and from one period to the next unless a change in accounting
policy meets one of the above criteria.

Paragraph 14(b) lays down two requirements that must be complied with in order to make a
voluntary change in an accounting policy. First, the information resulting from application of
the changed (i.e., the new) accounting policy must be reliable. Second, the changed accounting
policy must result in “more relevant” information being presented in the financial statements.

Whether a changed accounting policy results in reliable and more relevant financial information
is a matter of assessment in the particular facts and circumstances of each case. In order to
ensure that such an assessment is made judiciously (such that a voluntary change in an
accounting policy does not effectively become a matter of free choice), paragraph 29 of Ind AS

[Link]
8 requires an entity making a voluntary change in an accounting policy to disclose, inter alia,
“the reasons why applying the new accounting policy provides reliable and more relevant
information.”

Topic : 3 Change in Accounting Estimate

Question 9

In 20X3-20X4, after the entity’s 31 March 20X3 annual financial statements were approved
for issue, a latent defect in the composition of a new product manufactured by the entity was
discovered (that is, a defect that could not be discovered by reasonable or customary
inspection). As a result of the latent defect the entity incurred Rs.100,000 in unanticipated
costs for fulfilling its warranty obligation in respect of sales made before 31 March 20X3. An
additional Rs.20,000 was incurred to rectify the latent defect in products sold during 20X3-
20X4 before the defect was detected and the production process rectified, Rs.5,000 of which
relates to items of inventory at 31 March 20X3. The defective inventory was reported at cost
Rs. 15,000 in the 20X2-20X3 financial statements when its selling price less costs to complete
and sell was estimated at Rs.18,000. The accounting estimates made in preparing the 31
March 20X3 financial statements were appropriately made using all reliable information that
the entity could reasonably be expected to have been obtained and taken into account in the
preparation and presentation of those financial statements. Analyse the above situation in
accordance with relevant Ind AS.

(RTP May ’21, May’23)

Answer 9

Ind AS 8 is applied in selecting and applying accounting policies, and accounting for changes in
accounting policies, changes in accounting estimates and corrections of prior period errors.

[Link]
A change in accounting estimate is an adjustment of the carrying amount of an asset or a
liability, or the amount of the periodic consumption of an asset. This change in accounting
estimate is an outcome of the assessment of the present status of, and expected future
benefits and obligations associated with, assets and liabilities. Changes in accounting estimates
result from new information or new developments and, accordingly, are not corrections of
errors.

Further, the effect of change in an accounting estimate, shall be recognized prospectively by

including it in profit or loss in: (a) the period of the change, if the change affects that period
only; or (b) the period of the change and future periods, if the change affects both. Prior period
errors are omissions from, and misstatements in, the entity’s financial statements for one or
more prior periods arising from a failure to use, or misuse of, reliable information that:

(a) was available when financial statements for those periods were approved for issue; and

(b) could reasonably be expected to have been obtained and taken into account in the
preparation and presentation of those financial statements.

Such errors include the effects of mathematical mistakes, mistakes in applying accounting
policies, oversights or misinterpretations of facts, and fraud. On the basis of above provisions,
the given situation would be dealt as follows:

The defect was neither known nor reasonably possible to detect at 31 March 20X3 or before
the financial statements were approved for issue, so understatement of the warranty provision
Rs. 1,00,000 and overstatement of inventory Rs. 2,000 (Note 1) in the 31 March 20X3 financial
statements are not a prior period errors.

The effects of the latent defect that relate to the entity’s financial position at 31 March 20X3
are changes in accounting estimates.

In preparing its financial statements for 31 March 20X3, the entity made the warranty provision
and inventory valuation appropriately using all reliable information that the entity could

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reasonably be expected to have obtained and had taken into account the same in the
preparation and presentation of those financial statements.

Consequently, the additional costs are expensed in calculating profit or loss for 20X3-20X4.

Working Note:

Inventory is measured at the lower of cost (ie Rs. 15,000) and fair value less costs to complete
and sell (i.e. Rs. 18,000 originally estimated minus Rs. 5,000 costs to rectify latent defect) = Rs.
13,000.

Question 10

Given the decreased revenue in financial year 20X1-20X2, management of PQR Ltd is keen to
identify ways to reduce the overall impact on profit and loss. A consultant has suggested that
they could explore changing the basis of depreciation from SLM to hours-in-use but not
entirely sure if this is permitted. Annual depreciation charge for financial year 20X1-20X2
would be Rs 25 lacs using SLM and Rs 7 lacs using new method. This difference is significant
for PQR Ltd.’s financial statements. What are the considerations in determining whether a
change in depreciation methodology is appropriate, and how should this change be
accounted for? Given the risk of charging lower depreciation per annum and the possibility
that the asset will be depreciated over a period longer than it would otherwise be (under SLM
basis), what other safeguards do you suggest, in order to ensure compliance with relevant
standards in Ind AS and its framework?

(MTP Nov 21)

Answer 10

[Link]
As illustrated in per para 32 of Ind AS 8, Change in method of depreciation is a change in
accounting estimates. Considerations in determining whether the change in depreciation
methodology is appropriate:

Paragraphs 60 and 61 of Ind AS 16, Property, Plant and Equipment, state that the depreciation
method used shall reflect the pattern in which the asset’s future economic benefits are
expected to be consumed by the entity. The depreciation method applied to an asset shall be
reviewed at least at each financial year-end and, if there has been a significant change in the
expected pattern of consumption of the future economic benefits embodied in the asset, the
method shall be changed to reflect the changed pattern.

Accounting procedure:

Such a change is accounted for as a change in an accounting estimate in accordance with Ind AS
8. Depreciation is a function of several factors, with extent of usage and efflux of time being its
primary determinants. The hours-in-use method relates the amount of periodic depreciation
charge only to one of the above two factors, namely, the extent of usage as reflected by the
number of hours. This method may therefore be said to be appropriate as per para 62 of Ind AS
[Link] of depreciation method involves an accounting estimate; depreciation
method is not a matter of an accounting policy. Accordingly, as per Ind AS 8 and Ind AS 16, a
change in depreciation method shall be accounted for as a change in accounting estimate, i.e;
prospectively. However, given the possibility that the asset will be depreciated over a period
longer than it would be under SLM basis, the company will need to assess if there are any
impairment triggers and carry out impairment testing as required under Ind AS 36.

Question 11

WLL Ltd. was incorporated on 1st April, 20X1 and follows Ind AS in preparing its financial
statements. In preparing its financial statements for financial year ending 31st March, 20X4,
WLL Ltd. used these useful lives for its property, plant, and equipment:

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Buildings 15 years

Plant and machinery 10 years

Furniture and fixtures 7 years

On 1st April, 20X4, the entity decides to review the useful lives of the property, plant, and
equipment. For this purpose, it hired external valuation experts. These independent experts
certified the remaining useful lives of the property, plant, and equipment of WLL Ltd. on 1st
April, 20X4 as

Buildings 10 years

Plant and machinery 7 years

Furniture and fixtures 5 years

WLL Ltd. uses the straight-line method of depreciation. The original cost of the various
components of property, plant, and equipment were

Buildings Rs1,50,00,000

Plant and machinery Rs 1,00,00,000

Furniture and fixtures Rs 35,00,000

Compute the impact on the statement of profit and loss for the year ending 31st March,
20X5, if WLL Ltd. decides to change the useful lives of the property, plant, and equipment in

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compliance with the recommendations of external valuation experts. Assume that there were
no salvage values for the three components of the property, plant, and equipment either
initially or at the time the useful lives were revised.

(MTP Oct 21)

Answer 11

1. The annual depreciation charges prior to the change in estimate were:

Buildings: = Rs 10,00,000

Plant and machinery: = Rs 10,00,000

Furniture and fixtures: = Rs 5,00,000

Total = Rs 25,00,000 (A)

2. The revised annual depreciation for the year ending 31st December, 20X4, would be

Buildings: [Rs 1,50,00,000 – (Rs 10,00,000 × 3)]/10 = Rs 12,00,000

Plant and machinery : [Rs 1,00,00,000 – (Rs 10,00,000 × 3)]/7 = Rs 10,00,000

Furniture and fixtures : [Rs 35,00,000 – (Rs 5,00,000 × 3)]/5 = Rs 4,00,000

Total = Rs 26,00,000 (B)

3. The impact on Statement of profit and loss for the year ending 31st March, 20X5

= (B) – (A)

= Rs 26,00,000 – Rs 25,00,000

= Rs 1,00,000

[Link]
Change in the useful lives of the various items of property, plant and equipment is a change in
accounting estimate. Change in accounting estimate is to be adjusted prospectively in the
period in which the estimate is amended and, if relevant, to future periods if they are also
affected.

Question 12

During 20X2, Delta Ltd., changed its accounting policy for depreciating property, plant and
equipment, so as to apply a component approach completely, whilst at the same time
adopting the revaluation model.

In years before 20X2, Delta Ltd.’s asset records were not sufficiently detailed to apply a
component approach fully. At the end of 20X1, management commissioned an engineering
survey, which provided information on the components held and their fair values, useful
lives, estimated residual values and depreciable amounts at the beginning of 20X2. However,
the survey did not provide a sufficient basis for reliably estimating the cost of those
components that had not previously been accounted for separately, and the existing records
before the survey did not permit this information to be reconstructed.

Delta Ltd.’s management considered how to account for each of the two aspects of the
accounting change. They determined that it was not practicable to account for the change to
a fuller component approach retrospectively, or to account for that change prospectively
from any earlier date than the start of 20X2. Also, the change from a cost model to a
revaluation model is required to be accounted for prospectively. Therefore, management
concluded that it should apply Delta Ltd.’s new policy prospectively from the start of 20X2.

Additional information

You are required to prepare the relevant note for disclosure in accordance with Ind AS 8.

[Link]
(i) Delta Ltd.’s tax rate is 30%

(ii) Property, plant and equipment at the end of 20X1:

Cost Rs25,000

Depreciation Rs14,000

Net book value Rs11,000

(iii) Prospective depreciation expense for 20X2 (old basis) Rs1,500

(iv) Some results of the engineering survey:

Valuation Rs17,000

Estimated residual value Rs3,000

Average remaining asset life Rs7 years

Depreciation expense on existing property, plant and equipment for 20X2 Rs2,000
(new basis)

(Study material)

Answer 12

Extract from the notes

From the start of 20X2, Delta Ltd., changed its accounting policy for depreciating property,
plant and equipment, so as to apply much more fully a components approach, whilst at the
same time adopting the revaluation model. Management takes the view that this policy
provides reliable and more relevant information because it deals more accurately with the

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components of property, plant and equipment and is based on upto- date values. The policy has
been applied prospectively from the start of 20X2 because it was not practicable to estimate
the effects of applying the policy either retrospectively, or prospectively from any earlier date.
Accordingly, the adoption of the new policy has no effect on prior years. The effect on the
current year is to increase the carrying amount of property, plant and equipment at the start of
the year by Rs6,000; increase the opening deferred tax provision by Rs1,800; create a
revaluation surplus at the start of the year of Rs4,200; increase depreciation expense by Rs500;
and reduce tax expense by Rs150.

Question 13

While preparing the financial statements for the year ended 31st March, 20X3, Alpha Limited
has observed two issues in the previous year Ind AS financial statements (i.e. 31st March,
20X2) which are as follows:

Issue 1:

The company had presented certain material liabilities as non-current in its financial
statements for periods as on 31st March, 20X2. While preparing annual financial statements
for the year ended 31st March, 20X3, management discovers that these liabilities should have
been classified as current. The management intends to restate the comparative amounts for
the prior period presented (i.e., as at 31st March, 20X2).

Issue 2:

The company had charged off certain expenses as finance costs in the year ended 31st March,
20X2. While preparing annual financial statements for the year ended 31st March, 20X3, it
was discovered that these expenses should have been classified as other expenses instead of
finance costs. The error occurred because the management inadvertently misinterpreted
certain facts. The entity intends to restate the comparative amounts for the prior period
presented in which the error occurred (i.e., year ended 31st March, 20X2).

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What is your analysis and recommendation in respect of the issues noted with the previously
presented set of financial statements for the year ended 31st March, 20X2?

(RTP May ‘20)

Answer 13

As per paragraph 41 of Ind AS 8 ‘Accounting Policies, Changes in Accounting Estimates and

Errors’, errors can arise in respect of the recognition, measurement, presentation or disclosure
of elements of financial statements. Financial statements do not comply with Ind AS if they
contain either material errors or immaterial errors made intentionally to achieve a particular
presentation of an entity’s financial position, financial performance or cash flows. Potential
current period errors discovered in that period are corrected before the financial statements
are approved for issue. However, material errors are sometimes not discovered until a
subsequent period, and these prior period errors are corrected in the comparative information
presented in the financial statements for that subsequent period.

Accordingly, the stated issues in question are to dealt as under:

Issue 1

In accordance with para 41, the reclassification of liabilities from non-current to current would
be considered as correction of an error under Ind AS 8. Accordingly, in the financial statements
for the year ended March 31, 20X3, the comparative amounts as at 31 March 20X2 would be
restated to reflect the correct classification.

Ind AS 1 requires an entity to present a third balance sheet as at the beginning of the preceding
period in addition to the minimum comparative financial statements, if, inter alia, it makes a
retrospective restatement of items in its financial statements and the restatement has a
material effect on the information in the balance sheet at the beginning of the preceding
period. Accordingly, the entity should present a third balance sheet as at the beginning of the
preceding period, i.e., as at 1 April 20X1 in addition to the comparatives for the financial year
20X1-20X2.

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Issue 2

In accordance with para 41, the reclassification of expenses from finance costs to other
expenses would be considered as correction of an error under Ind AS 8. Accordingly, in the
financial statements for the year ended 31 March, 20X3, the comparative amounts for the year
ended 31 March 20X2 would be restated to reflect the correct classification. Ind AS 1 requires
an entity to present a third balance sheet as at the beginning of the preceding period in
addition to the minimum comparative financial statements if, inter alia, it makes a
retrospective restatement of items in its financial statements and the restatement has a
material effect on the information in the balance sheet at the beginning of the preceding
period.

In the given case, the retrospective restatement of relevant items in statement of profit and
loss has no effect on the information in the balance sheet at the beginning of the preceding
period (1 April 20X1). Therefore, the entity is not required to present a third balance sheet.

Topic : 4 Correction of Prior Period Errors

Question 14

Orange Ltd. is going to prepare its annual financial statements for the year ending 31st
March, 2022, in the process it discovered that a provision for constructive obligation for
payment of bonus to selected employees in the corporate office (material in amount) which
was required to be recognized in the annual financial statements for the year ended 31st
March, 2020 was not recognized due to oversight of facts. The bonus was paid during the
financial year ended 31st March, 2021 and was recognized as an expense in the annual
financial statements for the said year.

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As a finance manager of the company, you are required to analyse whether the situation
relating to constructive obligation for payment of bonus is an error requiring retrospective
restatement of comparatives considering that the amount is material.

(PYP Nov 22)

Answer 14

As per paragraph 41 of Ind AS 8, errors can arise in respect of the recognition, measurement,
presentation or disclosure of elements of financial statements. Financial statements do not
comply with Ind AS if they contain either material errors or immateri al errors made
intentionally to achieve a particular presentation of an entity’s financial position, financial
performance or cash flows. Potential current period errors discovered in that period are
corrected before the financial statements are approved for issue. However, material errors are
sometimes not discovered until a subsequent period, and these prior period errors are
corrected in the comparative information presented in the financial statements for that
subsequent period.

As per paragraph 40A of Ind AS 1, an entity shall present a third balance sheet as at the
beginning of the preceding period in addition to the minimum comparative financial statements
if, inter alia, it makes a retrospective restatement of items in its financial statements and the
retrospective restatement has a material effect on the information\ in the balance sheet at the
beginning of the preceding period.

In the given case, expenses for the year ended 31st March, 2020 and liabilities as at 31st March,
2020 were understated because of non-recognition of bonus expense and related provision.
Expenses for the year ended 31st March, 2021, on the other hand, were overstated to the same
extent because of recognition of the aforesaid bonus as expense for the year. To correct the
above errors in the annual financial statements for the year ended 31st March, 2022, the entity
should:

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(a) restate the comparative amounts (i.e., those for the year ended 31st March, 2021) in the
statement of profit and loss; and

(b) present a third balance sheet as at the beginning of the preceding period (i.e., as at 1st April,
2020) wherein it should recognise the provision for bonus and restate the retained earnings.

Question 15

During 20X4-20X5, Cheery Limited discovered that some products that had been sold during
20X3-20X4 were incorrectly included in inventory at 31st March, 20X4 at Rs 6,500.

Cheery Limited’s accounting records for 20X4-20X5 show sales of Rs 1,04,000, cost of goods
sold of Rs 86,500 (including Rs 6,500 for the error in opening inventory), and income taxes of
Rs 5,250.

In 20X3-20X4, Cheery Limited reported:

Rs

Sales 73,500

Cost of goods sold (53,500)

Profit before income taxes 20,000

Income taxes (6,000)

Profit 14,000

Basic and diluted EPS 2.8

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The 20X3-20X4 opening retained earnings was Rs 20,000 and closing retained earnings was Rs
34,000. Cheery Limited’s income tax rate was 30% for 20X4-20X5 and 20X3-20X4. It had no
other income or expenses.

Cheery Limited had Rs 50,000 (5,000 shares of Rs 10 each) share capital throughout, and no
other components of equity except for retained earnings.

State how the above will be treated /accounted in Cheery Limited’s Statement of Profit and
Loss, Statement of Changes in Equity and in Notes wherever required for current period and
earlier period(s) as per relevant Ind AS.

(MTP Oct’22, RTP Nov’19)

Answer 15

(Restated)

20X4-20X5 20X3-20X4

Rs Rs

Sales 1,04,000 73,500

Cost of goods sold (80,000) (60,000)

Profit before income taxes 24,000 13,500

Income tax @ 30% (7,200) (4,050)

Profit 16,800 9,450

Basic and diluted EPS 3.36 1.89

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 Cheery Limited Statement of Changes in Equity

Share capital Retained Total

earnings

Balance at 31st March, 20X3 50,000 20,000 70,000

Profit for the year ended 31st March, 20X4 9,450 9,450
as restated

Balance at 31st March, 20X4 50,000 29,450 79,450

Profit for the year ended 31st March, 20X5 16,800 16,800

Balance at 31st March, 20X5 50,000 46,250 96,250

Extract from the Notes

Some products that had been sold in 20X3-20X4 were incorrectly included in inventory at 31st
March, 20X4 at Rs 6,500. The financial statements of 20X3-20X4 have been restated to correct
this error. The effect of the restatement on those financial statements is summarized below:

Effect on 20X3- 20X4

(Increase) in cost of goods sold (6,500)

Decrease in income tax expenses (6,000 – 4,050) 1,950

(Decrease) in profit (14,000 – 9,450) (4,550)

(Decrease) in basic and diluted EPS (2.8 – 1.89) (0.91)

(Decrease) in inventory (6,500)

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Decrease in income tax payable 1,950

(Decrease) in equity (4,550)

There is no effect on the balance sheet at the beginning of the preceding period i.e. 1st April,
20X3.

Question 16

In its financial statements for the year ended 31st March, 20X2, Y Ltd. reported Rs 73,500
revenue (sales), Rs 53,500 cost of sales, Rs 6,000 income tax expense, Rs 20,000 retained
earnings at 1st April, 20X1 and Rs 34,000 retained earnings at 31st March, 20X2.

In 20X2-20X3, after the 20X1-20X2 financial statements were approved for issue, Y Ltd.
discovered that some products sold in 20X1-20X2 were incorrectly included in inventories at
31st March, 20X2 at their cost of Rs 6,500.

In 20X2-20X3, Y Ltd. changed its accounting policy for the measurement of investments in
associates after initial recognition from cost model to the fair value model as per Ind AS 109.
It acquired its only investment in an associate for Rs 3,000 many years ago. The associate’s
equity is not traded on a securities exchange (that is, a published price quotation is not
available). The fair value of the investment was determined reliably using an appropriate
equity valuation model on 31 st March, 20X3 at Rs 25,000 (20X1-20X2: Rs 20,000 and 20X0-
20X1: Rs 18,000).

At 31st March, 20X3, as a result of usage of improved lubricants, Y Ltd. reassessed the useful
life of Machine A from four years to seven years. Machine A is depreciated on the straight-
line method to a Nil residual value. It was acquired for Rs 6,000 on 1st April, 20X0.

Inventories of the type manufactured by Machine A were immaterial at the end of each
reporting period.

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Y Ltd.’s accounting records for the year ended 31st March, 20X3, before accounting for
change in accounting policy and change in accounting estimate, record Rs 1,04,000 revenue
(sales), Rs 86,500 cost of sales (including Rs 6,500 for the error in opening inventory and Rs
1,500 depreciation for Machine A) and Rs 5,250 income tax expense.

Y Ltd. presents financial statements with one year of comparative information. For simplicity,
the tax effect of all items of income and expenses should be assumed to be 30% of the gross
amount.

Draft an extract showing how the correction of the prior period error, change in accounting
policy and change in accounting estimate could be presented in the Statement of Profit and
Loss and Statement of Changes in Equity (Retained Earnings) and disclosed in the Notes of Y
Ltd. for the year ended 31st March, 20X3.

(RTP Nov ’23)

Answer 16

Extract of Y Ltd.’s Statement of Profit and Loss for the year ended 31st March, 20X3

20X2- 20X3 Reference 20X1- 20X2 Reference

to W.N. Restated to W.N.

Rs Rs

Revenue 1,04,000 73,500

Cost of sales (20X1- 20X2 (79,100) 1 (60,000) 4

previously Rs 53,500)

Gross profit 24,900 13,500

Other income — change in the 5,000 2 2,000 5

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measurement policy i.e. the value
of investment in associate at
FVTPL

Profit before tax 29,900 15,500

Income tax expense (8,970) 3 (4,650) 6

Profit for the year 20,930 10,850

Extract of Y Ltd.’s Statement of Changes in Equity (Retained Earnings) for the year ended 31st
March, 20X3

20X2- 20X3 Reference 20X1-20X2 Reference

to W.N. Restated to W.N.

Rs Rs

Retained earnings, as 34,000 20,000

restated, at the beginning
of the year - as previously
stated,

- effect of the correction (4,550) 7 -

of a prior period error

- effect of a change in 11,900 13 10,500 12

accounting policy

41,350 30,500

Profit for the year 20,930 10,850

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Retained earnings at the 62,280 41,350
end of the year

Y Ltd.

Extract of Notes to the Financial Statements for the year ended 31st March, 20X3 Note X :
Change in Accounting Estimates

Due to usage of improved lubricants the estimated useful life of the machine used for
production was increased from four years to seven years. The effect of the change in the useful
life of the machine is to reduce the depreciation allocation by Rs 900 in 20X2- 20X3 and 20X3-
20X4. The after-tax effect is an increase in profit for the year of Rs 630 for each of the two
years.

Depreciation expense in 20X4-20X5 to 20X6-20X7 is increased by Rs 600 because of revision in

the useful life of machinery, as under the initial estimate, the asset would have been fully
depreciated at the end of 20X3-20X4. The after-tax effect for these three years is a decrease in
profit for the year by Rs 420 per year.

Note Y : Correction of Prior Period Error

In 20X2-20X3 the entity identified that Rs 6,500 products that had been sold in 20X1- 20X2
were included erroneously in inventory at 31st March, 20X2. The financial statements of 20X1-
20X2 have been restated to correct this error. The effect of the restatement is Rs 6,500 increase
in the cost of sales and Rs 4,550 decrease in profit for the year ended 31st March, 20X2 after
decreasing income tax expense by Rs 1,950. This resulted in Rs 4,550 (decrease) restatement of
retained earnings at 31st March,20X2

Note Z : Change in Accounting Policy.

In 20X2-20X3 the entity changed its accounting policy for the measurement of investments in
associates from cost model to fair value model as per Ind AS 109. Management judged that this

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policy provides reliable and more relevant information because dividend income and changes in
fair value are inextricably linked as integral components of the financial performance of an
investment in an associate and measurement at fair value is necessary if that financial
performance is to be reported in a more meaningful way. This change in accounting policy has
been accounted for retrospectively. The comparative information has been restated. A new line
item, ‘Other income — change in the fair value of investment in associate’, has been added in
the Statement of Profit and Loss and Retained Earnings. The effect of the restatement has been
to add income of Rs 2,000 as a result of the increase in value of the associate during the year
ended 31st March, 20X2 which resulted in Rs 1,400 increase in profit for the year (after
including a resulting increase in income tax expense of Rs 600). This, together with Rs 10,500
(increase) restatement of retained earnings at 31st March, 20X1, resulted in a Rs 11,900
increase in retained earnings at 31st March, 20X2. Furthermore, profit for the year ended 31st
March, 20X3 was Rs 3,500 higher (after deducting Rs 1,500 tax effect) as a result of recording a
further Rs 5,000 (W.N.2) increase in the fair value of the investment in an associate.

Working Notes:

1. Rs 86,500 (given) minus Rs 6,500 correction of error (now recognised as an expense in 20X1-
20X2) minus Rs 900 (W.N.9) effect of the change in accounting estimate.

2. Rs 25,000 fair value (20X2-20X3) minus Rs 20,000 fair value (20X1-20X2) = Rs 5,000 (the
effect of applying the new accounting policy (fair value model) in 20X2-20X3).

3. Rs 5,250 + Rs 1,950 (W.N.8) + 30% (Rs 900 (W.N.9) reduction in depreciation resulting from
the change in accounting estimate) + 30% (Rs 5,000 increase in the fair value of investment
property — change in accounting policy) = Rs 8,970.

4. Rs 53,500 as previously stated + Rs 6,500 (products sold and incorrectly included in closing
inventory in 20X1-20X2) = Rs 60,000 (that is, the prior period error is corrected retrospectively
by restating the comparative amounts).

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5. Rs 20,000 fair value (20X1-20X2) minus Rs 18,000 fair value (20X0-20X1) = Rs 2,000 (the
effect in 20X1-20X2 of the change in accounting policy for investments in associates from the
cost model to the fair value model).

6. Rs 6,000 as previously stated minus Rs 1,950 (W.N.8) correction of prior period error + 30%
(Rs 2,000 change in accounting policy) = Rs 4,650.

7. Rs 6,500 (products sold and incorrectly included in inventory in 20X1 -20X2) – Rs 1,950
(W.N.8) (tax overstated in 20X1-20X2) = Rs 4,550.

8. Rs 6,500 (products sold and incorrectly included in inventory in 20X1 -20X2) x 30% (income
tax rate) = Rs1,950.

9. Rs 1,500 depreciation (using old estimate, that is, Rs 6,000 cost ÷ 4 years) minus Rs 600
(W.N.10) (using new estimate of useful life) = Rs 900.

10. Rs 3,000 (W.N.11) carrying amount ÷ 5 years remaining useful life = Rs 600 depreciation per
year.

11. [Rs 6,000 cost minus (Rs 1,500 depreciation 2 years)] = Rs 3,000 carrying amount at 31st
March, 20X2.

12. (Rs 18,000 fair value of investment in associates at 31st March, 20X1 minus Rs 3,000
carrying amount based on the cost model at the same date) 0.7 (to reflect 30% income tax
rate) = Rs 10,500 (effect of a change in accounting policy (from cost model to fair value model)).

13. Rs 10,500 (W.N.12) + [Rs 2,000 (W.N.5) 0.7 (to reflect 30% income tax rate)] = Rs 11,900.

Question 17

While preparing the annual financial statements for the year ended 31st March 20X3, an
entity discovers that a provision for constructive obligation for payment of bonus to selected

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employees in corporate office (material in amount) which was required to be recognised in
the annual financial statements for the year ended 31st March, 20X1 was not recognised due
to oversight of facts. The bonus was paid during the financial year ended 31st March, 20X2
and was recognised as an expense in the annual financial statements for the said year. Would
this situation require retrospective restatement of comparatives considering that the amount
was material?

(Practice Question)

Answer 17

As per paragraph 41 of Ind AS 8, errors can arise in respect of the recognition, measurement,
presentation or disclosure of elements of financial statements. Financial statements do not
comply with Ind AS if they contain either material errors or immaterial errors made
intentionally to achieve a particular presentation of an entity’s financial position, financial
performance or cash flows. Potential current period errors discovered in that period are
corrected before the financial statements are approved for issue. However, material errors are
sometimes not discovered until a subsequent period, and these prior period errors are
corrected in the comparative information presented in the financial statements for that
subsequent period.

As per paragraph 40A of Ind AS 1, an entity shall present a third balance sheet as at the
beginning of the preceding period in addition to the minimum comparative financial statements
if, inter alia, it makes a retrospective restatement of items in its financial statements and the
retrospective restatement has a material effect on the information in the balance sheet at the
beginning of the preceding period.

In the given case, expenses for the year ended 31st March, 20X1 and liabilities as at 31st March,
20X1 were understated because of non-recognition of bonus expense and related provision.
Expenses for the year ended 31st March, 20X2, on the other hand, were overstated to the same
extent because of recognition of the aforesaid bonus as expense for the year. To correct the

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above errors in the annual financial statements for the year ended 31st March, 20X3, the entity
should:

(a) restate the comparative amounts (i.e., those for the year ended 31st March, 20X2) in the
statement of profit and loss; and

(b) present a third balance sheet as at the beginning of the preceding period (i.e., as at 1st April,
20X1) wherein it should recognise the provision for bonus and restate the retained earnings.

Question 18

ABC Ltd has an investment property with an original cost of 1,00,000 which it inadvertently
omitted to depreciate in previous financial statements. The property was acquired on 1st
April, 20X1. The property has a useful life of 10 years and is depreciated using straight line
method. Estimated residual value at the end of 10 years is Nil.

How should the error be corrected in the financial statements for the year ended 31st March,
20X4, assuming the impact of the same is considered material? For simplicity, ignore tax
effects.

(Practice Question)

Answer 18

The error shall be corrected by retrospectively restating the figures for financial year 20X2-20X3
and also by presenting a third balance sheet as at 1st April, 20X2 which is the beginning of the
earliest period presented in the financial statements.

Topic : 5 Presentation and Disclosure in Financial Statements

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Question 19

An entity charged off certain expenses as finance costs in its financial statements for the year
ended 31st March 20X1. While preparing annual financial statements for the year ended 31st
March 20X2, management discovered that these expenses should have been classified as
other expenses instead of finance costs. The error occurred because the management
inadvertently misinterpreted certain facts. The entity intends to restate the comparative
amounts for the prior period presented in which the error occurred (i.e., year ended 31st
March 20X1). Would this reclassification of expenses from finance costs to other expenses in
the comparative amounts be considered to be correction of an error under Ind AS 8? Would
the entity need to present a third balance sheet?

(MTP April ’21)

Answer 19

Paragraph 41 of Ind AS 8 states as follows: “Errors can arise in respect of the recognition,
measurement, presentation or disclosure of elements of financial statements. Financial
statements do not comply with Ind AS if they contain either material errors or immaterial errors
made intentionally to achieve a particular presentation of an entity’s financial position, financial
performance or cash flows. Potential current period errors discovered in that period are
corrected before the financial statements are approved for issue. However, material errors are
sometimes not discovered until a subsequent period, and these prior period errors are
corrected in the comparative information presented in the financial statements for that
subsequent period.”

In accordance with the above, the reclassification of expenses from finance costs to other
expenses would be considered as correction of an error under Ind AS 8. Accordingly, in the
financial statements for the year ended 31st March, 20X2, the comparative amounts for the
year ended 31st March 20X1 would be restated to reflect the correct classification.

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Ind AS 1 requires an entity to present a third balance sheet as at the beginning of the preceding
period in addition to the minimum comparative financial statements if, inter alia, it makes a
retrospective restatement of items in its financial statements and the restatement has a
material effect on the information in the balance sheet at the beginning of the preceding
period.

In the given case, the retrospective restatement of relevant items in statement of profit and
loss has no effect on the information in the balance sheet at the beginning of the preceding
period (1st April 20X0). Therefore, the entity is not required to present a third balance sheet.

Question 20

In years During the year ended 31st March,20X2, Blue Ocean group changed its accounting
policy for depreciating property, plant and equipment, so as to apply components approach
fully, whilst at the same time adopting the revaluation model.

before 20X1-20X2, Blue Ocean group’s asset records were not sufficiently detailed to apply a
components approach fully. At the end of 31st March, 20X1, management commissioned an
engineering survey, which provided information on the components held and their fair
values, useful lives, estimated residual values and depreciable amounts at the beginning of
20X1-20X2.

The results are shown as under:

Property, plant and equipment at the end of 31st March,20X1

Rs.

Cost 25,000

Depreciation (14,000)

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Net book value 11,000

Depreciation expense for 20X1-20X2 (on old basis) 1,500

Some results of the engineering survey: Valuation 17,000

Estimated residual value 3,000

Average remaining asset life (years) 7

However, the survey did not provide a sufficient basis for reliably estimating the cost of those
components that had not previously been accounted for separately, and the existing records
before the survey did not permit this information to be reconstructed.

The board of directors considered how to account for each of the two aspects of the
accounting change. They determined that it was not practicable to account for the change to
a fuller components approach retrospectively, or to account for that change prospectively
from any earlier date than the start of 20X1-20X2.

Also, the change from a cost model to a revaluation model is required to be accounted for
prospectively. Therefore, management concluded that it should apply Blue Ocean group’s
new policy prospectively from the start of 20X1-20X2. Blue Ocean group’s tax rate is 30 per
cent. Compute the impact of change in accounting policy related to change in carrying
amount of Property, Plant & Equipment under revaluation method and impact on taxes
based on the basis of information provided. Show the impact of each item affected on
financial statements by the analysis of stated issue.

(MTP May ‘20)

Answer 20

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As per Ind AS 8 ‘Accounting Policies, Accounting Estimates and Errors, prospective application
of a change in accounting policy has to be done since retrospective application is not
practicable.

Property, plant and equipment at the end of 31st March,20X2:

Rs.

As per the engineering survey:

Valuation of PPE 17,000

Estimated residual value 3,000

Average remaining asset life (years) 7

Depreciation expense on existing property, plant and equipment for 20X1- 2,000
20X2 (new basis)(17,000 – 3,000)/7

From the start of 20X1-20X2, Blue Ocean group changed its accounting policy for depreciating
property, plant and equipment, so as to apply components approach, whilst at the same time
adopting the revaluation model. Management takes the view that this policy provides reliable
and more relevant information because it deals more accurately with the components of
property, plant and equipment and is based on up-to-date values. The policy has been applied
prospectively from the start of the year 20X1-20X2 because it was not practicable to estimate
the effects of applying the policy either retrospectively or prospectively from any earlier date.
Accordingly, the adoption of the new policy has no effect on prior years.

The impact on the financial statements for 20X1-20X2 would be as under:

Particulars Rs.

Increase the carrying amount of property, plant and equipment at the start 6,000

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of the year (17,000-11,000)

Increase the opening deferred tax provision (6,000 30%) 1,800

Create a revaluation surplus at the start of the year (6,000 –1,800) 4,200

Increase depreciation expense by (Rs.2,000 – Rs.1,500) 500

Reduce tax expense on depreciation (30%) 150

Question 21

While preparing the financial statements for the year ended 31st March, 20X3, Alpha Limited
has observed two issues in the previous year Ind AS financial statements (i.e. 31st March,
20X2) which are as follows:

Issue 1:

The company had presented certain material liabilities as non-current in its financial
statements for periods as on 31st March, 20X2. While preparing annual financial statements
for the year ended 31st March, 20X3, management discovers that these liabilities should have
been classified as current. The management intends to restate the comparative amounts for
the prior period presented (i.e., as at 31st March, 20X2).

Issue 2:

The company had charged off certain expenses as finance costs in the year ended 31st March,
20X2. While preparing annual financial statements for the year ended 31st March, 20X3, it
was discovered that these expenses should have been classified as other expenses instead of
finance costs. The error occurred because the management inadvertently misinterpreted
certain facts. The entity intends to restate the comparative amounts for the prior period
presented in which the error occurred (i.e., year ended 31st March, 20X2).

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What is your analysis and recommendation in respect of the issues noted with the previously
presented set of financial statements for the year ended 31st March, 20X2?

(RTP May ‘20)

Answer 21

As per paragraph 41 of Ind AS 8 ‘Accounting Policies, Changes in Accounting Estimates and

Errors’, errors can arise in respect of the recognition, measurement, presentation or disclosure
of elements of financial statements. Financial statements do not comply with Ind AS if they
contain either material errors or immaterial errors made intentionally to achieve a particular
presentation of an entity’s financial position, financial performance or cash flows. Potential
current period errors discovered in that period are corrected before the financial statements
are approved for issue. However, material errors are sometimes not discovered until a
subsequent period, and these prior period errors are corrected in the comparative information
presented in the financial statements for that subsequent period.

Accordingly, the stated issues in question are to dealt as under:

Issue 1

In accordance with para 41, the reclassification of liabilities from non-current to current would
be considered as correction of an error under Ind AS 8. Accordingly, in the financial statements
for the year ended March 31, 20X3, the comparative amounts as at 31 March 20X2 would be
restated to reflect the correct classification.

Ind AS 1 requires an entity to present a third balance sheet as at the beginning of the preceding
period in addition to the minimum comparative financial statements, if, inter alia, it makes a
retrospective restatement of items in its financial statements and the restatement has a
material effect on the information in the balance sheet at the beginning of the preceding
period. Accordingly, the entity should present a third balance sheet as at the beginning of the
preceding period, i.e., as at 1 April 20X1 in addition to the comparatives for the financial year
20X1-20X2.

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Issue 2

In accordance with para 41, the reclassification of expenses from finance costs to other
expenses would be considered as correction of an error under Ind AS 8. Accordingly, in the
financial statements for the year ended 31 March, 20X3, the comparative amounts for the year
ended 31 March 20X2 would be restated to reflect the correct classification. Ind AS 1 requires
an entity to present a third balance sheet as at the beginning of the preceding period in
addition to the minimum comparative financial statements if, inter alia, it makes a
retrospective restatement of items in its financial statements and the restatement has a
material effect on the information in the balance sheet at the beginning of the preceding
period.

In the given case, the retrospective restatement of relevant items in statement of profit and
loss has no effect on the information in the balance sheet at the beginning of the preceding
period (1 April 20X1). Therefore, the entity is not required to present a third balance sheet.

Question 22

Under what circumstances an entity is required to present a third balance sheet at the
beginning of the preceding period?

(Study material)

Answer 22

As per paragraph 40A of Ind AS 1, Presentation of Financial Statements, an entity shall present
a third balance sheet as at the beginning of the preceding period in addition to the minimum
comparative financial statements required by paragraph 38A of the standard if:

• it applies an accounting policy retrospectively, makes a retrospective restatement of items in

its financial statements or reclassifies items in its financial statements; and

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• the retrospective application, retrospective restatement or the reclassification has a material
effect on the information in the balance sheet at the beginning of the preceding period.

Question 23

ICAI Illustration

An entity has presented certain material liabilities as non-current in its financial statements
for periods up to 31st March, 20X1. While preparing annual financial statements for the year
ended 31st March, 20X2, management discovers that these liabilities should have been
classified as current. The management intends to restate the comparative amounts for the
prior period presented (i.e., as at 31st March, 20X1). Would this reclassification of liabilities
from non-current to current in the comparative amounts be considered to be correction of an
error under Ind AS 8? Would the entity need to present a third balance sheet?

(Study material)

Answer

As per paragraph 41 of Ind AS 8, errors can arise in respect of the recognition, measurement,
presentation, or disclosure of elements of financial statements. Financial statements do not
comply with Ind AS if they contain either material errors or immaterial errors made
intentionally to achieve a particular presentation of an entity’s financial position, financial
performance or cash flows. Potential current period errors discovered in that period are
corrected before the financial statements are approved for issue. However, material errors are
sometimes not discovered until a subsequent period, and these prior period errors are
corrected in the comparative information presented in the financial statements for that
subsequent period.

In accordance with the above, the reclassification of liabilities from non-current to current
would be considered as correction of an error under Ind AS 8. Accordingly, in the financial

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statements for the year ended 31set March, 20X2, the comparative amounts as at 31st March,
20X1 would be restated to reflect the correct classification. Ind AS 1 requires an entity to
present a third balance sheet as at the beginning of the preceding period in addition to the
minimum comparative financial statements, if, inter alia, it makes a retrospective restatement
of items in its financial statements and the restatement has a material effect on the
information in the balance sheet at the beginning of the preceding period.

Accordingly, the entity should present a third balance sheet as at the beginning of the
preceding period, i.e., as at 1st April, 20X0 in addition to the comparatives for the financial year
20X0-20X1.

Topic : 6 Retrospective vs Prospective Application

Question 24

ABC Ltd. changed its method adopted for inventory valuation in the year 2018- 2019. Prior to
the change, inventory was valued using the first in first out method (FIFO). However, it was
felt that in order to match current practice and to make the financial statements more
relevant and reliable, a weighted average valuation model would be more appropriate.

The effect of the change in the method of valuation of inventory was as follows:

• 31st March, 20X1 - Increase of Rs. 10 million

• 31st March, 20X2 - Increase of Rs. 15 million

• 31st March20X3- Increase of Rs. 20 million

Profit or loss under the FIFO valuation model are as follows:

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 20X2-20X3 20X1-20X2

Revenue 324 296

Cost of goods sold (173) (164)

Gross profit 151 132

Expenses (83) (74)

Profit 68 58

Retained earnings at 31st March 20X1were Rs. 423 million Present the change in accounting
policy in the profit or loss and produce an extract of the statement of changes in equity in
accordance with Ind AS 8.

(RTP May’19, MTP Oct’18)

Answer 24

Profit or loss under weighted average valuation method is as follows:

20X2-20X3 20X1-20X2

(Restated)

Revenue 324 296

Cost of goods sold (168) (159)

Gross profit 156 137

Expenses (83) (74)

Profit 73 63

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 Statement of changes in Equity (extract)

Retained earnings Retained earnings

(Original)

At 1st April 20X1 423 423

Change in inventory valuation policy 10 -

At 1st April 20X1 (Restated 433 -

Profit for the year 20X1-20X2 63 58

At 31st March, 20X2 496 481

Profit for the 20X2-20X3 73 68

At 31st March 20X3 569 549

Topic : 7 Interim Financial Reporting and Materiality

Question 25

While preparing interim financial statements for the half-year ended 30th September, 20X1,
an entity notes that there has been an under-accrual of certain expenses in the interim
financial statements for the first quarter ended 30th June, 20X1. The amount of under accrual
is assessed to be material in the context of interim financial statements. However, it is
expected that the amount would be immaterial in the context of the annual financial
statements. The management is of the view that there is no need to correct the error in the

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interim financial statements considering that the amount is expected to be immaterial from
the point of view of the annual financial statements. Whether the management’s view is
acceptable?

(RTP Nov’22)

Answer 25

Paragraph 41 of Ind AS 8, inter alia, states that financial statements do not comply with Ind AS if
they contain either material errors or immaterial errors made intentionally to achieve a
particular presentation of an entity’s financial position, financial performance or cash flows.

As regards the assessment of materiality of an item in preparing interim financial statements,

paragraph 25 of Ind AS 34, Interim Financial Statements, states as follows: “While judgement is
always required in assessing materiality, this Standard bases the recognition and disclosure
decision on data for the interim period by itself for reasons of understandability of the interim
figures. Thus, for example, unusual items, changes in accounting policies or estimates, and
errors are recognised and disclosed on the basis of materiality in relation to interim period data
to avoid misleading inferences that might result from non-disclosure. The overriding goal is to
ensure that an interim financial report includes all information that is relevant to understanding
an entity’s financial position and performance during the interim period.”

As per the above, while materiality judgements always involve a degree of subjectivity, the
overriding goal is to ensure that an interim financial report includes all the information that is
relevant to an understanding of the financial position and performance of the entity during the
interim period. It is therefore not appropriate to base quantitative assessments of materiality
on projected annual figures when evaluating errors in interim financial statements Accordingly,
the management is required to correct the error in the interim financial statements since it is
assessed to be material in relation to interim period data.

Question 26

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While preparing interim financial statements for the half-year ended 30th September, 20X1,
an entity notes that there has been an under-accrual of certain expenses in the interim
financial statements for the first quarter ended 30th June, 20X1. The amount of under accrual
is assessed to be material in the context of interim financial statements. However, it is
expected that the amount would be immaterial in the context of the annual financial
statements. The management is of the view that there is no need to correct the error in the
interim financial statements considering that the amount is expected to be immaterial from
the point of view of the annual financial statements. Whether the management’s view is
acceptable?

(Practice Question)

Answer 26

Paragraph 41 of Ind AS 8, inter alia, states that financial statements do not comply with Ind AS if
they contain either material errors or immaterial errors made intentionally to achieve a
particular presentation of an entity’s financial position, financial performance or cash flows.

As regards the assessment of materiality of an item in preparing interim financial statements,

paragraph 25 of Ind AS 34, Interim Financial Statements, states as follows: “While judgement is
always required in assessing materiality, this Standard bases the recognition and disclosure
decision on data for the interim period by itself for reasons of understandability of the interim
figures. Thus, for example, unusual items, changes in accounting policies or estimates, and
errors are recognised and disclosed on the basis of materiality in relation to interim period data
to avoid misleading inferences that might result from non-disclosure. The overriding goal is to
ensure that an interim financial report includes all information that is relevant to understanding
of an entity’s financial position and performance during the interim period.”

As per the above, while materiality judgements always involve a degree of subjectivity, the
overriding goal is to ensure that an interim financial report includes all the information that is
relevant to an understanding of the financial position and performance of the entity during the

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interim period. It is therefore not appropriate to base quantitative assessments of materiality
on projected annual figures when evaluating errors in interim financial statements.

Accordingly, the management is required to correct the error in the interim financial
statements since it is assessed to be material in relation to interim period data.

Topic : 8 Disclosure of Newly Issued but Not Yet Effective Ind AS

Question 27

ICAI Illustration

Whether an entity is required to disclose the impact of any new Ind AS which is issued but
not yet effective in its financial statements as per Ind AS 8?

(Study material)

Answer

Paragraph 30 of Ind AS 8 Accounting Policies, Changes in Accounting Estimates and Errors,

states as follows:

“When an entity has not applied a new Ind AS that has been issued but is not yet effective, the
entity shall disclose:

(a) this fact; and

(b) known or reasonably estimable information relevant to assessing the possible impact that
application of the new Ind AS will have on the entity’s financial statements in the period of
initial application.”

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Accordingly, it may be noted that an entity is required to disclose the impact of Ind AS which
has been issued but is not yet effective

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 Chapter 4 Unit 2

Ind AS 10 “Events after the Reporting Period”

Topic 1: Definition of Events After the Reporting Period

Question 1

Discuss the following situations as per Ind AS 10:

The financial statements of a Company for the year 2021-2022 are approved by the
management and were sent on 5th June, 2022 for review and approval to its supervisory
board i.e., Board of Directors. The supervisory board approves the financial statements on
26th June, 2022. The financial statements are then made available to shareholders on 4th
July, 2022. The financial statements are approved by shareholders in their annual general
meeting on 18th August, 2022 and then filed with Ministry of Corporate Affairs (MCA) on
19th August, 2022. Determine & discuss the date on which financial statements were
approved.

A Company is in litigation with Income Tax Department with respect to allowability of certain
exemptions for financial year 2018-2019. No provision for tax has been made for
disallowances of exemptions as the

(PYP May ‘23)

Answer 1

As per Ind AS 10, in the case of a company, the financial statements will be treated as approved
when board of directors approves the same. Hence in the given case, the financial statements

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are approved for issue on 26th June, 2022 (date of approval by the Board of Directors for issue
of financial statements to the shareholders).

Question 2

The AGM of ABC Ltd for the year ended 31st March, 20X2 was held on 10th July, 20X2 and
Board Meeting has been conducted on 15th May, 20X2. Meanwhile, the company had to
disclose certain financial information pertaining to the year ended 31st March, 20X2 to SEBI
as per SEBI regulations on 20th April, 20X2. Since, certain financial information pertaining to
the year ended 31st March, 20X2 is submitted to SEBI before approval of financial statements
by the Board, the management is suggesting that 20th April 20X2 shall be considered as ‘after
the reporting period’. Whether the management view is correct in accordance with the
guidance given in Ind AS 10?

(Study material)

Answer 2

As per Ind AS 10, even if partial information has already been published, the reporting period
will be considered as the period between the end of the reporting period and the date of
approval of financial statements. In the above case, the financial statements for the year 20X1-
20X2 were approved on 15th May, 20X2. Therefore, for the purposes of Ind AS 10, ‘after the
reporting period’ would be the period between 31st March, 20X2 and 15th May, 20X2.

Question 3

ICAI Illustration

What is the date of approval for issue of the financial statements prepared for the reporting
period from 1st April, 20X1 to 31st March, 20X2, in a situation where following dates are

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available? Completion of preparation of financial statements 28th May, 20X2 Board reviews
and approves it for issue 19th June, 20X2

Available to shareholders 1st July, 20X2

Annual General Meeting 15th September, 20X2

Filed with regulatory authority 16th October, 20X2

Will your answer differ if the entity is a partnership firm?

(Study material)

Answer

As per Ind AS 10 the date of approval for issue of financial statements is the date on which the
financial statements are approved by the Board of Directors in case of a company, and, by the
corresponding approving authority in case of any other entity. Accordingly, in the instant case,
the date of approval is the date on which the financial statements are approved by the Board of
Directors of the company, i.e., 19th June, 20X2.

If the entity is a partnership firm, the date of approval will be the date when the relevant
approving authority of such entity approves the financial statements for issue i.e. the date
when the partner(s) of the firm approve(s) the financial statements.

Question 4

ICAI Illustration

The Board of Directors of ABC Ltd. approved the financial statements for the reporting period
20X1-20X2 for issue on 15th June, 20X2. The management of ABC Ltd. discovered a major
fraud and decided to reopen the books of account. The financial statements were

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subsequently approved by the Board of Directors on 30th June, 20X2. What is the date of
approval for issue as per Ind AS 10 in the given case?

(Study material)

Answer

As per paragraph 3 of Ind AS 10, the – date of approval is the date on which the financial
statements are approved by the Board of Directors in case of a company, and by the
corresponding approving authority in case of any other entity for issue. In the given case, there
are two dates of approval by Board of Directors. The financial statements were reopened for
further adjustments subsequent to initial approval. The date of approval should be taken as the
date on which financial statements are finally approved by the Board of Directors. Therefore, in
the given case, the date of approval for issue as per Ind AS 10 should be considered as 30th
June, 20X2.

Topic 2: Adjusting Events

Question 5

A manufacturer gives warranties to the purchasers of its goods. Under the terms of the
warranty, the manufacturer undertakes to make good, by repair or replacement,
manufacturing defects that become apparent within three years from the date of sale to the
purchasers.

On 30 April 20X1, a manufacturing defect was detected in the goods manufactured by the
entity between 1 March 20X1 and 30 April 20X1. At 31 March 20X1 (the entity’s reporting
date), the entity held approximately one week’s sales in inventories.

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The entity’s financial statements for the year ended 31 March 20X1 have not yet been
finalised.

defective goods sold on or before 31 March 20X1

(RTP May ‘21)

Answer 5

defective goods sold on or before 31 March 20X1

If customer has the option to purchase warranty separately, the warranty is a distinct service
because the entity promises to provide the service to the customer in addition to the product
that has the functionality described in the contract. In that case, entity shall account for the
promised warranty as a performance obligation and allocate a portion of the transaction price
to that performance obligation.

If a customer does not have the option to purchase a warranty separately, an entity shall
account for the warranty in accordance with Ind AS 37, Provisions, Contingent Liabilities and
Contingent Assets, unless it provides the customer with a service in addition to the assurance
that the product complies with agreed-upon specifications. If that is the case, then, the
promised service is a performance obligation. Entity shall allocate the transaction price to the
product and the service.

If an entity promises both an assurance-type warranty and a service-type warranty but cannot
reasonably account for them separately, the entity shall account for both of the warranties
together as a single performance obligation.

A law that requires an entity to pay compensation if its products cause harm or damage does
not give rise to a performance obligation. The entity shall account for such obligations in
accordance with Ind AS 37.

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Question 6

Discuss the following situations as per Ind AS 10:

Company was under bonafide belief based on a legal opinion that it will succeed in litigation.
On 21st April, 2023, the Hon'ble Supreme Court rejected the Company's claim. The Order is
received on 30th April, 2023. The financial statements for the financial year 2022-2023 of the
Company are yet to be approved. The earlier year’s financial statements stands approved.
Advise in financial statements of which financial year the impact of the Order of the Hon'ble
Supreme Court should be recognized.

(PYP May ‘23)

Answer 6

In the instant case, the fire took place in January, 2023 (i.e. before the end of the reporting
period). Therefore, the condition existed at the end of the reporting date though the debtor is
declared insolvent after the reporting period. Accordingly, full provision for bad debt
amounting to Rs 3 lakhs should be made to cover the loss arising due to the bankruptcy of the
debtor in the financial statements for the year ended 31st March, 2023.

Question 7

ABC Ltd. received a demand notice on 15th June, 2017 for an additional amount of Rs.
28,00,000 from the Excise Department on account of higher excise duty levied by the Excise
Department compared to the rate at which the company was creating provision and
depositing the same. The financial statements for the year 2016 -17 are approved on 10th
August, 2017. In July, 2017, the company has appealed against the demand of Rs. 28,00,000
and the company has expected that the demand would be settled at Rs. 15,00,000 only. Show
how the above event will have a bearing on the financial statements for the year 2016-17.

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Whether these events are adjusting or non-adjusting events and explain the treatment
accordingly.

(RTP Nov’19)

Answer 7

Ind AS 10 defines ‘Events after the Reporting Period’ as follows:

Events after the reporting period are those events, favorable and unfavorable, that occur
between the end of the reporting period and the date when the financial statements are
approved by the Board of Directors in case of a company, and, by the corresponding approving
authority in case of any other entity for issue. Two types of events can be identified:

(a) those that provide evidence of conditions that existed at the end of the reporting period
(adjusting events after the reporting period); and

(b) those that are indicative of conditions that arose after the reporting period (non-adjusting
events after the reporting period)

In the instant case, the demand notice has been received on 15th June, 2017, which is between
the end of the reporting period and the date of approval of financial statements. Therefore, it is
an event after the reporting period. This demand for additional amount has been raised
because of higher rate of excise duty levied by the Excise Department in respect of goods
already manufactured during the reporting period. Accordingly, condition exists on 31st March,
2017, as the goods have been manufactured during the reporting period on which additional
excise duty has been levied and this event has been confirmed by the receipt of demand notice.
Therefore, it is an adjusting event.

In accordance with the principles of Ind AS 37, the company should make a provision in the
financial statements for the year 2016-17, at best estimate of the expenditure to be incurred,
i.e., Rs. 15,00,000

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Question 8

Discuss with reasons whether these events are in nature of adjusting or non-adjusting and
the treatment needed in light of accounting standard Ind AS 10.

There as an old due from a debtor amounting to Rs. 15 lakh against whom insolvency
proceedings was instituted prior to the financial year ending 31st March, 20X1. The debtor
was declared insolvent on 15th April, 20X1.

(MTP March ’21 & Nov ’21 & PYP Nov ’19)

Answer 8

As per Ind AS 10, the treatment of stated issues would be as under:

As per Ind AS 10, the receipt of information after the reporting period indicating that an asset
was impaired at the end of the reporting period, or that the amount of a previously recognized
impairment loss for that asset needs to be adjusted.

The bankruptcy of a customer that occurs after the reporting period usually confirms that the
customer was credit-impaired at the end of the reporting period.

Question 9

XYZ Ltd. sells goods to its customer with a promise to give a discount of 5% on list price of the
goods provided that the payments are received from customer within 15 days.

XYZ Ltd. sold goods for Rs5 lakhs to ABC Ltd. between 17th March, 20X2 and 31st March,
20X2. ABC Ltd. paid the dues by 15th April, 20X2 with respect to sales made between 17th
March, 20X2 and 31st March, 20X2. Financial statements were approved for issue by Board of
Directors on 31st May, 20X2.

(Practice Question)

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Answer 9

As per Ind AS 115, if the consideration promised in a contract includes a variable amount, an
entity shall estimate the amount of consideration to which the entity will be entitled in
exchange for transferring the promised goods or services to a customer. In the instant case, the
condition that sales have been made exists at the end of the reporting period and the receipt of
payment within 15 days’ time after the end of the reporting period and before the approval of
the financial statements confirms that the discount is to be provided on those sales. Therefore,
it is an adjusting event. Accordingly, XYZ Ltd. should adjust the sales made to ABC Ltd. with
respect to discount of 5% on the list price of the goods .

Question 10

Whether the fraud related to 20X1-20X2 discovered after the end of the reporting period but
before the date of approval of financial statements for 20X3-20X4 is an adjusting event?

(Practice Question)

Answer 10

In the instant case, the fraud is discovered after the end of the reporting period of 20X3- 20X4,
which related to financial year 20X1-20X2. Since the fraud took place before the end of the
reporting period, the condition was existing which has been confirmed by the detection of the
same after the end of the reporting period but before the approval of financial statements.
Therefore, it is an adjusting event.

Moreover, Ind AS 10 in paragraph 9, specifically provides that the discovery of fraud or error
after the end of the reporting period, that shows that financial statements are incorrect, is an
adjusting event. Such a discovery of fraud should be accounted for in accordance with Ind AS 8
if it meets the definition of prior period error.

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Question 11

X Ltd. was having investment in the form of equity shares in another company as at the end
of the reporting period, i.e., 31st March, 20X2. After the end of the reporting period but
before the approval of the financial statements it has been found that value of investment
was fraudulently inflated by committing a computation error. Whether such event should be
adjusted in the financial statements for the year 20X1-20X2?

(Practice Question)

Answer 11

Since it has been detected that a fraud has been made by committing an intentional error and
as a result of the same financial statements present an incorrect picture, which has been
detected after the end of the reporting period but before the approval of the financial
statements. The same is an adjusting event. Accordingly, the value of investments in the
financial statements should be adjusted for the fraudulent error in computation of value of
investments.

Question 12

ICAI Illustration

A case is going on between ABC Ltd., and GST department on claiming some exemption for
the year 20X1-20X2. The court has issued the order on 15th April, 20X2 and rejected the claim
of the company. Accordingly, the company is liable to pay the additional tax. The financial
statements of the company for the year 20X1-20X2 have been approved on 15th May, 20X2.
Should the company account for such tax in the year 20X1-20X2 or should it accounts for the
same in the year 20X2-20X3?

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 (Study material)

Answer

An event after the reporting period is an adjusting event, if it provides evidence of a condition
existing at the end of the reporting period. Here, this condition is satisfied. Court order received
after the reporting period (but before the financial statements are approved) provides the
evidence of the liability existing at the end of the reporting period. Therefore, the event will be
considered as an adjusting event and, accordingly, the amounts will be adjusted in financial
statements for 20X1-20X2.

Question 13

ICAI Illustration

While preparing its financial statements for the year ended 31st March, 20X1, XYZ Ltd. made
a general provision for bad debts @ 5% of its debtors. In the last week of February, 20X1 a
debtor for Rs 2 lakhs had suffered heavy loss due to an earthquake; the loss was not covered
by any insurance policy. Considering the event of earthquake, XYZ Ltd. made a provision @
50% of the amount receivable from that debtor apart from the general provision of 5% on
remaining debtors. In April, 20X1 the debtor became bankrupt. Can XYZ Ltd. provide for the
full loss arising out of insolvency of the debtor in the financial statements for the year ended
31st March, 20X1?

Would the answer be different if earthquake had taken place after 31st March, 20X1, and
therefore, XYZ Ltd. did not make any specific provision in context that debtor and made only
general provision for bad debts @ 5% on total debtors?

(Study material)

Answer

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As per the definition of ‘Events after the Reporting Period’ and paragraph 8 of Ind AS 10, Events
after the Reporting Period, financial statements should be adjusted for events occurring after
the reporting period that provide evidence of conditions that existed at the end of the
reporting period. In the instant case, the earthquake took place in February 20X1 (i.e. before
the end of the reporting period).

Therefore, the condition exists at the end of the reporting date though the debtor is declared
insolvent after the reporting period. Accordingly, full provision for bad debt amounting to Rs 2
lakhs should be made to cover the loss arising due to the bankruptcy of the debtor in the
financial statements for the year ended 31st March, 20X1. In this case, assuming that the
financial statements are approved by the approving authority after April, 20X1, XYZ Ltd should
provide for the remaining amount as a consequence of declaration of this debtor as bankrupt.

In case, the earthquake had taken place after the end of the reporting period, i.e., after 31st
March, 20X1, and XYZ Ltd. had not made any specific provision for the debtor who was declared
bankrupt later on, since the earthquake occurred after the end of the reporting period no
condition existed at the end of the reporting period. The company had made only general
provision for bad debts in the ordinary business course – without taking cognizance of the
catastrophic situation of an earthquake. Accordingly, bankruptcy of the debtor in this case is a
non-adjusting event.

As per para 21 of Ind AS 10, if non-adjusting events after the reporting period are material, their
non-disclosure could influence the economic decisions that users make based on the financial
statements. Accordingly, an entity shall disclose the following for each material category of
non-adjusting event after the reporting period:

(a) the nature of the event; and

(b) an estimate of its financial effect, or a statement that such an estimate cannot be made.”

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If the amount of bad debt is considered to be material, the nature of this non-adjusting event,
i.e., event of bankruptcy of the debtor should be disclosed along with the estimated financial
effect of the same in the financial statements.

Topic 3: Non-Adjusting Events

Question 14

Discuss the following situations as per Ind AS 10:

D Limited acquired equity shares of another company on 1st March, 2023 at a cost of Rs 28
lakhs. The fair market value of these shares on 31st March, 2023 was Rs 35 lakhs and the
company measured it at Rs 35 lakhs (assume that it is classified as FVTOCI as per Ind AS 109
and change in fair value is transferred to 'fair value fluctuation reserve'). Due to market
conditions subsequent to the reporting date, the value of investments drastically came down
to Rs 20 lakhs. The financial statements have not yet been approved. You are required to
suggest whether D Limited should value the investments at Rs 35 lakhs or Rs 20 lakhs as on
31st March, 2023.

(PYP May ‘23)

Answer 14

The decline in fair value does not normally relate to the condition of the investments at the end
of the reporting period but reflects circumstances that have arisen subsequently. Therefore, D
Limited should value the investments at Rs 35 lakhs as on 31st March, 2023.

As per Ind AS 10, an entity should adjust the financial statements for the events that occurred
after the reporting period, but before the financial statements are approved for issue, if those
events provide evidence of conditions that existed at the end of the reporting period.

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Question 15

In the plant of PQR Ltd., there was a fire on 10th May, 20X1 in which the entire plant was
damaged and the loss of Rs 40,00,000 is estimated. The claim with the insurance company
has been filed and a recovery of Rs 27,00,000 is expected. The financial statements for the
year ending 31st March, 20X1 were approved by the Board of Directors on 12th June, 20X1.
Show how should it be disclosed?

(MTP March ‘22) (RTP Nov’20)

Answer 15

Events after the reporting period are those events, favorable and unfavorable, that occur
between the end of the reporting period and the date when the financial statements are
approved by the Board of Directors in case of a company, and, by the corresponding approving
authority in case of any other entity for issue.

Two types of events can be identified:

(a) those that provide evidence of conditions that existed at the end of the reporting period
(adjusting events after the reporting period); an

(b) those that are indicative of conditions that arose after the reporting period ( non adjusting
events after the reporting period).

In the instant case, since fire took place after the end of the reporting period, it is a non -
adjusting event. However, in accordance with paragraph 21 of Ind AS 10, disclosures regarding
material non-adjusting event should be made in the financial statements, i.e., the nature of the
event and the expected financial effect of the same. With regard to going concern basis
followed for preparation of financial statements, the company needs to determine whether it is
appropriate to prepare the financial statements on going concern basis, if there is only one

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plant which has been damaged due to fire. If the effect of deterioration in operating results and
financial position is so pervasive that management determines after the reporting period either
that it intends to liquidate the entity or to cease trading, or that it has no realistic alternative
but to do so, preparation of financial statements for the financial year 20X0- 20X1 on going
concern assumption may not be appropriate. In that case, the financial statements may have to
be prepared on a basis other than going concern. However, if the going concern assumption is
considered to be appropriate even after the fire, no adjustment is required in the financial
statements for the year ending 31st March, 20X1.

Question 16

Discuss with reasons whether these events are in nature of adjusting or non-adjusting and
the treatment needed in light of accounting standard Ind AS 10.

Assume that subsequent to the year end and before the financial statements are approved,
Company’s management announces that it will restructure the operation of the company.
Management plans to make significant redundancies and to close a few divisions of
company’s business; however, there is no formal plan yet. Should management recognise a
provision in the books, if the company decides subsequent to end of the accounting year to
restructure its operations?

(MTP March ’21 & Nov ’21 & PYP Nov ’19)

Answer 16

Non – adjusting event:

Announcing or commencing the implementation of a major restructuring after reporting period

is a non-adjusting event as per Ind AS 10. Though this is a non-adjusting event occurred after
the reporting period, yet it would result in disclosure of the event in the financial statements, if
restructuring is material. This would not require provision since as per Ind AS 37, decision to

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restructure was not taken before or on the reporting date. Hence, it does not give rise to a
constructive obligation at the end of the reporting period to create a provision.

Question 17

ICAI Illustration

In the plant of PQR Ltd., there was a fire on 10th May, 20X1 in which the entire plant was
damaged and the loss of Rs 40,00,000 is estimated. The claim with the insurance company
has been filed and a recovery of Rs 27,00,000 is expected. The financial statements for the
year ending 31st March, 20X1 were approved by the Board of Directors on 12th June, 20X1.
Show how should it be disclosed?

(Study material)

Answer

In the instant case, since fire took place after the end of the reporting period, it is a non-
adjusting event. However, in accordance with paragraph 21 of Ind AS 10, disclosures regarding
material non-adjusting event should be made in the financial statements, i.e., the nature of the
event and the expected financial effect of the same. With regard to going concern basis
followed for preparation of financial statements, the company needs to determine whether it is
appropriate to prepare the financial statements on going concern basis, since there is only one
plant which has been damaged due to fire. If the effect of deterioration in operating results and
financial position is so pervasive that management determines after the reporting period either
that it intends to liquidate the entity or to cease trading, or that it has no realistic alternative
but to do so, preparation of financial statements for the F.Y.20X0-20X1 on going concern
assumption may not be appropriate. In that case, the financial statements may have to be
prepared on a basis other than going concern.

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However, if the going concern assumption is considered to be appropriate even after the fire,
no adjustment is required in the financial statements for the year ending 31st March, 20X1.

Topic 4: Impairment & Inventory Valuation Based on Post-Balance Sheet

Events

Question 18

A manufacturer gives warranties to the purchasers of its goods. Under the terms of the
warranty, the manufacturer undertakes to make good, by repair or replacement,
manufacturing defects that become apparent within three years from the date of sale to the
purchasers.

On 30 April 20X1, a manufacturing defect was detected in the goods manufactured by the
entity between 1 March 20X1 and 30 April 20X1. At 31 March 20X1 (the entity’s reporting
date), the entity held approximately one week’s sales in inventories.

The entity’s financial statements for the year ended 31 March 20X1 have not yet been
finalised.

defective goods held on 31 March 20X1

(RTP May ‘21)

Answer 18

defective goods held on 31 March 20X1

At 31 March 20X1 the entity did not have a present obligation to make good the unsold
defective goods that it held in inventories. Accordingly, at 31 March 20X1 the entity should not

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recognize a provision in respect of the defective inventories. However, the entity should test
the inventories for impairment in accordance with Ind AS 36, Impairment of Assets.

For this category, the detection of the manufacturing defect in April 20X1 is an adjusting event
after the end of the reporting period as per Ind AS 10, Events after the End of the Reporting
Period. It provides evidence of a manufacturing defect in inventories held at 31 March 20X1.

Question 19

Discuss the following situations as per Ind AS 10:

Z Limited while preparing its financial statements on 31st March, 2023 made a provision for
doubtful debts @ 6% on accounts receivables. In the last week of January, 2023, a debtor for
Rs 3 lakhs had suffered heavy loss due to fire; the loss was not covered by any insurance
policy. Z Limited, considering the event of fire made a provision @ 60% of the amount
receivables from that debtor apart from the general provision @ 6% on remaining debtors.
The same debtor was declared insolvent on 10th April, 2023. The financial statements have
not yet been approved. You are required to suggest whether the company should provide for
the full loss arising out of insolvency of the debtor in the financial statements for the year
ended 31st March, 2023.

(PYP May ‘23)

Answer 19

A decline in fair value of investments between the end of the reporting period and the date
when the financial statements are approved for issue is a non-adjusting event.

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Question 20

H Ltd. constructed a warehouse at a cost of Rs 10 lakhs in 2015. It first became available for
use by H Ltd. on 1st January 2016. On 29th January 2020, H Ltd. discovered that its warehouse
was damaged. During early February 2020, an investigation revealed that the damage was
due to a structural fault in the construction of the warehouse. The fault became apparent
when the warehouse building leaked severely after heavy rainfall in the week ended 27th
January 2020. The discovery of the fault is an indication of impairment. So, H Ltd. Was
required to estimate the recoverable amount of its warehouse at 31st December 2019. This
estimate was Rs 6,00,000. Furthermore, H Ltd. reassessed the useful life of its warehouse at
20 years from the date that it was ready for use. Before discovering the fault, H Ltd. had
depreciated the warehouse on the straight-line method to a nil residual value over its
estimated 30-year useful life.

Seepage of rain water through the crack in the warehouse caused damage to inventory worth
about Rs 1,00,000 (cost price) and became un-saleable. The entire damaged inventory was on
hand as at 31st December, 2019. H Ltd. has not insured against any of the losses.

It accounts for all its property, plant and equipment under the cost model. H Ltd.’s annual
financial statements for the year ended 31st December, 2019 were approved for issue by the
Board of Directors on 28th February, 2020.

You are required to :

(i) Prepare accounting entries to record the effects of the events after the end of the
reporting period in the accounting records of H Ltd. For the year ended 31st December, 2019.
Kindly ignore tax impact;

(ii) Discuss disclosure requirement in above case as per relevant Ind AS; an

(iii) Will your answer be different if there was no structural fault and damage to the
warehouse had been caused by an event that occurred after 31 st December, 2019?

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 (PYP , Jan’ 21)

Answer 20

(i) Journal Entries on 31st December 2019

Rs Rs

Depreciation expense A/c (W.N.1) Dr. 19,608

To Warehouse or Accumulated depreciation A/c 19,608

(Being additional depreciation expense recognised for the year

ended 31st December 2019 arising from the reassessment of the
useful life of the warehouse)

Impairment loss A/c (W.N.2) Dr. 2,47,059

To Warehouse or Accumulated depreciation A/c 2,47,059

(Being impairment loss recognised due to discovery of structural

fault in the construction of warehouse at 31st December 2019)

(ii) (a) The damage to warehouse is an adjusting event (occurred after the end of the year
2019) for the reporting period 2019, since it provides evidence that the structural fault existed
at the end of the reporting period. It is an adjusting event, in spite of the fact that fault has
been discovered after the reporting date.

The effects of the damage to the warehouse are recognised in the year 2019 reporting period.
Prior periods will not be adjusted because those financial statements were prepared in good
faith (eg regarding estimate of useful life, assessment of impairment indicators etc) and had not
affected the financials of prior years.

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(b) Damage of inventory due to seepage of rainwater Rs 1,00,000 occurred during the year
2020. It is a non-adjusting event after the end of the 2019 reporting period since the inventory
was in good condition at 31 st December 2019. Hence, no accounting has been done for it in
the year 2019.

H Ltd. must disclose the nature of the event (i.e. rain-damage to inventories) and an estimate of
the financial effect (i.e. Rs 1,00,000 loss) in the notes to its 31st December 2019 annual financial
statements.

(iii) If the damage to the warehouse had been caused by an event that occurred after 31st
December 2019 and was not due to structural fault, then it would be considered as a non-
adjusting event after the end of the reporting period 2019 as the warehouse would have been
in a good condition at 31st December 2019.

Working Notes:

1. Calculation of additional depreciation to be charged in the year 2019

Original depreciation as per SLM already charged during the year 2019

= Rs 10,00,000/ 30 years = Rs 33,333.

Carrying value at the end of 2018 = 10,00,000 – (Rs 33,333 3 years) = Rs 9,00,000 Revised

depreciation = = Rs 52,941

Additional depreciation to be recognized in the books in the year 2019

= Rs 52,941 – Rs 33,333 = Rs 19,608

2. Calculation of impairment loss in the year 2019

Carrying value after charging depreciation for the year 2019

= Rs 9,00,000 – Rs 52,941 = Rs 8,47,059

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Recoverable value of the warehouse = Rs 6,00,000 Impairment loss = Carrying value -
Recoverable value

= Rs 8,47,059 - Rs 6,00,000 = Rs 2,47,059

Question 21

ABC Ltd. trades in laptops. On 31st March, 20X2, the company has 50 laptops which were
purchased at Rs45,000 each. The company has considered the same price for calculation of
closing inventory valuation. On 15th April, 20X2, advanced version of same series of laptops is
introduced in the market. Therefore, the price of the current laptops goes down to Rs35,000
each. The financial statements for 20X1- 20X2 were approved by the board of directors on
15th May, 20X2. The company does not want to value the stock at Rs35,000 less estimated
costs necessary to make the sale as the event of reduction in selling price took place after
31st March, 20X2 and the reduced prices were not applicable as on 31st March, 20X2.
Comment on the company’s views.

(Study material)

Answer 21

As per Ind AS 10, the decrease in the net realizable value of the stock after the reporting period
should normally be considered as an adjusting event.

Question 22

ICAI Illustration

A company has inventory of 100 finished cars on 31st March, 20X2, which are having a cost of
Rs 4,00,000 each. On 30th April, 20X2, as per the new government rules, higher road tax and

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penalties are to be paid by the buyers for such cars (which were already expected to come)
and hence the selling price of a car has come down and the demand for such cars has
dropped drastically. The selling price has come down to Rs 3,00,000 each. The financial
statements of the company for the year 20X1-20X2 are not yet approved. Should the
company value its stock at Rs 4,00,000 each or should it value at Rs 3,00,000 each? Ignore
estimated costs necessary to make the sale.

(Study material)

Answer

Events after the reporting period provide the evidence about the net realisable value of the
cars at the end of the reporting period and, therefore, the amount of Rs 3,00,000 should be
considered for the valuation of stock.

Topic 5: Going Concern Considerations After Post-Balance Sheet Events

Question 23

Company XYZ Ltd. was formed to secure the tenders floated by a telecom company for
publication of telephone directories. It bagged the tender for publishing directories for Pune
circle for 5 years. It has made a profit in 20X1- 20X2, 20X2-20X3, 20X3-20X4 and 20X4-20X5. It
bid in tenders for publication of directories for other circles – Nagpur, Nashik, Mumbai,
Hyderabad but as per the results declared on 23rd April, 20X5, the company failed to bag any
of these. Its only activity till date is publication of Pune directory. The contract for publication
of directories for Pune will expire on 31st December 20X5. The financial statements for the
F.Y. 20X4-20X5 have been approved by the Board of Directors on 10th July, 20X5. Whether it
is appropriate to prepare financial statements on going concern basis?

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 (RTP May’19)

Answer 23

With regard to going concern basis to be followed for preparation of financial statements, paras
14 & 15 of Ind AS 10 states that-

An entity shall not prepare its financial statements on a going concern basis if management
determines after the reporting period either that it intends to liquidate the entity or to cease
trading, or that it has no realistic alternative but to do so. Deterioration in operating results and
financial position after the reporting period may indicate a need to consider whether the going
concern assumption is still appropriate. If the going concern assumption is no longer
appropriate, the effect is so pervasive that this Standard requires a fundamental change in the
basis of accounting, rather than an adjustment to the amounts recognised within the original
basis of accounting.

In accordance with the above, an entity needs to change the basis of accounting if the effect of
deterioration in operating results and financial position is so pervasive that management
determines after the reporting period either that it intends to liquidate the entity or to cease
trading, or that it has no realistic alternative but to do so. In the instant case, since contract is
expiring on 31st December 20X5 and it is confirmed on 23rd April, 20X5, (i.e., after the end of
the reporting period and before the approval of the financial statements), that no further
contact is secured, it implies that the entity’s operations are expected to come to an end by
31st December 20X5. Accordingly, if entity’s operations are expected to come to an end, the
entity needs to make a judgement as to whether it has any realistic possibility to continue or
not. In case, the entity determines that it has no realistic alternative of continuing the business,
preparation of financial statements for 20X4-20X5 and thereafter on going concern basis may
not be appropriate.

Question 24

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ICAI Illustration

Company XYZ Ltd. was formed to secure the tenders floated by a telecom company for
publication of telephone directories. It bagged the tender for publishing directories for Pune
circle for 5 years. It has made a profit in 20X1- 20X2, 20X2- 20X3, 20X3-20X4 and 20X4-20X5.
It bid in tenders for publication of directories for other circles – Nagpur, Nashik, Mumbai,
Hyderabad but as per the results declared on 23rd April, 20X5, the company failed to bag any
of these. Its only activity till date is publication of Pune directory. The contract for publication
of directories for Pune will expire on 31st December 20X5. The financial statements for the
F.Y. 20X4-20X5 have been approved by the Board of Directors on 10th July, 20X5. Whether it
is appropriate to prepare financial statements on going concern basis?

(Study material)

Answer

With regard to going concern basis to be followed for preparation of financial statements, paras
14 & 15 of Ind AS 10 states that-

An entity shall not prepare its financial statements on a going concern basis if management
determines after the reporting period either that it intends to liquidate the entity or to cease
trading, or that it has no realistic alternative but to do so.

Deterioration in operating results and financial position after the reporting period may indicate
a need to consider whether the going concern assumption is still appropriate. If the going
concern assumption is no longer appropriate, the effect is so pervasive that this Standard
requires a fundamental change in the basis of accounting, rather than an adjustment to the
amounts recognised within the original basis of accounting.

In accordance with the above, an entity needs to change the basis of accounting if the effect of
deterioration in operating results and financial position is so pervasive that management
determines after the reporting period either that it intends to liquidate the entity or to cease
trading, or that it has no realistic alternative but to do so.

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In the instant case, since contract is expiring on 31st December 20X5 and it is confirmed on
23rd April, 20X5, (i.e., after the end of the reporting period and before the approval of the
financial statements), that no further contact is secured, it implies that the entity’s operations
are expected to come to an end by 31st December 20X5. Accordingly, if entity’s operations are
expected to come to an end, the entity needs to make a judgement as to whether it has any
realistic possibility to continue or not. In case, the entity determines that it has no realistic
alternative of continuing the business, preparation of financial statements for 20X4-20X5 and
thereafter on going concern basis may not be appropriate.

Topic 6: Accounting Treatment of Specific Situations (Litigation, Warranties,

Restructuring, etc.)

Question 25

A manufacturer gives warranties to the purchasers of its goods. Under the terms of the
warranty, the manufacturer undertakes to make good, by repair or replacement,
manufacturing defects that become apparent within three years from the date of sale to the
purchasers.

On 30 April 20X1, a manufacturing defect was detected in the goods manufactured by the
entity between 1 March 20X1 and 30 April 20X1. At 31 March 20X1 (the entity’s reporting
date), the entity held approximately one week’s sales in inventories.

The entity’s financial statements for the year ended 31 March 20X1 have not yet been
finalised.

defective goods manufactured in 20X1- 20X2 State the accounting treatment of the above
categories in accordance with relevant Ind AS.

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 (RTP May ‘21)

Answer 25

defective goods manufactured in 20X1-20X2

At 31 March 20X1 the entity did not have a present obligation to make good any defective
goods that it might manufacture in the future. Accordingly, at 31 March 20X1 the entity should
not recognise a provision in respect of the defective goods manufactured in 20X1-20X2.

For this category, the detection of the manufacturing defect in April 20X1 is a non adjusting
event after the end of the reporting period as per Ind AS 10, Events After the End of the
Reporting Period

Question 26

Discuss with reasons whether these events are in nature of adjusting or non-adjusting and
the treatment needed in light of accounting standard Ind AS 10.

(MTP March ’21 & Nov ’21 & PYP Nov ’19)

Answer 26

As per Ind AS 10, the treatment of stated issues would be as under:

Adjusting event:

It is an adjusting event as it is the settlement after the reporting period of a court case that
confirms that the entity had a present obligation at the end of the reporting period. Even
though winning of award is favorable to the company, it should be accounted in its books as
receivable since it is an adjusting event.

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Question 27

Discuss with reasons whether these events are in nature of adjusting or non-adjusting and
the treatment needed in light of accounting standard Ind AS 10.

Zoom Ltd. has a trading business of Mobile telephones. The Company has purchased 1000
mobiles phones at Rs. 5,000 each on 15th March, 20X1. The manufacturers of phone had
announced the release of the new version on 1st March, 20X1 but had not announced the
price. Zoom Ltd. Has valued inventory at cost of Rs. 5,000 each at the year ending 31st March,
20X1.

Due to arrival of new advance version of Mobile Phone on 8th April, 20X1, the selling prices
of the mobile stocks remaining with Company was dropped at Rs. 4,000 each.

The financial statements of the company valued mobile phones @ Rs. 5,000 each and not at
the value @ Rs. 4,000 less expenses on sales, as the price reduction in selling price was
effected after 31.03.20X1.

(MTP March ’21 & Nov ’21 & PYP Nov ’19)

Answer 27

As per Ind AS 10, the treatment of stated issues would be as under:

Adjusting event:

The sale of inventories after the reporting period may give evidence about their net realizable
value at the end of the reporting period, hence it is an adjusting event as per Ind AS 10. Zoom
Limited should value its inventory at Rs. 40,00,000. Hence, appropriate provision must be made
for Rs. 15 lakh.

Question 28

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Mac Ltd. purchased goods on credit from Toy Ltd. for Rs. 580 lakhs for export. The export
order was cancelled. Mac Ltd. decided to sell the same goods in the local market with a price
discount. Toy Ltd. was requested to offer a price discount of Rs. 10%. Toy Ltd. Wants to adjust
the sales figure to the extent of the discount requested by Mac Ltd. Discuss whether such a
treatment in the books of Toy Ltd. is justified as per the provisions of the relevant Ind AS.
Also, Toy Ltd. entered into a sale deed for its Land on 15 th March, 20X1. But registration was
done with the registrar on 20th April, 20X1. But before registration, is it possible to recognize
the sale and the gain at the balance sheet date? Give reasons in support of your answer.

(RTP May’18)

Answer 28

Toy Ltd. had sold goods to Mac Ltd on credit worth for Rs. 580 lakhs and the sale was
completed in all respects. Mac Ltd.'s decision to sell the same in the domestic market at a
discount does not affect the amount recorded as sales by Toy Ltd.

The price discount of 10% offered by Toy Ltd. after request of Mac Ltd. was not in the nature of
a discount given during the ordinary course of trade because otherwise the same would have
been given at the time of sale itself. However, there appears to be an uncertainty relating to
the collectability of the debt, which has arisen subsequent to sale. Therefore, it would be
appropriate to make a separate provision to reflect the uncertainty relating to collectability
rather than to adjust the amount of revenue originally recorded. Hence such discount should be
charged to the Statement of Profit and Loss and not shown as deduction from the sales figure.

With respect to sale of land, both sale and gain on sale of land earned by Toy Ltd. shall be
recognized in the books at the balance sheet date. In substance, the land was transferred with
significant risk & rewards of ownership to the buyer before the balance sheet date and what
was pending was merely a formality to register the deed. The registration post the balance
sheet date only confirms the condition of sale at the balance sheet date as per Ind AS 10
“Events after the Reporting Period.”

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Question 29

XY Ltd took a large-sized civil construction contract, for a public sector undertaking, valued at
Rs200 crores. The execution of the project started during 20X1-20X2 and continued in the
next financial year also. During execution of the work on 29th May, 20X2, the company found
while raising the foundation work that it had met a rocky surface and cost of contract would
go up by an extra Rs50 crores, which would not be recoverable from the contractee as per the
terms of the contract. The Company’s financial year ended on 31st March, 20X2, and the
financial statements were considered and approved by the Board of Directors on 15th June,
20X2. How will you treat the above in the financial statements for the year ended 31st March,
20X2?

(Study material)

Answer 29

In the instant case, the execution of work started during the financial year 20X1-20X2 and the
rocky surface was there at the end of the reporting period, though the existence of rocky
surface is confirmed after the end of the reporting period as a result of which it became evident
that the cost may escalate by Rs50 crores. In accordance with the definition of ‘Events after the
Reporting Period’, since the rocky surface was there, the condition was existing at the end of
the reporting period, therefore, it is an adjusting event. The cost of the project and profit
should be accounted for accordingly.

Question 30

A Ltd. was required to pay a penalty for a breach in the performance of a contract. A Ltd.
believed that the penalty was payable at a lower amount than the amount demanded by the
other party. A Ltd. created provision for the penalty but also approached the arbitrator with a

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submission that the case may be dismissed with costs. A Ltd. prepared the financial
statements for the year 20X1-20X2, which were approved in May, 20X2. The arbitrator, in
April, 20X2, awarded the case in favour of A Ltd. As a result of the award of the arbitrator, the
provision earlier made by A Ltd. was required to be reduced. The arbitrator also decided that
cost of the case should be borne by the other party. Now, whether A Ltd. is required to
remeasure its provision and what would be the accounting treatment of the cost that will be
recovered by A Ltd., which has already been charged to the Statement of Profit and Loss as an
expense for the year 20X1-20X2?

(Study material)

Answer 30

In the instant case, A Ltd. approached the arbitrator before the end of the reporting period,
who decided the award after the end of the reporting period but before approval of the
financial statements for issue. Accordingly, the conditions were existing at the end of the
reporting date because A Ltd. had approached the arbitrator before the end of the reporting
period whose outcome has been confirmed by the award of the arbitrator. Therefore, it is an
adjusting event.

Accordingly, the measurement of the provision is required to be adjusted for the event
occurring after the reporting period. As far as the recovery of the cost by A Ltd. from the other
party is concerned, this right to recover was a contingent asset as at the end of the reporting
period.

As per para 35 of Ind AS 37, contingent assets are assessed continually to ensure that
developments are appropriately reflected in the financial statements. If it has become virtually
certain that an inflow of economic benefits will arise, the asset and the related income are
recognised in the financial statements of the period in which the change occurs. If an inflow of
economic benefits has become probable, an entity discloses the contingent asset.

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On the basis of the above, a contingent asset should be recognised in the financial statements
of the period in which the realisation of asset and the related income becomes virtually certain.
In the instant case, the recovery of cost became certain when the arbitrator decided the award
during financial year 20X2-20X3.

Accordingly, the recovery of cost should be recognised in the financial year 20X2-20X3.

Question 31

A company manufacturing and supplying process control equipment is entitled to duty

drawback if it exceeds its turnover above a specified limit. To claim duty drawback, the
company needs to file an application within 15 days of meeting the specified turnover. If the
application is not filed within stipulated time, the Department has discretionary power of
giving duty draw back credit. For the year 20X1-20X2, the company has exceeded the
specified limit of turnover by the end of the reporting period but the application for duty
drawback is filed on 20th April, 20X2, which is after the stipulated time of 15 days of meeting
the turnover condition.

Duty drawback has been credited by the Department on 28th June, 20X2 and financial
statements have been approved by the Board of Directors of the company on 26th July, 20X2.
Whether duty drawback credit should be treated as an adjusting event?

(Practice Question)

Answer 31

In the instant case, the condition of exceeding the specified turnover was met at the end of the
reporting period and the company was entitled to the duty draw back but the application for
the same has been filed after the stipulated time. Therefore, credit of duty drawback is
discretionary in the hands of the Department. Accordingly, the duty drawback credit is a

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contingent asset as at the end of the reporting period, which may be realized if the Department
credits the same.

As per para 35 of Ind AS 37, contingent assets are assessed continually to ensure that
developments are appropriately reflected in the financial statements. If it has become virtually
certain that an inflow of economic benefits will arise, asset and the related income are
recognized in the financial statements of the period in which the change occurs. If an inflow of
economic benefits has become probable, an entity discloses the contingent asset.

In accordance with the above, the duty draw-back credit which was contingent asset for the
financial year 20X1-20X2 should be recognized as asset and related income should be
recognized in the reporting period in which the change occurs. i.e., in the period in which
realization becomes virtually certain, i.e., financial year 20X2-20X3.

Question 32

ICAI Illustration

ABC Ltd. declares the dividend on 15th July, 20X2 as the results of year 20X1- 20X2 as well as
Q1 ending 30th June, 20X2 are better than expected. The financial statements of the
company are approved on 20th July, 20X2 for the financial year ending 31st March, 20X2. Will
the dividend be accounted for in the financial year 20X2-20X3 or will it be accounted for in
the year 20X1-20X2?

(Study material)

Answer

The dividend is declared in the year 20X2-20X3. Therefore, the obligation towards dividend did
not exist at the end date of reporting period i.e., on 31st March, 20X2. Therefore, it will be
accounted for in the year 20X2-20X3 and not in 20X1-20X2, even if financial statements for

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20X1-20X2 were approved after the declaration of dividend. It will, however, be disclosed in the
notes in the financial statements for the year 20X1- 20X2 in accordance with Ind AS 1.

Question 33

ICAI Illustration

What would be the treatment for dividends declared to redeemable preference shareholders
after the reporting period but before the financial statements are approved for issue for the
year 20X1-20X2. Whether Ind AS 10 prescribes any accounting treatment for such dividends?

(Study material)

Answer

Paragraph 12 of Ind AS 10 prescribes accounting treatment for dividends declared to holders of

equity instruments. If an entity declares dividends to holders of equity instruments (as defined
in Ind AS 32, Financial Instruments: Presentations) after the reporting period, the entity shall
not recognize those dividends as a liability at the end of the reporting period.

However, Ind AS 10 does not prescribe accounting treatment for dividends declared to
redeemable preference shareholders. As per the principles of Ind AS 32, Financial Instruments:
Presentation, a preference share that provides for mandatory redemption by the issuer for a
fixed or determinable amount at a fixed or determinable future date, or gives the holder the
right to require the issuer to redeem the instrument at or after a particular date for a fixed or
determinable amount, is a financial liability. Thus, dividend payments to such preference shares
are recognized as expense in the same way as interest on a bond. Since interest will be charged
on time basis, the requirements of Ind AS 10 regarding date of declaration of dividend is not
relevant for its recognition.

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 Chapter 4 Unit-3

Indian Accounting Standard 113: Fair Value Measurement

Topic 1: Fair Value Definition & Exit Price Concept

Question 1

A Ltd. has invested in certain bonds. The fair value of these bonds in different markets to
which A Ltd. has an access is as follows:

Principal market 500

Highest and best use 600

Net present value of expected cash flows 550

Asset based valuation approach 450

What will be the fair value of bond as per Ind AS 113?

(Study material)

Answer 1

As per para 24 of Ind AS 113, fair value is the price that would be received to sell an asset or
paid to transfer a liability in an orderly transaction in the principal (or most advantageous)
market at the measurement date under current market conditions (i.e. an exit price) regardless
of whether that price is directly observable or estimated using another valuation technique.

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Further, para 72 of the standard inter alia states that the fair value hierarchy gives the highest
priority to quoted prices (unadjusted) in active markets for identical assets or liabilities (Level 1
inputs) and the lowest priority to unobservable inputs (Level 3 inputs).

According to the above, the value of bond shall be Rs 500 based on the principal market.

Topic 2 : Principal Market vs Most Advantageous Market

Question 2

An asset is sold in 2 different active markets at different prices. An entity enters into
transactions in both markets and can access the price in those markets for the asset at the
measurement date.

In Market A:

The price that would be received is Rs. 78, transaction costs in that market are Rs. 9 and the
costs to transport the asset to that market are Rs. 6.

In Market B:

The price that would be received is Rs. 75, transaction costs in that market are Rs. 3 and the
costs to transport the asset to that market are Rs. 6.

You are required to calculate:

(i) The fair value of the asset, if market A is the principal market, and

(ii) The fair value of the asset, if none of the markets is principal market.

(PYP Nov’18)

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Answer 2

(i) If Market A is the principal market

If Market A is the principal market for the asset (i.e., the market with the greatest volume and
level of activity for the asset), the fair value of the asset would be measured using the price that
would be received in that market, after taking into account transport costs.

Fair Value of the asset will be

Rs.

Price receivable 78

Less: Transportation cost (6)

Fair value of the asset 72

(ii) If neither of the market is the principal market

If neither of the market is the principal market for the asset, the fair value of the asset would be
measured using the price in the most advantageous market. The most advantageous market is
the market that maximizes the amount that would be received to sell the asset, after taking
into account transaction costs and transport costs (i.e., the net amount that would be received
in the respective markets).

Determination of most advantageous market:

Rs. Rs.

Market A Market B

Price receivable 78 75

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Less: Transaction cost (9) (3)

Less: Transportation cost (6) (6)

Fair value of the asset 63 66

Since the entity would maximize the net amount that would be received for the asset in Market
B i.e. Rs. 66, the fair value of the asset would be measured using the price in Market B.

Fair value of the asset will be

Rs.

Price receivable 75

Less: Transportation cost (6)

Fair value of the asset 69

Question 3

An asset is sold in two different active markets at different prices. Manor Ltd. enters into
transactions in both markets and can access the price in those markets for the asset at the
measurement date. In Mumbai market, the price that would be received is Rs. 290,
transaction costs in that market are Rs. 40 and the costs to transport the asset to that market
are Rs. 30. Thus, the net amount that would be received is Rs. 220. In Kolkata market the
price that would be received is Rs. 280, transaction costs in that market are Rs. 20 and the
costs to transport the asset to that market are Rs. 30. Thus, the net amount that would be
received in Kolkata market is Rs. 230.

(i) What should be the fair value of the asset if Mumbai Market is the principal market? What
should be fair value if none of the markets is principle market?

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(ii) It the net realization after expenses is more in export market, say Rs. 280, but
Government allows only 15% of the production to be exported out of India. Discuss what
would be fair value in such case.

(PYP Nov’19)

Answer 3

(i)

(a) If Mumbai Market is the principal market

If Mumbai Market is the principal market for the asset (i.e., the market with the greatest
volume and level of activity for the asset), the fair value of the asset would be measured using
the price that would be received in that market, after taking into account transportation costs.
Fair value will be

Rs.

Price receivable 290

Less: Transportation cost (30)

Fair value of the asset 260

(b) If neither of the market is the principal market

If neither of the market is the principal market for the asset, the fair value of the asset would be
measured using the price in the most advantageous market. The most advantageous market is
the market that maximizes the amount that would be received to sell the asset, after taking
into account transaction costs and transportation costs (i.e., the net amount that would be
received in the respective markets).

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 Rs. Rs.

Mumbai Market Kolkata Market

Fair value of the asset as per the question 220 230

Since the entity would maximise the net amount that would be received for the asset in Kolkata
Market [Link]. 230, the fair value of the asset would be measured using the price in Kolkata
Market.

Fair value in such a case would be

Rs.

Price receivable 280

Less: Transportation cost (30)

Fair value of the asset 250

(ii) Export prices are more than the prices in the principal market and it would give highest
return comparing to the domestic market. Therefore, the export market would be considered
as most advantageous market. But since the Government has capped the export, maximum
upto 15% of total output, maximum sale activities are being done at domestic market only i.e.
85%. Since the highest level of activities with highest volume is being done at domestic market,
principal market for asset would be domestic market. Therefore, the prices received in
domestic market would be used for fair valuation of assets.

Question 4

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An asset is sold in 2 different active markets at different prices. An entity enters into
transactions in both markets and can access the price in those markets for the asset at the
measurement date.

In Market A:

The price that would be received is Rs26, transaction costs in that market are Rs3 and the
costs to transport the asset to that market are Rs2.

In Market B:

The price that would be received is Rs25, transaction costs in that market are Rs1 and the
costs to transport the asset to that market are Rs2.

You are required to calculate:

(i) The fair value of the asset, if market A is the principal market, and

(ii) The fair value of the asset, if none of the markets is principal market.

(Study material)

Answer 4

(i) If Market A is the principal market

If Market A is the principal market for the asset (i.e., the market with the greatest volume and
level of activity for the asset), the fair value of the asset would be measured using the price that
would be received in that market, after taking into account transport costs.

Fair Value will be

Rs

Price receivable 26

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Less: Transportation cost (2)

Fair value of the asset 24

(ii) If neither of the market is the principle market

If neither of the market is the principal market for the asset, the fair value of the asset would be
measured using the price in the most advantageous market. The most advantageous market is
the market that maximises the amount that would be received to sell the asset, after taking
into account transaction costs and transport costs (i.e., the net amount that would be received
in the respective markets)

Rs Rs

Market A Market B

Price receivable 26 25

Less: Transaction cost (3) (1)

Less: Transportation cost (2) (2)

Fair value of the asset 21 22

Since the entity would maximise the net amount that would be received for the asset in Market
B i.e. 22, the fair value of the asset would be measured using the price in Market B.

Fair value

Rs

Price receivable 25

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Less: Transportation cost (2)

Fair value of the asset 23

Topic 3 : Highest and Best Use of Non-Financial Assets

Question 5

Comment on the following by quoting references from appropriate Ind AS.

(i) DS Limited holds some vacant land for which the use is not yet determined. the land is
situated in a prominent area of the city where lot of commercial complexes are coming up
and there is no legal restriction to convert the land into a commercial land. The company is
not interested in developing the land to a commercial complex as it is not its business
objective. Currently the land has been let out as a parking lot for the commercial complexes
around. The Company has classified the above property as investment property. It has
approached you, an expert in valuation, to obtain fair value of the land for the purpose of
disclosure under Ind AS. On what basis will the land be fair valued under Ind AS?

(RTP Nov ’19)

Answer 5

(i) As per Ind AS 113, a fair value measurement of a non-financial asset takes into account a
market participant’s ability to generate economic benefits by using the asset in its highest and
best use or by selling it to another market participant that would use the asset in its highest and
best use.

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The highest and best use of a non-financial asset takes into account the use of the asset that is
physically possible, legally permissible and financially feasible, as follows:

(a) A use that is physically possible takes into account the physical characteristics of the asset
that market participants would take into account when pricing the asset (e.g. the location or
size of a property).

(b) A use that is legally permissible takes into account any legal restrictions on the use of the
asset that market participants would take into account when pricing the asset (e.g. the zoning
regulations applicable to a property).

(c) A use that is financially feasible takes into account whether a use of the asset that is
physically possible and legally permissible generates adequate income or cash flows (taking into
account the costs of converting the asset to that use) to produce an investment return that
market participants would require from an investment in that asset put to that use.

Highest and best use is determined from the perspective of market participants, even if the
entity intends a different use. However, an entity’s current use of a nonfinancial asset is
presumed to be its highest and best use unless market or other factors suggest that a different
use by market participants would maximize the value of the asset.

To protect its competitive position, or for other reasons, an entity may intend not to use an
acquired non-financial asset actively or it may intend not to use the asset according to its
highest and best use. Nevertheless, the entity shall measure the fair value of a non-financial
asset assuming its highest and best use by market participants.

In the given case, the highest best possible use of the land is to develop a commercial complex.
Although developing a business complex is against the business objective of the entity, it does
not affect the basis of fair valuation as Ind AS 113 does not consider an entity specific
restriction for measuring the fair value.

Also, its current use as a parking lot is not the highest best use as the land has the potential of
being used for building a commercial complex.

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Therefore, the fair value of the land is the price that would be received when sold to a market
participant who is interested in developing a commercial complex.

Question 6

Company J acquires land in a business combination. The land is currently developed for
industrial use as a factory site. Although the land’s current use is presumed to be its highest
and best use unless market or other factors suggest a different use, Company J considers the
fact that nearby sites have recently been developed for residential use as high-rise apartment
buildings.

On the basis of that development and recent zoning and other changes to facilitate that
development, Company J determines that the land currently used as a factory site could be
developed as a residential site (e.g., for high-rise apartment buildings) and that market
participants would take into account the potential to develop the site for residential use
when pricing the land.

Determine the highest and best use of the land.

(Study material)

Answer 6

The highest and best use of the land is determined by comparing the following:

• The value of the land as currently developed for industrial use (i.e., an assumption that the
land would be used in combination with other assets, such as the factory, or with other assets
and liabilities); and

• The value of the land as a vacant site for residential use, taking into account the costs of
demolishing the factory and other costs necessary to convert the land to a vacant site. The
value under this use would take into account risks and uncertainties about whether the entity

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would be able to convert the asset to the alternative use (i.e., an assumption that the land
would be used by market participants on a stand-alone basis).

The highest and best use of the land would be determined on the basis of the higher of these
values. In situations involving real estate appraisal, the determination of highest and best use
might take into account factors relating to the factory operations (e.g., the factory’s operating
cash flows) and its assets and liabilities (e.g., the factory’s working capital).

Topic 4 : Valuation Approaches: Income Approach (DCF Method)

Question 7

Silver Ltd. is in the process of acquiring shares of Blue Ltd. as a part of business reorganization
plan. The projected free cash flow of Blue Ltd. for the next 5 years is as follows: (Rs in crores)

Particulars Year 1 Year 2 Year 3 Year 4 Year 5

Cash flows 280.65 281.40 182.70 403.50 518.20

Terminal value 5,945

The weighted average cost of capital of Blue Ltd. is 10%.

The total debt as on measurement date is Rs 2,195 crore and the surplus cash and cash
equivalent is Rs 159.21 crore..

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The total number of shares of Blue Ltd. as on the measurement date is 12.80 mcrore. You are
required to determine the value per share of Blue Ltd. as per Income Approach of Ind AS 113.
(Present value factor of 1 should be taken up to 4 decimals for the purpose of calculation)

(PYP Nov 22)

Answer 7

Determination of Equity Value of Blue Ltd.

Determination of Equity Value of Blue Ltd. (Rs in crore)

Particulars Year 1 Year 2 Year 3 Year 4 Year 5

Cash flows 280.65 281.40 182.70 403.50 518.20

Terminal value 5,945

280.65 281.40 182.70 403.50 6,463.20

Discount rate @ 10% 0.9091 0.8264 0.7513 0.6830 0.6209

Free cash flow available to 255.14 232.55 137.26 275.59 4,013.00

the firm

Total of all years 4,913.54

Less: Debt (2,195.00)

Add: Cash & cash 159.21

equivalent

Equity value of PT Ltd. 2,877.75

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No. of shares (in crore) 12.80 Cr.

Per share value (Rs 2,877.75 Rs 224.82

Cr. / 12.80 Cr)

Question 8

On 1st January, 20X1, A Ltd assumes a decommissioning liability in a business combination.

The reporting entity is legally required to dismantle and remove an offshore oil platform at
the end of its useful life, which is estimated to be 10 years. The following information is
relevant:

If A Ltd was contractually allowed to transfer its decommissioning liability to a market

participant, it concludes that a market participant would use all of the following inputs,
probability weighted as appropriate, when estimating the price, it would expect to receive:

a. Labour costs

Labour costs are developed based on current marketplace wages, adjusted for expectations
of future wage increases, required to hire contractors to dismantle and remove offshore oil
platforms. A Ltd. assigns probability to a range of cash flow estimates as follows:

Cash Flow Estimates: 100 Cr 125 Cr 175 Cr

Probability: 25% 50% 25%

b. Allocation of overhead costs:

Assigned at 80% of labour cost

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c. The compensation that a market participant would require for undertaking the activity and
for assuming the risk associated with the obligation to dismantle and remove the asset. Such
compensation includes both of the following:

i. Profit on labour and overhead costs:

A profit mark-up of 20% is consistent with the rate that a market participant would require as
compensation for undertaking the activity

ii. The risk that the actual cash outflows might differ from those expected, excluding inflation:

A Ltd. estimates the amount of that premium to be 5% of the expected cash flows. The
expected cash flows are ‘real cash flows’ / ‘cash flows in terms of monetary value today’.

d. Effect of inflation on estimated costs and profits

A Ltd. assumes a rate of inflation of 4 percent over the 10 -year period based on available
market data.

e. Time value of money, represented by the risk-free rate: 5%

f. Non-performance risk relating to the risk that Entity A will not fulfill the obligation,
including A Ltd.’s own credit risk: 3.5%

A Ltd, concludes that its assumptions would be used by market participants. In addition, A
Ltd. does not adjust its fair value measurement for the existence of a restriction preventing it
from transferring the liability.

You are required to calculate the fair value of the asset retirement obligation.

(RTP Nov ’21)

Answer 8

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Particulars Workings Amount (In
Cr)

Expected Labour Cost (Refer W.N.) 131.25

Allocated Overheads (80% 131.25 Cr) 105.00

Profit markup on Cost (131.25 + 105) 47.25

20%

Total Expected Cash Flows before inflation 283.50

Inflation factor for next 10 years (4%) (1.04)10 =1.4802

Expected cash flows adjusted for inflation 283.50 1.4802 419.65

Risk adjustment - uncertainty relating to cash flows (5% 419.65) 20.98

Total Expected Cash Flows (419.65+20.98) 440.63

Discount rate to be considered = risk-free rate + entity’s 5% + 3.5% 8.5%

non-performance risk

Expected present value at 8.5% for 10 years (440.63/(1.08510)) 194.88

Working Note: Expected labour

Cash Flows Estimates Probability Expected Cash Flows

100 Cr 25% 25.00 Cr

125 Cr 50% 62.50 Cr

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175 Cr 25% 43.75 Cr

Total 131.25 Cr

Question 9

UK Ltd. is in the process of acquisition of shares of PT Ltd. as part of business reorganization

plan. The projected free cash flows of PT Ltd. for the next 5 years are as follows:

(Rs in crores)

Particulars Year 1 Year 2 Year 3 Year 4 Year 5

Cash flows 187.1 187.6 121.8 269 278.8

Terminal Value 3,965

The weightage average cost of capital of PT Ltd. is 11%. The total debt as on measurement
date is 1,465 crores and the surplus cash & cash equivalent is 106.14 crores. The total
numbers of shares of PT Ltd. as on the measurement date is 8,52,84,223 shares. Determine
value per share of PT Ltd. as per Income Approach.

(Study material)

Answer 9

Determination of equity value of PT Ltd.

Particulars Year 1 Year 2 Year 3 Year 4 Year 5

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Cash flows 187.1 187.6 121.8 269 278.8

Terminal Value 3,965

Discount rate 0.9009 0.8116 0.7312 0.6587 0.5935

factor

Free Cash Flow 168.56 152.26 89.06 177.19 2,518.69

available to the
firm

Total of all years 3,105.76

Less: Debt (1,465)

Add: Cash & Cash 106.14

equivalent

Equity Value of PT 1,746.90

Ltd.

No. of Shares 85,284,223.0

Per Share Value 204.83

Topic 5 : Valuation Approaches: Market Approach (Comparable Companies)

Question 10

ABC Ltd. acquired 5% equity shares of XYZ Ltd. for Rs10 crores in the year 20X1- 20X2. The
company is in process of preparing the financial statements for the year 20X2-20X3 and is

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assessing the fair value at subsequent measurement of the investment made in XYZ Ltd.
Based on the observable input, ABC Ltd. identified a similar nature of transaction in which
PQR Ltd. acquired 20% equity shares in XYZ Ltd. for Rs60 crores. The price of such transaction
was determined on the basis of Comparable Companies Method (CCM)- Enterprise Value (EV)
/ EBITDA which was 8. For the current year, the EBITDA of XYZ Ltd. is Rs40 crores. At the time
of acquisition, the valuation was determined after considering 5% of liquidity discount and
5% of non-controlling stake discount. What will be the fair value of ABC Ltd.’s investment in
XYZ Ltd. as on the balance sheet date?

(Study material)(MTP May ’25)

Answer 10

Determination of Enterprise Value of XYZ Ltd.

Particulars Rs in crore

EBITDA as on the measurement date 40

EV/EBITDA multiple as on the date of valuation 8

Enterprise value of XYZ Ltd. 320

Determination of subsequent measurement of XYZ Ltd.

Particulars Rs in crore

Enterprise Value of XYZ Ltd. 320

ABC Ltd.’s share based on percentage of holding (5% of 320) 16

Less: Liquidity discount & Non-controlling stake discount (5%+5%=10%) (1.6)

Fair value of ABC Ltd.’s investment in XYZ Ltd. 14.4

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Question 11

ICAI Illustration

Discount Rate ass-essment to measure present value:

Investment 1 is a contractual right to receive Rs 800 in 1 year. There is an established market

for comparable assets, and information about those assets, including price information, is
available. Of those comparable assets:

a. Investment 2 is a contractual right to receive Rs 1,200 in 1 year and has a market price of Rs
1,083.

b. Investment 3 is a contractual right to receive Rs 700 in 2 years and has a market price of Rs
566.

All three assets are comparable with respect to risk (that is, dispersion of possible payoffs and
credit). You are required to measure the fair value of Asset 1 basis above information.

(Study material)

Answer

On the basis of the timing of the contractual payments to be received for Investment 1 relative
to the timing for Investment 2 and Investment 3 (that is, one year for Investment 2 versus two
years for Investment 3), Investment 2 is deemed more comparable to Investment 1. Using the
contractual payment to be received for Investment 1 (Rs 800) and the 1-year market rate
derived from Investment 2, the fair value of Investment 1 is calculated as under:

Investment 2 Fair Value Rs 1,083

Contractual Cash flows in 1 year Rs 1,200

IRR = Rs 1,083 x (1 + r) = Rs 1,200

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= (1 + r) = (Rs 1,200 / Rs 1,083) = 1.108

r = 1.108 – 1 = 0.108 or 10.8%

Value of Investment 1 = Rs = Rs 722

Alternatively, in the absence of available market information for Investment 2, the one year
market rate could be derived from Investment 3 using the build-up approach. In that case, the
2-year market rate indicated by Investment 3 would be adjusted to a 1-year market rate using
the term structure of the risk-free yield curve. Additional information and analysis might be
required to determine whether the risk premiums for one-year and two-year assets are the
same. If it is determined that the risk premiums for one-year and two-year assets are not the
same, the two-year market rate of return would be further adjusted for that effect.

Topic 6 : Valuation Approaches: Earnings-Based Valuation (P/E Ratio

Method)

Question 12

(i) A Ltd. owns 250 ordinary shares in XYZ Ltd., an unquoted company. XYZ Ltd. has a total
share capital of 5,000 shares with nominal value of Rs 10. XYZ Ltd.’s after-tax maintainable
profits are estimated at Rs 70,000 per year. An appropriate price/earnings ratio determined
from published industry data is 15 (before lack of marketability adjustment). A Ltd.’s
management estimates that the discount for the lack of marketability of XYZ Ltd.’s shares and
restrictions on their transfer is 20%. A Ltd. values its holding in XYZ Ltd.’s shares based on
earnings. Determine the fair value of A Ltd.’s investment in XYZ Ltd.’s shares.

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 MTP Oct ‘23)

Answer 12

(i) An earnings-based valuation of A Ltd.’s holding of shares in XYZ Ltd. Could be calculated as
follows:

Particulars Rs

XYZ Ltd.’s after-tax maintainable profits (A) Rs 70,000

Price/Earnings ratio (B) 15

Adjusted discount factor (C) (1- 0.20) 0.80

Value of XYZ Ltd. (A) (B) (C) Rs 8,40,000

Value of a share of XYZ Ltd.= Rs shares = Rs 168

The fair value of A Ltd.’s investment in XYZ Ltd.’s shares is estimated at Rs 42,000 (that is, 250
shares Rs 168 per share).

Question 13

Shravan Ltd. owns 6,800 ordinary shares in PQR Ltd., an unquoted company. PQR Ltd. has a
total share capital of 2,00,000 shares with nominal value of Rs 10. PQR Ltd.’s after tax
maintainable profits are estimated at Rs 28,00,000 per year. An appropriate price/earnings
ratio determined from published industry data is 12 (before lack of marketability
adjustment). Shravan Ltd.’s management estimates that the discount for the lack of
marketability of PQR Ltd.’s shares and restrictions on their transfer is 18%.

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Shravan Ltd. values its holding in PQR Ltd.’s shares based on earnings. Determine the fair
value of Shravan Ltd.’s investment in PQR Ltd.’s shares.

(PYP May ‘22)

Answer 13

Calculation of an earnings-based valuation of Shravan Ltd.’s holding of shares in PQR Ltd.:

Particulars Unit

PQR Ltd.’s after-tax maintainable profits (A) Rs 28,00,000

Price / Earnings ratio (B) 12

Adjusted discount factor (1- 0.18) (C) 0.82

Value of PQR Ltd. (A) (B) (C) Rs 2,75,52,000

Value of a share of PQR Ltd. =Rs shares = Rs 137.76 The fair value of Shravan Ltd.’s

investment in PQR Ltd.’s shares is estimated at Rs 9,36,768 (that is, 6,800 shares Rs 137.76
per share).

2022 Alternative way of presentation:

Particulars

PQR Ltd.’s after-tax maintainable profits in Rs (A) 28,00,000

PQR Ltd.’s number of outstanding shares (B) 2,00,000

PQR Ltd.’s EPS in Rs (C = (A/B)) 14.00

Industry PE ratio (given) (D) 12

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Market price of PQR Ltd. per share in Rs (E = (C D)) 168.00

Discount for lack of marketability @ 18% in Rs (F = E 18%) 30.24

Adjusted price per share of PQR Ltd. in Rs (G = (E-F)) 137.76

Shravan Ltd.’s holding (H) 6,800

shares

Fair value of Shravan’s investment in PQR Ltd. (G H) 9,36,768.00

Topic 7 : Valuation Approaches: Net Asset-Based Valuation

Question 14

Based on the facts given in the aforementioned part (i), assume that A Ltd. estimates the fair
value of the shares it owns in XYZ Ltd. using a net asset valuation technique. The fair value of
XYZ Ltd.’s net assets including those recognised in its balance sheet and those that are not
recognised is Rs 8,50,000. Determine the fair value of A Ltd.’s investment in XYZ Ltd.’s shares.

(MTP Oct ‘23)

Answer 14

Share price = Rs 8,50,000 ÷ 5,000 shares = Rs 170 per share. The fair value of A Ltd.’s
investment in XYZ Ltd.’s shares is estimated to be Rs 42,500 (250 shares Rs 170 per share).

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Topic 8 : Valuation Approaches: Weighted Valuation (Combining Market &
Income)

Question 15

Mr. Q has determined the valuation of Rhythm Ltd. by two approaches i.e., Market Approach
and Income Approach and selected the highest as the final value but the management of
Rhythm Ltd. is not satisfied and requests you to determine the fair value of shares of Rhythm
Ltd. by assigning the weights to Market Approach and Income Approach in the ratio of 7:3.

Determine the Equity value on the basis of details given below:

Particulars Rs

Valuation as per Market Approach 35,82,380

Valuation as per Income Approach 21,99,930

Debt obligation as on measurement date 9,96,812

Surplus cash & cash equivalent 2,10,388

Fair value of surplus assets and liabilities 3,12,449

Number of shares of Rhythm Ltd. 1,06,680

shares

(PYP Dec ‘21)

Answer 15

Equity Valuation of Rhythm Ltd.

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Particulars Weights out of (Rs)
10

As per Market Approach 7 35,82,380

As per Income Approach 3 21,99,930

Enterprise Valuation based on weights (35,82,380 70%) + 31,67,645

(21,99,930 30%)

Less: Debt obligation as on measurement date (9,96,812)

Add: Surplus cash & cash equivalent 2,10,388

Add: Fair value of surplus assets and liabilities 3,12,449

Enterprise value of Rhythm Ltd. 26,93,670

No. of shares 1,06,680

Value per share 25.25

Question 16

You are a senior consultant of your firm and are in process of determining the valuation of KK
Ltd. You have determined the valuation of the company by two approaches i.e. Market
Approach and Income approach and selected the highest as the final value. However, based
upon the discussion with your partner you have been requested to assign equal weights to
both the approaches and determine a fair value of shares of KK Ltd. The details of the KK Ltd.
are as follows:

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Particulars in crore

Valuation as per Market Approach 5268.2

Valuation as per Income Approach 3235.2

Debt obligation as on Measurement date 1465.9

Surplus cash & cash equivalent 106.14

Fair value of surplus assets and Liabilities 312.4

Number of shares of KK Ltd. 8,52,84,223 shares

Determine the Equity value of KK Ltd. as on the measurement date on the basis of above
details.

(Study material)

Answer 16

Equity Valuation of KK Ltd.

Particulars Weights (in crore)

As per Market Approach 50 5268.2

As per Income Approach 50 3235.2

Enterprise Valuation based on weights (5268.2 x 50%) + 4,251.7

(3235.2 x 50%)

Less: Debt obligation as on measurement date (1465.9)

Add: Surplus cash & cash equivalent 106.14

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Add: Fair value of surplus assets and liabilities 312.40

Enterprise value of KK Ltd. 3204.33

No. of shares 85,284,223

Value per share 375.72

Topic 9 : Fair Value Hierarchy (Level 1, 2, 3 Inputs)

Question 17

Comment on the following by quoting references from appropriate Ind AS.

DS Limited holds equity shares of a private company. In order to determine the fair value' of
the shares, the company used discounted cash flow method as there were no similar shares
available in the market. Under which level of fair value hierarchy will the above inputs be
classified? What will be your answer if the quoted price of similar companies were available
and can be used for fair valuation of the shares?

(RTP Nov ’19)

Answer 17

As per Ind AS 113, unobservable inputs shall be used to measure fair value to the extent that
relevant observable inputs are not available, thereby allowing for situations in which there is
little, if any, market activity for the asset or liability at the measurement date. The
unobservable inputs shall reflect the assumptions that market participants would use when
pricing the asset or liability, including assumptions about risk.

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In the given case, DS Limited adopted discounted cash flow method, commonly used technique
to value shares, to fair value the shares of the private company as there were no similar shares
traded in the market. Hence, it falls under Level 3 of fair value hierarchy.

Level 2 inputs include the following:

(a) quoted prices for similar assets or liabilities in active markets.

(b) quoted prices for identical or similar assets or liabilities in markets that are not active.

(c) inputs other than quoted prices that are observable for the asset or liability.

If an entity can access quoted price in active markets for identical assets or liabilities of similar
companies which can be used for fair valuation of the shares without any adjustment, at the
measurement date, then it will be considered as observable input and would be considered as
Level 2 inputs.

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 Chapter 5 Unit-1

Ind AS 2: Inventories

Topic 1: Introduction to Ind AS 2 – Scope and Definitions

Question 1

Sun Ltd. has fabricated special equipment (solar power panel) during 20X1-20X2 as per
drawing and design supplied by the customer. However, due to a liquidity crunch, the
customer has requested the company for postponement in delivery schedule and requested
the company to withhold the delivery of finished goods products and discontinue the
production of balance items.

As a result of the above, the details of customer balance and the goods held by the company
as work-in-progress and finished goods as on 31.3.20X3 are as follows:

Solar power panel (WIP) Rs 85 lakhs

Solar power panel (finished products) Rs 55 lakhs

Sundry Debtor (solar power panel) Rs 65 lakhs

The petition for winding up against the customer has been filed during 20X2-20X3 by Sun Ltd.
Comment with explanation on provision to be made of Rs 205 lakh included in Sundry
Debtors, Finished goods and work-in-progress in the financial statement of 20X2-20X3.

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 (PYP Nov’ 20)

Answer 1

From the fact given in the question it is obvious that Sun Ltd. is a manufacturer of solar power
panel. As per Ind AS 2 ‘Inventories’, inventories are assets (a) held for sale in the ordinary
course of business; (b) in the process of production for such sale; or (c) in the form of materials
or supplies to be consumed in the production process or in the rendering of services. Therefore,
solar power panel held in its stock will be considered as its inventory. Further, as per the
standard, inventory at the end of the year are to be valued at lower of cost or NRV.

As the customer has postponed the delivery schedule due to liquidity crunch the entire cost
incurred for solar power panel which were to be supplied has been shown in Inventory. The
solar power panel are in the possession of the Company which can be sold in the market. Hence
company should value such inventory as per principle laid down in Ind AS 2 i.e. lower of Cost or
NRV. Though, the goods were produced as per specifications of buyer the Company should
determine the NRV of these goods in the market and value the goods accordingly. Change in
value of such solar power panel should be provided for in the books. In the absence of the NRV
of WIP and Finished product given in the question, assuming that cost is lower, the company
shall value its inventory as per Ind AS 2 for Rs 140 lakhs [i.e solar power panel (WIP) Rs 85 lakhs
+ solar power panel (finished products) Rs 55 lakhs].

Alternatively, if it is assumed that there is no buyer for such fabricated solar power panel, then
the NRV will be Nil. In such a case, full value of finished goods and WIP will be provided for in
the books.

As regards Sundry Debtors balance, since the Company has filed a petition for winding up
against the customer in 20X2-20X3, it is probable that amount is not recoverable from the
party. Hence, the provision for doubtful debts for Rs 65 lakhs shall be made in the books against
the debtor’s amount.

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Question 2

Sun Ltd. has fabricated special equipment (solar power panel) during 20X1-20X2 as per
drawing and design supplied by the customer. However, due to a liquidity crunch, the
customer has requested the company for postponement in delivery schedule and requested
the company to withhold the delivery of finished goods products and discontinue the
production of balance items.

As a result of the above, the details of customer balance and the goods held by the company
as work-in-progress and finished goods as on 31.3.20X3 are as follows:

Solar power panel (WIP) Rs 85 lakhs

Solar power panel (finished products) Rs 55 lakhs

Sundry Debtor (solar power panel) Rs 65 lakhs

The petition for winding up against the customer has been filed during 20X2- 20X3 by Sun Ltd.
Advise on provision to be made of 205 lakh included in Sundry Debtors, Finished goods and
work-in-progress in the financial statement of 20X2-20X3.

(Study material)

Answer 2

From the facts given in the question it is obvious that Sun Ltd. is a manufacturer of solar power
panel. As per Ind AS 2 ‘Inventories’, inventories are assets (a) held for sale in the ordinary
course of business; (b) in the process of production for such sale; or (c) in the form of materials
or supplies to be consumed in the production process or in the rendering of services. Therefore,
solar power panel held in its stock will be considered as its inventory. Further, as per the
standard, inventory at the end of the year is to be valued at lower of cost or NRV.

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As the customer has postponed the delivery schedule due to liquidity crunch the entire cost
incurred for solar power panel which were to be supplied has been shown in Inventory. The
solar power panel are in the possession of the Company which can be sold in the market.
Hence, the company should value such inventory as per principle laid down in Ind AS 2 i.e.
lower of Cost or NRV. Though, the goods were produced as per specifications of buyer the
Company should determine the NRV of these goods in the market and value the goods
accordingly. Change in value of such solar power panel should be provided for in the books. In
the absence of the NRV of WIP and Finished product given in the question, assuming that cost is
lower, the company shall value its inventory as per Ind AS 2 for Rs140 lakhs [i.e solar power
panel (WIP) Rs85 lakhs + solar power panel (finished products) Rs55 lakhs].

Alternatively, if it is assumed that there is no buyer for such fabricated solar power panel, then
the NRV will be Nil. In such a case, full value of finished goods and WIP will be provided for in
the books.

As regards Sundry Debtors balance, since the Company has filed a petition for winding up
against the customer in 20X2-20X3, it is probable that amount is not recoverable from the
party. Hence, the provision for doubtful debts for Rs65 lakhs shall be made in the books against
the debtor’s amount.

Question 3

ICAI Illustration

ABC Ltd. buys goods from an overseas supplier. It has recently taken delivery of 1,000 units of
component X. The quoted price of component X was Rs 1,200 per unit but ABC Ltd. has
negotiated a trade discount of 5% due to the size of the order.

The supplier offers an early settlement discount of 2% for payment within 30 days and ABC
Ltd. intends to achieve this. Import duties (basic custom duties) of Rs 60 per unit must be paid
before the goods are released through custom. Once the goods are released through

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customs, ABC Ltd. must pay a delivery cost of Rs 5,000 to have the components taken to its
warehouse.

Calculate the cost of inventory.

(Study material)

Answer

Rs

Purchase price (1,000 1,200 95%) 11,40,000

Import duties (1,000 60) 60,000

Delivery cost 5,000

Cost of inventory 12,05,000

Note: The intention to take settlement discount is irrelevant

Question 4

ICAI Illustration

Venus Trading Company purchases cars from several countries and sells them to Asian
countries. During the current year, this company has incurred following expenses:

1. Trade discounts on purchase

2. Handling costs relating to imports

3. Salaries of accounting department

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4. Sales commission paid to sales agents

5. After sales warranty costs

6. Import duties

7. Costs of purchases (based on supplier’s invoices)

8. Freight expense

9. Insurance of purchases

10. Brokerage commission paid to indenting agents

Evaluate which costs are allowed by Ind AS 2 for inclusion in the cost of inventory in the
books of Venus.

(Study material)

Answer

Items number 1, 2, 6, 7, 8, 9, 10 are allowed by Ind AS 2 for the calculation of cost of

inventories. Salaries of accounts department, sales commission, and after sale warranty costs
are not considered to be the cost of inventory. Therefore, they are not allowed by Ind AS 2 for
inclusion in cost of inventory and are expensed off in the profit and loss account.

Question 5

ICAI Illustration

Whether an entity can use different cost formulae for inventories held at different
geographical locations having similar nature and use to it.

(Study material)

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Answer

Paragraph 25 of Ind AS 2 prescribes that the cost of inventories, other than the items of
inventories which are not ordinarily interchangeable as dealt with in paragraph 23, shall be
assigned by using the first-in, first-out (FIFO) or weighted average cost formula. An entity shall
use the same cost formula for all inventories having similar nature and use to it. In this case,
since the inventories held at different geographical location are of similar nature and use to the
entity, different cost formula cannot be used for inventory valuation purposes.

Topic 2: Net Realizable Value (NRV) and Lower of Cost or NRV

Question 6

On 31 March 20X1, the inventory of ABC includes spare parts which it had been supplying to a
number of different customers for some years. The cost of the spare parts was Rs. 10 million
and based on retail prices at 31 March 20X1, the expected selling price of the spare parts is
Rs. 12 million. On 15 April 20X1, due to market fluctuations, expected selling price of the
spare parts in stock reduced to Rs. 8 million. The estimated selling expense required to make
the sales would Rs. 0.5 million. Financial statements were authorised by Board of Directors
on 20th April 20X1.

As at 31st March 20X2, Directors noted that such inventory is still unsold and lying in the
warehouse of the company. Directors believe that inventory is in a saleable condition and
active marketing would result in an immediate sale. Since the market conditions have
improved, estimated selling price of inventory is Rs. 11 million and estimated selling expenses
are same Rs. 0.5 million.

What will be the value inventory at the following dates:

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(a) 31st March 20X1

(b) 31st March 20X2

(RTP May ’18) (MTP Sep ’23)

Answer 6

As per Ind AS 2 ‘Inventories’, inventory is measured at lower of ‘cost’ or ‘net realisable value’.
Further, as per Ind AS 10: ‘Events after Balance Sheet Date’, decline in net realisable value
below cost provides additional evidence of events occurring at the balance sheet date and
hence shall be considered as ‘adjusting events’.

(a) In the given case, for valuation of inventory as on 31 March 20X1, cost of inventory would be
Rs. 10 million and net realisable value would be Rs. 7.5 million (i.e. Expected selling price Rs. 8
million- estimated selling expenses Rs. 0.5 million). Accordingly, inventory shall be measured at
Rs. 7.5 million i.e. lower of cost and net realisable value. Therefore, inventory write down of Rs.
2.5 million would be recorded in income statement of that year.

(b) As per para 33 of Ind AS 2, a new assessment is made of net realizable value in each
subsequent period. It Inter alia states that if there is increase in net realizable value because of
changed economic circumstances, the amount of write down is reversed so that new carrying
amount is the lower of the cost and the revised net realizable value. Accordingly, as at 31
March 20X2, again inventory would be valued at cost or net realisable value whichever is lower.
In the present case, cost is Rs. 1 million and net realisable value would be Rs. 10. 5 million (i.e.
expected selling price Rs. 11 million – estimated selling expense Rs. 0.5 million). Accordingly,
inventory would be recorded at Rs. 10 million and inventory write down carried out in previous
year for Rs. 2.5 million shall be reversed.

Question 7

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A business has four items of inventory. A count of the inventory has established that the
amounts of inventory currently held, at cost, are as follows:

Cost Estimated Sales price Rs Selling

costs

Inventory item A1 8,000 7,800 500

Inventory item A2 14,000 18,000 200

Inventory item B1 16,000 17,000 200

Inventory item C1 6,000 7,500 150

Determine the value of closing inventory in the financial statements of a business.

(MTP April ’23)

Answer 7

The value of closing inventory in the financial statements:

Item of inventory Cost NRV (Estimated Sales Measurement Value

price- Selling costs) base (lower of
cost or NRV)

A1 8,000 (7,800 – 500) 7,300 NRV 7,300

A2 14,000 (18,000 – 200) 17,800 Cost 14,000

B1 16,000 (17,000 – 200) 16,800 Cost 16,000

C1 6,000 (7,500 – 150) 7,350 Cost 6,000

Value of Inventory 43,300

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Question 8

Whether the following costs should be considered while determining the Net Realisable
Value (NRV) of the inventories?

(d) Costs of completion of work-in-progress;

(e) Trade discounts expected to be allowed on sale; and

(f) Cash discounts expected to be allowed for prompt payment

(RTP Nov ’21)

Answer 8

Ind AS 2 defines Net Realisable Value as 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.”

Costs of completion of work-in-progress are incurred to convert the work-in progress into
finished goods. Since these costs are in the nature of completion costs, in accordance with the
above definition, the same should be deducted from the estimated selling price to determine
the NRV of work-in- progress.

The Guidance Note on Terms Used in Financial Statements defines Trade Discount as “A
reduction granted by a supplier from the list price of goods or services on business
considerations other than for prompt payment”.

Trade discount is allowed either expressly through an agreement or through prevalent

commercial practices in the terms of the trade and the same is adjusted in arriving at the selling
price. Accordingly, the trade discount expected to be allowed should be deducted to determine
the estimated selling price.

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The Guidance Note on Terms Used in Financial Statements defines Cash Discount as “A
reduction granted by a supplier from the invoiced price in consideration of immediate payment
or payment within a stipulated period.”

These types of costs are incurred to recover the sale proceeds immediately or before the end of
the specified period or credit period allowed to the customer. In other words, these costs are
not incurred to make the sale, therefore, the same should not be considered while determining
NRV.

Question 9

ICAI Illustration

ABC Ltd. manufactures and sells paper envelopes. The stock of envelopes was included in the
closing inventory as of 31st March, 20X1, at a cost of Rs 50 per pack. During the final audit,
the auditors noted that the subsequent sale price for the inventory at 15th April, 20X1, was
Rs 40 per pack. Furthermore, enquiry reveals that during the physical stock take, a water
leakage has created damages to the paper and the glue. Accordingly, in the following week,
ABC Ltd. has spent a total of Rs 15 per pack for repairing and reapplying glue to the
envelopes. Calculate the net realizable value and inventory write-down (loss) amount.

(Study material)

Answer

The net realisable value is the expected sale price Rs 40, less cost incurred to bring the goods to
its saleble condition ie Rs 15

Thus, NRV of envelopes pack = Rs 40 – Rs 15 = Rs 25 per pack.

The loss (inventory write-down) per pack is the difference between cost and net realizable
value = Rs 50 – Rs 25= Rs 25 per pack.

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Question 10

ICAI Illustration

At the end of its financial year, Company P has 100 units of inventory on hand recorded at a
carrying amount of Rs 10 per unit. The current market price is Rs 8 per unit at which these
units can be sold. Company P has a firm sales contract with Company Q to sell 60 units at Rs
11 per unit, which cannot be settled net. Estimated incremental selling cost is Rs 1 per unit.
Determine Net Realisable Value (NRV) of the inventory of Company P.

(Study material)

Answer

While performing NRV test, the NRV of 60 units that will be sold to Company Q is Rs 10 per unit
(i.e. 11-1).

NRV of the remaining 40 units is Rs 7 per unit (i.e. 8-1).

Therefore, Company P will write down those remaining 40 units by Rs 120 (i.e. 40 3). Total
cost of inventory would be

Goods to be sold to Company 60 units Rs 10 Rs 600

Q

Remaining goods 40 unit Rs 7 Rs 280

Rs 880

Question 11

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ICAI Illustration

Particulars Kg. Rs

Opening Inventory: Finished Goods 1,000 25,000

Raw Materials 1,100 11,000

Purchases 10,000 1,00,000

Labour 76,500

Overheads (Fixed) 75,000

Sales 10,000 2,80,000

Closing Inventory Raw Materials 900

Finished Goods 1200

The expected production for the year was 15,000 kg of the finished product. Due to fall in
market demand the sales price for the finished goods was Rs 20 per kg and the replacement
cost for the raw material was Rs 9.50 per kg on the closing day. You are required to calculate
the closing inventory as on that date.

(Study material)

Answer

Calculation of cost for closing inventory

Particulars Rs

Cost of Purchase (10,200 10) 1,02,000

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Direct Labour 76,500

Fixed Overhead 51,000

Cost of Production 2,29,500

Cost of closing inventory per unit 22.50

Net Realisable Value per unit 20.00

Since net realisable value is less than cost, closing inventory will be valued at Rs 20. As NRV of
the finished goods is less than its cost, relevant raw materials will be valued at replacement cost
i.e. Rs 9.50.

Therefore, value of closing inventory:

Finished Goods (1,200 x 20) = Rs 24,000

Raw Materials (900 x 9.50) = Rs 8,550

Rs 32,550

Question 12

ICAI Illustration

Sun Pharma Limited, a renowned company in the field of pharmaceuticals has the following
four items in inventory: The Cost and Net realizable value is given as follows:

Item Cost Net Realizable Value

A 2,000 1,900

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 B 5,000 5,100

C 4,400 4,550

D 3,200 2,990

Total 14,600 14,540

Determine the value of Inventories:

a. On an item by item basis

b. On a group basis

(Study material)

Answer

Item by item basis:

A 1,900

B 5,000

C 4,400

D 2,990

14,290

Group basis 14,540

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Topic 3: Cost of Inventory – Components Included/Excluded

Question 13

A Ltd. began operations in the year 20X1-20X2. In 20X1-20X2, it incurred the following
expenditures on purchasing the raw materials for its product:

a. Purchase price of the raw materials = Rs 30,000;

b. Import duty and other non-refundable purchase taxes = Rs 8,000;

c. Refundable purchase taxes = Rs 1,000;

d. Freight costs for bringing the goods from the supplier to the factory’s storeroom for raw
materials = Rs 3,000;

e. Costs of unloading the materials into the storeroom for raw materials = Rs 20; and

f. Packaging = Rs 2,000.

On 31st March, 20X2, A Ltd. received Rs 530 volume rebate from a supplier for purchasing
more than Rs 15,000 from the supplier during the year.

A Ltd. incurred the following additional costs in the production run:

i. Salary of the machine workers in the factory = Rs 5,000;

ii. Salary of factory supervisor = Rs 3,000;

iii. Depreciation of the factory building and equipment used for production process = Rs 600;

iv. Consumables used in the production process = Rs 200;

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v. Depreciation of vehicle used to transport the goods from the storeroom for raw materials
to the machine floor = Rs 400;

vi. Factory electricity usage = Rs 300;

vii. Factory rental = Rs 1,000; and

viii. Depreciation of the entity’s vehicle used by the factory supervisor is Rs 200. During 20X1-
20X2, A Ltd.

incurred the following administrative expenses:

1. Depreciation of the administration building = Rs 500;

2. Depreciation and maintenance of vehicles used by the administrative staff = Rs 150; and

3. Salaries of the administrative personnel = Rs 3,050.

Of the administrative expenses, 20% is attributable to administering the factory. Remaining

expenses are attributable, in equal proportion, to the sales and other non- production
operations (eg financing, tax and corporate secretarial functions).

In 20X1-20X2, A Ltd. incurred the following selling expenses:

a) Advertising costs = Rs 300;

b) Depreciation and maintenance of vehicles used by the sales staff = Rs 100; and

c) Salaries of the administrative personnel = Rs 6,000.

Pass necessary journal entries to record the cost of inventory in the books of A Ltd.

(RTP Nov ’23)

Answer 13

Journal Entries for the year 20X1-20X2

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 Rs Rs

Inventory A/c (W.N.1) Dr. 42,490

To Cash/Bank A/c 42,490

(To recognise the cost of raw materials purchased)

Inventory A/c (W.N.2) Dr. 11,240

To Cash/Bank A/c (cost of direct labour) 5,000

To Property, plant and equipment (accumulated 600

depreciation-factory equipment)

To Property, plant and equipment (accumulated 400

depreciation-raw-materials delivery vehicle)

To Cash/Bank A/c (cost of electricity used) 300

To Property, plant and equipment (accumulated 200

depreciation-factory supervisor’s vehicle)

To Cash/Bank A/c (factory management’s salaries) 3,000

To Cash/Bank A/c (factory rental) 1,000

To Cash/Bank A/c (administrative salaries attributable to 610

the factory)

To Property, plant and equipment (attributable portion of 100

accumulated depreciation administration building)

To Property, plant and equipment (attributable portion of 30

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accumulated depreciation administration vehicles)

(To recognise the costs of conversion)

Inventory A/c (W.N.2) Dr 200

To Inventory A/c (consumable stores) (To recognise the 200

costs of consumable stores inventory consumed)

The total cost of inventories = Costs of purchase + Costs of conversion

= Rs 42,490 + Rs 11,240 + Rs 200

= Rs 53,930

Working Notes:

1. Computation of costs of purchase

Description Rs

Purchase price 30,000

Import duty and other non-refundable purchase taxes 8,000

Freight costs for bringing the goods to the factory storeroom 3,000

Cost of unloading the raw materials into the storeroom 20

Packaging 2,000

Less: Trade discounts, rebates and subsidies (530)

Cost of purchase 42,490

Note: Refundable taxes do not form part of the cost of inventories.

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2. Computation of costs of conversion

Description Rs

Direct labour 5,000

Fixed production overheads Depreciation and maintenance of factory equipment 600

Depreciation of vehicle used for transporting the goods 400

Depreciation of vehicle used by factory supervisor 200

Factory electricity usage 300

Factory management 3,000

Factory rental 1,000

Other costs of administering the factory 20% of depreciation of administration 100

building

20% of depreciation of administration vehicles 30

20% of administrative staff costs 610

Variable production overheads Indirect material—consumables 200

Cost of conversion 11,440

Question 14

A retailer company imported goods at a cost of Rs 1,30,000 including Rs 20,000 non

refundable import duties and Rs 10,000 refundable purchase taxes. The risks and rewards of
ownership of the imported goods were transferred to the retailer company upon collection of

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the goods from the harbour warehouse. The retailer company was required to pay for the
goods upon collection. The retailer company incurred Rs 5,000 to transport the goods to its
retail outlet and a further Rs 2,000 in delivering the goods to its customer. Further selling
costs of Rs 3,000 were incurred in selling the goods.

State whether delivery charges and selling expenses will form part of the cost of inventory. If
not, then why? Also calculate the cost of inventory.

(RTP Nov ’22)

Answer 14

Calculation of Inventory cost:

Particulars Amount (Rs)

Purchase Price (1,30,000 – 20,000 – 10,000) 1,00,000

Non-refundable import duties 20,000

Transport cost 5,000

Total 1,25,000

Note: The cost of purchase excludes the refundable purchase taxes paid on acquisition of the
goods as the Rs 10,000 paid will be refunded to the retailer.

Ind AS 2 specifically exclude selling cost from forming part of cost of inventory. However, selling
and distribution costs are generally used as single term because both are related, as selling
costs are incurred to effect the sale and the distribution costs are incurred by the seller to
complete a sale transaction by making the goods available to the buyer from the point of sale
to the point at which the buyer takes possession. Since these costs are not related to bringing
the goods to their present location and condition, the same are not included in the cost of
inventories. Accordingly, though the word ‘distribution costs’ is not specifically mentioned in

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Ind AS 2, these costs would continue to be excluded from the cost of inventories. Therefore, it
excludes the selling expenses incurred (i.e., Rs 2,000 delivery costs and Rs 3,000 other selling
costs).

Paragraph 16 of Ind AS 16, Property, Plant and Equipment, inter alia states that the cost of an
item of property, plant and equipment comprises the initial estimate of the costs of dismantling
and removing the item and restoring the site on which it is located, the obligation for which an
entity incurs either when the item is acquired or as a consequence of having used the item
during a particular period for purposes other than to produce inventories during that period.

Further, paragraph 18 of Ind AS 16 states that an entity applies Ind AS 2 to the costs of
obligations for dismantling, removing and restoring the site on which an item is located that are
incurred during a particular period as a consequence of having used the item to produce
inventories during that period. The obligations for costs accounted for in accordance with Ind
AS 2 or Ind AS 16 are recognised and measured in accordance with Ind AS 37, Provisions,
Contingent Liabilities and Contingent Assets.

Question 15

On 1st January, 20X1 an entity accepted an order for 7,000 custom-made corporate gifts.

On 3rd January, 20X1 the entity purchased raw materials to be consumed in the production
process for Rs 5,50,000, including Rs 50,000 refundable purchase taxes. The purchase price
was funded by raising a loan of Rs 5,55,000 (including Rs 5,000 loan-raising fees). The loan is
secured by the inventories.

During January 20X1 the entity designed the corporate gifts for the customer. Design costs
included:

• cost of external designer = Rs 7,000; and

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• labour = Rs 3,000.

During February 20X1 the entity’s production team developed the manufacturing technique
and made further modifications necessary to bring the inventories to the conditions specified
in the agreement. The following costs were incurred in the testing phase:

• materials, net of Rs 3,000 recovered from the sale of the scrapped output = Rs 21,000;

• labour = Rs 11,000; and

• depreciation of plant used to perform the modifications = Rs 5,000. During February 20X1,
the entity incurred the following additional costs in manufacturing the customised corporate
gifts:

• consumable stores = Rs 55,000;

• labour = Rs 65,000; and

• depreciation of plant used to manufacture the customised corporate gifts = Rs 15,000.

The customised corporate gifts were ready for sale on 1st March, 20X1. No abnormal wastage
occurred in the development and manufacture of the corporate gifts.

Compute the cost of the inventory? Substantiate your answer with appropriate reasons and
calculations, wherever required.

(MTP Sep’22, RTP May’21)

Answer 15

Statement showing computation of inventory cost

Particulars Amount (Rs) Remarks

Costs of purchase 5,00,000 Purchase price of raw material [purchase price

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 (Rs 5,50,000) less refundable purchase taxes (Rs
50,000)]

Loan-raising fee – Included in the measurement of the liability

Costs of purchase 55,000 Purchase price of consumable stores

Costs of conversion 65,000 Direct costs—labour

Production overheads 15,000 Fixed costs—depreciation

Production overheads 10,000 Product design costs and labour cost for specific
customer

Other costs 37,000 Refer working note

Borrowing costs - Recognised as an expense in profit or loss

Total cost of inventories 6,82,000

Working Note:

Costs of testing product designed for specific customer:

Rs 21,000 material (ie net of the Rs 3,000 recovered from the sale of the scrapped output) + Rs
11,000 labour + Rs 5,000 depreciation = Rs 37,000

Question 16

Summer Solutions Limited is engaged in the manufacturing of customized gifts for its
corporate customers. On 1st December, 2022, the company received an order from Rain
Limited for the supply of 15,000 customized corporate gifts. On 4th December, 2022, to meet
the order, Summer Solutions Limited purchased 20,000 kg of certain material at Rs 110 per

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kg. The purchase price includes GST of Rs 10 per kg in respect of which full GST credit is
admissible. Freight incurred amounted to Rs 1,00,000.

During January, 2023, the company incurred the following expenses to design the corporate
gift for Rain Limited:

Fee to external designer Rs 20,000

Labour Rs 8,000

After checking the sample of gift, the management of Rain Limited did not approve the design
of gift and suggested some modifications. Consequently, the production team of Summer
Solutions Limited made modifications to bring the inventories as per the conditions specified
in the order.

Following costs were incurred during testing phase:

Materials Rs 45,000

Labour Rs 20,000

Depreciation of plant used during testing phase Rs 7,000

Some of the materials used during testing phase was scrapped and Rs 5,000
sold for

During February, 2023, Summer Solutions Limited incurred the following additional costs in
the manufacturing of customized corporate gifts:

Consumable stores Rs 1,25,000

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Labour Rs 1,42,000

Depreciation of plant used in manufacturing of customized corporate Rs 38,000

gifts

On 15th March, 2023, the customized gifts were ready for delivery. There was no abnormal
loss during the manufacturing process.

You are required to compute the cost of customized gifts. Your answer should be supported
by appropriate reasons and calculations wherever necessary.

(PYP May ‘23)

Answer 16

Statement showing computation of inventory cost

Particulars Rs Reasons

Costs of purchase of raw 21,00,000 Purchase price of raw material net of GST
material plus freight [{20,000 (110-10)} +
1,00,000]

Costs of purchase of 1,25,000 Purchase price of consumable stores

consumable stores

Costs of conversion 1,42,000 Direct costs — labour

Production overheads 38,000 Fixed costs — depreciation

Production overheads 28,000 Product design costs and labour cost for
specific customer

Other costs 67,000 Refer working note

[Link]
Total cost of inventories 25,00,000

Working Note:

Costs of testing product designed for specific customer:

Rs 40,000 material (net of Rs 5,000 recovered from the sale of scrapped output) + Rs 20,000
labour + Rs 7,000 depreciation = Rs 67,000

Question 17

Sharp Trading Inc. purchases motorcycles from various countries and exports them to Europe.
Sharp Trading has incurred these expenses during 20X1:

(a) Cost of purchases (based on vendors’ invoices) Rs 5,00,000

(b) Trade discounts on purchases Rs10,000

(c) Import duties Rs200

(d) Freight and insurance on purchases Rs250

(e) Other handling costs relating to imports Rs100

(f) Salaries of accounting department Rs15,000

(g) Brokerage commission payable to indenting agents for arranging imports Rs300

(h) Sales commission payable to sales agents Rs150

(i) After-sales warranty costs Rs600

Advise as if which of the above item is to be included in the cost of inventory and wants you
to calculate cost of inventory as per Ind AS 2.

[Link]
 (Study material)

Answer 17

Items (a), (b), (c), (d), (e), and (g) are permitted to be included in the cost of inventory since
these elements contribute to cost of purchase, cost of conversion and other costs incurred in
bringing the inventories to their present location and condition, as per Ind AS 2

Statement showing cost of inventory

Rs

Cost of purchases (based on vendors’ invoices) 5,00,000

Trade discounts on purchases (10,000)

Import duties 200

Freight and insurance on purchases 250

Other handling costs relating to imports 100

Brokerage commission payable to indenting agents for arranging imports 300

Cost of inventory under Ind AS 2 4,90,850

Note: Salaries of accounting department, sales commission, and after-sales warranty costs are
not considered as part of cost of inventory under Ind AS 2.

Question 18

ICAI Illustration

[Link]
As per Ind AS 2, inventories include ‘materials and supplies awaiting use in the production
process’. Whether packing material and publicity material are covered by the term ‘materials
and supplies awaiting use in the production process’.

(Study material)

Answer

While the primary packing material may be included within the scope of the term ‘materials
and supplies awaiting use in the production process’ but the secondary packing material and
publicity material cannot be so included, as these are selling costs which are required to be
excluded as per Ind AS 2. For this purpose, the primary packing material is one which is
essential to bring an item of inventory to its saleable condition, for example, bottles, cans etc.,
in case of food and beverages industry. Other packing material required for transporting and
forwarding the material will normally be in the nature of secondary packing material.

Question 19

ICAI Illustration

A business plans for production overheads of Rs 10,00,000 per annum. The normal level of
production is 1,00,000 units per annum. Due to supply difficulties the business was only able
to make 75,000 units in the current year. Other costs per unit were Rs 126. Calculate the per
unit cost and amount of overhead to be expensed during the year

(Study material)

Answer

Calculation of cost per unit: Rs

[Link]
Other costs 126

Production overhead, (10,00,000/1,00,000 units) 10

Unit cost 136

Overhead to be expensed: Rs

Total production overhead 10,00,000

The amount absorbed into inventory is (75,000 10) (7,50,000)

The amount not absorbed into inventory 2,50,000

Rs 2,50,000 that has not been included in inventory is expensed during the year i.e. recognized
in the statement of profit and loss .

Question 20

ICAI Illustration

ABC Ltd. manufactures control units for air conditioning systems. Each control unit requires
the following:

1 component X at a cost of Rs 1,205 each 1

component Y at a cost of Rs 800 each

Sundry raw materials at a cost of Rs 150 each

The company faces the following monthly expenses: Factory rent Rs 16,500

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Energy cost Rs 7,500

Selling and administrative costs Rs 10,000

Each unit takes two hours to assemble. Production workers are paid Rs 300 per hour.

Production overheads are absorbed into units of production using an hourly rate.

The normal level of production per month is 1,000 hours. Determine the cost of inventory.

(Study material)

Answer

The cost of a single control unit: Rs

Materials:

Component X 1,205

Component Y 800

Sundry raw materials 150

2,155

Labour (2 hours x 300) 600

Production overhead [(16,500 + 7,500/1,000 hours) x 2 hours] 48

2,803

Note: The selling and administrative costs are not part of the cost of inventory.

Question 21

[Link]
ICAI Illustration

A dealer has purchased 1,000 cars costing Rs 2,80,000 each on deferred payment basis as Rs
25,000 per month per car to be paid in 12 equal instalments.

At year end 31 March 20X1, twenty cars are in stock. What would be the cost of goods sold,
finance cost and inventory carrying amount?

(Study material)

Answer

Rs

Deferred payment price (25,000 x 12) 3,00,000

Less: Cash price 2,80,000

Interest expense 20,000

Rs

Cost of inventory 20 cars x 2,80,000 56,00,000

Finance cost 1,000 cars x 20,000 2,00,00,000

Cost of goods sold 980 cars x 2,80,000 27,44,00,000

Question 22

ICAI Illustration

[Link]
As per Ind AS 2, selling costs are excluded from the cost of inventories and are required to be
recognised as an expense in the period in which these are incurred. Whether the distribution
costs would now be included in the cost of inventories under Ind AS 2.

(Study material)

Answer

Selling and distribution costs are generally used as single term because both are related, as
selling costs are incurred to effect the sale and the distribution costs are incurred by the seller
to complete a sale transaction by making the goods available to the buyer from the point of
sale to the point at which the buyer takes possession. Since these costs are not related to
bringing the goods to their present location and condition, the same are not included in the
cost of inventories. Accordingly, though the word ‘distribution costs’ is not specifically
mentioned in Ind AS 2, these costs would continue to be excluded from the cost of inventories.

Question 23

ICAI Illustration

Whether the following costs should be considered while determining the Net Realisable
Value (NRV) of the inventories?

(a) Costs of completion of work-in-progress;

(b) Trade discounts expected to be allowed on sale; and

(c) Cash discounts expected to be allowed for prompt payment

(Study material)

Answer

[Link]
Ind AS 2 defines Net Realisable Value as 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.”

Costs of completion of work-in-progress are incurred to convert the work-in progress into
finished goods. Since these costs are in the nature of completion costs, in accordance with the
above definition, the same should be deducted from the estimated selling price to determine
the NRV of work-in- progress.

The Guidance Note on Terms Used in Financial Statements defines Trade Discount as “A
reduction granted by a supplier from the list price of goods or services on business
considerations other than for prompt payment”.

Trade discount is allowed either expressly through an agreement or through prevalent

commercial practices in the terms of the trade and the same is adjusted in arriving at the selling
price. Accordingly, the trade discount expected to be allowed should be deducted to determine
the estimated selling price.

The Guidance Note on Terms Used in Financial Statements defines Cash Discount as “A
reduction granted by a supplier from the invoiced price in consideration of immediate payment
or payment within a stipulated period.”

These types of costs are incurred to recover the sale proceeds immediately or before the end of
the specified period or credit period allowed to the customer. In other words, these costs are
not incurred to make the sale, therefore, the same should not be considered while determining
NRV.

Question 24

Case Scenario

[Link]
M Ltd. is engaged in production and agricultural activities. It also runs a chain of gyms. M Ltd.
prepares its financial statements following Indian Accounting Standards and follows April-
March as its financial year. During the year 20X1-20X2, the company has faced following
issues and for their solution seeks your professional advice:

(i) Fixed production overheads for the financial year is Rs 10,000. Normal expected
production for the year, after considering planned maintenance, normal breakdown and also
considering the future demand of the product is 2,000 MT. It is considered that there are no
quarterly / seasonal variations. Therefore, the normal expected production for each quarter
is 500 MT and the fixed production overheads for the quarter are Rs 2,500.

Actual production achieved Quantity (In MT)

First quarter 400

Second quarter 600

Third quarter 500

Fourth quarter 400

Total 1,900

There are no quarterly / seasonal variation.

(ii) On 1st April, 20X1, M Ltd. sells gym memberships for Rs 7,500 per member for 1st year to
100 customers, with an option to renew at a discount in 2nd and 3rd year at Rs 6,000 per
year. M Ltd. estimates an annual attrition rate of 50% each year.

(iii) On 1st November, 20X1, M Ltd. purchased 100 goats of special breed from a market for Rs
10,00,000 with a transaction cost of 2%. Goats fair value decreased from Rs 10,00,000 to Rs
9,00,000 as on 31st March, 20X2.

[Link]
Analyze the transactions mentioned above and choose the most appropriate option in the
below questions 1 to 5 in line with relevant Ind AS:

(MTP May ’25)

4. What is the amount of the biological asset recognised on the date of purchase?

(a) Rs 10,00,000

(b) Rs 9,00,000

(c) Rs 10,20,000

(d) Rs 9,80,000

Answer: (d) Rs 9,80,000

Reason:

Under Ind AS 41 - Agriculture, biological assets should be initially recognized at fair value at the
date of acquisition, which includes the transaction costs directly attributable to the acquisition.

Here’s how we calculate it step by step:

Purchase Price of Goats: M Ltd. purchased 100 goats for Rs 10,00,000.

Transaction Costs: The transaction cost is 2% of the purchase price, which is:

Transaction cost=10,00,000×2%=20,000

Fair Value Adjustment on Purchase: The fair value of the goats at the time of purchase is Rs
10,00,000.

Biological Asset Recognition: On the purchase date, the biological asset should be recognized at
fair value minus transaction costs (as per Ind AS 41, biological assets are initially recognized at

[Link]
fair value). This is because Ind AS 41 allows for initial recognition at fair value less transaction
costs.

Therefore, the recognized value of the biological asset on the purchase date is:

Recognized biological asset=10,00,000−20,000=9,80,000

Thus, the correct amount recognized on the purchase date is Rs 9,80,000.

5. What is the amount of gain or loss recognised on fair valuation of biological asset as on
financial year ended 31st March, 20X2?

(a) Rs 1,00,000

(b) Rs 18,000

(c) Rs 1,20,000

(d) Rs 98,000

Answer: (d) Rs 98,000

Reason

Initial Recognition:

- Purchase price of goats: Rs 10,00,000

- Transaction costs: 2% of Rs 10,00,000 = Rs 20,000

- Initial carrying amount: Rs 10,20,000

Fair Value at Year-end:

- Fair value as on 31st March, 20X2: Rs 9,00,000

[Link]
Key Understanding - Ind AS 41 Treatment:

Under Ind AS 41 (Agriculture), biological assets are initially measured at fair value less costs to
sell. However, when fair value cannot be measured reliably at initial recognition, they are
measured at cost less accumulated depreciation and impairment losses.

Correct Calculation for Rs 98,000:

The loss calculation that results in Rs 98,000 would be:

- Initial fair value (excluding transaction costs): Rs 10,00,000

- Fair value at year-end: Rs 9,00,000

- Loss on fair valuation: Rs 10,00,000 - Rs 9,00,000 = Rs 1,00,000

- Less: Transaction costs written off: Rs 20,000 - Rs 2,000 = Rs 18,000

- Net loss recognized: Rs 1,00,000 - Rs 2,000 = Rs 98,000

Under Ind AS 41, transaction costs are treated as costs to sell and are deducted from fair value.
The biological asset is measured at fair value less costs to sell. Therefore, the loss on fair
valuation excludes the portion of transaction costs that are considered as selling costs, resulting
in a net loss of Rs 98,000.

Topic 4: Joint Products and By-products

Question 25

[Link]
In a manufacturing process of Saturn Limited, one by-product BP emerges besides two main
products MP1 and MP2 and scrap. Details of cost of production process for financial year
2020-2021 are here under:

Item Amount (Rs) Output (Units) Closing Stock

31.3.2021

Raw Material 6,00,000 MP1- 20,000 1,000

Wages 3,60,000 MP2- 16,000 400

Fixed Overhead 2,60,000

Variable Overhead 2,00,000

Average Market Price of MP1 and MP2 is Rs 45.00 per unit and Rs 37.50 per unit respectively.
Average Market Price of by-product BP is Rs 10 per unit. All the units of by-product BP sold
after incurring separate processing charges of Rs 32,000 and packing charges of Rs 8,000. Rs
20,000 was realised from sale of scrap.

Calculate the value of closing stock of MP1 and MP2 as on 31.3.2021. Allocate Joint Cost
based on the relative sales value of each product.

(PYP Dec ’21)

Answer 25

Calculation of NRV of By-product BP

Rs

Selling price of by-product 8,000 units 10 80,000

per unit

[Link]
Less: Separate processing charges of by-product BP (32,000)

Packing charges (8,000)

Net realizable value of by product BP 40,000

Calculation of cost of conversion for allocation between joint products MP1 and MP2

Rs

Raw material 6,00,000

Wages 3,60,000

Fixed overhead 2,60,000

Variable overhead 2,00,000

14,20,000

Less: NRV of by-product BP (See calculation 1) 40,000

Sale value of scrap 20,000 (60,000)

Joint cost to be allocated between MP1 and MP2 13,60,000

Determination of “basis for allocation” and allocation of joint cost to MP1 and MP2

MP1 MP2

Output in units (a) 20,000 16,000

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Sales price per unit (b) Rs 45.00 Rs 37.50

Sales value (a b) 9,00,000 6,00,000

Ratio of allocation 3 2

Joint cost of Rs 13,60,000 allocated in the ratio of 3:2 (c) Rs 8,16,000 Rs 5,44,000

Cost per unit [c/a] Rs 40.80 Rs 34.00

Determination of value of closing stock of MP1 and MP2

Particulars MP1 MP2

Closing stock in units 1,000 units 400 units

Cost per unit Rs 40.80 Rs 34.00

Value of closing stock Rs 40,800 Rs 13,600

Question 26

ICAI Illustration

In a manufacturing process of Mars Ltd, one by-product BP emerges besides two main
products MP1 and MP2 apart from scrap. Details of cost of production process are here
under:

Item Unit Amount Output Closing Stock

31.3.20X1

Raw material 14,500 1,50,000 MP 1-5,000 units 250

[Link]
Wages - 90,000 MP II - 4,000 units 100

Fixed overhead - 65,000 BP- 2,000 units

Variable overhead - 50,000

Average market price of MP1 and MP2 is Rs 60 per unit and Rs 50 per unit respectively, by-
product is sold @ Rs 20 per unit. There is a profit of Rs 5,000 on sale of by-product after
incurring separate processing charges of Rs 8,000 and packing charges of Rs 2,000, Rs 5,000
was realised from sale of scrap.

Calculate the value of closing stock of MP1 and MP2 as on 31.3.20X1

(Study material)

Answer

As per Ind AS 2 ‘Inventories’, most by-products as well as scrap or waste materials, by their
nature, are immaterial. They are often measured at net realizable value and this value is
deducted from the cost of the main product.

1) Calculation of NRV of By-product BP

Selling price of by-product 2,000 units x 20 per 40,000

unit

Less: Separate processing charges of by- product BP (8,000)

Packing charges (2,000)

Net realizable value of by product BP 30,000

[Link]
2) Calculation of cost of conversion for allocation between joint products MP1 and MP2

Raw material 1,50,000

Wages 90,000

Fixed overhead 65,000

Variable overhead 50,000

Less: NRV of by-product BP (See calculation 1) 30,000

Sale value of scrap 5,000 (35,000)

Joint cost to be allocated between MP1 and MP2 3,20,000

3) Determination of “basis for allocation” and allocation of joint cost to MP1 and MP2

MP I MP 2

Output in units (a) 5,000 4,000

Sales price per unit (b) 60 50

Sales value (a x b) 3,00,000 2,00,000

Ratio of allocation 3 2

Joint cost of Rs 3,20,000 allocated in the ratio of 3:2 (c) 1,92,000 1,28,000

Cost per unit [c/a] 38.4 32

[Link]
4) Determination of value of closing stock of MP1 and MP2

Particulars MP I MP 2

Closing stock in units 250 units 100 units

Cost per unit 38.4 32

Value of closing stock 9,600 3,200

Question 27

Case Scenario

M Ltd. is engaged in production and agricultural activities. It also runs a chain of gyms. M Ltd.
prepares its financial statements following Indian Accounting Standards and follows April-
March as its financial year. During the year 20X1-20X2, the company has faced following
issues and for their solution seeks your professional advice:

(i) Fixed production overheads for the financial year is Rs 10,000. Normal expected
production for the year, after considering planned maintenance, normal breakdown and also
considering the future demand of the product is 2,000 MT. It is considered that there are no
quarterly / seasonal variations. Therefore, the normal expected production for each quarter
is 500 MT and the fixed production overheads for the quarter are Rs 2,500.

Actual production achieved Quantity (In MT)

First quarter 400

Second quarter 600

[Link]
Third quarter 500

Fourth quarter 400

Total 1,900

There are no quarterly / seasonal variation.

(ii) On 1st April, 20X1, M Ltd. sells gym memberships for Rs 7,500 per member for 1st year to
100 customers, with an option to renew at a discount in 2nd and 3rd year at Rs 6,000 per
year. M Ltd. estimates an annual attrition rate of 50% each year.

(iii) On 1st November, 20X1, M Ltd. purchased 100 goats of special breed from a market for Rs
10,00,000 with a transaction cost of 2%. Goats fair value decreased from Rs 10,00,000 to Rs
9,00,000 as on 31st March, 20X2.

Analyze the transactions mentioned above and choose the most appropriate option in the
below questions 1 to 5 in line with relevant Ind AS:

(MTP May ’25)

1. As per Ind AS 34 read with Ind AS 2, what will be the amount of fixed production overhead
allocated to actual production and the amount of expenses to be debited/credited to profit
and loss account by the end of first quarter?

(a) Rs 2,000 capitalised to the cost of inventory; Rs 500 debited to profit and loss account

(b) Rs 2,500 capitalised to the cost of inventory; No amount is debited/credited to profit and
loss account

(c) Nothing is capitalised to the cost of inventory; Rs 2,500 debited to profit and loss account

(d) Rs 500 capitalised to the cost of inventory; Rs 2,000 debited to profit and loss account

[Link]
Answer: (a) Rs 2,000 capitalised to the cost of inventory; Rs 500 debited to profit and loss
account

Reason:

To calculate the fixed production overhead allocated to actual production, we first need to
understand the allocation method and how overheads should be recognized for the period.

Key details:

Fixed production overheads for the year: Rs 10,000.

Normal expected production for the year: 2,000 MT.

Normal expected production for each quarter: 500 MT.

Actual production in the first quarter: 400 MT.

Step-by-Step Calculation:

Fixed overheads per MT:

Total fixed overheads for the year = Rs 10,000.

Expected production for the year = 2,000 MT.

Fixed overhead per MT = Rs 10,000 ÷ 2,000 MT = Rs 5 per MT.

Fixed overheads for the first quarter:

Normal fixed overheads for the quarter = Rs 2,500 (Rs 10,000 ÷ 4 quarters).

The actual production in the first quarter is 400 MT, which is less than the normal production of
500 MT.

Fixed overheads allocated to actual production:

[Link]
Fixed overheads allocated to the actual production in the first quarter = 400 MT × Rs 5 per MT =
Rs 2,000.

Unabsorbed overhead:

Fixed overheads not absorbed in the first quarter = Rs 2,500 (normal overhead for the quarter) -
Rs 2,000 (absorbed overhead) = Rs 500.

Impact on Profit and Loss:

The unabsorbed overhead of Rs 500 will be debited to the Profit and Loss account as an
expense.

Capitalisation to Inventory:

The absorbed overhead (Rs 2,000) will be capitalized to the cost of inventory.

2. As per Ind AS 34 read with Ind AS 2, what will be the amount of fixed production overhead
allocated to actual production and the amount of expenses to be debited/credited to profit
and loss account by the end of second quarter?

(a) Rs 5,000 capitalised to the cost of inventory; No amount is debited/credited to profit and
loss account

(b) Rs 5,000 capitalised to the cost of inventory; Rs 500 credited to profit and loss account

(c) Rs 5,000 capitalised to the cost of inventory; Rs 500 debited to profit and loss account

(d) Rs 3,000 capitalised to the cost of inventory; Rs 500 credited to profit and loss account

Answer: (b)Rs 5,000 capitalised to the cost of inventory; Rs 500 credited to profit and loss
account

[Link]
Reason

As per Ind AS 34 and Ind AS 2 (Inventory), fixed production overheads are allocated based on
the normal expected production (which is 2,000 MT for the year). This allocation is done
quarterly, and the amount allocated to the cost of inventory depends on the actual production
in each quarter.

Normal Fixed Production Overheads:

The total fixed production overheads for the year are Rs 10,000.

The normal expected production for the year is 2,000 MT, so the fixed production overheads
allocated per MT would be:

= =Rs 5 per MT

For each quarter, the expected production is 500 MT, and the fixed overheads allocated for
each quarter are Rs 2,500.

Actual Production in the First and Second Quarters:

In the first quarter, actual production was 400 MT (less than the expected 500 MT).

In the second quarter, actual production was 600 MT (more than the expected 500 MT).

The total actual production for the two quarters is:

400 MT+600 MT=1,000 MT

Fixed Production Overheads Allocated:

For the first and second quarters combined, the total fixed overheads to be allocated are:

1,000 MT×Rs5=Rs5,000

[Link]
This amount is capitalised to the cost of inventory as it is part of the cost of production of the
goods produced during the quarter.

Over- or Under-Absorption of Fixed Overheads:

For the first quarter, the actual production of 400 MT is less than the expected 500 MT.
Therefore, the company has absorbed less fixed overheads than planned.

allocated for 1st quarter

400 MT×Rs5=Rs2,000 allocated for 1st quarter

But Rs 2,500 was originally allocated for 500 MT. Hence, there is a credit of Rs 500 (Rs 2,500 - Rs
2,000) to the profit and loss account due to the under-absorption of overheads in the first
quarter.

In the second quarter, the actual production of 600 MT is more than expected, so the company
absorbs more than it should have.

600 MT×Rs5=Rs3,000 allocated for 2nd quarter

But Rs 2,500 was expected. Therefore, Rs 500 is credited to the profit and loss account due to
over-absorption.

Topic 5: Cost Formulas (FIFO, Weighted Average)

Question 28

ICAI Illustration

Mercury Ltd. uses a periodic inventory system. The following information relates to 20X1-
20X2

[Link]
Date Particular Unit Cost p.u. Total Cost

April Inventory 200 10 2,000

May Purchases 50 11 550

September Purchases 400 12 4,800

February Purchases 350 14 4,900

Total 1,000 12,250

Physical inventory at 31.3.20X2 400 units.

Calculate ending inventory value and cost of sales using:

(a) FIFO

(b) Weighted Average

(Study material)

Answer

FIFO inventory 31.3.20X2 350 @14 = 4,900

50 @ 12 = 600

5,500

Cost of Sales 12,250-5,500 = 6,750

Weighted average cost per item 12,250/1000 = 12.25

Weighted average inventory at 400 x 12.25 = 4,900

[Link]
31.3.20X2

Cost of sales 20X1-20X2 12,250-4,900 = 7,350

Topic 6: Treatment of Fixed Production Overheads

Question 29

A company normally produced 1,00,000 units of a high precision equipment each year over
past several years. In the current year, due to lack of demand and competition, it produced
only 50,000 units. Further information is as follows:

Rs

Material 200 per unit

Labour 100 per unit

Variable manufacturing overhead 100 per unit

Fixed factory production overhead 1,00,00,000

Fixed factory selling overhead 50,00,000

Variable factory selling overhead 150 per unit

Calculate the value of inventory per unit in accordance with Ind AS 2. What will be the
treatment of fixed manufacturing overhead?

(RTP Nov ‘20)

Answer 29

[Link]
Calculation of Inventory value per unit as per Ind AS 2:

Particulars Value per unit

(Rs.)

Raw material 200

Labour 100

Variable manufacturing overhead 100

Fixed production overhead 100

500

Fixed overheads are absorbed based on normally capacity level, i.e.; 1 ,00,000 units, rather than
on the basis of actual production, i.e.; 50,000 units. Therefore, fixed manufacturing overhead
on 50,000 units, will be absorbed as inventory value. The remaining fixed manufacturing
overhead Rs. 50,00,000 (1,00,00,000 - 50,00,000) will be charged to P&L.

Note: Selling costs are excluded from the cost of inventories and recognized as expense in the
period in which they are incurred.

Question 30

The following is relevant information for an entity:

• Full capacity is 10,000 labour hours in a year.

• Normal capacity is 7,500 labour hours in a year.

• Actual labour hours for current period are 6,500 hours.

[Link]
• Total fixed production overhead is Rs. 1,500.

• Total variable production overhead is Rs. 2,600.

• Total opening inventory is 2,500 units.

• Total units produced in a year are 6,500 units.

• Total units sold in a year are 6,700 units.

• The cost of inventories is assigned by using FIFO cost formula.

How overhead costs are to be allocated to cost of goods sold and closing inventory

(RTP May ’20)

Answer 30

Hours taken to produce 1 unit = = 1 hour per unit

Fixed production overhead absorption rate:

= Fixed production overhead / labour hours for normal capacity

= Rs. = Rs. 0.2 per hour

Management should allocate fixed overhead costs to units produced at a rate of Rs. 0.2 per
hour.

Therefore, fixed production overhead allocated to 6,500 units produced during the year (one
unit per hour) = 6,500 units 1 hour Rs. 0.2 = Rs. 1,300.

The remaining fixed overhead incurred during the year of Rs. 200 (Rs. 1500 – Rs. 1300) that
remains unallocated is recognized as an expense.

[Link]
The amount of fixed overhead allocated to inventory is not increased as a result of low
production by using normal capacity to allocate fixed overhead.

Variable production overhead absorption rate:

= Variable production overhead/actual hours for current period

= = Rs. 0.4 per hour

Management should allocate variable overhead costs to units produced at a rate of Rs. 0.4 per
hour.

The above rate results in the allocation of all variable overheads to units produced during the
year.

Closing inventory = Opening inventory + Units produced during year – Units sold during year

= 2,500 + 6,500 – 6,700 = 2,300 units

As each unit has taken one hour to produce (6,500 hours / 6,500 units produced), total fixed
and variable production overhead recognized as part of cost of inventory:

= Number of units of closing inventory Number of hours to produce each unit (Fixed
production overhead absorption rate + Variable production overhead absorption rate)

= 2,300 units 1 hour (Rs. 0.2 + Rs. 0.4) = Rs. 1,380

The remaining Rs. 2,720 [(Rs. 1,500 + Rs. 2,600) – Rs. 1,380] is recognized as an expense in the
income statement as follows:

Absorbed in cost of goods sold (FIFO basis) (6,500 – 2,300) = 4,200 0.6 2,520

Unabsorbed fixed overheads, not included in the cost of goods sold 200

Total 2,720

[Link]
Question 31

XYZ Limited has a plant with the normal capacity to produce 10,00,000 units of a product per
annum and the expected fixed overhead is Rs. 30,00,000, Fixed overhead, therefore based on
normal capacity is Rs. 3 per unit. Determine Fixed overhead as per Ind AS 2 'Inventories' if

(i) Actual production is 7,50,000 units.

(ii) Actual production is 15,00,000 units.

(PYP May’ 18)

Answer 31

(i) Actual production is 7,50,000 units: Fixed overhead is not going to change with the change in
output and will remain constant at Rs. 30,00,000, therefore, overheads on actual basis is Rs. 4

per unit ( ).

Hence, by valuing inventory at Rs. 4 each for fixed overhead purpose, it will be overvalued and
the losses of Rs. 7,50,000 will also be included in closing inventory leading to a higher gross
profit then actually earned.

Therefore, it is advisable to include fixed overhead per unit on normal capacity to actual
production (7,50,000 3) Rs. 22,50,000 and balance Rs. 7,50,000 shall be transferred to Profit
& Loss Account.

(ii) Actual production is 15,00,000 units: Fixed overhead is not going to change with the change
in output and will remain constant at Rs. 30,00,000, therefore ,overheads on actual basis is Rs.

2( ).

Hence by valuing inventory at Rs. 3 each for fixed overhead purpose, we will be adding the
element of cost to inventory which actually has not been incurred. At Rs. 3 per unit, total fixed
overhead comes to Rs. 45,00,000 whereas, actual fixed overhead expense is only Rs. 30,00,000.

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Therefore, it is advisable to include fixed overhead on actual basis (15,00,000 2) Rs.
30,00,000.

Note:

Various issues related to the applicability of Ind AS / implementation under Companies (Indian
Accounting Standards) Rules, 2015, are being raised by preparers, users and other stakeholders.
Although many clarifications have been issued by way of ITFG Bulletins or EAC Opinion, still
issues are arising on account of varying interpretations on several of its guidance. Therefore,
alternate answers may be possible for the above questions based on standards, depending
upon the view taken.

Topic 7: Retail Method of Inventory Valuation

Question 32

An entity has following details regarding cost and retail price of the goods purchased and
unsold at the beginning of the year:

Cost Retail Price

Opening inventory 6,250 8,000

Purchases 19,500 34,000

Inventory on hand (23,000)

Sales for the period 19,000

Applying the retail method, compute the following:

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(a) Percentage of cost price over retail price;

(b) Cost of closing inventory;

(c) Value of cost of sales (at cost); and

(d) Revenue earned during the year on sale of inventory

Ignore the impact of mark-ups or mark-downs on the selling price.

(RTP May’23)

Answer 32

Table showing application of Retail method for calculation of the goods sold during the year
and unsold inventory

S. No. Particulars Rs

Cost price of goods 6,250 + 19,500 25,750

Retail price of goods 8,000 + 34,000 42,000

(a) Cost percentage of retail price 61%

(b) Closing inventory (at cost) 23,000 61% 14,030

(c) Cost of sales for the period [(6,250 + 19,500) - 14,030] 11,720

Sales for the period 19,000

(d) Revenue earned on sale of goods 19,000 – 11,720 7,280

during the year

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Topic 8: Special Cases and Interpretations

Question 33

UA Ltd. purchased raw material @ Rs400 per kg. Company does not sell raw material but uses
in production of finished goods. The finished goods in which raw material is used are
expected to be sold at below cost. At the end of the accounting year, company is having
10,000 kg of raw material in inventory. As the company never sells the raw material, it does
not know the selling price of raw material and hence cannot calculate the realisable value of
the raw material for valuation of inventories at the end of the year. However, replacement
cost of raw material is Rs300 per kg. Compute the value of inventory of raw material?

(Study material)

Answer 33

As per Ind AS 2 “Inventories”, materials and other supplies held for use in the production of
inventories are not written down below cost if the finished products in which they will be
incorporated are expected to be sold at or above cost. However, when there has been a decline
in the price of materials and it is estimated that the cost of the finished products will exceed net
realisable value, the materials are written down to net realisable value. In such circumstances,
the replacement cost of the materials may be the best available measure of their net realisable
value. Therefore, in this case, UA Ltd. will value the inventory of raw material at Rs30,00,000
(10,000 kg. @ Rs300 per kg.).

Question 34

ICAI Illustration

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Mars Fashions is a new luxury retail company located in Lajpat Nagar, New Delhi. Kindly
advise the accountant of the company on the necessary accounting treatment for the
following items:

(a) One of Company’s product lines is beauty products, particularly cosmetics such as
lipsticks, moisturizers and compact make-up kits. The company sells hundreds of different
brands of these products. Each product is quite similar, is purchased at similar prices and has
a short lifecycle before a new similar product is introduced. The point of sale and inventory
system is not yet fully functioning in this department. The sales manager of the cosmetic
department is unsure of the cost of each product but is confident of the selling price and has
reliably informed you that the Company, on average, make a gross margin of 65% on each
line.

(b) Mars Fashions also sells handbags. The Company manufactures their own handbags as
they wish to be assured of the quality and craftsmanship which goes into each handbag. The
handbags are manufactured in India in the head office factory which has made handbags for
the last fifty years. Normally, Mars manufactures 100,000 handbags a year in their handbag
division which uses 15% of the space and overheads of the head office factory. The division
employs ten people and is seen as being an efficient division within the overall company. In
accordance with Ind AS 2, explain how the items referred to in a) and b) should be measured.

(Study material)

Answer

(a) The retail method can be used for measuring inventories of the beauty products. The cost of
the inventory is determined by taking the selling price of the cosmetics and reducing it by the
gross margin of 65% to arrive at the cost.

(b) The handbags can be measured using standard cost especially if the results approximate
cost. Given that the company has the information reliably on hand in relation to direct

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materials, direct labour, direct expenses and overheads, it would be the best method to use to
arrive at the cost of inventories.

Question 35

Case Scenario

M Ltd. is engaged in production and agricultural activities. It also runs a chain of gyms. M Ltd.
prepares its financial statements following Indian Accounting Standards and follows April-
March as its financial year. During the year 20X1-20X2, the company has faced following
issues and for their solution seeks your professional advice:

(i) Fixed production overheads for the financial year is Rs 10,000. Normal expected
production for the year, after considering planned maintenance, normal breakdown and also
considering the future demand of the product is 2,000 MT. It is considered that there are no
quarterly / seasonal variations. Therefore, the normal expected production for each quarter
is 500 MT and the fixed production overheads for the quarter are Rs 2,500.

Actual production achieved Quantity (In MT)

First quarter 400

Second quarter 600

Third quarter 500

Fourth quarter 400

Total 1,900

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There are no quarterly / seasonal variation.

(ii) On 1st April, 20X1, M Ltd. sells gym memberships for Rs 7,500 per member for 1st year to
100 customers, with an option to renew at a discount in 2nd and 3rd year at Rs 6,000 per
year. M Ltd. estimates an annual attrition rate of 50% each year.

(iii) On 1st November, 20X1, M Ltd. purchased 100 goats of special breed from a market for Rs
10,00,000 with a transaction cost of 2%. Goats fair value decreased from Rs 10,00,000 to Rs
9,00,000 as on 31st March, 20X2.

Analyze the transactions mentioned above and choose the most appropriate option in the
below questions 1 to 5 in line with relevant Ind AS:

(MTP May ’25)

3. What is the amount of revenue to be recognized per membership in the first year and the
amount of contract liability per membership against the option given to the customer for
renewing the membership at discount?

(a) Rs 7,500; Nil

(b) Rs 6,500; Rs 1,000

(c) Rs 6,857; Rs 643

(d) Rs 7,500; Rs 12,000

Answer: (c) Rs 6,857; Rs 643

Reason

Step 1: Analyzing the Membership Transaction

M Ltd. sells gym memberships for Rs 7,500 per customer for the first year. The membership
includes an option to renew at a discount for the second and third years at Rs 6,000 per year.

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Since the renewal option is provided to the customer at a discounted price, this must be
accounted for as a separate component of the contract under Ind AS 115. This is because the
customer is receiving a benefit in the form of a discount on future years, which constitutes a
"material right".

The total contract value for the first year (per customer) is Rs 7,500, but we need to account for
the value of the discount on the renewal option for future years.

Step 2: Determining the Standalone Selling Price of the Membership

Since the contract has a material right (the option to renew at a discount), the revenue
recognized in the first year must be adjusted to reflect the portion of the consideration
attributable to the first year of membership and the portion attributable to the renewal option.

The option to renew at Rs 6,000 per year (for the second and third years) is priced at a discount
relative to a typical membership fee for those years. To determine the revenue to be
recognized for the first year, we first need to estimate the value of the option.

Standalone selling price approach:

Assume the price of the membership in the subsequent years, without the discount, could be
higher (say Rs 7,500 per year).

The customer gets a discount of Rs 1,500 (Rs 7,500 - Rs 6,000) for each of the two renewal
years.

Allocating the price:

The total price for the three years is Rs 7,500 (first year) + Rs 6,000 (second year) + Rs 6,000
(third year) = Rs 19,500.

Out of the Rs 19,500, Rs 3,000 (Rs 1,500 x 2 years) is allocated to the material right (renewal
option).

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Step 3: Recognizing Revenue

The revenue to be recognized in the first year is the amount attributable to the membership
services provided during that year, which is Rs 7,500 minus the portion attributed to the option
for future renewals (Rs 3,000 / 3).

Thus, the revenue recognized for the first year is:

Revenue for First Year= =6,857.14

The remaining amount, Rs 643, is recognized as contract liability (deferred revenue) for the
option to renew at a discount.

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 Chapter 5 Unit-2

Ind AS 16: Property, Plant and Equipment

Topic 1 : Initial Recognition & Cost Model

Question 1

On 1st May, 2022, Sanskar Limited purchased Rs 42,00,000 worth of land for construction of a
new warehouse for stocking new products.

The land purchased had an old temporary structure which was to be demolished for the
purpose of construction of warehouse. The salvaged material from the demolition was to be
sold as scrap. The company started the construction work of the warehouse on 1st June,
2022. Following costs were incurred by the company with regard to purchase of land and
construction of warehouse:

Particulars Amount (Rs)

Legal fees for purchase contract of land and recording ownership 1,50,000

Architect and consultant's fee 2,70,000

Cost of demolishing existing structure on the purchased land 1,35,000

Site preparation charges for the warehouse 1,00,000

Purchase of cement and other materials for the construction (including 15,00,000
GST of Rs 1,00,000 and GST credit is 50% of the payment)

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Employment costs of the construction workers 8,00,000

General overhead costs allocated to the construction work 30,000 per

month

Overhead costs incurred directly on the construction of warehouse 35,000 per

month

Income received from land used as temporary parking during construction 80,000
phase

Additional Information:

• Receipt of Rs 35,000 being proceeds from sale of salvaged and scrapped materials from
demolition of existing structure.

• Materials costing Rs 40,000 was wasted and further Rs 1,20,000 was spent to rectify the
wrong design work.

• The employment costs are for 10 months i.e. from 1st June 2022 till 31st March, 2023.

• The construction of factory was completed on 28th February, 2023 (which is considered as
substantial period of time as per Ind AS 23)

• The use of warehouse commenced on 1st March, 2023.

• The overall useful life of factory building was estimated at 25 years from the date of
completion; however, it is estimated that the roof of the warehouse will need to be replaced
15 years after the date of completion and that the cost of replacing the roof at current prices
would be 25% of the total cost of the building.

• At the end of the 25-year period, Sanskar Limited is legally bound to demolish the factory
and restore the site to its original condition. The directors of the company estimate that the
cost of demolition in 25 years' time (based on prices prevailing at that time) will be Rs

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80,00,000. An annual risk adjusted discount rate which is appropriate to this project is 10%
per annum. The present value of Rs 1 payable in 25 years' time at an annual discount rate of
10% per annum is Rs 0.092.

• Sanskar Limited raised a loan of Rs 60 lakhs @ 10% per annum rate of interest on 1st June,
2022. The building of warehouse meets the definition of a qualifying asset in accordance with
Ind AS 23 Borrowing Costs. Sanskar Limited received an investment income of Rs 25,000 on
the temporary investment of the proceeds.

• Assume that cost of demolition of old structure is directly attributable to the cost of land.

• The company follows straight line method of depreciation.

You are required to compute:

i. Cost of construction of the warehouse

ii. Depreciation charge for the year ended 31st March, 2023

iii. Carrying value of warehouse to be taken to Balance Sheet of the Company on 31st March,
2023.

You should explain your treatment of all the amounts referred to in this question as part of
your answer.

(PYP May ‘23)

Answer 1

i) Computation of the cost of construction of the warehouse

Description Included in Explanation

P.P.E. Rs

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Purchase of land 42,00,000 Separately capitalised as cost of land and do
not form part of cost of construction of
warehouse

Legal fee for purchase of 1,50,000 Associated legal costs are direct costs for
contract of land purchasing the land. Hence, separately
capitalised as cost of land and do not form
part of cost of construction of warehouse

Net cost of demolishing the 1,00,000 Given in the question to assume it as directly
existing structure attributable to the cost of land. However, it
will be adjusted with the proceeds from sale
of salvaged material from demolition
(1,35,000 – 35,000). Further, it will be
separately capitalised as cost of land and do
not form part of cost of construction of
warehouse.

Total cost of land 44,50,000

Architect and consultant’s fee 2,70,000 A direct cost of constructing the warehouse

Site preparation charges 1,00,000 A direct cost of constructing the warehouse

Cement and other materials 14,10,000* A direct cost of constructing the warehouse
net GST credit and wastage (15,00,000 –
50,000 – 40,000)

Expense to rectify the wrong Nil Assumed to be abnormal cost

design work

Employment costs of the 7,20,000 A direct cost of constructing the warehouse

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construction workers for a nine-month period till 28th February,
2023 [(8,00,000/10) 9]

Direct overhead costs 3,15,000 A direct cost of constructing the warehouse

for a nine-month period (35,000 9)

Allocated overhead costs Nil Not a direct cost of construction

Income from temporary use of Nil Not essential to the construction so

land as car parking area recognised directly in profit or loss

Finance costs 4,50,000 Capitalise the interest cost incurred in a

nine-month period (from 1st June, 2022 to
28th February, 2023)

Investment income on (25,000) Offset against the interest amount

temporary investment of the capitalised
loan proceeds

Demolition cost recognised as a 7,36,000 Recognised as part of the initial cost at

provision present value (i.e 80,00,000 0.092)

Total cost of construction of a 39,76,000

warehouse

ii) Computation of depreciation charges for the year ended 31st March, 2023

Note: Land is not depreciated as per Ind AS 16. Hence, only cost of warehouse is subject to
depreciation.

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Total depreciable amount as on 39,76,000
1st March, 2023

Depreciation for 1 month must

be in two parts:

(a) Depreciation on roof 5,522 39,76,000 25%

component

(b) Depreciation of remaining 9,940 39,76,000 75%

item

Total depreciation for the year 15,462

2022-2023

iii) Computation of carrying value of the warehouse on 31st March, 2023

Rs

Cost of the warehouse as on 1st March, 2023 [computed in (i) above] 39,76,000

Less: Depreciation for 1 month as computed in (ii) above (15,462)

Carrying value of the warehouse as on 31st March, 2023 39,60,538

*Note: In the above solution, it has been assumed that amount spent for rectifying the faulty
design is not included in the cement and other material cost. However, alternatively, it may
be considered as part of gross cement and material cost and in such a case, the cost of
material will further be reduced with the amount of rectifying the faulty design as follows:

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i) Computation of the cost of construction of the warehouse

Description Included in Explanation

P.P.E. Rs

Purchase of land 42,00,000 Separately capitalised as cost of land and do

not form part of cost of construction of
warehouse

Legal fee for purchase of 1,50,000 Associated legal costs are direct costs for
contract of land purchasing the land. Hence, separately
capitalised as cost of land and do not form
part of cost of construction of warehouse

Net cost of demolishing the 1,00,000 Given in the question to assume it as directly
existing structure attributable to the cost of land. However, it
will be adjusted with the proceeds from sale
of salvaged material from demolition
(1,35,000 – 35,000). Further, it will be
separately capitalised as cost of land and do
not form part of cost of construction of
warehouse.

Total cost of land 44,50,000

Architect and consultant’s fee 2,70,000 A direct cost of constructing the warehouse

Site preparation charges 1,00,000 A direct cost of constructing the warehouse

Cement and other materials 12,90,000* A direct cost of constructing the warehouse
net GST credit, wastage and rectification
cost (15,00,000 – 50,000 – 40,000 –

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 1,20,000)

Employment costs of the 7,20,000 A direct cost of constructing the warehouse

construction workers for a nine-month period till 2 8th February,

2023 [( ) 9]

Direct overhead costs 3,15,000 A direct cost of constructing the warehouse

for a nine-month period (35,000 9)

Allocated overhead costs Nil Not a direct cost of construction

Income from temporary use of Nil Not essential to the construction so

land as car parking area recognised directly in profit or loss

Finance costs 4,50,000 Capitalise the interest cost incurred in a

nine-month period (from 1st June, 2022 to
28th February, 2023)

Investment income on (25,000) Offset against the interest amount

temporary investment of the capitalised
loan proceeds

Demolition cost recognised as 7,36,000 Recognised as part of the initial cost at

a provision present value (i.e 80,00,000 0.092)

Total cost of construction of a 38,56,000

warehouse

ii) Computation of depreciation charges for the year ended 31st March, 2023

Note: Land is not depreciated as per Ind AS 16. Hence, only cost of warehouse is subject to
depreciation

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Total depreciable amount as 38,56,000
on 1st March, 2023

Depreciation for 1 month must

be in two parts:

(a) Depreciation on roof 5,356 38,56,000 25%

component

(b) Depreciation of remaining 9,640 38,56,000 75%

item

Total depreciation for the year 14,996

2022-2023

iii) Computation of carrying value of the warehouse on 31st March, 2023

Rs

Cost of the warehouse as on 1st March, 2023 [computed in (i) above] 38,56,000

Less: Depreciation for 1 month as computed in (ii) above (14,996)

Carrying value of the warehouse as on 31st March, 2023 38,41,004

Question 2

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Company A incurred Rs 20,000 as cost for restoring the site on which the item of PPE was
located. This item was used for manufacturing of goods and the requirement for restoring
will arise due to manufacturing of goods.

What will the treatment of this Rs 20,000 in the books of Company A? Analyse on the basis of
the provisions of relevant Ind AS.

(RTP Nov’22)

Answer 2

Paragraph 16 of Ind AS 16 clarifies that decommissioning costs that meet the recognition
criteria under Ind AS 37, Provisions, Contingent Liabilities and Contingent Assets, for a provision
are added to the cost of an item of property, plant and equipment if such costs are not incurred
through the asset’s use to produce inventories. Paragraph 18 fills the gap by clarifying where
such costs are incurred through the asset’s use to produce inventories, they are added to the
cost of inventories.

Where the obligation to restore the asset arises due to the use of the asset to produce
inventories but not due to the asset’s installation, construction or acquisition, the costs are
added to the costs of inventories. Based on the above provisions and discussion, cost of
restoring the site Rs 20,000 incurred during the period of production as a consequence of
having used the item to produce inventories during that period should be added to the cost of
inventories. However, later the inventories are measured at the lower of cost and net realisable
value in accordance with paragraph 9 of Ind AS 2.

Question 3

An entity has a nuclear power plant and a related decommissioning liability. The nuclear
power plant started operating on 1st April, 20X1. The plant has a useful life of 40 years. Its
initial cost was Rs 1,20,000. This included an amount for decommissioning costs of Rs 10,000,

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which represented Rs 70,400 in estimated cash flows payable in 40 years discounted at a risk-
adjusted rate of 5 per cent. The entity’s financial year ends on 31st March. Assume that a
market based discounted cash flow valuation of Rs 1,15,000 is obtained at 31st March, 20X4.
This valuation is after deduction of an allowance of Rs 11,600 for decommissioning costs,
which represents no change to the original estimate, after the unwinding of three years’
discount. On 31st March, 20X5, the entity estimates that, as a result of technological
advances, the present value of the decommissioning liability has decreased by Rs 5,000. The
entity decides that a full valuation of the asset is needed at 31st March, 20X5, in order to
ensure that the carrying amount does not differ materially from fair value. The asset is now
valued at Rs 1,07,000, which is net of an allowance for the reduced decommissioning
obligation. How the entity will account for the above changes in decommissioning liability if it
adopts revaluation model?

(MTP Oct ’19, May’19)

Answer 3

At 31st March, 20X4:

Rs

Asset at valuation (1) 1,26,600

Accumulated depreciation Nil

Decommissioning liability (11,600)

Net assets 1,15,000

Retained earnings (2) (10,600)

Revaluation surplus (3) 5,600

Notes:

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(1) When accounting for revalued assets to which decommissioning liabilities attach, it is
important to understand the basis of the valuation obtained. For example:

(a) if an asset is valued on a discounted cash flow basis, some valuers may value the asset
without deducting any allowance for decommissioning costs (a ‘gross’ valuation), whereas
others may value the asset after deducting an allowance for decommissioning costs (a ‘net’
valuation), because an entity acquiring the asset will generally also assume the
decommissioning obligation. For financial reporting purposes, the decommissioning obligation
is recognised as a separate liability, and is not deducted from the asset. Accordingly, if the asset
is valued on a net basis, it is necessary to adjust the valuation obtained by adding back the
allowance for the liability, so that the liability is not counted twice.

(b) if an asset is valued on a depreciated replacement cost basis, the valuation obtained may
not include an amount for the decommissioning component of the asset. If it does not, an
appropriate amount will need to be added to the valuation to reflect the depreciated
replacement cost of that component. Since, the asset is valued on a net basis, it is necessary to
adjust the valuation obtained by adding back the allowance for the liability. Valuation obtained
of Rs 1,15,000 plus decommissioning costs of Rs 11,600, allowed for in the valuation but
recognised as a separate liability = Rs 1,26,600.

(2) Three years’ depreciation on original cost Rs 1,20,000 × 3/40 = Rs 9,000 plus cumulative
discount on Rs 10,000 at 5 per cent compound = Rs 1,600; total Rs 10,600.

(3) Revalued amount Rs 1,26,600 less previous net book value of Rs 1,11,000 (cost Rs 120,000
less accumulated depreciation Rs 9,000).

The depreciation expense for 20X4-20X5 is therefore Rs 3,420 (Rs 1,26,600 x 1 / 37) and the
discount expense for 20X5 is Rs 600. On 31st March, 20X5, the decommissioning liability
(before any adjustment) is Rs 12,200. However, as per estimate of the entity, the present value
of the decommissioning liability has decreased by Rs 5,000. Accordingly, the entity adjusts the
decommissioning liability from Rs 12,200 to Rs 7,200.

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The whole of this adjustment is taken to revaluation surplus, because it does not exceed the
carrying amount that would have been recognised had the asset been carried under the cost
model. If it had done, the excess would have been taken to profit or loss. The entity makes the
following journal entry to reflect the change:

Rs Provision

for decommissioning liability Dr. 5,000

To Revaluation surplus 5,000

As at 31st March, 20X5, the entity revalued its asset at Rs 1,07,000, which is net of an allowance
of Rs 7,200 for the reduced decommissioning obligation that should be recognized as a
separate liability. The valuation of the asset for financial reporting purposes, before deducting
this allowance, is therefore Rs 1,14,200. The following additional journal entry is needed:

Notes:

Rs Rs

Accumulated depreciation (1) Dr. 3,420

To Asset at valuation 3,420

Revaluation surplus (2) Dr. 8,980

To Asset at valuation (3) 8,980

(1) Eliminating accumulated depreciation of Rs 3,420 in accordance with the entity’s accounting
policy.

(2) The debit is to revaluation surplus because the deficit arising on the revaluation does not
exceed the credit balance existing in the revaluation surplus in respect of the asset.

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(3) Previous valuation (before allowance for decommissioning costs) Rs 1,26,600, less
cumulative depreciation Rs 3,420, less new valuation (before allowance for decommissioning
costs) Rs 1,14,200.

Following this valuation, the amounts included in the balance sheet are:

Asset at valuation 1,14,200

Accumulated depreciation Nil

Decommissioning liability (7,200)

Net assets 1,07,000

Retained earnings (1) (14,620)

Revaluation surplus (2) 11,620

Notes:

(1) Rs 10,600 at 31st March, 20X4, plus depreciation expense of Rs 3,420 and discount expense
of Rs 600 = Rs 14,620.

(2) Rs 15,600 at 31st March, 20X4, plus Rs 5,000 arising on the decrease in the liability, less Rs
8,980 deficit on revaluation = Rs 11,620.

Question 4

Entity X has a warehouse which is closer to factory of Entity Y and vice versa. The factories
are located in the same vicinity. Entity X and Entity Y agree to exchange their warehouses.
The carrying value of warehouse of Entity X is Rs. 1,00,000 and its fair value is Rs. 1,25,000. It
exchanges its warehouse with that of Entity Y, the fair value of which is Rs. 1,20,000. It also

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receives cash amounting to Rs. 5,000. How should Entity X account for the exchange of
warehouses?

(RTP Nov’20)

Answer 4

Paragraph 24 of Ind AS 16, inter alia, provides that when an item of property, plant and
equipment is acquired in exchange for a non-monetary asset or assets, or a combination of
monetary and non-monetary assets, the cost of such an item of property, plant and equipment
is measured at fair value unless (a) the exchange transaction lacks commercial substance or (b)
the fair value of neither the asset received nor the asset given up is reliably measurable. If the
acquired item is not measured at fair value, its cost is measured at the carrying amount of the
asset given up.

Further as per paragraph 25 of Ind AS 16, an entity determines whether an exchange

transaction has commercial substance by considering the extent to which its future cash flows
are expected to change as a result of the transaction. An exchange transaction has commercial
substance if:

(a) the configuration (risk, timing and amount) of the cash flows of the asset received differs
from the configuration of the cash flows of the asset transferred; or

(b) the entity-specific value of the portion of the entity’s operations affected by the transaction
changes as a result of the exchange; and

(c) the difference in (a) or (b) is significant relative to the fair value of the assets exchanged. In
the given case, the transaction lacks commercial substance as the company’s cash flows are not
expected to significantly change as a result of the exchange because the factories are located in
the same vicinity i.e. it is in the same position as it was before the transaction.

Hence, Entity X will have to recognize the assets received at the carrying amount of asset given
up, i.e., Rs. 1,00,000 being carrying amount of existing warehouse of Entity X and Rs. 5,000

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received will be deducted from the cost of property, plant and equipment. Therefore, the
warehouse of Entity Y is recognised as property, plant and equipment with a carrying value of
Rs. 95,000 in the books of Entity X.

Question 5

Heaven Ltd. had purchased a machinery on 1.4.2X01 for Rs 30,00,000, which is reflected in its
books at written down value of Rs 17,50,000 on 1.4.2X06. The company has estimated an
upward revaluation of 10% on 1.4.2X06 to arrive at the fair value of the asset. Heaven Ltd.
availed the option given by Ind AS of transferring some of the surplus as the asset is used by
an enterprise.

On 1.4.2X08, the machinery was revalued downward by 15% and the company also re-
estimated the machinery’s remaining life to be 8 years. On 31.3.2X10 the machinery was sold
for Rs 9,35,000. The company charges depreciation on straight line method.

Prepare machinery account in the books of Heaven Ltd. over its useful life to record the
above transactions.

(RTP Nov ’21)

Answer 5

In the books of Heaven Ltd.

Machinery A/c

Date Particulars Amount Date Particulars Amount

1.4.2X01 To Bank / Vendor 30,00,000 31.3.2X02 By Depreciation 2,50,000

(W.N.1)

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 31.3.2X02 By Balance c/d 27,50,000

30,00,000 30,00,000

1.4.2X02 To Balance b/d 27,50,000 31.3.2X03 By Depreciation 2,50,000

31.3.2X03 By Balance c/d 25,00,000

27,50,000 27,50,000

1.4.2X03 To Balance b/d 25,00,000 31.3. 2X04 By Depreciation 2,50,000

31.3.2X04 By Balance c/d 22,50,000

25,00,000 25,00,000

1.4.2X04 To Balance b/d 22,50,000 31.3.2X05 By Depreciation 2,50,000

31.3.2X05 By Balance c/d 20,00,000

22,50,000 22,50,000

1.4.2X05 To Balance b/d 20,00,000 31.3.2X06 By Depreciation 2,50,000

31.3.2X06 By Balance c/d 17,50,000

20,00,000 20,00,000

1.4.2X06 To Balance b/d 17,50,000 31.3.2X07 By Depreciation 2,75,000

(W.N.2)

1.4.2X06 To Revaluation 1,75,000 31.3.2X07 By Balance c/d 16,50,000

Reserve @ 10%

19,25,000 19,25,000

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1.4.2X07 To Balance b/d 16,50,000 31.3.2X08 By Depreciation 2,75,000

31.3.2X08 By Balance c/d 13,75,000

16,50,000 16,50,000

1.4.2X08 To Balance b/d 13,75,000 1.4.2X08 By Revaluation 1,25,000

Reserve (W.N.4)

31.3.2X09 By Profit and Loss 81,250

A/c (W.N.5)

31.3.2X09 By Depreciation 1,46,094

(W.N.3)

31.3.2X09 By Balance c/d 10,22,656

13,75,000 13,75,000

1.4.2X09 To Balance b/d 10,22,656 31.3.2X10 By Depreciation 1,46,094

31.3.2X10 To Profit and Loss 58,438* 31.3.2X10 By Bank A/c 9,35,000

A/c (balancing
figure)

10,81,094 10,81,094

Working Notes:

1. Calculation of useful life of machinery on 1.4.2X01

Depreciation charge in 5 years = (30,00,000 – 17,50,000) = Rs 12,50,000

Depreciation per year as per Straight Line method = = Rs 2,50,000

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Remaining useful life = = 7 years Total useful life = 5 years + 7 years = 12 years

2. Depreciation after upward revaluation as on 31.3.2X06

Rs

Book value as on 1.4.2X06 17,50,000

Add: 10% upward revaluation 1,75,000

Revalued amount 19,25,000

Remaining useful life 7 years (Refer W.N.1)

Depreciation on revalued amount = = Rs 2,75,000 lakh

3. Depreciation after downward revaluation as on 31.3.2X08

Rs

Book value as on 1.4.2X08 13,75,000

Less: 15% Downward revaluation (2,06,250)

Revalued amount 11,68,750

Revised useful life 8 years

Depreciation on revalued amount = = Rs 1,46,094

4. Amount transferred from revaluation reserve

Revaluation reserve on 1.4.2X06 (A) Rs 1,75,000

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Remaining useful life 7 years

Amount transferred every year ( ) Rs 25,000

Amount transferred in 2 years (25,000 2) (B) Rs 50,000

Balance of revaluation reserve on 1.4.2X08 (A-B) Rs 1,25,000

5. Amount of downward revaluation to be charged to Profit and Loss Account

Downward revaluation as on 1.4.2X08 (W.N.3) Rs 2,06,250

Less: Adjusted from Revaluation reserve (W.N.4) (Rs1,25,000)

Amount transferred to Profit and Loss Account Rs 81,250

Question 6

A Ltd. purchased some Property, Plant and Equipment on 1st April, 20X1, and estimated their
useful lives for the purpose of financial statements prepared on the basis of Ind AS: Following
were the original cost, and useful life of the various components of property, plant, and
equipment assessed on 1st April, 20X1:

Property, Plant and Original Cost Estimated useful life

Equipment

Buildings Rs. 15,000,000 15 years

Plant and machinery Rs. 10,000,000 10 years

Furniture and fixtures Rs. 3,500,000 7 years

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A Ltd. uses the straight-line method of depreciation. On 1st April, 20X4, the entity reviewed
the following useful lives of the property, plant, and equipment through an external
valuation expert:

Buildings 10 years

Plant and machinery 7 years

Furniture and fixtures 5 years

There were no salvage values for the three components of the property, plant, and
equipment either initially or at the time the useful lives were revised. Compute the impact of
revaluation of useful life on the Statement of Profit and Loss for the year ending 31st March,
20X4.

(RTP May ’18)

Answer 6

The annual depreciation charges prior to the change in useful life were

Buildings Rs. = Rs. 10,00,000

Plant and machinery Rs. = Rs. 10,00,000

Furniture and fixtures Rs. = Rs. 5,00,000

Total Rs. 25,00,000 (A)

The revised annual depreciation for the year ending 31st March, 20X4, would be

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Buildings [Rs.1,50,00,000 – (Rs. Rs. 12,00,000
10,00,000 × 3)] / 10

Plant and machinery [Rs. 1,00,00,000 – (Rs. Rs. 10,00,000

10,00,000 × 3)] / 7

Furniture and fixtures [Rs. 35,00,000 – (Rs. 5,00,000 Rs. 4,00,000

× 3)] / 5

Total Rs. 26,00,000 (B)

The impact on Statement of Profit and Loss for the year ending 31st March, 20X4

= Rs. 26,00,000 – Rs. 25,00,000 = Rs. 1,00,000

This is a change in accounting estimate which is adjusted prospectively in the period in which
the estimate is amended and, if relevant, to future periods if they are also affected.
Accordingly, from 20X4-20X5 onward, excess of Rs. 1,00,000 will be charged in the Statement of
Profit and Loss every year till the time there is any further revision.

Question 7

ABC Ltd. is installing a new plant at its production facility. It has incurred these costs:

1 Cost of the plant (cost per supplier’s invoice plus taxes) Rs25,00,000

2 Initial delivery and handling costs Rs2,00,000

3 Cost of site preparation Rs6,00,000

4 Consultants used for advice on the acquisition of the plant Rs7,00,000

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 5 Interest charges paid to supplier of plant for deferred credit Rs2,00,000

6 Net present value of estimated dismantling costs to be incurred Rs3,00,000

after 7 years

7 Operating losses before commercial production Rs4,00,000

Advise ABC Ltd. on the costs that can be capitalized in accordance with Ind AS 16.

(Study material)

Answer 7

According to Ind AS 16, these costs can be capitalized:

1 Cost of the plant Rs25,00,000

2 Initial delivery and handling costs Rs2,00,000

3 Cost of site preparation Rs6,00,000

4 Consultants’ fees Rs7,00,000

5 Net present value of estimated dismantling costs to be incurred Rs3,00,000

after 7 years

Rs43,00,000

Note: Interest charges paid on “Deferred credit terms” to the supplier of the plant (not a
qualifying asset) of Rs 2,00,000 and operating losses before commercial production amounting
to Rs4,00,000 are not regarded as directly attributable costs and thus cannot be capitalized.
They should be written off to the Statement of Profit and Loss in the period they are incurred.

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Question 8

A Ltd. has an item of property, plant and equipment with an initial cost of 1,00,000. At the
date of revaluation, accumulated depreciation amounted to 55,000. The fair value of the
asset, by reference to transactions in similar assets, is assessed to be 65,000.

Pass journal entries with regard to revaluation.

(Study material)

Answer 8

Rs Rs

Accumulated depreciation Dr. 55,000

To Asset A/c 55,000

(Being elimination of accumulated depreciation against the

cost of the asset)

Asset A/c Dr 20,000

To Revaluation Surplus 20,000

(Being increase of net asset value to Fair value)

Note: The net result is that the asset has a carrying amount of Rs65,000 [1,00,000 – 55,000 +
20,000.]

Question 9

X Ltd. has a machine which got damaged due to fire as on 31st January, 20X1. The carrying
amount of machine was 1,00,000 on that date. X Ltd. sold the damaged asset as scrap for

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10,000. X Ltd. has insured the same asset against damage. As on 31st March, 20X1, the
compensation proceedings were still in process but the insurance company has confirmed the
claim. Compensation of 50,000 is receivable from the insurance company.

Determine the accounting for the above transaction for X Ltd.

(Study material)

Answer 9

As per para 66 of Ind AS 16, impairment or losses of items of property, plant and equipment
and related claims for or payments of compensation from third parties are separate economic
events and should be accounted for separately.

X Ltd. should account for the above transaction as given below:

At the time of sale of scrap machine, X Ltd. should write off the carrying amount of asset from
books of account and provide a loss of Rs90,000. (i.e., carrying amount of Rs1,00,000 – realised
amount of Rs10,000)

As on 31st March, 20X1, X Ltd. should recognize income of Rs50,000 against the compensation
receivable in its profit or loss.

Question 10

ICAI Illustration

Pluto Ltd owns land and building which are carried in its balance sheet at an aggregate
carrying amount of Rs 10 million. The fair value of such asset is Rs 15 million. It exchanges the
land and building for a private jet, which has a fair value of Rs 20 million, and pays additional
Rs 3 million in cash. Show the necessary treatment as per Ind AS 16 and pass journal entry for
the transaction.

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 (Study material)

Answer

Provided that the transaction has commercial substance, the entity should recognise the
private jet at a cost of Rs 18 million (being Rs 15 million plus 3 million cash) and should
recognise a profit on disposal of the land and building of Rs 5 million, calculated as follow:

(Rs 000)

Recognition of fair value of asset acquired (15,000 + 3,000) 18,000

Less: Carrying amount of land and building disposed (10,000)

Cash Paid (3,000)

Profit on exchange of assets 5,000

The required journal entry is therefore as follow:

Property, Plant and Equipment (Private Jet) Dr. 18,000

To Property, Plant and Equipment (Land and Building) 10,000

To Cash 3,000

To Profit on exchange of assets 5,000

Question 11

ICAI Illustration

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X Limited started construction on a building for its own use on 1st April, 20X0. The following
costs are incurred:

Rs

Purchase price of land 30,00,000

Stamp duty & legal fee 2,00,000

Architect fee 2,00,000

Site preparation 50,000

Materials 10,00,000

Direct labour cost 4,00,000

General overheads 1,00,000

Other relevant information: Material costing Rs 1,00,000 had been spoiled and therefore
wasted and a further Rs 1,50,000 was spent on account of faulty design work. As a result of
these problems, work on the building was stopped for two weeks during November, 20X0
and it is estimated that Rs 22,000 of the labour cost relate to that period. The building was
completed on 1st January, 20X1 and brought in use 1st April, 20X1. X Limited had taken a
loan of Rs 40,00,000 on 1st April, 20X0 for construction of the building. The loan carried an
interest rate of 8% per annum and is repayable on 1st April, 20X2. Calculate the cost of the
building that will be included in tangible non-current asset as an addition?

(Study material)

Answer

Only those costs which are directly attributable to bringing the asset into working condition for
its intended use should be included. Administration and general costs cannot be included. Cost

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of abnormal amount of wasted material/ labor or other resources is not included as per para 22
of Ind AS 16. Here, the cost of spoilt materials and faulty designs are assumed to be abnormal
costs. Also it is assumed that the wastages and labor charges incurred are abnormal in nature.
Hence, same are also not included in the cost of PPE.

Amount to be included in Property, Plant and Equipment (PPE):

Rs

Purchase price of land 30,00,000

Stamp duty & legal fee 2,00,000

Architect fee 2,00,000

Site preparation 50,000

Material (10,00,000 – 2,50,000) 7,50,000

Direct labour cost (4,00,000 – 22,000) 3,78,000

General overheads Nil

Interest* Nil

Total to be capitalized 45,78,000

*Assuming that period for Construction of building is not a substantial period (i.e. 9 months)
here, borrowing cost are not eligible for capitalisation.

Question 12

ICAI Illustration

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XYZ Ltd. purchased an asset on 1st January, 20X0, for Rs 1,00,000 and the asset had an
estimated useful life of ten years and a residual value of nil. The company has charged
depreciation using the straight-line method at Rs 10,000 per annum. On 1st January, 20X4,
the management of XYZ Ltd. Reviews the estimated life and decides that the asset will
probably be useful for a further four years and, therefore, the total life is revised to eight
years. How should the asset be accounted for remaining years?

(Study material)

Answer

Change in useful economic life of an asset is change in accounting estimate, which is to be

applied prospectively, i.e., the depreciation charge will need to be recalculated. On 1st January,
20X4, when the asset’s net book value is Rs 60,000. The company should amend the annual
provision for depreciation to charge the unamortised cost (namely, Rs 60,000) over the revised
remaining life of four years. Consequently, it should charge depreciation for the next four years
at Rs 15,000 per annum.

Topic 2 : Depreciation & Change in Useful Life / Residual Value

Question 13

An entity has the following items of property, plant and equipment:

• Property A — a vacant plot of land on which it intends to construct its new administration
headquarters;

• Property B — a plot of land that it operates as a landfill site;

• Property C — a plot of land on which its existing administration headquarters are built;

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• Property D — a plot of land on which its direct sales office is built;

• Properties E1–E10 — ten separate retail outlets and the land on which they are built;

• Equipment A — computer systems at its headquarters and direct sales office that are
integrated with the point of sale computer systems in the retail outlets;

• Equipment B — point of sale computer systems in each of its retail outlets;

• Furniture and fittings in its administrative headquarters and its sales office;

• Shop fixtures and fittings in its retail outlets.

How many classes of property, plant and equipment must the entity disclose?

(RTP May ’21)

Answer 13

To answer this question one must make a materiality judgement.

A class of assets is defined as a grouping of assets of a similar nature and use in an entity’s
operations.

The nature of land without a building is different to the nature of land with a building.
Consequently, land without a building is a separate class of asset from land and buildings.
Furthermore, the nature and use of land operated as a landfill site is different from vacant land.
Hence, the entity should disclose Property A separately. The entity must apply judgement to
determine whether the entity’s retail outlets are sufficiently different in nature and use from its
office buildings, and thus constitute a separate class of land and buildings.

The computer equipment is integrated across the organization and would probably be classified
as a single separate class of asset.

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Furniture and fittings used for administrative purposes could be sufficiently different to shop
fixtures and fittings in retail outlets. Hence, they should be classified in two separate classes of
assets.

Question 14

Company X performed a revaluation of all of its plant and machinery at the beginning of
20X1. The following information relates to one of the machinery:

Amount (‘000)

Gross carrying amount Rs. 200

Accumulated depreciation (straight-line method) (Rs. 80)

Net carrying amount Rs. 120

Fair value Rs. 150

The useful life of the machinery is 10 years and the company uses Straight line method of
depreciation. The revaluation was performed at the end of 4 years. How should the Company
account for revaluation of plant and machinery and depreciation subsequent to revaluation?
Support your answer with journal entries.

(MTP March ‘21) (RTP May ’19 & May ’20)

Answer 14

According to paragraph 35 of Ind AS 16, when an item of property, plant and equipment is
revalued, the carrying amount of that asset is adjusted to the revalued amount. At the date of
the revaluation, the asset is treated in one of the following ways:

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(a) The gross carrying amount is adjusted in a manner that is consistent with the revaluation of
the carrying amount of the asset. For example, the gross carrying amount may be restated by
reference to observable market data or it may be restated proportionately to the change in the
carrying amount. The accumulated depreciation at the date of the revaluation is adjusted to
equal the difference between the gross carrying amount and the carrying amount of the asset
after taking into account accumulated impairment losses.

In such a situation, the revised carrying amount of the machinery will be as follows:

Gross carrying amount Rs. 250 [( ) 150]

Net carrying amount Rs. 150

Accumulated depreciation Rs. 100 (Rs. 250 – Rs. 150)

Journal entry

Plant and Machinery (Gross Block) Dr. Rs. 50

To Accumulated Depreciation Rs. 20

To Revaluation Reserve Rs. 30

Depreciation subsequent to revaluation

Since the Gross Block has been restated, the depreciation charge will be Rs. 25 per annum (Rs.

years).

Journal entry

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Accumulated Depreciation Dr Rs. 25 p.a

To Plant and Machinery (Gross Block) Rs. 25 p.a.

(b) The accumulated depreciation is eliminated against the gross carrying amount of the asset.
The amount of the adjustment of accumulated depreciation forms part of the increase or
decrease in carrying amount that is accounted for in accordance with the paragraphs 39 and 40
of Ind AS 16. In this case, the gross carrying amount is restated to Rs. 150 to reflect the fair
value and accumulated depreciation is set at zero.

Journal entry

Accumulated Depreciation Dr. Rs. 80

To Plant and Machinery (Gross Block) Rs. 80

Plant and Machinery (Gross Block) Dr. Rs. 30

To Revaluation Reserve Rs. 30

Depreciation subsequent to revaluation

Since the revalued amount is the revised gross block, the useful life to be considered is the
remaining useful life of the asset which results in the same depreciation charge of Rs. 25 per

annum as per Option A (Rs. years).

Journal entry

Accumulated Depreciation Dr. Rs. 25 p.a.

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 To Plant and Machinery (Gross Block) Rs. 25 p.a.

Question 15

Flywing Airways Ltd is a company which manufactures aircraft parts and engines and sells
them to large multinational companies like Boeing and Airbus Industries.

On 1 April 20X1, the company began the construction of a new production line in its aircraft
parts manufacturing shed.

Costs relating to the production line are as follows:

Amount Rs.’000

Costs of the basic materials (list price Rs.12.5 million less a 20% 10,000
trade discount)

Recoverable goods and services taxes incurred not included in the 1,000
purchase cost

Employment costs of the construction staff for the three months to 1,200
30 June 20X1

Other overheads directly related to the construction 900

Payments to external advisors relating to the construction 500

Expected dismantling and restoration costs 2,000

Additional Information

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The construction staff was engaged in the production line, which took two months to make
ready for use and was brought into use on 31 May 20X1. The other overheads were incurred
in the two months period ended on 31 May 20X1. They included an abnormal cost of
Rs.3,00,000 caused by a major electrical fault.

The production line is expected to have a useful economic life of eight years. At the end of
that time Flywing Airways Ltd is legally required to dismantle the plant in a specified manner
and restore its location to an acceptable standard. The amount of Rs.2 million mentioned
above is the amount that is expected to be incurred at the end of the useful life of the
production line. The appropriate rate to use in any discounting calculations is 5%. The present
value of Re.1 payable in eight years at a discount rate of 5% is approximately Re.0·68.

Four years after being brought into use, the production line will require a major overhaul to
ensure that it generates economic benefits for the second half of its useful life. The estimated
cost of the overhaul, at current prices, is Rs.3 million.

The Company computes its depreciation charge on a monthly basis. No impairment of the
plant had occurred by 31 March 20X2. Analyze the accounting implications of costs related to
production line to be recognized in the balance sheet and profit and loss for the year ended
31 March, 20X2.

(MTP May ‘20)

Answer 15

Statement showing Cost of production line:

Particulars Amount Rs.’000

Purchase cost 10,000

Goods and services tax – recoverable goods and services tax not included -

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Employment costs during the period of getting the production line ready for 800
use (1,200 2 months / 3 months)

Other overheads – abnormal costs 600

Payment to external advisors – directly attributable cost 500

Dismantling costs – recognized at present value where an obligation exists 1,360

(2,000 x 0.68)

Total 13,260

Carrying value of production line as on 31st March, 20X2:

Particulars Amount Rs. ’000

Cost of Production line Less: Depreciation (W.N.1) 13,260

(1,694)

Net carrying value carried to Balance Sheet 11,566

Provision for dismantling cost:

Particulars Amount Rs. ’000

Non-current liabilities Add: Finance cost (WN3) 1,360

57

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Net book value carried to Balance Sheet 1,417

Extract of Statement of Profit & Loss

Particulars Amount Rs. ’000

Depreciation (W.N.1) Finance cost (W.N.2) 1,694

57

Amounts carried to Statement of Profit & Loss 1,751

Extract of Balance Sheet

Particulars Amount Rs. ’000

Assets

Non-current assets

Property, plant and equipment 11,566

Equity and liabilities

Non-current liabilities

Other liabilities

Provision for dismantling cost 1417

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Working Notes:

1. Calculation of depreciation charge

Particulars Amount Rs. ’000

In accordance with Ind AS 16 the asset is split into two depreciable 625
components: Out of the total capitalization amount of 13,260, Depreciation

for 3,000 with a useful economic life (UEL) of four years (3,000 ).

This is related to a major overhaul to ensure that it generates economic

benefits for the second half of its useful life

For balance amount, depreciation for 10,260 with an useful economic life 1,069

(UEL) of eight years will be : 10,260

Total (To Statement of Profit & Loss for the year ended 31st March 20X2) 1,694

2. Finance costs

Particulars Amount Rs. ’000

Unwinding of discount (Statement of Profit and Loss – finance cost) 57

1,360 5%

To Statement of Profit & Loss for the year ended 31st March 20X2 57

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Question 16

Company X built a new plant that was brought into use on 1st April, 20X1. The cost to
construct the plant was Rs 1.5 crore. The estimated useful life of the plant is 20 years and
Company X accounts for the plant using the cost model.

The initial carrying amount of the plant included an amount of Rs 10 lakh for
decommissioning, which was determined using a discount rate of 10%. On 31st March, 20X2,
Company X remeasures the provision for decommissioning to Rs 13 lakh.

Provide necessary journal entries at the end of the year i.e. 31st March, 20X2 for recording of
depreciation and decommissioning provision.

(RTP May ’23)

Answer 16

Journal Entries in the books of Company X for the year ending ended 31st March, 20X2

Rs in lakh Rs in lakh

Depreciation (profit or loss) Dr. 7.5

To Accumulated depreciation (plant) 7.5

(Being depreciation on plant recognised under straight-line method

(1,50,00,000 x 1/20))

Interest expense (profit or loss) Dr. 1.0

To Provision for decommissioning 1.0

(Being unwinding of decommissioning provision @10% recognised in

the books)

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Plant Dr 2.0

To Provision for decommissioning 2.0

(Being increase in decommissioning provision recognised [13,00,000

– (10,00,000 +1,00,000)] at the end of the year)

Question 17

B Ltd. owns an asset with an original cost of Rs2,00,000. On acquisition, management

determined that the useful life was 10 years and the residual value would be Rs20,000. The
asset is now 8 years old, and during this time there have been no revisions to the assessed
residual value.

(Study material)

Answer 17

Calculation of accumulated depreciation till 8th year

Depreciable amount {Cost less residual value} = 2,00,000 – 20,000 = Rs 1,80,000.

Annual depreciation = Depreciable amount / Useful life = = Rs18,000.

Accumulated depreciation = 18,000 No. of years (8) = Rs 1,44,000.

Calculation of carrying amount at the end of the 8th year

The asset has a carrying amount of Rs56,000 at the end of year 8 [ie. Rs2,00,000 – Rs1,44,000]

Accounting of the changes in estimates

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Revision of the useful life to 12 years results in a remaining useful life of 4 years (ie 12 years 8
years).

The revised depreciable amount is Rs46,000 ( Rs56,000 – Rs 10,000)

Thus, depreciation should be charged in future ie from 9th year onwards at Rs11,500

per annum ).

Question 18

ICAI Illustration

Jupiter Ltd. has an item of property, plant and equipment with an initial cost of Rs 100,000. At
the date of revaluation accumulated depreciation amounted to Rs 55,000. The fair value of
asset, by reference to transactions in similar assets, is assessed to be Rs 65,000. Find out the
entries to be passed?

(Study material)

Answer

Method – I: Depreciation Elimination Approach

Accumulated depreciation Dr. 55,000

To Asset Cost 55,000

Asset Cost Dr. 20,000

To Revaluation reserve 20,000

The net result is that the asset has a carrying amount of Rs 65,000 (100,000 –55,000 + 20,000).

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Method – II: Restatement Approach

Carrying amount (100,000 – 55,000) = 45,000

Fair value (revalued amount) 65,000

Surplus 20,000

% of surplus to the carrying amount ( ) 44.44%

Entries to be Made:

Asset (1,00,000 x 44.44%) Dr 44,444

To Accumulated Depreciation (55,000 x 44.44%) 24,444

To Revaluation Reserve 20,000

(Being the entry to increase both the original cost and the
accumulated depreciation by 44.44%)

Question 19

ICAI Illustration

An asset which cost Rs 10,000 was estimated to have a useful life of 10 years and residual
value Rs 2000. After two years, useful life was revised to 4 remaining years. Calculate the
depreciation charge for the years 1,2,3.

(Study material)

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Answer

Year-1 Year-2 Year-3

Cost 10,000 10,000 10,000

Less: Accumulated Depreciation (800) (1,600) (3,200)

Carrying Amount 9,200 8,400 6,800

Charges for year 10,000 - = 10,000 - 8,400 - =

800 = 800 1,600

Question 20

ICAI Illustration

On 1st April, 20X1, XYZ Ltd. acquired a machine under the following terms:

Rs

List price of machine 80,00,000

Import duty 5,00,000

Delivery fees 1,00,000

Electrical installation costs 10,00,000

Pre-production testing 4,00,000

Purchase of a five-year maintenance contract with vendor 7,00,000

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In addition to the above information XYZ Ltd. was granted a trade discount of 10% on the
initial list price of the asset and a settlement discount of 5%, if payment for the machine was
received within one month of purchase. XYZ Ltd. paid for the plant on 20th April, 20X1. At
what cost the asset will be recognised?

(Study material)

Answer

In accordance with Ind AS 16, all costs required to bring an asset to its present location and
condition for its intended use should be capitalised. Therefore, the initial purchase price of the
asset should be:

Rs

List price 80,00,000

Less: Trade discount (10%) (8,00,000)

72,00,000

Import duty 5,00,000

Delivery fees 1,00,000

Electrical installation costs 10,00,000

Pre-production testing 4,00,000

Total amount to be capitalised at 1st April, 20X1 92,00,000

Maintenance contract is a separate contract to get service, therefore, the maintenance contract
cost of Rs 7,00,000 should be taken as a prepaid expense and charged to the profit or loss over
a period of 5 years.

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In addition the settlement discount received of Rs 3,60,000 (Rs 72,00,000 5%) is to be shown
as other income in the profit or loss.

Topic 3 : Revaluation of PPE

Question 21

Mr. X, is the financial controller of ABC Ltd., a listed entity which prepares consolidated
financial statements in accordance with Ind AS. Mr. X has recently produced the final draft of
the financial statements of ABC Ltd. for the year ended 31st March, 2018 to the managing
director for approval. Mr. Y, who is not an accountant, had raised following queries from Mr.
X after going through the draft financial statements:

The notes to the financial statements say that plant and equipment is held under the ‘cost
model’. However, property which is owner occupied is revalued annually to fair value.
Changes in fair value are sometimes reported in profit or loss but usually in ‘other
comprehensive income’. Also, the amount of depreciation charged on plant and equipment
as a percentage of its carrying amount is much higher than for owner occupied property.
Another note states that property owned by ABC Ltd. but rent out to others is depreciated
annually and not fair valued. Mr. Y is of the opinion that there is no consistent treatment of
PPE items in the accounts. Elucidate how all these treatments comply with the relevant Ind

AS.

(RTP Nov ’18)

Answer 21

On going through the queries raised by the Managing Director Mr. Y, the financial controller
Mr. X explained the notes and reasons for their disclosures as follows:

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The accounting treatment of the majority of tangible non-current assets is governed by Ind AS
16 ‘Property, Plant and Equipment’. Ind AS 16 states that the accounting treatment of PPE is
determined on a class by class basis. For this purpose, property and plant would be regarded as
separate classes. Ind AS 16 requires that PPE is measured using either the cost model or the
revaluation model. This model is applied on a class by class basis and must be applied
consistently within a class. Ind AS 16 states that when the revaluation model applies, surpluses
are recorded in other comprehensive income, unless they are cancelling out a deficit which has
previously been reported in profit or loss, in which case it is reported in profit or loss. Where
the revaluation results in a deficit, then such deficits are reported in profit or loss, unless they
are cancelling out a surplus which has previously been reported in other comprehensive
income, in which case they are reported in other comprehensive income.

According to Ind AS 16, all assets having a finite useful life should be depreciated over that life.
Where property is concerned, the only depreciable element of the property is the buildings
element, since land normally has an indefinite life. The estimated useful life of a building tends
to be much longer than for plant. These two reasons together explain why the depreciation
charge of a property as a percentage of its carrying amount tends to be much lower than for
plant. Properties which are held for investment purposes are not accounted for under Ind AS
16, but under Ind AS 40 ‘Investment Property’. As per Ind AS 40, investment properties should
be accounted for under a cost model. ABC Ltd. had applied the cost model and thus our
investment properties are treated differently from the owner occupied property which is
annually to fair value.

Question 22

M Ltd. is setting up a new factory outside the Delhi city limits. In order to facilitate the
construction of the factory and its operations, M Ltd. is required to incur expenditure on the
construction/ development of electric-substation. Though M Ltd. incurs (or contributes to)
the expenditure on the construction/development, it will not have ownership rights on these

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items and they are also available for use to other entities and public at large. Whether M Ltd.
can capitalise expenditure incurred on these items as property, plant and equipment (PPE)? If
yes, then how should these items be depreciated and presented in the financial statements of
M Ltd. as per Ind AS?

(PYP Nov’19, RTP Nov’18)

Answer 22

As per Ind AS 16, the cost of an item of property, plant and equipment shall be recognised as an
asset if, and only if:

(a) it is probable that future economic benefits associated with the item will flow to the entity;
and

(b) the cost of the item can be measured reliably.

Further, Ind AS 16 does not prescribe the unit of measure for recognition, i.e., what constitutes
an item of property, plant and equipment. Thus, judgement is required in applying the
recognition criteria to an entity’s specific circumstances.

Ind AS 16, further, states that the cost of an item of property, plant and equipment comprise
any costs directly attributable to bringing the asset to the location and condition necessary for
it to be capable of operating in the manner intended by management.

In the given case, electric- substation is required to facilitate the construction of the refinery
and for its operations. Expenditure on these items is required to be incurred in order to get
future economic benefits from the project as a whole which can be considered as the unit of
measure for the purpose of capitalization of the said expenditure even though the company
cannot restrict the access of others for using the assets individually. It is apparent that the
aforesaid expenditure is directly attributable to bringing the asset to the location and condition
necessary for it to be capable of operating in the manner intended by management.

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In view of this, even though M Ltd. may not be able to recognize expenditure incurred on
electric-substation as an individual item of property, plant and equipment in many cases (where
it cannot restrict others from using the asset), expenditure incurred may be capitalized as a
part of overall cost of the project.

From this, it can be concluded that, in the extant case the expenditure incurred on electric-
substation should be considered as the cost of constructing the factory and accordingly,
expenditure incurred on electric-substation should be allocated and capitalized as part of the
items of property, plant and equipment of the factory.

Depreciation

As per Ind AS 16, each part of an item of property, plant and equipment with a cost that is
significant in relation to the total cost of the item shall be depreciated separately.

Further, Ind AS 16 provides that, if these assets have a useful life which is different from the
useful life of the item of property, plant and equipment to which they relate, it should be
depreciated separately. However, if these assets have a useful life and the depreciation method
that are the same as the useful life and the depreciation method of the item of property, plant
and equipment to which they relate, these assets may be grouped in determining the
depreciation charge. Nevertheless, if it has been included in the cost of property, plant and
equipment as a directly attributable cost, it will be depreciated over the useful lives of the said
property, plant and equipment.

The useful lives of electric-substation should not exceed that of the asset to which it relates.

Question 23

ICAI Illustration

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An item of PPE was purchased for Rs 9,00,000 on 1st April, 20X1. It is estimated to have a
useful life of 10 years and is depreciated on a straight line basis. On 1st April, 20X3, the asset
is revalued to Rs 9,60,000. The useful life remains unchanged as ten years. Ignore impact of
deferred taxes.

(Study material)

Answer

Calculation of Additional Depreciation: (Rs)

Actual depreciation for 20X3-20X4 based on revalued amount ( ) 1,20,000

Depreciation for 20X3-20X4 based on historical cost ( ) (90,000)

Additional Depreciation 30,000

In the profit or loss for 20X3-20X4, a depreciation expense of Rs 1,20,000 will be charged. A
reserve transfer, which will be shown in the statement of changes in equity, may be undertaken
as follows:

Revaluation surplus Dr. 30,000

To Retained earnings 30,000

The closing balance on the revaluation surplus on 31st March, 20X4 will therefore be as follows:

Balance arising on revaluation (9,60,000 – 7,20,000) 2,40,000

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Transfer to retained earnings (30,000)

2,10,000

Topic 4 : Decommissioning Costs & Provisions

Question 24

MS Ltd. has acquired a heavy machinery at a cost of Rs. 1,00,00,000 (with no breakdown of
the component parts). The estimated useful life is 10 years. At the end of the sixth year, one
of the major components, the turbine requires replacement, as further maintenance is
uneconomical. The remainder of the machine is perfect and is expected to last for the next
four years. The cost of a new turbine is Rs. 45,00,000.

Advise a per Ind AS whether the cost of the new turbine be recognized as an asset, and, if so,
what treatment should be used. Also calculate the revised carrying amount of the machinery?
Consider the discount rate of 5% per annum.

(MTP March ’18, Oct ’23)

Answer 24

The new turbine will produce economic benefits to MS Ltd., and the cost is measurable. Hence,
the item should be recognized as an asset. The original invoice for the machine did not specify
the cost of the turbine; however, the cost of the replacement (Rs. 45,00,000) can be used as an
indication (usually by discounting) of the likely cost, six years previously.

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If an appropriate discount rate is 5% per annum, Rs. 45,00,000 discounted back six years
amounts to Rs. 33,57,900 [Rs. 45,00,000 / (1.05)6], i.e., the approximate cost of turbine before
6 years.

The current carrying amount of the turbine which is required to be replaced of Rs. 13,43,160
would be derecognized from the books of account, (i.e., Original Cost Rs. 33,57,900 as reduced
by accumulated depreciation for past 6 years Rs. 20,14,740, assuming depreciation is charged
on straight-line basis.)

The cost of the new turbine, Rs. 45,00,000 would be added to the cost of machine, resulting in a
revision of carrying amount of machine to Rs. 71,56,840. (i.e., Rs. 40,00,000* – Rs. 13,43,160 +
Rs. 45,00,000).

*Original cost of machine Rs. 1,00,00,000 reduced by accumulated depreciation (t ill the end of
6 years) Rs. 60,00,000.

Question 25

On 1st April, 20X1, Sun ltd purchased some land for Rs 10 million (including legal costs of Rs 1
million) in order to construct a new factory. Construction work commenced on 1st May, 20X1.
Sun ltd incurred the following costs in relation with its construction:

– Preparation and levelling of the land – Rs 3,00,000.

– Purchase of materials for the construction – Rs 6·08 million in total.

– Employment costs of the construction workers – Rs 2,00,000 per month.

– Overhead costs incurred directly on the construction of the factory – Rs 1,00,000 per month.

– Ongoing overhead costs allocated to the construction project using the company’s normal
overhead allocation model – Rs 50,000 per month.

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– Income received during the temporary use of the factory premises as a car park during the
construction period – Rs 50,000.

– Costs of relocating employees to work at the new factory – Rs 300,000.

– Costs of the opening ceremony on 31st January, 20X2 – Rs 150,000. The factory was
completed on 30th November, 20X1 (which is considered as substantial period of time as per
Ind AS 23) and production began on 1st February, 20X2. The overall useful life of the factory
building was estimated at 40 years from the date of completion. However, it is estimated that
the roof will need to be replaced 20 years after the date of completion and that the cost of
replacing the roof at current prices would be 30% of the total cost of the building.

At the end of the 40-year period, Sun Ltd has a legally enforceable obligation to demolish the
factory and restore the site to its original condition. The directors estimate that the cost of
demolition in 40 years’ time (based on prices prevailing at that time) will be Rs 20 million. An
annual risk adjusted discount rate which is appropriate to this project is 8%. The present
value of Rs 1 payable in 40 years’ time at an annual discount rate of 8% is Rs 0.046.

The construction of the factory was partly financed by a loan of Rs 17·5 million taken out on
1st April, 20X1. The loan was at an annual rate of interest of 6%. Sun Ltd received investment
income of Rs 100,000 on the temporary investment of the proceeds.

Required: Compute the carrying amount of the factory in the Balance Sheet of Sun Ltd at 31st
March, 20X2. You should explain your treatment of all the amounts referred to in this part in
your answer.

(MTP Nov 21)

Answer 25

Computation of the cost of the factory

Description Included in Explanation

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 P.P.E. Rs
’000

Purchase of land 10,000 Both the purchase of the land and the
associated legal costs are direct costs of
constructing the factory.

Preparation and levelling 300 A direct cost of constructing the factory

Materials 6,080 A direct cost of constructing the factory

Employment costs of 1,400 A direct cost of constructing the factory for a

construction workers seven-month period

Direct overhead costs 700 A direct cost of constructing the factory for a
seven-month period

Allocated overhead costs Nil Not a direct cost of construction

Income from use as a car Nil Not essential to the construction so recognised
park directly in profit or loss

Relocation costs Nil Not a direct cost of construction

Opening ceremony Nil Not a direct cost of construction

Finance costs 612.50 Capitalise the interest cost incurred in a seven-

month period (purchase of land would not
trigger off capitalisation since land is not a
qualifying asset. Infact, the construction started
from 1st May, 20X1)

Investment income on (100) offset against the amount capitalised

temporary investment of the

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loan proceeds

Demolition cost recognised 920 Where an obligation must recognise as part of

as a provision the initial cost

Total 19,912.50

Computation of accumulated depreciation

Total depreciable amount 9,912.50 All of the net finance cost of 512.50 (612.50 –
100) has been allocated to the depreciable
amount.

Depreciation must be in two

parts

Depreciation of roof 49.56 9,912.50 30%

component

Depreciation of remainder 57.82 9,912.50 70%

Total depreciation 107.38

Computation of carrying 19,805.12 19,912.50 – 107.38

amount

Question 26

On 1st April 2017, A Ltd. assumes a decommissioning liability in a business combination. The
entity is legally required to dismantle and remove an offshore oil platform at the end of its

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useful life, which is estimated to be 10 years. A Ltd. uses the expected present value
technique to measure the fair value of the decommissioning liability. If A Ltd. was
contractually allowed to transfer its decommissioning liability to a market participant, it
concludes that a market participant would use the following inputs, probability-weighted as
appropriate, when estimating the price, it would expect to receive:

(i) Labour costs are developed on the basis of current market place wages, adjusted for
expectations of future wage increases, required to hire contractors to dismantle and remove
offshore oil platforms. A Ltd. Assigns probability assessments (based A Ltd.’s experience with
fulfilling obligations of this type and its knowledge of the market) to a range of cash flow
estimates as follows:

Cash flow estimate (Rs.) Probability assessment

50,000 25%

62,500 50%

87,500 25%

(ii) A Ltd. estimates allocated overhead and equipment operating costs to be 80% of expected
labour costs in consistent with the cost structure of market participants.

(iii) A Ltd. estimates the compensation that a market participant would require for
undertaking the activity and for assuming the risk associated with the obligation to dismantle
and remove the asset as follows:

1. A third-party contractor typically adds 20% mark-up on labour and allocated internal costs
to provide a profit margin on the job.

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2. A Ltd. estimates 5% premium of the expected cash flows, including the effect of inflation
for uncertainty inherent in locking in today’s price for a project that will not occur for 10
years.

(iv) Entity A assumes a rate of inflation of 4% over the 10-year period on the basis of available
market data.

(v) The risk-free rate of interest for a 10-year maturity on 1st April, 2017 is 5%. A Ltd. adjusts
that rate by 3.5 per cent to reflect its risk of nonperformance (ie the risk that it will not fulfil
the obligation), including its credit risk.

(vi) A Ltd. concludes that its assumptions would be used by market participants. In addition, A
Ltd. does not adjust its fair value measurement for the existence of a restriction preventing it
from transferring the liability.

(vii) Measure the fair value of its decommissioning liability. Discount factor:

@ 5% for 10th year 0.6139

@ 3.5% for 10th year 0.7089

@ 8.5% for 10th year 0.4423

(MTP April ‘18)

Answer 26

(a) Measurement of the fair value of its decommissioning liability

Expected cash flows

(Rs.) 1st April 2017

Expected labour costs (Refer W.N.) 65,625

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Allocated overhead and equipment costs (0.80 × Rs. 65,625) 52,500

Contractor’s profit mark-up [0.20 × (Rs. 65,625 + Rs.52,500)] 23,625

1,41,750

Expected cash flows before inflation adjustment Inflation factor (4% 1.4802
for 10 years) on compounding

Expected cash flows adjusted for inflation 2,09,818

Market risk premium (Rs. 2,09,818 x 5%) 10,491

Expected cash flows adjusted for market risk 2,20,309

Expected present value using discount rate of (5 +3.5) 8.5% for 10 97,443
years

Working Note

Cash flow estimate (Rs.) Probability assessment Expected cash flows

(Rs.)

50,000 25% 12,500

62,500 50% 31,250

87,500 25% 21,875

65,625

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Question 27

On 1st April, 20X1, an entity purchased an office block (building) for Rs 50,00,000 and paid a
non- refundable property transfer tax and direct legal cost of Rs 2,50,000 and Rs 50,000
respectively while acquiring the building. During 20X1, the entity redeveloped the building
into two-story building. Expenditures on re- development were:

• Rs 1,00,000 on Building plan approval;

• Rs 10,00,000 on construction costs (including Rs 60,000 refundable purchase taxes); and

• Rs 40,000 was due to abnormal wastage of material and labour.

When the re-development of the building was completed on 1st October, 20X1, the entity
rents out Ground Floor of the building to its subsidiary under an operating lease in return for
rental payment. The subsidiary uses the building as a retail outlet for its products. The entity
kept first floor for its own administration and maintenance staff usage. Equal value can be
attributed to each floor. How will the entity account for all the above mentioned expenses in
the books of account as on 1st October, 20X1? Also, discuss how the above building will be
shown in the consolidated financial statements of the entity as a group and in its separate
financial statements as per relevant Ind AS.

(MTP April 22)

Answer 27

In accordance with Ind AS 16, all costs required to bring an asset to its present location and
condition for its intended use should be capitalised. Therefore, the initial purchase price of the
building would be:

Particulars (Rs)

Purchase amount 50,00,000

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Non-refundable property tax 2,50,000

Direct legal cost 50,000

53,00,000

Expenditures on redevelopment:

Building plan approval 1,00,000

Construction costs (10,00,000 – 60,000) 9,40,000

Total amount to be capitalised at 1st October, 20X1 63,40,000

Treatment of abnormal wastage of material and labour:

As per Ind AS 16, the cost of abnormal amounts of wasted material, labour, or other resources
incurred in self-constructing an asset is not included in the cost of the asset. It will be charged
to Profit and Loss in the year it is incurred. Hence, abnormal wastage of Rs 40,000 will be
expensed off in Profit & Loss in the financial year 20X1-20X2.

Accounting of property- Building

When the property is used as an administrative centre, it is not an investment property, rather
it is an ‘owner occupied property’. Hence, Ind AS 16 will be applicable.

When the property (land and/or buildings) is held to earn rentals or for capital appreciation (or
both), it is an Investment Property. Ind AS 40 prescribes the cost model for accounting of such
investment property.

Since equal value can be attributed to each floor, Ground Floor of the building will be
considered as Investment Property and accounted for as per Ind AS 40 and First Floor would be
considered as Property, Plant and Equipment and accounted for as per Ind AS 16.

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Cost of each floor = Rs = Rs 31,70,000

As on 1st October, 20X1, the carrying value of building vis-à-vis its classification would be as
follows:

(i) In the Separate Financial Statements: The Ground Floor of the building will be classified as
investment property for Rs 31,70,000, as it is property held to earn rentals. While First Floor of
the building will be classified as item of property, plant and equipment for Rs 31,70,000.

(ii) In the Consolidated Financial Statements: The consolidated financial statements present the
parent and its subsidiary as a single entity. The consolidated entity uses the building for the
supply of goods. Therefore, the leased-out property to a subsidiary does not qualify as
investment property in the consolidated financial statements. Hence, the whole building will be
classified as an item of Property, Plant and Equipment for Rs 63,40,000.

Question 28

Following information have been provided for A Ltd. which account for its inventories by
using FIFO cost formula:

a) Full capacity is 10,000 labour hours in a year.

b) Normal capacity is 7,500 labour hours in a year.

c) Actual labour hours for current period are 6,500 hours.

d) Total fixed production overhead is Rs 1,500,

e) Total variable production overhead is Rs 2,600.

f) Total opening inventory is 2,500 units.

g) Total units produced in a year are 6,500 units.

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h) Total units sold in a year are 6,700 units.

i) Total closing inventory is 2,300 units.

Required

How will the overhead cost be allocated to inventory at normal capacity and at less than
normal production for the current year based on the above information and also show how
much expense will be recognized in the statement of profit and loss?

(RTP May’25)

Answer 28

Management should allocate fixed overhead costs and variable overhead costs to units
produced at a rate of Rs 0.2 per hour = �1,500 7,500�and Rs 0.4 per hour = �2,600 6,500�
respectively.

Fixed production overhead absorption rate:

= Fixed production overhead / Labour hours under normal capacity

= Rs 1,500/7,500

= Rs 0.2 per hour

Therefore, Fixed production overhead allocated to 6,500 units produced during the year (one
unit per hour) = 6,500 units x Rs 0.2 = Rs 1,300. The remaining Rs 200 of overhead incurred that
remains unallocated is recognized as an expense in the profit and loss.

The amount of fixed overhead allocated to inventory is not increased as a result of low
production by using normal capacity to allocate fixed overhead.

Variable production overhead absorption rate:

= Variable production overhead / Actual hours for current period

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= Rs 2,600 / 6,500 units

= Rs 0.4 per hour

The above rate results in the allocation of all variable overheads to units produced during the
year.

As each unit has taken one hour to produce (6,500 hours /6,500 units produced), total fixed and
variable production overhead recognized as part of cost of inventory:

= Number of units of closing inventory x number of hours to produce each unit x (fixed
production overhead absorption rate + variable production overhead absorption rate)

= 2,300 x 1 (Rs 0.2+ Rs 0.4) = Rs 1,380

The remaining Rs 2,720 {(Rs 1,500 + Rs 2,600) – Rs 1,380} is recognized as an expense in the
Statement of profit and loss as follows:

Rs

Absorbed in cost of goods sold (FIFO basis) (6,500- 2,300) = 4,200 x Rs 0.6 2,520

Unabsorbed fixed overheads, also included in cost of goods sold 200

Total 2,720

Topic 5 : Exchange of Assets

Question 29

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G Ltd. has four assets, each in a different class under property, plant & equipment. Assets 1
and 2 are revalued under previous GAAP (AS). Assets 3 and 4 are not. Under previous GAAP,
at 31st March 20X1, immediately prior to the entity's date of transition to Ind AS, it Balance
Sheet (extract) is as follows:

Asset 1 Asset 2 Asset 3 Asset 4 Total

Valuation Valuation Cost Cost

Rs Rs Rs Rs Rs

Cost or revaluation 5,000 2,000 4,000 4,500 15,500

Accumulated (1,000) (500) (2,000) (1,700) (5,200)

deprecation

Net book value 4,000 1,500 2,000 2,800 10,300

Revaluation surplus 2,500 500 - - 3,000

On adoption of Ind AS, its management decides that, under Ind AS, it will:

− Continue to revalue asset 1. The fair value of asset 1 at the date of transition is not
materially different from its carrying value under previous GAAP;

− Use the previous valuation of asset 2 as deemed cost, and adopt a policy of cost less
depreciation under Ind AS;

− Adopt a policy of revaluation for asset 3. The fair value of asset 3 at the entity's date of
transition is Rs 5,000;

− Continue to use a policy of cost less depreciation for asset 4. All depreciation methods are
already in accordance with those required by Ind AS 16. Discuss the treatment under Ind AS
of valuation of assets 1, 2, 3 & 4, being part of property, plant & equipment?

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 (MTP March ‘22)

Answer 29

Measurement basis for valuation of PPE:

An entity has the following options with respect to measurement of its property, plant and
equipment (Ind AS 16) in the opening Ind AS Balance Sheet:

1. Measurement basis as per the respective standards applied retrospectively. This

measurement option can be applied on an item-by-item basis. For example, Plant A can be
measured applying Ind AS 16 retrospectively and Plant B can be measured applying the “fair
value” or “revaluation” options mentioned below.

2. Fair value at the date of transition to Ind AS. This measurement option can be applied on an
item-by-item basis in similar fashion as explained above.

3. Previous GAAP revaluation, if such revaluation was, at the date of revaluation, broadly
comparable to (a) fair value or (b) cost or depreciated cost in accordance with other Ind AS
adjusted to reflect changes in general or specific price index.

This measurement option can be applied on an item-by-item basis in similar fashion as

explained above.

Analysis of given case:

Asset 1 Asset 2 Asset 3 Asset 4

Basis used in Revaluation Model Revaluation Cost Model Cost Model

previous GAAP Model

Intent of G Ltd. On To continue with Use previous Adopt a policy Continue to

transition Revaluation model valuation as of revaluation use a policy of

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 deemed cost cost less
depreciation

Treatment at the Since fair value at An entity may Fair value at The entity is
Time of transition to the transition date elect to the date of not availing
Ind AS is not materially measure an transition to any exemption
different from its item of Ind AS is given in Ind AS
carrying value property, plant materially 101. The entity
under previous and equipment different from can measure
GAAP, G Ltd. can at the date of its carrying applying Ind AS
carry forward with transition to Ind value under 16
revalued carrying AS at its fair previous retrospectively.
value Rs 4,000 as value and use GAAP. The It is assumed
per previous GAAP that fair value asset should that
in Ind AS books as its deemed be revalued measurement
and continue to cost at that and stated at bases for cost
disclose a date. In Ind AS its fair value of of asset as per
revaluation financial Rs 5,000 on previous GAAP
surplus of Rs statements, the date of and Ind AS are
2,500. asset will be transition to same so asset
carried forward Ind AS. A will be shown
at Rs 1,500 and revaluation in the Ind AS
surplus of Rs financial
Previously
3,000 (5,000 – statements
disclosed
2,000) will be
revaluation At Rs 2,800.
transferred to
surplus is
revaluation
transferred to
reserve.
retained
earnings or

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 another
component of
equity.

Topic 6 : Classification of PPE vs Investment Property

Question 30

On 1st October, 2017, A Ltd. completed the construction of a power generating facility. The
total construction cost was Rs. 2,00,00,000. The facility was capable of being used from 1st
October, 2017 but A Ltd. did not bring the facility into use until 1st January, 2018. The
estimated useful life of the facility at 1st October, 2017 was 40 years. Under legal regulations
in the jurisdiction in which A Ltd. operates, there are no requirements to restore the land on
which power generating facilities stand to its original state at the end of the useful life of the
facility. However, A Ltd. has a reputation for conducting its business in an environmentally
friendly way and has previously chosen to restore similar land even in the absence of such
legal requirements. The directors of A Ltd. Estimated that the cost of restoring the land in 40
years’ time (based on prices prevailing at that time) would be Rs. 1,00,00,000. A relevant
annual discount rate to use in any discounting calculations is 5%. When the annual discount
rate is 5%, the present value of Rs. 1 receivable in 40 years’ time is approximately 0.142.

Analyze and present how the above events would be reported in the financial statements of
A Ltd. for the year ended 31st March, 2018 as per Ind AS.

(RTP Nov ‘18)

Answer 30

All figures are Rs. in ’000.

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The power generating facility should be depreciated from the date it is ready for use, rather
than when it would actually start being used. In this case, then, the facility should be
depreciated from 1st October, 2017.

Although A Ltd. has no legal obligation to restore the piece of land, it does have a constructive
obligation, based on its past practice and policies.

The amount of the obligation will be 1,420, being the present value of the anticipated future
restoration expenditure (10,000 0.142).

This will be recognised as a provision under non-current liabilities in the Balance Sheet of A Ltd.
at 31st March, 2018.

As time passes the discounted amount unwinds. The unwinding of the discount for the year

ended 31st March, 2018 will be 35.5 (1,420 5% ).

The unwinding of the discount will be shown as a finance cost in the statement of profit or loss
and the closing provision will be 1,455.50 (1,420 + 35.5).

The initial amount of the provision is included in the carrying amount of the non-current asset,
which becomes 21,420 (20,000 + 1,420).

The depreciation charge in profit or loss for the year ended 31st March, 2018 is 267.75 (21,420

). The closing balance included in non-current assets will be 21,152.25 (21,420 –

267.75).

Question 31

ICAI Illustration

On 1st April, 20X1, an item of property is offered for sale at Rs 10 million, with payment
terms being three equal installments of Rs 33,33,333 over a two year period (payments are

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made on 1st April, 20X1, 31st March, 20X2 and 31st March, 20X3). Implicit interest rate of
5.36 percent p.a. Show how the property will be recorded in accordance with Ind AS 16 and
also pass necessary journal entries.

(Study material)

Answer

Ind AS 16 requires that the cost of an item of PPE is the cash price equivalent at the recognition
date. Hence, the purchaser that takes up the deferred payment terms will recognise the
acquisition of the asset as follows:

On 1st April, 20X1 Property, Plant and Equipment (W.N. 1) 95,00,000

Dr.

To Bank A/c 33,33,333

To Accounts Payable (W.N. 2) 61,66,667

(Initial recognition of property)

On 31st March, 20X2

Interest Expense (W.N. 2) Dr. 3,30,533

Accounts payable (W.N. 2) Dr 30,02,800

To Bank A/c 33,33,333

(Recognition of interest expense and payment of second

instalments)

On 31st March, 20X3

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Interest Expense (W.N. 2) Dr 1,69,467

Accounts payable (W.N. 2) Dr. 31,63,867

To Bank A/c 33,33,334

(Recognition of interest expense and payment of final

installment)

Working Notes:

1. Calculation of cash price equivalent at initial recognition

Year Payment Discounting Present value

factor @5.36%

1.4.20X1 33,33,333 1.000 33,33,333

31.3.20X2 33,33,333 0.949 31,63,333

31.3.20X3 33,33,334 0.901 30,03,334

Initial date cash price equivalent 1,00,00,000 95,00,000

2. Calculation of interest expenses

Year Opening Interest @ Total Principal Closing

balance (a) 5.36% (b) = payment at amount in balance (e) =
(a) 5.36% year the (a) - (d)
beginning (c) instalment

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 (d) = (c) – (b)

1.4.20X1 95,00,0 00 - 33,33,333 33,33,333 61,66,6 67

31.3.20X2 61,66,6 67 3,30,533 33,33,333 30,02,800 31,63,8 67

31.3.20X3 31,63,8 67 1,69,467 * 33,33,334 31,63,867 Nil

*Difference of Rs 116 [(31,63,867 x 5.36%) – (33,33,334 - 31,63,867)] is due to approximation.

Topic 7 : Impairment & Disposal of PPE

Question 32

On 1st January, 20X1 an entity purchased an item of equipment for Rs 600,000, including Rs
50,000 refundable purchase taxes. The purchase price was funded by raising a loan of Rs
605,000. In addition, the entity has to pay Rs 5,000 in loan raising fees to the Bank. The loan is
secured against the equipment. In January 20X1 the entity incurred costs of Rs 20,000 in
transporting the equipment to the entity’s site and Rs 100,000 in installing the equipment at
the site. At the end of the equipment’s 10 -year useful life the entity is required to dismantle
the equipment and restore the building housing the equipment. The present value of the cost
of dismantling the equipment and restoring the building is estimated to be Rs 100,000.

In January 20X1 the entity’s engineer incurred the following costs in modifying the equipment
so that it can produce the products manufactured by the entity:

Materials Rs 55,000

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Labour Rs 65,000

Depreciation of plant and equipment used to perform the modifications Rs 15,000

In January 20X1, the entity’s production staff were trained in how to operate the new item of
equipment. Training costs included:

Cost of an expert external instructor Rs 7,000

Labour Rs 3,000

In February 20X1 the entity’s production team tested the equipment and the engineering
team made further modifications necessary to get the equipment to function as intended by
management. The following costs were incurred in the testing phase:

• Materials, net of Rs 3,000 recovered from the sale of the scrapped output – Rs 21,000

• Labour – Rs 16,000

The equipment was ready for use on 1st March, 20X1. However, because of low initial order
levels the entity incurred a loss of Rs 23,000 on operating the equipment during March.
Thereafter the equipment operated profitably. What is the cost of the equipment at initial
recognition? Also show the calculation or reason for underlying treatment.

(MTP March ’23, RTP May’22)

Answer 32

Description Calculation or reason Rs

Purchase price Rs 600,000 purchase price 550,000

minus Rs 50,000 refundable
purchase taxes

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Loan raising fee Offset against the -
measurement of the liability

Transport cost Directly attributable 20,000

expenditure

Installation costs Directly attributable 100,000

expenditure

Environmental restoration The obligation to dismantle 100,000

costs and restore the environment
arose from the installation of
the equipment

Preparation costs Rs 55,000 materials + Rs 135,000

65,000 labour + Rs 15,000
depreciation

Training costs Recognised as expenses in -

profit and loss account. The
equipment was capable of
operating in the manner
intended by management
without incurring the training
costs.

Cost of testing Rs 21,000 materials (ie net of 37,000

the Rs 3,000 recovered from
the sale of the scrapped
output) + Rs 16,000 labour

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Operating loss Recognised as expenses in -
profit and loss account

Borrowing costs Recognised as expenses in -

profit and loss account

Cost of equipment 9,42,000

Question 33

An entity has a nuclear power plant and a related decommissioning liability. The nuclear
power plant started operating on 1st April, 2XX1. The plant has a useful life of 40 years. Its
initial cost was 1,20,000 which included an amount for decommissioning costs of 10,000,
which represented 70,400 in estimated cash flows payable in 40 years discounted at a risk-
adjusted rate of 5 per cent. The entity’s financial year ends on 31st March. After 10 years, the
net present value of the decommissioning liability has decreased by 8,000. The discount rate
has not yet changed.

Examine how the entity will account for the above changes in decommissioning liability in the
11th year, if it adopts cost model.

(Study material)

Answer 33

On 31st March, 2X11, the plant is 10 years old. Accumulated depreciation is Rs 30,000

(Rs120,000 ). Due to unwinding of discount @ 5% over the 10 years, the amount of

decommissioning liability has increased from Rs10,000 to Rs16,300 (approx.). On 31st March,
2X11, the discount rate has not changed. However, the entity estimates that, as a result of
technological advances, the net present value of the decommissioning liability has decreased by

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Rs8,000. Accordingly, the entity adjusts the decommissioning liability from Rs16,300 to Rs8,300.
On this date, the entity passes the following journal entry to reflect the change:

Rs Rs

Provision for decommissioning liability Dr. 8,000

To Asset 8,000

Following this adjustment, the carrying amount of the asset is Rs 82,000 ( Rs 1,20,000 – Rs8,000
– Rs 30,000), which will be depreciated over the remaining 30 years of the asset’s life giving a
depreciation expense for the next year of 2,733 ( Rs 82,000 / 30). The next year’s finance cost
for unwinding of discount will be 415 (Rs 8,300 × 5 per cent).

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 Chapter 5 Unit-3

Ind AS 23: “Borrowing costs”

Topic 1: Concept of Qualifying Assets

Question 1

ICAI Illustration

A company deals in production of dairy products. It prepares and sells various milk products
like ghee, butter and cheese. The company borrowed funds from bank for manufacturing
operation. The cheese takes substantial longer period to get ready for sale.

State whether borrowing costs incurred to finance the production of inventories (cheese) that
have a long production period, be capitalised?

(Study material)

Answer

Ind AS 23 does not require the capitalisation of borrowing costs for inventories that are
manufactured in large quantities on a repetitive basis. However, interest capitalisation is
permitted as long as the production cycle takes a ‘substantial period of time’, as with cheese.

Question 2

ICAI Illustration

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A company is in the process of developing computer software. The asset has been qualified
for recognition purposes. However, the development of computer software will take
substantial period of time to complete.

(i) Can computer software be termed as a ‘qualifying asset’ under Ind AS 23?

(ii) Is management intention considered when assessing whether an asset is a qualifying

asset?

(Study material)

Answer

(i) Yes. An intangible asset that takes a substantial period of time to get ready for its intended
use or sale is a ‘qualifying asset’. This would be the case for an internally generated computer
software in the development phase when it takes a ‘substantial period of time’ to complete.

(ii) Yes. Management should assess whether an asset, at the date of acquisition, is ‘ready for its
intended use or sale’. The asset might be a qualifying asset, depending on how management
intends to use it. For example, when an acquired asset can only be used in combination with a
larger group of fixed assets or was acquired specifically for the construction of one specific
qualifying asset, the assessment of whether the acquired asset is a qualifying asset is made on a
combined basis.

Question 3

ICAI Illustration

A telecom company has acquired a 3G license. The licence could be sold or licensed to a third
party. However, management intends to use it to operate a wireless network. Development
of the network starts when the license is acquired.

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Should borrowing costs on the acquisition of the 3G license be capitalised until the network is
ready for its intended use?

(Study material)

Answer

Yes. The license has been exclusively acquired to operate the wireless network. The fact that
the license can be used or licensed to a third party is irrelevant. The acquisition of the license is
the first step in a wider investment project (developing the network). It is part of the network
investment, which meets the definition of a qualifying asset under Ind AS 23.

Question 4

ICAI Illustration

A real estate company has incurred expenses for the acquisition of a permit allowing the
construction of a building. It has also acquired equipment that will be used for the
construction of various buildings.

Can borrowing costs on the acquisition of the permit and the equipment be capitalised until
the construction of the building is complete?

(Study material)

Answer

With respect to Permit

Yes, since permit is specific to one building. It is the first step in a wider investment project. It is
part of the construction cost of the building, which meets the definition of a qualifying asset.

With respect to Equipment

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No, since the equipment will be used for other construction projects. It is ready for its ‘intended
use’ at the acquisition date. Hence, it does not meet the definition of a qualifying asset.

Question 5

ICAI Illustration

Is interest on a finance lease of a qualifying asset capitalised as borrowing costs?

(Study material)

Answer

Yes, interest incurred for a finance lease is specific to an asset. Interest is capitalised if the asset
is a qualifying asset or is used solely for the construction of a qualifying asset. For example, a
crane or a dockyard is leased for the purpose of constructing a ship. The ship is a qualifying
asset. The interest on the finance lease of the crane or dockyard is capitalised as borrowing
costs. Borrowing costs on the finance lease can only be capitalised up to the point when the
construction of the qualifying asset is complete.

Topic 2: Commencement Date of Capitalization

Question 6

ICAI Illustration

X Ltd is commencing a new construction project, which is to be financed by borrowing. The

key dates are as follows:

(i) 15th May, 20X1: Loan interest relating to the project starts to be incurred

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(ii) 2nd June, 20X1 : Technical site planning commences

(iii) 19th June, 20X1 : Expenditure on the project started to be incurred

(iv) 18th July, 20X1 : Construction work commences Identify commencement date.

(Study material)

Answer

In the above case, the three conditions to be tested for commencement date would be:

Borrowing cost has been incurred on : 15th May, 20X1

Expenditure has been incurred for the asset on : 19th June, 20X1

Activities necessary to prepare asset for its intended use or sale: 2nd June, 20X1

Commencement date would be the date when the above three conditions would be satisfied in
all i.e. 19th June, 20X1

Question 7

Marine Transport Limited ordered 3 ships for its fleet on 1st April, 20X0. It pays a down
payment of 25% of the contract value of each of the ship out of long-term borrowings from a
scheduled bank. The delivery has to commence from the financial year 20X7. On 1st March,
20X2, the ship builder informs that it has commenced production of one ship. There is no
progress on other 2 ships. Marine Transport Limited prepares its financial statements on
financial year basis.

(Study material)

Answer 7

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As per paragraph 5 of Ind AS 23, a qualifying asset is an asset that necessarily takes a
substantial period of time to get ready for its intended use or sale.

As per paragraph 17 of Ind AS 23, an entity shall begin capitalising borrowing costs as part of
the cost of a qualifying asset on the commencement date. The commencement date for
capitalisation is the date when the entity first meets all of the following conditions:

(a) It incurs expenditures for the asset.

(b) It incurs borrowing costs.

(c) It undertakes activities that are necessary to prepare the asset for its intended use or sale.

The ship is a qualifying asset as it takes substantial period of time for its construction.

Thus, the related borrowing costs should be capitalised.

Marine Transport Limited borrows funds and incurs expenditures in the form of down payment
on 1st April, 20X0. Thus, condition (a) and (b) are met. However, condition (c) is met only on 1st
March, 20X2, and that too only with respect to one ship. Thus, there is no capitalisation of
borrowing costs during the financial year ended 31st March, 20X1. Even during the financial
year ended 31st March, 20X2, borrowing costs relating to the ‘one’ ship whose construction
had commenced from 1st March, 20X2 will be capitalised from 1st March, 20X2 to 31st March,
20X2. All other borrowing costs are expensed.

Topic 3: Specific Borrowings vs General Borrowings

Question 8

Zera Limited obtained a term loan of Rs 1,080 lakh for complete renovation and
modernization of its factory on 1st April, 2021. Plant and Machinery was acquired under the

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modernization scheme and installation was completed on 30th April, 2022. An expenditure of
Rs 910 lacs was incurred on installation of Plant and Machinery and the balance loan was
used for working capital purposes. Management of Zera Limited considers the 12 months
period as substantial period of time to get the asset ready for its intended use.

The company has paid total interest of Rs 94.40 lacs during financial year 2021- 2022 on the
above loan. Discuss the treatment in the books of account of Zera Limited of interest paid of
Rs 94.40 lakh during the financial year 2021-2022. Will your answer be different, if the whole
process of renovation and modernization gets completed by 31st December, 2021?

(PYP May ‘22)

Answer 8

Treatment procedure:

As per Ind AS 23, borrowing costs that are directly attributable to the acquisition, construction
or production of a qualifying asset form part of the cost of that asset. Other borrowing costs are
recognised as an expense. Where, a qualifying asset is an asset that necessarily takes a
substantial period of time to get ready for its intended use or sale.

Applicability to the given case:

Accordingly, the treatment of interest of Rs 94.40 lakh occurred during the year 2021- 2022
would be as follows:

(i) When construction of asset completed on 30th April, 2022

The treatment for total borrowing cost of Rs 94.40 lakh will be as follows:

Purpose Nature Interest to be Interest to be

capitalised Rs in charged to profit
lakh and loss account

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 Rs in lakh

Modernisation and renovation of Qualifying asset [94.40 ( )]

plant and machinery
= 79.54

Working Capital Not a qualifying 79.54 [94.40 ( )]

asset
=14.86

14.86

(ii) When construction of assets is completed by 31st December, 2021 When the process of
renovation gets completed in less than 12 months, the plant and machinery will not be
considered as a qualifying asset until and unless the entity specifically considers that the asset
took substantial period for completing its construction.

Accordingly, the whole of interest will be charged off to Profit and Loss account.

Question 9

Nikka Limited has obtained a term loan of Rs 620 lacs for a complete renovation and
modernisation of its Factory on 1st April, 20X1. Plant and Machinery was acquired under the
modernisation scheme and installation was completed on 30th April, 20X2. An expenditure of
Rs 510 lacs was incurred on installation of Plant and Machinery, Rs 54 lacs has been advanced
to suppliers for additional assets (acquired on 25th April, 20X1) which were also installed on
30th April, 20X2 and the balance loan of Rs 56 lacs has been used for working capital
purposes. Management of Nikka Limited considers the 12 months period as substantial
period of time to get the asset ready for its intended use.

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The company has paid total interest of Rs 68.20 lacs during financial year 20X1- 20X2 on the
above loan. The accountant seeks your advice how to account for the interest paid in the
books of accounts. Will your answer be different, if the whole process of renovation and
modernization gets completed by 28th February, 20X2?

(MTP March ’23, RTP Nov ’21)

Answer 9

As per Ind AS 23, Borrowing costs that are directly attributable to the acquisition, construction
or production of a qualifying asset form part of the cost of that asset.

Other borrowing costs are recognised as an expense.

Where, a qualifying asset is an asset that necessarily takes a substantial period of time to get
ready for its intended use or sale.

Accordingly, the treatment of Interest of Rs 68.20 lacs occurred during the year 20X1- 20X2
would be as follows:

(i) When construction of asset completed on 30th April, 20X2

The treatment for total borrowing cost of Rs 68.20 lakh will be as follows:

Purpose Nature Interest to be Interest to be

capitalized charged to profit
and loss account

Rs in lakh Rs in lakh

Modernization and renovation of Qualifying asset [68.20 (510/620)]

plant and machinery =56.10

Advance to suppliers Qualifying [68.20 (54/620)]

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 =

for additional assets asset 5.94

Working Capital Not a qualifying [68.20 (56/620)]

= 6.16
asset

62.04 6.16

(ii) When construction of assets is completed by 28th February, 20X2

When the process of renovation gets completed in less than 12 months, the plant and
machinery and the additional assets will not be considered as qualifying assets (until and unless
the entity specifically considers that the assets took substantial period of time for completing
their construction). Accordingly, the whole of interest will be required to be charged off /
expensed off to Profit and loss account

Question 10

On 1 April 2019, entity A contracted for the construction of a building for Rs. 22,00,000. The
land under the building is regarded as a separate asset and is not part of the qualifying asset.
The building was completed at the end of March, 2020, and during the period the following
payments were made to the contractor:

Payment date Amount (Rs.)

1 April 2019 2,00,000

30 June 2019 6,00,000

31 December 2019 12,00,000

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31 March 2020 2,00,000

Total 22,00,000

Entity A’s borrowings at its year end of 31 March 2020 were as follows:

a. 10%, 4-year note with simple interest payable annually, which relates specifically to the
project; debt outstanding on 31 March 2020 amounted to Rs. 7,00,000. Interest of Rs. 65,000
was incurred on these borrowings during the year, and interest income of Rs. 20,000 was
earned on these funds while they were held in anticipation of payments.

b. 12.5% 10-year note with simple interest payable annually; debt outstanding at 1 April 2019
amounted to Rs. 10,00,000 and remained unchanged during the year; and

c. 10% 10-year note with simple interest payable annually; debt outstanding at 1 April 2019
amounted to Rs. 15,00,000 and remained unchanged during the year.

What amount of the borrowing costs can be capitalized at year end as per relevant Ind AS?

(MTP Oct ’20, RTP Nov’19)

Answer 10

As per Ind AS 23, when an entity borrows funds specifically for the purpose of obtaining a
qualifying asset, the entity should determine the amount of borrowing costs eligible for
capitalization as the actual borrowing costs incurred on that borrowing during the period less
any investment income on the temporary investment of those borrowings.

The amount of borrowing costs eligible for capitalization, in cases where the funds are
borrowed generally, should be determined based on the expenditure incurred in obtaining a
qualifying asset. The costs incurred should first be allocated to the specific borrowings.

Analysis of expenditure:

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 Date Expenditure (Rs.) Amount allocated in Weighted for period
general borrowings outstanding (Rs.)
(Rs.)

1 April 2019 2,00,000 0 0

30 June 2019 6,00,000 1,00,000* 1,00,000 = 75,000

31 Dec 2019 12,00,000 12,00,000 12,00,000 =

3,00,000

31 March 2020 2,00,000 2,00,000 2,00,000 =0

Total 22,00,000 3,75,000

*Specific borrowings of Rs. 7,00,000 fully utilized on 1 April & on 30 June to the extent of Rs.
5,00,000 hence remaining expenditure of Rs. 1,00,000 allocated to general borrowings.

The expenditure rate relating to general borrowings should be the weighted average of the
borrowing costs applicable to the entity’s borrowings that are outstanding during the period,
other than borrowings made specifically for the purpose of obtaining a qualifying asset.

Capitalization rate = (10,00,000 12.5%) + (15,00,000 10%) = 11% 10,00,000 + 15,00,000

Borrowing cost to be capitalized: Amount (Rs.)

On specific loan 65,000

On General borrowing (Rs. 3,75,000 × 11%) 41,250

Total 1,06,250

Less: Interest income on specific borrowings (20,000)

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Amount eligible for capitalization 86,250.

Therefore, the borrowing costs to be capitalized are Rs. 86,250.

Question 11

Question

On 1st April, 20X1, A Ltd. contracted for the construction of a building for Rs 22,00,000. The
land under the building is regarded as a separate asset and is not part of the qualifying assets.
The building was completed at the end of March, 20X2, and during the period the following
payments were made to the contractor:

Payment date Amount (Rs ’000)

1st April, 20X1 200

30th June, 20X1 600

31st December, 20X1 1,200

31st March, 20X2 200

Total 2,200

A Ltd.’s borrowings at its year end of 31st March, 20X2 were as follows:

a. 10%, 4-year note with simple interest payable annually, which relates specifically to the
project; debt outstanding on 31st March, 20X2 amounted to Rs 7,00,000. Interest of Rs 65,000
was incurred on these borrowings during the year, and interest income of Rs 20,000 was
earned on these funds while they were held in anticipation of payments.

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b. 12.5% 10-year note with simple interest payable annually; debt outstanding at 1st April,
20X1 amounted to Rs 1,000,000 and remained unchanged during the year; and

c. 10% 10-year note with simple interest payable annually; debt outstanding at 1st April, 20X1
amounted to Rs 1,500,000 and remained unchanged during the year.

Determine the amount of the borrowing costs which can be capitalized at the year end as per
relevant Ind AS.

Answer

As per Ind AS 23, when an entity borrows funds specifically for the purpose of obtaining a
qualifying asset, the entity should determine the amount of borrowing costs eligible for
capitalisation as the actual borrowing costs incurred on that borrowing during the period less
any investment income on the temporary investment of those borrowings.

The amount of borrowing costs eligible for capitalization, in cases where the funds are
borrowed generally, should be determined based on the capitalisation rate and expenditure
incurred in obtaining a qualifying asset. The costs incurred should first be allocated to the
specific borrowings.

Analysis of expenditure:

Date Expenditure (Rs Amount allocated in Weighted for period

’000) general borrowings outstanding (Rs ’000)
(Rs ’000)

1st April, 20X1 200 0 0

30th June, 20X1 600 100* 100 9/12 = 75

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31st Dec., 20X1 1,200 1,200 1,200 3/12 = 300

31st March, 20X2 200 200 200 0/12 = 0

Total 2,200 375

*Specific borrowings of Rs 7,00,000 fully utilized on 1st April & on 30th June to the extent of Rs
5,00,000 hence remaining expenditure of Rs 1,00,000 allocated to general borrowings.

The capitalisation rate relating to general borrowings should be the weighted average of the
borrowing costs applicable to the entity’s borrowings that are outstanding during the period,
other than borrowings made specifically for the purpose of obtaining a qualifying asset.

Capitalisation rate = = 11%

Borrowing cost to be capitalized: Amount (Rs)

On specific loan 65,000

On General borrowing (3,75,000 11%) 41,250

Total 1,06,250

Less: interest income on specific borrowings (20,000)

Amount eligible for capitalization 86,250

Therefore, the borrowing costs to be capitalized are Rs 86,250.

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Question 12

In a group with Parent Company “P” there are 3 subsidiaries with following business:

“A” – Real Estate Company

“B” – Construction Company

“C” – Finance Company

• Parent Company has no operating activities of its own but performs management functions
for its subsidiaries.

• Financing activities and cash management in the group are coordinated centrally.

• Finance Company is a vehicle used by the group solely for raising finance.

• All entities in the group prepare Ind AS financial statements. The following information is
relevant for the current reporting period 20X1-20X2:

Real Estate Company

• Borrowings of Rs. 10,00,000 with an interest rate of 7% p.a.

• Expenditures on qualifying assets during the period amounted to Rs.15,40,000.

• All construction works were performed by Construction Company. Amounts invoiced to

Real Estate Company included 10% profit margin.

Construction Company

• No borrowings during the period.

• Financed 10,00,000 of expenditures on qualifying assets using its own cash resources.

Finance Company

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• Raised Rs.20,00,000 at 7% p.a. externally and issued a loan to Parent Company for general
corporate purposes at the rate of 8%. Parent Company

• Used loan from Finance Company to acquire a new subsidiary.

• No qualifying assets apart from those in Real Estate Company and Construction Company.

• Parent Company did not issue any loans to other entities during the period.

Compute the amount of borrowing costs eligible for capitalisation in the financial statements
of each of the four entities for the current reporting period 20X1- 20X2.

(Study material)

Answer 12

Following is the treatment as per Ind AS 23:

Finance Company

No expenditure on qualifying assets have been incurred, so Finance Company cannot capitalise
anything.

Real Estate Company

Total interest costs in the financial statements of Real Estate Company is 70,000. Expenditures
on qualifying assets exceed total borrowings, so the total amount of interest can be capitalised.

Construction Company

No interest expense has been incurred, so Construction Company cannot capitalise anything.

Total general borrowings of the group: Rs.10,00,000 + Rs.20,00,000 = Rs.30,00,000

Although Parent Company used proceeds from loan to acquire a subsidiary, this loan cannot be
excluded from the pool of general borrowings.

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Total interest expenditures for the group = Rs.30,00,000 7% = Rs.2,10,000

Total expenditures on qualifying assets for the group are added up. Profit margin charged by
Construction Company to Real Estate Company is eliminated:

Real Estate Company – Rs.15,40,000/1.1 = Rs.14,00,000

Construction Co – Rs.10,00,000

Total consolidated expenditures on qualifying assets:

Rs. (14,00,000 + 10,00,000) = Rs.24,00,000

Capitalisation rate = 7%

Borrowing costs eligible for capitalisation = Rs.24,00,000 7% = Rs.1,68,000

Total interest expenditures of the group are higher than borrowing costs eligible for
capitalisation calculated based on the actual expenditures incurred on the qualifying assets.
Therefore, only Rs.1,68,000 can be capitalised.

Question 13

ICAI Illustration

Alpha Ltd. on 1st April, 20X1 borrowed 9% Rs. 30,00,000 to finance the construction of two
qualifying assets. Construction started on 1st April, 20X1. The loan facility was availed on 1st
April, 20X1 and was utilized as follows with remaining funds invested temporarily at 7%.

Factory Building Office Building

1st April, 20X1 5,00,000 10,00,000

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1st October, 20X1 5,00,000 10,00,000

Calculate the cost of the asset and the borrowing cost to be capitalized.

(Study material)

Answer

Particulars Factory Building Office Building

Borrowing Costs (10,00,000 x 9%) 90,000 (20,00,000 x 9%) 1,80,000

Less: Investment Income (5,00,000 x 7% x 6/12) (10,00,000x7% x 6/12)

(17,500) (35,000)

72,500 1,45,000

Cost of the asset:

Expenditure incurred 10,00,000 20,00,000

Borrowing Costs 72,500 1,45,000

Total 10,72,500 21,45,000

Question 14

ICAI Illustration

On 1st April, 20X1, A Ltd. took a 8% loan of Rs. 50,00,000 for construction of building A which
is repayable after 6 years ie on 31st March 20X7. The construction of building was completed
on 31st March 20X3. A Ltd. Started constructing a new building B in the year 20X3-20X4, for
which he used his existing borrowings. He has outstanding general purpose loan of Rs.

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25,00,000, interest on which is payable @ 9% and Rs. 15,00,000, interest on which is payable
@ 7%. Is the specific borrowing transferred to the general borrowings pool once the
respective qualifying asset is completed? Why?

(Study material)

Answer

Yes. If specific borrowings were not repaid once the relevant qualifying asset was completed,
they become general borrowings for as long as they are outstanding.

The borrowing costs that are directly attributable to obtaining qualifying assets are those
borrowing costs that would have been avoided if the expenditure on the qualifying asset had
not been made. If cash was not spent on other qualifying assets, it could be directed to repay
this specific loan. Thus, borrowing costs could be avoided (that is, they are directly attributable
to other qualifying assets).

• When general borrowings are used for qualifying assets, Ind AS 23 requires that, borrowing
costs eligible for capitalisation is calculated by applying a capitalisation rate to the expenditures
on qualifying assets.

• The amount of borrowing costs eligible for capitalisation is always limited to the amount of
actual borrowing costs incurred during the period.

Question 15

ICAI Illustration

Beta Ltd had the following loans in place at the end of 31st March, 20X2: (Amounts in Rs. 000)

Loan 1st April, 20X1 31st March, 20X2

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18% Bank Loan 1,000 1,000

16% Term Loan 3,000 3,000

14% Debentures - 2,000

14% debenture was issued to fund the construction of Office building on 1st July, 20X1 but the
development activities has yet to be started.

On 1st April, 20X1, Beta ltd began the construction of a Plant being qualifying asset using the
existing borrowings. Expenditure drawn down for the construction was: Rs. 500,000 on 1st
April, 20X1 and Rs. 2,500,000 on 1st January, 20X2.

Calculate the borrowing cost that can be capitalised for the plant.

(Study material)

Answer

Capitalisation rate 16.5%

Borrowing Costs (500,000 x 16.5%)+(2,500,000 Rs. 1,85,625

16.5% 3/12)

Capitalisation rate for above illustration could also be calculated with the following approach by
assigning weights to the borrowings:

Particulars Loan Weighted Interest rate (b) Capitalisation

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 average (a) rate (a*b)

18% Bank Loan 1,000 25% 18% 4.5%

16% Term Loan 3,000 75% 16% 12%

Total 4,000 100% 16.5%

Answer in both the approaches would be same as can be seen from the above two solutions.

Topic 4: Capitalization Rate Computation

Question 16

An entity constructs a new office building commencing on 1st September, 20X1, which
continues till 31st December, 20X1 (and is expected to go beyond a year). Directly
attributable expenditure at the beginning of the month on this asset are Rs. 2 lakh in
September 20X1 and Rs. 4 lakh in each of the months of October to December 20X1.

The entity has not taken any specific borrowings to finance the construction of the building
but has incurred finance costs on its general borrowings during the construction period.
During the year, the entity had issued 9% debentures with a face value of Rs. 30 lakh and had
an overdraft of Rs. 4 lakh, which increased to Rs. 8 lakh in December 20X1. Interest was paid
on the overdraft at 12% until 1st October, 20X1 and then the rate was increased to 15%.

Calculate the capitalization rate for computation of borrowing cost for the period ending 31st
December 20X1, in accordance with Ind AS 23 'Borrowing Cost'.

(MTP March ’21, PYP Nov ’19)

Answer 16

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Calculation of capitalization rate on borrowings other than specific borrowings

Nature of general Period of Amount of Rate of Weighted

borrowings outstanding loan (Rs.) interest p.a. average
balance amount of
interest (Rs.)

a b c d = [(b x c) x
(a/12)]

9% Debentures 12 months 30,00,000 9% 2,70,000

Bank overdraft 9 months 4,00,000 12% 36,000

2 months 4,00,000 15% 10,000

1 month 8,00,000 15% 10,000

46,00,000 3,26,000

Weighted average cost of borrowings

= {30,00,000 ( )} + {4,00,000 x ( )} + {8,00,000 ( )} = 34,33,334

Capitalization rate = (Weighted average amount of interest / Weighted

average of general borrowings) x 100

=( ) 100 = 9.50% p.a.

Question 17

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An entity constructs a new head office building commencing on 1st September 20X1, which
continues till 31st December 20X1. Directly attributable expenditure at the beginning of the
month on this asset are Rs. 100,000 in September 20X1 and Rs. 250,000 in each of the months
of October to December 20X1. The entity has not taken any specific borrowings to finance the
construction of the asset, but has incurred finance costs on its general borrowings during the
construction period. During the year, the entity had issued 10% debentures with a face value
of Rs. 20 lacs and had an overdraft of Rs. 500,000, which increased to Rs. 750,000 in
December 20X1. Interest was paid on the overdraft at 15% until 1 October 20X1, then the
rate was increased to 16%. Calculate the capitalization rate for computation of borrowing
cost in accordance with Ind AS 23 ‘Borrowing Costs’.

(RTP May ’18)

Answer 17

Since the entity has only general borrowing hence first step will be to compute the
capitalization rate. The capitalization rate of the general borrowings of the entity during the
period of construction is calculated as follows:

Finance cost on Rs. 20 lacs 10% debentures during September – December Rs. 66,667
20X1

Interest @ 15% on overdraft of Rs. 5,00,000 in September 20X1 Rs. 6,250

Interest @ 16% on overdraft of Rs. 5,00,000 in October and November 20X1 Rs. 13,333

Interest @ 16% on overdraft of Rs. 750,000 in December 20X1 Rs. 10,000

Total finance costs in September – December 20X1 Rs. 96,250

Weighted average borrowings during period

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 = Rs. 25,62,500

Capitalization rate = Total finance costs during the construction period / Weighted average
borrowings during the construction period

= = 3.756%

Question 18

X Limited has a treasury department that arranges funds for all the requirements of the
Company including funds for working capital and expansion programs. During the year ended
31st March, 20X2, the Company commenced the construction of a qualifying asset and
incurred the following expenses:

Date Amount (Rs.)

1st July, 20X1 2,50,000

1st December, 20X1 3,00,000

The details of borrowings and interest thereon are as under:

Particulars Average Balance (Rs.) Interest (Rs. )

Long term loan @ 10% 10,00,000 1,00,000

Working capital loan 5,00,000 65,000

15,00,000 1,65,000

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Compute the borrowing costs that need to be capitalised

(Study material)

Answer 18

The capitalisation rate is calculated as below:

Total borrowing costs / Weighted average total borrowings: = 11%. Interest to be

capitalised is calculated as under:

— On Rs. 2,50,000 @ 11% p.a. for 9 20,625

months =

— On Rs. 3,00,000 @ 11% p.a. for 4 11,000

months =

Total interest capitalised for the year ended 31st March 20X2 is Rs. 31,625

Question 19

X Ltd. commenced the construction of a plant (qualifying asset) on 1st September, 20X1,
estimated to cost Rs 10 crores. For this purpose, X has not raised any specific borrowings,
rather it intends to use general borrowings, which have a weighted average cost of 11%. Total
borrowing costs incurred during the period, viz., 1st September, 20X1 to 31st March, 20X2
were Rs 0.5 crore. (Rs in crore)

The other relevant details are as follows:

Month Cost of construction Cash outflows (paid in

Accrued advance at the start of

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 each month)

September 1.50 3.00

October 0.50 1.70

November 1.50 2.50

December 0.50 -

January 1.80 1.00

February 0.70 -

March 3.00 1.50

Based on the above information, discuss the treatment of borrowing cost as per cash outflow
basis and accrual basis and also suggest the appropriate amount of interest that should be
capitalised to the cost of the plant in the financial statements for the year ended 31st March,
20X2?

(RTP May ’22)

Answer 19

Paragraph 14 of Ind AS 23, inter-alia, states that to the extent that an entity borrows funds
generally and uses them for the purpose of obtaining a qualifying asset, the entity shall
determine the amount of borrowing costs eligible for capitalisation by applying a capitalisation
rate to the expenditures on that asset. The capitalisation rate shall be the weighted average of
the borrowing costs applicable to all borrowings of the entity that are outstanding during the
period. However, an entity shall exclude from this calculation borrowing costs applicable to
borrowings made specifically for the purpose of obtaining a qualifying asset until substantially
all the activities necessary to prepare that asset for its intended use or sale are complete. The

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amount of borrowing costs that an entity capitalises during a period shall not exceed the
amount of borrowing costs it incurred during that period.

In this context, a question arises whether such expenditure should be based on costs accrued or
actual cash outflows. To contrast these two alternatives, presented below is the computation of
borrowing costs based on both the alternatives:

Month Cost of Average capital Cash outflows Average capital

construction expenditure (paid in advance expenditure
at the start of
Accrued
each month)

September 1.50 1.50 = 0.875 3.00 3.00 = = 1.75

October 0.50 0.50 = 0.25 1.70 1.70 = = 0.85

November 1.50 1.50 = 0.625 2.50 2.50 = 1.04

December 0.50 0.50 = 0.17 - -

January 1.80 1.80 = 0.45 1.00 1 = = 0.25

February 0.70 0.70 = 0.12 - -

March 3.00 3.00 = 0.25 1.50 1.50 = 0.125

9.50 2.74 9.70 4.02

If the average capital expenditure on the basis of costs accrued is taken, the borrowing costs
eligible to be capitalised would be Rs 2.74 crore x 11% = 0.30 crore. Whereas, if average capital
expenditure on the basis of cash flows is taken, the borrowing costs eligible to be capitalised

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would be Rs 4.02 crore x 11% = 0.44 crore. Thus, there is a wide variance in the amount of
borrowing cost to be capitalised, based on the accrual basis and on actual cash flows basis. This
divergence is often experienced during the implementation of large projects, for example, an
advance given to a supplier involves an upfront cash outflow while the actual expenditure
accrues in later periods (with the receipt of goods and services).

As per paragraph 18 of Ind AS 23, expenditures on a qualifying asset include only those
expenditures that have resulted in payments of cash, transfers of other assets or the
assumption of interest-bearing liabilities. Expenditures are reduced by any progress payments
received and grants received in connection with the asset (see Ind AS 20, Accounting for
Government Grants and Disclosure of Government Assistance). The average carrying amount of
the asset during a period, including borrowing costs previously capitalised, is normally a
reasonable approximation of the expenditures to which the capitalization rate is applied in that
period.

Where cash has been paid but the corresponding cost has not yet accrued interest becomes
payable on payment of cash. Therefore, the amount so paid should be considered for
determining the amount of interest eligible for capitalisation, subject to the fulfillment of other
conditions prescribed in paragraph 16 of Ind AS 23. Accordingly, in the present case, interest
should be computed on the basis of the cash flows rather than on the basis of costs accrued.
Therefore, the amount of interest eligible for capitalisation would be Rs 0.44 crore.

Another important factor to be noted is that paragraph 14 requires, inter alia, that the amount
of borrowing costs that an entity capitalises during a period shall not exceed the amount of
borrowing costs it incurred during that period. Thus, the amount of borrowing costs to be
capitalised should not exceed the total borrowing costs incurred during the period, that is Rs
0.5 crore.

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Topic 5: Foreign Currency Borrowings

Question 20

ABC Ltd. has taken a loan of USD 20,000 on ApriI 1, 20X1 for constructing a plant at an
interest rate of 5 % per annum payable on annual basis.

On April 1, 20X1, the exchange rate between the currencies i.e. USD vs Rupees was Rs. 45 per
USD. The exchange rate on the reporting date i.e. March 31, 20X2 is Rs. 48 per USD.

The corresponding amount could have been borrowed by ABC Ltd. from State bank of India in
local currency at an interest rate of 11% per annum as on ApriI 1, 20X1.

Compute the borrowing cost to be capitalized for the construction of plant by ABC Ltd.

(MTP April ’19 & April ’22)

Answer 20

In the above situation, the Borrowing cost needs to determine for interest cost on such foreign
currency loan and eligible exchange loss difference if any.

(a) Interest on Foreign currency loan for the period:

USD 20,000 x 5% = USD 1,000

Converted in Rs. : USD 1,000 Rs. 48/USD = Rs. 48,000

Increase in liability due to change in exchange difference:

USD 20,000 (48 -45) = Rs. 60,000

(b) Interest that would have resulted if the loan was taken in Indian Currency:

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USD 20,000 Rs. 45/USD 11% = R5. 99,000

(c) Difference between Interest on Foreign Currency borrowing and local Currency borrowing

Rs. 99,000-48,000 = Rs. 51,000

Hence, out of Exchange loss of Rs. 60,000 on principal amount of foreign currency loan, only
exchange loss to the extent of Rs. 51,000 is considered as borrowing costs.

Total borrowing cost to be capitalized is as under :

Interest cost on borrowing Rs. 48,000

(a) Exchange difference to the extent considered b be an adjustment to Rs. 51,000

Interest cost

Rs. 99,000

The exchange difference of Rs. 51,000 has been capitalized as borrowing cost and the
remaining Rs. 9,000 will be expensed off in the Statement of Profit and loss.

Topic 6: Interest Capitalization with Bonds Issued at Discount

Question 21

How will you capitalize the interest when qualifying assets are funded by borrowings in the
nature of bonds that are issued at discount? Y Ltd. issued at the start of year 1, 10% (interest
paid annually and having maturity period of 4 years) bonds with a face value of Rs. 2,00,000
at a discount of 10% to finance a qualifying asset which is ready for intended use at the end of

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year 2. Compute the amount of borrowing costs to be capitalized if the company amortizes
discount using Effective Interest Rate method by applying 13.39% p.a. of EIR.

(RTP May ‘21)

Answer 21

Capitalization Method

As per the Standard, borrowing costs may include interest expense calculated using the
effective interest method. Further, capitalization of borrowing cost should cease where
substantially all the activities necessary to prepare the qualifying asset for its intended use or
sale are complete. Thus, only that portion of the amortized discount should be capitalized as
part of the cost of a qualifying asset which relates to the period during which acquisition,
construction or production of the asset takes place.

Capitalization of Interest

Hence based on the above explanation the amount of borrowing cost of year 1 & 2 are to be
capitalized and the borrowing cost relating to year 3 & 4 should be expensed.

Quantum of Borrowing

The value of the bond to Y Ltd. is the transaction price ie Rs. 1,80,000 (2,00,000 – 20,000)
Therefore, Y Ltd will recognize the borrowing at Rs. 1,80,000. Computation of the amount of
Borrowing Cost to be Capitalized Ltd will capitalise the interest (borrowing cost) using the
effective interest rate of 13.39% for two years as the qualifying asset is ready for intended use
at the end of the year 2, the details of which are as follows:

Year Opening Interest Total Interest Closing

Borrowing expense @ paid Borrowing
13.39% to be
capitalised

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 (1) (2) (3) (4) (5) = (3) – (4)

1 1,80,000 24,102 2,04,102 20,000 1,84,102

2 1,84,102 24,651 2,08,753 20,000 1,88,753

48,753

Accordingly, borrowing cost of Rs. 48,753 will be capitalized to the cost of qualifying asset.

Topic 7: Cease of Capitalization

Question 22

LT Ltd. is in the process of constructing a building. The construction process is expected to

take about 18 months from 1st January 20X1 to 30th June 20X2. The building meets the
definition of a qualifying asset. LT Ltd. incurs the following expenditure for the construction:

1st January, 20X1 Rs 5 crores

30th June, 20X1 Rs 20 crores

31st March, 20X2 Rs 20 crores

30th June, 20X2 Rs 5 crores

On 1st July 20X1, LT Ltd. issued 10% Redeemable Debentures of Rs 50 crores. The proceeds
from the debentures form part of the company's general borrowings, which it uses to finance
the construction of the qualifying asset, ie, the building. LT Ltd. had no borrowings (general or
specific) before 1st July 20X1 and did not incur any borrowing costs before that date. LT Ltd.

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incurred Rs 25 crores of construction costs before obtaining general borrowings on 1st July
20X1 (pre-borrowing expenditure) and Rs 25 crores after obtaining the general borrowings
(post-borrowing expenditure).

For each of the financial years ended 31st March 20X1, 20X2 and 20X3, calculate the
borrowing cost that LT Ltd. is permitted to capitalize as a part of the building cost.

(RTP May ’23)

Answer 22

Applying paragraph 17 of Ind AS 23 to the fact pattern, the entity would not begin capitalising
borrowing costs until it incurs borrowing costs (i.e. from 1st July, 20X1) In determining the
expenditures on a qualifying asset to which an entity applies the capitalisation rate (paragraph
14 of Ind AS 23), the entity does not disregard expenditures on the qualifying asset incurred
before the entity obtains the general borrowings. Once the entity incurs borrowing costs and
therefore satisfies all three conditions in para 17 of Ind AS 23, it then applies paragraph 14 of
Ind AS 23 to determine the expenditures on the qualifying asset to which it applies the
capitalisation rate.

Calculation of borrowing cost for financial year 20X0-20X1

Expenditure Capitalization Period Weighted average

(current year) Accumulated Expenditure

Date Amount

1st January 20X1 Rs 5 crore 0/3 Nil

Borrowing Costs eligible for capitalisation = NIL. LT Ltd. cannot capitalise borrowing costs before
1st July, 20X1 (the day it starts to incur borrowing costs).

Calculation of borrowing cost for financial year 20X1-20X2

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 Expenditure Capitalization Period Weighted average
(current year) Accumulated
Expenditure

Date Amount

1st January, 20X1 Rs 5 crore Rs 3.75 crore

30th June, 20X1 Rs 20 crore Rs 15 crore

31st March, 20X2 Rs 20 crore Nil

Total Rs 18.75 crore

Borrowing Costs eligible for capitalisation = 18.75 cr. x 10% = Rs 1.875 cr.

1. LT Ltd. cannot capitalise borrowing costs before 1st July, 20X1 (the day it starts to incur
borrowing costs). Accordingly, this calculation uses a capitalization period from 1st July, 20X1 to
31st March, 20X2 for this expenditure.

Calculation of borrowing cost for financial year 20X2-20X3

Expenditure Capitalization Period Weighted average

(current year) Accumulated
Expenditure

Date Amount

1st January, 20X1 Rs 5 crore Rs 1.25 crore

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30th June, 20X1 Rs 20 crore Rs 5 crore

31st March, 20X2 Rs 20 crore Rs 5 crore

30th June, 20X2 Rs 5 crore Nil

Total Rs 11.25 crore

Borrowing costs eligible for capitalisation = Rs 11.25 cr. 10% = Rs 1.125 cr.

Question 23

K Ltd. began construction of a new building at an estimated cost of Rs. 7 lakh on 1st April,
2017. To finance construction of the building it obtained a specific loan of Rs. 2 lakh from a
financial institution at an interest rate of 9% per annum.

The company’s other outstanding loans were:

Amount Rate of Interest per

annum

Rs. 7,00,000 12%

Rs. 9,00,000 11%

The expenditure incurred on the construction was:

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 April, 2017 Rs. 1,50,000

August, 2017 Rs. 2,00,000

October, 2017 Rs. 3,50,000

January, 2018 Rs. 1,00,000

The construction of building was completed by 31st January, 2018. Following the provisions
of Ind AS 23 ‘Borrowing Costs’, calculate the amount of interest to be capitalized and pass
necessary journal entry for capitalizing the cost and borrowing cost in respect of the building
as on 31st January, 2018.

(RTP Nov ’18)

Answer 23

(i) Calculation of capitalization rate on borrowings other than specific borrowings

Amount of loan (Rs.) Rate of Amount of interest (Rs.)

interest

7,00,000 12% = 84,000

9,00,000 11% = 99,000

16,00,000 1,83,000

Weighted average rate of interest 100 11.4375%

(ii) Computation of borrowing cost to be capitalized for specific borrowings and general
borrowings based on weighted average accumulated expenses

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Date of incurrence Amount spent Financed through Calculation Rs.
of expenditure

1st April, 2017 1,50,000 Specific 1,50,000 x 9% x 11,250

borrowing 10/12

1st August, 2017 2,00,000 Specific 50,000 x 9% x 3,750

borrowing 10/12

General 1,50,000 x 8,578.1 25

borrowing 11.4375% x 6/12

1st October, 2017 3,50,000 General 3,50,000 x 13,343. 75

borrowing 11.4375% x 4/12

1st January, 2018 1,00,000 General 1,00,000 x 953.125

borrowing 11.4375% x 1/12

-37,875

Note: Since construction of building started on 1st April, 2017, it is presumed that all the later
expenditures on construction of building had been incurred at the beginning of the respective
month.

(i) Total expenses to be capitalized for building

Rs.

Cost of building Rs. (1,50,000 + 2,00,000 + 3,50,000 + 11,00,000) 8,00,000

Add: Amount of interest to be capitalized 37,875

8,37,875

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(ii) Journal Entry

Date Particulars Rs. Rs.

31.1.2018 Building account Dr 8,37,87

To Bank account 8,00,0000

To Interest payable (borrowing cost) 37,875

(Being expenditure incurred on construction of

building and borrowing cost thereon capitalized)

Alternatively, following journal entry may be passed if interest is paid on the date of
capitalization

Date Particulars Rs. Rs.

31.1.2018 Building account Dr. 8,37,875

To Bank account 8,37,875

(Being expenditure incurred on construction of

building and borrowing cost thereon
capitalized)

Topic 8: Borrowing Costs in Consolidated Financial Statements

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Question 24

ICAI Illustration

A subsidiary (or jointly controlled entity or associate) finances the construction of a qualifying
asset with an inter-company loan. Are borrowing costs incurred on the inter-company loan
capitalised in the separate financial statements of the subsidiary (or jointly controlled entity
or associate)?

(Study material)

Answer

Yes. Borrowing costs are capitalised to the extent of the actual costs incurred by the subsidiary
(or jointly controlled entity or associate).

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 Chapter 5 Unit-4

Ind AS 36: “Impairment of Assets”

Topic 1 : Basic Concepts of Impairment

Question 1

Violet Limited is a beverages manufacturing company having various plants across India.
There is Machinery A in the Surat plant which is used for the purpose of bottling. There is one
more machinery which is Machinery B clubbed with Machinery A. Machinery A can
individually have an output and also be sold independently in the open market. Machinery B
cannot be sold in isolation and without clubbing with Machinery A it cannot produce output
as well. The company considers this group of assets as a Cash Generating Unit and an
Inventory amounting to Rs 1.65 lakhs and Goodwill amounting to Rs 1.50 lakhs is included in
such CGU.

Machinery A was purchased on 1st April 2016 for Rs 12 lakhs and residual value is Rs 60
thousand. Machinery B was purchased on 1st April, 2018 for Rs 5 lakhs with no residual value.
The useful life of both Machinery A and B is 10 years. The company expects following cash
flows in the next 5 years pertaining to Machinery A. The incremental borrowing rate of
company is 10% p.a.

Year Cash Flows from Machinery A

1 2,00,000

2 1,50,000

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 3 1,00,000

4 1,50,000

5 1,00,000 (Excluding Residual Value)

Total 7,00,000

On 31st March, 2021, the professional valuers have estimated that the current market value
of machinery A is Rs 8.5 lakhs. There is a need to dismantle the machinery before delivering it
to the buyer. Dismantling cost is Rs 1.60 lakhs. Specialized packaging cost would be Rs 30,000
and legal fees would be Rs 68,000.

The inventory has been valued in accordance with Ind AS 2. The recoverable value of CGU is
Rs 10 lakhs as on 31st March, 2021. In the next year, the company has done the assessment
of recoverability of the CGU and found that the value of such CGU is Rs 11 lakhs i.e. on 31st
March, 2022. The recoverable value of Machinery A is Rs 5,50,000 and combined for
Machinery A and Machinery B is Rs 8,00,000 as on 31st March, 2022.

You are required to:

(i) Compute the impairment loss on CGU and carrying value of each asset after charging
impairment loss for the year ending 31st March, 2021 by providing all the relevant working
notes to arrive at such calculation.

(ii) Compute the carrying value after considering prospective depreciation for the year 2021-
2022 on the above assets.

(iii) Compute the carrying value of CGU as at 31st March, 2022.

(Note: Present value factor of Rs 1 should be taken upto 4 decimals for the purpose

of calculation)

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 (PYP Nov 22)

Answer 1

(i) Computation of impairment loss and carrying value of each of the asset in CGU after
impairment loss

(a) Calculation of carrying value of Machinery A and B before impairment

Machinery A

Cost (A) Rs 12,00,000

Residual value Rs 60,000

Useful life 10 years

Useful life already elapsed 5 years

Yearly depreciation (B) Rs 1,14,000

WDV as at 31st March 2021 [A- (B 5)] Rs 6,30,000

Machinery B

Cost (C) Rs 5,00,000

Residual value -

Useful life 10 years

Useful life already elapsed 3 years

Yearly depreciation (D) Rs 50,000

WDV as at 31st March 2021 [C- (D 3)] Rs 3,50,000

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(b) Calculation of Value-in-use of Machinery A

Period Cash Flows (Rs) PVF@10 % PV

1 2,00,000 0.9091 1,81,820

2 1,50,000 0.8264 1,23,960

3 1,00,000 0.7513 75,130

4 1,50,000 0.6830 1,02,450

5 1,00,000 0.6209 62,090

5 60,000 0.6209 37,254

Value in use 5,82,704

(c) Calculation of Fair Value less cost of disposal of Machinery A

Rs

Fair Value 8,50,000

Less: Dismantling cost (1,60,000)

Packaging cost (30,000)

Legal Fees (68,000)

Fair value less cost of disposal 5,92,000

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(d) Calculation of Impairment loss on Machinery A

Rs

Carrying Value 6,30,000

Less: Recoverable Value ie higher of Value-in-use (Rs 5,82,704) and Fair value (5,92,000)
less cost of disposal (Rs 5,92,000)

Impairment Loss 38,000

(e) Calculation of Impairment loss of CGU

1. First goodwill will be impaired fully and then the remaining impairment loss of CGU will be
allocated to Machinery A and Machinery B.

2. After deduction of value of goodwill Rs 1,50,000 from total impairment loss of CGU of Rs
2,95,000, remaining impairment loss would be Rs 1,45,000. If we allocate remaining
impairment loss to Machinery A and B on pro- rata basis, it will come to Rs 93,214 on
Machinery A. However, the impairment loss of Machinery A cannot exceed Rs 38,000 since its
recoverable value is Rs 5,92,000. Hence, impairment loss to CGU will be as follows:

Carrying value Impairment loss Carrying value

before after
impairment loss impairment
loss

Rs Rs Rs

Machinery A 6,30,000 38,000 5,92,000

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Machinery B 3,50,000 1,07,000* 2,43,000

Inventory 1,65,000 - 1,65,000

Goodwill 1,50,000 1,50,000 -

Total 12,95,000 2,95,000 10,00,000

* Balancing figure

(ii) Carrying value after adjustment of depreciation of 2021-2022

Rs

Machinery A [5,92,000 – {(5,92,000 - 60,000)/5}] 4,85,600

Machinery B [2,43,000 – (2,43,000/7)] 2,08,286

Inventory 1,65,000

Goodwill -

Total 8,58,886

(iii) Calculation of carrying value of CGU as on 31st March 2022

The revised value of CGU is Rs 11 lakh. However, impaired goodwill cannot be reversed.
Further, the individual assets cannot be increased above the lower of recoverable value or
carrying value as if the assets were never impaired.

Accordingly, the carrying value as on 31st March 2022 assuming that the impairment loss had
never incurred, will be:

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 Carrying Value Recoverable Final CV as at
Value 31st March
2022

Machinery A [12,00,000 - 5,50,000 5,16,000

(1,14,000 6)]
5,16,000

Machinery B [5,00,000 (8,00,000 – 2,50,000

(50,000 4)] 3,00,000 5,50,000)

2,50,000

Inventory 1,65,000* 1,65,000* 1,65,000*

Goodwill - - -

Total 9,81,000 9,65,000 9,31,000

Hence, the impairment loss to be reversed will be limited to Rs 72,114 only (Rs 9,31,000 – Rs
8,58,886).

*Note: The question required valuation of CGU at the year-end 31st March 2022, for which
value of inventory was required. In the absence of the value of inventory for the year ended
31st March 2022, it is assumed that the value of inventory for the year ended 31st March 2022
is same as it was for the year ended 31st March, 2021.

Question 2

M Ltd. has three cash-generating units: A, B and C. Due to adverse changes in the
technological environment, M Ltd. conducted impairment tests of each of its cash- generating

[Link]
units. On 31st March, 2018, the carrying amounts of A, B and C are Rs. 100 lakhs, Rs. 150
lakhs and Rs. 200 lakhs respectively.

The operations are conducted from a headquarter. The carrying amount of the headquarter
assets is Rs. 200 lakhs: a headquarter building of Rs. 150 lakhs and a research centre of Rs. 50
lakhs. The relative carrying amounts of the cash-generating units are a reasonable indication
of the proportion of the headquarter building devoted to each cash-generating unit. The
carrying amount of the research Centre cannot be allocated on a reasonable basis to the
individual cash-generating units.

Following is the remaining estimated useful life of:

A B C Head quarter
assets

Remaining estimated useful life 10 20 20 20

The headquarter assets are depreciated on a straight-line basis.

The recoverable amount of each cash generating unit is based on its value in use since net
selling price for each CGU cannot be calculated. Therefore, Value in use is equal to

A B C M Ltd. as a
whole

Recoverable amount 199 164 271 720*

*The research centre generates additional future cash flows for the enterprise as a whole.
Therefore, the sum of the value in use of each individual CGU is less than the value in use of
the business as a whole. The additional cash flows are not attributable to the headquarter
building.

Calculate and show allocation of impairment loss as per Ind AS 36. Ignore tax effects

[Link]
 (RTP Nov ‘18)

Answer 2

1. Identification of Corporate Assets of M Ltd.

Here, the corporate assets are the headquarter building and the research centre.

For corporate building

Since, the carrying amount of the headquarter building can be allocated on a reasonable and
consistent basis to the cash-generating units under review. Therefore, only a ‘bottom-up’ test is
necessary.

For research centre

Since the carrying amount of the research centre cannot be allocated on a reasonable and
consistent basis to the individual CGU under review. Therefore, a ‘top-down’ test will be applied
in addition to the ‘bottom-up’ test.

2. Allocation of Corporate Assets

Since the estimated remaining useful life of A’s CGU is 10 years, whereas the estimated
remaining useful lives of B and C’s CGU are 20 years, the carrying amount of the headquarter
building is allocated to the carrying amount of each individual cash-generating unit on weight
basis.

3. Calculation of a weighted allocation of the carrying amount of the headquarter building

(Amount in Rs. lakhs)

On 31st March, 2018 A B C Total

Carrying amount (A) 100 150 200 450

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Useful life 10 years 20 years 20 years

Weighting based on useful life 1 2 2

Carrying amount after weighting 100 300 400 800

Pro-rata allocation of the building 12.5% 37.5% 50% 100%

Allocation of the carrying amount of the ( ) ( ) ( )

building (based on pro-rata above) (B)

18.75 56.25 75 150

Carrying amount (after allocation of the 118.75 206.25 275 600

building)

4. Calculation of Impairment Losses

a. Application of ‘bottom-up’ test (Amount in Rs. lakhs)

31st March, 2018 A B C

Carrying amount (after allocation of the building) (Refer 118.75 206.25 275
Point 3 above)

Recoverable amount (given in the question) 199 164 271

Impairment loss 0 (42) (4)

(i) Allocation of the impairment losses for cash-generating units B and C

(Amount in Rs. lakhs)

Cash-generating unit B C

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To headquarter building (12) (42*56/206) (1) (4*75/275)

To assets in cash-generating (30) (42*150/206) (3) (4*200/275)

unit

(42) (4)

Since the research centre could not be allocated on a reasonable and consistent basis to A, B
and C’s CGU, M Ltd. compares the carrying amount of the smallest CGU to which the carrying
amount of the research centre can be allocated (i.e., M as a whole) to its recoverable amount,
in accordance with the ‘top-down’ test.

(ii) Application of the ‘top-down’ test (Amount in Rs. lakhs)

31st March, 2018 A B C Building Research M Ltd.

centre

Carrying amount 100 150 200 150 50 650

Impairment loss – (30) (3) (13) – (46)

arising from the
‘bottom-up’ test

Carrying amount after 100 120 197 137 50 604

the ‘bottom- up’ test

Recoverable amount 720

Since recoverable amount is more than the carrying amount of M Ltd., no additional
impairment loss has been resulted from the application of the ‘top- down’ test. Only an
impairment loss of Rs. 46 lakhs will be recognized as a result of the application of the ‘bottom-
up’ test.

[Link]
Question 3

ICAI Illustration

Mars Ltd. gives the following estimates of cash flows relating to property, plant and
equipment on 31st March, 20X4. The discount rate is 15%

Year Cash Flow (Rs in lakh)

20X4-20X5 2,000

20X5-20X6 3,000

20X6-20X7 3,000

20X7-20X8 4,000

20X8-20X9 2,000

Residual Value at 31st March, 20X9 500

Property, plant & equipment was purchased on 1st April, 20X1 for Rs 20,000 lakh

Residual Value estimated at the end of 8 years Rs 500 lakh

Fair value less cost to disposal Rs 10,000 lakh

Calculate impairment loss, if any on the property, plant and equipment. Also calculate the
revised carrying amount and revised depreciation of property, plant and equipment.

(Study material)

Answer

[Link]
(a) Calculation of Carrying Amount on 31st March, 20X4 (Rs in lakh)

Particular Amount

Original Cost on 1st April, 20X1(20,000-500)/8 X 3 20,000

Less: Depreciation (7,313)

Carrying Amount 12,687

(b) Calculation of Value in Use

Year Cash Flows P.V. Amount

20X4-20X5 2,000 .870 1,740

20X5-20X6 3,000 .756 2,268

20X6-20X7 3,000 .658 1,974

20X7-20X8 4,000 .572 2,288

20X8-20X9 (including residual value) 2,500 .497 1,243

Total 9,513

(c) Calculation of Recoverable Amount

Particular Amount

Value in Use 9,513

Fair value less costs of disposal 10,000

Recoverable Amount 10,000

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(d) Calculation of Impairment Loss

Carrying Amount – Recoverable Amount

12,687 – 10,000 = 2,687

(e) Calculation of Revised Carrying Amount

Particular Amount

Carrying Amount 12,687

Less: Impairment Loss (2,687)

Revised Carrying Amount 10,000

(f) Calculation of Revised Depreciation

= = 1.900

Question 4

ICAI Illustration

Venus Ltd. has an asset, which is carried in the Balance Sheet on 31st March, 20X1 at Rs 500
lakh. As at that date the value in use is Rs 400 lakh and the fair value less costs to sells is Rs
375 lakh.

From the above data:

(a) Calculate impairment loss.

(b) Prepare journal entries for adjustment of impairment loss.

[Link]
 (Study material)

Answer

According to Ind AS 36, Impairment of Assets, impairment loss is the excess of ‘Carrying amount
of the asset’ over ‘Recoverable Amount’.

In the present case, the impairment loss can be computed in the following manner:

Step 1: Fair value less costs to sell: Rs 375 lakh

Step 2: Value in use: Rs 400 lakh

Step 3: Recoverable amount, i.e., higher of ‘fair value less costs to sell’ & ‘value in use’. Thus,
recoverable amount is Rs 400 lakh

Step 4: Carrying amount of the asset Rs 500 lakh

Step 5: Impairment loss, i.e., excess of amount computed in step 4 over amount computed in
Step 3.

Rs 100 lakh (being the difference between Rs 500 lakh and Rs 400 lakh).

According to Ind AS 36, an impairment loss should be recognised as an expense in the

statement of profit and loss immediately, unless the asset is carried at revalued amount in
accordance with another Accounting Standard. Assuming, that the asset is not carried at
revalued amount, the impairment loss of Rs 100 lakh will be charged to Profit & Loss Account.

Journal Entries

Date Particulars Dr. Cr.

Rs in lakh Rs in
lakh

[Link]
31.3.20X1 Impairment Loss A/c Dr. 100

To Assets A/c 100

(Being impairment loss on an asset recognised)

31.3.20X1 Statement of Profit & Loss Dr. 100

To Impairment Loss A/c 100

(Being impairment loss transferred to statement of

profit and loss)

Question 5

ICAI Illustration

A publisher owns 150 magazine titles of which 70 were purchased and 80 were self-created.
The price paid for a purchased magazine title is recognised as an intangible asset. The costs of
creating magazine titles and maintaining the existing titles are recognised as an expense
when incurred. Cash inflows from direct sales and advertising are identifiable for each
magazine title. Titles are managed by customer segments. The level of advertising income for
a magazine title depends on the range of titles in the customer segment to which the
magazine title relates. Management has a policy to abandon old titles before the end of their
economic lives and replace them immediately with new titles for the same customer
segment. What is the cash-generating unit for an individual magazine title?

(Study material)

Answer

[Link]
It is likely that the recoverable amount of an individual magazine title can be assessed. Even
though the level of advertising income for a title is influenced, to a certain extent, by the other
titles in the customer segment, cash inflows from direct sales and advertising are identifiable
for each title. In addition, although titles are managed by customer segments, decisions to
abandon titles are made on an individual title basis. Therefore, it is likely that individual
magazine titles generate cash inflows that are largely independent of each other and that each
magazine title is a separate cash-generating unit.

Topic 2 : Cash Generating Unit (CGU)

Question 6

Apex Ltd. is engaged in manufacturing of steel utensils. It owns a building for its
headquarters. The building used to be fully occupied for internal use. However, recently the
company has undertaken a massive downsizing exercise as a result of which 1/3rd of the
building became vacant. This vacant portion has now been given for on lease for 6 years.
Determine the CGU of the building.

(Study material)

Answer 6

CGU of the building is Apex Ltd. as a whole as the primary purpose of the building is to serve as
a corporate asset.

Question 7

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ABC Ltd. has three cash-generating units: A, B and C, the carrying amounts of which as on 31st
March, 20X1 are as follows:

Cash-generating Carrying amount (Rs in crore) Remaining useful

units life

A 500 10

B 750 20

C 1,100 20

ABC Ltd. also has two corporate assets having a remaining useful life of 20 years.

(Rs in crore)

Corporate asset Carrying amount Remarks

X 600 The carrying amount of X can be allocated on

a reasonable basis (i.e., pro rata basis) to the
individual cash-generating units.

Y 200 The carrying amount of Y cannot be allocated

on a reasonable basis to the individual cash-
generating units.

Recoverable amount as on 31st March, 20X1 is as follows:

Cash-generating units Recoverable amount (Rs in crore)

A 600

B 900

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 C 1,400

ABC Ltd. 3,200

Calculate the impairment loss, if any. Ignore decimals.

(Study material)

Answer 7

Allocation of corporate assets

The carrying amount of X is allocated to the carrying amount of each individual cash-generating
unit. A weighted allocation basis is used because the estimated remaining useful life of A’s cash-
generating unit is 10 years, whereas the estimated remaining useful lives of B and C’s cash-
generating units are 20 years.

Particulars A B C Total

Carrying amount 500 750 1,100 2,350

Useful life 10 years 20 years 20 years —

Weight based on useful life 1 2 2 —

Carrying amount (after assigning 500 1,500 2,200 4,200

weight)

Pro-rata allocation of X 12% 36% 52% 100%

( ) ( ) ( )

Allocation of carrying amount of X 72 216 312 600

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Carrying amount (after allocation 572 966 1,412 2,950
of X)

Calculation of impairment loss

Step I: Impairment losses for individual cash-generating units and its allocation

(a) Impairment loss of each cash-generating units

(Rs in crore)

Particulars A B C

Carrying amount (after allocation of X) 572 966 1,412

Recoverable amount 600 900 1400

Impairment loss - 66 12

(b) Allocation of the impairment loss

(Rs in crore)

Allocation to B C

X 15 (66 ) 3 (12 )

Other assets in Cash generating 51 (66 ) 9 (12 )

units

Impairment loss 66 12

Step II: Impairment losses for the larger cash-generating unit, i.e., ABC Ltd. As a whole

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(Rs in crore)

Particulars A B C X Y ABC Ltd.

Carrying amount 500 750 1,100 600 200 3,150

Impairment loss (Step I) - (51) (9) (18) - (78)

Carrying amount (after Step I) 500 699 1,091 582 200 3,072

Recoverable amount 3,200

Impairment loss for the ‘larger’ Nil

cash-generating unit

Question 8

Parent acquires an 80% ownership interest in Subsidiary for Rs 2,100 on 1st April, 20X1. At
that date, Subsidiary’s net identifiable assets have a fair value of Rs 1,500. Parent chooses to
measure the non-controlling interests as the proportionate interest of Subsidiary’s net
identifiable assets. The assets of Subsidiary together are the smallest group of assets that
generate cash inflows that are largely independent of the cash inflows from other assets or
groups of assets. Since other cash-generating units of Parent are expected to benefit from the
synergies of the combination, the goodwill of Rs 500 related to those synergies has been
allocated to other cash-generating units within Parent. On 31st March, 20X2, Parent
determines that the recoverable amount of cash-generating unit Subsidiary is Rs 1,000. The
carrying amount of the net assets of Subsidiary, excluding goodwill, is Rs 1,350. Allocate the
impairment loss on 31st March, 20X2.

(Study material)

[Link]
Answer 8

Non-controlling interests is measured as the proportionate interest of Subsidiary’s net

identifiable assets, i.e., Rs 300 (20% of Rs 1,500). Goodwill is the difference between the
aggregate of the consideration transferred and the amount of the non-controlling interests (Rs
2,100 + Rs 300) and the net identifiable assets (Rs 1,500), i.e., Rs 900.

Since, the assets of Subsidiary together are the smallest group of assets that generate cash
inflows that are largely independent of the cash inflows from other assets or groups of assets,
therefore, Subsidiary is a cash-generating unit. Since other cash generating units of Parent are
expected to benefit from the synergies of the combination, the goodwill of Rs 500 related to
those synergies has been allocated to other cash-generating units within Parent. Because the
cash-generating unit comprising Subsidiary includes goodwill within its carrying amount, it
should be tested for impairment annually, or more frequently if there is an indication that it
may be impaired.

Testing Subsidiary (cash-generating unit) for impairment

Goodwill attributable to non-controlling interests is included in Subsidiary’s recoverable

amount of Rs 1,000 but has not been recognised in Parent’s consolidated financial statements.
Therefore, the carrying amount of Subsidiary should be grossed up to include goodwill
attributable to the non-controlling interests, before being compared with the recoverable
amount of Rs 1,000. Goodwill attributable to Parent’s 80% interest in Subsidiary at the
acquisition date is Rs 400 after allocating Rs 500 to other cash-generating units within Parent.
Therefore, goodwill attributable to the 20% non controlling interests in Subsidiary at the
acquisition date is Rs 100.

Testing subsidiary for impairment on 31st March, 20X2

On 31st March, 20X2 Goodwill of Net identifiable Total (Rs)

subsidiary (Rs)
Assets (Rs)

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Carrying amount 400 1,350 1,750

Unrecognised non-controlling 100 - 100

interests

Adjusted carrying amount 500 1,350 1,850

Recoverable amount 1,000

Impairment loss 850

Allocating the impairment loss

The impairment loss of Rs 850 should be allocated to the assets in the unit by first reducing the
carrying amount of goodwill.

Therefore, Rs 500 of the Rs 850 impairment loss for the unit is allocated to the goodwill. If the
partially-owned subsidiary is itself a cash-generating unit, the goodwill impairment loss should
be allocated to the controlling and non-controlling interests on the same basis as that on which
profit or loss is allocated. In this case, profit or loss is allocated on the basis of relative
ownership interests. Because the goodwill is recognised only to the extent of Parent’s 80%
ownership interest in Subsidiary, Parent recognises only 80% of that goodwill impairment loss
(i.e., Rs 400).

The remaining impairment loss of Rs 350 is recognised by reducing the carrying amounts of
Subsidiary’s identifiable assets.

Allocation of the impairment loss for Subsidiary on 31st March, 20X2

On 31st March, 20X2 Goodwill of Net identifiable Total (Rs)

subsidiary (Rs) assets(Rs)

Carrying amount 400 1,350 1,750

[Link]
Impairment loss (400) (350) (750)

Carrying amount after - 1,000 1,000

impairment loss

Question 9

ICAI Illustration

The carrying value of a building in the books of Sun Ltd. as at 31st March, 20X1 is Rs 300 lakh.
As on that date the value in use is Rs 250 lakh and fair value less cost of disposal is Rs 238
lakh. Calculate the Recoverable Amount.

(Study material)

Answer

Recoverable Amount : Higher of Fair Value less Costs of disposal and Value in Use Fair

Value less costs of disposal : Rs 250 lakh

Value in Use : Rs 238 lakh

Therefore, Recoverable value will be Rs 250 lakh

Question 10

ICAI Illustration

Earth Infra Ltd has two cash-generating units, A and B. There is no goodwill within the units’
carrying values. The carrying values of the CGUs are CGU A for Rs 20 million and CGU B for Rs
30 million. The company has an office building which it is using as an office headquarter and

[Link]
has not been included in the above values and can be allocated to the units on the basis of
their carrying values. The office building has a carrying value of Rs 10 million. The recoverable
amounts are based on value-in-use of Rs 18 million for CGU A and Rs 38 million for CGU B.
Determine whether the carrying values of CGU A and B are impaired.

(Study material)

Answer

The office building is a corporate asset which needs to be allocated to CGU A and B on a
reasonable and consistent basis:

A B Total

Carrying value of CGUs 20 30 50

Allocation of office building 4 6 10

(office building is allocated in the ratio of

Carrying value of CGU’s)

Carrying value of CGU after

Allocation of corporate asset 24 36 60

Recoverable Amount 18 38 56

The impairment loss will be allocated on the basis of 4/24 against the building (Rs 1 million) and
20/24 against the other assets (Rs 5 million).

Question 11

ICAI Illustration

[Link]
A mining entity owns a private railway to support its mining activities. The private railway
could be sold only for scrap value and it does not generate cash inflows that are largely
independent of the cash inflows from the other assets of the mine. Should the entity
determine the recoverable amount for the private railway or for the mining business as a
whole?

(Study material)

Answer

It is not possible to estimate the recoverable amount of the private railway because its value in
use cannot be determined and is probably different from scrap value. Therefore, the entity
estimates the recoverable amount of the cash-generating unit to which the private railway
belongs, i.e., the mine as a whole.

Question 12

ICAI Illustration

A significant raw material used for plant Y’s final production is an intermediate product
bought from plant X of the same entity. X’s products are sold to Y at a transfer price that
passes all margins to X. 80% of Y’s final production is sold to customers outside of the entity.

60% of X’s final production is sold to Y and the remaining 40% is sold to customers outside of
the entity. For each of the following cases, what are the cash-generating units for X and Y?

(a) If X could sell the products it sells to Y in an active market and internal transfer prices are
higher than market prices, what are the cash-generating units for X and Y?

(b) If there is no active market for the products X sells to Y, what are the cash-generating
units for X and Y?

[Link]
 (Study material)

Answer

(a) Cash-generating unit for X: X could sell its products in an active market and, so, generate
cash inflows that would be largely independent of the cash inflows from Y. Therefore, it is likely
that X is a separate cash-generating unit, although part of its production is used by Y.

Cash-generating unit for Y: It is likely that Y is also a separate cash-generating unit. Y sells 80%
of its products to customers outside of the entity. Therefore, its cash inflows can be regarded as
largely independent.

Effect of internal transfer pricing: Internal transfer prices do not reflect market prices for X’s
output. Therefore, in determining value in use of both X and Y, the entity adjusts financial
budgets/forecasts to reflect management’s best estimate of future prices that could be
achieved in arm’s length transactions for those of X’s products that are used internally.

(b) Cash-generating units for X and Y: It is likely that the recoverable amount of each plant
cannot be assessed independently of the recoverable amount of the other plant because:

(i) the majority of X’s production is used internally and could not be sold in an active market. So,
cash inflows of X depend on demand for Y’s products.

Therefore, X cannot be considered to generate cash inflows that are largely independent of
those of Y.

(ii) the two plants are managed together.

As a consequence, it is likely that X and Y together are the smallest group of assets that
generates cash inflows that are largely independent.

Question 13

[Link]
ICAI Illustration

XYZ Limited produces a single product and owns plants 1, 2 and 3. Each plant is located in a
different country. Plant 1 produces a component that is assembled in either Plant 2 or Plant
3. The combined capacity of Plant 2 and Plant 3 is not fully utilised. XYZ Limited’s products are
sold worldwide from either Plant 2 or Plant 3, e.g., Plant 2’s production can be sold in Plant
3’s country if the products can be delivered faster from Plant 2 than from Plant 3. Utilisation
levels of Plant 2 and Plant 3 depend on the allocation of sales between the two sites. If there
is no active market for Plant 1’s products, what are the cash-generating units for Plant 1,
Plant 2 and Plant 3?

(Study material)

Answer

It is likely that the recoverable amount of each plant cannot be assessed independently
because:

(a) There is no active market for Plant 1’s products. Therefore, Plant 1’s cash inflows depend on
sales of the final product by Plant 2 and Plant 3.

(b) Although there is an active market for the products assembled by Plant 2 and Plant 3, cash
inflows for Plant 2 and Plant 3 depend on the allocation of production across the two sites. It is
unlikely that the future cash inflows for Plant 2 and Plant 3 can be determined individually. As a
consequence, it is likely that Plant 1, Plant 2 and Plant 3 together (i.e., XYZ Limited as a whole)
are the smallest identifiable group of assets that generates cash inflows that are largely
independent.

Question 14

ICAI Illustration

[Link]
Goodwill had previously been allocated to cash-generating unit A. The goodwill allocated to A
cannot be identified or associated with an asset group at a level lower than A, except
arbitrarily. A is to be divided and integrated into three other cash-generating units, B, C and
D. How the goodwill should be reallocated to B, C and D?

(Study material)

Answer

Since goodwill allocated to A cannot be non-arbitrarily identified or associated with an asset

group at a level lower than A, it is reallocated to units B, C and D on the basis of the relative
values of the three portions of A before those portions are integrated with B, C and D.

Topic 3 : Impairment Loss Recognition

Question 15

On 1st April, 20X1, Sun Ltd. has acquired 100% shares of Earth Ltd. for Rs 30 lakh. Sun Ltd. has
3 cash-generating units A, B and C with fair value of Rs 12 lakh, Rs 8 lakh and Rs 4 lakh
respectively. The company recognizes goodwill of Rs 6 lakh that relates to CGU ‘C’ only.
During the financial year 20X2-20X3, the CFO of the company has a view that there is no
requirement of any impairment testing for any CGU since their recoverable amount is
comparatively higher than the carrying amount and believes there is no indicator of
impairment. Analyse whether the view adopted by the CFO of Sun Ltd. is in compliance with
the Ind AS. If not, advise the correct treatment in accordance with relevant Ind AS.

(MTP April 22)

Answer 15

[Link]
Para 9 of Ind AS 36 ‘Impairment of Assets’ states that an entity shall assess at the end of each
reporting period whether there is any indication that an asset may be impaired. If any such
indication exists, the entity shall estimate the recoverable amount of the asset.

Further, paragraph 10(b) of Ind AS 36 states that irrespective of whether there is any indication
of impairment, an entity shall also test goodwill acquired in a business combination for
impairment annually.

Sun Ltd. has not tested any CGU on account of not having any indication of impairment is
partially correct i.e. in respect of CGU A and B but not for CGU C.

Hence, the treatment made by the Company is not in accordance with Ind AS 36. Impairment
testing in respect of CGU A and B are not required s ince there are no indications of
impairment. However, Sun Ltd shall test CGU C irrespective of any indication of impairment
annually as the goodwill acquired on business combination is fully allocated to CGU ‘C’.

Question 16

A Ltd. purchased an asset of Rs 100 lakh on 1st April, 20X0. It has useful life of 4 years with no
residual value. Recoverable amount of the asset is as follows:

As on Recoverable amount

31st March, 20X1 Rs 60 lakh

31st March, 20X2 Rs 40 lakh

31st March, 20X3 Rs 28 lakh

Calculate the amount of impairment loss or its reversal, if any, on 31st March, 20X1, 31st
March, 20X2 and 31st March, 20X3.

[Link]
 (Study material)

Answer 16

As on 31st March, 20X1

Carrying amount of the asset (opening balance) Rs 100 lakh

Depreciation (Rs 100 lakh /4 years) Rs 25 lakh

Carrying amount of the asset (closing balance) Rs 75 lakh

Recoverable amount (given) Rs 60 lakh

Therefore, an impairment loss of Rs 15 lakh should be recognised as on 31st March, 20X1.

Depreciation for subsequent years should be charged on the carrying amount of the asset (after
providing for impairment loss), i.e., Rs 60 lakh.

As on 31st March, 20X2

Carrying amount of the asset (opening balance) Rs 60 lakh

Depreciation (Rs 60 lakh /3 years) Rs 20 lakh

Carrying amount of the asset (closing balance) Rs 40 lakh

Therefore, no impairment loss should be recognised as on 31st March, 20X2.

As on 31st March, 20X3

Carrying amount of the asset (opening balance) Rs 40 lakh

Depreciation (Rs 40 lakh / 2 years) Rs 20 lakh

Carrying amount of the asset (closing balance) Rs 20 lakh

[Link]
Recoverable amount (given) Rs 28 lakh

Since, the recoverable amount of the asset exceeds the carrying amount of the asset by Rs 8
lakh, impairment loss recognised earlier should be reversed. However, reversal of an
impairment loss should not exceed the carrying amount that would have been determined (net
of amortisation or depreciation) had no impairment loss been recognised for the asset in prior
years.

Carrying amount as on 31st March, 20X3 had no impairment loss being recognised would have
been Rs 25 lakh. Therefore, the reversal of an impairment loss of Rs 5 lakh should be done as on
31st March, 20X3.

Question 17

ICAI Illustration

Jupiter Ltd, a leading manufacturer of steel is having a furnace, which is carried in the balance
sheet on 31st March, 20X1 at Rs 250 lakh. As at that date the value in use and fair value is Rs
200 lakh. The cost of disposal is Rs 13 lakh.

Calculate the Impairment Loss to be recognised in the books of the Company?

(Study material)

Answer

Calculation of Impairment Loss:

Calculation of Impairment Loss Rs in lakh

Recoverable Amount 200

[Link]
Higher of , Fair Value less Cost of Disposal (200 -13) 187

Or Value in Use 200

Impairment Loss = Carrying Amount Recoverable Amount = 250 – 200 50

• An impairment loss shall be recognised immediately in profit or loss, unless the asset is
carried at revalued amount in accordance with another Standard (for example, in accordance
with the revaluation model in Ind AS 16).

• Any impairment loss of a revalued asset shall be treated as a revaluation decrease in

accordance with that other Standard. Impairment loss on a revalued asset is recognised in
other comprehensive income to the extent that the impairment loss does not exceed the
amount in the revaluation surplus for that same asset. Such an impairment loss on a revalued
asset reduces the revaluation surplus for that asset.

• When the amount estimated for an impairment loss is greater than the carrying amount of
the asset to which it relates, an entity shall recognise a liability if, and only if, that is required by
another Standard.

• After the recognition of an impairment loss, the depreciation (amortisation) charge for the
asset is adjusted in future periods to allocate the asset’s revised carrying amount, less its
residual value (if any), on a systematic basis over its remaining useful life.

• If an impairment loss is recognised, any related deferred tax assets or\ liabilities are
determined in accordance with Ind AS 12 by comparing the revised carrying amount of the
asset with its tax base.

Question 18

ICAI Illustration

[Link]
Mercury Ltd. has an identifiable asset with a carrying amount of Rs 1,000. Its recoverable
amount is Rs 650. The tax rate is 30% and the tax base of the asset is Rs 800. Impairment
losses are not deductible for tax purposes. What would be the impact of impairment loss on
related deferred tax asset / liability against the revised carrying amount of asset?

(Study material)

Answer

The effect of impairment loss is as follows:

Identifiable assets Impairment loss Identifiable assets

before after impairment
impairment loss loss

Rs Rs Rs

Carrying amount 1,000 (350) 650

Tax Base 800 - 800

Taxable (deductible ) temporary 200 (350) (150)

difference

Deferred tax liability (asset) at 60 (105) (45)

30%

In accordance with Ind AS 12, the entity recognises the deferred tax asset to the extent that it is
probable that taxable profit will be available against which the deductible temporary difference
can be utilised.

Question 19

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ICAI Illustration

Venus Ltd. has an asset, which is carried in the Balance Sheet on 31st March, 20X1 at Rs 500
lakh. As at that date the value in use is Rs 400 lakh and the fair value less costs to sells is Rs
375 lakh.

From the above data:

(a) Calculate impairment loss.

(b) Prepare journal entries for adjustment of impairment loss.

(Study material)

Answer

According to Ind AS 36, Impairment of Assets, impairment loss is the excess of ‘Carrying amount
of the asset’ over ‘Recoverable Amount’.

In the present case, the impairment loss can be computed in the following manner:

Step 1: Fair value less costs to sell: Rs 375 lakh

Step 2: Value in use: Rs 400 lakh

Step 3: Recoverable amount, i.e., higher of ‘fair value less costs to sell’ & ‘value in use’. Thus,
recoverable amount is Rs 400 lakh

Step 4: Carrying amount of the asset Rs 500 lakh

Step 5: Impairment loss, i.e., excess of amount computed in step 4 over amount computed in
Step 3.

Rs 100 lakh (being the difference between Rs 500 lakh and Rs 400 lakh).

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According to Ind AS 36, an impairment loss should be recognised as an expense in the
statement of profit and loss immediately, unless the asset is carried at revalued amount in
accordance with another Accounting Standard. Assuming, that the asset is not carried at
revalued amount, the impairment loss of Rs 100 lakh will be charged to Profit & Loss Account.

Journal Entries

Date Particulars Dr. Cr.

Rs in lakh Rs in
lakh

31.3.20X1 Impairment Loss A/c Dr. 100

To Assets A/c 100

(Being impairment loss on an asset recognised)

31.3.20X1 Statement of Profit & Loss Dr. 100

To Impairment Loss A/c 100

(Being impairment loss transferred to statement of

profit and loss)

Topic 4 : Allocation of Impairment Loss

Question 20

XYZ Limited has three cash-generating units - X, Y and Z, the carrying amounts of which as on
31st March, 2018 are as follows:

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 Cash Generating Units Carrying Amount (Rs. in lakh) Remaining useful life in years

X 800 20

Y 1000 10

Z 1200 20

XYZ Limited also has corporate assets having a remaining useful life of 20 years as given
below:

Corporate Assets Carrying amount (Rs. In Remarks

lakh)

AU 800 The carrying amount of AU can be

allocated on a reasonable basis to
the individual cash generating
units.

BU 400 The carrying amount of BU

cannot be allocated on a
reasonable basis to the individual
cash-generating units.

Recoverable amounts as on 31st March, 2018 are as follows:

Cash-generating units Recoverable amount (Rs. in lakh)

X 1000

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 Y 1200

Z 1400

XYZ Limited 3900

Calculate the impairment loss if any of XYZ Ltd. Ignore decimals.

(PYP Nov’18)

Answer 20

(i) Allocation of corporate assets to CGU

The carrying amount of AU is allocated to the carrying amount of each individual cash-
generating unit. A weighted allocation basis is used because the estimated remaining useful
life of Y’s cash-generating unit is 10 years, whereas the estimated remaining useful lives of X
and Z’s cash-generating units are 20 years.

(Rs. in lakh)

Particulars X Y Z Total

(a) Carrying amount 800 1000 1,200 3,000

(b) Useful life 20 years 10 years 20 years

(c) Weight based 2 1 2

on useful life

(d) Carrying amount (after assigning 1,600 1,000 2,400 5,000

weight) (a c)

(e) Pro-rata allocation of AU 32% 20% 48% 100%

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 (1,600/5,000) (1,000/5,000) (2,400/5,000)

(f) Allocation of carrying amount of 256 160 384 800

AU (32: 20: 48)

(g) Carrying amount (after allocation 1,056 1,160 1,584 3,800

of AU) (a + f)

(ii) Calculation of impairment loss

Step 1: Impairment losses for individual cash-generating units and its allocation

(a) Impairment loss of each cash-generating units

(Rs. in lakh)

Particulars X Y Z

Carrying amount (after allocation of AU) 1,056 1,160 1,584

Recoverable amount 1,000 1,200 1,400

Impairment loss 56 Nil 184

(b) Allocation of the impairment loss (after rounding off)

(Rs. in lakh)

Allocation to X Z

AU 14 (56 256/1,056) 45 (184 384/1,584)

Other assets in cash- 42 (56 800/1056 ) 139 (184 1,200/

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generating units 1,584)

Impairment loss 56 184

Step 2: Impairment loss for the larger cash-generating unit, i.e., XYZ Ltd. as a whole

(Rs. In lakh)

Particulars X Y Z AU BU XYZ Ltd.

Carrying amount 800 1,000 1,200 800 400 4,200

Impairment loss (42) - (139) (59)* - (240)

(Step I)

Carrying amount 758 1,000 1,061 741 400 3,960

(after Step I)

Recoverable 3,900
amount

Impairment loss for the ‘larger’ cash-generating unit 60

*Rs. 14 lakh + Rs. 45 lakh = Rs. 59 lakh.

Question 21

On 1st January Year 1, Entity Q purchased a machine costing Rs 2,40,000 with an estimated
useful life of 20 years and an estimated zero residual value. Depreciation is computed on
straight-line basis. The asset had been revalued on 1st January Year 3 to Rs 2,50,000, but with
no change in useful life at that date. On 1st January Year 4 an impairment review showed the

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machine’s recoverable amount to be Rs 1,00,000 and its estimated remaining useful life to be
10 years.

Calculate:

(i) The carrying amount of the machine on 31st December Year 2 and the revaluation surplus
arising on 1st January Year 3.

(ii) The carrying amount of the machine on 31st December Year 3 (immediately before the
impairment).

(iii) The impairment loss recognised in the year to 31st December Year 4 and its treatment
thereon

(iv) The depreciation charge in the year to 31st December Year 4.

Note: During the course of utilization of machine, the company did not opt to transfer part of
the revaluation surplus to retained earnings.

(MTP Oct ‘23)

Answer 21

(i) Calculation of Carrying amount of machine at the end of Year 2

Rs

Cost of machine 2,40,000

Accumulated depreciation for 2 years [2 years × (2,40,000 ÷ 20)] (24,000)

Carrying amount of the machine at the end of Year 2 2,16,000

(ii) Calculation of carrying amount of the machine on 31 December Year 3

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 Rs

Carrying amount at the beginning of Year 3 2,16,000

Revaluation done at the beginning of Year 3 2,50,000

Revaluation surplus 34,000

(iii) Calculation of Impairment loss at the end of Year 4

When machine is revalued on 1 January Year 3, depreciation is charged on the revalued amount
over its remaining expected useful life.

Valuation at 1 January (re-valued amount) 2,50,000

Accumulated depreciation in Year 3 (2,50,000 / 18) (13,889)

Carrying amount of the asset at the end of Year 3 2,36,111

On 1 January Year 4, recoverable amount of the machine 1,00,000

Impairment loss (2,36,111 – 1,00,000) 1,36,111

An impairment loss of Rs 34,000 will be taken to other comprehensive income (reducing the
revaluation surplus for the asset to zero)

The remaining impairment loss of Rs 1,02,111 (1,36,111 – 34,000) is recognised in the

Statement of Profit and Loss for the Year 4.

(iv) Calculation of depreciation charge in the Year 4

Carrying value of the machine at the beginning of Year 4 Rs 1,00,000 Estimated

remaining useful life 10 years

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Depreciation charge is (Rs 1,00,000 / 10 years) Rs 10,000

Question 22

Great Ltd., acquired a machine on 1st April, 2012 for Rs. 7 crore that had an estimated useful
life of 7 years. The machine is depreciated on straight line basis and does not carry any
residual value. On 1st April, 2016, the carrying value of the machine was reassessed at Rs.
5.10 crore and the surplus arising out of the revaluation being credited to revaluation
reserve. For the year ended March 2018, conditions indicating an impairment of the machine
existed and the amount recoverable ascertained to be only Rs. 79 lakhs. Calculate the loss on
impairment of the machine and show how this loss is to be treated in the books of Great Ltd.
Great Ltd., had followed the policy of writing down the revaluation surplus by the increased
charge of depreciation resulting from the revaluation.

(MTP Aug ‘18)

Answer 22

Statement Showing Impairment Loss

(Rs. in crores)

Carrying amount of the machine as on 1st April, 2012 7.00

Depreciation for 4 years i.e.2012-2013 to 2015-2016 ⌊ × 4 years⌋ (4.00)

Carrying amount as on 31.03.2016 3.00

Add: Upward Revaluation (credited to Revaluation Reserve account) 2.10

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Carrying amount of the machine as on 1st April 2016 (revalued) 5.10

Less: Depreciation for 2 years i.e. 2016-2017 & 2017- 2018 ⌊ × 2 (3.40)

𝑦𝑒𝑎𝑟𝑠⌋

Carrying amount as on 31.03.2018 1.70

Less: Recoverable amount (0.79)

Impairment loss 0.91

Less: Balance in revaluation reserve as on 31.03.2018

Balance in revaluation reserve as on 31.03.2016 2.10

Less: Enhanced depreciation met from revaluation reserve

2016-2017 & 2017-2018 = [(1.70 – 1.00) x 2 years] (1.40)

Impairment loss set off against revaluation reserve balance as per para 58 of AS (0.70)
28 “Impairment of Assets”

Impairment Loss to be debited to profit and loss account 0.21

Question 23

East Ltd. (East) owns a machine used in the manufacture of steering wheels, which are sold
directly to major car manufacturers.

• The machine was purchased on 1st April, 20X1 at a cost of Rs. 5,00,000 through a vendor
financing arrangement on which interest is being charged at the rate of 10 per cent per
annum.

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• During the year ended 31st March, 20X3, East sold 10,000 steering wheels at a selling price
of Rs. 190 per wheel.

• The most recent financial budget approved by East’s management, covering the period 1st
April, 20X3 – 31st March, 20X8, including that the company expects to sell each steering
wheel for Rs. 200 during 20X3-X4, the price rising in later years in line with a forecast inflation
of 3 per cent per annum.

• During the year ended 31st March, 20X4, East expects to sell 10,000 steering wheels. The
number is forecast to increase by 5 per cent each year until 31st March, 20X8.

• East estimates that each steering wheel costs Rs. 160 to manufacture, which includes Rs.
110 variable costs, Rs. 30 share of fixed overheads and Rs. 20 transport costs.

• Costs are expected to rise by 1 per cent during 20X4-X5, and then by 2 per cent per annum
until 31st March, 20X8.

• During 20X5-X6, the machine will be subject to regular maintenance costing Rs. 50,000.

• In 20X3-X4, East expects to invest in new technology costing Rs. 1,00,000. This technology
will reduce the variable costs of manufacturing each steering wheel from Rs. 110 to Rs. 100
and the share of fixed overheads from Rs. 30 to Rs. 15 (subject to the availability of
technology, which is still under development).

• East is depreciating the machine using the straight line method over the machine’s 10 year
estimated useful life. The current estimate (based on similar assets that have reached the end
of their useful lives) of the disposal proceeds from selling the machine is Rs. 80,000 net of
disposal costs. East expects to dispose of the machine at the end of March, 20X8.

• East has determined a pre-tax discount rate of 8 per cent, which reflects the market’s
assessment of the time value of money and the risks associated with this asset.

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Assume a tax rate of 30%. What is the value in use of the machine in accordance with Ind AS
36?

(MTP March ’21, Apr’23, RTP Nov’19)

Answer 23

Calculation of the value in use of the machine owned by East Ltd. (East) includes the projected
cash inflow (i.e. sales income) from the continued use of the machine and projected cash
outflows that are necessarily incurred to generate those cash inflows (i.e cost of goods sold).
Additionally, projected cash inflows include Rs. 80,000 from the disposal of the asset in March,
20X8. Cash outflows include routing capital expenditures of Rs. 50,000 in 20X5 -X6

As per Ind AS 36, estimates of future cash flows shall not include:

• Cash inflows from receivables

• Cash outflows from payables

• Cash inflows or outflows expected to arise from future restructuring to which an entity is not
yet committed

• Cash inflows or outflows expected to arise from improving or enhancing the asset’s
performance

• Cash inflows or outflows from financing activities

• Income tax receipts or payments.

Hence in this case, cash flows do not include financing interest (i.e. 10%), tax (i.e. 30%) and
capital expenditures to which East has not yet committed (i.e. Rs. 100 000).

They also do not include any savings in cash outflows from these capital expenditure, as
required by Ind AS 36.

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The cash flows (inflows and outflows) are presented below in nominal terms. They include an
increase of 3% per annum to the forecast price per unit (B), in line with forecast inflation. The
cash flows are discounted by applying a discount rate (8%) that is also adjusted for inflation.

Note: Figures are calculated on full scale and then rounded off to the nearest absolute value.

Year ended 20X3-X4 20X4-X5 20X5-20X6 20X6-X7 20X7-X8 Value in

use

Rs. Rs. Rs. Rs. Rs. Rs.

Quantity (A) 10,000 10,500 11,025 11,576 12,155

Price per 200 206 212 219 225

unit(B)

Estimated cash 20,00,000 21,63,000 23,37,300 25,35,144 27,34,875

inflows (C=A
B)

Misc. cash 80 000

inflow Disposal
proceeds (D)

Total 20,00,000 21,63,000 23,37,300 25,35,144 28,14,875

Estimated cash
inflows
(E=C+D)

Cost per unit 160 162 165 168 171

(F)

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Estimated cash (16,00,000) (17,01,000) (18,19,125) (19,44,768) (20,78,505)
outflows (G = A
F)

Misc. cash (50,000)

outflow:
maintenance
costs (H)

Total (16,00,000) (17,01,000) (18,69,125) (19,44,768) (20,78,505)

estimated cash
outflows
(I=G+H)

Net cash flows 4,00,000 4,62,000 4,68,175 5,90,376 7,36,370

(J=E-I)

Discount factor 0.9259 0.8573 0.7938 0.7350 0.6806

8% (K)

Discounted 3,70,360 3,96,073 3,71,637 4,33,926 5,01,173 20,73,169

future cash
flows (L=J K)

Question 24

PQR Ltd. is the company which has performed well in the past but one of its major assets, an
item of equipment, suffered a significant and unexpected deterioration in performance.
Management expects to use the machine for a further four years after 31 March 2020, but at
a reduced level. The equipment will be scrapped after four years. The financial accountant for

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PQR Ltd. Has produced a set of cash-flow projections for the equipment for the next four
years, ranging from optimistic to pessimistic. CFO thought that the projections were too
conservative, and he intended to use the highest figures each year. These were as follows:

Rs.

Year ended 31 March 2021 2,76,000

Year ended 31 March 2022 1,92,000

Year ended 31 March 2023 1,20,000

Year ended 31 March 2024 1,14,000

The above cash inflows should be assumed to occur on the last day of each financial year. The
pre-tax discount rate is 9%. The machine could have been sold at 31 March 2020 for Rs.
6,00,000 and related selling expenses in this regard could have been Rs. 96,000. The machine
was revalued previously, and at 31 March 2020 an amount of Rs. 36,000 was held in
revaluation surplus in respect of the asset. The carrying value of the asset at 31 March 2020
was Rs. 6,60,000. The Indian government has indicated that it may compensate the company
for any loss in value of the assets up to its recoverable amount.

(MTP Oct ’20,RTP May ’20)

Answer 24

Carrying amount of asset on 31 March 2020 = Rs. 6,60,000

Calculation of Value in Use

Year ended Cash flow Rs. Discount factor @ Amount Rs.

9%

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31st March, 2021 2,76,000 0.9174 2,53,202

31st March, 2022 1,92,000 0.8417 1,61,606

31st March, 2023 1,20,000 0.7722 92,664

31st March, 2024 1,14,000 0.7084 80,758

Total (Value in Use) 5,88,230

Calculation of Recoverable amount

Particulars Amount (Rs.)

Value in use 5,88,230

Fair value less costs of disposal (6,00,000 – 96,000) 5,04,000

Recoverable amount 5,88,230

(Higher of value in use and fair value less costs of disposal)

Calculation of Impairment loss

Particulars Amount (Rs.)

Carrying amount 6,60,000

Less: Recoverable amount (5,88,230)

Impairment loss 71,770

Calculation of Revised carrying amount

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Particulars Amount (Rs.)

Carrying amount 6,60,000

Less: Impairment loss (71,770)

Revised carrying amount 5,88,230

Calculation of Revised Depreciation:

Revised carrying amount – Residual value

Remaining life = (5,88,230 - 0) / 4 = Rs. 1,47,058 per annum

Set off of Impairment loss:

The impairment loss of Rs. 71,770 must first be set off against any revaluation surplus in
relation to the same asset. Therefore, the revaluation surplus of Rs. 36,000 is eliminated against
impairment loss, and the remainder of the impairment loss Rs. 35,770 (Rs. 71,770 – Rs. 36,000)
is charged to profit and loss.

Treatment of Government compensation:

Any compensation by government would be accounted for as such when it becomes receivable.
At this time, the government has only stated that it may reimburse the company and therefore
credit should not be taken for any potential government receipt.

Question 25

Scenario A

X Ltd. has invested in a joint venture Y Ltd. by holding 50% of its equity share capital. During
the year, X Ltd. sold an asset to Y Ltd. at its market value of Rs 8,00,000. The asset’s carrying

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value in X Ltd.’s books was Rs 10,00,000. Determine how should X Ltd. account for the sale
transaction in its books.

Scenario B

Assume the same facts as per Scenario A except that the asset is sold by Y Ltd. to X Ltd.
instead of X Ltd. selling to Y Ltd.

Determine how should X Ltd. account for the above transaction in its books.

(MTP Oct ‘23)

Answer 25

Scenario A

X Ltd. should record full loss of Rs 2,00,000 (10,00,000 – 8,00,000) in its books as that would
represent the impairment loss because the market value has actually declined. This loss would
have been recorded even if X Ltd. would have first impaired the asset and then sold to Y Ltd. at
zero profit / loss. Following entry should be passed in the books of X Ltd.

Bank A/c Dr. 8,00,000

Loss on sale of asset Dr. 2,00,000

To Asset 10,00,000

Scenario B

X Ltd. should record loss to the extent of its share in Y Ltd. Hence, X Ltd.’s share in loss i.e. Rs
1,00,000 [(10,00,000 – 8,00,000) 50%] should be recorded by X Ltd. In its books. The loss
should be recorded since the market value of the asset has actually declined and this would
represent impairment. This loss would have been recorded even if Y Ltd. would have first

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recorded an impairment loss of Rs 2,00,000 and then sold to X Ltd. at zero profit / loss.
Following entry should be passed in the books of X Ltd.

Asset Dr 8,00,000

Share in loss of Y Ltd. Dr. 1,00,000

To Bank 8,00,000

To Investment in Y Ltd. 1,00,000

Question 26

The UK entity with a sterling functional currency has a property located in US, which was
acquired at a cost of US$ 1.8 million when the exchange rate was ₤1 = US$ 1.60. The property
is carried at cost. At the balance sheet date, the recoverable amount of the property (as a
result of an impairment review) amounted to US$ 1.62 million, when the exchange rate ₤1 =
US$ 1.80. Compute the amount which is to be reported in Profit & Loss of UK entity as a
result of impairment, if any. Ignore depreciation. Also analyse the total impairment loss on
account of change in value due to impairment component and exchange component.

(RTP Nov ‘20)

Answer 26

Ignoring depreciation, the loss that would be reported in the Profit and Loss as a result of the
impairment is as follows

*Carrying value at balance sheet date-US$ 16,20,000 @ ₤ 1.8 = 9,00,000

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Historical cost- US$ 18,00,000 @ ₤ 1.6 = 11,25,000

Impairment loss recognised in profit and loss (2,25,000)

The components of the impairment loss can be analysed as follows:

Change in value due to impairment = US$ 1,80,000 @ ₤ 1.8 = (1,00,000)

Exchange component of change = (1,25,000)

US$ 18,00,000 @ 1.8 – US$ 18,00,000 @ ₤ 1.6

*Recoverable amount being less than cost becomes the carrying value.

Question 27

On 31st March, 20X1, Jackson Ltd. purchased 80% of the equity of Kaplan Ltd. for Rs 190
million. The fair values of the net assets of Kaplan Ltd. that were included in the consolidated
balance sheet of Jackson Ltd. at 31st March, 20X1 were measured at Rs 200 million (their fair
values at that date). It is the group policy to value the non- controlling interest in subsidiaries
at the date of acquisition at its proportionate share of the fair value of the subsidiaries’
identifiable net assets.

On 31st March, 20X4, Jackson Ltd. carried out its annual review of the goodwill on
consolidation of Kaplan Ltd. for evidence of impairment. No impairment had been evident
when the reviews were carried out on 31st March, 20X2 and 31st March, 20X3. The review
involved allocating the assets of Kaplan Ltd. into three cash-generating units and computing
the value in use of each unit. The carrying values of the individual units before any
impairment adjustments are given below:

Unit A Rs in million Unit B Rs in million Unit C Rs in million

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Intangible assets 30 10 -

Property, Plant and 80 50 60

Equipment

Current Assets 60 30 40

Total 170 90 100

Value in use of unit 180 66 104

It was not possible to meaningfully allocate the goodwill on consolidation to the individual
cash generating units but all the other net assets of Kaplan Ltd. Are allocated in the table
shown above.

The intangible assets of Kaplan Ltd. have no ascertainable market value but all the current
assets have a market value that is at least equal to their carrying value. The value in use of
Kaplan Ltd. as a single cash-generating unit on 31st March, 20X4 is Rs 350 million. Recommend
the treatment for impairment of goodwill.

(RTP Nov ’23)

Answer 27

The goodwill on consolidation of Kaplan Ltd. that is recognized in the consolidated balance
sheet of Jackson Ltd. is Rs 30 million (Rs 190 million – 80% Rs 200 million). This can only be
reviewed for impairment as part of the cash generating units to which it relates. Since here the
goodwill cannot be meaningfully allocated to the units, the impairment review is in two parts.

Units A and C have values in use that are more than their carrying values. However, the value in
use of Unit B is less than its carrying amount. This means that the assets of unit B are impaired
by Rs 24 million (Rs 90 million – Rs 66 million). This impairment loss will be charged to the
Statement of Profit and Loss.

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Assets will be written down on a pro-rata basis as shown in the table below:

Rs in million

Asset Impact on carrying value

Existing Impairment Revised

Intangible assets 10 (4) 6

Property, plant and equipment 50 (20) 30

Current assets 30 Nil* 30

Total 90 (24) 66

*The current assets are not impaired because they are expected to realize at least their carrying
value when disposed of.

Following this review, the three units plus the goodwill are reviewed together. The impact of
this is shown in the following table, given that the recoverable amount of the business as a
whole is Rs 350 million.

Rs in million

Component Impact of impairment review on carrying value

Existing Impairment Revised

Goodwill (see below) 37.50 (23.50) 14.00

Unit A 170.00 Nil 170.00

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Unit B (revised) 66.00 Nil 66.00

Unit C 100.00 Nil 100.00

Total 373.50 (23.50) 350.00

As per Appendix C of Ind AS 36, given that the subsidiary is 80% owned the goodwill must first
be grossed up to reflect a notional 100% investment. Therefore, the goodwill will be grossed up
to Rs 37.50 million (Rs 30 million x 100/80). The impairment loss of Rs 23.50 million is all
allocated to goodwill, leaving the carrying values of the individual units of the business as
shown in the table immediately above.

The table shows that the notional goodwill that relates to a 100% interest is written down by Rs
23.50 million to Rs 14.00 million. However, in the consolidated financial statements the
goodwill that is recognized is based on an 80% interest so the loss that is actually recognized is
Rs 18.80 million (Rs 23.50 million x 80%) and the closing consolidated goodwill figure is Rs 11.20
million (Rs 14.00 million x 80%) or (Rs 30 million – Rs 18.80 million).

Question 28

A Limited purchased an asset of Rs 200 lakh on 1st April 2017. It has useful life of 4 years with
no residual value. Recoverable amount of the asset is as follows:

As on Recoverable amount

31st March 2018 Rs 120 lakh

31st March 2019 Rs 80 lakh

31st March 2020 Rs 56 lakh

Calculate the amount of impairment loss or its reversal, if any,

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• On 31st March 2018;

• On 31st March 2019;

• On 31st March 2020.

Depreciation is provided on SLM basis under the cost method.

(PYP July21)

Answer 28

As on 31st March, 2018

Carrying amount of the asset (opening balance) Rs 200 lakh

Depreciation (Rs 200 lakh / 4 years) (Rs 50 lakh)

Carrying amount of the asset (closing balance) Rs 150 lakh

Recoverable amount (given) Rs 120 lakh

Difference Rs 30 lakh

Therefore, an impairment loss of Rs 30 lakh should be recognised as on 31st March, 2018.

Depreciation for subsequent years should be charged on the carrying amount of the asset (after
providing for impairment loss), i.e., Rs 120 lakh.

As on 31st March, 2019

Carrying amount of the asset (opening balance) Rs 120 lakh

Depreciation (Rs 120 lakh / 3 years) (Rs 40 lakh)

Carrying amount of the asset (closing balance) Rs 80 lakh

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Recoverable amount (Given) Rs 80 lakh

Difference NIL

Therefore, no impairment loss should be recognised as on 31st March, 2019.

As on 31st March, 2020

Carrying amount of the asset (opening balance) Rs 80 lakh

Depreciation (Rs 80 lakh / 2 years) (Rs 40 lakh)

Carrying amount of the asset (closing balance) Rs 40 lakh

Recoverable amount (given) Rs 56 lakh

Difference (Rs 16 lakh)

Since, the recoverable amount of the asset exceeds the carrying amount of the asset by Rs 16
lakh, impairment loss recognised earlier should be reversed. However, reversal of an
impairment loss should not exceed the carrying amount that would have been determined (net
of amortization or depreciation) had no impairment loss been recognised for the asset in prior
years. Carrying amount as on 31st March, 2020 had no impairment loss being recognised would
have been Rs 50 lakh [ie. Rs 200 lakh – (200 lakh / 4 3)]. Therefore, the reversal of an
impairment loss of Rs 10 lakh (Rs 50 lakh - Rs 40 lakh) should be done as on 31st March, 2020.

Question 29

A Ltd. purchased a machinery of Rs 100 crore on 1st April, 20X1. The machinery has a useful
life of 5 years. It has nil residual value. A Ltd. adopts straight line method of depreciation for
depreciating the machinery. Following information has been provided as on 31st March,
20X2:

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 Financial year Estimated future cash
flows (Rs in crore)

20X2-20X3 15

20X3-20X4 30

20X4-20X5 40

20X5-20X6 10

Discount rate applicable 10%

Fair value less costs to sell as on 31st March, 20X2 : Rs

70 crore Calculate the impairment loss, if any.

(Study material)

Answer 29

Value in use of the machinery as on 31st March, 20X2 can be calculated as follows:

Financial year Estimated cash flows Present value factor Present value
(Rs in crore) @ 10%

20X2-20X3 15 0.9091 13.64

20X3-20X4 30 0.8264 24.79

20X4-20X5 40 0.7513 30.05

20X5-20X6 10 0.6830 6.83

75.31

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The recoverable amount of the machinery is Rs 75.31 crore (higher of value in use of Rs 75.31
crore and fair value less costs to sell of Rs 70 crore). Carrying amount of the machinery is Rs 80
crore (after providing for one year depreciation @ Rs 20 crore). Therefore, the impairment loss
of Rs 4.69 crore should be provided in the books.

Question 30

Assuming in the above question, as on 31st March, 20X3, there is no change in the estimated
future cash flows and discount rate. Fair value less costs to sell as on 31st March, 20X3 is Rs
40 crore. How should it be dealt with under Ind AS 36?

(Study material)

Answer 30

Value in use of the machinery as on March 31,20X3 can be calculated as follows:

Financial year Estimated cash flows (Rs Present value factor Present value
in crore) @ 10%

20X3-20X4 30 0.9091 27.27

20X4-20X5 40 0.8264 33.06

20X5-20X6 10 0.7513 7.51

67.84

The recoverable amount of the machinery is Rs 67.84 crore (higher of value in use of Rs 67.84
crore and fair value less costs to sell of Rs 40 crore). Carrying amount of the machinery at the
end of the year 20X2 is Rs 56.48 crore (after providing for two years depreciation (100- 20-
4.69)-18.83). However, as per paragraph 116 of Ind AS 36, an impairment loss is not reversed

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just because of the passage of time (sometimes called the ‘unwinding’ of the discount), even if
the recoverable amount of the asset becomes higher than its carrying amount.

Therefore, the impairment loss of Rs 4.69 crore should not be reversed.

Question 31

On 31st March, 20X1, XYZ Ltd. makes following estimate of cash flows for one of its asset
located in USA:

Year Cash flows

20X1-20X2 US $ 80

20X2-20X3 US $ 100

20X3-20X4 US $ 20

Following information has been provided:

Particulars India USA

Applicable discount rate 15% 10%

Exchange rates are as follows:

As on Exchange rate

31st March, 20X1 Rs 45/US $

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 As on Expected Exchange
rate

31st March, 20X2 Rs 48/US $

31st March, 20X3 Rs 51/US $

31st March, 20X4 Rs 55/US $

Calculate value in use as on 31st March, 20X1.

(Study material)

Answer 31

Year Cash Flows (US $) Present value factor Discounted cash

@ 10% flows (US $)

20X1-20X2 80 0.9091 72.73

20X2-20X3 100 0.8264 82.64

20X3-20X4 20 0.7513 15.03

Total Discounted cash flows in US $ 170.40

Exchange rate as on 31st March, 20X1, i.e., date of calculating value in use Rs 45/US $

Value in use as on 31st March, 20X1 Rs 7,668

Question 32

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Cash flow is Rs 100, Rs 200 or Rs 300 with probabilities of 10%, 60% and 30%, respectively.
Calculate expected cash flows.

(Practice Question)

Answer 32

Cash flows Probability Expected cash flow

100 10% 10

200 60% 120

300 30% 90

Total 220

The expected cash flow is Rs 220

Question 33

Cash flow of Rs 1,000 may be received in one year, two years or three years with probabilities
of 10%, 60% and 30%, respectively. Calculate expected cash flows assuming applicable
discount rate of 5%, 5.25% and 5.5% in year 1, 2 and 3, respectively.

(Practice Question)

Answer 33

Year Cash flows P.V.F. Present value Probability Expected

cash flows

1 1,000 0.95238 952.38 10% 95.24

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2 1,000 0.90273 902.73 60% 541.64

3 1,000 0.85161 851.61 30% 255.48

Total 892.36

The expected present value is Rs 892.36

Question 34

Calculate expected cash flows in each of the following cases:

(a) the estimated amount falls somewhere between Rs 50 and Rs 250, but no amount in the
range is more likely than any other amount.

(b) the estimated amount falls somewhere between Rs 50 and Rs 250, and the most likely
amount is Rs 100. However, the probabilities attached to each amount are unknown.

(c) the estimated amount will be Rs 50 (10 per cent probability), Rs 250 (30 per cent
probability), or Rs 100 (60 per cent probability).

(Practice Question)

Answer 34

(a) the estimated expected cash flow is Rs 150 [(50 + 250)/2].

(b) the estimated expected cash flow is Rs 133.33 [(50 + 100 + 250)/3].

(c) the estimated expected cash flow is Rs 140 [(50 0.10) + (250 0.30) + (100 0.60)].

Question 35

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Elia limited is a manufacturing company which deals in to manufacturing of cold drinks and
beverages. It is having various plants across India. There is a Machinery A in the Baroda plant
which is used for the purpose of bottling. There is one more machinery which is Machinery B
clubbed with Machinery A. Machinery A can individually have an output and also sold
independently in the open market. Machinery B cannot be sold in isolation and without
clubbing with Machine A it cannot produce output as well. The Company considers this group
of assets as a Cash Generating Unit and an Inventory amounting to Rs 2 Lakh and Goodwill
amounting to Rs 1.50 Lakhs is included in such CGU. Machinery A was purchased on 1st April
2013 for Rs 10 Lakhs and residual value is Rs 50 thousands. Machinery B was purchased on
1st April, 2015 for Rs 5 Lakhs with no residual value. The useful life of both Machine A and B
is 10 years. The Company expects following cash flows in the next 5 years pertaining to
Machinery A. The incremental borrowing rate of the company is 10%.

Year Cash Flows from Machinery A

1 1,50,000

2 1,00,000

3 1,00,000

4 1,50,000

5 1,00,000 (excluding Residual Value)

Total 6,00,000

On 31st March, 2018, the professional valuers have estimated that the current market value
of Machinery A is Rs 7 lakhs. The valuation fee was Rs 1 lakh. There is a need to dismantle the
machinery before delivering it to the buyer. Dismantling cost is Rs 1.50 lakhs. Specialised
packaging cost would be Rs 25 thousand and legal fees would be Rs 75 thousand.

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The Inventory has been valued in accordance with Ind AS 2. The recoverable value of CGU is
Rs 10 Lakh as on 31st March, 2018. In the next year, the company has done the assessment of
recoverability of the CGU and found that the value of such CGU is Rs 11 Lakhs ie on 31st
March, 2019. The Recoverable value of Machine A is Rs 4,50,000 and combined Machine A
and B is Rs 7,60,000 as on 31st March, 2019.

Required:

a) Compute the impairment loss on CGU and carrying value of each asset after charging
impairment loss for the year ending 31st March, 2018 by providing all the relevant working
notes to arrive at such calculation.

b) Compute the prospective depreciation for the year 2018-2019 on the above assets.

c) Compute the carrying value of CGU as at 31st March, 2019.

(Practice Question)

Answer 35

(a) Computation of impairment loss and carrying value of each of the asset in CGU after
impairment loss

(i) Calculation of carrying value of Machinery A and B before impairment

Machinery A

Cost (A) Rs 10,00,000

Residual Value Rs 50,000

Useful life 10 years

Useful life already elapsed 5 years

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Yearly depreciation (B) Rs 95,000

WDV as at 31st March, 2018 [A- (B 5)] Rs 5,25,000

Machinery B

Cost (C) Rs 5,00,000

Residual Value -

Useful life 10 years

Useful life already elapsed 3 years

Yearly depreciation (D) (D) Rs 50,000

WDV as at 31st March, 2018 [C- (D 3)] Rs 3,50,000

(ii) Calculation of Value-in-use of Machinery A

Period Cash Flows (Rs) PVF PV

1 1,50,000 0.909 1,36,350

2 1,00,000 0.826 82,600

3 1,00,000 0.751 75,100

4 1,50,000 0.683 1,02,450

5 1,00,000 0.621 62,100

5 50,000 0.621 31,050

Value in use 4,89,650

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(iii) Calculation of Fair Value less cost of disposal of Machinery A

Rs

Fair Value 7,00,000

Less: Dismantling cost (1,50,000)

Packaging cost (25,000)

Legal Fees (75,000)

Fair value less cost of disposal 4,50,000

(iv) Calculation of Impairment loss on Machinery A

Rs

Carrying Value 5,25,000

Less: Recoverable Value ie higher of Value-in-use and Fair value less cost 4,89,650
of disposal

Impairment Loss 35,350

(v) Calculation of Impairment loss of CGU

1. First goodwill will be impaired fully and then the remaining impairment loss of Rs 75,000 will
be allocated to Machinery A and B.

2. If we allocate remaining impairment loss to Machinery A and B on prorate basis, it would

come to Rs 45,000 on Machinery A. However, the impairment loss of Machinery A cannot
exceed Rs 35,350. Hence, impairment to CGU will be as follows:

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 Carrying value before Impairment loss Carrying value
impairment loss after
impairment loss

Rs Rs Rs

Machinery A 5,25,000 35,350 4,89,650

Machinery B 3,50,000 39,650* 3,10,350

Inventory 2,00,000 - 2,00,000

Goodwill 1,50,000 1,50,000 -

Total 12,25,000 2,25,000 10,00,000

* Balancing figure.

(b) Carrying value after adjustment of depreciation

Rs

Machinery A [4,89,650 – {(4,89,650-50,000)/5}] 4,01,720

Machinery B [3,10,350 – (3,10,350/7)] 2,66,014

Inventory 2,00,000

Goodwill -

Total 8,67,734

(c) Calculation of carrying value of CGU as on 31st March, 2019

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The revised value of CGU is Rs 11 Lakh. However, impaired goodwill cannot be reversed.
Further, the individual assets cannot be increased by lower of recoverable value or Carrying
Value as if the assets were never impaired. Accordingly, the carrying value as on 31st March,
2019 assuming that the impairment loss had never incurred, will be:

Carrying Value Recoverable Value Final CV as at 31st

Mar 2019

Machinery A 4,30,000 4,50,000 4,30,000

Machinery B 3,00,000 (7,60,000 – 4,50,000) 3,00,000

3,10,000

Inventory 2,00,000 2,00,000 2,00,000

Goodwill -

Total 9,30,000 9,60,000 9,30,000

Hence the impairment loss to be reversed will be limited to Rs 62,266 only (Rs 9,30,000 – Rs
8,67,734).

Question 36

ICAI Illustration

Saturn India Ltd is reviewing one of its business segments for impairment. The carrying value
of its net assets is 40 million. Management has produced two computations for the value-in-
use of the business segment. The first value of Rs 36 million excludes the benefit to be
derived from a future reorganization, but the second value of Rs 44 million includes the
benefits to be derived from the future reorganization. There is not an active market for the
sale of the business segments. Whether the business segment needs to be Impaired?

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 (Study material)

Answer

The benefit of the future reorganization should not be taken into account in calculating value-
in-use. Therefore, the net assets of the business segment will be impaired by Rs 4 million
because the value- in-use of Rs 36 million is lower than the carrying value of Rs 40 million. The
value-in-use can be used as the recoverable amount as there is no active market for the sale of
the business segment

Question 37

ICAI Illustration

A company operates a mine in a country where legislation requires that the owner must
restore the site on completion of its mining operations. The cost of restoration includes the
replacement of the overburden, which must be removed before mining operations
commence. A provision for the costs to replace the overburden was recognised as soon as the
overburden was removed. The amount provided was recognised as part of the cost of the
mine and is being depreciated over the mine’s useful life. The carrying amount of the
provision for restoration costs is Rs 500, which is equal to the present value of the restoration
costs. The entity is testing the mine for impairment. The cash-generating unit for the mine is
the mine as a whole. The entity has received various offers to buy the mine at a price of
around Rs 800. This price reflects the fact that the buyer will assume the obligation to restore
the overburden. Disposal costs for the mine are negligible. The value in use of the mine is
approximately Rs 1,200, excluding restoration costs. The carrying amount of the mine is Rs
1,000. How the impairment loss is to be accounted for?

(Study material)

Answer

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The cash-generating unit’s fair value less costs of disposal is Rs 800. This amount considers
restoration costs that have already been provided for. As a consequence, the value in use for
the cash-generating unit is determined after consideration of the restoration costs and is
estimated to be Rs 700 (Rs 1,200 less Rs 500). The carrying amount of the cash-generating unit
is Rs 500, which is the carrying amount of the mine (Rs 1,000) less the carrying amount of the
provision for restoration costs (Rs 500). Therefore, the recoverable amount of the cash-
generating unit exceeds its carrying amount. Thus, there is no impairment loss.

Question 38

ICAI Illustration

A machine has suffered physical damage but is still working, although not as well as before it
was damaged. The machine’s fair value less costs of disposal is less than its carrying amount.
The machine does not generate independent cash inflows. The smallest identifiable group of
assets that includes the machine and generates cash inflows that are largely independent of
the cash inflows from other assets is the production line to which the machine belongs. The
recoverable amount of the production line shows that the production line taken as a whole is

not impaired.

Assumption 1: budgets/forecasts approved by management reflect no commitment of

management to replace the machine.

Assumption 2: budgets/forecasts approved by management reflect a commitment of

management to replace the machine and sell it in the near future. Cash flows from continuing
use of the machine until its disposal are estimated to be negligible.

How to account for the impairment loss of machine in above scenarios?

(Study material)

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Answer

1. The recoverable amount of the machine alone cannot be estimated because the machine’s
value in use:

a) may differ from its fair value less costs of disposal; and

b) can be determined only for the cash-generating unit to which the machine belongs (the
production line).

The production line is not impaired. Therefore, no impairment loss is recognised for the
machine. Nevertheless, the entity may need to reassess the depreciation period or the
depreciation method for the machine. Perhaps a shorter depreciation period or a faster
depreciation method is required to reflect the expected remaining useful life of the machine or
the pattern in which economic benefits are expected to be consumed by the entity.

2. The machine’s value in use can be estimated to be close to its fair value less costs of disposal.
Therefore, the recoverable amount of the machine can be determined and no consideration is
given to the cash-generating unit to which the machine belongs (i.e. the production line).
Because the machine’s fair value less costs of disposal is less than its carrying amount, an
impairment loss is recognised for the machine.

After the allocation procedures have been applied, a liability is recognised for any remaining
amount of an impairment loss for a cash-generating unit if, and only if, that is required by
another Indian Accounting Standard.

Question 39

ICAI Illustration

On 1st April 20X1, Venus Ltd acquired 100% of Saturn Ltd for Rs 4,00,000. The fair value of the
net identifiable assets of Saturn Ltd was Rs 3,20,000 and goodwill was Rs 80,000. Saturn Ltd is

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in coal mining business. On 31st March, 20X3, the government has cancelled licenses given to
it in few states. As a result Saturn’s Ltd revenue is estimated to get reduce by 30%. The
adverse change in market place and regulatory conditions is an indicator of impairment. As a
result, Venus Ltd has to estimate the recoverable amount of goodwill and net assets of Saturn
Ltd on 31st March, 20X3.

Venus Ltd uses straight line depreciation. The useful life of Saturn’s Ltd assets is estimated to
be 20 years with no residual value. No independent cash inflows can be identified to any
individual assets. So, the entire operation of Saturn Ltd is to be treated as a CGU. Due to the
regulatory entangle it is not possible to determine the selling price of Saturn Ltd as a CGU. Its
value in use is estimated by the management at Rs 2,12,000.

Suppose by 31st March, 20X5 the government reinstates the licenses of Saturn Ltd. The
management expects a favourable change in net cash flows. This is an indicator that an
impairment loss may have reversed. The recoverable amount of Saturn’s Ltd net asset is re-
estimated. The value in use is expected to be Rs 3,04,000 and fair value less cost to disposal is
expected to be Rs 2,90,000.

Calculate the impairment loss, if any. Also show the accounting treatment for reversal of
impairment loss and the subsequent depreciation thereon.

(Study material)

Answer

Since the fair value less costs of disposal is not determinable the recoverable amount of the
CGU is its value in use. The carrying amount of the assets of the CGU on 31st March, 20X3 is as
follows:

Calculation of Impairment loss

Rs

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 Goodwill Other assets Total

Historical Cost 80,000 3,20,000 4,00,000

Accumulated Depreciation (3,20,000/20) 2 - (32,000) (32,000)

Carrying Amount 80,000 2,88,000 3,68,000

Impairment Loss (80,000) (76,000) (1,56,000)

Revised Carrying Amount

▪ Impairment Loss = Carrying Amount – Recoverable Amount (Rs 3,68,000 - Rs 2,12,000) =

Rs 1,56,000 is charged in statement of profit and loss for the period ending 31st March, 20X3 as
impairment loss.

▪ Impairment loss is allocated first to goodwill Rs 80,000 and remaining loss of Rs 76,000 (Rs
1,56,000 – Rs 80,000) is allocated to the other assets.

Reversal of Impairment loss

Reversal of impairment loss is recognised subject to:-

▪ The impairment loss on goodwill cannot be reversed.

▪ The increased carrying amount of an asset after reversal of an impairment loss not to exceed
the carrying amount that would have been determined had no impairment loss been
recognised in prior years.

Calculation of carrying amount of identifiable assets had no impairment loss is recognised

Rs

Historical Cost 3,20,000

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Accumulated Depreciation for 4 years (3,20,000/20) 4 (64,000)

Carrying amount had no impairment loss is recognised on 31st March, 20X5 2,56,000

Carrying amount of other assets after recognition of impairment loss

Rs

Carrying amount on 31st March, 20X3 2,12,000

Accumulated Depreciation for 2 years (2,12,000/18) x 2 [rounded off to (24,000)

nearest thousand for ease of calculation]

Carrying amount on 31st March, 20X5 1,88,000

▪ The impairment loss recognised previously can be reversed only to the extent of lower of re-
estimated recoverable amount is Rs 2,56,000 (higher of fair value less costs of disposal Rs
2,90,000 and value in use Rs 3,04,000)

▪ Impairment loss reversal will be Rs 68,000 i.e. (Rs 2,56,000 – Rs 1,88,000). This amount is
recognised as income in the statement of profit and loss for the year ended 31st March, 20X5.

▪ The carrying amount of other assets at 31st March, 20X5 after reversal of impairment loss will
be Rs 2,56,000.

▪ From 1st April, 20X5 the depreciation charge will be Rs 16,000 i.e. (Rs 2,56,000/16)

Question 40

ICAI Illustration

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A Ltd acquires 80% shares of a subsidiary B Ltd. for Rs 3,200 thousand. At the date of
acquisition, B Ltd.’s identifiable net assets is Rs 3,000 thousand. A elects to measure NCI at
proportionate share of net identifiable assets. It recognizes

Rs in thousand

Purchase Consideration 3,200

NCI (3,000 20%) 600

3,800

Less: Net Assets (3,000)

Goodwill 800

At the end of next financial year, B Ltd.’s carrying amount is reduced to Rs 2,700 thousand
(excluding goodwill). Recoverable amount of B Ltd.’s assets is Case (i) Rs 2,000 thousand, Case
(ii) Rs 2,800 thousand Calculate impairment loss allocable to Parent and NCI in both the cases.

(Study material)

Answer

Case (i) Rs in thousand

Particulars Goodwill Other Asset Total

Carrying amount 800 2,700 3,500

Unrecognised NCI (notional) [(800 / 80%) 20%] 200 - 200

Notional Total 1,000 2,700 3,700

Recoverable amount - - 2,000

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Total Impairment loss - - (1,700)

Impairment loss recognised in CFS (800) (700) (1,500)

Carrying amount after impairment - 2,000 2,000

Impairment loss on: Parent NCI

Goodwill (800) -

Other assets (560) (140)

Total (1,360) (140)

Case (ii)

Particulars Goodwill Other Asset Total

Carrying amount 800 2,700 3,500

Unrecognized NCI (notional) (800 / 80% 200 - 200

20%)

Notional Total 1,000 2,700 3,700

Recoverable amount - - 2,800

Total Impairment loss - - (900)

Impairment loss recognised in CFS (900 (720) - (720)

80%)

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Carrying amount after impairment (800 – 80 2,700 2,780
720)

Impairment loss on: Parent NCI

Goodwill (720) -

Other assets - -

Total (720) -

It is to be noted that since an entity measures NCI at its proportionate interest in the net
identifiable assets of a subsidiary at the acquisition date, rather than at fair value, goodwill
attributable to NCI is not recognised in the parent’s consolidated financial statements and so
the impairment loss on such goodwill not recognised.

Question 41

ICAI Illustration

From the following details of an asset, find out:

(a) Impairment loss and its treatment.

(b) Current year depreciation for the year end.

Particulars of assets:

Cost of asset Rs 56 lakh

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Useful life 10 years

Salvage value Nil

Carrying value at the beginning of the year Rs 27.30 lakh

Remaining useful life 3 years

Recoverable amount at the beginning of the year Rs 12 lakh

Upward revaluation done in last year Rs 14 lakh

(Study material)

Answer

Impairment loss

Impairment loss = Carrying amount of the asset – Recoverable amount

= Rs 27.30 lakh – Rs 12 lakh

= Rs 15.30 lakh

Treatment of impairment loss

As per Ind AS 36, impairment loss (whether of an individual asset of a CGU) is recognised in the
following manner:

(a) Impairment loss of a revalued asset: It is recognised in other comprehensive income to the
extent that the impairment loss does not exceed the amount held in the revaluation surplus for
that same asset. The balance, if any, is recognised as an expense in the statement of profit and
loss.

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b) Impairment loss of other assets: Impairment loss of any other asset should be recognised as
an expense in the statement of profit and loss.

Since, the asset in question has been revalued upwards, the impairment loss will be adjusted
first against the revaluation surplus of Rs 14 lakh. The balance amount of Rs 1.30 lakh will be
recognised as an expense in the profit and loss account.

Current year depreciation

Revised carrying amount (after recognising impairment loss) Rs 12 lakh

Remaining useful life 3 years

Salvage value Nil

Annual depreciation (12/3) Rs 4 lakh

Question 42

ICAI Illustration

A bus company provides services under contract with a municipality that requires minimum
service on each of seven separate routes. Assets devoted to each route and the cash flows
from each route can be identified separately. One of the routes operates at a significant loss.
Should the company determine the recoverable amount for an individual asset or for a cash
generating unit?

(Study material)

Answer

Because the entity does not have the option to curtail any one bus route, the lowest level of
identifiable cash inflows that are largely independent of the cash inflows from other assets or

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groups of assets is the cash inflows generated by the seven routes together. The cash-
generating unit for each route is the bus company as a whole.

Question 43

ICAI Illustration

XYZ Limited has a cash-generating unit ‘Plant A’ as on 1st April, 20X1 having a carrying
amount of Rs 1,000 crore. Plant A was acquired under a business combination and goodwill of
Rs 200 crore was allocated to it. It is depreciated on straight line basis. Plant A has a useful
life of 10 years with no residual value. On 31st March, 20X2, Plant A has a recoverable
amount of Rs 600 crore. Calculate the impairment loss on Plant A. Also, prescribe its
allocation as per Ind AS 36.

(Study material)

Answer

Particulars Goodwill (Rs in Identifiable assets Total (Rs in

crore) (Rs in crore) crore)

Historical cost 200 1,000 1,200

Depreciation (20X1- 20X2) - (100) (100)

Carrying amount 200 900 1,100

Since, the recoverable amount is Rs 600 crore, there is an impairment loss of Rs 500 crore. The
impairment loss of Rs 500 crore should be allocated to goodwill first, and then to the other
identifiable assets, i.e., Rs 200 crore to goodwill and Rs 300 crore to identifiable assets of Plant
A.

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 (Rs in crore)

Particulars Goodwill Identifiable assets Total

Impairment loss (200) (300) (500)

Carrying amount after impairment - 600 600

loss

Question 44

ICAI Illustration

Sun Ltd is an entity with various subsidiaries. The entity closes its books of account at every
year ended on 31st March. On 1st July, 20X1, Sun Ltd acquired an 80% interest in Pluto Ltd.
Details of the acquisition were as follows:

– Sun Ltd acquired 800,000 shares in Pluto Ltd by issuing two equity shares for every five
acquired. The fair value of Sun Ltd’s share on 1st July, 20X1 was Rs 4 per share and the fair
value of a Pluto’s share was Rs 1.40 per share.

The costs of issue were 5% per share.

– Sun Ltd incurred further legal and professional costs of Rs 100,000 that directly related to
the acquisition.

– The fair values of the identifiable net assets of Pluto Ltd at 1st July, 20X1 were measured at
Rs 1.3 million. Sun Ltd initially measured the non-controlling interest in Pluto Ltd at fair value.
They used the market value of a Pluto Ltd share for this purpose. No impairment of goodwill
arising on the acquisition of Pluto Ltd was required at 31st March, 20X2 or 20X3.

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Pluto Ltd comprises three cash generating units A, B and C. When Pluto Ltd was acquired the
directors of Sun Ltd estimated that the goodwill arising on acquisition could reasonably be
allocated to units A:B:C on a 2:2:1 basis. The carrying values of the assets in these cash
generating units and their recoverable amounts are as follows:

Unit Carrying value (before goodwill allocation) Recoverable amount

Rs ’000 Rs ’000

A 600 740

B 550 650

C 450 400

Required:

(i) Compute the carrying value of the goodwill arising on acquisition of Pluto Ltd in the
consolidated Balance Sheet of Sun ltd at 31st March, 20X4 following the impairment review.

(ii) Compute the total impairment loss arising as a result of the impairment review,
identifying how much of this loss would be allocated to the non-controlling interests in Pluto
ltd.

(Study material)

Answer

1. Computation of goodwill on acquisition

Particular Amount (Rs ‘000)

Cost of investment (8,00,000 2/5 Rs 4) 1,280

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Fair value of non-controlling interest (2,00,000 Rs 1·4) 280

Fair value of identifiable net assets at date of acquisition (1,300)

So goodwill equals 260

Acquisition costs are not included as part of the fair value of the consideration given under Ind
AS 103, Business Combination.

2. Calculation of impairment loss

Unit Carrying value Recoverable Impairment

Amount Loss

Before Allocation After

Allocation of goodwill Allocation
(2:2:1)

A 600 104 704 740 Nil

B 550 104 654 650 4

C 400* 52 452 400 52

* After writing down assets in the individual CGU to recoverable amount.

3. Calculation of closing goodwill

Goodwill arising on acquisition (W1) 260

Impairment loss (W2) (56)

So closing goodwill equals 204

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4. Calculation of overall impairment loss

on goodwill (W3) 56

on assets in unit C (450 – 400) 50

So total loss equals 106

Rs 21.2 (20%) of the above is allocated to the NCI with the balance allocated to the
shareholders of Sun Ltd.

Topic 5 : Reversal of Impairment Loss

Question 45

ICAI Illustration

The carrying value of a building in the books of Sun Ltd. as at 31st March, 20X1 is Rs 300 lakh.
As on that date the value in use is Rs 250 lakh and fair value less cost of disposal is Rs 238
lakh. Calculate the Recoverable Amount.

(Study material)

Answer

Recoverable Amount : Higher of Fair Value less Costs of disposal and Value in Use Fair

Value less costs of disposal : Rs 250 lakh

Value in Use : Rs 238 lakh

Therefore, Recoverable value will be Rs 250 lakh

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Topic 6 : Goodwill Impairment Testin

Question 46

ICAI Illustration

Entity A acquires Entity B for Rs 50 million, of which Rs 35 million is the fair value of the
identifiable assets acquired and liabilities assumed. The acquisition of B Ltd. is to be
integrated into two of Entity A’s CGUs with the net assets being allocated as follows:

Rs in million

CGU 1 CGU 2 Total

Fair value of acquired identifiable tangible and 25 10 35

intangible assets

In addition to the net assets acquired that are assigned to CGU 2, the acquiring entity expects
CGU 2 to benefit from certain synergies related to the acquisition (e.g. CGU 2 is expected to
realise higher sales of its products because of access to the acquired entity’s distribution
channels). There is no synergistic goodwill attributable to other CGUs. Entity A allocated the
purchase consideration of the acquired business to CGU 1 and CGU 2 as Rs 33 million and Rs
17 million respectively. Determine the allocation of goodwill to each CGU?

(Study material)

Answer

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If goodwill is allocated to the CGUs based on the difference between the purchase
consideration and the fair value of net assets acquired ie direct method, the allocation would
be as follows: (All figures are Rs in million, unless otherwise specified)

CGU 1 CGU 2 Total

Allocation of Purchase consideration 33 17 50

Less: Acquired identifiable tangible and (25) (10) (35)

intangible assets

Goodwill assigned to CGUs 8 7 15

Topic 7 : Special Cases / Advanced Problems

Question 47

Himalaya Ltd. which is in a business of manufacturing and export of its product. Sometimes,
back in 2016, the Government put restriction on export of goods exported by Himalaya Ltd.
and due to that restriction Himalaya Ltd. impaired its assets. Himalaya Ltd. acquired
identifiable assets won of Rs. 4,000 lakhs for Rs. 6,000 lakh at be end of the year 2012. The
difference is treated a5 goodwill. The useful life of identifiable assets is 15 years and
depreciated on straight line basis. When Government put the restriction at the end of 2016
the company recognized the impairment loss by determining the recoverable amount of
assets for Rs. 2,720 lakh. In 2018, Government lifted the restriction imposed on the export
and due to this favorable change, Himalaya Ltd. re- estimate recoverable amount, which was
estimated at Rs. 3,420 lakh.

Required:

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(i) Calculation and allocation of impairment loss in 2016.

(ii) Reversal of impairment loss and its allocation as per AS 28 in 2018.

(MTP April ‘19)

Answer 47

(i) Calculation and allocation of impairment loss in 2016 (Amount in Rs. lakhs)

Good will Identifiable assets Total

Historical cost 2,000 4,000

Accumulated 1600 2667

depreciation/amortization (4 is.)

Carrying amount before impairment 400 2,933

Impairment loss* 400 23 613

Carrying amount after impairment 2,720 2,720

loss

* Notes:

[Link] per para 87 of AS 28, an impairment loss should be allocated to reduce the carrying
amount of the assets of the unit in the following order:

(a) first, to goodwill allocated to the cash-generating unit (if any); and

(b) then, to the other assets of the unit on a pro-rata basis based on the carrying amount of
each asset in the unit.

Hence, first goodwill is impaired at full value and then identifiable assets are impaired to arrive
at recoverable value.

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2. Since the goodwill has arisen on acquisition of assets ,AS 14 comes into the picture. As per
para 19 of AS 14, goodwill shall amortize over a period not exceeding five years unless a
somewhat longer period can be justified. Therefore, the amortization per od of goodwill is
considered as 5 years.

(ii) Carrying amount of the assets at the end of 2018

(Amount in Rs. lakhs)

End of 2018 Goodwill Identifiable assets Total

Carrying amount in 2018 0 2,225 2,225

Add: Reversal of impairment loss - 175 175

(W.N.2)

Carrying amount after reversal of - 2,400 2,400

impairment loss

Working Note:

1. Calculation of depreciation after impairmenttl1 2018 and reversal of impairment loss in

2018.

Amount in Rs, lakhs

Goodwill Identifiable assets Total

Carrying amount after impairment 0 2,720 2,720

loss in 2016

Additional depreciation (i.e. - 495 495

(2,720/11)x 2)

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Carrying amount 0 225 22

Recoverable amount Excess of 420

recoverable amount our caring
1,195
amount

Note: It is assumed that the restriction by the Government has been liked at the end of the year
2018.

2. Determination of the amount to be impaired by calculating depreciated historical cost of

the identifiable assets without impairment at the end of 2018

(Amount in Rs. lakhs)

End of 2018 Identifiable assets

Historical cost 4,000

Accumulated depreciation (266.67 6 Years) =

(1,600)

Depreciated historical cost 2,400

Carrying amount (in W.N.1) 2,225

Amount of reversal of impairment loss 175

Notes:

1. As per para 107 of AS 28, in allocating a reversal of an impairment loss for a cash-generating
unit, the carrying amount of an asset should not be increased above the lower of:

(a) its recoverable amount (if determinable); and

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(b) the carrying amount that would have been determined (net of amortization or depreciation)
had no impairment loss been recognized for the asset in prior accounting periods.

Hence impairment loss reversal is restricted to Rs. 175 lakhs only.

2. The reversal of impairment loss took place in the 6th year. However, goodwill is amortized in
5 years. Therefore, there would be no balance in the goodwill account in the 6* year even
without impairment Ioss. Hence in W.N. 2 above there is no column for recalculation of
goodwill.

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 Chapter 5 Unit-5

Ind AS 38: “Intangible Assets”

Topic 1: Definition and Recognition Criteria of Intangible Assets

Question 1

ABC Pvt. Ltd., recruited a player. As per the terms of the contract, the player is prohibited
from playing for any other entity for coming 5 years and have to in the employment with the
company and cannot leave the entity without mutual agreement. The price the entity paid to
acquire this right is derived from the skills and fame of the said player. The entity uses and
develops the player through participation in matches. State whether the cost incurred to
obtain the right regarding the player can be recognised as an intangible asset as per Ind AS
38?

(RTP Nov ‘20)

Answer 1

As per Ind AS 38, for an item to be recognised as an intangible asset, it must meet the definition
of an intangible asset, i.e., identifiability, control over a resource and existence of future
economic benefits and also recognition criteria.

With regard to establishment of control, paragraph 13 of Ind AS 38 states that an entity

controls an asset if the entity has the power to obtain the future economic benefits flowing
from the underlying resource and to restrict the access of others to those benefits. The capacity
of an entity to control the future economic benefits from an intangible asset would normally
stem from legal rights that are enforceable in a court of law. In the absence of legal rights, it is

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more difficult to demonstrate control. However, legal enforceability of a right is not a necessary
condition for control because an entity may be able to control the future economic benefits in
some other way.

Further, paragraph 15 of Ind AS 38 provides that an entity may have a team of skilled staff and
may be able to identify incremental staff skills leading to future economic benefits from
training. The entity may also expect that the staff will continue to make their skills available to
the entity. However, an entity usually has insufficient control over the expected future
economic benefits arising from a team of skilled staff and from training for these items to meet
the definition of an intangible asset. For a similar reason, specific management or technical
talent is unlikely to meet the definition of an intangible asset, unless it is protected by legal
rights to use it and to obtain the future economic benefits expected from it, and it also meets
the other parts of the definition. Since the right in the instant case is contractual, identifiability
criterion is satisfied. Based on the facts provided in the given case, the player is prohibited from
playing in other teams by the terms of the contract which legally binds the player to stay with
ABC Ltd for 5 years.

Accordingly, in the given case, the company would be able to demonstrate control. Future
economic benefits are expected to arise from use of the player in matches. Further, cost of
obtaining rights is also reliably measurable. Hence, it can recognise the costs incurred to obtain
the right regarding the player as an intangible asset. However, careful assessment of relevant
facts and circumstances of each case is required to be made.

Question 2

An entity regularly places advertisements in newspapers advertising its products and includes
a reply slip that informs individuals replying to the advertisement that the entity may pass on
the individual’s details to other sellers of similar products, unless the individual ticks a box in

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the advertisement. Over a period of time the entity has assembled a list of customers’ names
and addresses. The list is provided to other entities for a fee. The entity would like to
recognise an asset in respect of the expected future economic benefits to be derived from the
list. Can the customer list be treated as an intangible asset under Ind AS 38?

(Study material)

Answer 2

In this situation, the entity has no legal rights to the customer relationship, but exchange
transactions have taken place that evidence separability of the asset and the control that the
entity is able to exercise over the asset. Therefore, the list is an intangible asset. However, the
entity may not recognise the asset because the cost of generating the customer list internally
cannot be distinguished from the cost of developing the business as a whole. It does not meet
the conditions specified to recognize an internally generated intangible asset.

Question 3

A software company X Ltd. is developing new software for the telecom industry. It employs
100 employs engineers trained in that particular discipline who are engaged in the
development of the software. X Ltd. feels that it has an excellent HR policy and does not
expect any of its employees to leave in the near future.

It wants to recognise these set of engineers as a human resources asset in the form of an
intangible asset. What would be your advice to X Ltd?

(Study material)

Answer 3

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Although, without doubt the skill sets of the employees make them extremely valuable to the
company, however it does not have control over them. Merely having good HR policies would
not make them eligible to be recognised as an intangible asset.

Question 4

Sun Ltd has an expertise in the consulting business. In years gone by, the Company gained a
30% market share for its services business and intends to recognise it as an intangible asset. Is
the action by Company justified?

(Study material)

Answer 4

Market share does not meet the definition of intangible assets as is not identifiable i.e. it is
neither separable and nor has arisen from contractual or legal rights.

Question 5

ICAI Illustration

Company XYZ ltd has provided training to its staff on various new topics like GST, Ind AS etc.
to ensure the compliance as per the required law. Can the company recognise such cost of
staff training as intangible asset?

(Study material)

Answer

It is clear that the company will obtain the economic benefits from the work performed by the
staff as it increases their efficiency. But it does not have control over them because staff could

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choose to resign the company at any time. Hence the company lacks the ability to restrict the
access of others to those benefits. Therefore, the staff training cost does not meet the
definition of an intangible asset.

Topic 2: Internally Generated vs. Separately Acquired Intangible Assets

Question 6

A company engaged in the provision of Information Technology Products and Services

incurred following expenditure during the development phase of its software product that is
to be offered to its customers. The entity also purchases software from third parties for
incorporating into its end software product offered to its customers. The company is in the
process of launching it in the market for licensing to customers. The company also takes
services of external professional software developers for such software development
purpose. Costs incurred in relation to the development of its software product for the year
ended 31st March, 20X2 are as follows:

Particulars Amount (Rs

thousands)

Purchase price of imported software 600

Employment costs (Note 1) 1,200

Testing costs 1,800

Other costs directly related to customization (Note 2) 450

Professional fees paid for external software developers 220

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Costs of training provided to staff to operate the asset 195

Costs of advertising in market 1,560

Administrative and general overheads 825

Note 1:

The software was developed in nine months ended 31st December, 20X1 and was capable of
operating in the manner intended by the entity. It was brought into use on 31st March, 20X2.
The employment costs are for the period of twelve months (i.e. up to 31st March, 20X2). The
employees were engaged in developing the software and related activities.

Note 2:

Other costs directly related to development include an abnormal cost of 50,000 in respect of
repairing the damage which resulted from a security breach. What will be the amount of the
software development costs that can be capitalized by explaining the reason for each
element of cost?

(RTP Nov ’23)

Answer 6

In the given fact pattern, the entity should apply the recognition and measurement principles
relevant for an internally generated intangible asset. The entity has to ensure compliance with
additional requirements relating to internally generated intangible assets in addition to general
recognition criteria and initial measurement of intangible asset. In the instant case, for the
measurement of software development cost, entity must evaluate the costs incurred for
recognition of an intangible asset arising from development phase with reference to paragraphs
65 to 67 of Ind AS 38. According to the said paragraphs, the initial carrying amount of the
software will be computed as follows:

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Amount(Rs in Amount to be capitalised Remarks
thousands) as Intangible Assets (Rs in
thousands)

Purchase price of 600 600 The cost of materials or / and services

imported software used or consumed in generating the
intangible asset and any directly
attributable cost of preparing the asset
for its intended use.

Employment costs 1,200 900 Employment costs for the period of nine
(Note 1) months are directly attributable costs.
Therefore, the cost to be

capitalized is Rs 900 thousand (i.e.,

9/12 Rs 1,200 thousand) for nine
months as the asset was ready for its
intended use by that time. It is assumed
that Rs 100 thousand is equally incurred
each month. Capitalisation of eligible
costs should cease when the asset is
capable of operating in the manner
intended by management.

Testing costs 1,800 1,800 The cost of testing whether the asset is
functioning properly is a directly
attributable cost. (Refer paragraph 59 of
Ind AS 38)

Other costs directly 450 400 Cost of identified inefficiencies deducted,

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related to i.e., Rs 450 thousand – Rs 50 thousand.
development (Note 2)

Professional fees paid 220 220 The cost of materials or/and services
for bringing the used or consumed in generating the
software to its intangible asset
working condition

Costs of training 195 Nil Expenditure on training staff to operate

provided to staff the asset cannot be capitalised. (Refer
paragraph 67 of Ind AS 38)

Costs of advertising in 1,560 Nil Selling, administrative and other general

market overhead expenditure cannot be
capitalised. (Refer paragraph 67 of Ind AS
38)

Administrative and 825 Nil

general overheads

Total 6,850 3,920

Accordingly, the initial carrying value of the software is Rs 39,20,000. The remaining costs will
be charged to profit or loss.

Question 7

PQR Ltd. is a gaming developer company. Few years back, it developed a new game called
'Cloud9'. This game sold over 10,00,000 copies around the world and was extremely
profitable. Due to its popularity, PQR Ltd. released a new game in the ‘Cloud9’ series every
year. The games continue to be the bestseller. Based on Management’s expectations,

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estimates of cash flow projections for the ‘cloud9 videogame series’ over the next five years
have been prepared. Based on these projections, PQR Ltd. believes that cloud9 series brand
should be recognised at INR 20,00,000 in its financial statement. PQR Ltd. has also paid INR
10,00,000 to MNC Ltd. to acquire rights of another video game series called the ‘Headspace’
videogame series. The said series have huge demand in the market. Discuss the accounting
treatment of the above in the financial statements of PQR Ltd.

(RTP May ‘21)

Answer 7

In order to determine the accounting treatment of ‘cloud9 videogame series’ and ‘Headspace’,
definition of asset and intangible asset given in Ind AS 38 may be noted:

“An asset is a resource:

(a) controlled by an entity as a result of past events; and

(b) from which future economic benefits are expected to flow to the entity.”

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

In accordance with the above, for recognizing an intangible asset, an entity must be able to
demonstrate that the item satisfies the criteria of identifiability, control and existence of future
economic benefits.

In order to determine whether ‘cloud9 videogame series’ meet the aforesaid conditions,
following provisions of Ind AS 38 regarding Internally Generated Intangible Assets may be
noted:

As per paragraph 63 and 64 of Ind AS 38, internally generated brands, mastheads, publishing
titles, customer lists and items similar in substance should not be recognized as intangible
assets. Expenditure on such items cannot be distinguished from the cost of developing the
business as a whole. Therefore, such items are not recognised as intangible assets.

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Accordingly, though the cash flow projections suggest that the cloud9 brand will lead to future
economic benefits, yet the asset has been internally generated; therefore, the Cloud9 brand
cannot be recognised as intangible asset in the financial statements.

In order to determine whether ‘Headspace’ meet the aforesaid conditions, following provisions
of Ind AS 38 regarding ‘Separately acquired Intangible Assets’ should be analused.

As per paragraphs 25 and 26 of Ind AS 38, normally, the price an entity pays to acquire
separately an intangible asset will reflect expectations about the probability that the expected
future economic benefits embodied in the asset will flow to the entity. In other words, the
entity expects there to be an inflow of economic benefits, even if there is uncertainty about the
timing or the amount of the inflow. Therefore, the probability recognition criterion in
paragraph 21(a) is always considered to be satisfied for separately acquired intangible assets. In
addition, the cost of a separately acquired intangible asset can usually be measured reliably.
This is particularly so when the purchase consideration is in the form of cash or other monetary
assets.

The Headspace game has been purchased for INR 10,00,000 and it is expected to generate
future economic benefits to the entity. Since Headspace game i s a separately acquired asset
and the future benefits are expected to flow to the entity, therefore, an intangible asset should
be recognised in respect of the ‘Headspace’ asset at its cost of INR 10,00,000. After initial
recognition, either cost model or revaluation model can be used to measure headspace
intangible asset as per guidance given in paragraphs 74-87 of Ind AS 38. In accordance with this,
Headspace intangible asset should be carried at its cost/revalued amount (as the case may be)
less any accumulated amortisation and any accumulated impairment losses.

Question 8

One of the senior engineers at XYZ has been working on a process to improve manufacturing
efficiency and, consequently, reduce manufacturing costs. This is a major project and has the

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full support of XYZʼs board of directors. The senior engineer believes that the cost reductions
will exceed the project costs within twenty four months of their implementation. Regulatory
testing and health and safety approval was obtained on 1 June 20X5. This removed
uncertainties concerning the project, which was finally completed on 20 April 20X6. Costs of
Rs. 18,00,000, incurred during the year till 31st March 20X6, have been recognized as an
intangible asset. An offer of Rs. 7,80,000 for the new developed technology has been received
by potential buyer but it has been rejected by XYZ. Utkarsh believes that the project will be a
major success and has the potential to save the company Rs. 12,00,000 in perpetuity. Director
of research at XYZ, Neha, who is a qualified electronic engineer, is seriously concerned about
the long term prospects of the new process and she is of the opinion that competitors would
have developed new technology at some time which would require to replace the new
process within four years. She estimates that the present value of future cost savings will be
Rs. 9,60,000 over this period. After that, she thinks that there is no certainty about its future.
What would be the appropriate accounting treatment of aforesaid issue?

(RTP May ’20)

Answer 8

‘Intangible Assets’ requires an intangible asset to be recognised if, and only if, certain criteria
are met. Regulatory approval on 1 June 20X5 was the last criterion to be met, the other criteria
have been met as follows:

• Intention to complete the asset is apparent as it is a major project with full support from
board

• Finance is available as resources are focused on project

• Costs can be reliably measured

• Benefits are expected to exceed costs – (in 2 years)

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Amount of Rs. 15,00,000 (Rs. 18,00,000 x 10/12) should be capitalized in the Balance sheet of
year ending 20X5-20X6 representing expenditure since 1 June 20X5.

The expenditure incurred prior to 1 June 20X5 which is Rs. 3,00,000 (2/12 x Rs. 18,00,000)
should be recognized as an expense, retrospective recognition of expense as an asset is not
allowed.

Ind AS 36 ‘Impairment of assets’ requires an intangible asset not yet available for use to

be tested for impairment annually.

Cash flow of Rs. 12,00,000 in perpetuity would clearly have a present value in excess of Rs.
12,00,000 and hence there would be no impairment. However, the research director is
technically qualified, so impairment tests should be based on her estimate of a four year
remaining life and so present value of the future cost savings of Rs. 9,60,000 should be
considered in that case. 9,60,000 is greater than the offer received (fair value less costs to sell)
of Rs. 7,80,000 and so Rs. 9,60,000 should be used as the recoverable amount. So, the carrying
amount should be consequently reduced to Rs. 9,60,000.

Calculation of Impairment loss:

Particulars Amount Rs.

Carrying amount (Restated) 15,00,000

Less: Recoverable amount 9,60,000

Impairment loss 5,40,000

Impairment loss of Rs. 5,40,000 is to be recognised in the profit and loss for the year 20X5-
20X6.

Necessary adjusting entry to correct books of account will be:

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 Rs Rs.

expenses- Development expenditure Dr. 3,00,000

Operating expenses–Impairment loss of intangible assets Dr. 5,40,000 8,40,000

Intangible To assets – Development expenditure

Question 9

CARP Ltd. is engaged in developing computer software. The expenditures incurred by CARP
Ltd. in pursuance of its development of

software is given below:

(i) Paid Rs. 1,50,000 towards salaries of the program designers.

(ii) Incurred Rs. 3,00,000 towards other cost of completion of program design.

(iii) Incurred Rs. 80,000 towards cost of coding and establishing technical feasibility.

(iv) Paid Rs. 3,00,000 for other direct cost after establishment of technical feasibility.

(v) Incurred Rs. 90,000 towards other testing costs.

(vi) A focus group of other software developers was invited to a conference for the
introduction of this new software. Cost of the conference aggregated to Rs. 60,000.

(vii) On 15 March 2020, the development phase was completed and a cash flow budget was
prepared.

Net profit for the year 2019-2020 was estimated to be equal to Rs. 30,00,000.

How CARP Ltd. should account for the above-mentioned cost as per relevant Ind AS?

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 (MTP Oct ’20, PYP May’19)

Answer 9

Costs incurred in creating computer software, should be charged to research & development
expenses when incurred until technical feasibility/asset recognition criteria have been
established for the product. Here, technical feasibility is established after completion of
detailed program design. In this case, Rs. 5,30,000 (salary cost of Rs. 1,50,000, program design
cost of Rs. 3,00,000 and coding and technical feasibility cost of Rs. 80,000) would be recorded
as expense in Profit and Loss since it belongs to research phase. Cost incurred from the point of
technical feasibility are capitalized as software costs. But the conference cost of Rs.60,000
would be expensed off. In this situation, direct cost after establishment of technical feasibility
of Rs. 3,00,000 and testing cost of Rs. 90,000 will be capitalized. The cost of software capitalized
is = Rs. (3,00,000 + 90,000) = Rs. 3,90,000.

Question 10

Mr. X, is the financial controller of ABC Ltd., a listed entity which prepares consolidated
financial statements in accordance with Ind AS. Mr. X has recently produced the final draft of
the financial statements of ABC Ltd. for the year ended 31st March, 2018 to the managing
director for approval. Mr. Y, who is not an accountant, had raised following queries from Mr.
X after going through the draft financial statements:

In the year to March, 2018, ABC Ltd. spent considerable amount on designing a new product.
ABC Ltd. spent the six months from April, 2017 to September, 2017 researching into the
feasibility of the product. Mr. X charged these research costs to profit or loss. From October,
2017, A Ltd. was confident that the product would be commercially successful and A Ltd. is
fully committed to finance its future development. A Ltd. spent remaining part of the year in
developing the product, which is expected to start from selling in the next few months. These
development costs have been recognised as intangible assets in the Balance Sheet. State

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whether the treatment done by Mr. X is correct when all these research and development
costs are design costs. Justify your answer with reference to relevant Ind AS. Provide answers
to the queries raised by the managing director Mr. Y as per Ind AS.

(RTP Nov ‘18)

Answer 10

As per Ind AS 38 ‘Intangible Assets’, the treatment of expenditure on intangible items depends
on how it arose. Internal expenditure on intangible items incurred during research phase
cannot be recognised as an asset. Once it can be demonstrated that a development project is
likely to be technically feasible, commercially viable, overall profitable and can be adequately
resourced, then future expenditure on the project can be recognised as an intangible asset. The
difference in the treatment of expenditure upto 30th September, 2017 and expenditure after
that date is due to the recognition phase ie. research or development phase.

Question 11

X Ltd. is engaged is developing computer software. The expenditures incurred by

X Ltd. in pursuance of its development of software is given below:

(a) Paid Rs 2,00,000 towards salaries of the program designers.

(b) Incurred Rs 5,00,000 towards other cost of completion of program design.

(c) Incurred Rs 2,00,000 towards cost of coding and establishing technical feasibility.

(d) Paid Rs 7,00,000 for other direct cost after establishment of technical feasibility.

(e) Incurred Rs 2,00,000 towards other testing costs.

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(f) A focus group of other software developers was invited to a conference for the
introduction of this new software. Cost of the conference aggregated to Rs 70,000.

On 15th March, 20X1, the development phase was complete and a cash flow budget was
prepared.

Net profit for the year was estimated to be equal Rs 40,00,000. How X Ltd. Should account for
the above mentioned cost?

(Practice Question)

Answer 11

Costs incurred in creating computer software, should be charged to research & development
expenses when incurred until technical feasibility/asset recognition criteria have been
established for the product. Here, technical feasibility is established after completion of
detailed program design.

In this case, Rs 9,00,000 (salary cost of Rs 2,00,000, program design cost of Rs 5,00,000 and
coding and technical feasibility cost of Rs 2,00,000) would be recorded as expense in Profit and
Loss since it belongs to research phase.

Cost incurred from the point of technical feasibility are capitalised as software costs. But the
conference cost of Rs 70,000 would be expensed off. In this situation, direct cost after
establishment of technical feasibility of Rs 7,00,000 and testing cost of Rs 2,00,000 will be
capitalised.

The cost of software capitalised is = Rs (7,00,000 + 2,00,000) = Rs 9,00,000.

Question 12

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X Ltd. has started developing a new production process in financial year 20X1- 20X2. Total
expenditure incurred till 30th September, 20X1, was Rs 1,00,00,000. The expenditure on the
development of the production process meets the recognition criteria on 1st July, 20X1. The
records of X Ltd. show that, out of total Rs 1,00,00,000, Rs 70,00,000 were incurred during
July to September, 20X1. X Ltd. publishes its financial results quarterly. How X Ltd. should
account for the development expenditure?

(Practice Question)

Answer 12

X Ltd. should recognise the intangible asset at Rs 70,00,000 and Rs 30,00,000 which was already
recognised as an expense in first quarter should not be capitalised.

Question 13

ICAI Illustration

Venus Ltd. is preparing its accounts for the year ended 31st March, 20X2 and is

unsure how to treat the following items.

1. Company has completed a big marketing and advertising campaign costing Rs 2,40,000. The
finance director had authorised this campaign on the basis that it would create Rs 5,00,000 of
additional profits over the next three years.

2. A new product was developed during the year. The expenditure aggregated Rs 1,50,000 of
which Rs 1,00,000 was incurred prior to 30th September, 20X1, the date on which it became
clear that the product was technically viable. The new product will be launched in the next
four months and its recoverable amount is estimated at Rs 70,000.

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3. Staff participated in a training programme which cost the company Rs 300,000. The
training organisation had made a presentation to the directors of Baxter outlining that
incremental profits to the business over the next twelve months would be Rs 500,000.

What amounts should appear as assets in Venus Ltd. Balance sheet as at 31st March, 20X2?

(Study material)

Answer

The treatment in Venus Ltd’s balance sheet as at 31st March, 20X2 will be as

follows:

1. Marketing and advertising campaign: no asset will be recognised because it is not possible to
identify future economic benefits that are attributable only to this campaign. All of the
expenditure should be expensed in the statement of profit and loss account.

2. New product: development expenditure appearing in the statement of financial position will
be valued at Rs 50,000. The expenditure prior to the date on which the product becomes
technically feasible is recognised in the statement of profit and loss account as an expense.

3. Training programme: no intangible asset will be recognised, because staff are not under the
control of Venus Ltd. and when staff leave the benefits of the training, whatever they may be,
also leave.

Topic 3: Measurement of Intangible Assets (Initial Recognition)

Question 14

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D Ltd. a leading publishing house, purchased copyright of a book from its author for
publishing the same. As per the terms of the contract, if D Ltd. chooses to make the payment
upfront then, copyright consideration of Rs 80,00,000 is to be paid (which is in line with
general practice in such arrangements). However, the contract also provided that, in case D
Ltd. chooses to pay the consideration after 2 years, then it will be required to pay Rs
1,00,00,000. At what value should the intangible asset be recognised as per Ind AS 38?

(RTP May ’22)

Answer 14

As per paragraph 32 of Ind AS 38, “If payment for an intangible asset is deferred beyond normal
credit terms, its cost is the cash price equivalent. The difference between this amount and the
total payments is recognized as interest expense over the period of credit unless it is capitalized
in accordance with Ind AS 23, Borrowing Costs.”

In the given case, if the payment for an intangible asset i.e. copyright is deferred beyond normal
credit terms, the cash price equivalent Rs 80,00,000 should be considered as its cost and the
intangible asset will be recorded initially at this value.

The difference of Rs 20,00,000 between cash price equivalent (i.e. Rs 80,00,000) and the total
payment (i.e. Rs 1,00,00,000) should be recognised as interest expense over the period of credit
(i.e. 2 years in this case), unless it is eligible for capitalisation in accordance with Ind AS 23,
Borrowing Costs.

Question 15

X Ltd. purchased a standardised finance software at a list price of Rs 30,00,000 and paid Rs
50,000 towards purchase tax which is non-refundable. In addition to this, the entity was
granted a trade discount of 5% on the initial list price. X Ltd. incurred cost of Rs 7,00,000
towards customisation of the software for its intended use. X Ltd. also purchased a 5-year

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maintenance contract with the vendor company of Rs 2,00,000. At what cost the intangible
asset will be recognised?

(Study material)

Answer 15

In accordance with Ind AS 38, the cost of a separately acquired intangible asset is its purchases
price and non-refundable purchase taxes, after deducting trade discounts and rebates and any
directly attributable cost of preparing the asset for its intended use.

Therefore, the initial cost of the asset should be:

Amount (Rs)

List price 30,00,000

Less: Trade discount (5%) (1,50,000)

28,50,000

Non-refundable purchase tax 50,000

Customisation cost 7,00,000

Total cost 36,00,000

The maintenance contract of Rs 2,00,000 is an expense and therefore should be taken as a

prepaid expense and charged to profit and loss over a period of 5 years.

Question 16

X Ltd. acquired Y Ltd. on 30th April, 20X1. The purchase consideration is Rs 50,00,000. The fair
value of the tangible assets is Rs 45,00,000. The company estimates the fair value of “in-

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process research projects” at Rs 10,00,000. No other Intangible asset is acquired by X Ltd. in
the transaction. Further, cost incurred by X Ltd. in relation to that research project is as
follows:

(a) Rs 5,00,000 – as research expenses

(b) Rs 2,00,000 – to establish technological feasibility

(c) Rs 7,00,000 – for further development cost after technological feasibility is established. At
what amount the intangible asset should be measured under Ind AS 38?

(Practice Question)

Answer 16

X Ltd. should initially recognise the acquired “in house research project’’ at its fair value i.e., Rs
10,00,000. Research cost of Rs 5,00,000 and cost of Rs 2,00,000 for establishing technical
feasibility should be charged to profit & loss. Costs incurred from the point of technological
feasibility/asset recognition criteria until the time when development costs are incurred are
capitalised. So the intangible asset should be recognised at Rs 17,00,000 (Rs 10,00,000 + Rs
7,00,000).

Question 17

X Ltd. acquired a patent right of manufacturing drug from Y Ltd. In exchange X Ltd. gives its
intellectual property right to Y Ltd. Current market value of the patent and intellectual
property rights are Rs 20,00,000 and Rs 18,00,000 respectively. At what value patent right
should be initially recognised in the books of X Ltd. in following two situations?

(a) X Ltd. did not pay any cash to Y Ltd.

(b) X Ltd. pays Rs 2,00,000 to Y Ltd.

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 (Practice Question)

Answer 17

If an entity is able to determine reliably the fair value of either the asset received or the asset
given up, then the fair value of the asset given up is used to measure cost unless the fair value
of the asset received is more clearly evident.

The transaction at the fair value of the asset received adjusted for any cash received or paid.
Therefore, in case (a) patent is measured at Rs 18,00,000, in case (b) it is measured at Rs
20,00,000 (18,00,000 + 2,00,000).

Question 18

ICAI Illustration

Venus India Private Ltd acquired a software for its internal use costing Rs 10,00,000. The
amount payable for the software was Rs 600,000 immediately and Rs 400,000 in one year
time. The other expenditure incurred were:-

Purchase tax : Rs 1,00,000

Entry Tax : 10% ( recoverable later from tax department) Legal fees: Rs 87,000

Consultancy fees for implementation : Rs 1,20,000 Cost of capital of the company is 10%.

Calculate the cost of the software on initial recognition using the principles of Ind AS 38
Intangible Assets.

(Study material)

Answer

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Particulars Amount in Rs

Cash paid 600,000

Deferred consideration (Rs 400,000/1.1) 3,63,636

Purchase Tax 1,00,000

Entry tax (not to be considered as it is a refundable tax) -

Legal fees 87,000

Consultancy fees for implementation 1,20,000

Total cost to be capitalised 12,70,636

Question 19

ICAI Illustration

Sun Ltd acquired a software from Earth Ltd. in exchange for a telecommunication license. The
telecommunication license is carried at Rs 5,00,000 in the books of Sun Ltd. The Software is
carried at Rs 10,000 in the books of the Earth Ltd which is not the fair value.

Advise journal entries in the following situations in the books of Sun Ltd and Earth

Ltd:

1) Fair value of software is Rs 5,20,000 and fair value of telecommunication license is Rs

5,00,000.

2) Fair Value of Software is not measurable. However similar Telecommunication license is

transacted by another company at Rs 4,90,000.

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3) Neither Fair Value of Software nor Telecommunication license could be reliably measured.

(Study material)

Answer

Rs in ‘000

Situation Sun Ltd. Earth Ltd.

1 Software Dr. 500 Telecommunication license Dr. 520

To Telecommunication license 500 To Software 10

To Profit on Exchange Nil To Profit on Exchange 510

2 Software Dr. 490 Telecommunication license Dr. 490

Loss on Exchange Dr. 10 To Software 10

To Telecommunication license 500 To Profit on Exchange 480

Note: The company may first recognise

Impairment loss and then reccord an entry.
The effect is the same as impairment loss will
also be charged to Income Statement.

3 Software Dr. 500 Telecommunication license Dr. 10

To Telecommunication license 500 To Software 10

Topic 4: Amortization and Useful Life Determination

[Link]
Question 20

An entity has an intangible asset in the form of a product protected by patented technology
which is expected to be a source of net cash inflows for at least 15 years. It has been
recognised in the books on initial date at Rs12,00,000. The entity has a commitment from a
third party to purchase that patent in five years for 60 per cent of the fair value of the patent
at the date it was acquired, and the entity intends to sell the patent in five years. Company is
amortising the asset in 15 years considering its residual value to be Zero. Annual amortization
charged to Profit and Loss is Rs80,000. State, whether the accounting treatment done by the
Company is in accordance with Ind AS 38? If not, then calculate the annual amortization of
the intangible asset and also the amount at which it will be reflected in the balance sheet.

(RTP Nov’22)

Answer 20

For determination of amortisation of the intangible asset, which has finite useful life, two
elements need to be determined: useful life and residual value.

Useful life is defined as:

i. the period over which an asset is expected to be available for use by an entity; or

ii. the number of production or similar units expected to be obtained from the asset by an
entity.

In the instant case, since the entity expects that the asset will be available for use by it for the
period of 5 years and thereafter it will be transferred, the useful life of the asset is 5 years.

For residual value, paragraphs 100-102 of Ind AS 38 states that the residual value of an
intangible asset with a finite useful life shall be assumed to be zero unless:

(a) there is a commitment by a third party to purchase the asset at the end of its useful life; or

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(b) there is an active market (as defined in Ind AS 113) for the asset and:

(i) residual value can be determined by reference to that market; and

(ii) it is probable that such a market will exist at the end of the asset’s useful life.

The depreciable amount of an asset with a finite useful life is determined after deducting its
residual value. A residual value other than zero implies that an entity expects to dispose of the
intangible asset before the end of its economic life.

An estimate of an asset’s residual value is based on the amount recoverable from disposal using
prices prevailing at the date of the estimate for the sale of a similar asset that has reached the
end of its useful life and has operated under conditions similar to those in which the asset will
be used.

On application of above paragraphs, the depreciable amount of the patent will be determined
after deducting the residual value, which is 60 % of its fair value at the date of its acquisition.
Accordingly, the patent will be amortised over its useful life of 5 years, with a residual value
equal to 60% of its fair value at the date of its acquisition. The patent will also be reviewed for
impairment in accordance with Ind AS 36. Therefore, the accounting policy of amortising the
asset over a period of 15 years considering its residual value of Zero is not in accordance with
Ind AS 38.

Computation of correct amount of residual value and annual amortization:

Rs

Cost of Intangible asset 12,00,000

Residual value (60% of Rs 12,00,000) 7,20,000

Depreciable value of intangible asset (12,00,000 – 7,20,000) 4,80,000

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Useful life 5 years

Annual amortisation ( ) Rs 96,000 p.a.

Question 21

Super Sounds Limited had the following transactions during the Financial Year 20 X1-20X2.

(i) On 1st April 20X1, Super Sounds Limited purchased the net assets of Music Limited for Rs
13,20,000. The fair value of Music Limited's identifiable net assets was Rs 10,00,000. Super
Sounds Limited is of the view that due to popularity of Music Limited's product, the life of
goodwill is 10 years.

(ii) On 4th May 20X1, Super Sounds Limited purchased a Franchisee to organize musical
shows from Armaan TV for Rs 80,00,000 and at an annual fee of 2% of musical shows
revenue. The Franchisee expires after 5 years. Musical shows revenue were Rs 10,00,000 for
financial year 20X1-20X2. The projected future revenues for financial year 20X2-20X3 is Rs
25,00,000 and Rs 30,00,000 p.a. for remaining 3 years thereafter.

(iii) On 4th July 20X1, Super Sounds Limited was granted a Copyright that had been applied
for by Music Limited. During financial year 20X1-20X2, Super Sound Limited incurred Rs
2,50,000 on legal cost to register the Patent and Rs 7,00,000 additional cost to successfully
prosecute a copyright infringement suit against a competitor.

The life of the Copyright is for 10 years.

Super Sound Limited follows an accounting policy to amortize all intangible on SLM (Straight
Line Method) basis or any appropriate basis over a maximum period permitted by relevant
Ind AS, taking a full year amortization in the year of acquisition.

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(i) You are required to prepare A Schedule showing the intangible section in Super Sound
Limited Balance Sheet as on 31st March 20X2, and

(ii) A Schedule showing the related expenses that would appear in the Statement of Profit
and Loss of Super Sound Limited for the year ended 20X1-20X2.

(MTP Sep’22, PYP Jan’21)

Answer 21

Super Sounds Limited Balance Sheet (Extract relating to intangible asset) as at 31st March
20X2

Note No. Rs

Assets

(1) Non- current asset

Intangible assets 1 69,45,000

Super Sounds Limited Statement of Profit and Loss (Extract) for the year ended 31st March
20X2

Note No. Rs

Revenue from Operations 10,00,000

Total Revenue

Expenses:

Amortization expenses 2 16,25,000

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Other expenses 3

Total Expenses 7,20,000

Notes to Accounts (Extract)

1. Intangible Assets

Gross Net
Block block

(Cost)

Opening Additions Closing Opening Additions Closing Opening Closing

balance Balance balance Balance Balance Balance

Rs Rs Rs Rs Rs Rs Rs Rs

1. Goodwill* - 3,20,000 3,20,000 - - - - 3,20,000

(W.N.1)

2. Franchise - 80,00,000 80,00,000 - 16,00,000 16,00,000 - 64,00,000

(W.N.2)

3. Copyright - 2,50,000 2,50,000 - 25,000 25,000 - 2,25,000

(W.N.3)

- 85,70,000 85,70,000 - 16,25,000 16,25,000 - 69,45,000

*As per Ind AS 36, irrespective of whether there is any indication of impairment, an entity shall
test goodwill acquired in a business combination for impairment annually. This implies that
goodwill is not amortised annually but is subject to annual impairment, if any.

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As per the information in the question, the limiting factor in the contract for the use is time i.e.,
5 years and not the fixed total amount of revenue to be generated. Therefore, an amortisation
method that is based on the revenue generated by an activity that includes the use of an
intangible asset is inappropriate and amortisation based on time can only be applied.

2. Amortization expenses

Franchise (W.N.2) 16,00,000

Copyright (W.N.3) 25,000 16,25,000

3. Other expenses

Legal cost on copyright 7,00,000

Fee for Franchise (10,00,000 x 2%) 20,000 7,20,000

Working Notes:

Rs

(1) Goodwill on acquisition of business

Cash paid for acquiring the business 13,20,000

Less: Fair value of net assets acquired (10,00,000)

Goodwill 3,20,000

(2) Franchise 80,00,000

Less: Amortisation (over 5 years) (16,00,000)

Balance to be shown in the balance sheet 64,00,000

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(3) Copyright 2,50,000

Less: Amortisation (over 10 years as per SLM) (25,000)

Balance to be shown in the balance sheet 2,25,000

Question 22

ICAI Illustration

Expenditure on a new production process in 20X1-20X2:

Rs

1st April to 31st December 2,700

1st January to 31st March 900

3,600

The production process met the intangible asset recognition criteria for development on 1st
January, 20X2. The amount estimated to be recoverable from the process is Rs 1,000.

Expenditure incurred for development of the process in FY 20X2-20X3 is Rs 6,000. Asset was
brought into use on 31st March, 20X3 and is expected to be useful for 6 years.

What is the carrying amount of the intangible asset at 31st March, 20X2 and 31st March,
20X3. Also determine the charge to profit or loss for 20X1-20X2?

At 31st March, 20X4, the amount estimated to be recoverable from the process is Rs 5,000.

What is the carrying amount of the intangible asset at 31st March, 20X4 and the charge to
profit or loss for 20X3-20X4 on account of impairment loss?

[Link]
 (Study material)

Answer

1) Expenditure to be transferred to profit or loss in 20X1-20X2

Rs

Total Expenditure 3,600

Less: Expenditure during development phase (900)

Expenditure to be transferred to profit or loss 2,700

2) Carrying amount of intangible asset on 31st March,20X2

Expenditure during Development Phase will be capitalised Rs 900

(Recoverable amount is higher being Rs 1,000, hence no impairment)

3) Carrying amount of intangible asset on 31st March, 20X3

Carrying amount of intangible asset on 31st March, 20X2 Rs 900

Add: Further expenditure during development phase 6,000

Total capital expenditure on development phase 6,900

4) Expenditure to be charged to profit or loss in 20X3-20X4

Opening balance of Intangible Asset 6,900

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Less: Amortisation for the year (6,900 / 6) (1,150)

Carrying amount of intangible asset 5,750

Less: Recoverable Amount (5,000)

Amount charged to profit or loss (Impairment Loss) 750

5) Carrying Amount of Intangible Asset on 31st March,20X4

Value of Intangible Asset will be recoverable amount i.e. Rs 5,000

Question 23

ICAI Illustration

X Limited engaged in the business of manufacturing fertilisers entered into a technical

collaboration agreement with a foreign company Y Limited. As a result, Y Limited would
provide the technical know-how enabling X Limited to manufacture fertiliser in a more
efficient way. X Limited paid Rs 10,00,00,000 for the use of know-how for a period of 5 years.
X Limited estimates the production of fertiliser as follows:

Year (In metric tons)

1 50,000

2 70,000

3 1,00,000

4 1,20,000

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 5 1,10,000

At the end of the 1st year, it achieved its targeted production. At the end of 2nd year, 65,000
metric tons of fertiliser was being manufactured, and X Limited considered to revise the
estimates for the next 3 years. The revised figures are 85,000, 1,05,000 and 1,15,000 metric
tons for year 3, 4 & 5 respectively. How will X Limited amortise the technical know-how fees
as per Ind AS 38?

(Study material)

Answer

Based on the above data, it may be suitable for X Ltd. to use unit of production method for
amortisation of technical know-how.

The total estimated unit to be produced 4,50,00 MT. The technical know-how will be

amortised on the basis of the ratio of yearly production to total production.

The first year charge should be a proportion of 50,000/4,50,000 on Rs 10,00,00,000 = Rs

1,11,11,111.

At the end of 2nd year, as per revised estimate the total number of units to be produced in
future are 3,70,000 MT (ie 65,000 + 85,000 + 1,05,000 + 1,15,000).

The amortisation for second year will be 65,000 / 3,70,000 on (10,00,00,000 – 1,11,11,111) ie
1,56,15,615.

Amortisation for remaining years (unless the estimates are again revised) : Year 3 = 85,000 /
3,70,000 on (10,00,00,000 – 1,11,11,111) ie. Rs 2,04,20,420

Year 4 = 1,05,000 / 3,70,000 on (10,00,00,000 – 1,11,11,111) ie. Rs 2,52,25,225

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Year 5 = 1,15,000 / 3,70,000 on (10,00,00,000 – 1,11,11,111) ie. Rs 2,76,27,629

Question 24

ICAI Illustration

X Ltd. purchased a patent right on 1st April, 20X1, for Rs 3,00,000; which has a legal life of 15
years. However, due to the competitive nature of the product, the management estimates a
useful life of only 5 years. Straight-line amortisation is determined by the management to be
the best method. As at 1st April, 20X2, management is uncertain that the process can actually
be made economically feasible, and decides to write down the patent to an estimated market
value of Rs 1,50,000 and decides to amortise over 2 years. As at 1st April, 20X3, having
perfected the related production process, the asset is now appraised at a value of Rs
3,00,000. Furthermore, the estimated useful life is now believed to be 4 more years.
Determine the value of intangible asset at the end of each financial year?

(Study material)

Answer

Value as on 31st March, 20X2

Original cost Rs 3,00,000

Less: amortisation (Rs 60,000)

Net Value Rs 2,40,000

Value as on 31st March, 20X3

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On 1st April, 20X2, the impairment is recorded by writing down the asset to the estimated value
of Rs 1,50,000, which necessitates a Rs 90,000 charge to profit & loss (carrying value, Rs
2,40,000 less fair value Rs 1,50,000).

Amortisation provided for the financial year 20X2-20X3 is Rs 75,000 (Rs 1,50,000/2) Net value is
= Rs 1,50,000 – Rs 75,000 = Rs 75,000.

Value as on 31st March, 20X4

As of 1st April, 20X3, the carrying value of the patent is Rs 75,000.

Revalued amount of patent is Rs 3,00,000.

Out of total revaluation gain of Rs 2,25,000, Rs 90,000 will be charged to profit & loss and
balance amount of Rs 1,35,000 (Rs 2,25,000 – Rs 90,000) will be credited to revaluation reserve.

Amortization provided for the financial year 20X3-20X4 is Rs 75,000 (Rs 3,00,000 / 4) Net value
is = Rs 3,00,000 – Rs 75,000 = Rs 2,25,000.

Similarly, Value as on March 31, 20X5 = Rs 2,25,000 – Rs 75,000 = Rs 1,50,000

Value as on March 31, 20X6 = Rs1,50,000 – Rs 75,000 = Rs 75,000 Value as on March 31, 20X7 =
Rs 75,000 – Rs 75,000 = Nil

Topic 5: Impairment of Intangible Assets

Question 25

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An entity is developing a new production process. During 20X1-20X2, expenditure incurred
was Rs 1,000, of which Rs 900 was incurred before 1st March, 20X2 and Rs 100 was incurred
between 1st March, 20X2 and 31st March, 20X2. The entity is able to demonstrate that at 1st
March, 20X2, the production process met the criteria for recognition as an intangible asset.
The recoverable amount of the know-how embodied in the process (including future cash
outflows to complete the process before it is available for use) is estimated to be Rs 500.

Explain the accounting treatment of expenditure incurred in 20X1-20X2 and 20X2-20X3 as per
relevant Ind AS. During 20X2-20X3, expenditure incurred is Rs 2,000. At the end of 20X3, the
recoverable amount of the know-how embodied in the process (including future cash
outflows to complete the process before it is available for use) is estimated to be Rs 1,900.

(Practice Question)

Answer 25

At the end of the financial year 20X2, the production process is recognised as an intangible
asset at a cost of Rs 100 (expenditure incurred since the date when the recognition criteria
were met, i.e., 1st March, 20X2). Rs 900 expenditure incurred before 1st March, 20X2 is
recognised as an expense because the recognition criteria were not met until 1st March, 20X2.
This expenditure does not form part of the cost of the production process recognised in the
balance sheet. At the end of 20X3, the cost of the production process is Rs 2,100 (Rs 100
expenditure recognised at the end of 20X2 plus Rs 2,000 expenditure recognised in 20X3). The
entity recognises an impairment loss of Rs 200 to adjust the carrying amount of the process
before impairment loss (Rs 2,100) to its recoverable amount (Rs 1,900). This impairment loss
will be reversed in a subsequent period if the requirements for the reversal of an impairment
loss in Ind AS 36 are met.

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Topic 6: Revaluation Model for Intangible Assets

Question 26

X Ltd. decides to revalue its intangible assets on 1st April, 20X1. On the date of revaluation,
the intangible assets stand at a cost of Rs 1,00,00,000 and accumulated amortisation is Rs
40,00,000. The intangible assets are revalued at Rs 1,50,00,000. How should X Ltd. account for
the revalued intangible assets in its books of account?

(Practice Question)

Answer 26

The intangible assets are revalued to Rs 1,50,00,000 on an amortised replacement cost basis,
which is a 150% increase from its original cost. Thereby applying the existing ratio of
accumulated depreciation to the cost the revalued gross amount would be Rs 2,50,00,000
gross and Rs 1,00,00,000 on amortisation.

Question 27

ICAI Illustration

1. Saturn Ltd. acquired an intangible asset on 31st March, 20X1 for Rs 1,00,000. The asset was
revalued at Rs 1,20,000 on 31st March, 20X2 and Rs 85,000 on 31st March, 20X3.

2. Jupiter Ltd. acquired an intangible asset on 31st March, 20X1 for Rs 1,00,000. The asset was
revalued at Rs 85,000 on 31st March, 20X2 and at Rs 1,05,000 on 31st March, 20X3.

Assuming that the year-end for both companies is 31st March, and that they both use the
revaluation model, show how each of these transactions should be dealt] with in the financial

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statements. Explain the treatment for revaluation of intangible asset. Ignore computation of
amortization on them for ease of understanding.

(Study material)

Answer

Saturn Ltd.

Rs 20,000 revaluation increase on 31st March, 20X2 should be credited to the revaluation
reserve and recognised in other comprehensive income. Rs 20,000 of the revaluation decrease
on 31st March, 20X3 should be debited to revaluation reserve and remaining Rs 15,000 should
be recognised as an expense.

Jupiter Ltd.

Rs 15,000 revaluation decrease on 31st March, 20X2 should be recognised as an expense in the
Statement of Profit and loss. Rs 15,000 out of the Rs 20,000 increase on 31st March, 20X3
should be recognised as income. The remaining Rs 5,000 should be credited to revaluation
reserve and recognised in other comprehensive income.

Note: The above amount will be different if amortization of intangible asset is taken into
consideration.

Topic 7: Business Combinations and Goodwill

Question 28

An entity acquired two trade secrets (secret recipes) in a business combination. Recipe A is
patented. Recipe B is not legally protected. How the acquisition of Recipe A and Recipe B
would be accounted for by the entity as per relevant Ind AS.

[Link]
 (RTP May ’23)

Answer 28

Para 11 and 12 of Ind AS 38 states that the definition of an intangible asset requires an
intangible asset to be identifiable to distinguish it from goodwill. Goodwill recognized in a
business combination is an asset representing the future economic benefits arising from other
assets acquired in a business combination that are not individually identified and separately
recognized. The future economic benefits may result from synergy between the identifiable
assets acquired or from assets that, individually, do not qualify for recognition in the financial
statements.

Further, an asset is identifiable if it either:

(a) is separable, i.e. is capable of being separated or divided from the entity and sold,
transferred, licensed, rented or exchanged, either individually or together with a related
contract, identifiable asset or liability, regardless of whether the entity intends to do so; or

(b) arises from contractual or other legal rights, regardless of whether those rights are
transferable or separable from the entity or from other rights and obligations. In the given case,
Recipe A meets the contractual-legal criterion for identification as an intangible asset because it
is protected by a patent. This recipe is identified an recognized separately from goodwill while
accounting the business combination.

Since Recipe B is not protected by a patent, it does not meet the contractual-legal criterion for
identification as an intangible asset. However, Recipe B is identified as a separate intangible
asset because it meets the separability criterion. Such recipes can be, and often are, exchanged,
licensed or leased to others. Therefore, the unpatented Recipe B should be accounted for as a
separate intangible asset acquired in the business combination.

Question 29

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X Ltd. is engaged in the business of publishing Journals. They acquired 100% stake in Y Ltd., a
company in the same industry. X Ltd. paid purchase consideration of Rs 10,00,00,000 and fair
value of net assets acquired is Rs 8,50,00,000. The purchase consideration includes payment
for the following as well:

(a) Rs 30,00,000 for obtaining the skilled staff of Y Ltd.

(b) Rs 50,00,000 by way of payment towards ‘Non-compete Fee’ so as to restrict Y Ltd. to

compete in the same line of business for next 5 years.

However, the above items (a) and (b) are not forming part of the net assets acquired of Rs
8,50,00,000. How should the above transactions be accounted for by X Ltd?

(Study material)

Answer 29

X Ltd. should recognise an intangible asset in respect of the consideration paid towards ‘Non-
Compete Fee’. However, amount paid for obtaining skilled staff amounting to Rs 30,00,000
does not meet the definition of intangible asset since X Ltd. has not established any right over
the resource and the same should be expensed. The entity has insufficient control over the
expected future economic benefits arising from the team of skilled staff.

Therefore, Rs 50,00,000 will be separately recognised as an intangible asset, whereas amount

paid for obtaining skilled staff does not meet the recognition criteria for being identified as a
separate intangible asset. However, since it is acquired as part of a business combination, it
forms part of the goodwill recognised at the acquisition date. The value of goodwill would be Rs
1,00,00,000 (Rs 1,50,00,000 – Rs 50,00,000).

Question 30

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X Limited in a business combination, purchased the net assets of Y Limited for Rs 4,00,000 on
31st March, 20X1. The assets and liabilities position of Y Limited just before the acquisition is
as follows:

Assets Cost (in Rs)

Property, Plant & Equipment 1,00,000

Intangible asset 1 20,000

Intangible asset 2 50,000

Cash & Bank 1,30,000

Liabilities

Trade payable 50,000

The fair market value of the PPE, intangible asset 1 and intangible asset 2 is available and
they are Rs 1,50,000, Rs 30,000 and Rs 70,000 respectively. How would X Limited account for
the net assets acquired from Y Limited?

(Study material)

Answer 30

X Limited will account for the assets acquired from Y Limited in following manner:

Assets Amount (Rs)

Property, plant and equipment 1,50,000

Goodwill 70,000

Intangible asset 1 30,000

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Intangible asset 2 70,000

Cash & Bank 1,30,000

Liabilities

Trade payable 50,000

Note 1- Goodwill is the difference between fair value of net assets acquired and purchase
consideration paid when is calculated as follow:

Goodwill = Rs 4,00,000 – Rs (1,50,000 + 70,000 + 30,000 + 1,30,000 – 50,000) = Rs70,000

Question 31

ICAI Illustration

On 31st March, 20X1, Earth India Ltd. paid Rs 50,00,000 for a 100% interest in Sun India Ltd.
At that date Sun Ltd.’s net assets had a fair value of Rs 30,00,000.

In addition, Sun Ltd. also held the following rights:

• Trade Mark named “GRAND” – valued at Rs 180,000 using a discounted cash flow
technique.

• Sole distribution rights to an electronic product; future cash flows from which are estimated
to be Rs 150,000 per annum for the next 6 years. 10% is considered an appropriate discount
rate. The 6 year, 10% annuity factor is 4.36.

Calculate goodwill and other Intangible assets arising on acquisition.

(Study material)

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Answer

Particulars Amount Amount

Purchase Consideration (A) 50,00,000

Net Asset acquired 30,00,000

Trade Mark 1,80,000

Distribution Rights (1,50,000 4.36) 6,54,000

Total (B) (38,34,000)

Goodwill on Acquisition 11,66,000

Topic 8: Advertising, Training, and Other Costs Not Recognized as Intangible

Assets

Question 32

A Ltd. intends to open a new retail store in a new location in the next few weeks. It has spent
a substantial sum on a series of television advertisements to promote this new store. It has
paid for advertisements costing Rs. 8,00,000 before 31st March, 20X2. Rs. 7,00,000 of this
sum relates to advertisements shown before 31st March, 20X2 and Rs. 1,00,000 to
advertisements shown in April, 20X2. Since 31st March, 20X2, A Ltd. has paid for further
advertisements costing Rs. 4,00,000. The accountant charged all these costs as expenses in
the year to 31 March 20X2. However, CFO of A Ltd. does not want to charge Rs.12,00,000
against my 20X1-20X2 profits. He believes that these costs can be carried forward as

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intangible assets because the company’s market research indicates that this new store is
likely to be highly successful.

(MTP Oct ’19, RTP Nov’18)

Answer 32

Ind AS 38 specifically prohibits recognising advertising expenditure as an intangible asset.

Irrespective of success probability in future, such expenses have to be recognized in profit or
loss. Therefore, the treatment given by the accountant is correct since such costs should be
recognised as expenses. However, the costs should be recognised on an accruals basis.
Therefore, of the advertisements paid for before 31st March, 20X2, Rs. 7,00,000 would be
recognized as an expense and Rs. 1,00,000 as a pre-payment in the year ended 31st March
20X2. Rs. 4,00,000 cost of advertisements paid for since 31st March, 20X2 would be charged as
expenses in the year ended 31st March, 20X3.

Question 33

X Garments Ltd. spent Rs 1,00,00,000 towards promotions for a fashion show by way of
various on-road shows, contests etc. After that event, it realised that the brand name of the
entity got popular and resultantly, subsequent sales have shown a significant improvement.
It is further expected that this hike will have an effect over the next 2-3 years. How the entity
should account for the above cost incurred on promoting such show?

(Practice Question)

Answer 33

Expenditure of Rs 1,00,00,000 though increased future economic benefits, but it does not result
in creation of an intangible asset. Such promotional cost should be expensed off.

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Question 34

ICAI Illustration

Pluto Ltd. intends to open a new retail store in a new location in the next few weeks. Pluto
Ltd has spent a substantial sum on a series of television advertisements to promote this new
store. The Company has paid an amount of Rs 800,000 for advertisements before 31st March,
20X1. Rs 700,000 of this sum relates to advertisements shown before 31st March, 20X1 and
Rs 100,000 to advertisements shown in April, 20X1. Since 31st March, 20X1, the Company has

paid for further advertisements costing Rs 400,000. Pluto Ltd is of view that such costs can be
carried forward as intangible assets. Since market research indicates that this new store is
likely to be highly successful. Please explain and justify the treatment of the above costs in
the financial statements for the year ended 31st March, 20X1.

(Study material)

Answer

Under Ind AS 38 – Intangible Assets – intangible assets can only be recognized if they are
identifiable and have a cost which can be reliably measured. These criteria are very difficult to
satisfy for internally developed intangibles. For these reasons, Ind AS 38 specifically prohibits
recognising advertising expenditure as an intangible asset. The issue of how successful the store
is likely to be does not affect this prohibition. Therefore, such costs should be recognised as
expenses.

However, the costs would be recognised on accrual basis. Therefore, of the advertisements
paid for before 31st March, 20X1, Rs 7,00,000 would be recognised as an expense and Rs
1,00,000 as a pre-payment in the year ended 31st March, 20X1. The Rs 4,00,000 cost of
advertisements paid for since 31st March, 20X1 would be charged as expenses in the year
ended 31st March, 20X2.

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Topic 9: Leases vs. Intangible Assets

Question 35

The Company has taken a particular application software of a supplier namely, Crystal
Systems Limited, which is available on a cloud infrastructure managed and controlled by the
Crystal Systems Limited. The Company contracts to pay a fee of Rs 5,00,000 per month in
exchange for a right to receive access to the Crystal Systems Limited's application software
for 2 years. The Company accesses the software on need basis over the internet. The contract
does not convey any rights to New Age Technology Limited over the tangible assets of the
Crystal Systems Limited.

The Chief Accountant of New Age Technology Limited has sought your advice, whether the IT
should account for this transaction for use of software with Crystal Systems Limited in terms
of Ind AS 116 leases or an intangible asset in terms of Ind AS 38 ‘Intangible Assets’. Help him
to understand your assessment.

(MTP March ‘22)

Answer 35

Assessment of applicability of Ind AS 38 in the given scenario

As per Ind AS 38, to be an intangible asset the asset should meet following criteria:

• Identifiability;

• Control over a Resource (Asset); and

• Existence of Future Economic Benefits.

Crystal Systems Limited manages and controls the application software available on a cloud
infrastructure and New Age Technology Limited has limited rights to use the same. Merely right

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to access the application of Crystal Systems Limited, does not give New Age Technology Limited
power to obtain future economic benefits flowing from the software itself. Hence, the
application software should not be recognised as an asset under Ind AS 38.

Assessment of applicability of Ind AS 116 in the given scenario

At the inception of a contract, an entity shall assess whether the contract is or contains a lease.
For the purpose, a lease is defined as a contract, or part of a contract that conveys the right to
control the use of an identified asset for a period of time in exchange for consideration. This
right to control the asset throughout the period of use is emphasized ONLY if the customer has
both (i) right to obtain substantially all the economic benefits from the use of the identified
asset, and (ii) the right to direct the use of the identified asset.

In the given case, the contract gives the New Age Technology Limited only the right to access
the Crystal Systems Limited’s application software over the contract term, and hence the
contract is not a lease contract within the meaning of Ind AS 116.

Conclusion

The right to access the Crystal Systems Limited’s application software for a price over a
specified period is a service contract. If the Crystal Systems Limited pays amounts for which the
services are yet to be received, then the advance payment is a prepayment and an asset for the
Crystal Systems Limited.

Topic 10: Specific Types of Intangible Assets

Question 36

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X Ltd. purchased a franchise from a restaurant chain at a cost of Rs 1,00,00,000 under a
contract for a period of 10 years. Can the franchise right be recognised as an intangible asset
in the books of X Ltd. under Ind AS 38?

(MTP Oct’22) (RTP Nov 21)

Answer 36

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

considering an asset as an intangible asset, an entity must be able to demonstrate that the item
satisfies the criteria of identifiability, control over a resource and existence of future economic
benefits.

In the given case, the franchise right meets the identifiability criterion as it is arising from
contract to purchase the franchise right for 10 years. In addition, X Ltd. will have future
economic benefits and control over them from the franchise right. Accordingly, the franchise
right meets the definition of intangible asset. The same can be recognised if the following
recognition criteria laid down in para 21 of Ind AS 38 is met:

An intangible asset shall be recognised if, and only if:

(a) it is probable that the expected future economic benefits that are attributable to the asset
will flow to the entity; and

(b) the cost of the asset can be measured reliably.

In the instant case, identifiability criterion is fulfilled, future economic benefits from franchise
right are expected to flow to the entity and cost can also be measured reliably. Therefore, X Ltd.
should recognise the franchise right as an intangible asset.

Question 37

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X Ltd. purchased a franchise from a restaurant chain at a cost of Rs 1,00,00,000 and the
franchise has 10 years life. In addition, the franchise agreement mentions that the franchisee
would also pay the franchisor royalty as a percentage of sales made. Can the franchise rights
be treated as an intangible asset under Ind AS 38?

(Study material)

Answer 37

The franchise rights meets the identification criterion of an intangible asset since it arises from
the contractual rights. It is acquired separately and it’s cost can be measured reliably. In
addition, X Ltd. will have future economic benefits and control over them from the franchise
rights. X Ltd. should recognise the franchise right as intangible asset and amortise it over 10
years. Royalty as a percentage of sales paid to the franchisor would be a charge to the profit
and loss in the books of the X Ltd.

Question 38

X Ltd. has acquired a telecom license from Government to operate mobile telephony in two
states of India. Can the cost of acquisition be capitalised as an intangible asset under Ind AS
38?

(Study material)

Answer 38

Cost of acquisition of the telecom license can be capitalised as an intangible asset under the
head Licenses, as it will lead to future economic benefits for X Ltd.

Question 39

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X Ltd. acquired a patent right of manufacturing drug from Y Ltd. In exchange X Ltd. gives its
intellectual property right to Y Ltd. Current market value of the patent and intellectual
property rights are Rs 20,00,000 and Rs 18,00,000 respectively. At what value patent right
should be initially recognised in the books of X Ltd. in following two situations?

(a) X Ltd. did not pay any cash to Y Ltd.

(b) X Ltd. pays Rs 2,00,000 to Y Ltd.

(Practice Question)

Answer 39

If an entity is able to determine reliably the fair value of either the asset received or the asset
given up, then the fair value of the asset given up is used to measure cost unless the fair value
of the asset received is more clearly evident.

The transaction at the fair value of the asset received adjusted for any cash received or paid.
Therefore, in case (a) patent is measured at Rs 18,00,000, in case (b) it is measured at Rs
20,00,000 (18,00,000 + 2,00,000).

Question 40

ICAI Illustration

X Pharmaceutical Ltd. seeks your opinion in respect of following accounting transactions:

1. Acquired a 4 year license to manufacture a specialised drug at a cost of Rs 1,00,00,000 at

the start of the year. Production commenced immediately.

2. Also purchased another company at the start of year. As part of that acquisition, X
Pharmacy Ltd. acquired a brand with a fair value of Rs 3,00,00,000 based on sales revenue.
The life of the brand is estimated at 15 years.

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3. Spent Rs 1,00,00,000 on an advertising campaign during the first six months. Subsequent
sales have shown a significant improvement and it is expected this will continue for 3 years.

4. It has commenced developing a new drug ‘Drug-A’. The project cost would be Rs
10,00,00,000. Clinical trial proved successful and such drug is expected to generate revenue
over the next 5 years. Cost incurred (accumulated) till 31st March, 20X1 is Rs 5,00,00,000.
Balance cost incurred during the financial year 20X1-20X2 is Rs 5,00,00,000.

5. It has also commenced developing another drug ‘Drug B’. It has incurred Rs 50,00,000
towards research expenses till 31st March, 20X2. The technological feasibility has not yet
been established.

(Study material)

Answer

X Pharmaceutical Ltd. is advised as under:

1. It the drug license as an intangible asset, because it is a separate external purchase,

separately identifiable asset and considered successful in respect of feasibility and probable
future cash inflows. The drug license should be recorded at Rs 1,00,00,000.

2. It should recognise the brand as an intangible asset because it is purchased as part of

acquisition and it is separately identifiable. The brand should be amortised over a period of 15
years. The brand will be recorded at Rs 3,00,00,000.

3. The advertisement expenses of Rs 1,00,00,000 should be expensed off.

4. The development cost incurred during the financial year 20X1-20X2 should be capitalised.
Cost of intangible asset (Drug A) as on 31st March, 20X2

Opening cost Rs 5,00,00,000

Development cost Rs 5,00,00,000

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Total cost Rs 10,00,00,000

Research expenses of Rs 50,00,000 incurred for developing ‘Drug B’ should be expensed off
since technological feasibility has not yet established.

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 Chapter 5 Unit-6

Ind AS 40: “Investment Property”

Topic 1: Definition and Scope of Investment Property (Ind AS 40)

Question 1

An entity owns a two-storey building. Floor 1 is rented out to independent third parties under
operating leases. Floor 2 is occupied by the entity’s administration and maintenance staff.
The entity can measure reliably the fair value of each floor of the building without undue cost
or effort. How the same will be classified / presented in the balance sheet as per relevant Ind
AS. What will be the accounting treatment as per relevant Ind AS on initial and subsequent
date?

(RTP Nov’22)

Answer 1

Investment property is property (land or a building—or part of a building—or both) held (by the
owner or by the lessee as a right-of-use asset) to earn rentals or for capital appreciation or
both, rather than for:

a) use in the production or supply of goods or services or for administrative purposes; or

b) sale in the ordinary course of business

Property mentioned in (a) above would be covered under Ind AS 16 ‘Property, Plant and
Equipment’.

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On applying the above provisions, Floor 1 of the building is classified as an item of investment
property by the entity (lessor) because it is held to earn rentals. Ind AS 40 is applicable in this
case. An investment property should be measured initially at its cost. After initial recognition,
an entity shall measure all of its investment properties in accordance with Ind AS 16’s
requirements for cost model. However, entities are required to measure the fair value of
investment property, for the purpose of disclosure even though they are required to follow the
cost model.

Floor 2 of the building will be classified as property, plant and equipment because it is held by
administrative staff i.e. it is held for use for administrative purposes. Ind AS 16 is applicable in
this case. An item of property, plant and equipment that qualifies for recognition as an asset
should be initially measured at its cost. After recognition, an entity shall choose either the cost
model or the revaluation model as its accounting policy and shall apply that policy to an entire
class of property, plant and equipment.

Question 2

X Ltd owned a land property whose future use was not determined as at 31 March 20X1. How
should the property be classified in the books of X Ltd as at 31 March 20X1?

During June 20X1, X Ltd commenced construction of office building on it for own use.
Presuming that the construction of the office building will still be in progress as at 31 March
20X2

(a) How should the land property be classified by X Ltd in its financial statements as at 31
March 20X2?

(b) Will there be a change in the carrying amount of the property resulting from any change in
use of the investment property?

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(c) Whether the change in classification to, or from, investment properties is a change in
accounting policy to be accounted for in accordance with Ind AS 8, Accounting Policies,
Changes in Accounting Estimates and Errors?

(d) Would your answer to (a) above be different if there were to be a management intention
to commence construction of an office building for own use; however, no construction
activity was planned by 31 March 20X2?

(MTP March ’23, PYP May’22, RTP May’21)

Answer 2

As per paragraph 8(b) of Ind AS 40, any land held for currently undetermined future use, should
be classified as an investment property. Hence, in this case, the land would be regarded as held
for capital appreciation. Hence the land property should be classified by X Ltd as investment
property in the financial statements as at 31 March 20X1.

As per Para 57 of the Standard, an entity can change the classification of any property to, and
from, an investment property when and only when evidenced by a change in use. A change
occurs when the property meets or ceases to meet the definition of investment property and
there is evidence of the change in use. Mere management’s intention for use of the property
does not provide evidence of a change in use.

Accordingly, the property in different cases would be classified as under:

(a) Since X Ltd has commenced construction of office building on it for own use, the property
should be reclassified from investment property to owner occupied as at 31 March 20X2.

(b) As per Para 59, transfers between investment property, owner occupied and inventories do
not change the carrying amount of the property transferred and they do not change the cost of
the property for measurement or disclosure purposes.

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(c) No. The change in classification to, or from, investment properties is due to change in use of
the property. No retrospective application is required and prior period’s financial statements
need not be re-stated.

(d) Mere management intentions for use of the property do not evidence change in use. Since X
Ltd has no plans to commence construction of the office building during 20X1-20X2, the
property should continue to be classified as an investment property by X Ltd. in its financial
statements as at 31 March 20X2.

Question 3

On 1st April 2019, an entity purchased an office block (building) for Rs 50,00,000 and paid a
non-refundable property transfer tax and direct legal cost of Rs 2,50,000 and Rs 50,000
respectively while acquiring the building.

During 2019, the entity redeveloped the building into two-story building.

Expenditures on re-development were:

• Rs 1,00,000 Building plan approval;

• Rs 10,00,000 construction costs (including Rs 60,000 refundable purchase taxes); and

• Rs 40,000 due to abnormal wastage of material and labour.

When the re-development of the building was completed on 1st October 2019, the entity
rents out Ground Floor of the building to its subsidiary under an operating lease in return for
rental payment. The subsidiary uses the building as a retail outlet for its products. The entity
kept first floor for its own administration and maintenance staff usage. Equal value can be
attributed to each floor. How will the entity account for all the above mentioned expenses in

the books of account?

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Also, discuss how the above building will be shown in Consolidated financial statement of the
entity as a group and in its separate financial statements as per relevant Ind AS

(PYP Jan'21)

Answer 3

In accordance with Ind AS 16, all costs required to bring an asset to its present location and
condition for its intended use should be capitalized. Therefore, the initial purchase price of the
building would be:

Particulars Amount (Rs)

Purchase amount 50,00,000

Non-refundable property tax 2,50,000

Direct legal cost 50,000

53,00,000

Expenditures on redevelopment:

Building plan approval 1,00,000

Construction costs (10,00,000 – 60,000) 9,40,000

Total amount to be capitalised at 1st October 2019 63,40,000

Treatment of abnormal wastage of material and labour:

As per Ind AS 16, the cost of abnormal amounts of wasted material, labour, or other resources
incurred in self-constructing an asset is not included in the cost of the asset. It will be charged
to Profit and Loss in the year it is incurred. Hence, abnormal wastage of Rs 40,000 will be
expensed off in Profit & Loss in the financial year 2019 -2020.

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Accounting of property- Building

When the property is used as an administrative centre, it is not an investment property, rather
it is an ‘owner occupied property’. Hence, Ind AS 16 will be applicable. When the property (land
and/or buildings) is held to earn rentals or for capital appreciation (or both), it is an Investment
property. Ind AS 40 prescribes the cost model for accounting of such investment property.

Since equal value can be attributed to each floor, Ground Floor of the building will be
considered as Investment Property and accounted as per Ind AS 40 and First Floor would be
considered as Property, Plant and Equipment and accounted as per Ind AS 16.

Cost of each floor = Rs 63,40,000 / 2 = Rs 31,70,000

As on 1st October 2019, the carrying value of building vis-à-vis its classification would be as
follows:

(i) In Separate Financial Statements: The Ground Floor of the building will be classified as
investment property for Rs 31,70,000, as it is property held to earn rentals. While First Floor of
the building will be classified as item of property, plant and equipment for Rs 31,70,000.

(ii) In Consolidated Financial Statements: The consolidated financial statements present the
parent and its subsidiary as a single entity. The consolidated entity uses the building for the
supply of goods. Therefore, the leased-out property to a subsidiary does not qualify as
investment property in the consolidated financial statements. Hence, the whole building will be
classified as an item of Property, Plant and Equipment for Rs 63,40,000.

Question 4

X Limited has an investment property (building) which is carried in Balance Sheet on 31st
March, 20X1 at Rs 15,00,000. During the year X Limited has stopped letting out the building
and used it as its office premise. On 31st March, 20X1, management estimates the

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recoverable amount of the building as Rs 10,00,000 and its remaining useful life as 20 years
and residual value is nil. How should X Limited account for the above investment property as
on 31st March, 20X1?

(Study material)

Answer 4

At 31st March, 20X1, X Limited must transfer the property from investment property to
property, plant and equipment since there is a change in use of the said building. The transfer
should be made at its carrying amount i.e., Rs 15,00,000. Since recoverable amount of the
property as on 31st March, 20X1 is Rs 10,00,000, impairment loss Rs 5,00,000 should be
recognised in the Statement of Profit and Loss. So, the carrying amount of Investment property
at 31st March,20X1 would be Rs 10,00,000. The entity must disclose the reclassification. From
April, 20X1, X Limited will depreciate the building over its remaining useful life of 20 years.

Topic 2: Classification and Measurement of Investment Property (Cost Model

vs Fair Value Model)

Question 5

Special Limited is a multinational entity that owns 3 properties. All 3 properties were
purchased on 1st April, 2020. The following details were furnished:

Particulars Property 1 Property 2 Property 3

Purchase Price Rs 7,50,000 Rs 10,50,000 Rs 12,00,000

Estimated life 10 years 15 years 15 years

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Fair value as on 31st March, 2021 Rs 8,00,000 Rs 9,50,000 Rs 13,00,000

The Company uses Property 1 and Property 2 for its business purposes. The Company is
exploring the opportunity to sell Property 3 if it gets reasonable consideration. Till the time it
is not sold, the Company has rented the property. It has adopted revaluation model for
subsequent measurement of these properties. The depreciation is charged on straight line
method. However, the Company has not charged any depreciation on Property 1 and
Property 3 tor the current year since the fair value of properties exceeds their carrying
amount. The difference between their fair value and carrying amount has been recognized

in the statement of profit and loss. The properties are shown under the head property, plant
and equipment in the Balance Sheet. Analyze whether the accounting policies adopted by the
Company in relation to the given properties are in accordance with Ind AS. If not, advise the
correct treatment and present an extract of the Balance Sheet for the year ended 31st March
2021.

(PYP July 21)

Answer 5

(a) Preamble:

The given issue needs to be examined in the umbrella of the provisions given in Ind AS 1
‘Presentation of Financial Statements’, Ind AS 16 ‘Property, Plant and Equipment’ in relation to
property ‘1’ and ‘2’ and Ind AS 40 ‘Investment Property’ in relation to property ‘3’.

Guidance given in relevant Ind AS:

1. Property ‘1’ and ‘2’

Definition and applicability:

As per Ind AS 16, Property plant and equipment are tangible items that:

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(a) are held for use in the production or supply of goods or services or for administrative
purposes; and

(b) are expected to be used during more than one period.

Hence, property 1 and 2 are held for use in the business, therefore Ind AS 16 shall apply in
respect of these two properties.

Accounting Principles:

- If an asset’s carrying amount is increased as a result of a revaluation, the increase shall be

recognised in other comprehensive income and accumulated in equity under the heading of
revaluation surplus. However, the increase shall be recognised in profit or loss to the extent
that it reverses a revaluation decrease of the same asset previously recognised in profit or loss.

If an asset’s carrying amount is decreased as a result of revaluation, the decrease shall be

recognised in profit and loss statement.

2. Property ‘3’

Definition and applicability:

As per Ind AS 40, Investment property is property held to earn rentals or for capital
appreciation or both, rather than for:

- Use in the production of goods or services or for administrative purposes; or

- Sale in the ordinary course of business.

Therefore, property 3 is an investment property and company shall follow cost model for its
subsequent measurement.

Accounting Principles:

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- An entity shall adopt as its accounting policy the cost model to all of its investment property;
and (Refer paragraph 30 of Ind AS 40)

- requires that an entity shall disclose the fair value of investment property. ( Refer paragraph
79 (e) of Ind AS 40

Further, paragraph 54 (2) of Ind AS 1 ‘Presentation of Financial Statements’ requires that as a

minimum, the balance sheet shall include line items that present the following amounts:

a. Property, Plant and Equipment

b. Investment Property.

Analysis:

As per the facts given in the question, Special Ltd. has

a. Presented all three properties in balance sheet as ‘property, plant and equipment’;

b. Not charged depreciation to Property ‘1’ and ‘3’;

c. Upward revaluation is recognised in the statement of profit and loss as profit; and

d. Applied revaluation model to Property ‘3’ being classified as Investment Property.

The above accounting treatment is neither correct nor in accordance with provision of Ind AS 1,
Ind AS 16 and Ind AS 40.

Accordingly, Special Ltd. shall depreciate Property 1 irrespective of the fact that, their fair value
exceeds the carrying amount. The revaluation gain shall be recognised in other comprehensive
income and accumulated in equity under the heading of revaluation surplus. There is no
alternative of revaluation model in respect to property ‘3’ being classified as Investment
Property and only cost model is permitted for subsequent measurement. However, Special Ltd.
is required to disclose the fair value of the property in the Notes to Accounts. Further, Property
‘3’ shall be presented as separate line item as Investment Property and depreciation

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should be charged on it as well.

Therefore, as per the provisions of Ind AS 1, Ind AS 16 and Ind AS 40, the presentation of these
three properties in the balance sheet will be as follows:

Balance Sheet (extracts) as at 31st March, 2021

Assets Rs

Non-Current Assets

Property, Plant and Equipment

Property ‘1’ 8,00,000

Property ‘2’ 9,50,000 17,50,000

Investment Properties

Property ‘3’ (1,200,000 – 80,000) 11,20,000

Equity and Liabilities

Other Equity

Revaluation Reserve

Property ‘1’ *8,00,000 – (7,50,000 – 75,000)] 1,25,000

The revaluation reserve should be routed through Other Comprehensive Income (subsequently
not reclassified to Profit and Loss) and shown in a separate column under Statement of Changes
in Equity.

Working Notes:

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Particulars Property 1 Property 2 Property 3

Purchase Price Rs 7,50,000 Rs 10,50,000 Rs 12,00,000

Estimated Life 10 years 15 years 15 years

Depreciation for the year Rs 75,000 Rs 70,000 Rs 80,000

Carrying Value as on 31st March, 2021 Rs 6,75,000 Rs 9,80,000 Rs 11,20,000

Fair Value as on 31st March, 2021 Rs 8,00,000 Rs 9,50,000 Rs 13,00,000

Subsequent Measurement Revaluation Fair Value Rs Fair Value (Rs Cost

Surplus / (Deficit) 1,25,000 30,000)

Question 6

Shaurya Limited owns Building A which is specifically used for the purpose of earning rentals.
The Company has not been using the building A or any of its facilities for its own use for a
long time. The company is also exploring the opportunities to sell the building if it gets the
reasonable amount in consideration.

Following information is relevant for Building A for the year ending 31st March, 20X2:

Building A was purchased 5 years ago at the cost of Rs.10 crore and building life is estimated
to be 20 years. The company follows straight line method for depreciation. During the year,
the company has invested in another Building B with the purpose to hold it for capital
appreciation. The property was purchased on 1st April, 20X1 at the cost of Rs. 2 crore.
Expected life of the building is 40 years. As usual, the company follows straight line method
of depreciation. Further, during the year 20X1-20X2, the company earned / incurred following
direct operating expenditure relating to Building A and Building B:

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Rental income from Building A Rs. 75 lakh

Rental income from Building B Rs. 25 lakh

Sales promotion expenses Rs. 5 lakh

Fees & Taxes Rs. 1 lakh

Ground rent Rs. 2.5 lakh

Repairs & Maintenance Rs. 1.5 lakh

Legal & Professional Rs. 2 lakh

Commission and brokerage Rs. 1 lakh

The company does not have any restrictions and contractual obligations against buildings - A
and B. For complying with the requirements of Ind AS, the management sought an
independent report from the specialists so as to ascertain the fair value of buildings A and B.
The independent valuer has valued the fair value of property as per the valuation model
recommended by International valuation standards committee. Fair value has been
computed by the method by streamlining present value of future cash flows namely,
discounted cash flow method. The other key inputs for valuation are as follows:

The estimated rent per month per square feet for the period is expected to be in the range of
Rs. 50 - Rs. 60. It is further expected to grow at the rate of 10 percent per annum for each of 3
years. The weighted discount rate used is 12% to 13%. Assume that the fair value of
properties based on discounted cash flow method is measured at Rs. 10.50 crore on 31st
March, 20X2. What would be the treatment of Building A and Building B in the balance sheet

of Shaurya Limited? Provide detailed disclosures and computations in line with relevant
Indian accounting standards. Treat it as if you are preparing a separate note or schedule, of
the given assets in the balance sheet.

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 (MTP Mar ’21, RTP Nov ’20)

Answer 6

Investment property is held to earn rentals or for capital appreciation or both. Ind AS 40 shall
be applied in the recognition, measurement and disclosure of investment property. An
investment property shall be measured initially at its cost. After initial recognition, an entity
shall measure all of its investment properties in accordance with the requirement of Ind AS 16
for cost model.

The measurement and disclosure of Investment property as per Ind AS 40 in the balance sheet
would be depicted as follows:

INVESTMENT PROPERTIES:

Particulars Period ended 31st

March, 20X2 (Rs. In
crore)

Gross Amount:

Opening balance (A) 10.00

Additions during the year (B) 2.00

Closing balance (C) = (A) + (B) 12.00

Depreciation:

Opening balance (D) 2.50

Depreciation during the year (E) (0.5 + 0.05) 0.55

Closing balance (F) = (D) + (E) 3.05

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Net balance (C) - (F) 8.95

The changes in the carrying value of investment properties for the year ended 31st March,
20X2 are as follows:

Amount recognised in Profit and Loss with respect to Investment Properties

Particulars Period ending 31st

March, 20X2 (Rs. In
crore)

Rental income from investment properties (0.75 + 0.25) 1.00

Less: Direct operating expenses generating rental income (0.13)

(5+1+2.5+1.5+2+1)

Profit from investment properties before depreciation and indirect 0.87

expenses

Less: Depreciation (0.55)

Profit from earnings from investment properties before indirect 0.32

expenses

Disclosure Note on Investment Properties acquired by the entity

The investment properties consist Property A and Property B. As at 31st March, 20X2, the fair
value of the properties is Rs.10.50 crore. The valuation is performed by independent valuers,
who are specialists in valuing investment properties. A valuation model as recommended by
International Valuation Standards Committee has been applied. The Company considers factors
like management intention, terms of rental agreements, area leased out, life of the assets etc.
to determine classification of assets as investment properties. The Company has no restrictions

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on the realisability of its investment properties and no contractual obligations to purchase,
construct or develop investment properties or for repairs, maintenance and enhancements.
Description of valuation techniques used and key inputs to valuation on investment properties:

Valuation technique Significant unobservable Range(Weighted average)

inputs

Discounted cash flow (DCF) Estimated rental value per sq. Rs. 50 to Rs. 60
method ft. per month

Rent growth per annum 10% every 3 years

Discount rate 12% to 13%

Question 7

UK Ltd. has purchased a new head office property for Rs. 10 crores. The new office building
has 10 floors and the organisation structure of UK Ltd. is as follows:

Floor 1st 2nd 3rd 4th 5th 6th 7th 8th 9th 10th

Use WaitingArea Admin HR Accounts Inspection MD Canteen Vacant

Office

Since UK Ltd. did not need the floors 8, 9 and 10 for its business needs, it has leased out the
same to a restaurant on a long-term lease basis. The terms of the lease agreement are as
follows:

- Tenure of Lease Agreement - 5 Years

- Non-Cancellable Period - 3 years

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- Lease Rental-annual lease rental receivable from these floors are Rs. 10,00,000 per floor
with an escalation of 5% every year.

Based on the certificate from its architect, UK Ltd. has estimated the cost of the 3 top floors
as approximately Rs. 3 crores. The remaining cost of Rs. 7 crores can be allocated as 25%
towards Land and 75% towards Building. As on 31st March, 2018, UK Ltd. obtained a
valuation report from an independent valuer who has estimated the fair value of the
property at Rs. 15 crores. UK Ltd. wishes to use the cost model for measuring Property, Plant
& Equipment and the fair value model for measuring the Investment Property. UK Ltd.
depreciates the building over an estimated useful life of 50 years, with no estimated residual
value. Advise UK Ltd. on the accounting and disclosures for the above as per the applicable
Ind AS.

(MTP Aug ‘18)

Answer 7

Ind AS 16 ‘Property, Plant and Equipment’ states that property, plant and equipment are
tangible items that are held for use in the production or supply of goods or services, for rental
to others, or for administrative purposes. As per Ind AS 40 ‘Investment property’, investment
property is a property held to earn rentals or for capital appreciation or both, rather than for
use in the production or supply of goods or services or for administrative purposes or sale in the
ordinary course of business.

Further, as per para 8 of Ind AS 40, the building owned by the entity and leased out under one
or more operating leases will be classified as investment property.

Here top three floors have been leased out for 5 years with a non-cancellable period of 3 years.
The useful life of the building is 50 years. The lease period is far less that the useful life of the
building leased out. Further, the lease rentals of three years altogether do not recover the fair
value of the floors leased i.e. 15 crore x 30% = 4.50 crore. Hence the lease is an operating lease.

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Therefore, the 3 floors leased out as operating lease will be classified as investment property in
the books of lessor ie. UK Ltd.

However, for investment property, Ind AS 40 states that an entity shall adopt as its accounting
policy the cost model to all of its investment property. Ind AS 40 also requires that an entity
shall disclose the fair value of such investment property (ies).

(in crore)

Total PPE (70%) Investment

property (30%)

Land (25%) Building (75%)

Cost 10 1.75 5.25 3

FV 15 2.625 7.875 4.5

Valuation model followed Cost Cost Cost (as per

para 30 of Ind
AS 40)

Value recognized in the 1.75 5.25 3

books

Less: Depreciation Nil (5.25/50) = (3/50) = 0.06

0.105 crore

Carrying value as on 31st 1.75 5.145 2.94

March, 2018

Question 8

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X Ltd. is engaged in the construction industry and prepares its financial statements up to 31st
March each year. On 1st April, 2013, X Ltd. purchased a large property (consisting of land) for
Rs. 2,00,00,000 and immediately began to lease the property to Y Ltd. on an operating lease.
Annual rentals were Rs. 20,00,000. On 31st March, 2017, the fair value of the property was
Rs. 2,60,00,000. Under the terms of the lease, Y Ltd. was able to cancel the lease by giving six
months’ notice in writing to X Ltd. Y Ltd. gave this notice on 31st March, 2017 and vacated the
property on 30th September, 2017. On 30th September, 2017, the fair value of the property
was Rs. 2,90,00,000. On 1st October, 2017, X Ltd. immediately began to convert the property
into ten separate flats of equal size which X Ltd. intended to sell in the ordinary course of its
business. X Ltd. spent a total of Rs. 60,00,000 on this conversion project between 30th
September, 2017 to 31st March, 2018. The project was incomplete at 31st March, 2018 and
the directors of X Ltd. estimate that they need to spend a further Rs. 40,00,000 to complete
the project, after which each flat could be sold for Rs. 50,00,000. Examine and show how the
three events would be reported in the financial statements of X Ltd. for the year ended 31st
March, 2018. as per Ind AS

(RTP Nov ’18)

Answer 8

From 1st April, 2013, the property would be regarded as an investment property since it is
being held for its investment potential rather than being owner occupied or developed for sale.
The property would be measured under the cost model. This means it will be measured at Rs.
2,00,00,000 at each year end.

On 30th September, 2017, the property ceases to be an investment property. X Ltd. begins to
develop it for sale as flats. The increase in the fair value of the property from 31st March, 2017
to 30th September, 2017 of Rs. 30,00,000 (Rs. 29,00,000 – Rs. 26,00,000) would be recognised
in P/L for the year ended 31st March, 2018. Since the lease of the property is an operating
lease, rental income of Rs. 10,00,000 (Rs. 20,00,000 x 6/12) would be recognised in P/L for the
year ended 31st March, 2018. When the property ceases to be an investment property, it is

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transferred into inventory at its then fair value of Rs. 2,90,00,000. This becomes the initial ‘cost’
of the inventory. The additional costs of Rs. 60,00,000 for developing the flats which were
incurred up to and including 31st March, 2018 would be added to the ‘cost’ of inventory to give
a closing cost of Rs. 3,50,00,000. The total selling price of the flats is expected to be Rs.
5,00,00,000 (10 Rs. 50,00,000).

Since the further costs to develop the flats total Rs. 40,00,000, their net realizable value is Rs.
4,60,00,000 (Rs. 5,00,00,000 – Rs. 40,00,000), so the flats will be measured at a cost of Rs.
3,50,00,000. The flats will be shown in inventory as a current asset.

Question 9

On 1st April, 20X1 an entity acquired an investment property (building) for Rs 40,00,000.
Management estimates the useful life of the building as 20 years measured from the date of
acquisition. The residual value of the building is Rs 2,00,000. Management believes that the
straight-line depreciation method reflects the pattern in which it expects to consume the
building’s future economic benefits. What is the carrying amount of the building on 31st
March, 20X2?

(Study material)

Answer 9

Cost of the asset is Rs 40,00,000.

Depreciable amount = Cost less Residual value = Rs (40,00,000 - 2,00,000) = Rs

38,00,000 Depreciation for the year = Depreciable amount/useful life

= Rs 38,00,000/20

= Rs 1,90,000.

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Carrying amount = Cost less accumulated depreciation

= Rs (40,00,000 - 1,90,000) = Rs 38,10,000.

Question 10

In financial year 20X1-20X2, X Limited incurred the following expenditure in acquiring

property consisting of 6 identical houses each with separate legal title including the land on
which it is built. The expenditure incurred on various dates is given below:

On 1st April, 20X1 - Purchase cost of the property Rs 1,80,00,000.

On 1st April, 20X1 – Non-refundable transfer taxes Rs 20,00,000 (not included in the purchase
cost).

On 2nd April, 20X1- Legal cost related to property acquisition Rs 5,00,000. On 6th April, 20X1-
Advertisement campaign to attract tenants Rs 3,00,000.

On 8th April, 20X1 - Opening ceremony function for starting business Rs 1,50,000.

Throughout 20X1-20X2, incurred Rs 1,00,000 towards day-to-day repair maintenance and

other administrative expenses.

X Limited uses one of the six houses for office and accommodation of its few staffs. The other
five houses are rented to various independent third parties.

How X Limited will account for all the above-mentioned expenses in the books of account?

(Study material)

Answer 10

The cost of the property = Rs (1,80,00,000 + 20,00,000 + 5,00,000) = Rs 2,05,00,000. Since five
houses out of six are being rented, so 5/6th of the property cost will be accounted for as an

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investment property and 1/6th of the property cost will be accounted for as owner- occupied
property.

Cost of the investment property = Rs 2,05,00,000 5/6 = Rs 1,70,83,333

Cost of the owner-occupied property = Rs (2,05,00,000 - 1,70,83,333) = Rs 34,16,667.

All other costs, i.e., advertisement expenses, ceremony expenses and repair maintenance
expenses will be expensed off as and when incurred.

Question 11

ICAI Illustration

X Limited owns a building which is used to earn rentals. The building has a carrying amount of
Rs 50,00,000. X Limited recently replaced interior walls of the building and the cost of new
interior walls is Rs 5,00,000. The original walls have a carrying amount of Rs 1,00,000. How X
Limited should account for the above costs?

(Study material)

Answer

Under the recognition principle, an entity recognises in the carrying amount of an investment
property the cost of replacing part of an existing investment property at the time that cost is
incurred if the recognition criteria are met and the carrying amount of those parts that are
replaced is derecognised. So, X Limited should add the cost of new walls and remove the
carrying amount of old walls. The new carrying amount of the building = Rs 50,00,000 + Rs
5,00,000 – Rs 1,00,000 = Rs 54,00,000.

Question 12

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ICAI Illustration

Netravati Ltd. purchased a commercial office space as an Investment Property, in the Global
Trade Centre Commercial Complex, for Rs 5 crores. However, for purchasing the same, the
Company had to obtain membership of the Global Trade Centre Commercial Complex
Association by paying Rs 6,25,000 as a one-time joining fee. Netravati Ltd. wants to write off
the one-time joining fees paid as an expense under Membership and Subscription Charges
and value the investment property at Rs 5 crores. Advise. Would you answer change if the
office space was purchased with the intention of using it as an administrative centre of the
company?

(Study material)

Answer

Cost of Investment Property

As per Ind AS 40, the cost of a purchased investment property comprises its purchase price and
any directly attributable expenditure (e.g. professional fees for legal services, property transfer
taxes and other transaction costs). Accordingly, on initial recognition, the one-time joining fee
of Rs 6,25,000 should be added to the purchase price. Therefore, the investment property
should be measured at Rs 5,06,25,000 (i.e. cost of the commercial office space + one-time
joining fee). Writing off the amount of Rs 6,25,000 to the P&L is not appropriate.

Use as Administrative Office

If the property is used as an administrative centre, it is not an investment property, but rather
an ‘owner occupied property’. Hence, Ind AS 16 will be applicable. Even under Ind AS 16, all
direct costs relating to the acquisition of the asset should be added to the purchase price.
Hence, cost of the asset under Ind AS 16 would be Rs 5,06,25,000

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Question 13

ICAI Illustration

X Limited purchased a building for Rs 30,00,000 on 1st May, 20X1 with an intention to earn
rentals. The purchase price was funded by a loan, interest on which is payable @ 5%.
Property transfer taxes and direct legal costs of Rs 1,00,000 and Rs 20,000 respectively were
incurred in acquiring the building. X Limited redeveloped the building into retail shops for
rent under operating leases to independent third parties. Expenditures on redevelopment
were:

(a) Rs 2,00,000 planning permission.

(b) Rs 7,00,000 construction costs (including Rs 40,000 refundable purchase taxes) What is the
cost of the Building as per Ind AS 40?

(Study material)

Answer

As per Ind AS 40, the cost of a purchased investment property comprises its purchase price and
any directly attributable expenditure (e.g. professional fees for legal services, property transfer
taxes and other transaction costs).

Accordingly, cost of the Building is arrived at as under:

Particulars Amount in Total Rs

Rs

Purchase price 30,00,000

Add: Property transfer taxes 1,00,000

Direct legal costs 20,000

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Fee for planning permission 2,00,000

Construction costs 7,00,000

Less: Refundable purchase taxes 40,000 6,60,000

Cost of the Building as per Ind AS 40 39,80,000

Note: The building does not qualify the substantial period criteria for redevelopment of
property. Hence, borrowing cost of loan fund has not been capitalised.

Question 14

ICAI Illustration

X Limited purchased a land worth of Rs 1,00,00,000. It has option either to pay full amount at
the time of purchases or pay for it over two years for a total cost of Rs 1,20,00,000. What
should be the cost of the building under both the payment methods?

(Study material)

Answer

Using either payment method, the cost will be Rs 1,00,00,000. If the second payment option is
used, Rs 20,00,000 will be treated as interest expenses over the credit period of 2 years.

Question 15

ICAI Illustration

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Moon Ltd has purchased a building on 1st April, 20X1 at a cost of Rs 10 million. The building
was used as a factory by the Moon Ltd and was measured under cost model. The expected
useful life of the building is estimated to be 10 years. Due to decline in demand of the
product, the Company does not need the factory anymore and has rented out the building to
a third party from 1st April, 20X5. On this date the fair value of the building is Rs 8 million.
Moon ltd uses cost model for accounting of its investment property.

(Study material)

Answer

(Rs Million)

Carrying amount of the building after depreciation of 4 years (10-10/10 x 6

4).

The company has applied cost model under Ind AS 16 till now. There is no ---
impairment as the fair value is greater than the carrying amount of
building. Revaluation Surplus credited to Other Comprehensive Income

(not applicable since cost model is used under Ind AS 16)

Building initially recognised as Investment Property (Cost model Ind AS 6

40)

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 Chapter 5 Unit-7

Ind AS 105: “Non-current Assets Held for sale”

Topic 1: Basic Concept of Ind AS 105

Question 1

Venus Limited had purchased on 1st April, 2020, a PPE kits manufacturing plant for Rs 12.00
lakhs. The useful life of the plant is 8 years. The deprecation is provided on straight line
method. On 30th September, 2022, Venus Limited temporarily discontinues production at the
said plant due to decline in the demand for PPE kits. However, the plant is maintained in a
workable condition, and it can be used in future whenever the demand picks up. The
accountant of Venus Limited decided to treat the plant as held for sale under Ind AS 105 until
the demand picks up. She, thus measures the plant at lower of carrying amount and fair value
less cost to sell. She also stopped charging the depreciation for the rest of period as the plant
was held for sale. The fair value less cost to sell the said plant on 30th September, 2022 and
31st March, 2023 was Rs 6.75 lakhs and Rs 6.00 lakhs respectively. She performed the
following working to determine the carrying amount of the plant on initial classification as
held for sale:

Particulars Rs in lakhs

Purchase price of the plant 12.00

Less: Accumulated depreciation for 2.5 years (3.75)

(Rs 12.00 lakhs / 8 years x 2.5 years)

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 8.25

Fair value less cost to sales as on 30th September, 2022 6.75

The carrying amount is lower of Rs 8.25 lakhs and Rs 6.75 lakhs 6.75

Balance Sheet extracts as at 31st March, 2023

Particulars Rs in lakhs

Assets

Current Assets

Other Current Assets

Assets classified as held for sale 6.00

Discuss whether the above accounting treatment made by the accountant is as per applicable
Ind AS. If not, what should be the correct treatment. Provide balance sheet extract as at 31st
March, 2023 together with the computation of the carrying value of PPE as at 31st March,
2023.

(PYP May ‘23)

Answer 1

The treatment of PPE kits manufacturing plant needs to be examined in the light of the
provisions given in Ind AS 16 ‘Property, Plant and Equipment’ and Ind AS 105 ‘Noncurrent
Assets Held for Sale and Discontinued Operations’.

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Paragraph 6 of Ind AS 105 ‘Non-current Assets Held for Sale and Discontinued Operations’
states that an entity shall classify a non-current asset as held for sale if its carrying amount will
be recovered principally through a sale transaction rather than through continuing use.

Paragraph 7 of Ind AS 105 states that for this to be the case, the asset must be available for
immediate sale in its present condition subject only to terms that are usual and customary for
sale of such assets (or disposal groups) and its sale must be highly probable. Thus, an asset
cannot be classified as a non-current asset held for sale, if the entity intends to sell it in the
distant future.

Further, paragraph 8 of Ind AS 105 states that for the sale to be highly probable, the
appropriate level of management must be committed to a plan to sell the asset (or disposal
group), and an active programme to locate a buyer and complete the plan must have been
initiated. Further, the asset (or disposal group) must be actively marketed for sale at a price
that is reasonable in relation to its current fair value. In addition, the sale should be expected to
qualify for recognition as a completed sale within one year from the date of classification and
actions required to complete the plan should indicate that it is unlikely that significant changes
to the plan will be made or that the plan will be withdrawn.

* PS: Read financial year ‘2022-2023’ as ‘2021-2022’.

Paragraph 13 of Ind AS 105 states that an entity shall not classify as held for sale a noncurrent
asset (or disposal group) that is to be abandoned. This is because its carrying amount will be
recovered principally through continuing use.

Paragraph 14 of Ind AS 105 states that an entity shall not account for a non-current asset that
has been temporarily taken out of use as if it had been abandoned.

Paragraph 55 of Ind AS 16 states that depreciation does not cease when the asset becomes idle
or is retired from active use unless the asset is fully depreciated.

Going by the guidance given above, the Accountant of Venus Ltd. has treated the plant as held
for sale and measured it at the fair value less cost to sell. Also, the depreciation has not been

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charged thereon since the date of classification as held for sale which is not correct and not in
accordance with Ind AS 105 and Ind AS 16.

Accordingly, the manufacturing plant should neither be treated as abandoned asset nor as held
for sale because its carrying amount will be principally recovered through continuous use.
Venus Ltd. shall not stop charging depreciation or treat the plant as held for sale because its
carrying amount will be recovered principally through continuing use to the end of their
economic life.

The working of the same for presenting in the balance sheet is given as below:

Calculation of carrying amount as on 31st March, 2023 Rs

Purchase Price of Plant 12,00,000

Less: Accumulated depreciation (12,00,000/ 8 years) 3 years (4,50,000)

7,50,000

Less: Impairment loss (1,50,000)

6,00,000

Balance Sheet extracts as on 31st March, 2023

Assets Rs

Non-Current Assets

Property, Plant and Equipment 6,00,000

Working Note:

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Fair value less cost to sell of the Plant = Rs 6,00,000

Value in use (not given) or Nil (since plant has temporarily not been used for manufacturing due
to decline in demand)

Recoverable amount = higher of above i.e. Rs 6,00,000

Impairment loss = Carrying amount – Recoverable amount Impairment loss = Rs 7,50,000 - Rs

6,00,000 = Rs 1,50,000.

Question 2

Company A has financial year ending 31st March, 20X0. On 1st June, 20X0, the Company has
classified its Division B as held for sale in accordance with Ind AS 105. How property, plant
and equipment (PPE) for which the company has adopted cost model shall be measured
immediately before the classification as held for sale on 1st June, 20X0?

(RTP Nov’22)

Answer 2

Paragraph 18 of Ind AS 105 provides that immediately before the initial classification of the
asset (or disposal group) as held for sale, the carrying amounts of the asset (or all the assets
and liabilities in the group) shall be measured in accordance with applicable Ind AS.

In the instant case, Company A should measure the property, plant and equipment (for which it
has adopted cost model), in accordance with Ind AS 16, Property, Plant and Equipment. Hence,
depreciation should be provided upto 31st May, 20X0.

Question 3

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On February 28, 20X1, Entity X is committed to the following plans:

(g) To sell a property after completion of certain renovations to increase its value prior to
selling it. The renovations are expected to be completed within a short span of time i.e., 2
months.

(h) To sell a commercial building to a buyer after the occupant vacates the building. The time
required for vacating the building is usual and customary for sale of such commercial
property. The entity considers the sale to be highly probable.

Can the above-mentioned property and commercial building be classified as noncurrent

assets held for sale at the reporting date i.e. 31st March, 20X1?

(RTP Nov 21)

Answer 3

Ind AS 105 provides guidance on classification of a non-current asset held for sale in paragraph
7 which states that, the asset (or disposal group) must be available for immediate sale in its
present condition subject only to terms that are usual and customary for sales of such assets (or
disposal groups) and its sale must be highly probable.

(a) In respect of Entity X’s plan to sell property which is being renovated and such renovation is
incomplete as at the reporting date. Although, the renovations are expected to be completed
within 2 months from the reporting date i.e., March 31, 20X1, the property cannot be classified
as held for sale at the reporting date as it is not available for sale immediately in its present
condition.

(b) In case of Entity X’s plan to sell commercial building, it intends to transfer the commercial
building to a buyer after the occupant vacates the building and the time required for vacating
such building is usual and customary for sale of such non- current asset. Accordingly, the
criterion of the asset being available for immediate sale would be met and hence, the
commercial building can be classified as held for sale at the reporting date

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Question 4

On February 28, 20X1, Entity X becomes committed to a plan to sell a property. However, it
plans certain renovations to increase its value prior to selling it. The renovations are expected
to be completed within a short span of time i.e., 2 months. Can the property be classified as
held for sale at the reporting date i.e. 31st March, 20X1?

(Study material)

Answer 4

The property cannot be classified as held for sale at the balance sheet date as it is not available
for sale immediately in its present condition. Although the renovations are expected to be
completed within a short span 2 months, this fact is not relevant for classification. The delay in
the timing of the transfer of

1. the property imposed by the Entity X demonstrates that the property is not available for
immediate sale.

2. However, if the PPE meets the criteria for held for sale by 30th April, 20X1 (i.e., 2 months
from February 28, 20X1) and the accounts are not authorised by that date, then necessary
disclosures need to be given in the financial statements.

Question 5

On 1st March, 20X1, entity R decides to sell one of its factories. An agent is appointed and the
factory is actively marketed. As on 31st March, 20X1, it is expected that the factory will be
sold by 28th February, 20X2. However, in May 20X1, the market price of the factory
deteriorated. Entity R believed that the market will recover and thus did not reduce the price

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of the factory. The company’s accounts are authorised for issue on 26th June, 20X1. Should
the factory be shown as held for sale as on 31st March, 20X1?

(Study material)

Answer 5

In this example, the factory ceases to meet the definition of held for sale post the balance sheet
date but before the financial statements are authorised for issue, as it is not actively marketed
at a reasonable price. But, since the market conditions deteriorated post the balance sheet
date, the asset will be classified as held for sale as at 31st March, 20X1.

Question 6

Identify which of the following is a disposal group at 31 March 20X1:

(1) On 21 March 20X1, XYZ announced the Board’s intention to sell its shares in a subsidiary
company, Alpha, contingent upon the approval of Alpha’s shareholders. It seems unlikely that
approval will be granted in the near future and no specific potential buyer has been
identified.

(2) PQR has entered into a contract to sell the entire delivery fleet of vehicles operated from
its warehouse to a competitor, ABC, on 14 March 20X1. The assets will be transferred on 28
April 20X1 from which date the Group will outsource its delivery activities to another
company, LMN.

(3) On 16 January 20X1, DEF’s management and shareholders approved a plan to sell its retail
business in Mumbai and a consultant is hired to manage the sale. As at 31 March 20X1 heads
of agreement had been signed although due diligence and the negotiation of final terms are
still in process. The transaction is expected to be completed in April 20X1.

(Study material)

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Answer 6

Presented as held for sale

(1) PQR’s fleet is classified as held for sale because it constitutes a group of assets to be sold in
their present condition and the sale is highly probable at the reporting date (as a contract has
been entered into).

(2) DEF’s sale of its retail business will not be completed until the final terms (e.g. of purchase
price) are agreed. However, the business is ready for immediate sale and the sale is highly
probable unless other evidence after the reporting date but before the financial statements are
approved for issue, comes to light to indicate the contrary.

Not presented as held for sale

(1) XYZ’s shares in Alpha are not available for an immediate sale as shareholders’ approval is
required. Also no specific potential buyer has been identified. In taking these fact into
consideration for the assessment of whether the sale is highly probable, it is clearly not highly
probable.

Question 7

ICAI Illustration

Identify whether each of the following scenarios gives rise to a discontinued operation and/or
classification of assets as held for sale:

S. No Particulars Discontinued Assets held for

operation Yes/No sale Yes/No

1 MNO disposes of a component of the entity

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 by selling the underlying assets. The sales
transaction is incomplete at the reporting
date.

2 PQR has ceased activities that meet the

definition of a discontinued operation
without selling any assets.

3 STU ceases activities and has already

completed the sale of the underlying assets
at the reporting date.

4 VWX will sell or has sold assets that are

within the scope of Ind AS 105, but does
not discontinue any of its operations.

(Study material)

Answer

Discontinued operations and assets held for sale

S. No Particulars Discontinued Assets held for

operation Yes/No sale Yes/No

1 MNO disposes of a component of the Yes Yes

entity by selling the underlying assets. The
sales transaction is incomplete at the
reporting date.

2 PQR has ceased activities that meet the Yes No

definition of a discontinued operation

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 without selling any assets.

3 STU ceases activities and has already Yes No

completed the sale of the underlying
assets at the reporting date.

4 VWX will sell or has sold assets that are No Yes

within the scope of Ind AS 105, but does
not discontinue any of its operations.

Question 8

ICAI Illustration

Sun Ltd is a retailer of takeaway food like burger and pizzas. It decides to sell one of its
outlets located in Chandani Chowk in New Delhi. The company will continue to run 200 other
outlets in New Delhi. All Ind AS 105 criteria for held for sale classification were first met at 1st
October, 20X1. The outlet will be sold in June, 20X2. Management believes that outlet is a
discontinued operation and wants to present the results of outlet as 'discontinued
operations'. Analysis

(Study material)

Answer

The Chandani Chowk outlet is a disposal group; it is not a discontinued operation as it is only
one outlet. It is not a major line of business or geographical area, nor a subsidiary acquired with
a view to resale.

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Topic 2: Initial Measurement of Assets Held for Sale

Question 9

S Ltd purchased a property for Rs 6,00,000 on 1st April, 20X1. The useful life of the property is
15 years. On 31st March, 20X3, S Ltd classified the property as held for sale. The impairment
testing provides the estimated recoverable amount of Rs 4,70,000.

The fair value less cost to sell on 31st March, 20X3 was Rs 4,60,000. On 31st March, 20X4
management changed the plan, as property no longer met the criteria of held for sale. The
recoverable amount as at 31st March, 20X4 is Rs 5,00,000.

Provide the accounting treatment of events for the year ending 31st March, 20X3 and 31st
March, 20X4 and value the property thereupon.

(MTP Oct ‘23)

Answer 9

I. Value of property immediately before the classification as held for sale as per Ind AS

Rs

16 as on 31st March, 20X3 Purchase price 6,00,000

Less: Accumulated depreciation (80,000) (for two years)

Less: Impairment loss (50,000) (5,20,000- 4,70,000)

Carrying Amount 4,70,000

On initial classification as held for sale on 31st March, 20X3, the value will be lower of:

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Carrying amount after impairment Rs 4,70,000

Fair value less cost to sell Rs 4,60,000

On 31st March, 20X3, Non-current asset classified as held for sale will be recorded at Rs
4,60,000.

Depreciation of Rs 40,000 and Impairment Loss of Rs 60,000 (50,000 +10,000) is charged in

profit or loss for the year ended 31st March, 20X3.

II. On 31st March, 20X4, held for sale property is reclassified as criteria doesn’t met. The value
will be lower of:

Carrying amount immediately before classification on 31st March 20X3 Rs 4,70,000

Less: Depreciation based on 13 years balance life (Rs 36,154)

Carrying amount had the asset not classified as held for sale Rs 4,33,846

Recoverable Amount Rs 5,00,000

Property will be valued at Rs 4,33,846 on 31st March, 20X4

Adjustment to the carrying amount of Rs 26,154 (Rs 4,60,000 - 4,33,846) is charged to the profit
or loss.

Question 10

Identify which of the following is a disposal group at 31st March, 20X1:

(1) On 21st March, 20X1, XYZ Ltd. announced the Board’s intention to sell its shares in a
subsidiary company, Alpha Ltd., contingent upon the approval of Alpha Ltd.’s shareholders. It

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seems unlikely that approval will be granted in the near future and no specific potential
buyer has been identified.

(2) PQR Ltd. has entered into a contract to sell the entire delivery fleet of vehicles operated
from its warehouse to a competitor, ABC Ltd., on 14th March, 20X1. The assets will be
transferred on 28th April, 20X1 from which date the Group will outsource its delivery
activities to another company, LMN Ltd.

(3) On 16th January, 20X1, DEF’s management and shareholders approved a plan to sell its
retail business in Mumbai and a consultant is hired to manage the sale. As at 31st March,
20X1 heads of agreement had been signed although due diligence and the negotiation of final
terms are still in process.

The transaction is expected to be completed in April, 20X1.

(MTP April 22)

Answer 10

Presented as disposal group held for sale

(1) PQR Ltd.’s fleet of vehicles is classified as held for sale because it constitutes a group of
assets to be sold in their present condition and the sale is highly probable at the reporting date
(as a contract has been entered into).

(2) DEF Ltd.’s sale of its retail business will not be completed until the final terms (e.g. of
purchase price) are agreed. However, the business is ready for immediate sale and the sale is
highly probable to be completed by April, 20X1. This implies that the retail business is a disposal
group held for sale, unless other evidence after the reporting date but before the financial
statements are approved for issue, comes to light to indicate the contrary.

Not presented as disposal group held for sale

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(1) XYZ Ltd.’s shares in Alpha Ltd. are not available for an immediate sale as shareholders’
approval is required. Also, no specific potential buyer has been identified. Taking these facts
into consideration, it is clear that the sale is not highly probable.

Question 11

On June 1, 20X2, entity D Limited plans to sell a group of assets and liabilities, which is
classified as a disposal group. On July 31, 20X2, the Board of Directors approved and
committed to the plan to sell the manufacturing unit by entering into a firm purchase
commitment with entity G Limited. However, since the manufacturing unit is regulated, the
approval from the regulator is needed for sale. The approval from the regulator is customary
and highly probable to be received by November 30, 20X2 and the sale is expected to be
completed by 31st March, 20X3. Entity D Limited follows December year end. The assets and
liabilities attributable to this manufacturing unit are as under:

(Rs in lakh)

Particulars Carrying value as on 31st Carrying value as on 31st

December, 20X1 July, 20X2

Goodwill 1,000 1,000

Plant and Machinery 2,000 1,800

Building 4,000 3,700

Debtors 1,700 2,100

Inventory 1,400 800

Creditors (600) (500)

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Loans (4,000) (3,700)

Net 5,500 5,200

The fair value of the manufacturing unit as on December 31, 20X1 is Rs 4,000 lakh and as on
July 31, 20X2 is Rs 3,700 lakh. The cost to sell is Rs 200 lakh on both these dates. The disposal
group is not sold at, the period end i.e., December 31, 20X2. The fair value as on 31st
December, 20X2 is lower than the carrying value of the disposal group as on that date.

Required:

(i) Assess whether the manufacturing unit can be classified as held for sale and reasons
thereof. If yes, then at which date?

(ii) The measurement of the manufacturing unit as on the date of classification as held for
sale.

(iii) The measurement of the manufacturing unit as at the end of the year.

(MTP Nov 21, PYP Nov’19)

Answer 11

(i) Assessment of manufacturing unit whether to be classified as held for sale The
manufacturing unit can be classified as held for sale due to the following reasons:

(a) The disposal group is available for immediate sale and in its present condition. The
regulatory approval is customary and it is expected to be received in one year. The date at
which the disposal group is classified as held for sale will be 31st July, 20X2, i.e. the date at
which management becomes committed to the plan.

(b) The sale is highly probable as the appropriate level of management i.e., board of directors in
this case have approved the plan.

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(c) A firm purchase agreement has been entered with the buyer.

(d) The sale is expected to be complete by 31st March, 20X3, i.e., within one year from the date
of classification.

(ii) Measurement of the manufacturing unit as on the date of classification as held for sale

Following steps need to be followed:

Step 1: Immediately before the initial classification of the asset (or disposal group) as held for
sale, the carrying amounts of the asset (or all the assets and liabilities in the group) shall be
measured in accordance with applicable Ind AS. This has been done and the carrying value of
the disposal group as on 31st July, 20X2 is determined at Rs 5,200 lakh. The difference between
the carrying value as on 31st December, 20X1 and 31st July, 20X2 is accounted for as per Ind AS
36.

Step 2: An entity shall measure a non-current asset (or disposal group) classified as held for sale
at the lower of its carrying amount and fair value less costs to sell., The fair value less cost to
sell of the disposal group as on 31st July, 20X2 is Rs 3,500 lakh (i.e. Rs 3,700 lakh - Rs 200 lakh).
This is lower than the carrying value of Rs 5,200 lakh. Thus, an impairment loss needs to be
recognised and allocated first towards goodwill and thereafter prorata between assets of the
disposal group which are within the scope of Ind AS 105 based on their carrying value.

Thus, the assets will be measured as under:

(Rs in lakh)

Particulars Carrying value as on Impairment Carrying value as on

31st July, 20X1 31st July, 20X2

Goodwill 1,000 1,000) (Refer WN) -

Plant and Machinery 1,800 (229) (Refer WN) 1,571

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Building 3,700 (471) 3,229

Debtors 2,100 - 2100

Inventory 800 - 800

Creditors (500) - 500

Loans (3,700) - 3,700

Net 5,200 1,700 3,500

Working Note:

(i) Allocation of impairment loss to Plant and Machinery and Building

After adjustment of impairment loss of Rs 1,000 lakh from the full value of goodwill, the
balance Rs 700 lakh (Rs 1,700 lakh – Rs 1,000 lakh) is allocated to plant and machinery and
Building on proportionate basis. Plant and machinery – Rs 700 lakh x Rs 1,800 lakh / Rs 5,500
lakh = Rs 229 lakh (rounded off) Building – Rs 700 lakh x Rs 3,700 lakh / Rs 5,500 lakh = Rs 471
lakh (rounded off)

(ii) Measurement of the manufacturing unit as on the date of classification as at the year end
The measurement as at the year-end shall be on similar lines as done above. The assets and
liabilities in the disposal group not within the scope of this Standard are measured as per the
respective standards. The fair value less cost to sell of the disposal group as a whole is
calculated. This fair value less cost to sell as at the year-end shall be compared with the carrying
value as at the date of classification as held for sale. It is provided that the fair value as on the
year end is less than the carrying amount as on that date – thus the impairment loss shall be
allocated in the same way between the assets of the disposal group falling within the scope of
this standard as shown above. Measurement of the manufacturing unit as on the date of
classification as at the year-end shall be on similar lines as done above.

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Question 12

G Ltd. is a wholly owned subsidiary of U Ltd. engaged in management consultancy services.

On 31st January, 20X2, the board of directors of U Ltd. decided to discontinue the business of
G Ltd. from 30th April, 20X2. They made a public announcement of their decision on 15th
February, 20X2.

G Ltd. does not have many assets or liabilities and it is estimated that the outstanding trade
receivables and payables would be settled by 31st May, 20X2. U Ltd. would collect any
amounts still owed by G Ltd.’s customers after 31st May, 20X2. They have offered the
employees of G Ltd. termination payments or alternative employment opportunities.

Following are some of the details relating to G Ltd.:

- On the date of public announcement, it is estimated by G Ltd. that it would have to pay Rs
540 lakhs as termination payments to employees and the costs for relocation of employees
who would remain with the Group would be Rs 60 lakhs. The actual termination payments
totalling to Rs 520 lakhs were made in full on 15th May, 20X2. As per latest estimates made
on 15th May, 20X2, the total relocation cost is Rs 63 lakhs.

- G Ltd. had taken a property on lease, which was expiring on 31st March, 20X6. The present
value of the future lease rentals (using an appropriate discount rate) is Rs 430 lakhs. On 15th
May, 20X2, G Ltd. made a payment to the lessor of Rs 410 lakhs in return for early
termination of the lease. The loss after tax of G Ltd. for the year ended 31st March, 20X2 was
Rs 400 lakhs. G Ltd. made further operating losses totalling Rs 60 lakhs till 30th April, 20X2.
What are the provisions that the Company is required to make as per lnd AS 37 as on 31st
March, 20X2?

(MTP Sep ‘23)

Answer 12

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A discontinued operation is one that is discontinued in the period or classified as held for sale at
the year end. The operations of G Ltd were discontinued on 30th April, 20X2 and therefore,
would be treated as discontinued operation for the year ending 31st March, 20X3. It does not
meet the criteria for held for sale since the company is terminating its business and does not
hold these for sale.

As per para 72 of Ind AS 37 ‘Provisions, Contingent Liabilities and Contingent Assets’,

restructuring includes sale or termination of a line of business. A constructive obligation to
restructure arises when an entity:

(a) has a detailed formal plan for the restructuring

(b) has raised a valid expectation in those affected that it will carry out the restructuring by
starting to implement that plan or announcing its main features to those affected by it.

The Board of directors of U Ltd have decided to terminate the operations of G Ltd. from 30th
April, 20X2. They have made a formal announcement on 15th February, 20X2, thus creating a
valid expectation that the termination will be implemented.

This creates a constructive obligation on the company and requires provisions for restructuring.

A restructuring provision includes only the direct expenditures arising from the restructuring
that are necessarily entailed by the restructuring and are not associated with the on going
activities of the entity.

The termination payments fulfil the above condition. As per Ind AS 10 ‘Events after Reporting
Date’, events that provide additional evidence of conditions existing at the reporting date
should be reflected in the financial statements. Therefore, the company should make a
provision for Rs 520 lakhs in this respect.

The relocation costs relate to the future conduct of the business and are not liabilities for
restructuring at the end of the reporting period. Hence, these would be recognised on the same
basis as if they arose independently of a restructuring.

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The lease would be regarded as an onerous contract. A provision would be made at the lower
of the cost of fulfilling it and any compensation or penalties arising from failure to fulfil it.
Hence, a provision shall be made for Rs 410 lakhs.

Further operating losses relate to future events and do not form a part of the closure provision.
Therefore, the total provision required = Rs 520 lakhs + Rs 410 lakhs = Rs 930 lakhs

Question 13

Following is the extract of the consolidated financial statements of A Ltd. for the year ended
on:

Asset/ (liability) Carry amount as on 31st March,

20X1 (In Rs. ‘000)

Attributed goodwill 200

Intangible assets 950

Financial asset measured at fair value through other 300

comprehensive income

Property, plant & equipment 1100

Deferred tax asset 250

Current assets – inventory, receivables and cash balances 600

Current liabilities (850)

Non-current liabilities – provisions (300)

Total 2,250

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On 15th September 20X1, Entity A decided to sell the business. It noted that the business
meets the condition of disposal group classified as held for sale on that date in accordance
with Ind AS 105. However, it does not meet the conditions to be classified as discontinued
operations in accordance with that standard. The disposal group is stated at the following
amounts immediately prior to reclassification as held for sale.

Asset/ (liability) Carry amount as on 15th

September 20X1 (In Rs. ‘000)

Attributed goodwill 200

Intangible assets 930

Financial asset measured at fair value through other 360

comprehensive income

Property, plant & equipment 1,020

Deferred tax asset 250

Current assets – inventory, receivables and cash balances 520

Current liabilities (870)

Non-current liabilities – provisions (250)

Total 2,160

Entity A proposed to sell the disposal group at Rs. 19,00,000. It estimates that the costs to sell
will be Rs. 70,000. This cost consists of professional fee to be paid to external lawyers and
accountants.

As at 31st March 20X2, there has been no change to the plan to sell the disposal group and
entity A still expects to sell it within one year of initial classification. Mr. X, an accountant of

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Entity A premeasured the following assets/ liabilities in accordance with respective standards
as on 31st March 20X2:

Available for sale: (In Rs. ‘000)

Financial assets 410

Deferred tax assets 230

Current assets- Inventory, receivables and cash balances 400

Current liabilities 900

Non- current liabilities- provisions 250

The disposal group has not been trading well and its fair value less costs to sell has fallen to
Rs. 16,50,000.

Required:

What would be the value of all assets/ labilities within the disposal group as on the following
dates in accordance with Ind AS 105?

(a) 15 September, 20X1 and

(b) 31st March, 20X2

(RTP May 18)

Answer 13

(a) As at 15 September, 20X1 The disposal group should be measured at Rs. 18,30,000
(19,00,000-70,000). The impairment write down of Rs. 3,30,000 (Rs. 21,60,000 – Rs. 18,30,000)
should be recorded within profit from continuing operations. The impairment of Rs. 3,30,000
should be allocated to the carrying values of the appropriate non-current assets.

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Asset/ (liability) Carrying value as at 15 Impairment Revised carrying
June 2004 value as per IND
AS 105

Attributed goodwill 200 (200) -

Intangible assets 930 (62) 868

Financial asset measured at 360 - 360

fair value through other
comprehensive income

Property, plant & equipment 1,020 (68) 952

Deferred tax asset 250 - 250

Current assets – inventory, 520 - 520

receivables and cash
balances

Current liabilities (870) - (870)

Non-current liabilities – (250) - (250)

provisions

Total 2,160 (330) 1,830

impairment loss is allocated first to goodwill and then pro rata to the other assets of the
disposal group within Ind AS 105 measurement scope. Following assets are not in the
measurement scope of the standard- financial asset measured at other comprehensive income,
the deferred tax asset or the current assets. In addition, the impairment allocation can only be
made against assets and is not allocated to liabilities.

(b) As on 31 March. 20X2:

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All of the assets and liabilities, outside the scope of measurement under IFRS 5, are remeasured
in accordance with the relevant standards. The assets that are remeasured in this case under
the relevant standards are the Financial asset measured at fair value through other
comprehensive income (Ind AS 109), the deferred tax asset (Ind AS 12), the current assets and
liabilities (various standards) and the non-current liabilities (Ind AS 37).

Asset/ (liability) Carrying amount Change in value Impairment Revised

as on 15 to 31st March carrying value
September, 20X1 20X2 as per Ind AS
105

Attributed goodwill - - - -

Intangible assets 868 - (29) 839

Financial asset 360 50 - 410

measured at fair
value through other
comprehensive
income

Property, plant & 952 - (31) 921

equipment

Deferred tax asset 250 (20) - 230

Current assets – 520 (120) - 400

inventory,
receivables and cash
balances

Current liabilities (870) (30) - (900)

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Non-current liabilities (250) - - (250)
– provisions

Total 1,830 (120) (60) 1,650

Question 14

X Ltd. acquires B Ltd. exclusively with a view to sale and it meets the criteria to be classified
as discontinued operation as per Ind AS 105. Further, following information is available about
B Ltd.:

Fair value of total assets excluding liabilities on acquisition Rs 360

Costs to sell as on acquisition and on reporting date Rs 10

Fair value of liabilities on acquisition and reporting date Rs 80

Fair value of total assets excluding liabilities on the reporting date Rs 340

How discontinued operation pertaining to B Ltd. should be measured in consolidated

financial statements of X Ltd. on acquisition date and reporting date?

(RTP May ’22)

Answer 14

Ind AS 105 defines a disposal group as a group of assets to be disposed of, by sale or otherwise,
together as a group in a single transaction, and liabilities directly associated with those assets
that will be transferred in the transaction. The group includes goodwill acquired in a business
combination if the group is a cash generating unit to which goodwill has been allocated in
accordance with the requirements of paragraphs 80 –87 of Ind AS 36, Impairment of Assets, or
if it is an operation within such a cash- generating unit.

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In the given case, B Ltd. is acquired exclusively with a view to sell and meets the criteria to be
classified as discontinued operation.

The discontinued operation would be measured in accordance with paragraphs 15 and 16 of

Ind AS 105

As per para 15, an entity shall measure a non-current asset (or disposal group) classified as held
for sale at the lower of its carrying amount and fair value less costs to sell.

As per para 16, if a newly acquired asset (or disposal group) meets the criteria to be classified as
held for sale (see paragraph 11), applying paragraph 15 will result in the asset (or disposal
group) being measured on initial recognition at the lower of its carrying amount had it not been
so classified (for example, cost) and fair value less costs to sell. Hence, if the asset (or disposal
group) is acquired as part of a business combination, it shall be measured at fair value less costs
to sell.

Therefore, on acquisition date, in line with paragraph 16, X Ltd. will measure B Ltd. as a disposal
group at fair value less costs to sell which will be calculated as Fair value of total assets
excluding liabilities on acquisition – Costs to sell = Rs 360 – Rs 10 = Rs 350.

Fair value of liabilities on acquisition = Rs 80.

At the reporting date, in line with paragraph 15, X Ltd. will remeasure the disposal group at the
lower of its cost and fair value less costs to sell which will be calculated as:

Fair value of total assets excluding liabilities on subsequent reporting date – Costs to sell

= Rs 340 – Rs 10 = Rs 330

Fair value of liabilities on reporting date = Rs 80.

At the reporting date, X Ltd. shall present these assets and liabilities separately from other
assets and liabilities in its consolidated financial statements.

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In the statement of profit and loss, X Ltd. shall recognise loss on subsequent measurement (of
net assets at fair value) of B Ltd. which equals to Rs 20 (Rs 270 – Rs 250).

Question 15

Black Ltd. is a manufacturing company. The following balances as at 31st March, 2021 are
from the audited Financial Statements and as at 30th September, 2021 & 31st March, 2022
are provided by the accountant of Black Ltd:

Asset / (Liability) Carrying Amount as at (Rs in lakh)

31.3.2021 30.9.2021 31.3.2022

Attributed goodwill 2,560 2,560

Intangible assets 12,680 11,080

Financial assets measured at Fair Value 4,310 5,260 7,310

through Other Comprehensive Income
(FVTOCI)

Property 16,820 18,670

, plant & equipment

Deferred tax assets 3,120 3,120 2,970

Current assets: inventory, receivables, cash & 8,640 7,040 4,860

cash equivalents

Current liabilities (11,110) (13,230) (16,190)

Non-current liabilities: Provisions (3,670) (4,610) (4,610)

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Total 33,350 29,890 (5,660)

Black Ltd. decided to sell the business on 30th September, 2021. The business meets the
condition of disposal group classified as held for sale on that date in accordance with Ind AS
105. However, it does not meet the conditions to be classified as discontinued operations in
accordance with Ind AS 105. Black Ltd. proposed to sell the disposal group at Rs 26,000 lakh.
The costs to sell is estimated at Rs 200 lakh. As at 31st March, 2022, there has been no
change to the plan to sell the disposal group and Black Ltd. still expects to sell it within one
year of initial classification. The disposal group has not been trading well and its fair value
less costs to sell has fallen to Rs 19,738 lakh. You are asked to calculate the value of all assets
/ liabilities within the disposal group as at 30th September, 2021 and 31st March, 2022 in
accordance with Ind AS 105.

(PYP May ‘22)

Answer 15

(a) As at 30thSeptember, 2021

The disposal group should be measured at Rs 25,800 lakh (Rs 26,000 lakh - Rs 200 lakh). The
impairment write down of Rs 4,090 lakh (Rs 29,890 lakh – Rs 25,800 lakh) should be recorded
within profit from continuing operations.

The impairment of Rs 4,090 should be allocated to the carrying values of the appropriate non-
current assets.

Asset / (liability) Carrying value as at Impairment Revised carrying

30th September, 2021 value as per Ind AS
105

Attributed goodwill 2,560 (2,560) -

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Intangible assets 11,080 (570)* 10,510

Financial asset measured 5,260 - 5,260

at fair value through other
comprehensive income

Property, plant & 18,670 (960) 17,710

equipment

Deferred tax asset 3,120 - 3,120

Current assets – inventory, 7,040 - 7,040

receivables and cash
balances

Current liabilities (13,230) - (13,230)

Non-current liabilities – (4,610) - (4,610)

provisions

Total 29,890 (4,090) 25,800

*[(4,090 – 2,560) {11,080/(11,080 + 18,670)}]

[(4,090 – 2,560) {18,670/(11,080 + 18,670)}]

The impairment loss is allocated first to goodwill and then pro-rata to the other assets of the
disposal group within Ind AS 105 measurement scope. Following assets are not in the
measurement scope of this standard- financial asset measured at other comprehensive income,
the deferred tax asset or the current assets. In addition, the impairment allocation can only be
made against assets and is not allocated to liabilities.

(b) As on 31st March, 2022

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All the assets and liabilities, outside the scope of measurement under Ind AS 105, are
remeasured in accordance with the relevant standards. The assets that are remeasured in this
case under the relevant standards are the financial asset measured at fair value through other
comprehensive income (Ind AS 109), the deferred tax asset (Ind AS 12), the current assets and
liabilities (various standards) and the non-current liabilities (Ind AS 37).

Asset / (liability) Carrying amount Change in value Impairment Revise d

as on 30th to 31st March, carrying value
September, 2021 2022 as per Ind AS
105

Attributed goodwill - - - -

Intangible assets 10,510 - (1,051)* 9,459

Financial asset 5,260 2,050 - 7,310

measured at fair
value through other
comprehensive
income

Property, plant & 17,710 - (1,771) 15,939

equipment

Deferred tax asset 3,120 (150) - 2,970

Current assets – 7,040 (2,180) - 4,860

inventory,
receivables and cash
balances

Current liabilities (13,230) (2,960) - (16,190)

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Non-current liabilities (4,610) - - (4,610)
– provisions

Total 25,800 (3,240) (2822) 19,738

*[2,822 {10,510 /(10,510 + 17,710)}]

[2,822 {17,710 /(10,510 + 17,710)}]

Question 16

On 1st June, 20X1, entity X plans to sell a group of assets and liabilities, which is classified as a
disposal group. On 31st July, 20X1, the Board of Directors approves and becomes committed
to the plan to sell the manufacturing unit by entering into a firm purchase commitment with
entity Y. However, since the manufacturing unit is regulated, the approval from the regulator
is needed for sale. The approval from the regulator is customary and highly probable to be
received by 30th November, 20X1 and the sale is expected to be completed by 31st March,
20X2. Entity X follows December year end. The assets and liabilities attributable to this
manufacturing unit are as under:

(Amount in Rs)

Particulars Carrying value as on 31st Carrying value as on 31st

December, 20X0 July, 20X1

Goodwill 500 500

Plant and Machinery 1,000 900

Building 2,000 1,850

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Debtors 850 1,050

Inventory 700 400

Creditors (300) (250)

Loans (2,000) (1,850)

2,750 2,600

The fair value of the manufacturing unit as on 31st December, 20X0 is Rs 2,000 and as on 31st
July, 20X1 is Rs 1,850. The cost to sell is Rs 100 on both these dates. The disposal group is not
sold at the period end i.e., 31st December, 20X1. The fair value as on 31st December, 20X1 is
lower than the carrying value of the disposal group as on that date.

Required:

1. Assess whether the manufacturing unit can be classified as held for sale and reasons there
for. If yes, then at which date?

2. The measurement of the manufacturing unit as on the date of classification as held for sale.

3. The measurement of the manufacturing unit as at the end of the year.

(Study material)

Answer 16

Assessing whether the manufacturing unit can be classified as held for sale

The manufacturing unit can be classified as held for sale due to the following reasons:

(a) The disposal group is available for immediate sale and in its present condition. The
regulatory approval is customary and it is expected to be received in one year. The date at

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which the disposal group must be classified as held for sale is 31 st July, 20X1, i.e., the date at
which management becomes committed to the plan.

(b) The sale is highly probable as the appropriate level of management i.e., board of directors in
this case have approved the plan.

(c) A firm purchase agreement has been entered with the buyer.

(d) The sale is expected to be complete by 31st March, 20X2, i.e., within one year from the date
of classification.

Measurement of the manufacturing unit as on the date of classification as held for sale
Following steps need to be followed:

Step 1: Immediately before the initial classification of the asset (or disposal group) as held for
sale, the carrying amounts of the asset (or all the assets and liabilities in the group) shall be
measured in accordance with applicable Ind AS.

This has been done and the carrying value of the disposal group as on 31st July, 20X1 is
determined at Rs 2,600. The difference between the carrying value as on 31st December, 20X0
and 31st July, 20X1 is accounted for as per the relevant Ind AS.

Step 2: An entity shall measure a non-current asset (or disposal group) classified as held for sale
at the lower of its carrying amount and fair value less costs to sell. The fair value less cost to sell
of the disposal group as on 31st July, 20X1 is Rs 1,750 (i.e.1,850-100). This is lower than the
carrying value of Rs 2,600. Thus, an impairment loss needs to be recognised and allocated first
towards goodwill and thereafter pro-rata between assets of the disposal group which are
within the scope of Ind AS 105 based on their carrying value. Thus, the assets will be measured
as under:

Particulars Carrying value – Impairment Carrying value as

31st July, 20X1 per Ind AS 105 –

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 31st July, 20X1

Goodwill 500 (500) -

Plant and Machinery 900 (115) 785

Building 1,850 (235) 1,615

Debtors 1,050 - 1,050

Inventory 400 - 400

Creditors (250) - (250)

Loans (1,850) - (1,850)

2,600 (850) 1,750

Measurement of the manufacturing unit as on the date of classification as at the year end

The measurement as at the year-end shall be on similar lines as done above. The assets and
liabilities in the disposal group not within the scope of this Standard are measured as per the
respective Standards.

The fair value less cost to sell of the disposal group as a whole is calculated. This fair value less
cost to sell as at the year-end shall be compared with the carrying value as at the date of
classification as held for sale. It is provided that the fair value as on the year end is less than the
carrying amount as on that date – thus the impairment loss shall be allocated in the same way
between the assets of the disposal group falling within the scope of this standard as shown
above.

Question 17

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CK Ltd. prepares the financial statement under Ind AS for the quarter year ended 30th June,
20X1. During the 3 months ended 30th June, 20X1 following events occurred:

On 1st April, 20X1, the Company has decided to sell one of its divisions as a going concern
following a recent change in its geographical focus. The proposed sale would involve the
buyer acquiring the non-monetary assets (including goodwill) of the division, with the
Company collecting any outstanding trade receivables relating to the division and settling any
current liabilities.

On 1st April, 20X1, the carrying amount of the assets of the division were as follows:

- Purchased Goodwill – Rs 60,000

- Property, Plant & Equipment (average remaining estimated useful life two years) - Rs
20,00,000

- Inventories - Rs 10,00,000

From 1st April, 20X1, the Company has started to actively market the division and has
received number of serious enquiries. On 1st April, 20X1 the directors estimated that they
would receive Rs. 32,00,000 from the sale of the division.

Since 1st April, 20X1, market condition has improved and as on 1st August, 20X1 the
Company received and accepted a firm offer to purchase the division for Rs 33,00,000.

The sale is expected to be completed on 30th September, 20X1 and Rs 33,00,000 can be
assumed to be a reasonable estimate of the value of the division as on 30 th June, 20X1.
During the period from 1st April to 30th June inventories of the division costing Rs 8,00,000
were sold for Rs 12,00,000. At 30th June, 20X1, the total cost of the inventories of the division
was Rs 9,00,000. All of these inventories have an estimated net realisable value that is in
excess of their cost.

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The Company has approached you to suggest how the proposed sale of the division will be
reported in the interim financial statements for the quarter ended 30 th June, 20X1 giving
relevant explanations.

(Study material)

Answer 17

The decision to offer the division for sale on 1st April, 20X1 means that from that date the
division has been classified as held for sale. The division available for immediate sale, is being
actively marketed at a reasonable price and the sale is expected to be completed within one
year.

The consequence of this classification is that the assets of the division will be measured at the
lower of their existing carrying amounts and their fair value less cost to sell. Here the division
shall be measured at their existing carrying amount ie Rs 30,60,000 since it is less than the fair
value less cost to sell Rs 32,00,000.

The increase in expected selling price will not be accounted for since earlier there was no
impairment to division held for sale.

The assets of the division need to be presented separately from other assets in the balance
sheet. Their major classes should be separately disclosed either on the face of the balance
sheet or in the notes.

The Property, Plant and Equipment shall not be depreciated after 1st April, 20X1 so its carrying
value at 30th June, 20X1 will be Rs 20,00,000 only. The inventories of the division will be shown
at Rs 9,00,000.

The division will be regarded as discontinued operation for the quarter ended 30th June, 20X1.
It represents a separate line of business and is held for sale at the year end.

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The Statement of Profit and Loss should disclose, as a single amount, the post-tax profit or loss
of the division on classification as held for sale.

Further, as per Ind AS 33, EPS will also be disclosed separately for the discontinued operation.

Topic 3: Subsequent Measurement and Reversals

Question 18

Company X has identified one of its division (disposal group) to be sold to a prospective buyer
and the Board has approved the plan to sell the division on 30th September, 20X1. The sale is
expected to complete after one year but it still qualifies to be held for sale under Appendix B
of Ind AS 105. Costs to sell the division is estimated to be Rs 10 crores (to be incurred in
March, 20X3). The fair value of the division is Rs 400 crores (on 30th September, 20X1 and
31st March, 20X2) and carrying value is Rs 500 crores.

How shall such a division (disposal group) be measured under Ind AS 105 on following
reporting dates:

A. 30th September, 20X1

B. 31st March, 20X2

Consider the discounting factor @ 10% for 1 year to 0.909 and fo r 1.5 years to be 0.867.

(RTP Nov ’23)

Answer 18

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Paragraph 15 of Ind AS 105 states that an entity shall measure a non-current asset (or disposal
group) classified as held for sale at the lower of its carrying amount and fair value less costs to
sell.

Further, paragraph 17 of Ind AS 105 states that when the sale is expected to occur beyond one
year, the entity shall measure the costs to sell at their present value. Any increase in the
present value of the costs to sell that arises from the passage of time shall be presented in
profit or loss as a financing cost.

Company X has identified a disposal group and is committed to sell the same. The sale is
expected to be completed after a period of one year hence, it will measure the costs to sell
such disposal group at present value as per paragraph 17 of Ind AS 105.

A. On 30th September, 20X1

The disposal group will be measured at fair value less costs to sell which will be as follows:

Fair value: Rs 400.00 crores

PV of costs to sell: (Rs 8.67 crores) (Rs 10 crores 0.867)

Total: Rs 391.33 crores

B. On 31st March, 20X1

The disposal group will be measured at fair value less costs to sell which will be as follows:

Fair value: Rs 400.00 crores

PV of costs to sell: (Rs 9.09 crores) (10 0.909)

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Total: Rs 390.91 crores

The increase in costs to sell the division by Rs 0.42 crore (Rs 9.09 crores – Rs 8.67 crores) will be
recognised in profit and loss as financing cost in accordance with paragraph 17 of Ind AS 105.

Topic 4: Discontinued Operations

Question 19

On 1st January, 20X1, the carrying amounts of the relevant assets of the division of an entity,
Star Ltd. were as follows:

• Purchased goodwill Rs 1.2 lakhs;

• Property, plant and equipment (average remaining estimated useful life two years) Rs 4
lakhs;

• Inventories Rs 2 lakhs.

From 1st January, 20X1, Star Ltd. began to actively market the division and has received a
number of serious enquiries.

On 1st January, 20X1, the directors estimated that they would receive Rs 6.4 lakhs from the
sale of the division. Since 1st January, 20X1, market conditions have improved and on 30th
April, 20X1, Star Ltd. received and accepted a firm offer to purchase the division for Rs 6.6
lakhs. The sale is expected to be completed on 30th June, 20X1.

Rs 6.6 lakhs can be assumed to be a reasonable estimate of the value of the division on 31st
March, 20X1.

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During the period from 1st January 20X1 to 31st March, 20X1, inventories of the division
costing Rs 1.6 lakhs were sold for Rs 2.4 lakhs. At 31st March, 20X1, the total cost of the
inventories of the division was Rs 1.8 lakhs. All of these inventories have an estimated net
realizable value that is in excess of their cost.

Explain the disclosure requirement related to sale of division and provide the accounting
treatment of property held for sale and discontinued operations.

(RTP May ’23)

Answer 19

The decision to offer the division for sale on 1st January, 20X1 means that from that date the
division is classified as held for sale. The division available for immediate sale, is being actively
marketed at a reasonable price, and the sale is expected to be completed within one year.

The consequence of this classification is that the assets of the division will be measured at the
lower of their existing carrying amounts ( Rs 7.20 lakhs i.e. Goodwill Rs 1.2 lakh + PPE Rs 4 lakhs
+ Inventory Rs 2 lakhs) and their fair value less costs to sell (Rs 6.40 lakhs).

This implies that the assets of the division will be measured at Rs 6.40 lakhs on 1st January,
20X1.

The reduction in carrying value of the assets of Rs 0.80 lakhs (Rs 7.20 lakhs – Rs 6.40 lakhs) will
be treated as an impairment loss and allocated to goodwill, leaving a carrying amount for
goodwill of Rs 0.40 lakhs (Rs 1.20 lakhs – Rs 0.80 lakhs).

The increased expectation of the selling price of Rs 0.20 lakhs (Rs 6.60 lakhs – Rs 6.40 lakhs) will
be treated as a reversal of an impairment loss. However, since this reversal relates to goodwill,
it cannot be recognised.

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The assets of the division need to be presented separately from other assets in the balance
sheet. Their major classes of assets classified as held for sale should be separately disclosed,
either in the balance sheet or in the notes.

The property, plant and equipment should not be depreciated after 1st January, 20X1, so it’s
carrying value at 31st March, 20X1 will be Rs 4 lakhs. The inventories of the division will be
shown at their year-end cost of Rs 1.80 lakhs.

The division will be regarded as a discontinued operation for the year ended 31st March, 20X1.
It will represent a separate line of business and will be held for sale at the year end.

The statement of profit and loss should disclose, as a single amount, the post-tax profit or loss
of the division and the impairment loss arising on the re-measurement of the division on
classification as held for sale. Further analysis of this single amount may be presented in the
notes or in the statement of profit and loss. If it is presented in the statement of profit and loss
it shall be presented in a section identified as relating to discontinued operations, i.e.
separately from continuing operations.

Question 20

ICAI Illustration

Entity ABC owns an item of property and it was stated at the following amounts in its last
financial statements:

31st March 20X1 Rs

Cost 12,00,000

Depreciation (6,00,000)

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Net book value 6,00,000

The asset is depreciated at an annual rate of 10% i.e. Rs 1,20,000 p.a. Entity ABC closes its
books as on 31st March each year. During July, 20X1, entity ABC decides to sell the asset and
on 1st August it meets the conditions to be classified as held for sale. Analyse.

(Study material)

Answer

At 31st July, entity ABC should ensure that the asset is measured in accordance with Ind AS 16.
It should be depreciated by further Rs 40,000 (Rs 1,20,000 4/12) and should be carried at Rs
5,60,000 before it is measured in accordance with Ind AS 105. Note: From the date the asset is
classified as held for sale no further depreciation will be charged.

Topic 5: Special Scenarios (Onerous Contracts, Contaminated Land,

Regulatory Delays)

Question 21

A Ltd. is to sell a non-current asset, being a piece of land. The piece of land has been
contaminated and will require the entity to carry out Rs. 100,000 of work in order to rectify
the contamination. If the land was not contaminated, it could be sold for Rs. 300,000. With
the contamination, it is worth only Rs. 200,000. The work that is needed to rectify the
contamination will extend the period of sale by one year from the date the land is first
marketed for sale.

Required:

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In the following situations, examine with suitable reasons whether land can be classified as
held for sale in accordance with Ind AS 105: Non-current assets held for sale and discontinued
operations

Situation 1 The land is marketed for Rs. 300,000 and A Ltd. was not aware of the
contamination till the time a firm purchase commitment was signed with a purchaser. The
purchaser found the contamination through a survey. The purchaser signed the firm purchase
commitment on condition that the contamination damage will be rectified.

Situation 2 A Ltd. marketed the land for Rs. 300,000, knowing about the contamination when
the proposal to sale the land went in the market. However, A Ltd. marketed it with an
agreement that it would carry out the rectification work within few months from signing the
firm purchase commitment.

Situation 3A Ltd. knew about the contamination prior to float the proposal to sell the land
and markets it for Rs. 200,000 with no obligation on itself to rectify or fix the contamination.

(MTP April ‘18)

Answer 21

Situation 1

As far as the entity was aware, the land was marketed and available for immediate sale in its
present condition at a reasonable price. The event extending the one-year period was imposed
by the buyer after the firm purchase commitment was received and the entity is taking steps to
address it. The land qualifies as held for sale and continues to do so after it is required to carry
out the rectification work.

Situation 2

The land is not available for immediate sale in its present condition when it is first marketed. It
is being marketed at a price that involves further work to the land. It cannot be classified as

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held for sale when it is first marketed. It also cannot be classified as held for sale when a
purchase commitment is received, because even then it is not for sale in its present condition
and no conditions have been unexpectedly imposed. The land will not be classified as held for
sale until the rectification work is actually carried out.

Situation 3

The land in this case is available for immediate sale in its present condition and it would qualify
to be classified as held for sales since it is being marketed at reasonable price.

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 Chapter 5 Unit-8

Ind AS 116: “Leases”

Topic 1 : Lease Definition & Identification

Question 1

Lessee enters into a 10 years lease for 6000 square metres of office space. The annual lease
payments are Rs 1,00,000 payable at the end of each year. The interest rate implicit in the
lease cannot be readily determined. Lessee's incremental borrowing rate at the
commencement date is 8% p.a. At the beginning of the 6th year, lessee and lessor agree to
amend the original lease to reduce the space to only 3,000 square metres of the original
space starting from the first quarter of year 6. The annual fixed lease payments (from year 6
to year 10) are Rs 60,000. Lessee's incremental borrowing rate at-the beginning of year 6 is
6% p.a. You are required to analyse the effect of the said modification and give journal
entries for the same in the books of Lessee.

Note: Give your calculation by adopting the present value factor as:

Year 1 2 3 4 5 6 7 8 9 10

8% 0.9259 0.8573 0.7938 0.7350 0.6806 0.6302 0.5835 0.5403 0.5002 0.4632

6% 0.9434 0.8900 0.8396 0.7921 0.7473 0.7050 0.6651 0.6274 0.5919 0.5584

(PYP Nov 22)

Answer 1

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In the books of Lessee Calculation of ROU asset and lease liability before modification:

Lease Liability ROU asset

Initial Lease Interest Closing Initial Depreciation Closing

value payments expense balance Value balance
Year
@ 8%

a b c=a d = a-b + e F g
8% c

1 6,71,000 1,00,000 53,680 6,24,680 6,71,000 67,100 6,03,900

(Refer
W.N.)

2 6,24,680 1,00,000 49,974 5,74,654 6,03,900 67,100 5,36,800

3 5,74,654 1,00,000 45,972 5,20,626 5,36,800 67,100 4,69,700

4 5,20,626 1,00,000 41,650 4,62,276 4,69,700 67,100 4,02,600

5 4,62,276 1,00,000 36,982 3,99,258 4,02,600 67,100 3,35,500

6 3,99,258 3,35,500

At the effective date of the modification (at the beginning of Year 6), Lessee remeasures the
lease liability based on:

(a) A five-year remaining lease term,

(b) Annual payments of Rs 60,000 and

(c) Lessee’s incremental borrowing rate of 6% p.a.

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 Year Lease Payment(A) Present value factor Present value of
@ 6% (B) lease payments (A
B = C)

6 60,000 0.9434 56,604

7 60,000 0.8900 53,400

8 60,000 0.8396 50,376

9 60,000 0.7921 47,526

10 60,000 0.7473 44,838

Total 2,52,744

Lessee determines the proportionate decrease in the carrying amount of the ROU Asset on the
basis of the remaining ROU Asset (i.e., 3,000 square metres corresponding to 50% of the
original ROU Asset). 50% of the pre-modification ROU Asset (Rs 3,35,500)

Alternative manner of above calculation:

Annual lease payments Sum of PVF from year 6th year to 10th year @ 6% discount rate = Rs
60,000 4.2124 = Rs 2,52,744

is Rs 1,67,750. 50% of the pre modification lease liability (Rs 3,99,258) is Rs 1,99,629.
Consequently, lessee reduces the carrying amount of the ROU Asset by Rs 1,67,750 and the
carrying amount of the lease liability by Rs 1,99,629 and recognises the difference between the
decrease in the lease liability and the decrease in the ROU Asset (Rs 1,99,629 – Rs 1,67,750 = Rs

31,879) as a gain in profit or loss account at the effective date of the modification (at the
beginning of Year 6).

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 Journal Entry

Particulars Debit (Rs) Credit (Rs)

Lease Liability Dr. 1,99,62 9

To ROU Asset 1,67,750

To Profit & Loss 31,879

Lessee recognises the difference between the reduced 50% lease liability of Rs 1,99,629 and the
modified lease liability of Rs 2,52,744 (which equals Rs 53,115) as an adjustment to the ROU
Asset reflecting the change in the consideration paid for the lease and the revised discount
rate.

Journal Entry

Particulars Debit (Rs) Credit (Rs)

ROU Asset Dr. 53,115

To Lease Liability 53,115

Working Note:

Calculation of Initial value of ROU asset and lease liability:

Year Lease Payment(A) Present value factor Present value of

@ 8% (B) lease payments (A
B = C)

1 1,00,000 0.9259 92,590

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 2 1,00,000 0.8573 85,730

3 1,00,000 0.7938 79,380

4 1,00,000 0.7350 73,500

5 1,00,000 0.6806 68,060

6 1,00,000 0.6302 63,020

7 1,00,000 0.5835 58,350

8 1,00,000 0.5403 54,030

9 1,00,000 0.5002 50,020

10 1,00,000 0.4632 46,320

6,71,000

Alternative manner of above calculation:

Annual lease payments x Sum of PVF from year 1 to 10 @ 8% discount rate

= Rs 1,00,000 x 6.71 = Rs 6,71,000

Note: It is assumed that even after modification, annual lease payment will continue to be
made at the end of the year as mentioned under the original terms of the lease.

Question 2

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Venus Ltd. (Seller-lessee) sells a building to Mars Ltd. (Buyer-lessor) for cash of Rs. 28,00,000.
Immediately before the transaction, the building is carried at a cost of Rs. 13,00,000. At the
same time, Seller- lessee enters into a contract with Buyer-lessor for the right to use the
building for 20 years, with an annual payment of Rs. 2,00,000 payable at the end of each year.

The terms and conditions of the transaction are such that the transfer of the building by
Seller-lessee satisfies the requirements for determining when a performance obligation is
satisfied in accordance with Ind AS 115 "Revenue from Contracts with Customers".

The fair value of the building at the date of sale is Rs. 25,00,000. Initial direct costs, if any, are
to be ignored. The interest rate implicit in the lease is 12% p.a., which is readily determinable
by Seller-lessee. Present Value (PV) of annual payments (20 payments of Rs. 2,00,000 each
discounted @ 12%) is Rs. 14,94,000.

Buyer-lessor classifies the lease of the building as an operating lease. How should the said
transaction be accounted by Venus Ltd.?

(PYP Nov’20)

Answer 2

Considering facts of the case, Venus Ltd. (seller-lessee) and Mars Ltd. (buyer-lessor) account for
the transaction as a sale and leaseback.

Firstly, since the consideration for the sale of the building is not at fair value, Seller lessee and
Buyer - lessor make adjustments to measure the sale proceeds at fair value.

Thus, the amount of the excess sale price of Rs. 3,00,000 (as calculated below) is recognized as
additional financing provided by Buyer-lessor to Seller-lessee.

Sale Price: 28,00,000

Less: Fair Value (at the date of sale): (25,00,000)

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Additional financing provided by Buyer-lessor to Seller-lessee 3,00,000

The present value of the annual payments is Rs. 14,94,000 (as given in the question). Out of this
Rs. 14,94,000, Rs. 3,00,000 relates to the additional financing (as calculated above) and balance
Rs. 11,94,000 relates to the lease.

Accounting by Venus Ltd. (seller-lessee):

At the commencement date, Seller-lessee measures the ROU asset arising from the leaseback
of the building at the proportion of the previous carrying amount of the building that relates to
the right-of-use retained by Seller-lessee, calculated as follows

Carrying Amount (A) 13,00,000

Fair Value (at the date of sale) (B) 25,00,000

Discounted lease payments for the 20 year ROU asset (C) 11,94,000

ROU Asset [(A / B) x C] 6,20,880

Seller-lessee recognizes only the amount of the gain that relates to the rights transferred to
Buyer-lessor, calculated as follows:

Fair Value (at the date of sale) (A) 25,00,000

Carrying Amount (B) 13,00,000

Discounted lease payments for the 20-year ROU asset (C) 11,94,000

Gain on sale of building (D) = (A - B) 12,00,000

Relating to the right to use the building retained by Seller-lessee (E)=[(D/A) C] 5,73,120

Relating to the rights transferred to Buyer-lessor (D - E) 6,26,880

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At the commencement date, Seller-lessee accounts for the transaction, as follows:

Bank / Cash A/c Dr. 28,00,000

ROU Asset A/c Dr. 6,20,880

To Building 13,00,000

To Financial Liability 14,94,000

To Gain on rights transferred 6,26,880

Question 3

UK Ltd. has installed Wind Turbine Equipment at Rajasthan to generate electricity for which it
has entered into a Power Purchase Agreement (PPA) with the State Government. The terms
of the PPA are as follows:

- The PPA is for an initial period of 3 years, renewable at mutual terms and conditions. The
Management estimates the useful life of such project around 20 years.

- The price per unit is fixed for a period of one year and is renewed every year as per the State
Government policy.

- The Company's Management is of the view that the power generated by the project will be
completely sold to the State Government and not to any third party. However, there is no
such restriction prescribed in the PPA.

- Currently the Company has classified the Wind Turbine Equipment as part of the Property,
Plant & Equipment and is charging depreciation on the same.

For the above PPA, which condition, as per the applicable Ind AS, is not relevant in
determining whether an arrangement is or contains a lease?

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(A) Use of Specific Assets;

B) Right to Operate the assets;

(C) Right to control the Physical access;

(D) Price is contractually fixed by the purchaser;

UK Ltd. also wants you to give your suggestion on the accounting of the above arrangement
under applicable Ind AS.

(MTP Oct ‘18)

Answer 3

As per paragraph 6 of Appendix C to Ind AS 17(Ind AS 116), “Determining whether an

arrangement is, or contains, a lease shall be based on the substance of the arrangement and
requires an assessment of whether:

(a) fulfilment of the arrangement is dependent on the use of a specific asset or assets (the
asset); and

(b) the arrangement conveys a right to use the asset.”

In the present case, the PPA with the State Government can be fulfilled by the use of the Wind
Turbine Equipment which is a specific asset. Accordingly, condition (a) above is satisfied. With
respect to condition (b), paragraph 9 of Appendix C to Ind AS 17 (Ind AS 116) provides as below:

“An arrangement conveys the right to use the asset if the arrangement conveys to the
purchaser (lessee) the right to control the use of the underlying asset. The right to control the
use of the underlying asset is conveyed if any one of the following conditions is met:

(a) The purchaser has the ability or right to operate the asset or direct others to operate the
asset in a manner it determines while obtaining or controlling more than an insignificant
amount of the output or other utility of the asset.

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(b) The purchaser has the ability or right to control physical access to the underlying asset while
obtaining or controlling more than an insignificant amount of the output or other utility of the
asset.

(c) Facts and circumstances indicate that it is remote that one or more parties other than the
purchaser will take more than an insignificant amount of the output or other utility that will be
produced or generated by the asset during the term of the arrangement, and the price that the
purchaser will pay for the output is neither contractually fixed per unit of output nor equal to
the current market price per unit of output as of the time of delivery of the output.”

Accounting of the PPA with the State Government under applicable Ind AS:

Continuing the rationale to the above, in the present case, criteria (c) above is fulfilled since:

• The entire output of Wind Turbine Equipment is estimated to be consumed by the purchaser
i.e. the State Government

• The price paid by the State Government includes an element of revision in price every year
which makes the price for the output variable.

Accordingly, the PPA with the State Government contains an embedded lease arrangement.

Further to determine whether the lease arrangement is an operating lease or a finance lease,
paragraph 10 of Ind AS 17 (Ind AS 116) provides certain examples (that individually or in
combination would normally lead to a lease being classified as a finance lease) which can be
analyzed as below:

(a) the lease transfers ownership of the asset to the lessee by the end of the lease term - Not
fulfilled, as the ownership is not transferred to the State Government.

(b) the lessee has the option to purchase the asset after completion of the agreement - Not
fulfilled, as the State Government doesn’t have an option to purchase the Wind Turbine
Equipment after the completion of PPA.

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(c) the lease term is for the major part of the economic life of the asset even if title is not
transferred - Not fulfilled, as the PPA is for 3 years whereas the useful life of the Wind Turbine
Equipment project is 20 years.

(d) at the inception of the lease the present value of the minimum lease payments amounts to
at least substantially all of the fair value of the leased asset –

Cannot be determined since the price per unit is not fixed for the entire tenure of the PPA.
Definition of the ‘inception of the lease’ (given in para 4 of Ind AS 17) inter alia states that in the
case of a finance lease, the amounts to be recognized at the commencement of the lease term
are determined. This implies that the given PPA is not a finance lease.

(e) the leased assets are of such a specialized nature that only the lessee can use them without
major modifications - Not fulfilled, as the asset is not specialized in nature.

Conclusion:

Based on the evaluation above, PPA with the State Government shall be accounted by UL Ltd.
as “Property, plant and equipment under an operating lease arrangement”.

Question 4

The Company has entered into a lease agreement for its retail store as on 1s t April, 20X1 for
a period of 10 years. A lease rental of Rs 56,000 per annum is payable in arrears. The
Company recognized a lease liability of Rs 3,51,613 at inception using an incremental
borrowing rate of 9.5% p.a. as at 1st April 20X1. As per the terms of lease agreement, the
lease rental shall be adjusted every 2 years to give effect of inflation. Inflation cost index as
notified by the Income tax department shall be used to derive the lease payments. Inflation
cost index was 280 for financial year 20X1-20X2 and 301 for financial year 20X3-20X4. The
current incremental borrowing rate is 8% p.a. Show the Journal entry at the beginning of year
3, to account for change in lease

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 (MTP Sep’22, RTP Nov’21)

Answer 4

As per para 27 (b) of Ind AS 116, variable lease payments that depend on an index or a rate, are
initially measured using the index or rate as at the commencement date. At the beginning of
the third year, Lessee remeasures the lease liability at the present value of eight payments of Rs
60,200 discounted at an original discount rate of 9.5% per annum as per para 43 of Ind AS 116.

Year Revised lease rental Discount factor @ Present value

9.5%

3 [(56,000 / 280) 301] = 0.913 54,963

60,200

4 60,200 0.834 50,207

5 60,200 0.762 45,872

6 60,200 0.696 41,899

7 60,200 0.635 38,277

8 60,200 0.580 34,916

9 60,200 0.530 31,906

10 60,200 0.484 29,137

3,27,127

Table showing amortised cost of lease liability

Year Opening balance Interest @ 9.5% Rental paid Closing balance

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 1 3,51,613 33,403 56,000 3,29,016

2 3,29,016 31,257 56,000 3,04,273

Difference of Rs 22,854 (3,27,127 – 3,04,273) will increase the lease liability with corresponding
increase in ROU Asset as per para 39 of Ind AS 116. Journal entry at the beginning of year 3
would be:

Right-of-use asset Dr. Rs 22,854

To Lease liability Rs 22,854

Question 5

How will Entity Y account for the incentive in the following scenarios:

Scenario A:

Entity Y (lessor) enters into an operating lease of property with Entity X (lessee) for a five-
year term at a monthly rental of Rs 1,10,000. In order to induce Entity X to enter into the
lease, Entity Y provides Rs 6,00,000 to Entity X at lease commencement for lessee
improvements (i.e., lessee’s assets).

Scenario B:

Entity Y (lessor) enters into an operating lease of property with Entity X (lessee) for a five-
year term at a monthly rental of Rs 1,10,000. At lease commencement, Entity Y provides Rs
6,00,000 to Entity X for leasehold improvements which will be owned by Entity Y (i.e., lessor’s
assets). The estimated useful life of leasehold improvements is 5 years.

(RTP May ’23)

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Answer 5

Para 70 of Ind AS 116 state that at the commencement date, the lease payments included in
the measurement of the net investment in the lease comprise the following payments for the
right to use the underlying asset during the lease term that are not received at the
commencement date:

(a) fixed payments (including in-substance fixed payments as described in para B42), less any
lease incentives payable;

(b) variable lease payments that depend on an index or a rate, initially measured using the
index or rate as at the commencement date;

(c) any residual value guarantees provided to the lessor by the lessee, a party related to the
lessee or a third party unrelated to the lessor that is financially capable of discharging the
obligations under the guarantee;

(d) the exercise price of a purchase option if the lessee is reasonably certain to exercise that
option (assessed considering the factors described in para B37); and

(e) payments of penalties for terminating the lease, if the lease term reflects the lessee
exercising an option to terminate the lease.

Further para 71 of the standard states that a lessor shall recognise lease payments from
operating leases as income on either a straight-line basis or another systematic basis. The lessor
shall apply another systematic basis if that basis is more representative of the pattern in which
benefit from the use of the underlying asset is diminished.”

Scenario A

In accordance with above, in the given case, at lease commencement, Entity Y accounts for the
incentive as follows:

To account for the lease incentive

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Deferred lease incentive Dr. Rs 6,00,000

To Cash Rs 6,00,000

Recurring monthly journal entries in Years 1 – 5

To record cash received on account of lease rental and amortisation of lease incentive over the
lease term

Cash Dr Rs 1,10,000

To Lease income Rs 1,00,000

To Deferred lease incentive Rs 10,000*

* This is calculated as Rs 6,00,000 ÷ 60 months.

Scenario B

Entity Y has provided lease incentive amounting to Rs 6,00,000 to Entity X for leasehold
improvements in the premises. As Entity Y has the ownership of the leasehold improvements
carried out by the lessee, it shall account for the same as property, plant and equipment and
shall depreciate the same over its useful life. In accordance with above, in the given case, at
lease commencement, Entity Y accounts for the incentive as follows:

To record the lease incentive

plant & Equipment Dr. Rs 6,00,000

To Cash Rs 6,00,000

Recurring monthly journal entries in Years 1 – 5

To record cash received on account of lease rental over the lease term

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Cash Dr Rs 1,10,000

To Lease income Rs 1,10,000

To record depreciation on PPE over the lease term using straight line method

Depreciation Dr. Rs 10,000

To Accumulated Depreciation Rs 10,000

Question 6

Jakob Ltd. entered into a contract for lease of machinery with Jason Ltd. On 1.1.2018. The
initial term of the lease is 6 years with a renewal option of further 2 years.

• The annual payments for initial term and renewal term are Rs 2,80,000 and Rs 3,50,000
respectively.

• The annual lease payment will increase based on the annual increase in the CPI at the end
of the preceding year. For example, the payment due on 1.1.2019 will be based on the CPI
available at 31.12.2018.

• Jakob Ltd.'s incremental borrowing rate at the lease inception date and as at 1.1.2021 is 8%
and 10% respectively and the CPI at lease commencement date and as at 1.1.2021 is 250 and
260 respectively.

• At the lease commencement date, Jakob Ltd. did not think that it will be a viable option to
renew the lease but in the first quarter of 2021, Jakob Ltd. Made some major changes in the
retail store which increases its economic life by five years.

• Jakob Ltd. determined that it would only recover the cost of the improvements if it
exercises the renewal option, creating a significant economic incentive to extend.

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Jakob Ltd. asked your opinion whether remeasurement of lease is required in the first quarter
of 2021.

(PYP Dec ‘21)

Answer 6

Since in the first quarter of 2021, Jakob Ltd. is reasonably certain that it will exercise its renewal
option, it is required to re-measure the lease in the first quarter of 2021.

The following table summarizes information pertinent to the lease remeasurement:

Re-measured lease term 5 years (3 years remaining in the

initial term plus 2 years in the
renewal period)

Jakob Ltd.’s incremental borrowing rate on the re 10%

measurement date

CPI available on the re-measurement date 260

Right-of-use asset immediately before the re- Rs 6,99,019 (Refer note 2)

measurement

Lease liability immediately before the re-measurement Rs 7,79,417 (Refer note 2)

Procedure to re-measure the lease liability:

To re-measure the lease liability, Jakob Ltd. would first calculate the present value of the future
lease payments for the new lease term (using the updated discount rate of 10%).

Since the initial lease payments were based on a CPI of 250, the CPI has increased by 4% [{(260-
250)/250} 100]. As a result, Jakob Ltd. would increase the future lease payments by 4%.

Computation of present value of the future lease payments based on an updated CPI of 260:

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 Year Total

4 5 6 7 8

Lease payment 2,91,200 2,91,200 2,91,200 3,64,000 3,64,000 16,01,600

Discount @ 10% 1 0.909 0.826 0.751 0.683

Present value 2,91,200 2,64,701 2,40,531 2,73,364 2,48,612 13,18,408

Calculation of the adjustment to the lease liability on re-measurement by comparing the

recalculated and original lease liability balances on the remeasurement date:

Revised lease liability 13,18,408

Original lease liability (7,79,417)

Adjustment to the lease liability on re-measurement 5,38,991

Based on above calculations, it is clear that re-measurement of lease is required and

accordingly adjustment to lease liability and ROU asset is required in the first quarter of 2021.

Journal entry to adjust the lease liability

ROU Asset Dr. 5,38,991

To Lease liability 5,38,991

(Being lease liability and ROU asset adjusted on account of remeasurement)

Working Notes:

1. Calculation of ROU asset before the date of re-measurement

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 Year beginning Lease Payment (A) Present value factor Present value of
@ 8% (B) lease payments (A B
= C)

1 2,80,000 1.000 2,80,000

2 2,80,000 0.926 2,59,280

3 2,80,000 0.857 2,39,960

4 2,80,000 0.794 2,22,320

5 2,80,000 0.735 2,05,800

6 2,80,000 0.681 1,90,680

Lease liability as at the commencement date 13,98,040

Or

(2,80,000 Sum of PV (4.993) @ 8% for 5 years = 13,98,040)

2. Calculation of Lease Liability and ROU asset at each year end

Year Lease ROU asset

Liability

Initial Leas e Interest Closing Initial Depreciatio Closing

value payments expense balance Value n for 6 years balance
@ 8%

a b c = (a-b) d = a-b + c

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 8%

1 13,98,04 2,80,000 89,443 12,07,483 13,98,040 2,33,007 11,65,03

0 3

2 12,07,48 2,80,0 00 74,199 10,01,6 82 11,65,0 33 2,33,007 9,32,026

3

3 10,01,68 2,80,0 00 57,735 7,79,417 9,32,0 26 2,33,007 6,99,019

2

4 7,79,417 6,99,019

As per the information given in the third bullet point at page 10, it is inferred that annual lease
payments are due at the beginning of the year. Hence, it can be inferred that the annual lease
payment of 2021 had been paid on 1.1.2021. Accordingly lease liability considered for the purpose of
remeasurement would be of 5th, 6th, 7th and 8th year only i.e. for 4 years. However, since
remeasurement has been decided in the first quarter of 2021, ROU asset balance before
remeasurement will be after depreciation of 3 years i.e. till 2020. Based on the above contention,
following alternative solution is also possible:

Since in the first quarter of 2021, Jakob Ltd. is reasonably certain that it will exercise its renewal
option, it is required to re-measure the lease in the first quarter of 2021.

The following table summarizes information pertinent to the lease remeasurement:

Re-measured lease term 4 years (2 years remaining in the

initial term plus 2 years in the renewal
period)

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Jakob Ltd.’s incremental borrowing rate on the re- 10%
measurement date

CPI available on the re-measurement date 260

Right-of-use asset immediately before the re- Rs 6,99,019 (Refer note 2)

measurement

Lease liability immediately before the re- Rs 5,39,370 (Refer note 2)

measurement

Procedure to re-measure the lease liability:

To re-measure the lease liability, Jakob Ltd. would first calculate the present value of the future
lease payments for the new lease term (using the updated discount rate of 10%).

Since the initial lease payments were based on a CPI of 250, the CPI has increased by 4% [{(260-
250)/250} 100]. As a result, Jakob Ltd. would increase the future lease payments by 4%.

Computation of present value of the future lease payments based on an updated CPI of 260:

Year Total

5 6 7 8

Lease payment 2,91,200 2,91,200 3,64,000 3,64,000 13,10,400

Discount @ 10% 1 0.909 0.826 0.751

Present value 2,91,200 2,64,701 3,00,664 2,73,764 11,30,329

Calculation of the adjustment to the lease liability on re-measurement by comparing the

recalculated and original lease liability balances on the remeasurement date:

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Revised lease liability 11,30,329

Original lease liability (5,39,370)

Adjustment to the lease liability on re-measurement 5,90,959

Based on above calculations, it is clear that re-measurement of lease is required and

accordingly adjustment to lease liability and ROU asset is required in the first quarter of 2022.

Journal entry to adjust the lease liability

ROU Asset Dr. 5,90,959

To Lease liability 5,90,959

(Being lease liability and ROU asset adjusted on account of re-measurement)

Working Notes:

1. Calculation of ROU asset before the date of re-measurement

Year beginning Lease Payment (A) Present value factor Present value of
@ 8% (B) lease payments (A
B = C)

1 2,80,000 1.000 2,80,000

2 2,80,000 0.926 2,59,280

3 2,80,000 0.857 2,39,960

4 2,80,000 0.794 2,22,320

5 2,80,000 0.735 2,05,800

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 6 2,80,000 0.681 1,90,680

Lease liability as atcommen date 13,98,040

Or

(2,80,000 sum of PV (4.993) @ 8% for 5 years = 13,98,040)

2. Calculation of Lease Liability and ROU asset at each year end

Year Lease ROU

Liability asset

Initial Lease Interest Closing Initial Depreciatio Closing

value payments expense balance Value n for 6 balance
@ 8% years

a b c = (a-b) d = a –b +c
8%

1 13,98,04 2,80,000 89,443 12,07,483 13,98,04 2,33,007 11,65,03

0 0 3

2 12,07,48 2,80,000 74,199 10,01,682 11,65,03 2,33,007 9,32,026

3 3

3 10,01,68 2,80,000 57,735 7,79,417 9,32,026 2,33,007 6,99,019

2

4 7,79,417 2,80,000 39,953 5,39,370 6,99,019

5 5,39,370

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Question 7

Customer M enters into a 20-year contract with Energy Supplier S to install, operate and
maintain a solar plant for M’s energy supply. M designed the solar plant before it was
constructed – M hired experts in solar energy to assist in determining the location of the
plant and the engineering of the equipment to be used. M has the exclusive right to receive
and the obligation to take any energy produced. Whether it can be established that M is
having the right to control the use of identified asset?

(Study material)

Answer 7

In this case, the nature of the solar plant is such that all the decisions about how and for what
purpose the asset is used are predetermined because:

– the type of output (i.e. energy) and the production location are predetermined in the
agreement; and

– when, whether and how much energy is produced is influenced by the sunlight and the design
of the solar plant.

Because M designed the solar plant and thereby predetermined any decisions about how and
for what purpose it is used, M is considered to have the right to direct the use. Although regular
maintenance of the solar plant may increase the efficiency of the solar panels, it does not give
the supplier the right to direct how, and for what purpose the solar plant is used. Hence, M is
having a right to control the use of asset.

Question 8

A Lessee enters into a ten-year lease contract with a Lessor to use an equipment. The
contract includes maintenance services (as provided by lessor). The Lessor obtains its own

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insurance for the equipment. Annual payments are Rs 10,000 (Rs 1,000 relate to maintenance
services and Rs 500 to insurance costs). The Lessee is able to determine that similar
maintenance services and insurance costs are offered by third parties for Rs 2,000 and Rs 500
a year, respectively. The Lessee is unable to find an observable stand-alone rental amount for
a similar equipment because none is leased without related maintenance services provided
by the lessor. How would the Lessee allocate the consideration to the lease component?

(Study material)

Answer 8

The observable stand-alone price for maintenance services is Rs 2,000. There is no observable
stand-alone price for the lease. Further, the insurance cost does not transfer a good or service
to the lessee and therefore, it is not a separate lease component. Thus, the Lessee allocates Rs
8,000 (Rs 10,000 – Rs 2,000) to the lease component

Question 9

A Lessee enters into a non-cancellable lease contract with a Lessor to lease a building.
Initially, the lease is for five years, and the lessee has the option to extend the lease by
another five years at the same rental. To determine the lease term, the lessee considers the
following factors:

a) Market rentals for a comparable building in the same area are expected to increase by
10% over the ten-year period covered by the lease. At inception of the lease, lease rentals are
in accordance with current market rents.

b) The lessee intends to stay in business in the same area for at least 20 years.

c)The location of the building is ideal for relationships with suppliers and customers. What
should be the lease term for lease accounting under Ind AS 116?

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 (Study material)

Answer 9

After considering all the stated factors, the lessee concludes that it has a significant economic
incentive to extend the lease. Thus, for the purpose of lease accounting under Ind AS 116, the
lessee uses a lease term of ten years.

Question 10

ICAI Illustration

Customer XYZ enters into a ten-year contract with Supplier ABC for the use of rolling stock
specifically designed for Customer XYZ.

The rolling stock is designed to transport materials used in Customer XYZ’s production
process and is not suitable for use by other customers. The rolling stock is not explicitly
specified in the contract but, Supplier ABC owns only one rolling stock that is suitable for
Customer XYZ’s use. If the rolling stock does not operate properly, the contract requires
Supplier ABC to repair or replace the rolling stock. Whether there is an identified asset?

(Study material)

Answer

Yes, the said rolling stock is an identified asset.

Though the rolling stock is not explicitly specified in the contract (e.g., by serial number), it is
implicitly specified because Supplier ABC must use it to fulfil the contract.

Question 11

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ICAI Illustration

Customer XYZ enters into a ten-year contract with Supplier ABC for the use of a car. The
specification of the car is specified in the contract (i.e., brand, type, colour, options, etc.). At
inception of the contract, the car is not yet built. Whether there is an identified asset?

(Study material)

Answer

Yes, the said car is an identified asset.

Though the car cannot be identified at inception of the contract, it is implicitly specified at the
time the same will be made available to Customer XYZ.

Question 12

ICAI Illustration

Scenario A:

An electronic data storage provider (supplier) provides services through a centralised data
centre that involve the use of a specified server (Server No. 10). The supplier maintains many
identical servers in a single accessible location and determines, at inception of the contract,
that it is permitted to and can easily substitute another server without the customer’s
consent throughout the period of use.

Further, the supplier would benefit economically from substituting an alternative asset,
because doing this would allow the supplier to optimise the performance of its network at
only a nominal cost. In addition, the supplier has made clear that it has negotiated this right
of substitution as an important right in the arrangement, and the substitution right affected

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the pricing of the arrangement. Whether the substitution rights are substantive and whether
there is an identified asset?

Scenario B:

Assume the same facts as in Scenario A except that Server No. 10 is customised, and the
supplier does not have the practical ability to substitute the customised asset throughout the
period of use. Additionally, it is unclear whether the supplier would benefit economically
from sourcing a similar alternative asset. Whether the substitution rights are substantive and
whether there is an identified asset?

(Study material)

Answer

Scenario A:

The customer does not have the right to use an identified asset because, at the inception of the
contract, the supplier has the practical ability to substitute the server and would benefit
economically from such a substitution. Thus, there is no identified asset. However, if the
customer could not readily determine whether the supplier had a substantive substitution right
(for e.g., there is insufficient transparency into the supplier’s operations), the customer would
presume the substitution right is not substantive and conclude that there is an identified asset.

Scenario B:

The substitution right is not substantive, and Server No. 10 would be an identified asset
because the supplier does not have the practical ability to substitute the asset and there is no
evidence of economic benefit to the supplier for substituting the asset. In this case, neither of
the conditions of a substitution right is met (whereas both the conditions must be met for the
supplier to have a substantive substitution right). Therefore, Server No 10 will be considered as
an identified asset.

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Question 13

ICAI Illustration

Customer XYZ enters into a 15-year contract with Supplier ABC for the right to use five fibres
within a fibre optic cable between Mumbai and Pune. The contract identifies five of the
cable’s 25 fibres for use by Customer XYZ. The five fibres are dedicated solely to Customer
XYZ’s data for the duration of the contract term. Assume that Supplier ABC does not have a
substantive substitution right. Whether there is an identified asset?

(Study material)

Answer

Yes, the said five fibres are identified assets because they are physically distinct and explicitly
specified in the contract.

Question 14

ICAI Illustration

Scenario A:

Customer XYZ enters into a ten-year contract with Supplier ABC for the right to transport oil
from India to Bangladesh through Supplier ABC’s pipeline. The contract provides that
Customer XYZ will have the right to use of 95% of the pipeline’s capacity throughout the term
of the arrangement. Whether there is an identified asset?

Scenario B:

Assume the same facts as in Scenario A, except that Customer XYZ has the right to use 65% of
the pipeline’s capacity throughout the term of the arrangement. Whether there is an
identified asset?

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 (Study material)

Answer

Scenario A:

Yes, the capacity portion of the pipeline is an identified asset. While 95% of the pipeline’s
capacity is not physically distinct from the remaining capacity of the pipeline, it represents
substantially all of the capacity of the entire pipeline and thereby provides Customer XYZ with
the right to obtain substantially all of the economic benefits from use of the pipeline.

Scenario B:

No, the capacity portion of the pipeline is NOT an identified asset. Since 65% of the pipeline’s
capacity is less than substantially all of the capacity of the pipeline, Customer XYZ does not have
the right to obtain substantially all of the economic benefits from use of the pipeline.

Question 15

ICAI Illustration

Company MNO enters into a 15-year contract with Power Company PQR to purchase all of
the electricity produced by a new solar farm. PQR owns the solar farm and will receive tax
credits relating to the construction and ownership of the solar farm, and MNO will receive
renewable energy credits that accrue from use of the solar farm. Who has the right to
substantial benefits from the solar farm?

(Study material)

Answer

Company MNO has the right to obtain substantially all of the economic benefits from use of the
solar farm over the 15-year period because it obtains:

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a) the electricity produced by the farm over the lease term — i.e. the primary product from use
of the asset; and

b) the renewable energy credits — i.e. the by-product from use of the asset. Although PQR
receives economic benefits from the solar farm in the form of tax credits, these economic
benefits relate to the ownership of the solar farm. The tax credits do not relate to use of the
solar farm and therefore are not considered in this assessment.

Question 16

ICAI Illustration

Customer X enters into a contract with Supplier Y to use a vehicle for a five year period. The
vehicle is identified in the contract. Supplier Y cannot substitute another vehicle unless the
specified vehicle is not operational (for e.g., if it breaks down). Under the contract:

• Customer X operates the vehicle (i.e., drives the vehicle) or directs others to operate the
vehicle (for e.g., hires a driver).

• Customer X decides how to use the vehicle (within contractual limitations).

For example, throughout the period of use, Customer X decides where the vehicle goes, as
well as when or whether it is used and what it is used for.

Customer X can also change these decisions throughout the period of use.

• Supplier Y prohibits certain uses of the vehicle (for e.g., moving it overseas) and
modifications to the vehicle to protect its interest in the asset.

Whether Customer X has the right to direct the use of the vehicle throughout the period of
lease?

(Study material)

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Answer

Yes, Customer X has the right to direct the use of the identified vehicle throughout the period
of use because it has the right to change how the vehicle is used, when or whether the vehicle
is used, where the vehicle goes and what the vehicle is used for.

Supplier Y’s limits on certain uses for the vehicle and modifications to it are considered
protective rights that define the scope of Customer X’s use of the asset, but do not affect the
assessment of whether Customer X directs the use of the asset.

Question 17

ICAI Illustration

Entity A contracts with Supplier H to manufacture parts in a facility. Entity A designed the
facility and provided its specifications. Supplier H owns the facility and the land. Entity A
specifies how many parts it needs and when it needs the parts to be available. Supplier H
operates the machinery and makes all operating decisions including how and when the parts
are to be produced, as long as it meets the contractual requirements to deliver the specified
number on the specified date. Assuming supplier H cannot substitute the facility and hence is
an identified asset. Which party has the right to control the use of the identified asset (i.e.,
equipment) during the period of use?

(Study material)

Answer

Entity A does not direct the use of the asset that most significantly drives the economic benefits
because Supplier H determines how and when the equipment is operated once the contract is
signed. Therefore, Supplier H has the right to control the use of the identified asset during the
period of use. Although Entity A stipulates the product to be provided and has input into the

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initial decisions regarding the use of the asset through its involvement in the design of the
asset, it does not have decision making rights over how and for what purpose the asset will be
used over the asset during the period of use. This arrangement is a supply agreement, not a
lease.

Question 18

ICAI Illustration

Entity L enters into a five—year contract with Company A, a ship owner, for the use of an
identified ship. Entity L decides whether and what cargo will be transported, and when and to
which ports the ship will sail throughout the period of use, subject to restrictions specified in
the contract. These restrictions prevent Entity L from sailing the ship into waters at a high risk
of piracy or carrying explosive materials as cargo. Company A operates and maintains the
ship, and is responsible for safe passage. Who has the right to direct the use of the ship
during the period of use?

(Study material)

Answer

Entity L has the right to direct the use of the ship. The contractual restrictions are protective
rights. In the scope of its right of use, Entity L determines how and for what purpose the ship is
used throughout the five — year period because it decides whether, where and when the ship
sails, as well as the cargo that it will transport. Entity L has the right to change these decisions
throughout the period of use. Therefore, the contract contains a lease.

Question 19

ICAI Illustration

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Scenario A:

A lessee enters into a five-year lease of equipment, with fixed annual payments of Rs 10,000.
The contract contains fixed annual payments as follows: Rs 8,000 for rent, Rs 1,500 for
maintenance and Rs 500 of administrative tasks. How the consideration would be allocated?

Scenario B:

Assume the fact pattern as in scenario A except that, in addition, the contract requires the
lessee to pay for the restoration of the equipment to its original condition. How the
consideration would be allocated?

(Study material)

Answer

Scenario A:

The contract contains two components, viz., a lease component (lease of equipment) and a
non- lease component (maintenance). The amount paid for administrative tasks does not
transfer a good or service to the lessee. Assuming that the lessee does not elect to use the
practical expedient as per para 15 of Ind AS 116, both the lessee and the lessor account for the
lease of equipment and maintenance components separately and the administration charge is
included in the total consideration to be allocated between those components. Therefore, the
total consideration in the contract of Rs 50,000 will be allocated to the lease component
(equipment) and the non-lease component (maintenance).

Scenario B:

The contract still contains two components, viz., a lease component (lease of equipment) and a
non-lease component (maintenance). Similar to the amount paid for administrative tasks, the
restoration does not transfer a good or service to the lessee as it is only performed at the end

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of the lease term. Therefore, the total consideration in the contract of Rs 50,000 will be
allocated to the lease component (equipment) and the non-lease component (maintenance).

Question 20

ICAI Illustration

Scenario A:

Entity ABC enters into a lease for equipment that includes a non-cancellable term of six years
and a two-year fixed-priced renewal option with future lease payments that are intended to
approximate market rates at lease inception. There are no termination penalties or other
factors indicating that Entity ABC is reasonably certain to exercise the renewal option. What
is the lease term?

Scenario B:

Entity XYZ enters into a lease for a building that includes a non-cancellable term of eight
years and a two-year, market-priced renewal option. Before it takes possession of the
building, Entity XYZ pays for leasehold improvements. The leasehold improvements are
expected to have significant value at the end of eight years, and that value can only be
realised through continued occupancy of the leased property. What is the lease term?

Scenario C:

Entity PQR enters into a lease for an identified retail space in a shopping centre. The retail
space will be available to Entity PQR for only the months of October, November and
December during a non-cancellable term of seven years. The lessor agrees to provide the
same retail space for each of the seven years. What is the lease term?

(Study material)

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Answer

Scenario A:

At the lease commencement date, the lease term is six years (being the non cancellable
period). The renewal period of two years is not taken into consideration since Entity ABC is not
reasonably certain to exercise the option because there are no penalties or other factors which
indicate that the entity will opt for renewal of lease.

Scenario B:

At the lease commencement, Entity XYZ determines that it is reasonably certain to exercise the
renewal option because it would suffer a significant economic penalty if it abandoned the
leasehold improvements at the end of the initial non-cancellable period of eight years. Thus, at
the lease commencement, Entity XYZ concludes that the lease term is ten years (being eight
years of non-cancellable period plus the renewal period of two years where the lessee is
reasonably certain to exercise the option).

Scenario C:

At the lease commencement date, the lease term is 21 months (three months per year over the
seven annual periods as specified in the contract), i.e., the period over which Entity PQR
controls the right to use the underlying asset.

Question 21

ICAI Illustration

Company N leases a production line. The lease payments depend on the number of operating
hours of the production line – i.e., N has to pay Rs 1,000 per hour of use. The annual
minimum payment is Rs 10,00,000. The expected usage per year is 1,500 hours.

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 (Study material)

Answer

The lease contains in substance fixed payments of Rs 10,00,000 per year, which are included in
the initial measurement of the lease liability. The additional Rs 5,00,000 that Company N
expects to pay per year are variable payments that do not depend on an index or a rate but
usage.

Question 22

ICAI Illustration

Entity Y and Entity Z execute a 12-year lease of a railcar with the following terms on 1
January, 20X1:

a) The lease commencement date is 1 February 20X1.

b) Entity Y must pay Entity Z the first monthly rental payment of Rs 10,000 upon execution of
the lease.

c) Entity Z will pay Entity Y Rs 50,000 cash incentive to enter into the lease payable upon lease
execution.

Entity Y incurred Rs 1,000 of initial direct costs, which are payable on 1 February 20X1. Entity
Y calculated the initial lease liability as the present value of the lease payments discounted
using its incremental borrowing rate because the rate implicit in the lease could not be
readily determined; the initial lease liability is Rs 8,50,000. How would Lessee Company
measure and record this lease?

(Study material)

Answer

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Entity Y would calculate the right-of-use asset as follows:

Rs

Initial measurement of lease liability 8,50,000

Lease payments made to Entity Z at or before the commencement date 10,000

Lease incentives received from Entity Z (50,000)

Initial direct cost 1,000

Initial measurement of right-of-use asset 8,11,000

Question 23

ICAI Illustration

Lessee enters into a 10-year lease for 5,000 square metres of office space. At the beginning of
Year 6, Lessee and Lessor agree to amend the original lease for the remaining five years to
reduce the lease payments from Rs 1,00,000 per year to Rs 95,000 per year. The interest rate
implicit in the lease cannot be readily determined. Lessee’s incremental borrowing rate at the
commencement date is 6% p.a. Lessee’s incremental borrowing rate at the beginning of Year
6 is 7% p.a. The annual lease payments are payable at the end of each year.

How should the said modification be accounted for?

(Study material)

Answer

In the given case, Lessee calculates the ROU asset and the lease liabilities before modification
as follows:

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 Year Opening lease Interest @ 6% Lease payments Closing liability (D)
liability (A) (B) = [A 6%] (C) = [A+B-C]

1 7,35,900 44,154 100,000 6,80,054

2 6,80,054 40,803 100,000 6,20,857

3 6,20,857 37,251 100,000 5,58,108

4 5,58,108 33,486 100,000 4,91,594

5 4,91,594 29,496 100,000 4,21,090

6 4,21,090

At the effective date of the modification (at the beginning of Year 6), Lessee remeasures

the lease liability based on:

(a) a five-year remaining lease term,

(b) annual payments of Rs 95,000, and

(c) Lessee’s incremental borrowing rate of 7% p.a.

Year Lease Payments (A) Present value @ 7% (B) Present value of lease
payments (A x B = C)

1 95,000 0.935 88,825

2 95,000 0.873 82,935

3 95,000 0.816 77,520

4 95,000 0.763 72,485

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 5 95,000 0.713 67,735

3,89,500

Lessee recognises the difference between the carrying amount of the modified liability (Rs
3,89,500) and the lease liability immediately before the modification (Rs 4,21,090) of Rs 31,590
as an adjustment to the ROU Asset.

Working Note:

Calculation of Initial value of ROU asset and lease liability:

Year Lease Payment (A) Present value factor @ Present value of lease
6% (B) payments (A B = C)

1 1,00,000 0.943 94,300

2 1,00,000 0.890 89,000

3 1,00,000 0.840 84,000

4 1,00,000 0.792 79,200

5 1,00,000 0.747 74,700

6 1,00,000 0.705 70,500

7 1,00,000 0.665 66,500

8 1,00,000 0.627 62,700

9 1,00,000 0.592 59,200

10 1,00,000 0.558 55,800

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 Lease liability as at commencement date 7,35,900

Topic 2 : Lease Term

Question 24

Determine the lease term in the following scenarios: Scenario A: Entity ABC enters into a
lease for equipment that includes a non cancellable term of six years and a two-year fixed-
priced renewal option with future lease payments that are intended to approximate market
rates at lease inception. There are no termination penalties or other factors indicating that
Entity ABC is reasonably certain to exercise the renewal option. What is the lease term?

Scenario B: Entity XYZ enters into a lease for a building that includes a non cancellable term
of eight years and a two-year, market-priced renewal option. Before it takes possession of
the building, Entity XYZ pays for leasehold improvements. The leasehold improvements are
expected to have significant value at the end of eight years, and that value can only be
realised through continued occupancy of the leased property. What is the lease term?

Scenario C: Entity PQR enters into a lease for an identified retail space in a shopping centre.
The retail space will be available to Entity PQR for only the months of October, November
and December during a non-cancellable term of seven years. The lessor agrees to provide the
same retail space for each of the seven years. What is the lease term?

(MTP Sep ‘23)

Answer 24

Scenario A: At the lease commencement date, the lease term is six years (being the non-
cancellable period). The renewal period of two years is not taken into consideration since Entity

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ABC is not reasonably certain to exercise the option because there are no penalties or other
factors which indicate that the entity will opt for renewal of lease. Scenario B: At the lease
commencement, Entity XYZ determines that it is reasonably certain to exercise the renewal
option because it would suffer a significant economic penalty if it abandoned the leasehold
improvements at the end of the initial non cancellable period of eight years. Thus, at the lease
commencement, Entity XYZ concludes that the lease term is ten years (being eight years of non-
cancellable period plus the renewal period of two years where the lessee is reasonably certain
to exercise the option).

Scenario C: At the lease commencement date, the lease term is 21 months (three months per
year over the seven annual periods as specified in the contract), i.e., the period over which
Entity PQR controls the right to use the underlying asset.

Question 25

Entity X is an Indian entity whose functional currency is Indian Rupee. It has taken a plant on
lease from Entity Y for 5 years to use in its manufacturing process for which it has to pay
annual rentals in arrears of USD 10,000 every year. On the commencement date, exchange
rate was USD = Rs. 68. The average rate for Year 1 was Rs. 69 and at the end of year 1, the
exchange rate was Rs. 70. The incremental borrowing rate of Entity X on commencement of
the lease for a USD borrowing was 5% p.a.

How will entity X measure the right of use (ROU) asset and lease liability initially and at the
end of Year 1?

(MTP Apr’23, RTP May’ 21)

Answer 25

On initial measurement, Entity X will measure the lease liability and ROU asset as under:

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 Year Lease Present Present Conversion INR value
Payments Value factor Value of rate (spot
(USD) @ 5% Lease rate)
Payment

1 10,000 0.952 9,520 68 6,47,360

2 10,000 0.907 9,070 68 6,16,760

3 10,000 0.864 8,640 68 5,87,520

4 10,000 0.823 8,230 68 5,59,640

5 10,000 0.784 7,840 68 5,33,120

Total 43,300 29,44,400

As per Ind AS 21, The Effects of Changes in Foreign Exchange Rates, monetary assets and
liabilities are restated at each reporting date at the closing rate and the difference= due to
foreign exchange movement is recognised in profit and loss whereas nonmonetary assets and
liabilities carried measured in terms of historical cost in foreign currency are not restated.

Accordingly, the ROU asset in the given case being a non-monetary asset measured in terms of
historical cost in foreign currency will not be restated but the lease liability being a monetary
liability will be restated at each reporting date with the resultant difference being taken to
profit and loss.

At the end of Year 1, the lease liability will be measured in terms of USD as under: Lease
Liability:

Year Initial Value Lease Payment Interest @ 5% Closing Value (USD)

(USD)

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 (a) (b) (c) = (a 5%) (d = a + c - b)

1 43,300 10,000 2,165 35,465

Interest at the rate of 5% will be accounted for in profit and loss at average rate of Rs. 69 (i.e.,
USD 2,165 69) = Rs. 1,49,385.

Particulars Dr. (Rs.) Cr. (Rs.)

Interest Expense Dr. 1,49,385

To Lease liability 1,49,385

Lease payment would be accounted for at the reporting date exchange rate, i.e. Rs. 70 at the
end of year 1

Particulars Dr. (Rs.) Cr. (Rs.)

Lease liability Dr. 7,00,000

To Cash 7,00,000

As per the guidance above under Ind AS 21, the lease liability will be restated using the
reporting date exchange rate i.e., Rs. 70 at the end of Year 1. Accordingly, the lease liability will
be measured at Rs. 24,82,550 (35,465 Rs. 70) with the corresponding impact due to exchange
rate movement of Rs. 88,765 (24,82,550 – (29,44,400 + 1,49,385 – 700,000) taken to profit and
loss. At the end of year 1, the ROU asset will be measured as under:

Year Opening Balance (Rs.) Depreciation (Rs.) Closing Balance (Rs.)

1 29,44,400 5,88,880 23,55,520

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Question 26

A Lessee enters into a lease of a five-year-old machine. The non-cancellable lease term is 15
years. The lessee has the option to extend the lease after the initial 15-year period for
optional periods of 12 months each at market rents. To determine the lease term, the lessee
considers the following factors:

a) The machine is to be used in manufacturing parts for a type of plane that the lessee
expects will remain popular with customers until development and testing of an improved
model are completed in approximately 15 years.

b) The cost to install the machine in lessee’s manufacturing facility is significant.

c) The non-cancellable term of lessee’s manufacturing facility lease ends in 19 years, and the
lessee has an option to renew that lease for another twelve years.

d) Lessee does not expect to be able to use the machine in its manufacturing process for
other types of planes without significant modifications.

e) The total remaining life of the machine is 30 years.

What should be the lease term for lease accounting under Ind AS 116?

(Study material)

Answer 26

The lessee notes that the terms for the optional renewal provide no economic incentive and
the cost to install is significant. The lessee has no incentive to make significant modifications to
the machine after the initial 15-year period. Therefore, the lessee does not expect to have a
business purpose for using the machine after the non cancellable lease term of 15 years. Thus,
the lessee concludes that the lease term consists of the 15-year non-cancellable period only.

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Question 27

ICAI Illustration

Scenario A:

A lessee enters a lease of an excavator and the related accessories (for e.g., excavator
attachments) that are used for mining purposes. The lessee is a local mining company that
intends to use the excavator at a copper mine. How many lease and non-lease components
are there?

Scenario B:

Assume the same facts as in Scenario A, except that the contract also conveys the right to use
an additional loading truck. This loading truck could be deployed by the lessee for other uses
(for e.g., to transport iron ores at another mine).

(Study material)

Answer

Scenario A:

The lessee would be unable to benefit from the use of the excavator without also using the
accessories. Therefore, the excavator is dependent upon the accessories. Thus, from the
perspective of the lessee, the contract contains one lease component.

Scenario B:

The lessee can benefit from the loading truck on its own or together with other readily available
resources because the loading truck could be deployed for other uses independent of the
excavator. The lessee can also benefit from the use of the excavator on its own or together with
other readily available resources. Thus, from the perspective of the lessee, the contract

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contains two lease components, viz., a lease of the excavator (together with the accessories)
and a lease of the loading truck.

Question 28

ICAI Illustration

Retailer M enters into a five-year lease for a building floor, followed by two successive five-
year renewal options. On the commencement date, Retailer M is not reasonably certain to
exercise the extension option. At the end of third year, Retailer M extended to include
another floor from year 4 due to a business acquisition. For this purpose, the lessee concludes
a separate seven-year lease for an additional floor in the building already leased. Is Retailer
M required to reassess the lease term in this case?

(Study material)

Answer

Ind AS 116 requires a lessee to reassess the lease term if there is change in business decision of
the company which is directly relevant to exercising or not exercising an option to renew /
extend the lease. In the given case, the Retailer M at the end of third year has extended to
include another floor in the same building on account of acquiring another company. As
Retailer M has entered into fresh lease of another floor for a seven year term, it is reasonably
certain to exercise the renewal option of original lease for a further five-year term. Hence
Retailer M will have to reassess the lease term at the end of third year.

Question 29

ICAI Illustration

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Entity A enters into a five-year lease of an office building. The lease payments are Rs 5,00,000
per year and the contract includes an additional water charge calculated as Rs 0.50 per litre
consumed. Payments are due at the end of year. Entity A elects to apply the practical
expedient to combine lease and non-lease components

(Study material)

Answer

As stated above, payments are due at the end of the year. Entity A elects to apply the practical
expedient not to separate lease and non-lease components. At the commencement date, Entity
A measures the lease liability as the present value of the fixed lease payments (i.e. five annual
payments of 5,00,000). Although Entity A has elected to apply the practical expedient to
combine non-lease components (i.e. water charges) with the lease component, Entity A
excludes the non-lease component from its lease liability because they are variable payments
that depend on usage. That is, the nature of the costs does not become fixed just because
Entity A has elected not to separate them from the fixed lease payments. Entity A recognises
the payments for water – as a variable lease payment – in profit or loss when they are incurred.

In contrast, if B does not elect to apply the practical expedient to combine lease and non-lease
components, then it recognises the payments for water – as an operating expense – in profit or
loss when they are incurred.

Question 30

ICAI Illustration

Entity L enters into a lease for 10 years, with a single lease payment payable at the beginning
of each year. The initial lease payment is Rs 100,000. Lease payments will increase by the rate
of LIBOR each year. At the date of commencement of the lease, LIBOR is 2 per cent. Assume

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that the interest rate implicit in the lease is 5 per cent. How lease liability is initially
measured?

(Study material)

Answer

In the given case, the lease payments depend on a rate (i.e., LIBOR) and hence is included in
measuring lease liability. As per Ind AS 116, the lease payments should initially be measured
using the rate (i.e. LlBOR) as at the commencement date. LIBOR at that date is 2 per cent;
therefore, in measuring the lease liability, it is assumed that each year the payments will
increase by 2 per cent, as follows:

Year Lease Payment Discount factor @ 5% PV of lease payments

1 1,00,000 1 100,000

2 1,02,000 0.952 97,102

3 1,04,040 0.907 94,364

4 1,06,121 0.864 91,689

5 1,08,243 0.823 89,084

6 1,10,408 0.784 86,560

7 1,12,616 0.746 84,012

8 1,14,869 0.711 81,672

9 1,17,166 0.677 79,321

10 1,19,509 0.645 77,083

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 8,80,887

Therefore, the lease liability is initially measured at Rs 8,80,887

Topic 3 : ROU Asset Measurement

Question 31

Lessee enters into a 10-year lease for 5,000 square metres of office space. The annual lease
payments are Rs 1,00,000 payable at the end of each year. The interest rate implicit in the
lease cannot be readily determined. Lessee’s incremental borrowing rate at the
commencement date is 6% p.a. At the beginning of Year 7, Lessee and Lessor agree to amend
the original lease by extending the contractual lease term by four years. The annual lease
payments are unchanged (i.e., Rs 1,00,000 payable at the end of each year from Year 7 to
Year 14). Lessee’s incremental borrowing rate at the beginning of Year 7 is 7% p.a. How
should the said modification be accounted for? Pass the journal entry for the said
modification.

(MTP April 22)

Answer 31

At the effective date of the modification (at the beginning of Year 7), Lessee remeasures the
lease liability based on:

(a) Remaining lease term = 8 years

(b) Annual payments = Rs 1,00,000 and

(c) Lessee’s incremental borrowing rate = 7% p.a.

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The modified lease liability equals Rs 5,97,100 (W.N.1). The lease liability immediately before
the modification (including the recognition of the interest expense until the end of Year 6) is Rs
3,46,355 (W.N.3). Lessee recognises the difference between the carrying amount of the
modified lease liability and the carrying amount of the lease liability immediately before the
modification (i.e., Rs 2,50,745) (W.N.4) as an adjustment to the ROU Asset.

Journal Entry

Rs Rs

ROU Asset A/c Dr. 2,50,745

To Lease Liability A/c 2,50,745

(Being difference in lease liability on account of modification of

lease adjusted through ROU Asset A/c)

Working Notes:

1. Calculation of present value of modified lease liability at the beginning of 7th year

Year Lease Payment (A) Present value factor @ 7% Present value of lease
(B) payments (A B = C)

7 1,00,000 0.935 93,500

8 1,00,000 0.873 87,300

9 1,00,000 0.816 81,600

10 1,00,000 0.763 76,300

11 1,00,000 0.713 71,300

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 12 1,00,000 0.666 66,600

13 1,00,000 0.623 62,300

14 1,00,000 0.582 58,200

PV of the modified lease liability at the beginning of the 7th year 5,97,100

2. Calculation of present value of lease liability at the commencement date

Year Lease Payment (A) Present value factor PV of lease payments

@ 6% (B) (A B = C)

1 1,00,000 0.943 94,300

2 1,00,000 0.890 89,000

3 1,00,000 0.840 84,000

4 1,00,000 0.792 79,200

5 1,00,000 0.747 74,700

6 1,00,000 0.705 70,500

7 1,00,000 0.665 66,500

8 1,00,000 0.627 62,700

9 1,00,000 0.592 59,200

10 1,00,000 0.558 55,800

Present value of the lease liability at the commencement date 7,35,900

3. Calculation of lease liability immediately before the modification date

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 Year Opening lease Interest @ 6% Lease payments Closing liability
liability (A) (C)
(B) = [A 6%] (D) = [A+B-C]

1 7,35,900 44,154 1,00,000 6,80,054

2 6,80,054 40,803 1,00,000 6,20,857

3 6,20,857 37,251 1,00,000 5,58,108

4 5,58,108 33,486 1,00,000 4,91,594

5 4,91,594 29,496 1,00,000 4,21,090

6 4,21,090 25,265 1,00,000 3,46,355

Lease liability as at modification date 3,46,355

4. Adjustment to ROU asset

Modified Lease liability 5,97,100

Original Lease liability as at modification date (3,46,355)

Adjustment to ROU asset 2,50,745

The ROU asset will be increased by Rs 2,50,745 on the date of modification.

Question 32

A lessee enters into a ten-year contract with a lessor (freight carrier) to transport a specified
quantity of goods. Lessor uses rail wagons of a particular specification and has a large pool of
similar rail wagons that can be used to fulfil the requirements of the contract. The rail wagons

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and engines are stored at lessor’s premises when they are not being used to transport goods.
Costs associated with substituting the rail wagons are minimal for lessor. Whether the lessor
has substantive substitutions rights and whether the arrangement contains a lease?

(Study material)

Answer 32

In this case, the rail wagons are stored at lessor’s premises and it has a large pool of similar rail
wagons and substitution costs to be incurred are minimal. Thus, the lessor has the practical
ability to substitute the asset. If at any point, the same become economically beneficial for the
lessor to substitute the wagons, he can do so and hence, the lessor’s substitution rights are
substantive and the arrangement does not contain a lease.

Question 33

ICAI Illustration

Entity L rents an office building from Landlord M for a term of 10 years. The rental contract
stipulates that the office is fully furnished and has a newly installed and tailored HVAC
system. It also requires Landlord M to perform all common area maintenance (CAM) during
the term of the arrangement. Entity L makes single monthly rental payment and does not pay
for the maintenance separately. The office building has a useful life of 40 years and the HVAC
system and office furniture each has a life of 15 years. What are the units of account in the
lease?

(Study material)

Answer

There are three components in the arrangement – the building assets (office building and
HVAC), the office furniture, and the maintenance agreement. The office building and HVAC

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system are one lease component because they cannot function independently of each other.
The HVAC system was designed and tailored specifically to be integrated into the office building
and cannot be removed and used in another building without incurring substantial costs. These
building assets are a lease component because they are identified assets for which Entity L
directs the use. The office furniture functions independently and can be used on its own. It is
also a lease component because it is a group of distinct assets for which Entity L directs the use.

The maintenance agreement is a non-lease component because it is a contract for service and
not for the use of a specified asset.

Question 34

ICAI Illustration

Company N has taken 10 vehicles on lease for an initial period of 5 years with an extension
option at the option of the lessee for a further period of 5 years at the same rental amount.
The remaining useful life of the vehicles as on the commencement date of the lease is 15
years. Company N has determined at the commencement date that it is reasonably certain to
exercise the extension option and hence it has taken a period of 10 years for the lease. At the
end of 4th year, there is an announcement by the government that all the cars of this
particular model have to be discontinued from the road within 1 year due to the change in
the pollution norms in the country. Will the lease term be reassessed in this case?

(Study material)

Answer

In the given case, as per Ind AS 116, the announcement by the government to discontinue the
use of the underlying asset will prohibit the lessee from exercising the extension option that
was already included in the non-cancellable period by Company N and hence, Company N will
reassess the non-cancellable period to exclude the extension option of 5 years.

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Question 35

ICAI Illustration

Entity M and Lessor A enter into a 10-year lease of an office building for fixed annual lease
payments of Rs 200,000. Per the terms of the lease agreement, annual fixed lease payments
comprise Rs 170,000 for rent and Rs 30,000 for real estate taxes. What are the fixed lease
payments for purposes of classifying the lease?

(Study material)

Answer

The fixed lease payments are Rs 2,00,000. Although real estate taxes are explicitly stated in the
lease contract, they do not represent a separate non-lease component as they do not provide a
separate good or service. The right to use the office building is the only component. The annual
lease payments of Rs 2,00,000 represent payments related to thatsingle lease component.

Question 36

ICAI Illustration

Company H leases an aircraft for a period of 5 years. The aircraft must undergo a planned
check after every 100,000 flight hours. At the end of the lease, company H must have a check
performed (or refund the costs to the lessor), irrespective of the actual number of flight
hours. What are the lease payments for purposes of calculating ROU asset?

(Study material)

Answer

In the given case, the legal requirement to perform a check after every 1,00,000 flight hours
does not directly lead to an obligation as it depends on future circumstances. However, as the

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check must be carried out at the end of the lease irrespective of the actual number of flight
hours gives rise to an obligation. As a result, company H has to recognize a provision for the
costs of the final check (“present value of the expected cost”) at the beginning of the lease
term. At the same time, these costs must be included in the cost of the right-of-use (ROU) asset
pursuant to para 24 (d) of Ind AS 116.

Question 37

ICAI Illustration

Entity ABC (lessee) enters into a three-year lease of equipment. Entity ABC agrees to make
the following annual payments at the end of each year:

Rs 20,000 in year one

Rs 30,000 in year two

Rs 50,000 in year three.

For simplicity purposes, there are no other elements to the lease payments (like purchase
options, lease incentives from the lessor or initial direct costs). Assumed a discount rate of
12% (which is Entity ABC’s incremental borrowing rate because the interest rate implicit in
the lease cannot be readily determined). Entity ABC depreciates the ROU Asset on a straight-
line basis over the lease term. How would Entity ABC would account for the said lease under
Ind AS 116?

(Study material)

Answer

At the commencement date, Entity ABC would initially recognise ROU Asset and the
corresponding Lease Liability of Rs 77,364 which is calculated as follows:

[Link]
 Year Payments (Cash flows) Discounting Factor @12% Discounted Cash flows /
Present Value

1 20,000 0.8929 17,858

2 30,000 0.7972 23,916

3 50,000 0.7118 35,590

1,00,000 77,364

Then, the next step would be to prepare a schedule for Lease Liability and ROU Asset as follows:
Lease Liability

Year Opening balance Interest Expense Payments Closing balance

1 77,364 9,284 (20,000) 66,648

2 66,648 7,998 (30,000) 44,646

3 44,646 5,354* (50,000) -

* Difference of Rs 4 is due to approximation.

ROU Asset (assuming no lease incentives, no initial direct costs, etc.):

Year Opening balance Depreciation Closing balance

1 77,364 (25,788) 51,576

2 51,576 (25,788) 25,788

3 25,788 (25,788) -

[Link]
At lease commencement, Entity ABC would recognise the Lease Liability and the corresponding
ROU Asset as follows:

ROU Asset Dr. 77,364

To Lease Liability 77,364

To initially recognise the Lease Liability and the corresponding ROU Asset

The following journal entries would be recorded in the first year:

Interest Expense Dr. 9,284

To Lease Liability 9,284

To record interest expense and accrete the lease liability using the effective interest method (Rs
77,364 12%)

Depreciation Expense Dr. 25,788

To ROU Asset 25,788

To record interest expense and accrete the lease liability using the straight line method (Rs
77,364 / 3 years)

Lease Liability Dr. 20,000

To Cash / Bank 20,000

To record lease payment

Following is the summary of the said lease contract’s accounting (assuming no changes due to
reassessment):

[Link]
Particulars Initially Year 1 Year 2 Year 3

Cash lease payments 20,000 30,000 50,000

Lease Expense Recognised:

Interest Expense 9,284 7,998 5,354

Depreciation Expense 25,788 25,788 25,788

Total Periodic Expense 35,072 33,786 31,142

Balance Sheet:

ROU Asset 77,364 51,576 25,788 -

Lease Liability (77,364) (66,648) (44,646) -

Question 38

ICAI Illustration

Company EFG enters into a property lease with Entity H. The initial term of the lease is 10
years with a 5- year renewal option. The economic life of the property is 40 years and the fair
value of the leased property is Rs 50 Lacs. Company EFG has an option to purchase the
property at the end of the lease term for Rs 30 lacs. The first advance annual payment is Rs 5
lacs with an increase of 3% every year thereafter. The implicit rate of interest is 9.04%. Entity
H gives Company EFG an incentive of Rs 2 lacs (payable at the beginning of year 2), which is to
be used for normal tenant improvement. Company EFG is reasonably certain to exercise that

[Link]
purchase option. How would EFG measure the right-of-use asset and lease liability over the
lease term?

(Study material)

Answer

As per Ind AS 116, Company EFG would first calculate the lease liability as the present value of
the annual lease payments, less the lease incentive paid in year 2, plus the exercise price of the
purchase option using the rate implicit in the lease of approximately 9.04%.

PV of lease payments, less lease incentive (W.N. 1) Rs 37,39,648

PV of purchase option at end of lease term (W.N. 2) Rs 12,60,000

Total lease liability Rs 49,99,648 or Rs

50,00,000 (approx.)

The right-of-use asset is equal to the lease liability because there is no adjustment required for
initial direct costs incurred by Company EFG, lease payments made at or before the lease
commencement date, or lease incentives received prior to the lease commencement date.

Entity EFG would record the following journal entry on the lease commencement date.

Right-of-use Asset Dr. Rs 50,00,000

To Lease Liability Rs 50,00,000

To record ROU asset and lease liability at the commencement date.

Since the purchase option is reasonably certain to be exercised, EFG would amortize the right-
of- use asset over the economic life of the underlying asset (40 years). Annual amortization
expense would be Rs 1,25,000 (Rs 50,00,000 / 40 years) Interest expense on the lease liability
would be calculated as shown in the following table. This table includes all expected cash flows

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during the lease term, including the lease incentive paid by Entity H and Company EFG’s
purchase option.

Year Payment Principal paid Interest paid Interest Lease Liability

at the expense (end of the year
beginning of
the year

a b= a-c c = (d of pvs. d = [(e of pvs. e = (e of pvs.

Year) year- a) Year + d – a)
9.04%]

Commence 50,00,000
ment

Year 1 5,00,000 5,00,000 - 4,06,800 49,06,800

Year 2 3,15,000* (91,800) 4,06,800 4,15,099 50,06,899

Year 3 5,30,450 1,15,351 4,15,099 4,04,671 48,81,120

Year 4 5,46,364 1,41,693 4,04,671 3,91,862 47,26,618

Year 5 5,62,754 1,70,892 3,91,862 3,76,413 45,40,277

Commence 50,00,000
ment

Year 1 5,00,000 5,00,000 - 4,06,800 49,06,800

Year 2 3,15,000* (91,800) 4,06,800 4,15,099 50,06,899

Year 3 5,30,450 1,15,351 4,15,099 4,04,671 48,81,120

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 Year 4 5,46,364 1,41,693 4,04,671 3,91,862 47,26,618

Year 5 5,62,754 1,70,892 3,91,862 3,76,413 45,40,277

The discount rate for year 10 is different in the above calculations because in the earlier one its
beginning of year 10 and in the later one its end of the year 10.

Question 39

ICAI Illustration

Entity W entered into a contract for lease of retail store with Entity J on January 01/01/20X1.
The initial term of the lease is 5 years with a renewal option of further 3 years. The annual
payments for initial term and renewal term is Rs 100,000 and Rs 110,000 respectively. The
annual lease payment will increase based on the annual increase in the CPI at the end of the
preceding year. For example, the payment due on 01/01/20X2 will be based on the CPI
available at 31/12/[Link] W’s incremental borrowing rate at the lease inception date
and as at 01/01/20X4 is 5% and 6% respectively and the CPI at lease commencement date
and as at 01/01/20X4 is 120 and 125 respectively. At the lease commencement date, Entity W
did not have a significant economic incentive to exercise the renewal option. In the first
quarter of 20X4, Entity W installed unique lease improvements into the retail store with an
estimated five year economic life. Entity W determined that it would only recover the cost of
the improvements if it exercises the renewal option, creating a significant economic incentive
to extend .Is Entity W required to remeasure the lease in the first quarter of 20X4?

(Study material)

Answer

[Link]
Since Entity W is now reasonably certain that it will exercise its renewal option, it is required to
remeasure the lease in the first quarter of [Link] following table summarizes information
pertinent to the lease remeasurement.

Remeasured lease term 5 years; 2 years remaining in

the initial term plus 3 years in
the renewal period

Entity W’s incremental borrowing rate On the 6%

remeasurement date

CPI available on the remeasurement date 125

Right-of-use asset immediately before the remeasurement Rs 1,81,840 (Refer note 1)

Lease liability immediately before the remeasurement Rs 1,95,244 (Refer note 1)

To remeasure the lease liability, Entity W would first calculate the present value of the future
lease payments for the new lease term (using the updated discount rate of 6%). The following
table shows the present value of the future lease payments based on an updated CPI of 125.
Since the initial lease payments were based on a CPI of 120, the CPI has increased by 4.167%
approx. As a result, Entity W would increase the future lease payments by 4.167%%. As shown
in the table, the revised lease liability is Rs 4,91,376.

Year 4 5 6 7 8 Total

Lease payment 1,04,167 1,04,167 1,14,583 1,14,583 1,14,583 5,52,083

Discount @ 6% 1 0.943 0.890 0.840 0.792

Present value 1,04,000 98,230 1,01,979 96,250 90,750 4,91,376

[Link]
To calculate the adjustment to the lease liability, Entity W would compare the recalculated and
original lease liability balances on the remeasurement date.

Revised lease liability 4,91,376

Original lease liability (1,95,244)

2,96,132

Entity W would record the following journal entry to adjust the lease liability.

ROU Asset Dr. 2,96,132

To Lease liability 2,96,132

Being lease liability and ROU asset adjusted on account of remeasurement

Working Notes:

1. Calculation of ROU asset before the date of remeasurement

Year Lease Payment (A) Present value factor @ 5% Present value of lease
beginning (B) payments (A B=C)

1 1,00,000 1.000 1,00,000

2 1,00,000 0.952 95,200

3 1,00,000 0.907 90,700

4 1,00,000 0.864 86,400

5 1,00,000 0.823 82,300

Lease liability as at commencement date 4,54,600

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2. Calculation of Lease Liability and ROU asset at each year end

Year Lease Liability ROU asset

Initial Lease Interest Closing Initial Depreciation Closing

value payments expense@ balance Value for 5 years balance
5%

1 4,54,600 1,00,000 17,730 3,72,330 4,54,600 90,920 3,63,680

2 3,72,330 1,00,000 13,617 2,85,947 3,63,680 90,920 2,72,760

3 2,85,947 1,00,000 9,297 1,95,244 2,72,760 90,920 1,81,840

4 1,95,244 1,81,840

Topic 4 : Classification of Lease

Question 40

A company manufactures specialized machinery. The company offers customers the choice of
either buying or leasing the machinery. A customer chooses to lease the machinery. Details of
the arrangement are as follows:

(i) The lease commences on 1st April, 20X1 and lasts for three years.

(ii) The lessee is required to make three annual rentals payable in arrears of Rs 57,500.

(iii) The leased machinery is returned to the lessor at the end of the lease.

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(iv) The fair value of the machinery is Rs 1,50,000, which is equivalent to the selling price of
the machinery

(v) The machinery cost Rs 1,00,000 to manufacture. The lessor incurred costs of Rs 2,500 to
negotiate and arrange the lease.

(vi) The expected useful life of the machinery is 3 years. The machinery has an expected
residual value of Rs 10,000 at the end of year three. The estimated residual value does not
change over the term of the lease.

(vii) The interest rate implicit in the lease is 10.19%. The lessor classifies the lease as a finance
lease. How should the Lessor account for the same in its books of accounts? Pass necessary
journal entries.

(RTP Nov’22)

Answer 40

The cost to the lessor for providing the machinery on lease consists of the book value of the
machinery (Rs 1,00,000), plus the initial direct costs associated with entering into the lease
(Rs2,500), less the future income expected from disposing of the machinery at the end of the
lease (the present value of the unguaranteed residual value of Rs 10,000 discounted @ 10.19%,
being Rs 7,470). This gives a cost of sale of Rs 95,030. The lessor records the following entries at
the commencement of the lease:

Lease receivable Dr. 1,50,000

Cost of sales Dr. 95,030

To Inventory 1,00,000

[Link]
To Revenue 1,42,530

To Creditors/Cash 2,500

The sales profit recognised by the lessor at the commencement of the lease is therefore Rs
47,500 (Rs 1,42,530 - Rs 95,030). This is equal to the fair value of the machinery of Rs 1,50,000,
less the book value of the machinery (Rs 1,00,000) and the initial direct costs of entering into
the lease (Rs 2,500). Revenue is equal to the lease receivable (Rs 1,50,000), less the present
value of the unguaranteed residual value (Rs 7,470).

Year Lease Lease Interest Decrease In Lease

receivable at payments Income lease receivable at
the beginning (Rs)(b) (10.19% per receivable the end of
of year annum) (Rs) (d)=(b)- year (Rs)
(Rs)(a) (Rs)(c) (c) (e)=(a)-(d)

1 1,50,000 57,500 15,285 42,215 1,07,785

2 1,07,785 57,500 10,983 46,517 61,268

3 61,268 57,500 6,232* 51,268 10,000

*Difference is due to approximation

The lessor will record the following entries:

Year 1 Cash/Bank Dr. 57,500

To Lease receivable 42,215

To Interest income 15,285

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Year 2 Cash/Bank Dr. 57,500

To Lease receivable 46,517

To Interest income 10,983

Year 3 Cash/Bank Dr. 57,500

To Lease receivable 51,268

To Interest income 6,232

At the end of the three-year lease term, the leased machinery will be returned to the lessor,
who will record the following entries:

Inventory Dr. 10,000

To Lease receivable 10,000

Question 41

Entity X (lessee) entered into a lease agreement (‘lease agreement’) with Entity Y (lessor) to
lease an entire floor of a shopping mall for a period of 9 years. The annual lease rent of Rs.
70,000 is payable at year end. To carry out its operations smoothly, Entity X simultaneously
entered into another agreement (‘facilities agreement’) with Entity Y for using certain other
facilities owned by Entity Y such as passenger lifts, DG sets, power supply infrastructure,
parking space etc., which are specifically mentioned in the agreement, for annual service
charges amounting to Rs. 1,00,000. As per the agreement, the ownership of the facilities shall
remain with Entity Y. Lessee's incremental borrowing rate is 10%. The facilities agreement
clearly specifies that it shall be co-existent and coterminous with ‘lease agreement’. The

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facility agreement shall stand terminated automatically on termination or expiry of ‘lease
agreement’. Entity X has assessed that the stand-alone price of ‘lease agreement’ is Rs.
1,20,000 per year and stand-alone price of the ‘facilities agreement’ is Rs. 80,000 per year.
Entity X has not elected to apply the practical expedient in paragraph 15 of Ind AS 116 of not
to separate non-lease component (s) from lease component(s) and accordingly it separates
non-lease components from lease components.

How will Entity X account for lease liability as at the commencement date?

(RTP Nov ’20)

Answer 41

Entity X identifies that the contract contains lease of premises and non-lease component of
facilities availed. As Entity X has not elected to apply the practical expedient as provided in
paragraph 15, it will separate the lease and non-lease components and allocate the total
consideration of Rs. 1,70,000 to the lease and non lease components in the ratio of their
relative stand-alone selling prices as follows:

Particulars Stand-alone Prices % of total Stand Allocation of

alone Price consideration

Rs. Rs.

Building rent 1,20,000 60% 1,02,000

Service charge 80,000 40% 68,000

Total 2,00,000 100% 1,70,000

As Entity X's incremental borrowing rate is 10%, it discounts lease payments using this rate and
the lease liability at the commencement date is calculated as follows:

[Link]
 Year Lease Payment (A) Present value factor Present value of
@ 10% (B) lease payments (A X
B = C)

Year 1 1,02,000 .909 92,718

Year 2 1,02,000 .826 84,252

Year 3 1,02,000 .751 76,602

Year 4 1,02,000 .683 69,666

Year 5 1,02,000 .621 63,342

Year 6 1,02,000 .564 57,528

Year 7 1,02,000 .513 52,326

Year 8 1,02,000 .467 47,634

Year 9 1,02,000 .424 43,248

Lease Liability at commencement date 5,87,316

Further, Rs. 68,000 allocated to the non-lease component of facility used will be recognised in
profit or loss as and when incurred.

Question 42

A retailer (lessee) entered into 3-year lease of retail space beginning at 1st April 20X1 with
three annual lease payments of Rs 2,00,000 due on 31st March 20X2, 20X3 and 20X4,
respectively. The lease is classified as an operating lease Under the erstwhile, accounting
standard. The retailer initially applies Ind AS 116 for the first time in the annual period

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beginning at 1st April 20X3. The incremental borrowing rate at the date of the initial
application (i.e., 1st April 20X3) is 10% p.a. and at the commencement of the lease (i.e., 1st
April 20X1) was 12% p.a. The ROU asset is subject to straightline depreciation over the lease
term. Assume that no practical expedients are elected, the lessee did not incur initial direct
costs, there were no lease incentives and there were no requirements for the lessee to
dismantle and remove the underlying asset, restore the site on which it is located or restore
the underlying asset to the condition under the terms and conditions of the lease.

What would be the impact for the lessee as per Ind AS 116 using the following transition
approaches:

(i) Full Retrospective Approach

(ii) Modified Retrospective Approach (when ROU asset is not equal to lease liability)

Show the impact of adjustments through journal entries, consequent to transition for the
year 20X2-20X3 and 20X3-20X4.

(MTP Oct 21)

Answer 42

Full Retrospective Approach:

Under the full retrospective approach, the lease liability and the ROU asset are measured on
the commencement date (i.e., 1st April, 20X1 in this case) using the incremental borrowing rate
at lease commencement date (i.e., 12% p.a. in this case). The lease liability is accounted for by
the interest method subsequently and the ROU asset is subject to depreciation on the straight-
line basis over the lease term of three years. The Lease Liability and ROU Asset are as follows:

Year Payments (Cash Present Value Discounted Cash flows /

flows) Factor @ 12% Present Value

[Link]
 31 Mar 20X2 2,00,000 0.8929 1,78,580

31 Mar 20X3 2,00,000 0.7972 1,59,440

31 Mar 20X4 2,00,000 0.7118 1,42,360

6,00,000 4,80,380

Lease Liability Schedule:

Year Opening Interest Expense @ Payments Closing

12%

31 Mar 20X2 4,80,380 57,646 (2,00,000) 3,38,026

31 Mar 20X3 3,38,026 40,563 (2,00,000) 1,78,589

31 Mar 20X4 1,78,589 21,411* (2,00,000) -

*Difference is due to approximation

ROU Asset Schedule:

Year Opening Depreciation Closing

31 Mar 20X2 4,80,380 (1,60,126) 3,20,2 54

31 Mar 20X3 3,20,254 (1,60,127) 1,60,1 27

31 Mar 20X4 1,60,127 (1,60,127) -

The following table shows account balances under this method beginning at lease
commencement:

[Link]
 Date ROU Asset Lease Interest Depreciation Retained
Liability Expense Expense Earnings

1 Apr 20X1 4,80,380 4,80,380 - - -

31 Mar 20X2 3,20,254 3,38,026 - - -

1 Apr 20X2 3,20,254 3,38,026 (17,772)

31 Mar 20X3 1,60,127 1,78,589 40,563 1,60,127 -

1 Apr 20X3 1,60,127 1,78,589 - - -

31 Mar 20X4 - - 21,411 1,60,127 -

Ind AS 116 is applicable for the financial year beginning from 1st April, 20X3. Hence, 20X3-20X4
is the first year of adoption and using Full retrospective method the comparative for 20 X2-
20X3 needs to be restated and 1st April, 20X2 (i.e the opening of the comparative) is taken as
transition date for adoption of this standard. At adoption, the lessee would record the ROU
asset and lease liability at the 1st April, 20X2 by taking values from the above table, with the
difference between the ROU asset and lease liability going to retained earnings as of 1st April,
20X2 (assuming that only the 20X2-20X3 financial information is included as comparatives).

ROU Asset Dr. 3,20,254

Retained Earnings Dr. 17,772

To Lease Liability 3,38,026

To initially recognise the lease-related asset and liability as of 1 April 20X2.

The following journal entries would be recorded during 20X2-20X3:

[Link]
Expense Dr. 40,563

To Lease Liability 40,563

To record interest expense and accrete the lease liability

using the interest method.

Depreciation expense Dr. 1,60,127

To ROU Asset 1,60,127

To record depreciation expense on the ROU asset.

Lease Liability Dr. 2,00,000

To Cash 2,00,000

To record lease payment.

The following journal entries would be recorded during 20X3-20X4:

Interest expense Dr. 21,411

To Lease Liability 21,411

To record interest expense and accrete the lease liability using the interest method.

Depreciation expense Dr 1,60,127

To ROU Asset 1,60,127

To record depreciation expense on the ROU asset.

Lease Liability Dr. 2,00,000

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 To Cash 2,00,000

To record lease payment

Modified Retrospective Approach (When ROU asset is not equal to lease liability):

Under the modified retrospective approach (Alternative 1), the lease liability is measured based
on the remaining lease payments (i.e., from the date of transition to the lease end date, viz., 1st
April, 20X3 to 31st March, 20X4 in this case) discounted using the incremental borrowing rate
as of the date of initial application being 1st April, 20X3 (i.e. 10% p.a. in this case). The ROU
asset is at its carrying amount as if Ind AS 116 had been applied since the commencement date
(i.e., 1st April 20X1 in this case) by using incremental borrowing rate as at transition date. The
Lease Liability and ROU Asset are as follows:

Year Payments (Cash Discounting Factor Discounted Cash

flows) @10% flows / Present Value

31 Mar 20X4 2,00,000 0.9091 1,81,820

2,00,000 1,81,820

Lease Liability Schedule:

Year Opening Balance Interest Expense Payments Closing Balance

@ 10%

31 Mar 20X4 1,81,820 18,180* (2,00,00 0) -

*Difference is due to approximation

ROU Asset Schedule:

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 Year Opening Balance Depreciation Closing Balance

31 Mar 20X4 1,65,787* (1,65,787) -

*(Refer W.N.3)

The following table shows account balances under this method beginning at lease
commencement:

Date ROU Asset Lease Interest Depreciation Retained

Liability Expense Expense Earnings

1 Apr 20X1 4,97,36 0* 4,97,36 0 - - -

31 Mar 20X2 3,31,574 3,47,096 49,736 1,65,7 86 -

31 Mar 20X3 1,65,787 1,81,806 34,710 1,65,7 87 (16,01 9)

1 Apr 20X3 1,65,787 1,81,806 - - -

31 Mar 20X4 - - 18,194 1,65,7 87 -

*(Refer W.N.1)

(Refer W.N.2)

At adoption, the lessee would record the ROU asset and lease liability at 1st April 20X3 by
taking values from the above table, with the difference between the ROU asset and lease
liability going to retained earnings as 1st April 20X3.

ROU Asset Dr. 1,65,787

Retained Earnings Dr. 16,019

[Link]
 To Lease Liability 1,81,806

To initially recognise the lease-related asset and liability as of 1st April 20X3.

The following journal entries would be recorded during 20X3-20X4:

Interest expense Dr. 18,194

To Lease Liability 18,194

To record interest expense and accrete the lease liability using the interest method.

Depreciation expense Dr. 1,65,7 87

To ROU Asset 1,65,787

To record depreciation expense on the ROU asset.

Lease Liability Dr. 2,00,000

To Cash 2,00,000

To record lease payment.

Working Notes

1. Calculation of Present value of lease payments as at commencement date i.e., 1st April,
20X1

Year Payments (Cash Discounting Factor Discounted Cash

flows) @10%
flows / Present Value

[Link]
 31 Mar 20X2 2,00,000 0.9091 1,81,820

31 Mar 20X3 2,00,000 0.8264 1,65,280

31 Mar 20X4 2,00,000 0.7513 1,50,260

6,00,000 4,97,360

2. Lease Liability Schedule:

Year Opening Interest Expense Payments Closing

@ 10%

31 Mar 20X2 4,97,360 49,736 (2,00,00 0) 3,47,096

31 Mar 20X3 3,47,096 34,710 (2,00,00 0) 1,81,806

31 Mar 20X4 1,81,806 18,194* (2,00,00 0) -

*Difference is due to approximation

Year Opening Depreciation Closing

31 Mar 20X2 4,97,360 (1,65,786) 3,31,574

31 Mar 20X3 3,31,574 (1,65,787) 1,65,787

31 Mar 20X4 1,65,787 (1,65,787) -

Topic 5 : Sublease Accounting

[Link]
Question 43

ICAI Illustration

A Dealer-Lessor enters into a 10-year lease of equipment with Lessee. The equipment is not
specialised in nature and is expected to have alternative use to Lessor at the end of the 10-
year lease term. Under the lease:

a) Lessor receives annual lease payments of Rs 15,000, payable at the end of the year

b) Lessor expects the residual value of the equipment to be Rs 50,000 at the end of the 10-
year lease term

c) Lessee provides a residual value guarantee that protects Lessor from the first Rs 30,000 of
loss for a sale at a price below the estimated residual value at the end of the lease term (i.e.,
Rs 50,000)

d) The equipment has an estimated remaining economic life of 15 years, a carrying amount of
Rs 1,00,000 and a fair value of Rs 1,11,000

e) The lease does not transfer ownership of the underlying asset to Lessee at the end of the
lease term or contain an option to purchase the underlying asset

f) The interest rate implicit in the lease is 10.078%.

How should the Lessor account for the same in its books of accounts?

(Study material)

Answer

Lessor shall classify the lease as a FINANCE LEASE because the sum of the present value of lease
payments amounts to substantially all of the fair value of the underlying asset.

At lease commencement, Lessor accounts for the finance lease, as follows:

[Link]
Net investment in the lease Dr. Rs 1,11,000(a)

Cost of goods sold Dr. Rs 92,340(b)

To Revenue Rs 1,03,340(c)

To Property held for lease Rs 1,00,000(d)

To record the net investment in the finance lease and derecognise the underlying asset.

(a) The net investment in the lease consists of:

(1) the present value of 10 annual payments of Rs 15,000 plus the guaranteed residual value of
Rs 30,000, both discounted at the interest rate implicit in the lease, which equals Rs 1,03,340
(i.e., the lease payment) (Refer note 1)

AND

(2) the present value of unguaranteed residual asset of Rs 20,000, which equals Rs 7,660 (Refer
note 2).

Note that the net investment in the lease is subject to the same considerations as other assets
in classification as current or non-current assets in a classified balance sheet.

(b) Cost of goods sold is the carrying amount of the equipment of Rs 1,00,000 (less) the present
value of the unguaranteed residual asset of Rs 7,660.

(c) Revenue equals the lease receivable.

(d) The carrying amount of the underlying asset.

At lease commencement, Lessor recognises selling profit of Rs 11,000 which is calculated as =

lease payment of Rs 1,03,340 – [carrying amount of the asset (Rs 1,00,000) – net of any
unguaranteed residual asset (Rs 7,660) I e which equals Rs 92,340]

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Year 1 Journal entry for a finance lease

Cash Dr. Rs 15,000(e)

To Net investment in the lease Rs 3,813(f)

To Interest income Rs 11,187(g)

(e) Receipt of annual lease payments at the end of the year.

(f) Reduction of the net investment in the lease for lease payments received of Rs 15,000, net of
interest income of Rs 11,187

(g) Interest income is the amount that produces a constant periodic discount rate on the
remaining balance of the net investment in the lease. Please refer the computation below:

(h) The following table summarises the interest income from this lease and the related
amortisation of the net investment over the lease term:

Year Annual Rental Annual Interest Net investment at the

Payment Income (h) end of the year

Initial net - - 1,11,000

investment

1 15,000 11,187 1,07,187

2 15,000 10,802 1,02,989

3 15,000 10,379 98,368

4 15,000 9,914 93,282

5 15,000 9,401 87,683

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 6 15,000 8,837 81,520

7 15,000 8,216 74,736

8 15,000 7,532 67,268

9 15,000 6,779 59,047

10 15,000 5,953 50,000(i)

(i) Interest income equals 10.078% of the net investment in the lease at the beginning of each
year. For e.g., Year 1 annual interest income is calculated as Rs 1,11,000 (initial net investment)
10.078%.

(j) The estimated residual value of the equipment at the end of the lease term.

Working Notes:

1 Calculation of net investment in lease:

Year Lease Payment (A) Present value factor @ Present value of lease
10.078% (B) payments (A B = C)

1 15,000 0.908 13,620

2 15,000 0.825 12,375

3 15,000 0.750 11,250

4 15,000 0.681 10,215

5 15,000 0.619 9,285

6 15,000 0.562 8,430

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 7 15,000 0.511 7,665

8 15,000 0.464 6,960

9 15,000 0.421 6,315

10 15,000 0.383 5,745

10 30,000 0.383 11,480*

1,03,340

* Figure has been rounded off for equalization of journal entry.

2 Calculation of present value of unguaranteed residual asset

Year Lease Payment (A) Present value factor @ Present value of lease
10.078% (B) payments (A B = C)

10 20,000 0.383 7,660

Question 44

ICAI Illustration

Lessor L leases retail space to Lessee Z and classifies the lease as an operating lease. The lease
includes fixed lease payments of Rs 10,000 per month. Due to the COVID-19 pandemic, L and
Z agree on a rent concession that allows Z to pay no rent in the period from July, 2020 to
September 2020 but to pay rent of 20,000 per month in the period from January 2021 to
March 2021. There are no other changes to the lease.

How this will be accounted for by lessor?

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 (Practice Question)

Answer

L determines that the reduction in lease payments in July 2020 to September 2020 and the
proportional increase in January 2021 to March 2021 does not result in an overall change in the
consideration for the lease.

L does not account for the change as a lease modification. L continues to recognise operating
lease income on a straight-line basis, which is representative of the pattern in which Z’s benefit
from use of the underlying asset is diminished.

Question 45

ICAI Illustration

Lessor M enters into a 10-year lease of office space with Lessee K, which commences on 1
April 2015. The rental payments are 15,000 per month, payable in arrears. M classifies the
lease as an operating lease. M reimburses K’s relocation costs of K of 600,000, which M
accounts for as a lease incentive. The lease incentive is recognised as a reduction in rental
income over the lease term using the same basis as for the lease income – in this case, on a
straight- line basis over 10 years. On 1 April 2020, during the COVID-19 pandemic, M agrees
to waive K’s rental payments for May, June and July 2020. This decrease in consideration is
not included in the original terms and conditions of the lease and is therefore a lease
modification. How this will be accounted for by lessor?

(Practice Question)

Answer

M accounts for this modification as a new operating lease from its effective date – i.e. 1 April
2020. M recognises the impact of the waiver on a straight-line basis over the five-year term of

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the new lease. M also takes into account the carrying amount of the unamortised lease
incentive on 1 April 2020 of Rs 3,00,000. M amortises this balance on a straight-line basis over
the five-year term of the new lease.

Question 46

ICAI Illustration

Lessor L enters into an eight-year lease of 40 lorries with Lessee M that commences on 1
January 2018. The lease term approximates the lorries’ economic life and no other features
indicate that the lease transfer or does not transfer substantially all of the risks and rewards
incidental to ownership of the lorries. Assuming that substantially all of the risks and rewards
incidental to ownership of the lorries are transferred, L classifies the lease as a finance lease.
During the COVID-19 pandemic, M’s business has contracted. In June 2020, L and M amend
the contract so that it now terminates on 31 December 2020. Early termination was not part
of the original terms and conditions of the lease and this is therefore a lease modification.
The modification does not grant M an additional right to use the underlying assets and
therefore cannot be accounted for as a separate lease. How this will be accounted for by
lessor?

(Practice Question)

Answer

L determines that, had the modified terms been effective at the inception date, the lease term
would not have been for major part of the lorries’ economic life. Furthermore, there are no
other indicators that the lease would have transferred substantially all the risks and rewards
incidental to ownership of the lorries. Therefore, the lease would have been classified as an
operating lease. In June 2020, L accounts for the modified lease as a new operating lease. The
lessor L:

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a) derecognises the finance lease receivable and recognises the underlying assets in its
statement of financial position according to the nature of the underlying asset – i.e. as
property, plant and equipment in this case; and

b) measures the aggregate carrying amount of the underlying assets as the amount of the net
investment in the lease immediately before the effective date of the lease modification.

Question 47

ICAI Illustration

Entity ABC (original lessee/intermediate lessor) leases a building for five years. The building
has an economic life of 40 years. Entity ABC subleases the building for four years.

How should the said sublease be classified by Entity ABC?

(Study material)

Answer

The sublease is classified with reference to the ‘ROU Asset’ in the head lease (and NOT the
‘underlying building’ of the head lease). Hence, when assessing the useful life criterion, the
sublease term of four years is compared with five-year ROU Asset in the head lease (NOT
compared with 40-year economic life of the building) and accordingly may result in the
sublease being classified as a finance lease.

Question 48

ICAI Illustration

Head lease:

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An intermediate lessor enters into a five-year lease for 10,000 square metres of office space
(the head lease) with Entity XYZ (the head lessor).

Sublease:

At the beginning of Year 3, the intermediate lessor subleases the 10,000 square metres of
office space for the remaining lease term i.e three years of the head lease to a sub-lessee.

How sho

uld the said sublease be classified and accounted for by the Intermediate Lessor?

(Study material)

Answer

The intermediate lessor classifies the sublease by reference to the ROU Asset arising from the
head lease (i.e., in this case, comparing the three-year sublease with the five year ROU Asset in
the head lease). The intermediate lessor classifies the sublease as a finance lease, having
considered the requirements of Ind AS 116 (i.e., one of the criteria of ‘useful life’ for a lease to
be classified as a finance lease).

When the intermediate lessor enters into a sublease, the intermediate lessor:

(i) derecognises the ROU asset relating to the head lease that it transfers to the sublessee and
recognises the net investment in the sublease;

(ii) recognises any difference between the ROU asset and the net investment in the sublease in
profit or loss; AND

(iii) retains the lease liability relating to the head lease in its balance sheet, which represents
the lease payments owed to the head lessor.

During the term of the sublease, the intermediate lessor recognises both

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- finance income on the sublease AND

- interest expense on the head lease.

Question 49

ICAI Illustration

Head lease:

An intermediate lessor enters into a five-year lease for 10,000 square metres of office space
(the head lease) with Entity XYZ (the head lessor). At the commencement of the head lease,
the intermediate lessor subleases the 10,000 square metres of office space for two years to a
sub-lessee. How should the said sublease be classified and accounted for by the Intermediate
Lessor?

(Study material)

Answer

The intermediate lessor classifies the sublease by reference to the ROU Asset arising from the
head lease (i.e., in this case, comparing the two-year sublease with the five year ROU Asset in
the head lease). The intermediate lessor classifies the sublease as an operating lease, having
considered the requirements of Ind AS 116 (i.e., one of the criteria of ‘useful life’ for a lease to
be classified as a finance lease and since, it is not satisfied, classified the same as an operating
lease).

When the intermediate lessor enters into the sublease, the intermediate lessor retains:

- the lease liability AND

- the ROU asset

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both relating to the head lease in its balance sheet.

During the term of the sublease, the intermediate lessor:

(a) recognises a depreciation charge for the ROU asset and interest on the lease liability; AND

(b) recognises lease income from the sublease.

Sub-lessee Accounting:

A sub-lessee accounts for its lease in the same manner as any other lease (i.e., as a new lease
subject to Ind AS 116’s recognition and measurement provisions).

Topic 6 : Lease Modifications

Question 50

ICAI Illustration

Lessee enters into a 10-year lease for 2,000 square metres of office space. At the beginning of
Year 6, Lessee and Lessor agree to amend the original lease for the remaining five years to
include an additional 3,000 square metres of office space in the same building. The additional
space is made available for use by Lessee at the end of the second quarter of Year 6. The
increase in total consideration for the lease is commensurate with the current market rate for
the new 3,000 square metres of office space, adjusted for the discount that Lessee receives
reflecting that Lessor does not incur costs that it would otherwise have incurred if leasing the
same space to a new tenant (for example, marketing costs).

How should the said modification be accounted for?

(Study material)

[Link]
Answer

Lessee accounts for the modification as a separate lease, separate from the original 10-year
lease because the modification grants Lessee an additional right to use an underlying asset, and
the increase in consideration for the lease is commensurate with the stand-alone price of the
additional right-of-use adjusted to reflect the circumstances of the contract. In this example,
the additional underlying asset is the new 3,000 square metres of office space. Accordingly, at
the commencement date of the new lease (at the end of the second quarter of Year 6), Lessee
recognises a ROU Asset and a lease liability relating to the lease of the additional 3,000 square
metres of office space. Lessee does not make any adjustments to the accounting= for the
original lease of 2,000 square metres of office space as a result of this modification.

Question 51

ICAI Illustration

Lessee enters into a 10-year lease for 5,000 square metres of office space. The annual lease
payments are Rs 50,000 payable at the end of each year. The interest rate implicit in the lease
cannot be readily determined. Lessee’s incremental borrowing rate at the commencement
date is 6% p.a. At the beginning of Year 6, Lessee and Lessor agree to amend the original lease
to reduce the space to only 2,500 square metres of the original space starting from the end of
the first quarter of Year 6. The annual fixed lease payments (from Year 6 to Year 10) are Rs
30,000. Lessee’s incremental borrowing rate at the beginning of Year 6 is 5% p.a. How should
the said modification be accounted for?

(Study material)

Answer

In the given case, Lessee calculates the ROU asset and the lease liabilities before modification
as follows:

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Year Lease Liability ROU asset

Initial Lease Interest Closing Initial Depreciat Closing

value payments expense @ balance Value ion balance
6%

a b c=a 6% d = a-b + c e f g

1 3,67,950* 50,000 22,077 3,40,027 3,67,950 36,795 3,31,155

2 3,40,027 50,000 20,402 3,10,429 3,31,155 36,795 2,94,360

3 3,10,429 50,000 18,626 2,79,055 2,94,360 36,795 2,57,565

4 2,79,055 50,000 16,743 2,45,798 2,57,565 36,795 2,20,770

5 2,45,798 50,000 14,748 2,10,546 2,20,770 36,795 1,83,975

6 2,10,546 1,83,975

*(refer note 1)

At the effective date of the modification (at the beginning of Year 6), Lessee remeasures the
lease liability based on:

(a) a five-year remaining lease term,

(b) annual payments of Rs 30,000 and

(c) Lessee’s incremental borrowing rate of 5% p.a.

Year Lease Payment(A) Present value factor @ 5% Present value of lease

(B) payments (A ×B = C)

6 30,000 0.952 28,560

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 7 30,000 0.907 27,210

8 30,000 0.864 25,920

9 30,000 0.823 24,690

10 30,000 0.784 23,520

Total 1,29,900

Lessee determines the proportionate decrease in the carrying amount of the ROU Asset on the
basis of the remaining ROU Asset (i.e., 2,500 square metres corresponding to 50% of the
original ROU Asset).

50% of the pre-modification ROU Asset (Rs 1,83,975) is Rs 91,987.50. 50% of the pre
modification lease liability (Rs 2,10,546) is Rs 1,05,273.

Consequently, Lessee reduces the carrying amount of the ROU Asset by Rs 91,987.50 and the
carrying amount of the lease liability by Rs 1,05,273. Lessee recognises the difference between
the decrease in the lease liability and the decrease in the ROU Asset (Rs 1,05,273 – Rs 91,987.50
= Rs 13,285.50) as a gain in profit or loss at the effective date of the modification (at the
beginning of Year 6).

Lessee recognises the difference between the remaining lease liability of Rs 1,05,273 and the
modified lease liability of Rs 1,29,900 (which equals Rs 24,627) as an adjustment to the ROU
Asset reflecting the change in the consideration paid for the lease and the revised discount
rate.

Working Note:

Calculation of Initial value of ROU asset and lease liability:

Year Lease Payment( A) Present value factor @ 6% Present value of lease

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 (B) payments (A B = C)

1 50,000 0.943 47,150

2 50,000 0.890 44,500

3 50,000 0.840 42,000

4 50,000 0.792 39,600

5 50,000 0.747 37,350

6 50,000 0.705 35,250

7 50,000 0.665 33,250

8 50,000 0.627 31,350

9 50,000 0.592 29,600

10 50,000 0.558 27,900

3,67,950

Question 52

ICAI Illustration

Lessee enters into a 10-year lease for 2,000 square metres of office space. At the beginning of
Year 6, Lessee and Lessor agree to amend the original lease for the remaining five years to
include an additional 3,000 square metres of office space in the same building. The additional
space is made available for use by Lessee at the end of the second quarter of Year 6. The
increase in total consideration for the lease is commensurate with the current market rate for
the new 3,000 square metres of office space, adjusted for the discount that Lessee receives

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reflecting that Lessor does not incur costs that it would otherwise have incurred if leasing the
same space to a new tenant (for example, marketing costs).

How should the said modification be accounted for?

(Study material)

Answer

Lessee accounts for the modification as a separate lease, separate from the original 10-year
lease because the modification grants Lessee an additional right to use an underlying asset, and
the increase in consideration for the lease is commensurate with the stand-alone price of the
additional right-of-use adjusted to reflect the circumstances of the contract. In this example,
the additional underlying asset is the new 3,000 square metres of office space. Accordingly, at
the commencement date of the new lease (at the end of the second quarter of Year 6), Lessee
recognises a ROU Asset and a lease liability relating to the lease of the additional 3,000 square
metres of office space. Lessee does not make any adjustments to the accounting= for the
original lease of 2,000 square metres of office space as a result of this modification.

Question 53

ICAI Illustration

Lessee enters into a 10-year lease for 5,000 square metres of office space. The annual lease
payments are Rs 50,000 payable at the end of each year. The interest rate implicit in the lease
cannot be readily determined. Lessee’s incremental borrowing rate at the commencement
date is 6% p.a. At the beginning of Year 6, Lessee and Lessor agree to amend the original lease
to reduce the space to only 2,500 square metres of the original space starting from the end of
the first quarter of Year 6. The annual fixed lease payments (from Year 6 to Year 10) are Rs
30,000. Lessee’s incremental borrowing rate at the beginning of Year 6 is 5% p.a. How should
the said modification be accounted for?

[Link]
 (Study material)

Answer

In the given case, Lessee calculates the ROU asset and the lease liabilities before modification
as follows:

Year Lease Liability ROU asset

Initial Lease Interest Closing Initial Depreciat Closing

value payments expense @ balance Value ion balance
6%

a b c=a 6% d = a-b + c e f g

1 3,67,950* 50,000 22,077 3,40,027 3,67,950 36,795 3,31,155

2 3,40,027 50,000 20,402 3,10,429 3,31,155 36,795 2,94,360

3 3,10,429 50,000 18,626 2,79,055 2,94,360 36,795 2,57,565

4 2,79,055 50,000 16,743 2,45,798 2,57,565 36,795 2,20,770

5 2,45,798 50,000 14,748 2,10,546 2,20,770 36,795 1,83,975

6 2,10,546 1,83,975

*(refer note 1)

At the effective date of the modification (at the beginning of Year 6), Lessee remeasures the
lease liability based on:

(a) a five-year remaining lease term,

(b) annual payments of Rs 30,000 and

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(c) Lessee’s incremental borrowing rate of 5% p.a.

Year Lease Payment(A) Present value factor @ 5% Present value of lease

(B) payments (A ×B = C)

6 30,000 0.952 28,560

7 30,000 0.907 27,210

8 30,000 0.864 25,920

9 30,000 0.823 24,690

10 30,000 0.784 23,520

Total 1,29,900

Lessee determines the proportionate decrease in the carrying amount of the ROU Asset on the
basis of the remaining ROU Asset (i.e., 2,500 square metres corresponding to 50% of the
original ROU Asset).

50% of the pre-modification ROU Asset (Rs 1,83,975) is Rs 91,987.50. 50% of the pre
modification lease liability (Rs 2,10,546) is Rs 1,05,273.

Consequently, Lessee reduces the carrying amount of the ROU Asset by Rs 91,987.50 and the
carrying amount of the lease liability by Rs 1,05,273. Lessee recognises the difference between
the decrease in the lease liability and the decrease in the ROU Asset (Rs 1,05,273 – Rs 91,987.50
= Rs 13,285.50) as a gain in profit or loss at the effective date of the modification (at the
beginning of Year 6).

Lessee recognises the difference between the remaining lease liability of Rs 1,05,273 and the
modified lease liability of Rs 1,29,900 (which equals Rs 24,627) as an adjustment to the ROU
Asset reflecting the change in the consideration paid for the lease and the revised discount
rate.

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Working Note:

Calculation of Initial value of ROU asset and lease liability:

Year Lease Payment( A) Present value factor @ 6% Present value of lease

(B) payments (A B = C)

1 50,000 0.943 47,150

2 50,000 0.890 44,500

3 50,000 0.840 42,000

4 50,000 0.792 39,600

5 50,000 0.747 37,350

6 50,000 0.705 35,250

7 50,000 0.665 33,250

8 50,000 0.627 31,350

9 50,000 0.592 29,600

10 50,000 0.558 27,900

3,67,950

Topic 7 : Variable Lease Payments

Question 54

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A Customer enters into a ten-year contract with a Company (a ship owner) for the use of an
identified ship. Customer decides whether and what cargo will be transported, and when and
to which ports the ship will sail throughout the period of use, subject to restrictions specified
in the contract. These restrictions prevent the company from sailing the ship into waters at a
high risk of piracy or carrying explosive materials. The company operates and maintains the
ship and is responsible for safe passage. Does the customer have the right to direct how and
for what purpose the ship is to be used throughout the period of use and whether the
arrangement contains a lease?

(Study material)

Answer 54

The customer has the right to direct the use of the ship because the contractual restrictions are
merely protective rights that protect the company’s investment in the ship and its personnel. In
the scope of its right of use, the customer determines how and for what purpose the ship is
used throughout the ten-year period because it decides whether, where and when the ship
sails, as well as the cargo that it will transport.

The customer has the right to change these decisions throughout the period of use and hence,
the contract contains a lease.

Question 55

A Company leases a manufacturing facility. The lease payments depend on the number of
operating hours of the manufacturing facility, i.e., the lessee has to pay Rs 2,000 per hour of
use. The annual minimum payment is Rs 2,00,00,000. The expected usage per year is 20,000
hours. Whether the said payments be included in the calculation of lease liability under Ind
AS 116?

(Study material)

[Link]
Answer 55

The said lease contains in-substance fixed payments of Rs 2,00,00,000 per year, which are
included in the initial measurement of the lease liability under Ind AS 116. However, the
additional Rs 2,00,00,000 that the company expects to pay per year are variable payments that
do not depend on an index or rate and, thus, are not included in the initial measurement of the
lease liability but, are expensed when the over-use occurs.

Question 56

ICAI Illustration

Scenario A:

A lessee enters into a lease with a nine-month non-cancellable term with an option to extend
the lease for four months. The lease does not have a purchase option. At the lease
commencement date, the lessee is reasonably certain to exercise the extension option
because the monthly lease payments during the extension period are significantly below
market rates. Whether the lessee can take a short-term exemption in accordance with Ind AS
116?

Scenario B:

Assume the same facts as Scenario A except, at the lease commencement date, the lessee is
not reasonably certain to exercise the extension option because the monthly lease payments
during the optional extension period are at what the lessee expects to be market rates and
there are no other factors that would make exercise of the renewal option reasonably
certain. Will your answer be different in this case?

(Study material)

Answer

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Scenario A:

As the lessee is reasonably certain to exercise the extension option (Refer section 3.2 lease
term), the lease term is greater than 12 months (i.e., 13 months). Therefore, the lessee will not
account for the lease as a short-term lease.

Scenario B:

In this case, the lease term is less than 12 months, i.e., nine months. Thus, the lessee may
account for the said lease under the short-term lease exemption, i.e., it recognises lease
payments as an expense on either a straight-line basis over the lease term or another
systematic basis.

Question 57

ICAI Illustration

A lessee enters into a lease of an equipment. The contract stipulates the lessor will perform
maintenance of the leased equipment and receive consideration for that maintenance
service. The contract includes the following fixed prices for the lease and non-lease
component:

Lease Rs 80,000

Maintenance Rs 10,000

Total Rs 90,000

Assume the stand-alone prices cannot be readily observed, so the lessee makes estimates,
maximising the use of observable information, of the lease and non lease components, as
follows:

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Lease Rs 85,000

Maintenance Rs 15,000

Total Rs 1,00,000

In the given scenario, assuming lessee has not opted the practical expedient, how will the
lessee allocate the consideration to lease and non-lease component?

(Study material)

Answer

The stand-alone price for the lease component represents 85% (i.e., Rs 85,000 / Rs 1,00,000) of
total estimated stand-alone prices. The lessee allocates the consideration in the contract (i.e.,
Rs 90,000), as follows:

Lease * Rs 76,500

Maintenance Rs 13,500

Total 90000

*Rs 90,000 85% Rs 90,000 15%

Question 58

ICAI Illustration

Entity Q enters into a seven-year lease for a piece of machinery. The contract sets out the
lease payments as follows.

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– If Q uses the machinery within a given month, then an amount of 2,000 accrues for that
month.

– If Q does not use the machinery within a given month, then an amount of 1,000 accrues for
that month.

What is considered as lease payment in this case?

(Study material)

Answer

Q considers the contract and notes that although the lease payments contain variability based
on usage, and there is a realistic possibility that Q may not use the machinery in some months,
a monthly payment of 1,000 is unavoidable. Accordingly, this is an in substance fixed payment,
and is included in the measurement of the lease liability.

Question 59

ICAI Illustration

Entity P enters into a five-year lease for office space with Entity Q. The initial base rent is Rs 1
lakh per month. Rents increase by the greater of 1% of Entity P’s generated sales or 2% of the
previous rental rate on each anniversary of the lease commencement date. What are the
lease payments for purposes of measuring lease liability?

(Study material)

Answer

In the given case, the lease payments for purposes of classifying the lease are the fixed monthly
payments of Rs 1 lakh plus the minimum annual increase of 2% of the previous rental rate.

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Entity P is required to pay no less than a 2% increase regardless of the level of sales activity;
therefore, this minimum level of increase is in substance fixed lease payment.

Question 60

ICAI Illustration

An entity enters into a 10-year lease of property. The lease payment for the first year is Rs
1,000. The lease payments are linked to the consumer price index (CPI), i.e., not a floating
interest rate. The CPI at the beginning of the first year is 100. Lease payments are updated at
the end of every second year. At the end of year one, the CPI is 105. At the end of year two,
the CPI is 108. What should be included in lease payments?

(Study material)

Answer

At the lease commencement date, the lease payments are Rs 1,000 per year for 10 years. The
entity does not take into consideration the potential future changes in the index. At the end of
year one, the payments have not changed and hence, the liability is not updated. At the end of
year two, when the lease payments change, the entity updates the remaining eight lease
payments to Rs 1,080 per year (i.e., Rs 1,000 / 100 108).

Question 61

ICAI Illustration

Entity XYZ is a medical equipment manufacturer and a supplier of the related consumables.
Customer ABC operates a medical centre. Under the agreement entered into by both parties,
Entity XYZ grants Customer ABC the right to use a medical laboratory machine at no cost and

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Customer ABC purchases consumables for use in the equipment from Entity XYZ at Rs 100
each. The consumables can only be used for that equipment and Customer ABC cannot use
other consumables as substitutes. There is no minimum purchase amount required in the
contract. Based on its historical experience, Customer ABC estimates that it is highly likely to
purchase at least 8,000 units of consumables annually. Customer ABC has appropriately
assessed that the arrangement contains a lease of medical equipment. There are no residual
value guarantees or other forms of consideration included in the contract. Whether these
payments affect the calculation of lease liability and ROU Asset? How does Entity XYZ and
Customer ABC would allocate these lease payments?

(Study material)

Answer

There are two components in the arrangement, viz., a lease of equipment and the purchase of
consumables. Even though Customer ABC may believe that it is highly unlikely to purchase
lesser than 8,000 units of consumables every year, in this example, there are no lease payments
for purposes of initial measurement (for Entity XYZ and Customer ABC) and lease classification
(for Entity XYZ).

Entity XYZ and Customer ABC would allocate the payments associated with the future payments
to the lease and consumables component of the contract (assuming Customer ABC does not
elect to combine lease and non-lease components for this class of asset).

If Customer ABC elects the practical expedient not to separate the associated non-lease
component from the lease component and instead accounts for the lease component and the
non- lease component as a single lease component, the future payments for the consumables
will still constitute genuine variability. Hence there will also be no lease payments for purposes
of initial measurement.

Question 62

[Link]
ICAI Illustration

Entity XYZ is a medical equipment manufacturer and a supplier of the related consumables.
Customer ABC operates a medical centre. Under the agreement entered into by both parties,
Entity XYZ grants Customer ABC the right to use a medical laboratory machine at no cost and
Customer ABC purchases consumables for use in the equipment from Entity XYZ at Rs 100
each. The consumables can only be used for that equipment and Customer ABC cannot use
other consumables as substitutes. There is no minimum purchase amount required in the
contract. Based on its historical experience, Customer ABC estimates that it is highly likely to
purchase at least 8,000 units of consumables annually. Customer ABC has appropriately
assessed that the arrangement contains a lease of medical equipment. There are no residual
value guarantees or other forms of consideration included in the contract. Whether these
payments affect the calculation of lease liability and ROU Asset? How does Entity XYZ and
Customer ABC would allocate these lease payments?

(Study material)

Answer

There are two components in the arrangement, viz., a lease of equipment and the purchase of
consumables. Even though Customer ABC may believe that it is highly unlikely to purchase
lesser than 8,000 units of consumables every year, in this example, there are no lease payments
for purposes of initial measurement (for Entity XYZ and Customer ABC) and lease classification
(for Entity XYZ).

Entity XYZ and Customer ABC would allocate the payments associated with the future payments
to the lease and consumables component of the contract (assuming Customer ABC does not
elect to combine lease and non-lease components for this class of asset).

If Customer ABC elects the practical expedient not to separate the associated non-lease
component from the lease component and instead accounts for the lease component and the
non- lease component as a single lease component, the future payments for the consumables

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will still constitute genuine variability. Hence there will also be no lease payments for purposes
of initial measurement.

Topic 8 : Transition to Ind AS 116

Question 63

Feel Fresh Limited (the Company) is into manufacturing and retailing of FMCG products listed
on stock exchanges in India. One of its products is bathing soap which the Company sells
under the brand name 'Feel Fresh'. The Company does not have its own manufacturing
facilities for soap and therefore it enters into arrangements with a third party to procure the
soaps. The Company entered into a long term purchase contract of 10 years with M/s.
Radhey. Following are the] relevant terms of the contract with M/s. Radhey.

(i) M/s. Radhey has to purchase a machine costing Rs 10,00,000 from the supplier as specified
by the Company. The machine will be customized to produce the soaps as designed by the
Company. This machine cannot be used by M/s. Radhey to produce the soaps for buyers
other than the Company due to the design specifications. The machine has a useful life of 10
years and the straight line method of depreciation is best suited considering the use of the
machine.

(ii) The Company will pay Rs 4.75 per soap for the first year of contract. This is calculated
based on the budgeted annual purchase of 7,00,000 soaps as follows:

Particulars Per soap price

Variable cost of manufacturing 4.00

Cost of machine (Rs 1,74,015 / 7,00,000 soaps) 0.25

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M/s. Radhey's margin 0.50

Per soap cost to the Company 4.75

In case the Company purchases more than 7,00,000 (i.e. budgeted number of soaps) soaps in
the first year then the cost of the machine (i.e. 0.25 per soap) will not be paid for soaps
procured in excess of 7,00,000 units. However, in case Company procures less than budgeted
number of soaps, then the Company will pay the differential unabsorbed cost of the machine,
at the end of the year. For example, if the Company purchases only 6,00,000 soaps in first
year then the differential amount of Rs 24,015 (1,74,015 - (6,00,000 x 0.25)) will be paid by
the Company to M/s. Radhey at the end of the year. Variable cost will be actualized at the
end of the year.

(iii) The cost per soap will be calculated for each year in advance based on the budgeted
number of soaps to be produced each year. An amount of Rs 1,74,015 shall be considered
each year for the cost of machine for year 1 to year 8 while calculating the cost per soap. Any
differential under absorbed amount shall be paid by the Company to M/s. Radhey at the end
of that year. A charge of Rs 1,74,015 per annum for the machine is derived using borrowing
cost of 8% p.a. For year 9 and year 10, only variable cost and margins will be paid.

(iv) M/s. Radhey does not have any right to terminate the contract but the Company has the
right to terminate the contract at the end of each year. However, if the Company terminates
the contract, it has to compensate M/s. Radhey for any unabsorbed cost of Machine. For
example, if the Company terminates the contract at the end of second year then it has to pay
Rs 10,44,090 (i.e. 1,74,015 per year x 6 remaining years). If it terminates the contract after the
8th year then the Company does not have to pay the compensation since the cost of the
machine would have been absorbed.

(v) In the first year, the Company purchases 5,50,000 soaps at Rs 4.75 per soap. Evaluate the
contract of the Company with M/s. Radhey and provide necessary accounting entries for first

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year in accordance with Ind AS with working notes. Assume all cash flows occur at the end of
the year.

(MTP Oct’22)

Answer 63

Identification of the contract (by applying para 9 of Ind AS 116)

(a) Identified asset

Feel Fresh Ltd. (a customer company) enters into a long-term purchase contract with M/s
Radhey (a manufacturer) to purchase a particular type and quality of soaps for 10 year period.

Since for the purpose of the contract M/s Radhey has to buy a customized machine as per the
directions of Feel Fresh Ltd. and also the machine cannot be used for any other type of soap,
the machine is an identified asset.

(b) Right to obtain substantially all of the economic benefits from use of the asset throughout
the period of use

Since the machine cannot be used for manufacture of soap for any other buyer, Feel Fresh Ltd.
will obtain substantially all the economic benefits from the use of the asset throughout the
period of use.

(c) Right to direct the use

Feel Fresh Ltd. controls the use of machine and directs the terms and conditions of the contract
with respect to recovery of fixed expenses related to machine. Hence the contract contains a
lease.

Lease term

The lease term shall be 10 years assuming reasonable certainty. Though the lessee is not
contractually bound till 10th year, i.e., the lessee can refuse to make payment anytime without

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lessor’s permission but, it is assumed that the lessee is reasonably certain that it will not
exercise this option to terminate.

Identification of lease payment

Lease payments are defined as payments made by a lessee to a lessor relating to the right to
use an underlying asset during the lease term, comprising the following:

(a) fixed payments (including in-substance fixed payments), less any lease incentives

(b) variable lease payments that depend on an index or a rate

(c) the exercise price of a purchase option if the lessee is reasonably certain to exercise that
option

(d) payments of penalties for terminating the lease, if the lease term reflects the lessee
exercising an option to terminate the lease

Here in-substance fixed payments in the given lease contract are Rs 1,74,015 p.a. The present
value of lease payment which would be recovered in 8 years @ 8% would be Rs 10,00,000
(approx.) Variable lease payments that do not depend on an index or rate and are not, in
substance, fixed are not included as lease payments. Instead, they are recognised in profit or
loss in the period in which the event that triggers the payment occurs (unless they are included
in the carrying amount of another asset in accordance with other Ind AS).

Hence, lease liability will be recognized by Rs 10,00,000 in the books of Feel Fresh Ltd. Since
there are no payments made to lessor before commencement date less lease incentives
received from lessor or initial direct costs incurred by lessee or estimate of costs for restoration
/ dismantling of underlying asset, the right of use asset is equal to lease liability.

Journal Entries On initial recognition

ROU Asset Dr. 10,00,000

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 To Lease Liability 10,00,000

To initially recognise the Lease Liability and the corresponding ROU Asset

At the end of the first year

Interest Expense Dr 80,000

To Lease Liability 80,000

To record interest expense and accrete the lease liability using

the effective interest method (Rs 10,00,000 8%)

Depreciation Expense (10,00,000 / 10 years) Dr. 1,00,000

To ROU Asset 1,00,000

To record depreciation on ROU using the straight-line method

(Rs 10,00,000 / 10 years)

Lease Liability Dr. 1,74,015

To Bank / M/s. Radhey 1,74,015

To record lease payment

Cost of soap Dr. 24,75,000

To Bank / M/s. Radhey {5,50,000 x (4 + 0.5)} 24,75,000

To record variable expenses paid as cost of the goods

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purchased

Topic 9 : Short-term & Low-value Asset Leases

Question 64

ICAI Illustration

An entity (Seller-lessee) sells a building to another entity (Buyer-lessor) for cash of Rs

30,00,000. Immediately before the transaction, the building is carried at a cost of Rs
15,00,000. At the same time, Seller-lessee enters into a contract with Buyer-lessor for the
right to use the building for 20 years, with annual payments of Rs 2,00,000 payable at the end
of each year. The terms and conditions of the transaction are such that the transfer of the
building by Seller- lessee satisfies the requirements for determining when a performance
obligation is satisfied in Ind AS 115 ‘Revenue from Contracts with

Customers’.

The fair value of the building at the date of sale is Rs 27,00,000. Initial direct costs, if any, are
to be ignored. The interest rate implicit in the lease is 12% p.a., which is readily determinable
by Seller-lessee. Buyer-lessor classifies the lease of the building as an operating lease.

How should the said transaction be accounted by the Seller-lessee and the Buyer lessor?

(Study material)

Answer

Considering facts of the case, Seller-lessee and buyer-lessor account for the transaction as a
sale and leaseback. Firstly, since the consideration for the sale of the building is not at fair
value, Seller-lessee and Buyer - lessor make adjustments to measure the sale proceeds at fair

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value. Thus, the amount of the excess sale price of Rs 3,00,000 (as calculated below) is
recognised as additional financing provided by Buyer-lessor to Seller-lessee.

Sale Price: 30,00,000

Less: Fair Value (at the date of sale): (27,00,000)

Additional financing provided by Buyer-lessor to Seller-lessee 3,00,000

Next step would be to calculate the present value of the annual payments which amounts to Rs
14,94,000 (calculated considering 20 payments of Rs 2,00,000 each, discounted at 12% p.a.) of
which Rs 3,00,000 relates to the additional financing (as calculated above) and balance Rs
11,94,000 relates to the lease — corresponding to 20 annual payments of Rs 40,164 and Rs
1,59,836, respectively (refer calculations below).

Proportion of annual lease payments:

Present value of lease payments (as calculated above) (A) 14,94,000

Additional financing provided (as calculated above) (B) 3,00,000

Relating to the Additional financing provided (C) = (E B / A) 40,160

Relating to the Lease (D) = (E – C) 1,59,840

Annual payments (at the end of each year) (E) 2,00,000

Seller-Lessee:

At the commencement date, Seller-lessee measures the ROU asset arising from the leaseback
of the building at the proportion of the previous carrying amount of the building that relates to
the right-of-use retained by Seller-lessee, calculated as follows:

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Carrying Amount (A) 15,00,000

Fair Value (at the date of sale) (B) 27,00,000

Discounted lease payments for the 20-year ROU asset (C) 11,94,000

ROU Asset [(A / B) C] 6,63,333

Seller-lessee recognises only the amount of the gain that relates to the rights transferred to
Buyer- lessor, calculated as follows:

Fair Value (at the date of sale) (A) 27,00,000

Carrying Amount (B) 15,00,000

Discounted lease payments for the 20-year ROU asset (C) 11,94,000

Gain on sale of building (D) = (A - B) 12,00,000

Relating to the right to use the building retained by Seller-lessee (E) = [(D / 5,30,667
A) C]

Relating to the rights transferred to Buyer-lessor (D - E) 6,69,333

At the commencement date, Seller-lessee accounts for the transaction, as follows:

Cash Dr. 30,00,000

ROU Asset Dr. 6,63,333

To Building 15,00,000

To Financial Liability 14,94,000

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 To Gain on rights transferred 6,69,333

Buyer-Lessor:

At the commencement date, Buyer-lessor accounts for the transaction, as follows:

Building Dr. 27,00,000

Financial Asset Dr. 3,00,000

(20 payments of Rs 40,160 discounted @ 12% p.a.) (approx.)

To Cash 30,00,0 00

After the commencement date, Buyer-lessor accounts for the lease by treating Rs 1,59,840 of
the annual payments of Rs 2,00,000 as lease payments. The remaining Rs 40,160 of annual
payments received from Seller-lessee are accounted for as:

(a) payments received to settle the financial asset of Rs 3,00,000 AND

(b) interest revenue.

Question 65

ICAI Illustration

A retailer (lessee) entered into 3-year lease of retail space beginning at 1 April 2017 with
three annual lease payments of Rs 2,00,000 due on 31 March 2018, 2019 and 2020,
respectively. The lease is classified as an operating lease under Ind AS 17. The retailer initially
applies Ind AS 116 for the first time in the annual period beginning at 1 April 2019. The
incremental borrowing rate at the date of the initial application (i.e., 1 April 2019) is 10% p.a.
and at the commencement of the lease (i.e., 1 April 2017) was 12% p.a. The ROU asset is

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subject to straight-line depreciation over the lease term. Assume that no practical expedients
are elected, the lessee did not incur initial direct costs, there were no lease incentives and
there were no requirements for the lessee to dismantle and remove the underlying asset,
restore the site on which it is located or restore the underlying asset to the condition under
the terms and conditions of the lease. What would be the impact for the lessee using all the
following transition approaches: Full Retrospective Approach Modified

Retrospective Approach

- Alternative 1

- Alternative 2

(Study material)

Answer

Full Retrospective Approach:

Under the full retrospective approach, the lease liability and the ROU asset are measured on
the commencement date (i.e., 1 April 2017 in this case) using the incremental borrowing rate at
lease commencement date (i.e., 12% p.a. in this case). The lease liability is accounted for by the
interest method subsequently and the ROU asset is subject to depreciation on the straight-line
basis over the lease term of three years. Let us first calculate the Lease Liability and ROU Asset
as follows:

Year Payments (Cash Present Value Factor Discounted Cash flows /

flows) @12% Present Value

31 Mar 2018 2,00,000 0.8929 1,78,580

31 Mar 2019 2,00,000 0.7972 1,59,440

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 31 Mar 2020 2,00,000 0.7118 1,42,360

6,00,000 4,80,380

Lease Liability Schedule:

Year Opening Interest Expense @ Payments Closing

12%

31 Mar 2018 4,80,380 57,646 (2,00,000) 3,38,026

31 Mar 2019 3,38,026 40,563 (2,00,000) 1,78,589

31 Mar 2020 1,78,589 21,411* (2,00,000) -

*Difference is due to approximation

ROU Asset Schedule:

Year Opening Depreciation Closing

31 Mar 2018 4,80,380 (1,60,126) 3,20,254

31 Mar 2019 3,20,254 (1,60,127) 1,60,127

31 Mar 2020 1,60,127 (1,60,127) -

The following table shows account balances under this method beginning at lease
commencement:

Date ROU Asset Lease Interest Depreciation Retained

Liability Expense Expense Earnings

01 Apr 2017 4,80,380 4,80,380 - - -

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31 Mar 2018 3,20,254 3,38,026 - - -

01 Apr 2018 3,20,254 3,38,026 (17,772)

31 Mar 2019 1,60,127 1,78,589 40,563 1,60,127 -

01 Apr 2019 1,60,127 1,78,589 - - -

31 Mar 2020 - - 21,411 1,60,127 -

Ind AS 116 is applicable for the financial year beginning from 1st April 2019. Hence, 2019-20 is
the first year of adoption and using Full retrospective method the comparative for 2018-19
needs to be restated and 1st April 2018 (I .e the opening of the comparative) is taken as
transition date for adoption of this standard. At adoption, the lessee would record the ROU
asset and lease liability at the 1 April 2018 by taking values from the above table, with the
difference between the ROU asset and lease liability going to retained earnings as of 1 April
2018 (assuming that only the 2018-19 financial information is included as comparatives).

ROU Asset Dr. 3,20,254

Retained Earnings Dr. 17,772

To Lease Liability 3,38,026

To initially recognise the lease-related asset and liability as of 1 April 2018.

The following journal entries would be recorded during 2018-2019:

Interest expense Dr. 40,563

To Lease Liability 40,563

To record interest expense and accrete the lease liability using the interest method.

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Depreciation expense Dr. 1,60,127

To ROU Asset 1,60,127

To record depreciation expense on the ROU asset.

Lease Liability Dr. 2,00,000

To Cash 2,00,000

To record lease payment.

The following journal entries would be recorded during 2019-2020:

Interest expense Dr. 21,411

To Lease Liability 21,411

To record interest expense and accrete the lease liability using the interest method.

Depreciation expense Dr. 1,60,127

To ROU Asset 1,60,127

To record depreciation expense on the ROU asset.

Lease Liability Dr. 2,00,000

To Cash 2,00,000

To record lease payment.

Modified Retrospective Approach (Alternative 1):

Under the modified retrospective approach (Alternative 1), the lease liability is measured based
on the remaining lease payments (i.e., from the date of transition to the lease end date, viz., 01

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April 2019 to 31 March 2020 in this case) discounted using the incremental borrowing rate as of
the date of initial application being 01 April 2019 (i.e. 10% p.a. in this case). The ROU asset is at
its carrying amount as if Ind AS 116 had been applied since the commencement date (i.e., 01
April 2017 in this case) by using incremental borrowing rate as at transition date. Let us first
calculate the Lease Liability and ROU Asset as follows:

Year Payments (Cash flows) Discounting Factor Discounted Cash flows /

@10% Present Value

31 Mar 2020 2,00,000 0.9091 1,81,820

2,00,000 1,81,820

Lease Liability Schedule:

Year Opening Balance Interest Expense Payments Closing Balance

@ 10%

31 Mar 2020 1,81,820 18,180 (2,00,000) -

ROU Asset Schedule:

Year Opening Balance Depreciation Closing Balance

31 Mar 2020 1,65,787* (1,65,787) -

*(Refer note no 3)

The following table shows account balances under this method beginning at lease
commencement:

Date ROU Asset Lease Interest Depreciation Retained

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 Liability Expense Expense Earnings

01 Apr 2017 4,97,360* 4,97,360 - - -

31 Mar 2018 3,31,574 3,47,096 49,736 1,65,786 -

31 Mar 2019 1,65,787 1,81,806 34,710 1,65,787 (16,019)

01 Apr 2019 1,65,787 1,81,806 - - -

31 Mar 2020 - - 18,194 1,65,787 -

*(Refer note no 1)

(Refer note no 2)

At adoption, the lessee would record the ROU asset and lease liability at the 1 April 2019 by
taking values from the above table, with the difference between the ROU asset and lease
liability going to retained earnings as of 1 April 2019.

ROU Asset Dr. 1,65,787

Retained Earnings Dr. 16,019

To Lease Liability 1,81,806

To initially recognise the lease-related asset and liability as of 1 April 2019.

The following journal entries would be recorded during 2019-2020:

Interest expense Dr. 18,194

To Lease Liability 18,194

To record interest expense and accrete the lease liability using the interest method.

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Depreciation expense Dr. 1,65,787

To ROU Asset 1,65,787

To record depreciation expense on the ROU asset.

Lease Liability Dr. 2,00,000

To Cash 2,00,000

To record lease payment.

Note 1:

Calculation of Present value of lease payments as at commencement date i.e., 01/04/2017

Year Payments (Cash flows) Discounting Factor Discounted Cash flows

@10% / Present Value

31 Mar 2018 2,00,000 0.9091 1,81,820

31 Mar 2019 2,00,000 0.8264 1,65,280

31 Mar 2020 2,00,000 0.7513 1,50,260

6,00,000 4,97,360

Lease Liability Schedule:

Year Opening Interest Expense Payments Closing

@ 10%

31 Mar 2018 4,97,360 49,736 (2,00,000) 3,47,096

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 31 Mar 2019 3,47,096 34,710 (2,00,000) 1,81,806

31 Mar 2020 1,81,806 18,194* (2,00,000) -

*Difference is due to approximation

Calculation of ROU asset as at transition date i.e., April 01, 2019

Year Opening Depreciation Closing

31 Mar 2018 4,97,360 (1,65,786) 3,31,574

31 Mar 2019 3,31,574 (1,65,787) 1,65,787

31 Mar 2020 1,65,787 (1,65,787) -

Modified Retrospective Approach (Alternative 2):

Under the modified retrospective approach (Alternative 2), the lease liability is also measured
based on the remaining lease payments (i.e., from the date of transition to the lease end date,
viz., 01 April 2019 to 31 March 2020 in this case) discounted using the incremental borrowing
rate as of the date of initial application being 01 April 2019 (i.e. 10% p.a. in this case). The
carrying amount of the ROU asset is an amount equal to the carrying amount of the lease
liability on the date of initial application as there are no prepayments or accrual items and
hence, no impact on retained earnings as on the transition date.

Let us first calculate the Lease Liability and ROU Asset as follows:

Year Payments (Cash Discounting Factor @ Discounted Cash flows /

flows) 10% Present Value

31 Mar 2020 2,00,000 0.9091 1,81,820

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 2,00,000 1,81,820

Lease Liability Schedule:

Year Opening Interest Expense Payments Closing

31 Mar 2020 1,81,820 18,182 (2,00,000) -

ROU Asset Schedule:

Year Opening Depreciation Closing

31 Mar 2020 1,81,820 (1,81,820) -

The following table shows account balances under this method beginning at lease
commencement:

Date ROU Asset Lease Interest Depreciation Retained

Liability Expense Expense Earnings

01 Apr 2019 1,81,820 1,81,820 - - -

31 Mar 2020 - - 18,182 1,81,820 -

At adoption, the lessee would record the ROU asset and lease liability at the 1 April 2019 by
taking values from the above table and there will be no impact on retained earnings on the
transition date being 1 April 2019 since under this alternative, ROU Asset is equal to the Lease
Liability.

ROU Asset Dr. 1,81,820

To Lease Liability 1,81,820

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To initially recognise the lease-related asset and liability as of 1 April 2019.

The following journal entries would be recorded during 2019-20:

Interest expense Dr. 18,182

To Lease Liability 18,182

To record interest expense and accrete the lease liability using the interest method.

Depreciation expense Dr. 1,81,820

To ROU Asset 1,81,820

To record depreciation expense on the ROU asset.

Lease Liability Dr. 2,00,000

To Cash 2,00,000

To record lease payment.

A summary of the lease contract’s accounting (assuming there are no changes due to
reassessments) is, as follows:

Particulars Full Retrospective Modified Retrospective Modified Retrospective

Approach Approach (Alternative 1) Approach (Alternative 2)

Opening balance sheet impact as on 1 April 2019:

ROU Asset 1,60,126 1,65,787 1,81,820

Lease Liability 1,78,589 1,81,806 1,81,820

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Period ended 31 March 2020 activity:

Cash lease 2,00,000 2,00,000 2,00,000

payments

Lease payments recognised:

Interest 21,411 18,194 18,180

expense

Depreciation 1,60,127 1,65,787 1,81,820

expense

Total periodic 1,81,538 1,83,981 2,00,002

expense

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 Chapter 6 Unit-1

Ind AS 19: “Employee Benefits”

Topic 1: Defined Benefit vs Defined Contribution

Question 1

ICAI Illustration

Acer Ltd. has 350 employees (same as a year ago). The average staff attrition rates as
observed during past 10 years represents 6% per annum. Acer provides the

following benefits to all its employees:

Annual bonus - during past 10 years.

Acer paid bonus to all employees who were in service during the entire financial year. Bonus
was paid in June following the financial year-end. Amount of bonus for 20X1-20X2 paid in
June 20X2 represented Rs 1,25,000 per employee. Acer Ltd. used to increase amount of bonus
based on official inflation rate which is 8.5% for 20X2-20X3, although there was no legal
obligation to increase the bonus by such inflation rate.

How would Acer Ltd. recognize liabilities and expenses for these employee benefits as on 31st
March, 20X3? Pass the journal entry to show the accounting treatment.

(Study material)

Answer

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Particulars Amount (Rs)

Bonus paid for 20X1-20X2 1,25,000 per

employee

Bonus for 20X2-20X3 - increased by inflation of 8.5%: [1,25,000 (100% 1,35,625 per
+ 8.5%)] employee

No. of employees in staff during the whole year [350 (100- 6%)] 329 employees

Provision for Bonus for 20X2-20X3 4,46,20,625

Accounting Treatment:

Provision for Bonus for 20X2-20X3

Employee Benefits Expenses A/c Dr. 4,46,20,625

To Provision for Bonus 20X2-20X3 4,46,20,625

Note:

It is given that the company is under no legal obligation to increase the bonus by the official
inflation rate. However, the company has been increasing the bonus by the inflation rate over
the past years. This has given rise to a constructive obligation for Acer Ltd. Informal practices,
such as these, give rise to a constructive obligation where the entity has no realistic alternative
but to pay employee benefits. Accordingly, provision is made for the amount considering the
inflation rate.

Question 2

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ICAI Illustration

A company pays each employee a lump-sum one-time benefit upon retirement. This benefit
is computed based on the employee's years in service in the company and the final salary
prior to retirement. To cover its liabilities from this remuneration, the company contributes
3% of annual gross salaries to the fund. Would this obligation represent a defined
contribution plan or a defined benefit plan and why?

(Study material)

Answer

Defined benefit plan.

Reason: Although the Company pays contributions to the fund to cover its liabilities, amount of
remuneration is determined in advance and Company will have to carry the risk in case the
fund's assets are not sufficient to cover remuneration in full.

Question 3

ICAI Illustration

In accordance with applicable legislation, company contributes 12% and employees 12% of
annual gross salaries to the provident and pension fund. Upon retirement, the employees will
get the accumulated balance that is calculated based on employee's years of service and his
average salary for past 15 years before retirement. The pension will be paid out of the state
fund assets and the company has no further obligation except to make contributions. Would
this obligation represent a defined contribution plan or a defined benefit plan?

(Study material)

Answer

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Defined contribution plan.

Reason: Although employee's pension is determined in advance by the formula (and thus
employees neither carry actuarial nor investment risks), Company's liability is limited to
contributions to the fund. In this case, as pension will be paid out of the state fund, it is a state
fund which carries all the risks.

Question 4

ICAI Illustration

Acer Ltd. provides lump-sum remuneration upon retirement to its employees. Remuneration
is paid out of the fund to which Acer Ltd. contributes 12% of annual gross salaries.
Contributions are made twice a year I e in November of the related financial year and in June
after the financial year- end. Total annual gross salaries for 20X0-X1 amounted to Rs 50
crores. Contribution made by Acer Ltd. In November 20X0 was Rs 2.8 crores. Remuneration
depends on the number of employee's service and amount of cash in the fund at retirement
date (Acer Ltd. has no further obligations except for contributions).

How should this transaction appear in the financial statements of Acer Ltd. as of 31 March
20X1?

(Study material)

Answer

1. Calculation of accrual for contributions in 20X0-20X1:

Annual gross salaries in 20X0-20X1: Rs 50.00 crores

Amount of total contributions for 20X0-20X1 (12%): Rs 6.00 crores

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Contributions already made in November 20X0: Rs 2.80 crores

Accrual (Rs 6 crores - Rs 2.8 crores) Rs 3.20 crores

2. Accounting Treatment:

Employee Benefits Expenses Account Dr. 6.00 crores

To Bank Account 2.80 crores

To Contribution Payable 3.20 crores

The contribution of Rs 6 crores will be debited to the statement profit and loss. The
contribution payable of Rs 3.20 crores will appear as a liability as at 31st March, 20X1

Topic 2: Defined Benefit Obligation

Question 5

On 1 April 20X1, the fair value of the assets of XYZ Ltdʼs defined benefit plan were valued at
Rs.20,40,000 and the present value of the defined obligation was Rs.21,25,000. On
31stMarch,20X2 the plan received contributions from XYZ Ltd amounting to Rs. 4,25,000 and
paid out benefits of Rs. 2,55,000. The current service cost for the financial year ending 31
March 20X2 is Rs. 5,10,000. An interest rate of 5% is to be applied to the plan assets and
obligations. The fair value of the planʼs assets at 31 March 20X2 was Rs.23,80,000, and the
present value of the defined benefit obligation was Rs.27,20,000. Provide a reconciliation
from the opening balance to the closing balance for Plan assets and Defined benefit
obligation. Also show how much amount should be recognised in the statement of profit and
loss, other comprehensive income and balance sheet?

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 (MTP May ’20 & Oct ’20, RTP May ’20, PYP May’22)

Answer 5

Reconciliation of Plan asset and Defined benefit obligations

Plan Asset Rs. Defined benefit

obligations Rs.

Fair value/present value as at 1st April 20X1 20,40,000 21,25,000

Interest @ 5% 1,02,000 1,06,250

Current service cost 5,10,000

Contributions received 4,25,000 -

Benefits paid (2,55,000) (2,55,000)

Return on gain (assets) (balancing figure) 68,000 -

Actuarial Loss (balancing figure) - 2,33,750

Closing balance as at March 31,20X2 23,80,000 27,20,000

In the Statement of Profit and loss, the following will be recognized:

Rs.

Current service cost 5,10,000

Net interest on net defined liability (Rs. 1,06,250–Rs. 1,02,000) 4,250

Defined benefit re-measurements recognised in other comprehensive income:

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 Rs.

Loss on defined benefit obligation (2,33,75)

Gain on plan assets 68,000

(1,65,75)

In the Balance sheet, the following will be recognised:

Rs.

Net defined liability (Rs. 27,20,000 – Rs. 23,80,000) 3,40,000

Question 6

ICAI Illustration

AJ Ltd is engaged in the business of trading of chemicals having a net worth of Rs 150 crores.
The company’s profitability is good and hence the company has introduced various benefits
for its employees to keep them motivated and to ensure that they stay with the organization.
The company is an associate of RJ Ltd which is listed on Bombay Stock Exchange in India.

The company initially did not have any HR function but over the last 2 years, the
management set up that function and now HR department takes care of all the benefits
related to the employees and how they can be structured in a manner beneficial to both the
employees and the objectives of the company.

One of the employee benefits involves a lump sum payment to employee on termination of
service and that is equal to 1 per cent of final salary for each year of service. Consider the
salary in year 1 is Rs 10,000 and is assumed to increase at 7 per cent (compound) each year.

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Taking a discount rate at 10 per cent per year, you are required to show

(a) benefits attributed (year on year) and

(b) the obligation in respect of this benefit (year on year)

For and employee who is expected to leave at the end of year 5 Following assumptions may
be taken to solve this:

• There are no changes in actuarial assumptions.

• No additional adjustments are needed to reflect the probability that the employee may
leave the entity at an earlier or later date.

(Study material)

Answer

a. Computation of benefit attributed to prior years and current year:

Amount in Rs

Year 1 2 3 4 5

Benefit attributed to:

- Prior years - 131 262 393 524

- Current year (Refer W.N.1) 131 131 131 131 131

Total (i.e. current and prior years) 131 262 393 524 655

b. Computation of the obligation for an employee who is expected to leave at the end of year
5 (taking discount rate of 10% p.a.)

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 Amount in Rs

Year 1 2 3 4 5

Opening obligation (A) - 89 196 324 475

Interest at 10% (B = A 10%) - 9 20 32 47

Current service cost (C) (Refer WN 2) 89 98 108 119 131

Closing obligation D = (A+B+C) 89 196 324 475 653

Figures have been rounded off in the above table

Working Notes:

1. A lump sum benefit is payable on termination of service and equal to 1 per cent of final salary
for each year of service. The salary in year 1 is Rs 10,000 and is assumed to increase at 7 per
cent (compound) each year.

The year on year salary would be as follows:

Amount in Rs

Year 1 2 3 4 5

Salary 10,000 10,700 (10,000 11,449 (10,700 12,250 13,108 (12,250

107%) 107%) (11,449 107%)
107%)

Accordingly, for the purpose of above-mentioned employee benefit, 1% of final salary to be

considered for each year of service would be Rs 131.

2. Computation of current service cost: Amount in Rs

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 Year 1 2 3 4 5

1% salary at the end of year 5 - - - - 131

PV factor at the end of each year 0.683 0.751 0.826 0.909 1.000
to be considered at 10% p.a. (E)

PV at the end of each year 89 98 108 119 131

(131 E) (131 E) (131 E) (131 E) (131 E)

Accordingly, for the purpose of above-mentioned employee benefit, 1% of final salary to be

considered for each year of service would be Rs 131.

Topic 3: Current Service Cost

Question 7

An entity has 100 employees, who are each entitled to five working days of paid sick leaves
for each year. Unused sick leave may be carried forward for one calendar year. Sick leave is
taken first out of the current year's entitlement and then out of any balance brought forward
from the previous year (LIFO basis) At 31st March, 20X1, the average unused entitlement is
two days per employee. The entity expects, on the basis of experience that is expected to
continue, that 92 employees will take no more than five days of paid sick leaves in 20X1-20X2
and that the remaining eight employees will take an average of six and a half days each. The
entity expects that it will pay an additional twelve days of sick pay as a result of the unused
entitlement that has accumulated at 31st March, 20X1 (one and a half days each, for eight
employees). Would the entity require to recognize any liability in respect of leaves?

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 (Study material)

Answer 7

At 31st March, 20X1, the average unused entitlement is two days per employee. The entity
expects, on the basis of experience that is expected to continue, that 92 employees will take no
more than five days of paid sick leaves in 20X1-20X2 and that the remaining eight employees
will take an average of six and a half days each. The entity expects that it will pay an additional
twelve days of sick pay as a result of the unused entitlement that has accumulated at 31st
March, 20X1 (one and a half days each, for eight employees). Therefore, the entity would
recognize a liability equal to twelve days of sick pay.

Question 8

A plan provides a monthly pension of 0.3% of final salary for each year of service. The pension
is payable from the age of 65. What is the current service cost?

(Study material)

Answer 8

Benefit equal to the present value, at the expected retirement date, of a monthly pension of
0.3% of the estimated final salary payable from the expected retirement date until the
expected date of death is attributed to each year of service. The current service cost is the
present value of that benefit. The present value of the defined benefit obligation is the present
value of monthly pension payments of 0.3% of final salary, multiplied by the number of years of
service up to the end of the reporting period. The current service cost and the present value of
the defined benefit obligation are discounted because pension payments begin at the age of 65.

Question 9

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A plan pays a benefit of Rs 140 for each year of service, excluding service before the age of
25. The benefits vest immediately. Compute the benefit to be attributed before the age of 25
and after 25?

(Study material)

Answer 9

No benefit is attributed to service before the age of 25 because service before that date does
not lead to benefits (conditional or unconditional). A benefit of Rs 140 is attributed to each
subsequent year.

Question 10

B Pvt . Ltd. has a post-employment medical plan which will reimburse 20% of an employee’s
post-employment medical costs if the employee leaves after more than ten and less than
twenty years of service and 50% of those costs if the employee leaves after twenty or more
years of service. How would you measure the benefit to be attributed for the employee
service for the Iast 20 years, 10 and 20 years and within 10 years?

(Study material)

Answer 10

As per Ind AS 19, the benefit will be attributed till the period the employee service will lead to
no material amount of benefits. And service in later years will lead to a materially higher level
of benefit than in earlier years. Therefore, for employees expected to leave after twenty or
more years, the entity would attribute benefit on a straight-line basis. Service beyond twenty
years will lead to no material amount of further benefits. Therefore, the benefit attributed to
each of the first twenty years is 2.5% (i.e. 50% divided by 20) of the present value of the
expected medical costs.

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For employees expected to leave between ten and twenty years, the benefit attributed to each
of the first ten years is 2% (20 % divided by 10) of the present value of the expected medical
costs. For these employees, no benefit is attributed to service between the end of the tenth
year and the estimated date of leaving.

For employees expected to leave within ten years, no benefit is attributed.

Topic 4: Past Service Cost

Question 11

On 1st April, 20X1, ABC limited gives options to its key management personnel (employees)
to take either cash equivalent to 1,000 shares or 1,500 shares. The minimum service
requirement is 2 years and shares being taken must be kept for 3 years.

Fair values of the shares are as follows: Rs

Share alternative fair value (with restrictions) 102

Grant date fair value on 1st April, 20X1 113

Fair value on 31st March, 20X2 120

Fair Value on 31st March, 20X3 132

The employees exercise their cash option at 31st March, 20X3. Pass the journal entries.

(MTP March ‘23)

Answer 11

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 1st April, 31st March, 31st March,
20X1 20X2 20X3

Rs Rs Rs

Equity alternative (1,500 102) 1,53,000

Cash alternative (1,000 113) 1,13,000

Equity option (1,53,000 – 1,13,000) 40,000

Cash option (cumulative) (using period 1,000x120 ½) 1,32,000

end fair value 60,000

Equity option (cumulative) (40,000 ½) 40,000

20,000

Expense for the period

Equity option 20,000 20,000

Cash Option 60,000 72,000

Total 80,000 92,000

Journal Entries

31st March, 20X2 Rs Rs

Employee benefits expenses Dr 80,000

To Share based payment reserve (equity)* 20,000

To Share based payment liability 60,000

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(Recognition of Equity option and cash settlement option)

31st March, 20X3

Employee benefits expenses Dr 92,000

To Share based payment reserve (equity)* 20,000

To Share based payment liability 72,000

(Recognition of Equity option and cash settlement option)

Share based payment liability Dr 1,32,000

To Bank/ Cash 1,32,000

(Settlement in cash)

*The equity component recognized (Rs 40,000) shall remain within equity. By electing to
receive cash on settlement, the employees forfeited the right to receive equity instruments.
However, ABC Limited may transfer the share based payment reserve within equity, i.e. a
transfer from one component of equity to another.

Question 12

OPQ Ltd is a listed company having its corporate office at Nagpur. The company has a branch
office at Chennai. The company has been operating in Indian market for the last 10 years.

The company operates a pension plan that provides a pension of 2.5% of the final salary for
each year of service. The benefits become vested after seven years of service.

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On 1st April, 20X8, the company increased the pension to 3% of the final salary for each year
of service starting from 1st April, 20X1. On the date of the improvement, the present value of
the additional benefits for service from 1st April, 20X1 to 1 April 20X8 was as follows:

• Employees with more than seven years’ service on 1 January 20X8 – Rs 2,75,000

• Employees with less than 7 years of service – Rs 2,21,000 (average 4 years to go).

What would be the accounting treatment in this case?

(Study material)

Answer 12

OPQ Ltd increased the pension to 3% of the final salary for each year of service starting from
1st April, 20X1 to 1st April, 20X8. The company would recognize the total amount of Rs
4,96,000 (i.e. Rs 2,75,000 + Rs 2,21,000) immediately, as for the purpose of recognition it does
not make any difference as to whether the benefits are already vested or not.

Topic 5: Actuarial Gains & Losses

Question 13

ABC Limited operates a defined benefit plan which provides to the employees covered under
the plan a pension benefit which is equal to 0.75% final salary for each year of completed
service. An employee needs to complete minimum of five years’ service for becoming eligible
to the benefit. On 1st April, 2015, the entity improves the pension benefit to 1% of final
salary for each year of service, including prior years. The present value of the defined benefit
obligation is therefore, increased by Rs. 80 million. Given below is the composition of this
amount:

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Employees with more than 5 years’ of service at 1st April, 2015 Rs. 60 million

Employees with less than 5 years’ of service at 1st April, 2015 Rs. 20 million

The employees in the second category have completed average 2 and half years of service.
Hence, they need to complete another two and half year of service until vesting. Comment on
the treatment of Rs. 80 million of the defined benefit obligation in the financial statements
both as per AS 15 and Ind AS 19.

(RTP May ‘19)

Answer 13

Under AS 15, a past service cost of Rs. 60 million needs to be recognized immediately, as those
benefits are already vested. The remaining Rs. 20 million cost is recognized on a straight line
basis over the vesting period, i.e., period to two and half years commencing from 1st April,
2015. Under Ind AS 19, the entire past service cost of Rs. 80 million needs to be recognized and
charged in profit or loss immediately. ABC Ltd. cannot defer any part of this cost.

Topic 6: Remeasurement Gains & Losses

Question 14

ICAI Illustration

AKJ Ltd is a listed company engaged in the business of manufacturing of electronic

equipment. The company has various branch offices spread out across India and has 1,000
employees. As per the statutory requirements, gratuity shall be payable to an employee on

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the termination of his employment after he has rendered continuous service for not less than
five years -

(a) on his superannuation, or

(b) on his retirement or resignation, or

(c) on his death or disablement due to accident or disease.

The completion of continuous service of five years shall not be necessary where the
termination of the employment of any employee is due to death or disablement. The amount
payable is determined by a formula linked to number of years of service and last drawn
salary. The amount payable to an employee shall not exceed Rs 10,00,000.

Compute the amount of employee benefit, if any, attributed to each year of service.

(Study material)

Answer

The amount of gratuity would be attributed to each year of service and calculated as follows:
Number of employees not likely to fulfil the eligibility criteria will be ignored. Other employees
will be grouped according to period of service they are expected to render taking into account:

• mortality rate,

• disablement and

• resignation after 5 years.

Gratuity payable will be calculated in accordance with the formula prescribed in the governing
statute based on the period of service and the salary at the time of termination of employment,
assuming promotion, salary increases etc.

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For those employees for whom the amount payable as per the formula does not exceed Rs
10,00,000, over the expected period of service, the amount payable will be divided by the
expected period of service and the resulting amount will be attributed to each year of the
expected period of service, including the period before the stipulated period of 5 years.

In case of the remaining employees, the amount as per the formula exceeds Rs 10,00,000 over
the expected period of service of 10 years (say), and the amount of the threshold of Rs
10,00,000 is reached at the end of 8 years (assumed) i.e. Rs 1,25,000 (Rs 10,00,000 ÷ 8 years) is
attributed to each of the first 8 years. In this case, no benefit is attributed to subsequent two
years. This is because service beyond 8 years will lead to no material amount of further
benefits.

Topic 7: Settlement Gain/Loss

Question 15

ICAI Illustration

How will the following information be presented in the Balance Sheet of Udyog Ltd.?

Particulars Rs in lakhs

PV of Defined Benefit Obligations 3,500

Fair Value of Plan Assets 3,332

(Study material)

Answer

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Particulars Rs in lakhs

PV of Defined Benefit Obligations 3,500

Less: Fair Value of Plan Assets (3,332)

Deficit, to be treated as Net Defined Benefit Liability under Non-current

Liabilities as Provisions in the Balance Sheet

168

Topic 8: Plan Assets & Surplus

Question 16

ICAI Illustration

How will the following information be presented in the Balance Sheet of Udyog Ltd.?

Particulars Rs in lakhs

PV of Defined Benefit Obligations 2,750

Fair Value of Plan Assets 2,975

Asset Ceiling 175

(Study material)

Answer

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Particulars Rs in lakhs

PV of Defined Benefit Obligations 2,750

Less: Fair Value of Plan Assets (2,975)

Surplus, to be treated as Net Defined Benefit Asset, 225

Asset Ceiling as per Ind AS 19 175

Least of above is Surplus to be treated as Net Defined Benefit Asset under 175
Non-current Assets in the Balance Sheet

Topic 9 : Vesting & Benefit Attribution

Question 17

SA Pvt Ltd is engaged in the business of retail having 100 retail outlets across Northern and
Southern India. The company’s head office is located at Chennai. SA Pvt Ltd is a subsidiary of
SAG Ltd. SAG Ltd is listed on the National Stock Exchange in India. Following information is
available for SA Pvt Ltd:

Plan Assets

At 1st April, 20X1, the fair value of plan assets was Rs 10,000.

Contribution to the plan assets done on 31st March, 20X2 – Rs 3,000 Amount paid on 31st
March, 20X2 – Rs 300

At 31st March, 20X2, the fair value of plan assets was Rs 14,700 Actual return on plan assets –
Rs 2,000

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Defined Benefit Obligation

At 1st April, 20X1, present value of the defined benefit obligation was Rs 12,000.

At 31st March, 20X2, present value of the defined benefit obligation was Rs 15,500.

Actuarial losses on the obligation for the year ended 31st March, 20X2 were Rs 100.

Current Service Cost – Rs 2,500 Benefit paid – Rs 300

Discount rate used to calculate defined benefit liability - 10%.

As per Ind AS 19, please suggest if there is any amount based on the abovementioned
information that would be taken to other comprehensive income (with workings). Also
compute net interest on the net defined benefit liability (asset).

(Practice Question)

Answer 17

As per Ind AS 19, net remeasurement of Rs 900 would be recognized in other comprehensive
income.

Computation of Net remeasurement

= Remeasurement – Actuarial loss

= Rs 1000 (Refer WN - 1) – Rs 100 (Given in the question)= Rs 900.

Computation of net interest expense

Particulars Amount in Rs

Defined benefit liability as at 1 April 20X1(A)(Given in the question) 12,000

Fair value of plan asset as at 1 April 20X1 (B) (Given in the question) (10,000)

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Net defined benefit liability (A - B) 2,000

Net interest expense (as it is net liability) (Refer note given below) 200

Note:

Net interest expense would be computed on net defined benefit liability using discount rate of
10% given in the question

= Net defined benefit liability Discount rate

= 2,000 10%

= Rs 200

Working Note:

Computation of amount of remeasurement

Particulars Amount in Rs

Actual return on plan asset for the year ended 31 March 20X2 (C) (Given 2,000
in the question)

Less: Interest income on Rs 10,000 held for 12 months at 10% (D) (1,000)

Remeasurement (E = C - D) 1,000

Question 18

A Ltd. prepares its financial statements to 31st March each year. It operates a defined benefit
retirement benefits plan on behalf of current and former employees. A Ltd. receives advice
from actuaries regarding contribution levels and overall liabilities of the plan to pay benefits.

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On 1st April, 20X1, the actuaries advised that the present value of the defined benefit
obligation was Rs 6,00,00,000. On the same date, the fair value of the assets of the defined
benefit plan was Rs 5,20,00,000.

On 1st April, 20X1, the annual market yield on government bonds was 5%. During the year
ended 31st March, 20X2, A Ltd. made contributions of Rs 70,00,000 into the plan and the plan
paid out benefits of Rs 42,00,000 to retired members. Both these payments were made on
31st March, 20X2. The actuaries advised that the current service cost for the year ended 31st
March, 20X2 was Rs 62,00,000. On 28th February, 20X2, the rules of the plan were amended
with retrospective effect. These amendments meant that the present value of the defined
benefit obligation was increased by Rs 15,00,000 from that date.

During the year ended 31st March, 20X2, A Ltd. was in negotiation with employee
representatives regarding planned redundancies. The negotiations were completed shortly
before the year end and redundancy packages were agreed. The impact of these
redundancies was to reduce the present value of the defined benefit obligation by Rs
80,00,000. Before 31st March, 20X2, A Ltd. made payments of Rs 75,00,000 to the employees
affected by the redundancies in compensation for the curtailment of their benefits. These
payments were made out of the assets of the retirement benefits plan.

On 31st March, 20X2, the actuaries advised that the present value of the defined benefit
obligation was Rs 6,80,00,000. On the same date, the fair value of the assets of the defined
benefit plan were Rs 5,60,00,000. Examine and present how the above event would be
reported in the financial statements of A Ltd. for the year ended 31st March, 20X2 as per Ind
AS.

(Practice Question)

Answer 18

All figures are Rs in ’000.

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On 31st March, 20X2, A Ltd. will report a net pension liability in the statement of financial
position. The amount of the liability will be 12,000 (68,000 – 56,000). For the year ended 31st
March, 20X2, A Ltd. will report the current service cost as an operating cost in the statement of
profit or loss. The amount reported will be 6,200. The same treatment applies to the past
service cost of 1,500.

For the year ended 31st March, 20X2, A Ltd. will report a finance cost in profit or loss based on
the net pension liability at the start of the year of 8,000 (60,000 – 52,000). The amount of the
finance cost will be 400 (8,000 5%).

The redundancy programme represents the partial settlement of the curtailment of a defined
benefit obligation. The gain on settlement of 500 (8,000 – 7,500) will be reported in the
statement of profit or loss.

Other movements in the net pension liability will be reported as remeasurement gains or losses
in other comprehensive income.

For the year ended 31st March, 20X2, the remeasurement loss will be 3,400 (Refer W. N.).

Working Note:

Remeasurement of gain or loss

Rs in ’000

Liability at the start of the year (60,000 – 52,000) 8,000

Current service cost 6,200

Past service cost 1,500

Net finance cost 400

Gain on settlement (500)

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Contributions to plan (7,000)

Remeasurement loss (balancing figure) 3,400

Liability at the end of the year (68,000 – 56,000) 12,000

Question 19

ICAI Illustration

A plan pays a benefit of Rs 150 for each year of service. The benefits vest after ten years of
service. Compute the benefit to be attributed each year?

(Study material)

Answer

1. A benefit of Rs 150 is attributed to each year.

2. In each of the first ten years, the current service cost and the present value of the obligation
reflect the probability that the employee may not complete ten years of service. This is because
the benefits vest at a future date (i.e. after ten years of service).

Question 20

ICAI Illustration

A plan pays a benefit of Rs 150 for each year of service, excluding service before the age of
25. The benefits vest immediately. Compute the benefit to be attributed each year?

(Study material)

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Answer

1. No benefit is attributed to the service before the age of 25 because service before that date
does not lead to benefits (conditional or unconditional).

2. A benefit of Rs 150 is attributed to each subsequent year. There is no requirement to reflect

any probability of completion as the benefits vest immediately.

Question 21

ICAI Illustration

Amra Pvt. Ltd. has a plan for its employees where it has decided to pay a lump-sum benefit of
Rs 2,000 that will vest after ten years of service. However, that plan will provide no further
benefit for subsequent service.

Compute the benefit attributed for 10 years of service and for the period of service after 10
years?

(Study material)

Answer

1. In this case, as per the company’s plan, a benefit of Rs 200 (Rs 2,000 ÷ 10 years) is attributed
to each of the first 10 years.

2. The current service cost in each of the first ten years reflects the probability that the
employee may not complete ten years of service. This is because the benefits vest at a future
date (i.e. after ten years of service).

No benefit is attributed to subsequent years.

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Question 22

ICAI Illustration

Sanat Pvt. Ltd. has a plan for the employees where employees are entitled to a benefit of 5%
of final salary for each year of service before the age of 55. Compute the benefit attributed up
to 55 years and after 55?

(Study material)

Answer

Benefit of 5% of estimated final salary is attributed to each year up to the age of 55.

This is the date when further service by the employee will lead to no material amount of further
benefits under the plan. No benefit is attributed to service after that age.

Question 23

ICAI Illustration

A post-employment medical plan reimburses 40 percent of an employee’s postemployment

medical costs if the employee leaves after more than ten and less than twenty years of
service and 50 per cent of those costs if the employee leaves after twenty or more years of
service. How will the benefit be attributed to the years of service?

(Study material)

Answer

1. Under the Plan's Benefit Formula, the entity should attribute 4% of the present value of the
expected medical costs (40% ÷ 10 years) to each of the first ten years, and 1% (10% ÷ 10 years)
to each of the second ten years.

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2. For employees expected to leave within 10 years, no benefit is attributed.

3. The Current Service Cost in each year reflects the probability that the employee may not
complete the necessary period of service to earn part or all of the benefits.

Topic 10: Short-Term Compensated Absences

Question 24

Diamond Pvt. Ltd, has a headcount of around 1,000 employees in the organisation in financial
year 2X19-2X20. As per the company's policy, the employees are given 35 days of privilege
leave (PL), 15 days of sick leave (SL) and 10 days of casual leave. Out of the total PL and SL, 10
PL and 5 SL can be carried forward to next year. On the basis of past trends, it has been noted
that 200 employees will take 5 days of PL and 2 days of SL and 800 employees will avail 10
days of PL and 5 days of SL.

Diamond Pvt. Ltd. has a post-employment benefit plan which is in the nature of defined
contribution plan where contribution to the fund amounts to Rs 200 crores which will fall due
within 12 months from the end of the accounting period. The company has paid Rs 40 crore
to this plan in financial year 2X19-2X20. What would be the treatment of the short-term
compensating absences, profit sharing plan and the defined contribution plan in the books of
Diamond Pvt. Ltd.?

(MTP March ‘22) (PYP Nov ’20)

Answer 24

(i) Treatment of short term compensating absences: Diamond Pvt. Ltd. Will recognize a liability
in its books to the extent of 5 days of PL for 200 employees and 10 days of PL for remaining 800
employees and 2 days of SL for 200 employees and 5 days of SL for remaining 800 employees in

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its books as an unused entitlement that has accumulated in 2X19-2X20 as short-term
compensated absences.

(ii) Treatment of defined contribution plan: When an employee has rendered service to an
entity during a period, the entity shall recognise the contribution payable to a defined
contribution plan in exchange for that service. Under Ind AS 19, the amount of Rs 160 crore
(200-40) will be recognised as a liability (accrued expense), after deducting any contribution
already paid i.e. Rs 40 crore (with contribution of Rs 200 crore to the plan) and an expense in
the statement of profit and loss. It can also be seen that the contributions are payable within 12
months from the end of the year in which the employees render the related service; hence,
they will not be discounted.

Question 25

An entity which follows its financial year as per the calendar year grants 1,000 share
appreciation rights (SARs) to each of its 40 management employees as on 1st January, 20X5.
The SARs provide the employees with the right to receive (at the date when the rights are
exercised) cash equal to the appreciation in the entity’s share price since the grant date. All of
the rights vest on 31st December, 20X6 and they can be exercised during 20X7 and 20X8.
Management estimates that, at grant date, the fair value of each SAR is Rs 11 and it estimates
that overall, 10% of the employees will leave during the two-year period. The fair values of
the SARs at each year end are shown below:

Year Fair value at year end

31st December, 20X5 12

31st December, 20X6 8

31st December, 20X7 13

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31st December, 20X8 12

10% of employees left before the end of 20X6. On 31st December, 20X7 (when the intrinsic
value of each SAR was Rs 10), six employees exercised their options and the remaining 30
employees exercised their options at the end of 20X8 (when the intrinsic value of each SAR
was equal to the fair value of Rs 12). How much expense and liability is to be recognized at
the end of each year? Pass Journal entries.

(Sep ‘23)

Answer 25

The amount recognized as an expense in each year and as a liability at each year-end) is as
follows:

Year Expense (Rs) Liability (Rs) Calculation of

Liability

31st December, 20X5 2,16,000 2,16,000 = 36 1,000 12 x ½

31st December, 20X6 72,000 2,88,000 = 36 1,000 x 8

31st December, 20X7 1,62,000* 3,90,000 = 30 1,000 13

31st December, 20X8 (30,000) 0 Liability extinguished

* Expense comprises an increase in the liability of Rs 1,02,000 and cash paid to those exercising
their SARs of Rs 60,000 (6 x 1,000 x 10).

Difference of opening liability (Rs 3,90,000) and actual liability paid [Rs 3,60,000 (30 x 1,000 x
12)] is recognised to Profit and loss I e Rs 30,000.

Journal Entries

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31st December, 20X5

Employee benefits expenses Dr. 2,16,000

To Share-based payment liability 2,16,000

(Fair value of the SAR recognized)

31st December, 20X6

Employee benefits expenses Dr. 72,000

To Share-based payment liability 72,00 0

(Fair value of the SAR re-measured)

31st December, 20X7

Employee benefits expenses Dr. 1,62,000

To Share-based payment liability 1,62,000

(Fair value of the SAR recognized)

Share-based payment liability Dr. 60,000

To Cash 60,000

(Settlement of SAR)

31st December, 20X8

Share-based payment liability Dr. 30,000

To Employee benefits expenses 30,000

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(Fair value of the SAR recognized)

Share-based payment liability Dr. 3,60,000

To Cash 3,60,000

(Settlement of SAR)

Note: Last two entries can be combined.

Question 26

ICAI Illustration

Sunderam Pvt. Ltd. has a headcount of 100 employees in 20X0-20X1. As per the employee
policy, the employees are entitled to:

• 30 casual leaves out of which 10 casual leaves may be carried forward to the next year; and

• 10 sick leaves out of which 2 sick leaves may be carried forward as paid leave.

At 31st March, 20X1, the average unused entitlement is 5 days per employee for casual
leaves and 1 day per employee for sick leave. On an average, it is found that the number of
such employees who would be claiming casual leaves would be 30 and 10 employees who
would claim sick leaves. Compute the liability to be recognised in respect of sick leaves and
casual leaves by the entity at the end of the financial year 20X0-20X1.

(Study material)

Answer

Type of leave Leave Leaves c/f Average No. of Liability (F =

[Link]
(A) Entitlement permissible leaves Employees D E)
(B) (C) Unutilized (D) (E)

Casual Leave 30 days 10 days 5 days 30 150 days

salary

Sick Leave 10 days 2 days 1 days 10 10 days salary

The entity will recognise liability in the books equal to 150 (30 x 5) days of paid casual leaves
and 10 (10 1) days of paid sick leaves.

Question 27

ICAI Illustration

An entity has 100 employees, who are each entitled to ten working days of paid sick leave for
each year. Unused sick leave may be carried forward for one financial year. Sick leave is taken
first out of the current year’s entitlement and then out of any balance brought forward from
the previous year (a LIFO basis).

At 31 March 20X1, the average unused entitlement is two days per employee. Based on past
experience, the management expects that only 20% of the employees will use 1 day from
their carried forward leave. Salary per day is Rs 2,500.

Compute the expenses in respect of the short-term compensated absences, if they are
assumed to be (a) vested short-term compensated absences, and (b) non-vested short-term
compensated absences.

(Study material)

Answer

Vested short-term compensated absences:

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Employee Benefit Expense = 100 Employees 2 Days Rs 2,500 = Rs 5,00,000

Non-vested short-term compensated absences:

Employee Benefit Expense = 100 Employees 20% 1 Days Rs 2,500 = Rs 50,000

Topic 11: Post-Employment Medical Plans

Question 28

ICAI Illustration

Acer Ltd. has 350 employees (same as a year ago). The average staff attrition rates observed
during past 10 years represents 6% per annum. Acer Ltd. provides the

following benefits to all its employees:

Paid vacation - 10 days per year regardless of date of hiring. Compensation for paid vacation
is 100% of employee's salary and unused vacation can be carried forward for 1 year. As of
31st March, 20X1, unused vacation carried forward was 3 days per employee, average salary
was Rs 15,000 per day and accrued expense for unused vacation in 20X0-20X1 was Rs
65,00,000. During 20X1-20X2, employees took 9 days of vacation in average. Salary increase
in 20X1-20X2 was 10%. How would Acer Ltd. recognize liabilities and expenses for these
benefits as of 31st March, 20X2?. Pass the journal entry to show the accounting treatment.

(Study material)

Answer

Paid Vacation:

[Link]
Step 1: Calculation of Unused Vacation in man-days as on 31st March, 20X2:

A. No. of Employees in service for the whole year (94%):

Particulars Man-days

Unused vacation as on 31st March, 20X1 3 days per employee

Entitlement to vacation for 20X1-20X2 10 days per employee

Average vacation availed in 20X1-20X2 (9) days per employee

Unused vacation as on 31st March, 20X2 (being unused leaves of 4 days per employee
20X1-20X2 on FIFO basis)

Total Unused vacation as on 31st March, 20X2 - (A) (350 employees 1,316 man-days
94% x 4 days per employee)

B. Newcomers (6%):

Particulars Man-days

Entitlement to vacation for 20X1-20X2 10 days per employee

Average vacation availed in 20X1-20X2 (9) days per employee

Unused vacation as on 31st March, 20X2 (being unused leaves of 1 day per employee
20X1-20X2 on FIFO basis)

Total Unused vacation as on 31st March, 20X2 - (B) (350 employees 21 man-days
6% 1 day per employee)

Total unused vacation as on 31st March, 20X2 (A + B) 1,337 man-days

Step 2: Calculation of average salary per day:

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Particulars Amount (Rs)

Average salary per day as on 31st March, 20X1 15,000

Salary increase in 20X1-20X2 10%

Average salary per day as on 31st March, 20X2 16,500

Step 3: Calculation of provision for unused paid vacation:

Particulars Amount (Rs)

Calculation of provision for unused paid vacation 20X1-20X2: (1,337 2,20,60,500

man-days Rs 16,500)

Provision for unused paid vacation 20X0-20X1 65,00,000

Step 4: Accounting treatment

Provision for 20X1-20X2

Employee Benefits Expenses A/c Dr . 2,20,60,500

To Provision for Leave Encashment 2,20,60,500

Settlement of Liability of 20X0-20X1

Provision for Leave Encashment A/c Dr 65,00,000

To Cash / Bank 65,00,000

Question 29

[Link]
ICAI Illustration

A post-employment medical plan reimburses 10 percent of an employee’s postemployment

medical costs if the employee leaves after more than ten and less than twenty years of
service and 50 per cent of those costs if the employee leaves after twenty or more years of
service.

How will the benefit be attributed to the years of service?

(Study material)(MTP May ’25)

Answer

1. Service in later years will lead to a materially higher level of benefit than in earlier year. So,
for employees expected to leave after 20 or more years, the entity should attribute benefit on a
straight-line basis under Para 71. Service beyond 20 years will lead to no material amount of
further benefits. So, the benefit attributed to each of the first 20 years will be 2.5% of the
Present Value of the Expected Medical Costs (50% ÷ 20 years).

2. For employees expected to leave between 10 and 20 years, the benefit attributed to each of
the first 10 years is 1% (10% ÷ 10 years) of the Present Value of the expected medical costs. For
these employees, no benefit is attributed to service between the end of the tenth year and the
estimated date of leaving.

3. For employees expected to leave within ten years, no benefit is attributed.

4. The Current Service Cost in each year reflects the probability that the employee may not
complete the necessary period of service to earn part or all of the benefits.

Topic 12: Profit-Sharing & Bonus Plans

[Link]
Question 30

On 1st January, 20X2, the directors of Johansen Ltd. decided to terminate production at one
of the company’s divisions. This decision was publicly announced on 31st January, 20X2. The
activities of the division were gradually reduced from 1st April, 20X2 and closure is expected
to be complete by 30th September, 20X2.

At 31st January, 20X2, the directors prepared the following estimates of the financial
implications of the closure:

(i) Redundancy costs were initially estimated at Rs 2 million. Further expenditure of Rs

8,00,000 will be necessary to retrain employees who will be affected by the closure but
remained with Johansen Ltd. in different divisions. This retraining will begin in early July
20X2. Latest estimates are that redundancy costs will be Rs 1.9 million, with retraining costs
of Rs 8,50,000.

(ii) Plant and equipment having an expected carrying value at 31 st March, 20X2 of Rs 8
million will have a recoverable amount Rs 1.5 million. These estimates remain valid.

(iii) The division is under contract to supply goods to a customer for the next three years at a
pre- determined price. It will be necessary to pay compensation of Rs 6,00,000 to this
customer. The compensation actually paid, on 31st May, 20X2, was Rs 5,50,000.

(iv) The division will make operating losses of Rs 3,00,000 per month in the first three months
of 20X2-20X3 and Rs 2,00,000 per month in the next three months of 20X2-20X3. This
estimate proved accurate for April, 20X2 and May, 20X2.

(v) The division operates from a leasehold premise. The lease is a non-cancellable operating
lease with an unexpired term of five years from 31st March, 20X2.

The annual lease rentals (payable on 31st March in arrears) are Rs 1.5 million. The landlord is
not prepared to discuss an early termination payment.

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Following the closure of the division it is estimated that Johansen Ltd. Would be able to sub-
let the property from 1st October, 20X2. Johansen Ltd. could expect to receive a rental of Rs
3,00,000 for the six-month period from 1st October, 20X2 to 31st March, 20X3 and then
annual rentals of Rs 5,00,000 for each period ending 31st March, 20X4 to 31st March, 20X7.

All rentals will be received in arrears.

Any discounting calculations should be performed using a discount rate of 5% per annum.
You are given the following data for discounting at 5% per annum:

Present value of Rs 1 received at the end of year 1 = Rs 0.95

Present value of Rs 1 received at the end of year 1–2 inclusive = Rs 1.86

Present value of Rs 1 received at the end of year 1–3 inclusive = Rs 2.72

Present value of Rs 1 received at the end of year 1–4 inclusive = Rs 3.54

Present value of Rs 1 received at the end of year 1–5 inclusive = Rs 4.32

Compute the amounts that will be included in the Statement of Profit and Loss for the year
ended 31st March, 20X2 in respect of the decision to close the division of Johansen Ltd.

(RTP Nov ’23)

Answer 30

As per Ind AS 37 ‘Provisions, Contingent Liabilities and Contingent Assets’, closure of a division
is a restructuring exercise. Ind AS 37 states that a constructive obligation to proceed with the
restructuring arises when at the reporting date the entity has:

– Commenced activities connected with the restructuring; or

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– Made a public announcement of the main features of the restructuring to those affected by it.
In this case a public announcement has been made and so a provision will be necessary at 31st
March, 20X2.

This will result in the following charges to the Statement of Profit and Loss:

(i) Estimate of redundancy costs of Rs 1.9 million is the best estimate of the expenditure at the
date the financial statements are authorized for issue. Changes in estimates after the reporting
date are taken into account for this purpose as an adjusting event after the reporting date. No
charge is necessary for the retraining costs as these are not incurred in 20X1-20X2 and cannot
form part of a restructuring provision as they are related to the on going activities of the entity.

(ii) Impairment of plant and equipment of Rs 6.5 million is although not strictly part of the
restructuring provision the decision to restructure before the year-end means that related
assets need to be reviewed for impairment. In this case the recoverable amount of the plant
and equipment is only Rs 1.5 million. As per Ind AS 36 ‘Impairment of Assets’, property, plant
and equipment should be written down to this amount, resulting in a charge of Rs 6.5 million to
the income statement.

(iii) For compensation for breach of contract of Rs 0.55 million, same principle applies here as
applied to the redundancy costs.

(iv) No charge is recognized in 20X1-20X2 with respect to future operating losses of 20X2-20X3.
Future operating losses relate to future events and provisions are made only for the
consequences of past events.

(v) Ind AS 37 states that an onerous contract is one for which the expected cost of fulfilling the
contract exceeds the benefits expected from the contract. Provision is made for the lower of
the expected net cost of fulfilling the contract and the cost of early termination (not available in
this case).

The net cost of fulfilling the contract is Rs 4.51 million [Rs 1.5 million 4.32 – Rs 0.3 million
0.95 – Rs 0.5 million (4.32 – 0.95)].

[Link]
Question 31

ICAI Illustration

Laxmi Mills is a profit-making entity and has reported profit of Rs 200 crore in the financial
year 20X1-20X2. According to its profit–sharing plan, it distributes and pays 5% as its portion
of profit to its employees if they complete 1 year with the organisation.

Under this plan, an entity is under an obligation to pay if the employees complete a specified
period with the organisation. Laxmi Mills has estimated that due to staff turnover in the
organisation, the estimated pay-out would be around 4.5%.

Compute the liability and expense of the company under this plan.

(Study material)

Answer

The company shall recognize a liability and an expense of an amount of Rs 9 crores for the
financial year 20X1-20X2 (i.e. 4.5% of Rs 200 crores).

Topic 13: Leave Encashment Liability

Question 32

Mr. Niranjana is working for InfoTech Ltd. Consider the following particulars:

Year 20X0- 20X1 Year 20X1- 20X2

Annual salary Rs. 30,00,000 Rs. 30,00,000

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No. of working days during the year 300 days 300 days

Leave allowed 10 days 10 days

Leave taken 7 days 13 days

Leave unutilized carried forward to next year 3 days NIL

Based on past experience, Infotech Ltd. assumes that Mr. Niranjan will avail the unutilized
leaves of 3 days of 20X0-20X1 in 20X1-20X2.

Infotech Ltd. contends that it will record Rs. 30,00,000 as employee benefits expense in each
of the years 20X0-20X1 and 20X1-20X2, stating that the leaves will, in any case, be utilized by
20X1-20X2. Comment on the accounting treatment proposed to be followed by Infotech Ltd.
Also pass journal entries for both the years.

(MTP April ’21)

Answer 32

Particulars Year 20X0-20X1 Year 20X1- 20X2

Annual Salary Rs. 30,00,000 Rs. 30,00,000

No. of working days (A) 300 days 300 days

Leaves Allowed 10 days 10 days

Leaves Taken (B) 7 days 13 days

Therefore, No. of days worked (A – B) 293 days 287 days

Expense proposed to be recognized by InfoTech Ltd. Rs. 30,00,000 Rs. 30,00,000

[Link]
Based on the evaluation above, Mr. Niranjan has worked for 6 days more (293 days – 287 days)
in 20X0-20X1 as compared to 20X1-20X2.

Since he has worked more in 20X0-20X1 as compared to 20X1-20X2, the accrual concept
requires that the expenditure to be recognized in 20X0-20X1 should be more as compared to
20X1-20X2.

Thus, if Infotech Ltd. recognizes the same expenditure of Rs. 30,00,000 for each year, it would
be in violation of the accrual concept.

The expenditure to be recognized will be as under:

Particulars Year 20X0-20X1 Year 20X1- 20X2

Annual salary (A) Rs. 30,00,000 Rs. 30,00,000

No. of working days (B) 300 days 300 days

Salary cost per day (A ÷ B) Rs. 10,000 per Rs. 10,000 per
day day

No. of days worked (from above) 293 days 287 days

Expense to be recognised: Rs. 30,30,000

In 20X0-20X1:Rs. 30,00,000 + [Rs. 10,000 per day 3

days (leaves unutilized expected to be utilized
subsequently)]

In 20X1-20X2:Rs. 30,00,000 – [Rs. 10,000 per day – 3 Rs. 29,70,000

days (excess leave utilized in 20X1-20X2)]

Journal Entry for 20X0-20X1

[Link]
Employee Benefits Expense Account Dr. 30,30,000

To Bank Account 30,00,000

To Provision for Leave Encashment 30,000

Journal Entry for 20X1-20X2

Employee Benefits Expense Account Dr. 29,70,000

Provision for Leave Encashment Account Dr. 30,000

To Bank Account 30,00,000

Question 33

RKA Private Ltd is an old company established in 1995. The company started with a very small
capital base and today it is one of the leading companies in India in its industry. The company
has an annual turnover of Rs. 11,000 crores and planning to get listed in the next year. The
company has a large employee base. The company provided a defined benefit plan to its
employees. Following is the information relating to the balances of the fund’s assets and
liabilities as at 1st April, 20X1 and 31st March, 20X2. Rs. In lacs

Particulars 1st April, 20X1 31st March, 20X2

Present value of benefit obligation 1,400 1,580

Fair value of plan assets 1,140 1,275

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For the financial year ended 31st March, 20X2, service cost was Rs. 55 lacs. The company
made a contribution of an amount of Rs. 111 lacs to the plan. No benefits were paid during
the year.

Consider a discount rate of 8%.

As per Ind AS, you are required to -

(a) Compute the balance(s) of the company to be included its balance sheet as on 31st March,
20X2 and amounts to be recognized in the statement of profit and loss and other
comprehensive income for the year ended 31st March, 20X2.

Give the journal entries in respect of amount(s) to be recognized.

(MTP Oct’19 & April ’23) (MTP Oct ‘23)

Answer 33

(a) Extract of the Balance Sheet of RKA Private Ltd as at 31st March, 20X2

Rs. in lacs

Closing net defined liability (1580 – 1275) lacs 305

Extract of the Statement of Profit or Loss of RKA Private Ltd for the year ended 31st March,
20X2

Particulars Rs. in lacs

Service cost 55

Net interest (Refer W.N.1) 21

Profit or loss 76

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Other comprehensive income:

Remeasurements (Refer W.N.2) 80

Total 156

(b) Journal entries in the books of RKA Private Ltd

Particulars Rs in lacs Rs in lacs

Profit & Loss Dr. 76

Other comprehensive income Dr. 80

To Cash (Contribution) 111

To Net defined benefit liability (Refer WN 3) 45

Working Notes:

1. Computation of Net interest taken to the Statement of Profit or Loss

= Discount rate Opening net defined benefit liability

= 8% (1,400 – 1,140) lacs

= 8% 260 lacs

= 21 lacs (Rounded off to nearest lacs)

2. Computation of Remeasurements

Actuarial gain or loss on defined benefit liability:

Particulars Rs. in lacs

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Opening balance of liability 1,400

Current service cost 55

Interest on opening liability (1,400 8%) 112

Actuarial loss (Bal. fig) 13

Closing balance of liability 1,580

Actual return on plan assets:

Particulars Amount Rs. In

lacs

Opening balance of asset 1,140

Cash contribution 111

Actual return (Bal. fig) 24

Closing balance of asset 1,275

Net interest on opening balance of plan asset = Rs. 91 lacs (i.e. Rs. 1,140 lacs 8%) (Rounded
off to nearest lacs)

Hence there is a decrease in plan assets due to remeasurement for which computation is as
follows:

Actual Return – Net interest on opening plan asset

= Rs. 24 lacs – Rs. 91 lacs

= Rs. 67 lacs.

[Link]
Net remeasurement would be computed as follows:

Actuarial loss on liability + Loss on return

= Rs. 13 lacs + Rs. 67 lacs

= Rs. 80 lacs.

Computation of increase/ decrease in net defined benefit liability:

Particulars Rs in lacs

Opening net liability (Rs 1,400 lacs – Rs 1,140 lacs) 260

Closing net liability (Rs 1,580 lacs – Rs 1,275 lacs) 305

Increase in liability 45

Question 34

ICAI Illustration

Mr. Rajan is working for Infotech Ltd. Consider the following particulars:

Annual salary of Mr. Rajan = Rs 30,00,000

Total working days in 20X0-X1 = 300 days

Leaves allowed in 20X0-X1 as per company policy = 10 days

Leaves utilized by Mr. Rajan in 20X0-X1 = 8 days

The unutilized leaves are settled by way of payment and accordingly, carry forward of such
leaves to the subsequent period is not allowed.

[Link]
Compute the total employee benefit expense for Infotech Ltd. in respect of 20X0- X1.

(Study material)

Answer

Mr Rajan is entitled to a salary of Rs 30,00,000 for 300 total working days.

Thus, per day salary works out to Rs 30,00,000 ÷ 300 days = Rs. 10,000 per day

In the year 20X0-20X1, Mr. Rajan availed 8 out of 10 leaves allowed by the company.

Accordingly, leaves unutilized = 10 – 8 = 2 days

In line with the company policy, Infotech Ltd. will pay Mr. Rajan for the unutilized leave. Thus,
total expense for 20X0-20X1 = Rs 30,00,000 + (2 days unutilized leaves Rs 10,000 per day) = Rs
30,20,000.

Question 35

ICAI Illustration

Assume same information as in Illustration 2.

Based on past experience, Infotech Ltd. assumes that Mr. Niranjan will avail the unutilized
leaves of 2 days of 20X0-20X1 subsequently.

However, in 20X1-20X2, Mr. Niranjan availed in actual all 3 days of brought forward leave.

Compute the expense to be recognised in 20X0-20X1 and 20X1-20X2. Also pass journal entries
for both the years.

(Study material)

Answer

[Link]
The expenditure to be recognized will be as under:

Particulars Year 20X0- 20X1 Year 20X1-20X2

Annual salary (A) Rs 30,00,000 Rs 30,00,000

No. of working days (B) 300 days 300 days

Salary cost per day (A ÷ B) Rs 10,000 per day Rs 10,000 per day

No. of days worked (from above) 293 days 287 days

Expense to be recognised: Rs 30,20,000

In 20X0-20X1: Rs 30,00,000 + [Rs 10,000 per day

2 days (leaves unutilized expected to be utilized
subsequently)]

In 20X1-20X2: Rs 30,00,000 – [Rs 10,000 per day Rs 29,80,000

3 days (excess leave utilized in 20X1- 20X2)] + Rs
10,000 (additional expense due to change in
accounting estimate)

The additional Rs 10,000 booked as an expense in 20X1-20X2 represents a change in accounting

estimate (i.e. as against the entity’s estimation that 2 days of unutilized leave would be utilized
subsequently, actually 3 days were utilized subsequently), for which a prospective effect needs
to be given, in line with Para 36 of Ind AS 8 Accounting Policies, Changes in Accounting
Estimates and Errors.

Journal Entry for 20X0-20X1

Employee Benefits Expense Account Dr. 30,20,000

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 To Bank Account 30,00,000

To Provision for Leave Encashment 20,000

Journal Entry for 20X1-20X2

Employee Benefits Expense Account Dr. 29,80,000

Provision for Leave Encashment Account Dr. 20,000

To Bank Account 30,00,000

Topic 14: Share-Based Payments

Question 36

ICAI Illustration

Pratap Ltd. belongs to the ship-building industry. The company reviewed an Actuarial
Valuation for the first time for its pension scheme which revealed a surplus of Rs 60 lakhs. It
wants to spread the same over the next 2 years by reducing the annual contribution to Rs 20
lakhs instead of Rs 50 lakhs. The average remaining life of the employees is estimated to be 6
years. Advise the Company in line with Ind AS 19.

(Study material)

Answer

[Link]
1. Recognition: As per Ind AS 19, any Actuarial Gains and Losses should be recognized as a re-
measurement of the Net Defined Benefit Liability / (Asset) in "Other Comprehensive Income".

2. Measurement and Presentation: In the given case, the amount of surplus from Pension
Scheme of Rs 60 lakhs is an Actuarial Gain and should be recognized as a "re-measurement" in
"Other Comprehensive Income", and not to be adjusted from the amount of annual
contribution in future years.

3. Disclosure: The change relating to Actuarial Valuation for the Pension Scheme requires
disclosure under Ind AS 8. Disclosures required by Ind AS 19 should also be made in the
financial statements.

Topic 15: Disclosures & Compliance

Question 37

ICAI Illustration

Dinkar Ltd., a large IT company, accounts for gratuity on payment basis, and supports such
accounting policy by making the following disclosure in the Financial Statements:

“Due to high labour turnover, a large degree of uncertainty is involved in estimating the
liability of gratuity. Accordingly, the management opines that as the estimates of the
uncertainty would confuse the readers by complicating the financial statements, such liability
would be recorded on payment basis.” The management opines that by making the above
disclosures, the company is complying with the requirements of all the Ind AS, as a disclosure
to the effect of the above is given. The management is also willing to specifically highlight the
above aspect by making it conspicuous in the financial statements.

Is the contention of management correct as per the provisions of Ind AS?

[Link]
 (Study material)

Answer

Gratuity represents a payment being made to an employee upon retirement / resignation from
the organization. The amount is determined in accordance with the provisions of the Gratuity
Act, 1972, which applies to Dinkar Ltd. Since the amount is determined pursuant to a formula
laid down under the statue, the gratuity payable represents a Defined Benefit Plan that is to be
paid to the employees, with the actuarial risk and investment risk both belonging to the
employer. Thus, Dinkar Ltd. must comply with Ind AS 19 and provide for the gratuity on an
annual basis.

In estimating the liability for gratuity, there would be several assumptions involved such as
mortality rate, staff attrition rate, salary at the time of retirement / resignation, discount rate
etc., all of which have to be considered by Dinkar Ltd. The complexity involved in this exercise
does not provide Dinkar Ltd. with an excuse to avoid accrual accounting.

Dinkar Ltd. has stated that it would be willing to make a disclosure to the effect of the
departure from Ind AS 10 requirements. In terms of Para 19 of Ind AS 1, departure is permitted
in extremely rare circumstances wherein the management concludes that compliance with an
Ind AS requirement would be so misleading that it would conflict with the objective of the
Financial Statements set out in the Framework.

In the given case, compliance with Ind AS would not be a conflict, as the compliance with Ind AS
19 would ensure that the accrual assumption laid down in the Framework is complied with.
Further, a disclosure cannot be a remedy for non-compliance.

Therefore, the company have to state that the Ind AS have not been complied with by the
company in the preparation and presentation of its Financial Statements.

Hence, the company will have to suitably modify the financial statements considering the
materiality and pervasiveness of the non-compliance.

[Link]
Topic 16: Curtailment & Settlement

Question 38

ICAI Illustration

How will the following information be presented in the Balance Sheet of Udyog Ltd.?

Particulars Rs in lakhs

PV of Defined Benefit Obligations 3,500

Fair Value of Plan Assets 3,332

(Study material)

Answer

Particulars Rs in lakhs

PV of Defined Benefit Obligations 3,500

Less: Fair Value of Plan Assets (3,332)

Deficit, to be treated as Net Defined Benefit Liability under Non-current

Liabilities as Provisions in the Balance Sheet

168

[Link]
Question 39

ICAI Illustration

AKJ Ltd is a listed company engaged in the business of manufacturing of electronic

equipment. The company has various branch offices spread out across India and has 1,000
employees. As per the statutory requirements, gratuity shall be payable to an employee on
the termination of his employment after he has rendered continuous service for not less than
five years -

(a) on his superannuation, or

(b) on his retirement or resignation, or

(c) on his death or disablement due to accident or disease.

The completion of continuous service of five years shall not be necessary where the
termination of the employment of any employee is due to death or disablement. The amount
payable is determined by a formula linked to number of years of service and last drawn
salary. The amount payable to an employee shall not exceed Rs 10,00,000.

Compute the amount of employee benefit, if any, attributed to each year of service.

(Study material)

Answer

The amount of gratuity would be attributed to each year of service and calculated as follows:
Number of employees not likely to fulfil the eligibility criteria will be ignored. Other employees
will be grouped according to period of service they are expected to render taking into account:

• mortality rate,

• disablement and

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• resignation after 5 years.

Gratuity payable will be calculated in accordance with the formula prescribed in the governing
statute based on the period of service and the salary at the time of termination of employment,
assuming promotion, salary increases etc.

For those employees for whom the amount payable as per the formula does not exceed Rs
10,00,000, over the expected period of service, the amount payable will be divided by the
expected period of service and the resulting amount will be attributed to each year of the
expected period of service, including the period before the stipulated period of 5 years.

In case of the remaining employees, the amount as per the formula exceeds Rs 10,00,000 over
the expected period of service of 10 years (say), and the amount of the threshold of Rs
10,00,000 is reached at the end of 8 years (assumed) i.e. Rs 1,25,000 (Rs 10,00,000 ÷ 8 years) is
attributed to each of the first 8 years. In this case, no benefit is attributed to subsequent two
years. This is because service beyond 8 years will lead to no material amount of further
benefits.

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 Chapter 6 Unit-2

Ind AS 37: “Provisions, contingent Liabilities and contingent Assets”

Topic 1 : Definition and Recognition Criteria of Provisions

Question 1

An entity is a telecom operator. Laying of cables across the world is a requirement to enable
the entity to run its business. Cables are also laid under the sea and contracts are entered
into for the same. By virtue of laws of the countries through which the cable passes, the
entity is required to restore the sea bed at the end of the contract period. What is the nature
of obligation that the entity has in such a case?

(PYP May ‘23)

Answer 1

Paragraph 14 of Ind AS 37 states that a provision shall be recognised when:

(a) an entity has a present obligation (legal or constructive) as a result of a past event;

(b) it is probable that an outflow of resources embodying economic benefits will be required to
settle the obligation; and

(c) a reliable estimate can be made of the amount of the obligation. If these conditions are not
met, no provision shall be recognised.

Further, with regard to past event paragraph 17 of Ind AS 37 states that a past event that leads
to a present obligation is called an obligating event. For an event to be an obligating event, it is

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necessary that the entity has no realistic alternative to settling the obligation created by the
event. This is the case only:

(a) where the settlement of the obligation can be enforced by law; or

(b) in the case of a constructive obligation, where the event (which may be an action of the
entity) creates valid expectations in other parties that the entity will discharge the obligation.”

On the basis of the above, provision should be recognised as soon as the obligating event takes
place because the entity is under legal obligation to restore the sea bed, provided the other
recognition criteria stated in paragraph 14 reproduced above are met. Moreover, the amount
of the provision would depend on the extent of the obligation arising from the obligating event.
In the instant case, an obligating event is the laying of cables under the sea. To the extent the
cables have been laid down under the sea, a legal obligation has arisen and to that extent
provision for restoration of sea bed should be recognised.

Question 2

ICAI Illustration

ABC Limited is an automobile component manufacturer. The automobile manufacturer has

specified a delivery schedule, non-adherence to which will entail a penalty. As on 31st March,
20X1, the reporting date, the manufacturer has a delivery scheduled for June 20X2. However,
the manufacturer is aware that he will not be able to meet the delivery schedule in June
20X2. Determine whether the entity has a present obligation as at 31st March, 20X1,
requiring recognition of provision.

(Study material)

Answer

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In this case, there is no present obligation arising out of a past event as the goods are scheduled
for delivery in June 20X2 and there is no delay as at 31st March, 20X1. Hence, there is no
present obligation to pay the penalty in the current year. Therefore, there is no present
obligation to recognise the provision.

Question 3

ICAI Illustration

X Shipping Ltd. is required by law to overhaul its shipping fleet once in every 3 years. The
company’s finance team was of the view that recognising the costs only when paid would
prevent matching of revenue earned all the time with certain costs of large amounts which
are incurred occasional. Thereby, it has formulated an accounting policy of providing in its
books of account for the future cost of maintenance (overhauls, annual inspection etc.) by
calculating a rate per hours sailed on sea and accumulating a provision over time. The
provision is adjusted when the expenditure is actually incurred. Is the accounting policy of X
Shipping Ltd. correct?

(Study material)

Answer

A provision is made for a present obligation arising out of a past event. Even a legal
requirement to overhaul does not make the cost of overhaul a liability, because no obligation
exists to overhaul the ships independently of the company’s future actions - the company could
avoid the future expenditure by its future actions for example by selling the ships. So there is
no present obligation.

As per the standard, financial statements deal with the financial position of an entity at the end
of its reporting period and not its possible position in the future.

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Therefore, no provision is recognised for costs that need to be incurred to operate in the
future. The only liabilities recognised in an entity’s balance sheet are those that exist at the end
of the reporting period.

Therefore, the accounting policy of X Shipping Ltd. is not correct. The company should adopt
the component approach in Ind AS 16, Property, Plant and Equipment, for accounting for the
refurbishment cost.

Topic 2 : Contingent Liabilities

Question 4

ICAI Illustration

X Chemical Ltd. is operating in the vicinity of a river since 20 years. A community living near X
Chemical Ltd. claims that its operations has caused contamination of drinking water. X
Chemical Ltd. has received notice from the governmental environmental agency that official
investigations will be made into claims of pollution caused by the entity. If it is found that X
Chemical Ltd. Has caused contamination, then penalties and fine would be levied on it.

X Chemical Ltd. believes that it has implemented all environmental safety measures to an
extent that it is unlikely to cause pollution. Management is not sure whether it has all the
information about the entire 20 years. Therefore, neither management nor external experts
are able to assess X Chemical Ltd.’s responsibility until the investigation has completed.

In such situation, how should management of X Chemical Ltd. account for a liability?

(Study material)

Answer

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As per the standard, in the present case, the available evidence does not support a conclusion
that a present obligation exists. However, there is a possible obligation which exists and will be
confirmed upon completion of investigations. Therefore, management should disclose the
contingent liability for potential penalties and fines that may be imposed if contamination is
proved.

Question 5

During the year, QA Ltd. delivered manufactured products to customer K. The products were
faulty and on 1st October, 2016 customer K commenced legal action against the Company
claiming damages in respect of losses due to the supply of faulty product. Upon investigating
the matter, QA Ltd. discovered that the products were faulty due to defective raw material
procured from supplier F.

Therefore, on 1st December, 2016, the Company commenced legal action against F claiming
damages in respect of the supply of defective raw materials.

QA Ltd. has estimated that it's probability of success of both legal actions, the action of K
against QA Ltd. and action of QA Ltd. against F, is very high.

On 1st October, 2016, QA Ltd. has estimated that the damages it would have to pay K would
be Rs. 5 crores. This estimate was revised to Rs. 5.2 crores as on 31st March, 2017 and Rs.
5.25 crores as at 15th May, 2017. This case was eventually settled on 1st June, 2017, when
the Company paid damages of Rs. 5.3 crores to K.

On 1st December, 2016, QA Ltd. had estimated that it would receive damages of Rs. 3.5
crores from F. This estimate was revised to Rs. 3.6 crores as at 31st March, 2017 and Rs. 3.7
crores as on 15th May, 2017. This case was eventually settled on 1st June, 2017 when F paid
Rs. 3.75 crores to QA Ltd. QA Ltd. had, in its financial statements for the year ended 31st
March, 2017, provided Rs. 3.6 crores as the financial statements were approved by the Board
of Directors on 26th April, 2017.

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What will the accounting treatment of the action of QA Ltd. against supplier F as per
applicable Ind AS?

(MTP Mar ‘19)

Answer 5

As per para 31 of Ind AS 37, QA Ltd. shall not recognise a contingent asset. Here he probability
of success of legal action is very high but there is no concrete evidence which makes the inflow
virtually certain. Hence, it will be considered as contingent asset only and shall not be
recognized.

Topic 3 : Contingent Assets

Question 6

A company manufacturing and supplying process control equipment is entitled to duty draw
back if it exceeds its turnover above a specified limit. To claim duty drawback, the company
needs to file application within 15 days of meeting the specified turnover. If application is not
filed within stipulated time, the Department has discretionary power of giving duty draw
back credit. For the year 20X1-20X2 the company has exceeded the specified limit of turnover
by the end of the reporting period. However, duty drawback can be claimed on filing of
application within the stipulated time or on discretion of the Department if filing of
application is late. The application for duty drawback is filed on April 20, 20X2, which is after
the stipulated time of 15 days of meeting the turnover condition. Duty drawback has been
credited by the Department on June 28, 20X2 and financial statements have been approved
by the Board of Directors of the company on July 26, 20X2. What would be the treatment of
duty drawback credit as per the given information?

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 (RTP May’20)

Answer 6

In the instant case, the condition of exceeding the specified turnover was met at the end of the
reporting period and the company was entitled for the duty drawback.

However, the application for the same has been filed after the stipulated time. Therefore,
credit of duty drawback was discretionary in the hands of the Department.

Since the claim was to be accrued only after filing of application, its accrual will be considered
in the year 20X2-20X3 only.

Accordingly, the duty drawback credit is a contingent asset as at the end of the reporting period
20X1-20X2, which will be realized when the Department credits the same.

As per para 35 of Ind AS 37, Provisions, Contingent Liabilities and Contingent Assets, contingent
assets are assessed continually to ensure that developments are appropriately reflected in the
financial statements. If it has become virtually certain that an inflow of economic benefits will
arise, the asset and the related income are recognised in the financial statements of the period
in which the change occurs. If an inflow of economic benefits has become probable, an entity
discloses the contingent asset.

In accordance with the above, the duty drawback credit which was contingent asset for the F.Y.
20X1 -20X2 should be recognised as asset and related income should be recognized in the
reporting period in which the change occurs. i.e., in the period in which realization becomes
virtually certain, i.e., F.Y. 20X2 - 20X3.

Question 7

A company manufacturing and supplying process control equipment is entitled to duty draw
back if it exceeds its turnover above a specified limit. To claim duty drawback, the company

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needs to file application within 15 days of meeting the specified turnover. If application is not
filed within stipulated time, the Department has discretionary power of giving duty draw
back credit. For the year 20X1-20X2 the company has exceeded the specified limit of turnover
by the end of the reporting period. However, duty drawback can be claimed on filing of
application within the stipulated time or on discretion of the Department if filing of
application is late. The application for duty drawback is filed on April 20, 20X2, which is after
the stipulated time of 15 days of meeting the turnover condition. Duty drawback has been
credited by the Department on June 28, 20X2 and financial statements have been approved
by the Board of Directors of the company on July 26, 20X2. What would be the treatment of
duty drawback credit as per the given information?

(Study material)

Answer 7

In the instant case, the condition of exceeding the specified turnover was met at the end of the
reporting period and the company was entitled for the duty drawback.

However, the application for the same has been filed after the stipulated time. Therefore,
credit of duty drawback was discretionary in the hands of the Department.

Since the claim was to be accrued only after filing of application, its accrual will be considered
in the year 20X2-20X3 only. Accordingly, the duty drawback credit is a contingent asset as at the
end of the reporting period 20X1-20X2, which will be realised when the Department credits the
same. As per para 35 of Ind AS 37, Provisions, Contingent Liabilities and Contingent Assets,
contingent assets are assessed continually to ensure that developments are appropriately
reflected in the financial statements. If it has become virtually certain that an inflow of
economic benefits will arise, the asset and the related income are recognised in the financial
statements of the period in which the change occurs. If an inflow of economic benefits has
become probable, an entity discloses the contingent asset.

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In accordance with the above, the duty drawback credit which was contingent asset for the F.Y.
20X1-20X2 should be recognised as asset and related income should be recognized in the
reporting period in which the change occurs. i.e., in the period in which realisation becomes
virtually certain, i.e., F.Y. 20X2-20X3.

Topic 4 : Warranty Provisions

Question 8

XYZ Ltd. offers a six-month warranty on its small to medium sized equipment, which can be
put to use by the customer with no installation support. The warranty comes with the
equipment and the customer cannot purchase it separately. This equipment is typically sold
at a gross margin of 40%. XYZ Ltd. has made a provision of Rs 30,000 during the year ended
31st March, 20X2, which is approximately 1% of its gross margin on the sale of these
equipment. Based on past experience, it is expected that 1% of equipment sold have been
returned as faulty within the warranty period. Faulty equipment returned to XYZ Ltd. During
the warranty period are scrapped and the sale value is fully refunded to the customer.

Assuming that sales occurred evenly during the year, how should XYZ Ltd. Evaluate whether
any additional warranty provision is required on equipment sold in the past as at 31st March,
20X2? Had the warranty period been 2 years instead of six months, what additional criteria
would XYZ Ltd. need to consider?

(RTP May ’22)

Answer 8

Calculation of additional warranty provisions:

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Warranty claim covers 1% of gross margin, whereas customers are refunded the full selling
price. As the goods are scrapped it is assumed XYZ Ltd has no potential for re - imbursement
from its supplier regarding the faulty goods.

A calculation of warranty provision is set out below:

1% of annual gross margin is Rs 30,000 therefore 100% of annual gross margin must be Rs
30,00,000. Since gross margin is 40%, sales should be Rs 75,00,000. As provide in the question
that the sales are evenly spread during the year and given the six month warranty, half of the
sales occurred in the second half of the year is still covered within the warranty period as
follows.

% age Annual sales Product under Percentage Warranty

warranty at 31st expected to provision
March, 20X2 be returned

Rs Rs Rs Rs

Gross margin 40% 30,00,000

Selling price 100% 75,00,000 37,50,000 1% 37,500

The warranty provision should therefore be increased by Rs 7,500 (Rs 37,500 – Rs 30,000). As
the provision is expected to be used in the next 6 months no discounting is required. If the
warranty period is 2 years:

Since the outstanding period of warranties is 6 months (i.e. less than a year), no discounting is
required. However, if a longer warranty period is to be given, the entity will have to take into
account the effect of the time value of money. The amount of provision shall be the present
value of the expenditures expected to be required to settle the warranty obligation. (Refer Para
45 of Ind AS 37)

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The discount rate shall be a pre-tax rate that reflects current market assessments of the time
value of money and the risks specific to the liability. The discount rate shall not reflect risks for
which future cash flow estimates have been adjusted. (Refer Para 47 of Ind AS 37)

% age Annual sales Product under Percentage Warranty

warranty at 31st expected to provision
March, 20X2 be returned

Rs Rs Rs Rs

Gross margin 40% 30,00,000

Selling price 100% 75,00,000 75,00,000 1% 75,000

The warranty provision should therefore be increased by Rs 45,000 (Rs 75,000 – Rs 30,000).
Further discounting of provision would be required.

Question 9

Assume that the firm has not been operating its warranty for five years, and reliable data
exists to suggest the following:

• If minor defects occur in all products sold, repair costs of Rs. 20,00,000 would result.

• If major defects are detected in all products, costs of Rs. 50,00,000 would result.

• The manufacturer’s past experience and future expectations indicate that each year 80% of
the goods sold will have no defects. 15% of the goods sold will have minor defects, and 5% of
the goods sold will have major defects.

Calculate the expected value of the cost of repairs in accordance with the requirements of Ind
AS 37, if any. Ignore both income tax and the effect of discounting.

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 (RTP Nov 19)

Answer 9

The expected value of cost of repairs in accordance with Ind AS 37 is:

(80% nil) + (15% Rs. 20,00,000) + (5% Rs. 50,00,000) = 3,00,000 + 2,50,000 = 5,50,000

Question 10

ICAI Illustration

An entity sells goods with a warranty under which customers are covered for the cost of
repairs of any manufacturing defects that become apparent within the first six months after
purchase. If minor defects were detected in all products sold, repair costs of Rs 1 million
would result. If major defects were detected in all products sold, repair costs of Rs 4 million
would result. The entity’s past experience and future expectations indicate that, for the
coming year, 75% of the goods sold will have no defects, 20% of the goods sold will have
minor defects and 5% of the goods sold will have major defects. In accordance with the
standard, an entity assesses the probability of an outflow for the warranty obligations as a
whole.

(Study material)

Answer

The expected value of the cost of repairs is:

(75% of nil) + (20% of 1m) + (5% of 4m) = Rs 4,00,000

Question 11

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ICAI Illustration

A manufacturer gives warranties at the time of sale to purchasers of its three product lines.
Under the terms of the warranty, the manufacturer undertakes to repair or replace items that
fail to perform satisfactorily for two years from the date of sale. At the end of the reporting
period, a provision of Rs 60,000 has been recognised. The provision has not been discounted
as the effect of discounting is not material. Draft the Note.

(Study material)

Answer

A provision of Rs 60,000 has been recognised for expected warranty claims on products sold
during the last three financial years. It is expected that the majority of this expenditure will be
incurred in the next financial year, and all will be incurred within two years after the reporting
period.

Topic 5 : Onerous Contracts

Question 12

Entity XYZ entered into a contract to supply 1000 television sets for Rs 2 million.

An increase in the cost of inputs has resulted into an increase in the cost of sales to Rs 2.5
million. The penalty for non- performance of the contract is expected to be Rs 0.25 million. Is
the contract onerous and how much provision in this regard is required?

(MTP March ’23, RTP May’20)

Answer 12

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Ind AS 37 “Provisions, Contingent Liabilities and Contingent Assets” defines an onerous contract
as a contract in which the unavoidable costs of meeting the obligations under the contract
exceed the economic benefits expected to be received under it. Paragraph 68 of Ind AS 37
states that the unavoidable costs under a contract reflect the least net cost of exiting from the
contract, which is the lower of the cost of fulfilling it and any compensation or penalties arising
from failure to fulfill it.

In the instant case, cost of fulfilling the contract is Rs 0.5 million (Rs 2.5 million – Rs 2 million)
and cost of exiting from the contract by paying penalty is Rs 0.25 million.

In accordance with the above reproduced paragraph, it is an onerous contract as cost of

meeting the contract exceeds the economic benefits.

Therefore, the provision should be recognised at the best estimate of the unavoidable cost,
which is lower of the cost of fulfilling it and any compensation or penalties arising from failure
to fulfill it, i.e., at Rs 0.25 million (lower of Rs 0.25 million and Rs 0.5 million).

Question 13

HVCL manufactures heavy equipment for construction industry. An order for supply of 90
equipment was received from ABIL. The unit price of the equipment was agreed at Rs 190
lakhs each. 64 equipment was supplied during the year 20X1- 20X2 and balance quantity
remaining to be supplied as on 31.3.20X2. HVCL has 5 equipment in its inventory as on
31.3.20X2. HVCL considered that the contract was an onerous contract and therefore, the net
realisable value of inventory has been taken as value of inventory as on 31.3.20X2.

The management of HVCL contends that costs incurred towards administrative overheads,
finance charges, R & D expenses, sales overhead, head quarter expenditure etc., are
considered as period cost and hence not considered for creation of provision. Hence, the
same have not been included in the computation of unavoidable cost.

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The management of HVCL has submitted the details of costs that have been considered for
creation of provision towards onerous contract:

• Material cost - includes cost of material procured, cost of freight & insurance incurred for
material procurement and handling, loading and unloading charges incurred.

• Labour cost/ Factory Overheads - includes salaries and other expenses of direct production
department, and also expenses allocated from indirect departments to direct department.

• Material Overheads - Includes salaries and other expenses (including expenses allocated
from other departments) booked under departments linked with materials like purchases,
stores and quality control.

Accordingly, provision has been made considering the above costs only. The value of
provision created for 21 remaining equipment to be produced is as per the working shown
below:

Particulars Value (Rs in lakh)

(i) Cost of production (which includes material cost, labour 199.00

cost/factory overhead and material overhead)

(ii) Selling price (190.00)

(iii) Differential cost per equipment 9.00

(iv) Differential cost of Rs 9 Lakh per equipment for 21 equipment 189.00

Whether the company's accounting treatment of cost for creation of provision towards
onerous contracts is in line with the provisions of Ind AS 37?

(RTP Nov’22)

Answer 13

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As per para 68 of Ind AS 37, onerous contract is a contract in which the unavoidable costs of
meeting the obligations under the contract exceed the economic benefits expected to be
received under it. The unavoidable cost under a contract reflects the least net cost of exiting
from the contract, which is the lower of the cost of fulfilling it and any compensation for
penalties arising from failure to fulfilling it.

Ind AS 37 provides that the amount recognised shall be the best estimate of the expenditure
required to settle the present obligation, which is the amount that an entity would rationally
pay to settle the obligation at the end of the reporting period or to transfer it to a third party at
that time. In case of onerous contracts, an amount that an entity would rationally pay to settle
the obligation would be the lower of the compensation or penalties arising from failure to fulfil
the contacts and excess of unavoidable cost of meeting the obligations under the contract from
the economic benefits expected to be received under it.

As per para 68 of Ind AS 37, the cost of fulfilling a contract comprises the costs that relate
directly to the contract. Costs that relate directly to a contract consist of both

iii. the incremental costs of fulfilling that contract—for example, direct labour and materials;
and

iv. an allocation of other costs that relate directly to fulfilling contracts— for example, an
allocation of the depreciation charge for an item of property, plant and equipment used in
fulfilling that contract among others.

The unavoidable costs of meeting the obligations under the contract are only costs that:

• "are directly variable with the contract and therefore incremental to the performance of the
contract;"

• do not include allocated or shared costs that will be incurred regardless of whether the entity
fulfils the contract or not; and

• cannot be avoided by the entity's future actions.

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Accordingly, HVCL has correctly measured the cost for creation of provision for onerous
contracts by considering material cost, labour cost (to the extent it relates directly to
production) and material overheads (to the extent it relates directly to production). Further,
HVCL is correct that the period cost will not be considered for measurement of cost for the
purpose of creation of provision on onerous contracts as they do not relate directly to fulfilling
the contracts.

Question 14

Sun Limited has entered into a binding agreement with Moon Limited to buy a custom- made
machine for Rs. 4,00,000. At the end of 2017-18, before delivery of the machine, Sun Limited
had to change its method of production. The new method will not require the machine
ordered which is to be scrapped after delivery. The expected scrap value is nil. Given that the
asset is yet to be delivered, should any liability be recognized for the potential loss? If so, give
reasons for the same, the amount of liability as well as the accounting entry.

(PYP Nov’18)

Answer 14

As per Ind AS 37, Executory contracts are contracts under which

• Neither party has performed any of its obligations; or

• Both parties have partially performed their obligations to an equal extent.

The contract entered by Sun Ltd. is an executory contract, since the delivery has not yet taken
place.

Ind AS 37 is applied to executory contracts only if they are onerous.

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Ind AS 37 defines an onerous contract as a contract in which the unavoidable costs of meeting
the obligations under the contract exceed the economic benefits expected to be received under
it.

As per the facts given in the question, Sun Ltd. will not require the machine ordered.

However, since it is a binding agreement, the entity cannot exit / cancel the agreement.
Further, Sun Ltd. has to scrap the machine after delivery at nil scrap value.

These circumstances do indicate that the agreement/contract is an onerous contract.

Therefore, a provision should be made for the onerous element of Rs. 4,00,000 ie the full cost
of the machine.

Rs Rs

Onerous Contract Provision Expense A/c Dr. 4,00,000

To Provision for Onerous Contract Liability A/c 4,00,000

(Being asset to be received due to binding agreement

recognized)

Profit and Loss Account (Loss due to onerous contract) Dr. 4,00,000

To Onerous Contract Provision Expense A/c 4,00,000

(Being loss due to onerous contract recognized and asset

derecognized)

Question 15

ICAI Illustration

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X Metals Ltd. had entered into a non-cancellable contract with Y Ltd. to purchase 10,000 units
of raw material at Rs 50 per unit at a contract price of Rs 5,00,000.

As per the terms of contract, X Metals Ltd. would have to pay Rs 60,000 to exit the said
contract. X Metals Ltd. has discontinued manufacturing the product that would use the said
raw material. For that X Metals Ltd. has identified a third party to whom it can sell the said
raw material at Rs 45 per unit.

How should X Metals Ltd. account for this transaction in its books of account in respect of the
above contract?

(Study material)

Answer

These circumstances do indicate an onerous contract. The only benefit to be derived from the
purchase contract costing Rs 5,00,000 are the proceeds from the sale contact, which are Rs
4,50,000. Therefore, a provision should be made for the onerous element of Rs 50,000, being
the lower of cost of fulfilling the contract and the penal cost of cancellation of Rs 60,000.

Topic 6 : Legal Disputes and Litigation

Question 16

During the year, QA Ltd. delivered manufactured products to customer K. The products were
faulty and on 1st October, 2016 customer K commenced legal action against the Company
claiming damages in respect of losses due to the supply of faulty product. Upon investigating
the matter, QA Ltd. discovered that the products were faulty due to defective raw material
procured from supplier F.

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Therefore, on 1st December, 2016, the Company commenced legal action against F claiming
damages in respect of the supply of defective raw materials.

QA Ltd. has estimated that it's probability of success of both legal actions, the action of K
against QA Ltd. and action of QA Ltd. against F, is very high.

On 1st October, 2016, QA Ltd. has estimated that the damages it would have to pay K would
be Rs. 5 crores. This estimate was revised to Rs. 5.2 crores as on 31st March, 2017 and Rs.
5.25 crores as at 15th May, 2017. This case was eventually settled on 1st June, 2017, when
the Company paid damages of Rs. 5.3 crores to K.

On 1st December, 2016, QA Ltd. had estimated that it would receive damages of Rs. 3.5
crores from F. This estimate was revised to Rs. 3.6 crores as at 31st March, 2017 and Rs. 3.7
crores as on 15th May, 2017. This case was eventually settled on 1st June, 2017 when F paid
Rs. 3.75 crores to QA Ltd. QA Ltd. had, in its financial statements for the year ended 31st
March, 2017, provided Rs. 3.6 crores as the financial statements were approved by the Board
of Directors on 26th April, 2017.

(i) Whether the Company is required to make provision for the claim from customer K as per
applicable Ind AS? If yes, please give the rationale for the same.

(MTP Mar ‘19)

Answer 16

(i) Yes, QA Ltd. is required to make provision for the claim from customer K as per Ind AS 37
since the claim is a present obligation as a result of delivery of faulty goods manufactured. Also,
it is probable that an outflow of resources embodying economic benefits will be required to
settle the obligations. Further, a reliable estimate of Rs. 5.2 crore can be made of the amount of
the obligation while preparing the financial statements as on 31st March, 2017.

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Question 17

During the year, QA Ltd. delivered manufactured products to customer K. The products were
faulty and on 1st October, 2016 customer K commenced legal action against the Company
claiming damages in respect of losses due to the supply of faulty product. Upon investigating
the matter, QA Ltd. discovered that the products were faulty due to defective raw material
procured from supplier F.

Therefore, on 1st December, 2016, the Company commenced legal action against F claiming
damages in respect of the supply of defective raw materials.

QA Ltd. has estimated that it's probability of success of both legal actions, the action of K
against QA Ltd. and action of QA Ltd. against F, is very high.

On 1st October, 2016, QA Ltd. has estimated that the damages it would have to pay K would
be Rs. 5 crores. This estimate was revised to Rs. 5.2 crores as on 31st March, 2017 and Rs.
5.25 crores as at 15th May, 2017. This case was eventually settled on 1st June, 2017, when
the Company paid damages of Rs. 5.3 crores to K.

On 1st December, 2016, QA Ltd. had estimated that it would receive damages of Rs. 3.5
crores from F. This estimate was revised to Rs. 3.6 crores as at 31st March, 2017 and Rs. 3.7
crores as on 15th May, 2017. This case was eventually settled on 1st June, 2017 when F paid
Rs. 3.75 crores to QA Ltd. QA Ltd. had, in its financial statements for the year ended 31st
March, 2017, provided Rs. 3.6 crores as the financial statements were approved by the Board
of Directors on 26th April, 2017.

(ii) If the answer to (a) above is yes, what is the entry to be passed in the books of account as
on 31st March, 2017? Give brief reasoning for your choice.

(A) Statement of Profit and Loss A/c Dr. Rs. 5.2 crores

To Current Liability A/c Rs. 5.2 crores

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 (B) Statement of Profit and Loss A/c Dr. Rs. 5.3 crores

To Non-Current Liability A/c Rs. 5.3 crores

(C) Statement of Profit and Loss A/c Dr. Rs. 5.25 crores

To Current Liability A/c Rs. 5.25 crores

(MTP Mar ‘19)

Answer 17

(ii) Option (A) : Statement of Profit and Loss A/c Dr. Rs. 5.2 crore

To Current Liability A/c Rs. 5.2 crore

Question 18

X Ltd. is operating in the telecom industry. During the Financial Year 20X1- 20X2, the Income
Tax authorities sent a scrutiny assessment notice under Section 143(2) of the Income-tax Act,
1961, in respect to return filed under Section 139 of this Act for Previous Year 20X0-20X1
(Assessment Year 20X1- 20X2) and initiated assessment proceedings on account of a
deduction claimed by the company which in the view of the authorities was inadmissible.
During the financial year 20X1-20X2 itself, the assessment proceedings were completed and
the assessing officer did not allow the deduction and raised a demand of Rs 1,00,00,000
against the company. The company contested such levy and filed an appeal with the
Appellate authority. At the end of the financial year 20X1-20X2, the appeal had not been
heard. The company is not confident whether that the company would win the appeal.
However, the company was advised by its legal counsel that on a similar matter, two
appellate authorities of different jurisdictions had given conflicting judgements, one in favour
of the assessee and one against the assessee. The legal counsel further stated it had more

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than 50% chance of winning the appeal. Please advise how the company should account for
these transactions in the financial year 20X1- 20X2.

(Study material)

Answer 18

Ind AS 37 provides that in rare cases it not clear whether there is a present obligation, for
example, in a lawsuit, it may be disputed either whether certain events have occurred or
whether those events result in a present obligation. In such a case, an entity should determine
whether a present obligation exits at the end of the reporting period by taking account of all
available evidence, for example, the opinion of experts. In the present case, the company is not
confident that whether it would win the appeal. By taking into account the opinion of the legal
counsel, it is not sure that whether the company would win the appeal. On the basis of such
evidence, it is more likely than not that a present obligation exists at the end of the reporting
period.

Therefore, the entity should recognise a provision. The company should provide for a liability of
Rs 1,00,00,000.

Question 19

ICAI Illustration

X Beauty Solutions Ltd. is selling cosmetic products under its brand name ‘B’, but it is getting
its product manufactured from Y Ltd. It has an understanding (enforceable agreement) with Y
Ltd. that if the company becomes liable for any damage claims, due to any injury or harm to
the customer of the cosmetic products, 30% will be reimbursed to it by Y Ltd. During the
financial year 20X1-20X2, a claim of Rs 30,00,000 becomes payable to customers by X Beauty
Solutions Ltd. How should X Beauty Solutions Ltd. account for the claim that becomes
payable?

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 (Study material)

Answer

Since the understanding results in an enforceable agreement, the reimbursement of Rs

9,00,000 (Rs 30,00,000 x 30%) shall be recognised as a reimbursement right and provision will
be recognised for Rs 30,00,000. The reimbursement right shall be treated as a separate asset
and shall not be offset with the provision. In the statement of profit and loss, the expense may
be presented as Rs 21,00,000 after offsetting the reimbursement right.

Topic 7 : Decommissioning Obligations

Question 20

G Ltd. operates oil exploration and production facilities. It is preparing its transition date
opening balance sheet as per Ind AS. There is a significant decommissioning obligation in
connection with several oil wells, but it's previous GAAP did not require the obligation to be
recognized. Discuss the treatment of decommissioning obligation as per relevant Ind AS.

(MTP March ‘22)

Answer 20

De-commissioning Obligation of G Ltd. and recognition of decommissioning cost:

Retrospective application of Ind AS 37 requires management to recognise the provision for

decommissioning cost on the opening Ind AS Balance Sheet. The provision should reflect the
net present value of the management’s best estimate of the amount required to settle the
obligation.

Accounting Treatment:

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The obligation should be capitalised as a separate component of property, plant and
equipment, together with the accumulated depreciation from the date when the obligation was
incurred to the transition date. The amount to be capitalised as part of the cost of the asset is
calculated by discounting the liability back to the date when the obligation initially arose, using
the best estimate of historical discount rate. The associated accumulated depreciation is
calculated by applying the current estimate of the asset’s useful life, using the entity’s
depreciation policy for the asset.

Any difference between the provision and the related component of the property, plant and
equipment is adjusted against the retained earnings.

The entity could elect to apply the deemed cost exemption. Property, plant and equipment
would be restated to fair value, with the corresponding adjustment to the retained earnings.
Management would need to ensure that the fair value obtained was the gross fair value and
not net of the decommissioning obligation. Management would recognise the provision for
decommissioning costs in accordance with Ind AS 37. No cost in respect of provision should be
added to property, plant and equipment but such cost should be recognised in the entity’s
opening retained earnings.

Question 21

Marico has an obligation to restore environmental damage in the area surrounding its
factory. Expert advice indicates that the restoration will be carried out in two distinct phases;
the first phase requiring expenditure of Rs 2 million to remove the contaminated soil from
the area and the second phase, commencing three years later from the end of first phase, to
replant the area with suitable trees and vegetation. The estimated cost of replanting is Rs 3.5
million. Marico uses a cost of capital (before taxation) of 10% and the expenditure, when
incurred, will attract tax relief at the company’s marginal tax rate of 30%. Marico has not
recognised any provision for such costs in the past and today’s date is 31 March 20X2. The
first phase of the clean up will commence in a few months time and will be completed on 31

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March 20X3 when the first payment of Rs 2 million will be made. Phase 2 costs will be paid
three years later from the end of first phase. Calculate the amount to be provided at 31
March 20X2 for the restoration costs.

(Practice Question)

Answer 21

Year Cash Flow 10% Discount factor Present Value

20X2-20X3 20,00,000 0.909 18,18,000

20X5-20X6 35,00,000 0.683 23,90,500

Provision required at 31 March 20X2 42,08,500

The provision is calculated using the pre-tax costs and a pre-tax cost of capital. The fact that the
eventual payment will attract tax relief will be reflected in the recognition of a deferred tax
asset for the deductible temporary difference (assuming that the recognition criteria for
deferred tax assets are met.)

Question 22

ICAI Illustration

X Solar Power Ltd., a power company, has a present obligation to dismantle its plant after 35
years of useful life. X Solar Power Ltd. cannot cancel this obligation or transfer to third party.
X Solar Power Ltd. has estimated the total cost of dismantling at Rs 50,00,000, the present
value of which is Rs 30,00,000.

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Based on the facts and circumstances, X Solar Power Ltd. considers the risk factor of 5% i.e.,
the risk that the actual outflows would be more from the expected present value. How
should X Solar Power Ltd. account for the obligation?

(Study material)

Answer

The obligation should be measured at the present value of outflows i.e., Rs 30,00,000.

Further a risk adjustment of 5% i.e., Rs 1,50,000 (Rs 30,00,000 x 5%) would be made.

So, the liability will be recognised at = Rs 30,00,000 + Rs1,50,000 = Rs 31,50,000.

Question 23

ICAI Illustration

ABC Ltd. has an obligation to restore the seabed for the damage it has caused in the past. It
has to pay Rs 10,00,000 cash on 31st March 20X3 relating to this liability. ABC Ltd.’s
management considers that 5% is an appropriate discount rate. Calculate the amount to be
provided for at 31st March 20X1 for the costs of restoring the seabed.

(Study material)

Answer

Discounting factor of 5% for 2nd year as on 31st March 20X1 = (1/1.05)2 = 0.907 The present
value of the provision as on 31st March 20X1 is = Rs 10,00,000 x 0.907 = Rs 9,07,000

The amount of increase in the provision resulting from unwinding of discounting to reflect the
passage of time should be included as an element of borrowing cost in determining the profit or
loss for the year.

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The provision should be initially recognised at Rs 9,07,000 which is the present value of Rs
10,00,000 discounted at 5% for two years. At the end of year 1 i.e. 31st March 20X2, the
provision increases to Rs 9,52,350, and the difference of Rs 45,350 is recognised as borrowing
cost. Similarly, for the year ending 31st March 20X3, the provision will increase to 10,00,000
and the increase being recognised as borrowing cost.

Consequently, at the end of year 2 the amount of provision will be equal to the amount due,
i.e., Rs 10,00,000.

Note: There may be some difference in amount due to approximation (limiting discounting
factor to 3 place decimal), which can be overcome either by full scale calculation or adjustment
at the end.

Question 24

ICAI Illustration

X Chemicals Ltd. engaged in the chemical industry causes environmental damage by dumping
waste in the river near its factory. It does not clean up because there is no environmental
legislation requiring cleaning up and X Chemicals Ltd. is causing damage for last 40 years. As
at 31 March, 20X2, the State Legislature has passed a path breaking legislation requiring all
polluting factories to clean-up the river water already contaminated. The formal Gazette
notification of the law is pending. How should X Chemicals Ltd. deal with this situation?

(Study material)

Answer

The obligating event is the contamination of water and because of the virtually certainty of
legislation requiring cleaning up, an outflow of resources is certain. It is possible to arrive at

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best estimated cost for the clean up activity. So, a provision should be recognised in the books
of X Chemicals Ltd. for 20X1-20X2.

Topic 8 : Restructuring Provisions

Question 25

An entity engaged in automobile sector has assessed the impact of COVID-19 outbreak on its
future viability of business model. Senior Management has identified the need for
restructuring some of its business activities and retrenching its employees in many areas.
Senior Management is drawing up a plan for the consideration of the Board of Directors in
their meeting scheduled in May 2020, which is subsequent to the reporting date of the
current financial year i.e. 31 March 2020. Can the entity recognise provisions for restructuring
costs in the financial statements of the current year i.e. 2019- 2020?

(MTP Oct ‘20)

Answer 25

In accordance with paragraph 72 of Ind AS 37, ‘Provisions, Contingent Liabilities and Contingent
Assets’, a constructive obligation to restructure arises only when an entity has detailed formal
plan for restructuring identifying the business or part of business concerned; the principal
locations affected; the location, function, and approximate number of employees who will be
compensated for terminating their services; the expenditures that will be undertaken; and
when the plan will be implemented; and has raised a valid expectation in those affected that it
will carry out the restructuring by starting to implement that plan or announcing its main
features to those affected by it.

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Further, paragraph 75 of Ind AS 37 provides that a management or board decision to
restructure taken before the end of the reporting period does not give rise to a constructive
obligation at the end of the reporting period unless the entity has, before the end of the
reporting period.

(a) started to implement the restructuring plan; or

(b) announced the main features of the restructuring plan to those affected by it in a
sufficiently specific manner to raise a valid expectation in them that the entity will carry out the
restructuring.

In the given case, since COVID-19 pandemic impact started during March 2020, it is likely that
the senior management started drawing up the plan for restructuring some of its business
activities after the end of the reporting period, i.e., 2019- 2020. If that be so, as per Ind AS 37,
the management decisions subsequent to reporting date do not give rise to constructive
obligation as of reporting date and no provision is required for restructuring costs as at 31
March 2020.

In this regard, paragraph 75 of Ind AS 37 provides that if an entity starts to implement a

restructuring plan, or announces its main features to those affected, only after the reporting
period, disclosure is required under Ind AS 10, Events after the Reporting Period, if the
restructuring is material and non-disclosure could influence the economic decisions that users
make on the basis of the financial statements.

Question 26

U Ltd. is a large conglomerate with a number of subsidiaries. It is preparing consolidated

financial statements as on 31st March 2018 as per the notified Ind AS. The financial
statements are due to be authorized for issue on 15th May 2018.

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It is seeking your assistance for some transactions that have taken place in some of its
subsidiaries during the year.

G Ltd. is a wholly owned subsidiary of U Ltd. engaged in management consultancy services.

On 31st January 2018, the board of directors of U Ltd. decided to discontinue the business of
G Ltd. from 30th April 2018. They made a public announcement of their decision on 15th
February 2018.

G Ltd. does not have many assets or liabilities and it is estimated that the outstanding trade
receivables and payables would be settled by 31st May 2018. U Ltd. would collect any
amounts still owed by G Ltd’s customers after 31st May 2018. They have offered the
employees of G Ltd. termination payments or alternative employment opportunities.

Following are some of the details relating to G Ltd.:

- On the date of public announcement, it is estimated by G Ltd. that it would have to pay 540
lakhs as termination payments to employees and the costs for relocation of employees who
would remain with the Group would be Rs. 60 lakhs. The actual termination payments
totalling to Rs. 520 lakhs were made in full on 15th May 2018. As per latest estimates made
on 15th May 2018, the total relocation cost is Rs. 63 lakhs.

- G Ltd. had taken a property on operating lease, which was expiring on 31st March 2022. The
present value of the future lease rentals (using an appropriate discount rate) is Rs. 430 lakhs.
On 15th May 2018, G Ltd. made a payment to the lessor of Rs. 410 lakhs in return for early
termination of the lease.

The loss after tax of G Ltd. for the year ended 31st March 2018 was Rs. 400 lakhs. G Ltd. made
further operating losses totalling Rs. 60 lakhs till 30th April 2018.

How should U Ltd. present the decision to discontinue the business of G Ltd. in its
consolidated statement of comprehensive income as per Ind AS?

What are the provisions that the Company is required to make as per lnd AS 37?

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 (RTP Nov’18)

Answer 26

A discontinued operation is one that is discontinued in the period or classified as held for sale at
the year end. The operations of G Ltd were discontinued on 30th April 2018 and therefore,
would be treated as discontinued operation for the year ending 31st March 2019. It does not
meet the criteria for held for sale since the company is terminating its business and does not
hold these for sale.

Accordingly, the results of G Ltd will be included on a line-by-line basis in the consolidated
statement of comprehensive income as part of the profit from continuing operations of U Ltd
for the year ending 31st March 2018.

As per para 72 of Ind AS 37 ‘Provisions, Contingent Liabilities and Contingent Assets’,

restructuring includes sale or termination of a line of business. A constructive obligation to
restructure arises when:

(a) an entity has a detailed formal plan for the restructuring

(b) has raised a valid expectation in those affected that it will carry out the restructuring by
starting to implement that plan or announcing its main features to those affected by it.

The Board of directors of U Ltd have decided to terminate the operations of G Ltd. From 30th
April 2018. They have made a formal announcement on 15th February 2018, thus creating a
valid expectation that the termination will be implemented. This creates a constructive
obligation on the company and requires provisions for restructuring.

A restructuring provision includes only the direct expenditures arising from the restructuring
that are necessarily entailed by the restructuring and are not associated with the on going
activities of the entity.

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The termination payments fulfil the above condition. As per Ind AS 10 ‘Events after Reporting
Date’, events that provide additional evidence of conditions existing at the reporting date
should be reflected in the financial statements. Therefore, the company should make a
provision for Rs. 520 lakhs in this respect.

The relocation costs relate to the future conduct of the business and are not liabilities for
restructuring at the end of the reporting period. Hence, these would be recognised on the same
basis as if they arose independently of a restructuring.

The operating lease would be regarded as an onerous contract. A provision would be made at
the lower of the cost of fulfilling it and any compensation or penalties arising from failure to
fulfil it. Hence, a provision shall be made for Rs. 410 lakhs.

Further operating losses relate to future events and do not form a part of the closure provision.

Therefore, the total provision required = Rs. 520 lakhs + Rs. 410 lakhs = Rs. 930 lakhs

Note:

Various issues related to the applicability of Ind AS / implementation under Companies (Indian
Accounting Standards) Rules, 2015, are being raised by preparers, users and other stakeholders.
Although many clarifications have been issued by way of ITFG Bulletins or EAC Opinion, still
issues are arising on account of varying interpretations on several of its guidance. Therefore,
alternate answers may be possible for the above questions based on standards, depending
upon the view taken.

Question 27

ICAI Illustration

X Packaging Ltd. has two segments, packaging division and paper division. In March 20X1, the
board of directors approved and announced a formal plan to sell the paper division in June

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20X1. Operating losses of the paper division are estimated to be approximately Rs 50,00,000
during the period from April 1, 20X1 to the expected date of disposal. Management of X
Packaging Ltd. wants to include the future operating loss of Rs 50,00,000 in a provision for
restructuring in the financial statements for the period ended March 31, 20X1. Can X
Packaging Ltd. include these operating losses in a provision for restructuring?

(Study material)

Answer

Standard states that provision should not be made for future operating losses. Since Ind AS 37
prohibits the recognition of future operating losses, so X Packaging Ltd. should not include
these future operating losses in a provision for restructuring even though these losses relate to
the disposal group.

Question 28

ICAI Illustration

X Cements Ltd. has three manufacturing units situated in three different states of India. The
board of directors of X Cements Ltd., in their meeting held on January 10, 20X1, decided to
close down its operations in one particular state on account of environmental reasons. A
detailed formal plan for shutting down the above unit was also formalised and agreed by the
board of directors in that meeting, which specifies the approximate number of employees
who will be compensated and expenditure expected to be incurred. Date of implementation
of plan has also been mentioned. Meetings were also held with customers, suppliers, and
workers to communicate the features of the formal plan to close down the operations in the
said state, and representatives of all interested parties were present in those meetings. Do
the actions of the board of directors create a constructive obligation that needs a provision
for restructuring?

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 (Study material)

Answer

As per Ind AS 37, the conditions prescribed are:

(a) there should be detailed formal plan of restructuring;

(b) which should have raised valid expectations in the minds of those affected that the entity
would carry out the restructuring by announcing the main features of its plans to restructure.

The board of directors did discuss and formalise a formal plan of winding up the operation in
the above said state. This plan was communicated to the parties affected and created a valid
expectation in their minds that X Cements Ltd. would go ahead with its plans to close down
operations in that state. Thus, there is a constructive obligation that needs to be provided at
year-end.

Topic 9 : Uncertain Tax Positions / Duty Drawback Claims

Question 29

In order to encourage companies and organisations to generously contribute to the

Government’s COVID-19 relief fund, taxation laws have been amended to reckon these
contributions as deductible for the financial year ending 31st March, 2020 even if the
contributions are made after the year end but within three months after year end.
Government of India issued the notification on 31st March, 2020 by way of an Ordinance.
Such contributions to COVID-19 funds are considered for compliance with annual spends on
corporate social responsibility (CSR) for the current accounting year under the Companies
Act, 2013. In this scenario, whether the contributions to COVID-19 Relief Funds made

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subsequent to reporting date of the current accounting period can be provided for as
expenses of the current accounting period? Also show its impact on deferred tax, if any.

(RTP Nov ‘20)

Answer 29

According to paragraph 14 of Ind AS 37, a provision shall be made if:

(a) an entity has a present obligation (legal or constructive) as a result of a past event;

(b) it is probable that an outflow of resources embodying economic benefits will be required to
settle the obligation; and

(c) a reliable estimate can be made of the amount of the obligation. If these conditions are not
met as of reporting date, no provision shall be recognised for that financial year.

Government of India issued the notification on 31st March, 2020 by way of an Ordinance and
hence, it is most unlikely for any entity to have a present obligation on 31st March, 2020, for
such a commitment. As these conditions are not met as of reporting date of financial year 2019
- 2020, no provision should be recognised in the financial statements for that financial year.

In the fact pattern given above, the accounting implications for the financial year 2019- 2020 is
as follows:

• Do not recognize expense / liability for the contribution to be made subsequent to the year
ended 31st March, 2020 as it does not meet the criteria of a present obligation as at the
balance sheet date. However, the expected spend may be explained in the notes to the
accounts as the same will also be considered in measurement of deferred tax liability.

• If the entity claims a deduction in the Income Tax return for the financial year 2019 - 2020 for
that contribution made subsequent to 31st March, 2020, recognise Deferred Tax Liability as
there would be a tax saving in financial year 2019 – 2020 for a spend incurred in subsequent
year.

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Question 30

ICAI Illustration

X Ltd. has entered into an agreement with its selling agent Y, in accordance with which X Ltd.
has to pay a base percentage of commission on export sales and an additional commission is
to be paid if the export incentives are received. As per the accounting policy of X Ltd., it
recognises export incentives when actually realised, on account of the uncertainty in realising
such incentives. Export incentives have not been received for the year 20X1-20X2, however X
Ltd. is hopeful of receiving the export incentives in the year 20X2-20X3. In the financial
statements for 20X1-20X2, should X Ltd. provide for both base commission and additional
commission?

(Study material)

Answer

So far as the base percentage of sales commission is concerned, it is a present obligation arising
out of past events. The obligating event takes place when the sales are made and also since
commission is based on percentage of sale, reliable estimation can also be made. Therefore,
the base percentage of sales commission should be provided.

However, in respect of additional commission, it is to be paid when the export incentives are
recognised and export incentives are recognised only when it is received. Therefore, the
obligating event will arise only when export incentives are received. Hence, no provision for
additional commission is to be made in financial year 20X1-20X2. The expectation of X Ltd. to
receive the export incentives in next year would not make any difference as on 31 March 20X2.

Topic 10 : Discounting of Provisions – Borrowing Costs

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Question 31

ICAI Illustration

X Telecom Ltd. has income tax litigation pending before appellate authorities. Legal advisor’s
opinion is that X Telecom Ltd. will lose the case and estimated that liability of Rs 1,00,00,000
may arise in two years. The liability is recognised on a discounted basis. The discount rate at
which the liability has been discounted is 10% and it is assumed that discount rate does not
change over the period of 2 years.

How should X Telecom Ltd. calculate the amount of borrowing cost?

(Study material)

Answer

The discount factor of 10% for 2 years is 0.826. X Telecom Ltd. will initially recognise provision
for Rs 82,60,000 (Rs 1,00,00,000 0.826).

The discount factor of 10% at the end of year 1 is 0.909. At the end of year 1, provision amount
would be Rs 90,90,000 (Rs 1,00,00,000 0.909).

As per the standard, the difference between the two present values i.e., Rs 8,30,000
(90,90,000- 82,60,000) is recognised as a borrowing cost in year 1.

At the end of the Year 2, the liability would be Rs 1,00,00,000.

The difference between the two present values i.e., Rs 9,10,000 (Rs 1,00,00,000 – Rs 90,90,000)
is recognised as borrowing cost in year 2.

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 Chapter 7 Unit-1

Ind AS 12: “Income Taxes”

Topic 1: Basic Concepts of Deferred Tax

Question 1

An asset which cost 150 has a carrying amount of 100. Cumulative depreciation for tax
purposes is 90 and the tax rate is 25%. Calculate the tax base and the corresponding deferred
tax or liability, if any.

(Study material)

Answer 1

The tax base of the asset is 60 (cost of 150 less cumulative tax depreciation of Rs 90). To
recover the carrying amount of Rs 100, the entity must earn taxable income of Rs 100, but will
only be able to deduct tax depreciation of Rs 60. Consequently, the entity will pay income taxes
of Rs 10 (Rs 40 at 25%) when it recovers the carrying amount of the asset.

The difference between the carrying amount of Rs 100 and the tax base of Rs 60 is a taxable
temporary difference of Rs 40. Therefore, the entity recognizes a deferred tax liability of Rs 10
(Rs 40 at 25%) representing the income taxes that it will pay when it recovers the carrying
amount of the asset.

Question 2

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PC Ltd. got incorporated on 1st April, 2020. As on 31.3.2021, the following temporary
differences exist:

(i) Taxable temporary differences relating to accelerated depreciation of Rs 1,24,000. These

are expected to reverse equally over next 4 years.

(ii) Deductible temporary difference relating to preliminary expenses of Rs 80,000 expected

to reverse equally over next 5 years.

It is expected that PC Ltd. will continue to make losses for next 5 years. Tax rate is 20%.
Losses can be carried forward but not backwards. Discuss the treatment of deferred tax as on
31st March, 2021 as per relevant Ind AS.

(PYP Dec ’21)

Answer 2

The year-wise anticipated reversal of temporary differences is as under:

Particulars Year ending Year ending Year ending Year ending Year
on 31st on 31st on 31st on 31st ending
March , 2022 March , 2023 March , 2024 March , 2025 on 31st
March ,
2026

Reversal of taxable 31,000 31,000 31,000 31,000 Nil

temporary
difference relating
to accelerated
depreciation over
next 4 years (Rs
1,24,000 / 4)

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Reversal of 16,000 16,000 16,000 16,000 16,000
Deductible
temporary
difference relating
to preliminary
expenses over next
5 years (Rs 80,000 /
5)

Recognition of deferred tax liability:

PC Ltd. will recognise a deferred tax liability of Rs 24,800 on taxable temporary difference
relating to accelerated depreciation of Rs 1,24,000 @ 20%.

Recognition of deferred tax asset:

However, it will limit and recognise a deferred tax asset on reversal of deductible temporary
difference relating to preliminary expenses reversing up to year ending 31st March, 2025
amounting to Rs 12,800 (Rs 64,000 @ 20%).

Reversal of deferred tax asset:

No deferred tax asset shall be recognized for the reversal of deductible temporary difference
for the year ending on 31st March, 2026 as there are no taxable temporary differences.
Further, the future estimation is also a loss. However, if there are tax planning opportunities
that could be identified for the year ending on 31st March, 2026, deferred tax asset on the
remainder of Rs 16,000 (Rs 80,000 – Rs 64,000) of deductible temporary difference could be
recognised at the 20% tax rate.

Question 3

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B Limited is a newly incorporated entity. Its first financial period ends on 31st March, 20X1. As
on the said date, the following temporary differences exist:

(a) Taxable temporary differences relating to accelerated depreciation of Rs 9,000. These are
expected to reverse equally over next 3 years.

(b) Deductible temporary differences of Rs 4,000 expected to reverse equally over next 4
years.

It is expected that B Limited will continue to make losses for next 5 years. Tax rate is 30%.
Losses can be carried forward but not backwards. Discuss the treatment of deferred tax as on
31st March, 20X1.

(Study material)

Answer 3

The year-wise anticipated reversal of temporary differences is as under:

Particulars Year Year ending Year ending Year ending

ending on on 31st on 31st on 31st
31st March, March, March, 20X4 March, 20X5
20X2 20X3

Reversal of taxable temporary 3,000 3,000 3,000 Nil

difference relating to accelerated
depreciation over next 3 years (Rs
9,000/3)

Reversal of deductible temporary 1,000 1,000 1,000 1,000

difference relating to preliminary
expenses over next 4 years (Rs
4,000/4)

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B Limited will recognise a deferred tax liability of Rs 2,700 on taxable temporary difference
relating to accelerated depreciation of Rs 9,000 @ 30%. However, it will limit and recognise a
deferred tax asset on reversal of deductible temporary difference relating to preliminary
expenses reversing up to year ending 31st March, 20X4 amounting to Rs 900 (Rs 3,000 @ 30%).
No deferred tax asset shall be recognized for the reversal of deductible temporary difference
for the year ending on 31st March, 20X5 as there are no taxable temporary differences.
Further, the outlook is also a loss. However, if there are tax planning opportunities that could
be identified for the year ending on 31st March, 20X5 deferred tax asset on the remainder of Rs
1,000 (Rs 4,000 – Rs 3,000) of deductible temporary difference could be recognised at the 30%
tax rate.

Topic 2 : Deferred Tax on Investments

Question 4

On 1st April 20X1, ABC Ltd acquired 100% shares of XYZ Ltd for Rs 4,373 crore. By 31st March,
20X5, XYZ Ltd had made profits of Rs 5 crore, which remain undistributed. Based on the tax
legislation in India, the tax base investment in XYZ Ltd is its original cost. Assume the dividend
distribution tax rate applicable is 15%. Show deferred tax treatment.

(Study material)

Answer 4

A taxable temporary difference of Rs 5 therefore exists between the carrying value of the
investment in XYZ at the reporting date of Rs 4,378 (Rs 4,373 + Rs 5) and its tax base of Rs
4,373. Since a parent, by definition, controls a subsidiary, it will be able to control the reversal
of this temporary difference, for example - through control of the dividend policy of the

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subsidiary. Therefore, deferred tax on such temporary difference is generally not provided
unless it is probable that the temporary will reverse in the foreseeable future

Question 5

ABC Ltd. acquired 50% of the shares in PQR Ltd. on 1st January, 20X1 for Rs 1000 crore. By
31st March, 20X5 PQR Ltd. had made profits of Rs 50 crore (ABC Ltd.'s share), which remained
undistributed. Based on the tax legislation in India, the tax base of the investment in PQR Ltd.
is its original cost. Assume the dividend distribution tax rate applicable is 15%. Show deferred
tax treatment.

(Study material)

Answer 5

A taxable temporary difference of Rs 50 therefore exists between the carrying value of the
investment in PQR at the reporting date of Rs 1,050 (Rs 1,000 + Rs 50) and its tax base of Rs
1,000. As ABC Ltd. does not completely control PQR Ltd. it is not in a position to control the
dividend policy of PQR Ltd. As a result, it cannot control the reversal of this temporary
difference and deferred tax is provided on temporary differences arising on investments in joint
venture (50 15%).

Question 6

QA Ltd. is in the process of computation of the deferred taxes as per applicable Ind AS. QA
Ltd. had acquired 40% shares in GK Ltd. for an aggregate amount of Rs. 45 crores. The
shareholding gives QA Ltd. significant influence over GK Ltd. but not control and therefore the
said interest in GK Ltd. is accounted using the equity method. Under the equity method, the
carrying value of investment in GK Ltd. was Rs. 70 crores on 31st March, 2017 and Rs. 75

[Link]
crores as on 31st March, 2018. As per the applicable tax laws, profits recognized under the
equity method are taxed if and when they are distributed as dividend or the relevant
investment is disposed [Link] Ltd. wants you to compute the deferred tax liability as on 31st
March, 2018 and the charge to the Statement of Profit for the same. Consider the tax rate at
20%.

( MTP Aug ’18)

Answer 6

DTL created on accumulation of undistributed profits as on 31.3.2018

Carrying Value as Tax base Taxable Total Deferred Charged to

value per tax temporary tax liability @ P&L during
records differences 20% the year

a b c d E= b-d F=e 20% g

31st 70 crore 45 crore 45 crore 25 crore 5 crore 5 crore

March,
2017

31st 75 crore 45 crore 45 crore 30 crore 6 crore 1 crore (6

March, crore – 5
2018 crore)

Question 7

A Ltd. prepares financial statements to 31st March each year. The rate of income tax
applicable to A Ltd. is 20%. The following information relates to transactions, assets and
liabilities of A Ltd . during the year ended 31st March, 20X2:

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(i) A Ltd. has a 40% shareholding in L Ltd. A Ltd. purchased this shareholding for Rs 45 Cr. The
shareholding gives A Ltd. significant influence over L Ltd. but not control and therefore A Ltd.
accounts for its interest in L Ltd. Using the equity method. The equity method carrying value
of A Ltd.’s investment in L Ltd. was Rs 70 Cr on 31st March, 20X1 and Rs 75 Cr on 31st March
20X2.

In the tax jurisdiction in which A Ltd. operates, profits recognised under the equity method
are taxed if and when they are distributed as a dividend, or the relevant investment is
disposed of.

(ii) A Ltd. measures its head office building using the revaluation model. The building is
revalued every year on 31st March. On 31st March, 20X1, carrying value of the building (after
revaluation) was Rs 40 Cr and its tax base was Rs 22 Cr. During the year ended 31st March,
20X2, A Ltd. charged depreciation in its statement of profit or loss of Rs 2 Cr and claimed a tax
deduction for tax depreciation of Rs 1.25 Cr. On 31st March, 20X2, the building was revalued
to Rs 45 Cr. In the tax jurisdiction in which A Ltd. operates, revaluation of property, plant and
equipment does not affect taxable income at the time of revaluation.

Basis the above information, you are required to compute:

(a) The deferred tax liability of A Ltd. at 31st March, 20X2

(b) The charge or credit to both profit or loss and other comprehensive income relating to
deferred tax for the year ended 31st March, 20X2

(MTP Sep ‘23)

Answer 7

(A) Deferred Tax Liability as at 31st March, 20X2

Investment in L Ltd.:

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Carrying Amount Rs 75 Cr

Tax base Rs 45 Cr (Purchase cost)

Temporary Difference Rs 30 Cr

Since carrying amount is higher than the tax base, the temporary difference is recognized as a
taxable temporary difference. Using the tax rate of 20%, a deferred tax liability of Rs 6 Cr is
recognized:

Head office building

Carrying Amount = Rs 45 Cr (Revalued amount on 31st March, 20X2)

Tax base = Rs 20.75 Cr (22 Cr – 1.25 Cr)

Temporary Difference = Rs 24.25 Cr

Since carrying amount is higher than the tax base, the temporary difference is recognized as a
taxable temporary difference. Using the tax rate of 20%, a deferred tax liability of Rs 4.85 Cr is
created.

Total Deferred Tax Liability Rs 6 Cr + Rs 4.85 Cr = Rs 10.85 Cr

(B) Charge to Statement of Profit and Loss for the year ended 31st March 20X2: Investment in
L Ltd.

Particulars Carrying Tax Base Temporary

amount Difference

Opening Balance (1st April, 20X1) Rs 70 Cr Rs 45 Cr Rs 25 Cr

Closing Balance (31st March, 20X2) Rs 75 Cr Rs 45 Cr Rs 30 Cr

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Net Change Rs 5 Cr

Increase in Deferred Tax Liability (20% tax Rs 1 Cr

rate)

Considering the increase in the value of investment arising through Statement of Profit and
Loss, the accounting for the increase in deferred tax liability is made as under:

Tax expense (Profit or Loss Statement) Dr. Rs 1 Cr

To Deferred Tax Liability Rs 1 Cr

(Being increase in deferred tax liability recognized)

Head Office Building:

The deferred tax liability at 31st March, 20X1 is Rs 3.6 Cr (20% {Rs 40 Cr – Rs 22 Cr}). At 31st
March, 20X2, prior to revaluation, the carrying amount of the property is Rs 38 Cr and its tax
base is Rs 20.75 Cr (Rs 22 Cr – Rs 1.25 Cr). The deferred tax liability at this point is Rs 3.45 Cr
(20% {Rs 38 Cr – Rs 20.75 Cr}).

The reduction in this liability is Rs 0.15 Cr (Rs 3.6 Cr – Rs 3.45 Cr). This would be credited to
income tax expense in arriving at profit or loss.

Post revaluation, the carrying value of the building becomes Rs 45 Cr and the tax base stays the
same. Therefore, the new deferred tax liability is Rs 4.85 Cr (20% (Rs 45 Cr – Rs 20.75 Cr)).
The increase in the deferred tax liability of Rs 1.4 Cr (Rs 4.85 Cr – Rs 3.45 Cr) is charged to other
comprehensive income.

Topic 3 : Revaluation Surplus & Deferred Tax

[Link]
Question 8

On 1st April, 20X1, an entity paying tax at 30% acquired a non-tax-deductible office building
for Rs 1,00,000 in circumstances in which Ind AS 12 prohibits recognition of the deferred tax
liability associated with the temporary difference of Rs 1,00,000. The building is depreciated
over 10 years at Rs 10,000 per year to a residual value of zero. The entity’s financial year ends
on 31st March.

On 1st April, 20X2, the carrying amount of the building is Rs 90,000, and it is revalued
upwards by Rs 45,000 to its current market value of Rs 1,35,000. There is no change to the
estimated residual value of zero, or to the useful life of the building after revaluation.

Determine the carrying amount, depreciation for the year ended 31st March, 20X3 and defer
tax thereafter till the useful life of the building. Further analyse the treatment and impact of
defer tax since 31st March, 20X3 till the useful life of the building.

(RTP Nov ’23)

Answer 8

Since there is no change to the estimated residual value of zero, or to the useful life of the
building after revaluation, at the end of the 2nd year i.e. 31st March 20X3, the building will be
depreciated over the next 9 years at Rs 15,000 per year.

Following the revaluation, the temporary difference associated with the building is Rs 1,35,000.
Of this amount, only Rs 90,000 arose on initial recognition, since Rs 10,000 of the original
temporary difference of Rs 1,00,000 arising on initial recognition of the asset has been
eliminated through depreciation of the asset. The carrying amount (which equals the
temporary difference, since the tax base is zero) and depreciation during the year ended 31st
March, 20X3 and thereafter may then be analysed as follows:

[Link]
 Year Carrying Tax base Gross Unrecognised Recognised Deferred
amount temporary temporary temporary Tax
b
difference difference difference liability f =
a
(c= a-b) (e=c-d) e @ 30%
d

0 1,00,000 - 1,00,000 1,00,000 - -

1 90,000 - 90,000 90,000 - -

Reval 1,35,000 - 1,35,000 90,000 45,000 13,500

2 1,20,000 - 1,20,000 80,000 40,000 12,000

3 1,05,000 - 1,05,000 70,000 35,000 10,500

4 90,000 - 90,000 60,000 30,000 9,000

5 75,000 - 75,000 50,000 25,000 7,500

6 60,000 - 60,000 40,000 20,000 6,000

7 45,000 - 45,000 60,000 15,000 4,500

8 30,000 - 30,000 20,000 10,000 3,000

9 15,000 - 15,000 10,000 5,000 1,500

10 - - - - - -

Note:

The depreciation is allocated pro rata to the cost element and revalued element of the total
carrying amount.

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On 31st March, 20X3, the entity recognises a deferred tax liability based on the temporary
difference of Rs 45,000 arising on the revaluation (i.e., after initial recognition) giving a deferred
tax expense of Rs 13,500 (Rs 45,000 @ 30%) recognised in Other Comprehensive Income (OCI).

This has the result that the effective tax rate shown in the financial statements for the
revaluation is 30% (Rs 45,000 gain with deferred tax expense of Rs 13,500).

As can be seen from the table above, as at 31st March, 20X4 (year 3), Rs 40,000 of the total
temporary difference arose after initial recognition. The entity, therefore, provides for deferred
tax of Rs 12,000 (Rs 40,000 @ 30%), and a deferred tax credit of Rs 1,500 (the reduction in the
liability from Rs 13,500 to Rs 12,000) is recognised in profit or loss.

The deferred tax credit can be explained as the tax effect at 30% of the additional Rs 5,000
depreciation relating to the revalued element of the building.

Question 9

QA Ltd. is in the process of computation of the deferred taxes as per applicable Ind AS and
wants guidance on the tax treatment for the following:

(i) QA Ltd. does not have taxable income as per the applicable tax laws, but pays 'Minimum
Alternate Tax’ (MAT) based on its books profits. The tax paid under MAT can be carried
forward for the next 10 years and as per the Company's projections submitted to its bankers,
it is in a position to get credit for the same by the end of eighth year. The Company is
recognising the MAT credit as a current asset under IGAAP. The amount of MAT credit as on
31st March, 2016 is Rs. 8.5 crores and as on 31st March, 2017 is Rs. 9.75 crores;

(ii) The Company measures its head office property using the revaluation model. The property
is revalued every year as on 31st March. On 31st March, 2016, the carrying value of the
property (after revaluation) was Rs. 40 crores whereas its tax base was Rs. 22 crores. During
the year ended 31st March, 2017, the Company charged depreciation in its Statement of

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Profit and Loss of Rs. 2 crores and claimed a tax deduction for tax depreciation of Rs. 1.25
crores. On 31st March, 2017, the property was revalued to Rs.45 crores. As per the tax laws,
the revaluation of Property, Plant & Equipment does not affect taxable income at the time of
revaluation. The Company has no other temporary differences other than those indicated
above. The Company wants you to compute the deferred tax liability as on 31st March, 2017
and the charge/credit to the Statement of Profit and Loss and/or Other Comprehensive
Income for the same. Consider the tax rate at 20%.

(MTP Mar’19)

Answer 9

Computation of Deferred Tax Liability

(i) MAT credit as on 31st December of Rs. 9.75 crore will be presented in the Balance Sheet as
Deferred tax asset. DTA in the current year will be Rs. 1.25 crore (Rs. 9.75 crore – Rs. 8.50 crore)

(ii) (a) In case defer tax is created only on account of depreciation

Carrying Value as Tax base Taxable/ Total Credit to

value per tax (deductible) Deferred tax P&L
without records temporary liability/ during
revaluation difference (asset) @ the year
20%

A b c d E= b-d F = e x 20% g

31st March, 22 crore 22 crore 22 crore nil nil nil

2016

Less: (2 crore) (1.25

Depreciation crore)
for the year

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 2016- 17

Carrying 20 crore 20.75 20.75 (0.75 crore) DTA (0.15 DTA

value as on crore crore crore) (0.15
31st March, crore)
2017

(b) Computation of tax effect taking into account the revalued figures and adjusting impact of
tax effect on account of difference in depreciation

S. Carrying Value Tax Taxable / Total Credit Charged

No. value as per base (deductible) Deferre to P&L to OCI
after tax temporary d tax during during
revaluati record difference liability/ the the
on s (asset) year year
@ 20%

a b c d E= b-d F=ex g h
20%

I 31st March, 40 crore 22 22 18 crore DTL 3.6 - DTL 3.6

2016 crore crore crore crore

IV Revalued 45 crore 20.75 20.75 24.25 crore DTL 4.85 DTA DTL 5
again on crore crore crore (0.15 crore
31.3.2017 (It (22- crore) (Refer
is assumed 1.25) (Refer Note
that table below)
revaluation (a) [5 DTL
has been above) (B/F) –
done after 0.15

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 taking into DTA =
conside ratio 4.85
n the impact DTL]
of
depreciation
for the
current year)

V Additional DTL 1.25 DTA DTL

DTL/DTA crore (0.15 (1.40
required crore) crore)
during the (Refer (Refer
year (IV-I) table Note
(a)) below)

Note:

As per para 65 of Ind AS 12, when an asset is revalued for tax purposes and that revaluation is
related to an accounting revaluation of an earlier period, or to one that is expected to be
carried out in a future period, the tax effects on account of revaluation of asset and the
adjustment of the tax base are recognised in other comprehensive income in the periods in
which they occur. Here, it is important to understand that only the tax effects on account of
revaluation of asset and the adjustment of the tax base are recognised in other comprehensive
income. However, tax effects on account of depreciation of asset and the adjustment of the tax
base are recognized in profit and loss. Accordingly, first of all the tax effect has been calculated
assuming that there is no revaluation (Refer Table (a) above) [Since the information for the
carrying value before revaluation has not been mentioned, it is assumed to be equal to the
carrying amount as per the tax records]. Later the DTA arrived due to difference in depreciation
is adjusted with the DTL created due to revaluation. DTA of Rs. 0.15 crore on account of

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depreciation will be charged to Profit and Loss and DTL of Rs. 1.40 crore will be charged to OCI.
Net effect in the year 31.3.2017 will be DTL 1.25 crore (DTL 1.4 crore – DTA 0.15 crore) [Refer
Table (b) above.

Question 10

ICAI Illustration

On 1st April 20X1, A Ltd. acquired 12 Cr shares (representing 80% stake) in B Ltd. by means of
a cash payment of 25 Cr. It is the group policy to value the non controlling interest in
subsidiaries at the date of acquisition at fair value. The market value of an equity share in B
Ltd. at 1st April 20X1 can be used for this purpose. On 1st April 20X1, the market value of a B
Ltd. share was 2.00 On 1st April 20X1, the individual financial statements of B Ltd. showed
the net assets at 23 Cr.

The directors of A Ltd. carried out a fair value exercise to measure the identifiable assets and
liabilities of B Ltd. at 1st April 20X1. The following matters emerged:

– Property having a carrying value of 15 Cr at 1st April 20X1 had an estimated market value of
18 Cr at that date.

– Plant and equipment having a carrying value of 11 Cr at 1st April 20X1 had an estimated
market value of 13 Cr at that date.

– Inventory in the books of B Ltd. is shown at a cost of 2.50 Cr. The fair value of the inventory
on the acquisition date is 3 Cr.

The fair value adjustments have not been reflected in the individual financial statements of B
Ltd. In the consolidated financial statements, the fair value\ adjustments will be regarded as
temporary differences for the purposes of computing deferred tax. The rate of deferred tax to
apply to temporary differences is 20%.

[Link]
Assume that the current book value (prior to fair valuation exercise under Ind AS 103) equals
the tax base.

Calculate the deferred tax impact on above and calculate the goodwill arising on acquisition
of B Ltd.

(Study material)

Answer

Computation of Net Assets of B Ltd.

As per books 23.00 Cr

Add: Fair value differences not recognized in books of B Ltd.:

Property (18 Cr – 15 Cr) 3.00 Cr

Plant and Equipment (13 Cr – 11 Cr) 2.00 Cr

Inventory (3 Cr – 2.5 Cr) 0.50 Cr

28.5 Cr

Less: Deferred tax liability on fair value difference @ 20%

[(3 Cr + 2 Cr + 0.50 Cr) x 20%] ( 1.10 Cr)

Total Net Assets at Fair Value 27.40 Cr

Computation of Goodwill:

Purchase Consideration 25.00 Cr

Add: Non-Controlling Interest [{(12 Cr x (20% / 80%)} x 2 per share] 6.00 Cr

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 31.00 Cr

Less: Net Assets at Fair Value ( 27.40 Cr)

Goodwill on acquisition date 3.60 Cr

Question 11

C Ltd. acquired the following assets and liabilities of D Ltd. in a business combination:

Rs in ’000s

Fair Value Carrying Amount Temporary Difference

Plant & equipment 500 510 (10)

Inventory 130 150 (20)

Trade receivables 200 210 (10)

Loans and advances 80 85 (5)

910 955 (45)

10% Debentures 200 200

710 755

Consideration Paid 760 760

Goodwill 50 5 45

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Goodwill is deductible as permissible expenses under the existing tax law.

Calculate Deferred Tax Asset / liability as per relevant Ind AS and also pass related journal
entry in books of C Ltd. and assume tax rate at 25%.

(PYP Jan 21)

Answer 11

In this case there is a Deferred Tax Asset as the Tax base of assets acquired is higher by Rs
45,000. Deferred Tax Asset would be Rs 11,250 (45,000 x 25%)

Journal entry

Plant and equipment Dr. 5,00,000

Inventory Dr. 1,30,000

Trade receivables Dr. 2,00,000

Loans and advances Dr. 80,000

Goodwill (50,000 - 11,250) Dr. 38,750

Deferred Tax Asset Dr. 11,250

To 10% Debentures 2,00,000

To Bank 7,60,000

(Assets and liabilities taken over, goodwill and deferred tax asset have been recognised)

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Topic 4 : Business Combinations & Goodwill

Question 12

On 1 January 2020, entity H acquired 100% share capital of entity S for Rs.15,00,000. The
book values and the fair values of the identifiable assets and liabilities of entity S at the date
of acquisition are set out below, together with their tax bases in entity S’s tax jurisdictions.
Any goodwill arising on the acquisition is not deductible for tax purposes. The tax rates in
entity H’s and entity S’s jurisdictions are 30% and 40% respectively.

Acquisitions Book values Tax base Fair values

Rs.’000 Rs.’000 Rs.’000

Land and buildings 600 500 700

Property, plant and equipment 250 200 270

Inventory 100 100 80

Accounts receivable 150 150 150

Cash and cash equivalents 130 130 130

Accounts payable (160) (160) (160)

Retirement benefit obligations (100) - (100)

You are required to calculate the deferred tax arising on acquisition of Entity S. Also calculate
the Goodwill arising on acquisition.

(RTP Nov’20)

Answer 12

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Calculation of Net assets acquired (excluding the effect of deferred tax liability):

Net assets acquired Tax base Rs.’000 Fair values Rs.’000

Land and buildings 500 700

Property, plant and equipment 200 270

Inventory 100 80

Accounts receivable 150 150

Cash and cash equivalents 130 130

Total assets 1,080 1,330

Accounts payable (160) (160)

Retirement benefit obligations - (100)

Net assets before deferred tax liability 920 1,070

Calculation of deferred tax arising on acquisition of entity S and goodwill

Rs.’000 Rs.’000

Fair values of S’s identifiable assets and liabilities (excluding 1,070

deferred tax)

Less: Tax base (920)

Temporary difference arising on acquisition 150

Net deferred tax liability arising on acquisition of entity S 60

(Rs.150,000 @ 40%)

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Purchase consideration 1,500

Less: Fair values of entity S’s identifiable assets and liabilities 1,070
(excluding deferred tax)

Deferred tax liability (60) (1,010)

Goodwill arising on acquisition 490

Note: Since, the tax base of the goodwill is nil, taxable temporary difference of Rs.4,90,000
arises on goodwill. However, no deferred tax is recognised on the goodwill. The deferred tax on
other temporary differences arising on acquisition is provided at 40% and not 30%, because
taxes will be payable or recoverable in entity S’s tax jurisdictions when the temporary
differences will be reversed.

Topic 5 : Provisions & Deductible Temporary Differences

Question 13

X Ltd. prepares consolidated financial statements to 31st March each year.

During the year ended 31st March 2018, the following events affected the tax position of the
group:

(i) Y Ltd., a wholly owned subsidiary of X Ltd., made a loss adjusted for tax purposes of Rs.
30,00,000. Y Ltd. is unable to utilise this loss against previous tax liabilities . Income-tax Act
does not allow Y Ltd. to transfer the tax loss to other group companies. However, it allows Y
Ltd. to carry the loss forward and utilise it against company’s future taxable profits. The
directors of X Ltd. do not consider that Y Ltd. will make taxable profits in the

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foreseeable future.

(ii) Just before 31st March, 2018, X Ltd. committed itself to closing a division after the year
end, making a number of employees redundant. Therefore X Ltd. recognised a provision for
closure costs of Rs. 20,00,000 in its statement of financial position as at 31st March, 2018.
Income-tax Act allows tax deductions for closure costs only when the closure actually takes
place. In the year ended 31 March 2019, X Ltd. expects to make taxable profits which are well
in excess of Rs.20,00,000. On 31st March, 2018, X Ltd. had taxable temporary differences
from other sources which were greater than Rs. 20,00,000.

(iii) During the year ended 31 March 2017, X Ltd. capitalised development costs which
satisfied the criteria in paragraph 57 of Ind AS 38 ‘Intangible Assets’.

The total amount capitalised was Rs. 16,00,000. The development project began to generate
economic benefits for X Ltd. from 1st January 2018. The directors of X Ltd. estimated that the
project would generate economic benefits for five years from that date. The development
expenditure was fully deductible against taxable profits for the year ended 31 March 2018.

(iv) On 1 April 2017, X Ltd. borrowed Rs. 1,00,00,000. The cost to X Ltd. Of arranging the
borrowing was Rs. 2,00,000 and this cost qualified for a tax deduction on 1 April 2017. The
loan was for a three-year period. No interest was payable on the loan but the amount
repayable on 31 March 2020 will be Rs. 1,30,43,800. This equates to an effective annual
interest rate of 10%. As per the Income-tax Act, a further tax deduction of Rs. 30,43,800 will
be claimable when the loan is repaid on 31st March, 2020.

Explain and show how each of these events would affect the deferred tax assets / liabilities in
the consolidated balance sheet of X Ltd. group at 31 March, 2018 as per Ind AS. Assume the
rate of corporate income tax is 20%.

(RTP Nov 18, May’19)

Answer 13

[Link]
(i) The tax loss creates a potential deferred tax asset for the group since its carrying value is nil
and its tax base is Rs. 30,00,000.

However, no deferred tax asset can be recognised because there is no prospect of being able to
reduce tax liabilities in the foreseeable future as no taxable profits are anticipated.

(ii) The provision creates a potential deferred tax asset for the group since its carrying value is
Rs. 20,00,000 and its tax base is nil.

This deferred tax asset can be recognised because X Ltd. is expected to generate taxable profits
in excess of Rs. 20,00,000 in the year to 31st March, 2019.

The amount of the deferred tax asset will be Rs. 4,00,000 (Rs. 20,00,000 x 20%). This asset will
be presented as a deduction from the deferred tax liabilities caused by the (larger) taxable
temporary differences.

(iii) The development costs have a carrying value of Rs. 15,20,000 (Rs. 16,00,000 – (Rs.
16,00,000 1/5 3/12)).

The tax base of the development costs is nil since the relevant tax deduction has already been
claimed.

The deferred tax liability will be Rs. 3,04,000 (Rs. 15,20,000 20%). All deferred tax liabilities
are shown as non-current.

(iv) The carrying value of the loan at 31st March, 2018 is Rs. 1,07,80,000 (Rs. 1,00,00,000 – Rs.
2,00,000 + (Rs. 98,00,000 10%)).

The tax base of the loan is Rs. 1,00,00,000.

This creates a deductible temporary difference of Rs. 7,80,000 (Rs. 1,07,80,000 – Rs.
1,00,00,000) and a potential deferred tax asset of Rs. 1,56,000 (Rs. 7,80,000 20%).

[Link]
Due to the availability of taxable profits next year (see part (ii) above), this asset can be
recognised as a deduction from deferred tax liabilities.

Question 14

PQR Ltd., a manufacturing company, prepares consolidated financial statements to 31st

March each year. During the year ended 31st March, 2018, the following events affected the
tax position of the group:

• QPR Ltd., a wholly owned subsidiary of PQR Ltd., incurred a loss adjusted for tax purposes
of Rs 30,00,000. QPR Ltd. is unable to utilise this loss against Previous tax liabilities. Income-
tax Act does not allow QPR Ltd. to transfer the tax loss to other group companies. However, it
allows QPR Ltd. to carry the loss forward and utilise it against company’s future taxable
profits. The directors of PQR Ltd. do not consider that QPR Ltd. will make taxable profits in
the foreseeable future.

• During the year ended 31st March, 2018, PQR Ltd. capitalised development costs which
satisfied the criteria as per Ind AS 38 ‘Intangible Assets’. The total amount capitalised was Rs
16,00,000. The development project began to generate economic benefits for PQR Ltd. from
1st January, 2018. The directors of PQR Ltd. estimated that the project would generate
economic benefits for five years from that date. The development expenditure was fully
deductible against taxable profits for the year ended 31st March, 2018.

• On 1st April, 2017, PQR Ltd. borrowed Rs 1,00,00,000. The cost to PQR Ltd. Of arranging the
borrowing was Rs 2,00,000 and this cost qualified for a tax deduction on 1st April 2017. The
loan was for a three-year period. No interest was payable on the loan but the amount
repayable on 31st March 2020 will be Rs 1,30,43,800. This equates to an effective annual
interest rate of 10%. As per the Income-tax Act, a further tax deduction of Rs 30,43,800 will
be claimable when the loan is repaid on 31st March, 2020.

[Link]
Explain and show how each of these events would affect the deferred tax assets / liabilities in
the consolidated balance sheet of PQR Ltd. group at 31st March, 2018 as per Ind AS. The rate
of corporate income tax is 30%.

(Study material)

Answer 14

Impact on consolidated balance sheet of PQR Ltd. group at 31st March, 2018

• The tax loss creates a potential deferred tax asset for the PQR Ltd. group since its carrying
value is nil and its tax base is Rs 30,00,000. However, no deferred tax asset can be recognised
because there is no prospect of being able to reduce tax liabilities in the foreseeable future as
no taxable profits are anticipated.

• The development costs have a carrying value of Rs 15,20,000 (Rs 16,00,000 – (Rs
16,00,000 1/5 3/12)). The tax base of the development costs is nil since the relevant tax
deduction has already been claimed. The deferred tax liability will be Rs 4,56,000 (Rs 15,20,000
30%). All deferred tax liabilities are shown as non-current.

• The carrying value of the loan at 31st March, 2018 is Rs 1,07,80,000 (Rs 1,00,00,000 – Rs
200,000 + (Rs 98,00,000 10%)). The tax base of the loan is 1,00,00,000. This creates a
deductible temporary difference of Rs 7,80,000 and a potential deferred tax asset of Rs
2,34,000 (Rs 7,80,000 30%).

Question 15

ICAI Illustration

The directors of H Ltd. wish to recognise a material deferred tax asset in relation to 250 Cr of
unused trading losses which have accumulated as at 31st March 20X1. H Ltd. has budgeted

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profits for 80 Cr for the year ended 31st March 20X2. The directors have forecast that profits
will grow by 20% each year thereafter.

However, the market is currently depressed and sales orders are at a lower level for the first
quarter of 20X2 than they were for the same period in any of the previous five years. On
extrapolating the sales order book, it is noted that the improvement in trading results may
occur after the next couple of years to come at the position of breakeven and the budgeted
profits shared by the directors of H Ltd. do not appear to be in line with the sales order book.
H Ltd. operates under a tax jurisdiction which allows for trading losses to be only carried
forward for a maximum of two years.

Analyse whether a deferred tax asset can be recognized in the financial statements of H Ltd.
for the year ended 31st March 20X1?

(Study material)

Answer

In relation to unused trading losses, the carrying amount is zero since the losses have not yet
been recognised in the financial statements of H Ltd. A potential deferred tax asset does arise
but the determination of the tax base is more problematic.

The tax base of an asset is the amount which will be deductible against taxable\ economic
benefits from recovering the carrying amount of the asset. Where recovery of an asset will have
no tax consequences, the tax base is equal to the carrying amount.

H Ltd. operates under a tax jurisdiction which only allows losses to be carried forward for two
years. The maximum the tax base could be is therefore equal to the amount of unused losses
for years 20X0 and 20X1 since these only are available to be deducted from future profits. The
tax base though needs to be restricted to the extent that there is a probability of sufficient
future profits to offset the trading losses. The directors of H Ltd. should base their forecast of
the future profitability on reasonable and supportable assumptions. There appears to be
evidence that this is not the case.

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H Ltd. has accumulated trading losses and there is little evidence that there will be an
improvement in trading results within the next couple of years. The market is depressed and
sales orders for the first quarter of 20X2 are below levels in any of the previous five years.

The forecast profitability for 20X2 and subsequent growth rate therefore appear to be
unrealistically optimistic.

Given that losses can only be carried forward for a maximum of two years; it is unlikely that any
deferred tax asset should be recognised.

Hence, the contention of directors to recognized deferred tax assets in relation to 250 crores is
not correct.

Topic 6 : Change in Tax Rate

Question 16

An entity is finalising its financial statements for the year ended 31st March, 20X2. Before
31st March, 20X2, the government announced that the tax rate was to be amended from 40
per cent to 45 per cent of taxable profit from 30th June, 20X2.

The legislation to amend the tax rate has not yet been approved by the legislature. However,
the government has a significant majority and it is usual, in the tax jurisdiction concerned, to
regard an announcement of a change in the tax rate as having the substantive effect of actual
enactment (i.e. it is substantively enacted).

After performing the income tax calculations at the rate of 40 per cent, the entity has the
following deferred tax asset and deferred tax liability balances:

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Deferred tax asset Rs. 80,000

Deferred tax liability Rs. 60,000

Of the deferred tax asset balance, Rs. 28,000 related to a temporary difference. This deferred
tax asset had previously been recognised in OCI and accumulated in equity as a revaluation
surplus.

The entity reviewed the carrying amount of the asset in accordance with para 56 of Ind AS 12
and determined that it was probable that sufficient taxable profit to allow utilisation of the
deferred tax asset would be available in the future.

Show the revised amount of Deferred tax asset & Deferred tax liability and present the
necessary journal entries.

(RTP Nov’19)

Answer 16

Calculation of Deductible temporary differences:

Deferred tax asset Rs. 80,000

Existing tax rate 40%

Deductible temporary differences 80,000/40%

Rs. 2,00,000

Deferred tax liability Rs. 60,000

Existing tax rate 40%

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Deductible temporary differences 60,000 / 40%

Rs. 1,50,000

Of the total deferred tax asset balance of Rs. 80,000, Rs. 28,000 is recognized in OCI Hence,
Deferred tax asset balance of Profit & Loss is Rs. 80,000 - Rs. 28,000 = Rs. 52,000 Deductible
temporary difference recognized in Profit & Loss is Rs. 1,30,000 (52,000 / 40%) Deductible
temporary difference recognized in OCI is Rs. 70,000 (28,000 / 40%)

The adjusted balances of the deferred tax accounts under the new tax rate are:

Deferred tax asset Rs.

Previously credited to OCI-equity Rs. 70,000 0.45 31,500

Previously recognised as Income Rs. 1,30,000 0.45 58,500

Deferred tax liability 90,000

Previously recognized as expense Rs. 1,50,000 0.45 67,500

The net adjustment to deferred tax expense is a reduction of Rs. 2,500. Of this amount, Rs.
3,500 is recognised in OCl and Rs. 1,000 is charged to P&L.

The amounts are calculated as follows:

Carrying amount Carrying amount Increase (decrease) in

at 45% at 40% deferred tax expense

Deferred tax assets

Previously credited to OCI- 31,500 28,000 (3,500)

equity

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Previously recognised as 58,500 52,000 (6,500)
income

90,000 80,000 (10,000)

Deferred tax liability

Previously recognized as 67,500 60,000 7,500

expense

Net adjustment (2,500)

An alternative method of calculation is: Rs.

DTA shown in OCI Rs. 70,000 (0.45 - 0.40) 3,500

DTA shown in Profit or Loss Rs. 1,30,000 (0.45-0.40) 6,500

DTL shown in Profit or Loss Rs. 1,50,000 (0.45 -0.40) 7,500

Journal Entries

Rs. Rs.

Deferred tax asset 3,500

OCI –revaluation surplus 3,500

Deferred tax asset 6,500

Deferred tax expense 6,500

Deferred tax expense 7,500

Deferred tax liability 7,500

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Alternatively, a combined journal entry may be passed as follows:

Rs. Rs.

Deferred tax asset Dr. 10,000

Deferred tax expense Dr. 1,000

To OCI –revaluation surplus 3,500

To Deferred tax liability 7,500

Question 17

A Limited recognizes interest income in its books on accrual basis. However, for income tax
purposes the method is ‘cash basis’. On December 31, 20X1, it has interest receivable of Rs.
10,000 and the tax rate was 25%. On February 28, 20X2, the finance bill is introduced in the
legislation that changes the tax rate to 30%. The finance bill is enacted as Act on May 21,
20X2. Determine the treatment of deferred tax, as per Ind AS, in case the reporting date of A
Ltd.’s financial statement is December 31, 20X1 and these are approved for issued on May 31,
20X2.

(MTP March ’18)

Answer 17

The difference of Rs. 10,000 between the carrying value of interest receivable of Rs. 10,000 and
its tax base of NIL is a taxable temporary difference. A Limited has to recognise a deferred tax
liability of Rs. 2,500 (Rs. 10,000 25%) in its financial statements for the reporting period
ended on December 31, 20X1. It will not recognise the deferred tax liability @ 30% because as
on December 31, 20X1, this tax rate was neither substantively enacted or enacted on the
reporting date.

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However, if the effect of this change is material, A Limited should disclose this difference in its
financial statements.

Question 18

ICAI Illustration

A Limited recognises interest income in its books on accrual basis. However, for income tax
purposes the method is ‘cash basis’. On 31st December, 20X1, it has interest receivable of
10,000 and the tax rate was 25%. On 28th February, 20X2, the finance bill is introduced in the
legislation that changes the tax rate to 30%. The finance bill is enacted as Act on 21st May,
20X2.

Discuss the treatment of deferred tax in case the reporting date of A Limited’s financial
statement is 31st December, 20X1 and these are approved for issued on 31st May, 20X2.

(Study material)

Answer

The difference of Rs 10,000 between the carrying value of interest receivable of Rs 10,000 and
its tax base of NIL is a taxable temporary difference.

A Limited has to recognise a deferred tax liability of Rs2,500 ( Rs10,000 25%) in its financial
statements for the reporting period ended on 31st December, 20X1.

It will not recognise the deferred tax liability @ 30% because as on 31st December, 20X1, this
tax rate was neither substantively enacted or enacted on the reporting date. However, if the
effect of this change is material, A Limited should disclose this difference in its financial
statements.

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Topic 7 : Lease Accounting & Deferred Tax

Question 19

ICAI Illustration

On 1st April 20X1, S Ltd. leased a machine over a 5 year period. The present value of lease
liability is 120 Cr (discount rate of 8%) and is recognized as lease liability and corresponding
Right of Use (RoU) Asset on the same date. The RoU Asset is depreciated under straight line
method over the 5 years. The annual lease rentals are 30 Cr payable starting 31st March
20X2. The tax law permits tax deduction on the basis of payment of rent.

Assuming tax rate of 30%, you are required to explain the deferred tax consequences for the
above transaction for the year ended 31st March 20X2.

(Study material)

Answer

A temporary difference effectively arises between the value of the machine for accounting
purposes and the amount of lease liability, since the rent payment is eligible for tax deduction.

Tax base of the machine is nil as the amount is not eligible for deduction for tax purposes. Tax
base of the lease liability is nil as it is measured at carrying amount less any future tax
deductible amount

Recognition of deferred tax on 31st March 20X2:

Carrying amount in balance sheet

RoU Asset (120 Cr – 24 Cr (Depreciation)) 96.00 Dr Lease

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Liability (120 Cr + 9.60 Cr (120 Cr 8%) - 30 Cr) 99.60 Cr

Net Amount 3.60 Cr

Tax Base 0.00 Cr

Temporary Difference (deductible) 3.60 Cr

Deferred Tax asset to be recognized ( 3.60 Cr 30%) 1.08 Cr

Topic 8 : Share-Based Payments & Deferred Tax

Question 20

ICAI Illustration

On 1st April 20X1, P Ltd. had granted 1 Cr share options worth 4 Cr (fair value) subject to a
two- year vesting period. The income tax law permits a tax deduction at the exercise date of
the intrinsic value of the options. The intrinsic value of the options at 31st March 20X2 was
1.60 Cr and at 31st March 20X3 was 4.60 Cr. The increase in the fair value of the options on
31st March 20X3 was not Foreseeable at 31st March 20X2. The options were exercised at 31st
March 20X3.

Give the accounting for the above transaction for deferred tax for period ending 31st March,
20X2 and 31st March, 20X3. Assume that there are sufficient taxable profits available in
future against any deferred tax assets. Tax rate of 30% is applicable to P Ltd.

(Study material)

Answer

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On 31st March 20X2:

The tax benefit is calculated as under:

Carrying amount of Share based payment Rs0.00 Cr

Tax Base of Share based payment ( 1.60 Cr ½) Rs0.80 Cr

Temporary Difference (Carrying amount – tax base) Rs0.80 Cr

Deferred Tax Asset recognized (Temporary Difference

Tax rate)

(0.80 Cr 30%) Rs0.24 Cr

Journal Entry for above:

Deferred Tax Asset Dr. Rs0.24 Cr

To Tax Expense Rs0.24 Cr

(Being DTA recognized on equity option)

On 31st March 20X3:

The options have been exercised and a current tax benefit will be available to the entity on the
basis of intrinsic value of 4.60 Cr. Initially recognized deferred tax asset will no longer be
required.

The accounting entry will be done as under:

Tax Expense Dr Rs0.24 Cr

To Deferred Tax Asset Rs0.24 Cr

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(Being DTA reversed on the exercise of the option)

Topic 9 : Computation of Current Tax & Reconciliation

Question 21

Following is the summarized statement of profit and loss of EARTH Limited as per Ind AS for
the year ended 31st March 20X1:

Particulars Rs in Crore

Revenue from operations 1,160.00

Other income 56.00

Total Income (A) 1,216.00

Purchase of stock-in-trade 40.00

Changes in inventories of stock-in-trade 6.00

Employee benefits expense 116.00

Finance costs 130.00

Depreciation and amortization expense 30.00

Other expenses 300.00

Total Expenses (B) 622.00

Profit Before Tax (A-B) 594.00

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Current tax 165.40

Deferred tax 1.50

Tax Expenses 166.90

Profit after Tax 427.10

Additional information:

• Corporate income tax rate applicable to EARTH Limited is 30%.

• Other income includes long-term capital gains of Rs 10 crore which are taxable at the rate of
10%.

• Other expenses include the following items which are not deductible for income tax
purposes:

Item Rs in Crore

Penalties 1.00

Impairment of goodwill 44.00

Corporate Social Responsibility expense 6.00

• Other expenses include research and development (R & D) expenditure of Rs 8 crore in

respect of which a 200% weighted deduction is available under income tax laws.

• Other income includes dividends of Rs 4 crore, which is exempt from tax.

• Profit before tax of Rs 594 crore includes (i) agriculture income of Rs 55 crore which is
exempt from tax; and (ii) profit of Rs 60 crore earned in the USA on which EARTH Limited is
required to pay tax at the rate of 20%.

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• Depreciation as per income tax laws is Rs 25.0 crore.

During review of the financial statements of EARTH Limited, the CFO multiplied profit before
tax by the income tax rate and arrived at Rs 178.2 crore as the tax expense (Rs 594 crore x
30% = Rs 178.2 crore). However, actual income tax expense appearing in the summarized
statement of profit and loss is Rs 166.9 crore.

The CFO has sought your help in reconciling the difference between the two tax expense
amounts. Prepare a reconciliation containing the disclosure as required under the relevant
Ind AS.

(RTP Nov’22)

Answer 21

Reconciliation of income tax expense and current tax as per accounting profit for the year
ended 31st March, 20X1

Particulars Rs in crore

Accounting profit 594.00

Tax at the applicable tax rate of 30% 178.20

Tax effect of expenses that are not deductible in determining

taxable profits:

Penalties (1.00 30%) 0.30

Impairment of goodwill (44.00 30%) 13.20

Corporate social responsibility expense (6.00 30%) 1.80 15.30

Tax effect of expenses that are deductible in determining taxable

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profits:

Research and development expenses (8.00 30%) (2.40)

Tax effect of income that are exempted in determining taxable

profits:

Dividend income (Exempt) (4.00 30%) 1.20

Agriculture income (Exempt) (55.00 30%) 16.50 (17.70)

Tax effect of income on which different tax rates are used for
determining taxable profits:

Differential income tax on long term capital gain [10.00 (30% - 2.00
10%)]

Foreign income in USA [60.00 (30%-20%)] 6.00 (8.00)

Income tax expense (Current) reported in the Statement of Profit 165.40

and Loss for the current year

Reconciliation of deferred tax:

Particulars Rs in crore

Deferred tax in relation to depreciation and amortization [(30 – 25) 30%] 1.50

Tax expense (deferred) reported in the Statement of Profit or Loss for the 1.50
current year

Question 22

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A’s Ltd. profit before tax according to Ind AS for Year 20X1 -20X2 is Rs. 100 thousand and
taxable profit for year 20X1-20X2 is Rs. 104 thousand. The difference between these amounts
arose as follows:

1. On 1st February, 20X2, it acquired a machine for Rs. 120 thousand. Depreciation is charged
on the machine on a monthly basis for accounting purpose. Under the tax law, the machine
will be depreciated for 6 months. The machine’s useful life is 10 years according to Ind AS as
well as for tax purposes.

2. In the year 20X1-20X2, expenses of Rs. 8 thousand were incurred for charitable donations.
These are not deductible for tax purposes.

Prepare necessary entries as at 31st March 20X2, taking current and deferred tax into
account. The tax rate is 25%. Also prepare the tax reconciliation in absolute numbers as well
as the tax rate reconciliation.

(MTP Oct 21, RTP May’18)

Answer 22

Current tax= Taxable profit Tax rate = Rs. 104 thousand 25% = Rs. 26 thousand
Computation of Taxable Profit:

Rs. In thousand

Accounting profit 100

Add: Donation not deductible 8

Less: Excess Depreciation (6 - 2) (4)

Total Taxable profit 104

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 Rs. in thousand

Profit & loss A/c Dr. 26

To Current Tax 26

Deferred tax:

Machine’s carrying amount according to Ind AS = Rs. 118 thousand (Rs. 120 thousand – Rs. 2
thousand) Machine’s carrying amount for taxation purpose = Rs. 114 thousand (Rs. 120
thousand – Rs. 6 thousand) Deferred Tax Liability = Rs. 4 thousand 25%

Rs. in thousand

Profit & loss A/c Dr. 1

To Deferred Tax Liability 1

Tax reconciliation in absolute numbers:

Rs. in thousand

Profit before tax according to Ind AS 100

Applicable tax rate @ 25%

Tax 25

Expenses not deductible for tax purposes (Rs. 8 thousand 25%) 2

Tax expense (Current and deferred) 27

Tax rate reconciliation

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Applicable tax rate 25%

Expenses not deductible for tax purposes 2%

Average effective tax rate 27%

Question 23 A

ICAI Illustration

H Ltd. is a manufacturing company, wanting to calculate its taxable profit or loss for the year
ended 31 March 20X8. The statement of profit and loss and other comprehensive income, the
balance sheet and the notes are given below.

Tax rate for the financial year 20X7-20X8 is 30%, but the new tax rate of 32%, for the year
20X8-20X9 and beyond, has already been enacted before the year end.

Calculate taxable profit for the financial year 20X7-20X8 and the related current tax expense.

Balance Sheet as of 31 March 20X8

Rs

ASSETS

Non-current assets

Property, plant and equipment 4,20,00,000

Product development costs 21,00,000

Investment in subsidiary – S Ltd. 1,54,00,000

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Current assets

Trading investments 72,80,000

Trade receivables 2,19,10,000

Inventories 1,06,40,000

Cash and cash equivalents 63,00,000

TOTAL 10,56,30,000
ASSETS

EQUITY & LIABILITIES

Equity

Share capital 4,20,00,000

Accumulated profits 2,86,24,330

Revaluation surplus 30,80,000

Non-current liabilities

Deferred income - government grants 14,00,000

Liability for product warranty costs 5,60,000

Deferred tax liability (from 20X6-20X7) 7,75,670

Current liabilities

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Trade payables 2,67,40,000

Medical benefits for employees 24,50,000

TOTAL 10,56,30,000
EQUITY &
LIABILITIES

Extract of Statement of profit and loss for the year ended 31 March 20X8

Revenue 16,81,40,000

Cost of sales (13,44,00,000)

Gross profit 3,37,40,000

Operating costs (2,68,80,000)

Profit from operations 68,60,000

Finance costs (9,10,000)

Profit before taxation 59,50,000

Notes:

Depreciation expense for the year financial year 20X7-20X8 allowable as per the Income Tax
Rules is Rs 72,10,000. Depreciation as allowed for the purposes of financial reporting included
in operating costs is 59,50,000. Cost of PPE is 5,60,00,000 and H Ltd. deducted expenses of Rs
1,45,60,000 in its tax returns prior to financial year 20X7-20X8. Further, as of 31 March 20X8,
H Ltd. for the first time revalued its property, plant and equipment to market value of
4,20,00,000 (revaluation surplus = 30,80,000).

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In 20X4-20X5, H Ltd. incurred product development costs of Rs35,00,000. These costs were
recognized as an asset and amortized over period of 10 years. For tax purposes, H Ltd.
deducted full product development costs when they were in 20X4-20X5.

Trading investments were acquired in the preceding year at a cost of Rs80,50,000. These
investments are classified as at fair value through profit or loss and thus recognized in their
fair value. Fair value adjustments are not allowable by the tax authorities Bad debt provision
amounts to 45,50,000 and relates to 2 debtors: debtor A – 28,00,000 (receivable originates in
20X5-20X6 and 100% provision was recognized in the preceding year) and debtor B –
17,50,000 (receivable originates in 20X6-20X7 and 100% provision was recognized in F.Y.
20X7- 20X8). Tax law allows deduction of 20% of provision for debtors overdue for more than
1 year, another 30% for debtors overdue for more than 2 years and remaining 50% for
debtors overdue for more than 3 years.

H Ltd. created a provision for inventory obsolescence in accordance with Ind AS 2

requirements. New provision created in 20X7-20X8 was 3,78,000 (total provision: 6,30,000).
Being a general provision, this provision is not tax deductible.

Government grants are not taxable. Full government grant received in 20X7- 20X8 is included
in the balance sheet.

In 20X7-20X8, H Ltd. increased a liability for product warranty costs by 1,75,000. Product
warranty costs are not tax deductible until the company pays claims. Claims paid in 20X7-
20X8 amounted to 2,17,000.

During the year, H Ltd. introduced health care benefits for employees. The expenses are
allowable for tax purposes only when benefits are paid but in line with Ind AS 19, recognized
in profit or loss when employees provide service.

Penalties towards violation of laws included in operating expenses amount to 63,000. These
are not deductible for tax purposes.

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Tax law allows to deduct expenses for petrol only up to 1,40,000 per vehicle per year. H Ltd.
had 4 vehicles in 20X7-20X8 and its total petrol expenses amounted to 7,21,000.

Note: This illustration is prepared for the purposes of understanding the computation of
current tax and is in no way based on the provisions of the Income Tax Act, 1961. For the
purposes of Financial Reporting, the tax treatments will be given in the question.

(Study material)

Answer

Calculation of current tax expense

Accounting profit (A) 59,50,000

Add back:

Accounting depreciation 59,50,000

Amortization of product development costs (W.N.1) 3,50,000

Revaluation of trading investments 7,70,000

Bad debt provisions - 20X7-20X8 17,50,000

Inventory obsolescence provision 3,78,000

Product warranty costs provision - 20X7- 20X8 1,75,000

Provision for health care benefit costs 24,50,000

Fines and Penalties disallowed for tax purposes 63,000

Petrol over limit (W.N.3) 1,61,000

Total (B) 120,47,000

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Deduct:

Tax depreciation (72,10,000)

Tax allowance for bad debt provisions (W.N.2) (11,90,000)

Product warranty costs provision - claims paid (2,17,000)

Total (C) (86,17,000)

Taxable profit / loss: (A+B-C) 93,80,000

Tax rate is 30%

Current income tax (93,80,000 30%) 28,14,000

Journal Entry

Profit or loss - Current income tax expense Dr. 28,14,000

To Credit Current income tax liabilities 28,14,000

Working Notes:

1. Product development costs:

Annual amortization ( 35,00,000/ 10) 3,50,000

2. Bad debt provisions:

Debtor A - 28,00,000 from 20X5- 20X6

> 2 years - 30% deductible in 20X7- 20X8 8,40,000

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Debtor B - 17,50,000 from 20X6- 20X7

> 1 year - 20% deductible in 20X7- 20X8 3,50,000

Total - tax deductible in 20X7- 20X8 11,90,000

3. Petrol expenses

Actual expenses 7,21,000

Tax deductible (4 140,000) 5,60,000

Excess 1,61,000

Topic 10 : Tax Base of Assets & Liabilities

Question 24

ICAI Illustration

Based on the balance sheet and notes of H Ltd. from previous example, calculate tax base of
its assets and liabilities as of 31 March 20X8. Note that balance sheet has been adjusted by
current tax expense and liability.

Balance Sheet as of 31 March 20X8

ASSETS Rs

Non-current assets

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Property, plant and equipment 420,00,000

Product development costs 21,00,000

Investment in subsidiary – S Ltd. 154,00,000

Current assets

Trading investments 72,80,000

Trade receivables 219,10,000

Inventories 106,40,000

Cash and cash equivalents 63,00,000

Total Assets 10,56,30,000

EQUITY & LIABILITIES

Equity

Share capital 420,00,000

Accumulated profits 258,10,330

Revaluation surplus 30,80,000

Long-term liabilities

Deferred income – government grants 14,00,000

Liability for product warranty costs 5,60,000

Deferred tax liability (from 20X6-20X7) 7,75,670

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Current liabilities

Trade payables 267,40,000

Medical benefits for employees 24,50,000

Current Tax Liability 28,14,000

Total Equity & 10,56,30,000

Liabilities

Remaining information are same as per Illustration 1A.

(Study material)

Answer

Determination of Tax Base

Item Carrying amount Tax base

Property, plant and equipment 420,00,000 342,30,000

Product development costs 21,00,000 0

Investment in subsidiary 154,00,000 154,00,000

Trading investments 72,80,000 80,50,000

Trade receivables 219,10,000 247,10,000

Inventories 106,40,000 112,70,000

Cash and cash equivalents 63,00,000 63,00,000

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Deferred income - government grants -14,00,000 0

Liability for product warranty costs -5,60,000 0

Trade payables -267,40,000 -267,40,000

Health care benefits for employees -24,50,000 0

Working Notes:

1. Property, plant and equipment

Cost 560,00,000

Less: current tax depreciation (72,10,000)

Less: PY tax depreciation (145,60,000)

Tax base 3,42,30,000

2. Trade receivables - bad debt provisions:

I Calculation of cost

Carrying amount 219,10,000

Add back: bad debt provision 45,50,000

Cost 2,64,60,000 A

II Debtor A - 28,00,000 from 20X5-20X6

> 1 year - 20% deducted in 20X6-20X7 5,60,000

> 2 years - 30% deducted in 20X7-20X8 8,40,000

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 Already deducted for tax: 14,00,000

III Debtor B - 17,50,000 from 20X6-20X7

> 1 year - 20% deducted in 20X7-20X8 3,50,000

Total deducted for tax purposes 17,50,000 B

Tax base of trade receivables: 2,47,10,000 A-B

Question 25

ICAI Illustration

Based on the data from above illustration 1A of H Ltd., calculate temporary differences and
deferred tax. Note from Illustration 1A: Tax rate for 20X7-20X8 is 30%, but the new tax rate of
32% for the year 20X8-20X9 and beyond has already been enacted before the year end.

(Study material)

Answer

Calculation of Temporary Differences / Deferred Tax

Item Carrying Tax base Temporary Taxable / DTA / DTL

amount difference deductible at 32%

Property, plant 4,20,00,000 3,42,30,000 77,70,000 taxable (24,86,40 0)

and equipment

Product 21,00,000 0 21,00,000 taxable (6,72,000)

development costs

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Investment in 1,54,00,000 1,54,00,000 0 0
subsidiary S Ltd.

Trading 72,80,000 80,50,000 (7,70,000) deductible 2,46,400

investments

Trade receivables 2,19,10,000 2,47,10,000 (28,00,00 0) deductible 8,96,000

Inventories 1,06,40,000 1,12,70,000 (6,30,000) deductible 2,01,600

Cash and cash 63,00,000 63,00,000 0 0

equivalents

Deferred income - (14,00,000) 0 (14,00,00 0) excluded 0

government grants

Liability for (5,60,000) 0 (5,60,000) deductible 1,79,200

product warranty
costs

Trade payables (2,67,40,00 (2,67,40,00 0 0

0) 0)

Medical benefits (24,50,000) 0 (24,50,00 0) deductible 7,84,000

for employees

Deferred tax asset 23,07,200

- total

Deferred tax (31,58,40 0)

liability - total

Deferred tax total (8,51,200)

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Topic 11 : Tax Planning & DTA Recognition

Question 26

ICAI Illustration

An entity has a deductible temporary difference of Rs50,000. It has no taxable temporary

differences against which it can be offset. The entity is also not anticipating any future
profits. However, it can implement a tax planning strategy which can generate profits up to
Rs60,000. The cost of implementing this tax planning strategy is Rs12,000. The tax rate is 30%.
Compute the deferred tax asset that should be recognised.

(Study material)

Answer

The entity should recognise a deferred tax asset of Rs14,400 @ 30% of Rs48,000 (Rs60,000 –
Rs12,000).

The balance deferred tax asset of Rs600 @ 30% on Rs2,000 (Rs50,000 – Rs48,000) shall remain
unrecognised.

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 Chapter 7 Unit-2

Ind AS 21: “The Effects of changes in Foreign Exchanges Rates”

Topic 1 : Functional Currency

Question 1

What is the functional currency of an entity? What are the primary and secondary factors
that influence determination of functional currency?

(MTP March ’21, PYP Nov’19)

Answer 1

Functional currency is the currency of the primary economic environment in which the entity
operates. In this regard, the primary economic environment will normally be the one in which it
primarily generates and expends cash i.e. it operates. The functional currency is normally the
currency of the country in which the entity is located. It might, however, be a different
currency.

The following are the factors that influence determination of an appropriate functional
currency:

Primary indicators:

(a) The currency

(i) that mainly influences sales prices for its goods and services. This will often be the currency
in which sales prices are denominated and settled; and

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(ii) of the country whose competitive forces and regulations mainly determine the sales prices
of its goods and services.

(iii) the currency that mainly influences labour, material and other costs of providing goods and
services. This will often be the currency in which these costs are denominated and settled.

(2) Secondary indicators:

Other factors that may provide supporting evidence to determine an entity’s functional
currency are-

(a) the currency in which funds from financing activities (i.e. issuing debt and equity
instruments) are generated; and

(b) the currency in which receipts from operating activities are usually retained.

Question 2

ICAI Illustration

Future Ltd. sells a revitalising energy drink that is sold throughout the world. Sales of the
energy drink comprise over 90% of the revenue of Future Ltd. For convenience and
consistency in pricing, sales of the energy drink are denominated in USD. All financing
activities of Future Ltd. are in its local currency (L$), although the company holds some USD
cash reserves. Almost all of the costs incurred by Future Ltd. are denominated in L$. What is
the functional currency of Future Ltd.?

(Study material)

Answer

The functional currency of Future Ltd. is L$ looking at the primary indicators. The facts
presented indicate that the currency that mainly influence the cost of producing the energy

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drink is the L$. As stated in the fact pattern, pricing of the product in USD is done for
convenience and consistency purposes; there is no indication that the sales price is influenced
by the USD.

Question 3

ICAI Illustration

Small India Private Limited (Small), a subsidiary of Big Inc., takes orders from Indian
customers for Big Inc’s merchandise and then bills and collects for the sale of the
merchandise in Rupees. Small also has a local warehouse in India to facilitate timely delivery
and ensures that it remits to its parent all cash flows that it generates as the operations of
Small are primarily financed by Big Inc. Big Inc is based out of US and has its functional
currency as USD. What is Small’s functional currency?

(Study material)

Answer

Small, although based in India with its cash flows generated in India, is essentially a “pass
through company” established by its parent. Small is totally reliant on Big Inc. for financing and
goods to be sold, despite the fact that goods are sold within India and in INR. Therefore, Small is
not a self-contained entity in India, rather an entity that is dependent on its parent. Due to this
dependence of Small on its parent company, it can be said that the primary economic
environment for Small is that of US and thus, its functional currency should also be USD.

Hence all the transactions of Small which are denominated in any currency other than USD
should be recorded in USD at the spot rate and any changes in the exchange rate would result
in an exchange gain or loss to be taken to the statement of profit or loss.

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Question 4

ICAI Illustration

A is an Oman based company having a foreign operation, B, in India. The foreign operation
was primarily set up to execute a construction project in India. The functional currency of A is
OMR.

78% of entity B ’s finances have been raised in USD by way of contribution from A. B’s bank
accounts are maintained in USD as well as INR. Cash flows generated by B are transferred to
A on a monthly basis in USD in respect of repayment of finance received from A. Revenues of
B are in USD. Its competitors are globally based. Tendering for the construction project
happened in USD.

B incurs 70% of the cost in INR and remaining 30% costs in USD. Since B is located in India can
it can presume its functional currency to be INR?

(Study material)

Answer

No, B cannot presume INR to be its functional currency on the basis of its location. It needs to
consider various factors listed in Ind AS for determination of functional currency.

Primary indicators:

1. the currency that mainly influences

(a) sales prices for its goods and services. This will often be the currency in which sales prices
are denominated and settled; and of the country whose competitive forces and regulations
mainly determine the sales prices of its goods and services.

(b) labour, material and other costs of providing goods and services. This will often be the
currency in which these costs are denominated and settled.

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2. Other factors that may provide supporting evidence to determine an entity’s functional
currency are (Secondary indicators):

(a) the currency in which funds from financing activities (i.e. issuing debt\ and equity
instruments) are generated; and

(b) the currency in which receipts from operating activities are usually retained.

3. If an entity is a foreign operation, additional factors set out in Ind AS 21 should be

considered to determine whether its functional currency is the same as that of the reporting
entity of which it is a subsidiary, branch, associate or joint venture:

Whether the activities of foreign operations are carried out as an extension of that reporting
entity, rather than being carried out with a significant degree of autonomy;

(a) Whether the transactions with the reporting entity are a high or a low proportion of the
foreign operation’s activities;

(b) Whether cash flows from the activities of the foreign operations directly affect the cash
flows of the reporting entity and are readily available for remittance to it.

(c) Whether cash flows from the activities of the foreign operation are sufficient to service
existing and normally expected debt obligation without funds being made available by the
reporting entity.

On the basis of additional factors mentioned in point 3 above, B cannot be said to have
functional currency same as that of A Ltd.

Hence primary and secondary indicators should be used for the determination of functional
currency of B giving priority to primary indicators. The analysis is given below:

• Its significant revenues and competitive forces are in USD.

• Its significant portion of cost is incurred in INR. Only 30% costs are in USD.

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• 78% of its finances have been raised in USD.

• It retains its operating cash flows partially in USD and partially in INR.

Keeping these factors in view, USD should be considered as the functional currency of B.

Question 5

ICAI Illustration

S Ltd is a company based out of India which got listed on Bombay Stock Exchange in the
financial year ended 31st March, 20X1. Since then the company’s operations have increased
considerably. The company was engaged in the business of trading of motor cycles. The
company only deals in imported Motor cycles. These motor cycles are imported from US.
After importing the motor cycles, these are sold across India through its various distribution
channels. The company had only private customers earlier but the company also started
corporate tie-up and increased its customer base to corporates also. The purchase of the
motor cycles are in USD because the vendor(s) from whom these motor cycles are purchased
those are all located in US.

All other operating expenses of the company are incurred in India only because of its location
and they generally happen to be in INR Currently, its customers are both corporate and
private in the ratio of 70:30 approximately. The USD denominated prices of motor cycles in
India are different from those in other countries.

The company is also expecting that in the coming years, its customers base will increase
significantly in India and the current proportion may also change.

Currently, the invoices are raised to the corporate customers in USD for the purpose of
hedging. However, private customers don’t accept the same arrangement and hence invoices
are raised to them in INR.

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What would be the functional currency of this company?

(Study material)

Answer

The functional currency of S Ltd is INR.

Following factors need to be considered for determination of functional currency:

Primary indicators

1. the currency that mainly influences

a) sales prices for its goods and services. This will often be the currency in which sales prices are
denominated and settled; and of the country whose competitive forces and regulations mainly
determine the sales prices of its goods and services.

(b) labour, material and other costs of providing goods and services. This will often be the
currency in which these costs are denominated and settled.

2. Other factors that may provide supporting evidence to determine an entity’s functional
currency are (Secondary indicators):

(a) the currency in which funds from financing activities (i.e. issuing debt and equity
instruments) are generated; and

(b) the currency in which receipts from operating activities are usually retained.

Primary and secondary indicators should be used for the determination of functional currency
of S Ltd. giving priority to primary indicators.

The analysis is given below:

Ind AS 21 gives greater emphasis to the currency of the economy that determines the pricing of
transactions, as opposed to the currency in which transactions are denominated.

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Sales prices for motor cycles are mainly influenced by the competitive forces and regulations in
India. The market for motor cycles depends on the economic situation in India and the
company is in competition with importers of other motor cycle brands.

Even though 70% of the revenue of the company is denominated in USD, Indian economic
conditions are the main factors affecting the prices. This is evidenced by the fact that USD
denominated sales prices in India are different from USD denominated sales prices for the same
motor cycles in other countries.

Management is able to determine the functional currency because the revenue is clearly
influenced by the Indian economic environment and expenses are mixed.

On the basis of above analysis, INR should be considered as the functional currency of the
company.

Topic 2 : Monetary vs Non-Monetary Items

Question 6

PQR Holdings Limited is based in London and has Pound sterling ("GBP") as its functional and
presentation currency. On 1st April, 20X1, PQR Holdings Limited incorporated PQR India
Limited as its wholly owned subsidiary in India. PQR India will be engaged in trading of items
purchased from PQR Holdings. The shares of PQR India, having a face value of Rs 10 each
amounting to total of Rs 500 crore, were issued to PQR Holdings in GBP on 1st April, 20X1.
PQR India has adopted Ind AS with effect from its incorporation. In accordance with Ind AS,
management of PQR India has concluded that its functional currency is Indian Rupee ("INR").
Following is the summarized trial balance of PQR India as on 31st March, 20X2, being the
reporting date of PQR India and PQR Holdings:

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(Note: All amounts in the below mentioned trial balance are Rs in crore)

[Link]. Particulars Debit Balances Credit Balances

1. Share capital - 500.0

2. Securities premium reserve on issue of equity - 150.0

shares

3. Retained earnings - 110.0

4. Long-term borrowings - 30.0

5. Deferred tax liability - 10.0

6. Income tax payable - 25.0

7. Import duty payable - 5.0

8. Employee benefits payable 7.5

9. Sundry trade payables - 2.5

10 . Property, plant and equipment (net of depreciation) 550.0 -

11 Computer software (net of amortisation) 70.0 -

12 . Inventories purchased on 15th March, 20X2 200.0

(there is no indicator of impairment)

13 Cash and bank balance 5.0 -

14 Sundry trade receivables 17.0 -

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 15 Allowance for doubtful trade receivables - 2.0

Total 842.0 842.0

Additional information relating to property, plant and equipment, and computer software:

Line item Date of acquisition

Property, plant and equipment 30th April, 20X1

Computer software 5th May, 20X1

PQR India has adopted the following accounting policy in relation to shareholders' funds to
translate equity:

Share capital To be translated using historical exchange rate

Securities premium To be translated using historical exchange rate

Retained earnings To be translated using average exchange rate

Since the presentation currency of PQR Holdings is GBP, PQR India is required to translate its
trial balance from INR to GBP. Following table provides relevant foreign exchange rates:

Closing spot rate as on 1st April, 20X1 1 INR = 0.0123 GBP

Closing spot rate as on 30th April, 20X1 1 INR = 0.0120 GBP

Closing spot rate as on 5th May, 20X1 1 INR = 0.0119 GBP

Closing spot rate on 15th March, 20X2 1 INR = 0.0108 GBP

Closing spot rate as on 31st March, 20X2 1 INR = 0.0109 GBP

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Average exchange rate for the year ended 31st March, 20X2 1 INR = 0.0116 GBP

As the accountant of PQR India, you are required to do the following for its separate financial
statements:

(a) Explain the principle of monetary and non-monetary items. Based on this principle,
bifurcate the line items of the trial balance into monetary and non-monetary items.

(b) Translate the trial balance of PQR India from INR to GBP.

(MTP Nov 21)

Answer 6

Monetary items are units of currency held and assets and liabilities to be received or paid in a
fixed or determinable number of units of currency. Para 15 of Ind AS 21 states that the essential
feature of a monetary item is a right to receive (or an obligation to deliver) a fixed or
determinable number of units of currency. Similarly, a contract to receive (or deliver) a variable
number of the entity’s own equity instruments or a variable amount of assets in which the fair
value to be received (or delivered) equals a fixed or determinable number of units of currency is
a monetary item.

Conversely, the essential feature of a non-monetary item is the absence of a right to receive (or
an obligation to deliver) a fixed or determinable number of units of currency. On the basis of
above principles, the line items of trial balance should be bifurcated as follows:

Particulars Monetary item / Non- monetary item

Share Capital Non-monetary item

Securities Premium reserve on issue of equity Non-monetary item

shares

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Retained earnings Non-monetary item

Long-term borrowings Monetary item

Deferred tax liability Non-monetary item

Income tax payable Monetary item

Import duty payable Monetary item

Employee benefits payable Monetary item

Sundry trade payables Monetary item

Property, plant and equipment (net of Non-monetary item

depreciation)

Computer software (net of amortization) Non-monetary item

Inventories purchased (there is no indicator of Non-monetary item

impairment)

Cash and bank balance Monetary item

Sundry trade receivables Monetary item

Allowance for doubtful trade receivables Monetary item

As per para 38 of Ind AS 21, an entity may present its financial statements in any currency (or
currencies). If the presentation currency differs from the entity’s functional currency, it
translates its results and financial position into the presentation currency.

For example, when a group contains individual entities with ifferent functional currencies, the
results and financial position of each entity are expressed in a common currency so that
consolidated financial statements may be presented.

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Translation of the balances for the purpose of consolidation

Particulars INR in crore Rat e (GBP ) Amount in

GBP

Property, plant and equipment (net of 550.0 0.0109 5.995

depreciation)

Computer software (net of amortization) 70.0 0.0109 0.763

Inventories 200.0 0.0109 2.18

Cash and bank balance 5.0 0.0109 0.0545

trade receivables net of allowance for doubtful 15.0 0.0109 0.1635

trade receivables (17.0-2.0)

Total Assets 840.0 9.156

Share Capital 500.0 0.0123 6.15

Securities Premium reserve 150.0 0.0123 1.845

Retained earnings 110.0 0.0116 1.276

Long-term borrowings 30.0 0.0109 0.327

Deferred tax liability 10.0 0.0109 0.109

Income tax payable 25.0 0.0109 0.2725

Import duty payable 5.0 0.0109 0.0545

Employee benefits payable 7.5 0.0109 0.08175

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Sundry trade payables 2.5 0.0109 0.02725

Foreign Currency Translation reserve (0.987)

recognised in OCI (balancing figure)

Total Equity and liabilities 840.0 9.156

Question 7

On 1st January, 2018, P Ltd. purchased a machine for $ 2 lakhs. The functional currency of P
Ltd. is Rupees. At that date the exchange rate was $1= Rs. 68. P Ltd. is not required to pay for
this purchase until 30th June, 2018. Rupees strengthened against the $ in the three months
following purchase and by 31st March, 2018 the exchange rate was $1 = Rs. 65. CFO of P Ltd.
feels that these exchange fluctuations wouldn’t affect the financial statements because P Ltd.
Has an asset and a liability denominated in rupees. which was initially the same amount. He
also feels that P Ltd. depreciates this machine over four years so the future year-end amounts
won’t be the same.

Examine the impact of this transaction on the financial statements of P Ltd. For the year
ended 31st March, 2018 as per Ind AS.

(RTP Nov ’18)

Answer 7

As per Ind AS 21 ‘The Effects of Changes in Foreign Exchange Rates’ the asset and liability would
initially be recognised at the rate of exchange in force at the transaction date ie 1st January,
2018. Therefore, the amount initially recognised would be Rs. 1,36,00,000 ($ 2,00 000 Rs. 68).

The liability is a monetary item so it is retranslated using the rate of exchange in force at 31st
March, 2018. This makes the closing liability of Rs. 1,30,00,000 ($ 2,00,000 Rs. 65).

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The loss on re-translation of Rs. 6,00,000 (Rs. 1,36,00,000 – Rs. 1,30,00,000) is recognised in the
Statement of profit or loss.

The machine is a non-monetary asset carried at historical cost. Therefore, it continues to be

translated using the rate of Rs. 68 to $ 1.

Depreciation of Rs. 8,50,000 (Rs. 1,36,00,000 ¼ 3/12) would be charged to profit or loss for
the year ended 31st March, 2018.

The closing balance in property, plant and equipment would be Rs. 1,27,50,000 (Rs. 1,36,00,000
– Rs. 1,30,00,000). This would be shown as a non-current asset in the statement of financial
position.

A Ltd. prepares its financial statements to 31st March each year. It operates a defined benefit
retirement benefits plan on behalf of current and former employees. A Ltd. receives advice
from actuaries regarding contribution levels and overall liabilities of the plan to pay benefits.
On 1st April, 2017, the actuaries advised that the present value of the defined benefit
obligation was Rs. 6,00,00,000. On the same date, the fair value of the assets of the defined
benefit plan was Rs. 5,20,00,000. On 1st April, 2017, the annual market yield on government
bonds was 5%. During the year ended 31st March, 2018, A Ltd. made contributions of Rs.
70,00,000 into the plan and the plan paid out benefits of Rs. 42,00,000 to retired members.
Both these payments were made on 31st March, 2018.

The actuaries advised that the current service cost for the year ended 31st March, 2018 was Rs.
62,00,000. On 28th February, 2018, the rules of the plan were amended with retrospective
effect. These amendments meant that the present value of the defined benefit obligation was
increased by Rs. 15,00,000 from that date.

During the year ended 31st March, 2018, A Ltd. was in negotiation with employee
representatives regarding planned redundancies. The negotiations were completed shortly
before the year end and redundancy packages were agreed. The impact of these redundancies
was to reduce the present value of the defined benefit obligation by Rs. 80,00,000. Before 31st

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March, 2018, A Ltd. made payments of Rs. 75,00,000 to the employees affected by the
redundancies in compensation for the curtailment of their benefits. These payments were
made out of the assets of the retirement benefits plan.

On 31st March, 2018, the actuaries advised that the present value of the defined benefit
obligation was Rs. 6,80,00,000. On the same date, the fair value of the assets of the defined
benefit plan were Rs. 5,60,00,000.

Examine and present how the above event would be reported in the financial statements of A
Ltd. for the year ended 31st March, 2018 as per Ind AS.

Topic 3 : Translation of Financial Statements / Presentation Currency

Question 8

XYZ Global Ltd. has a functional currency of USD and needs to translate its financial
statements into the functional and presentation currency of XYZ Info.

(Euro).

The following is the statement of financial position of XYZ Global Ltd. prior to translation :

Property, plant and equipment

USD Euro

Property, plant and equipment 60,000

Receivables 9,00,000

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Total assets 9,60,000

Issued capital 40,000 25,000

Opening retained earnings 25,000 15,000

Profit for the year 22,000

Accounts payable 8,15,000

Accrued liabilities 58,000

Total equity and liabilities 9,60,000

Additional information:

Relevant exchange rates are:

Rate at the beginning of the year 1.25 1

Average rate for the year - Euro 1 = USD 1.20 Rate at the end of the year - Euro 1 = USD 1.15
You are required to :

(i) Translate the statement of financial position of XYZ Global Ltd. into Euro which is ready for
consolidation by XYZ Info. (Share capital and opening retained earnings have been pre-
calculated.)

(ii) Prepare a working of the cumulative balance of the foreign currency translation reserve as
per relevant Ind AS.

(PYP, May’19)

Answer 8

Translation of the financial statements

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 USD Rate/Euro Euro

a b a/b

Property, plant and equipment 60,000 1.15 52,174

Receivables 9,00,000 1.15 7,82,609

Total assets 9,60,000 8,34,783

Issued capital 40,000 25,000

Opening retained earnings 25,000 15,000

Profit for the year 22,000 1.20 18,333

Accounts payable 8,15,000 1.15 7,08,696

Accrued liabilities 58,000 1.15 50,435

Total equity and liabilities 9,60,0 00 8,17,464

Foreign Currency Translation Reserve 17,319

(FCTR) (Refer the below working)

Total equity and liabilities 8,34,783

Working of the cumulative balance of the FCTR

Particulars Actual translated Amount Difference translated at

amount in Euro closing rate of USD 1.15
/ EURO

a b b-a

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Issued capital 25,000 34,783* 9,783

Opening retained earnings 15,000 21,739 6,739

Profit for the year 18,333 19,130* 797

58,333 … 75,652 17,319

= 34,783 = 21,739 * = 19,130

EXAMINERS’ COMMENTS ON THE PERFORMANCE OF EXAMINEES:

Many examinees have multiplied the USD value by EURO rates instead of dividing it. Thus, the
whole solution went wrong. A few examinees failed to present the working of cumulative
balance of Foreign Currency Translation Reserve (FCTR).

Question 9

Infotech Global Ltd. (a stand-alone entity) has a functional currency of USD and needs to
translate its financial statements into the presentation currency (INR).

The following is the draft financial statements of Infotech Global Ltd. prepared in accordance
with its functional currency.

Balance Sheet

Particulars 31st March, 20X3 31st March, 20X2

USD USD

Property, plant and equipment 50,000 55,000

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Trade Receivables 68,500 56,000

Inventory 8,000 5,000

Cash 40,000 35,000

Total assets 1,66,500 1,51,000

Share Capital 50,000 50,000

Retained earnings 29,500 18,000

Total Equity 79,500 68,000

Trade payables 40,000 38,000

Loan 47,000 45,000

Total liabilities 87,000 83,000

Total equity and liabilities 1,66,500 1,51,000

Statement of Profit and Loss

Particulars USD

Revenue 1,77,214

Cost of sales 1,13,100

Gross Profit 64,114

Distribution costs 2,400

Administrative expenses 18,000

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Other expenses 11,000

Finance costs 12,000

Profit before tax 20,714

Income tax expense 6,214

Profit for the year 14,500

Extracts from Statement of Changes in Equity

Particulars 31st March, 20X3

(USD)

Retained earnings at the beginning of the year 18,000

Profit for the year 14,500

Dividends (3,000)

Retained earnings at the end of the year 29,500

• Share capital was issued when the exchange rate was USD 1 = INR 70.

• Retained earnings on 1st April, 20X1 was INR 4,00,000.

• At 31st March, 20X2, a cumulative gain of INR 4,92,000 has been recognised in the foreign
exchange reserve, which is due to translation of entity’s financial statements into INR in the
previous years.

• Entity paid a dividend of USD 3,000 when the rate of exchange was USD 1 = INR 73.5

• Profit for the year 20X1-20X2 of USD 8,000, translated in INR at INR 5,72,000.

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• Profit for the year 20X2-20X3 of USD 14,500, translated in INR at INR 10,72,985.

For the sake of simplicity, items of income and expense are translated at weighted average
monthly rate as there has been no significant exchange rate fluctuation during the entire year
and the business of the entity is not cyclical in nature.

Relevant exchange rates are as follows:

• Rate at 31st March, 20X2 USD 1= INR 73

• Rate at 31st March, 20X3 USD 1= INR 75

Prepare financial statements of Infotech Global Ltd. translated from functional currency
(USD) to presentation currency (INR).

(RTP Nov ’23)

Answer 9

As per paragraph 39 of Ind AS 21, all assets and liabilities are translated at the closing exchange
rate which is USD 1 = INR 73 on 31st March, 20X2 and USD 1 = INR 75 on 31st March, 20X3.

In the given case, share capital is translated at the historical rate USD 1 = INR 70. The share
capital will not be restated at each year end. It will remain unchanged.

Accordingly, the translated financial statements will be as follows:

Note 1: Retained earnings at 31st March, 20X3 and 31st March, 20X2:

Particulars 31st March, 20X3 31st March, 20X2

INR INR

Opening retained earnings 9,72,000 4,00,000

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Profit for the year 10,72,985 5,72,000

Dividends paid (USD 3,000 INR 73.5) (2,20,500) -

Closing retained earnings 18,24,485 9,72,000

Balance Sheet

Particulars 31st March, 20X3 31st March, 20X2

USD Rate INR USD Rate INR

Property, plant and 50,000 75 37,50,000 55,000 73 40,15,000

equipment

Trade Receivables 68,500 75 51,37,500 56,000 73 40,88,000

Inventory 8,000 75 6,00,000 5,000 73 3,65,000

Cash 40,000 75 30,00,000 35,000 73 25,55,000

Total assets 1,66,500 1,24,87,50 1,51,000 1,10,23,00

0 0

Share Capital 50,00 0 70 35,00,00 0 50,000 70 35,00,000

Retained earnings 29,500 18,24,485 18,000 9,72,000

(Refer note 1)

Foreign Exchange 6,38,015 - 4,92,000

reserve (Balancing
figure)

Total Equity 79,500 59,62,500 68,000 49,64,000

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Trade payables 40,000 75 30,00,000 38,000 73 27,74,000

Loan 47,000 75 35,25,000 45,000 73 32,85,000

Total liabilities 87,000 65,25,00 0 83,000 60,59,000

Total equity and 1,66,500 1,24,87,50 1,51,000 1,10,23,00

liabilities 0 0

The foreign exchange reserve is the exchange difference resulting from translating income and
expense at the average exchange rate and assets and liabilities at the closing rate.

Other Comprehensive Income

Exchange differences on translating from USD to INR (6,38,015 - INR 1,46,015

4,92,000)

Statement of Changes in Equity (INR)

Particulars Share capital Retained Foreign exchange Total

Earnings reserve

Balance at 1st April, 35,00,000 9,72,000 4,92,000 49,64,000

20X2

Dividends - (2,20,50 0) - (2,20,50 0)

Profit for the year - 10,72,985 - 10,72,985

Exchange difference - - 1,46,015 1,46,015

(transferred to OCI)

Balance at 31st March, 35,00,000 18,24,485 6,38,015 59,62,500

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20X3

Question 10

Infotech Global Ltd. has a functional currency of USD and needs to translate its financial
statements into the functional and presentation currency of Infotech Inc. (L$).

The following balances appear in the books of of Infotech Global Ltd. at the year-end prior to
translation:

USD L$

Property, plant and equipment 50,000

Receivables 9,35,000

Total assets 9,85,000

Issued capital 50,000 30,055

Opening retained earnings 28,000 15,274

Profit & Loss A/c (Profit for the year) 20,000

Accounts payable 8,40,000

Accrued liabilities 47,000

Total equity and liabilities 9,85,000

Translate the above balances of Infotech Global Ltd. into L$ ready for

consolidation by Infotech Inc. (Share capital and opening retained earnings

[Link]
have been pre-populated.)

Prepare a working of the cumulative balance of the foreign currency translation reserve.

Additional information:

Relevant exchange rates are:

Rate at beginning of the year L$ 1 = USD 1.22

Average rate for the year L$ 1 = USD 1.175

Rate at end of the year L$ 1 = USD 1.13

(Study material) (MTP May ’25)

Answer 10

Translation of the balances for the purpose of consolidation

USD Rate L$

Property, plant and equipment 50,000 44,248

Receivables 9,35,000 1.13 8,27,434

Total assets 9,85,000 1.13 8,71,682

Issued capital 50,000 30,055

Opening retained earnings 28,000 — 15,274

Profit for the year 20,000 — 17,021

Accounts payable 8,40,000 1.175 7,43,363

[Link]
Accrued liabilities 47,000 1.13 41,593

Total equity and liabilities USD 9,85,000 1.13 8,47,306

Foreign Currency Translation Reserve 24,376

(Refer WN-1)

Total equity and liabilities L$ 8,71,682

Working Note

1 Cumulative balance of the FCTR

Particulars Actual translated Amount (Refer WN Difference

amount in L$ 2)

A B B-A

Issued capital 30,055 44,248 14,193

Opening retained earnings 15,274 24,779 9,505

Profit for the year 17,021 17,699 678

62,350 86,726 24,376

2 Translated amount if the same conversion rate is applied to following items as applied on
other items

Translated amount

Issued capital 50,000 1.13 44,248

Opening retained earnings 28,000 1.13 24,779

[Link]
Profit for the year 20,000 1.13 17,699

98,000 86,726

Topic 4 : Foreign Currency Transactions

Question 11

An Indian entity, whose functional currency is rupees, purchases USD dominated bond at its
fair value of USD 1,000. The bond carries stated interest @ 4.7% p.a.

on its face value. The said interest is received at the year end. The bond has maturity period
of 5 years and is redeemable at its face value of USD 1,250. The fair value of the bond at the
end of year 1 is USD 1,060. The exchange rate on the date of transaction and at the end of
year 1 are USD 1 = Rs. 40 and USD 1 = Rs. 45, respectively. The weighted average exchange
rate for the year is 1 USD = Rs. 42.

The entity has determined that it is holding the bond as part of an investment portfolio
whose objective is met both by holding the asset to collect contractual cash flows and selling
the asset. The purchased USD bond is to be classified under the FVTOCI category.

The bond results in effective interest rate (EIR) of 10% p.a.

Calculate gain or loss to be recognised in Profit & Loss and Other Comprehensive Income for
year 1. Also pass journal entry to recognise gain or loss on above. (Round off the figures to
nearest rupees)

(RTP Nov 20, MTP Oct’22)

Answer 11

[Link]
Computation of amounts to be recognized in the P&L and OCI:

Particulars USD Exchange rate Rs.

Cost of the bond 1,000 40 40,000

Interest accrued @ 10% p.a. 100 42 4,200

Interest received (USD 1,250 4.7%) (59) 45 (2,655)

Amortized cost at year-end 1,041 45 46,845

Fair value at year end 1,060 45 47,700

Interest income to be recognized in P& L 4,200

Exchange gain on the principal amount [1,000 5,000

(45 -40)]

Exchange gain on interest accrual [100 (45 - 42)] 300

Total exchange gain/loss to be recognized in P&L 5,300

Fair value gain to be recognized in OCI [45 (1,060 855

- 1,041)]

Journal entry to recognize gain/loss

Bond (Rs. 47,700 – Rs. 40,000) Dr. 7,700

Bank (Interest received) Dr. 2,655

To Interest Income (P & L) 4,200

To Exchange gain (P & L) 5,300

[Link]
 To OCI (fair value gain) 855

Question 12

Supplier, A Ltd., enters into a contract with a customer, B Ltd., on 1 st January, 20X1 to
deliver goods in exchange for total consideration of USD 50 million and receives an upfront
payment of USD 20 million on this date. The functional currency of the supplier is INR. The
goods are delivered and revenue is recognised on 31st March, 20X1. USD 30 million is
received on 1st April, 20X1 in full and final settlement of the purchase consideration.

State the date of transaction for advance consideration and recognition of revenue. Also
state the amount of revenue in INR to be recognized on the date of recognition of revenue.
The exchange rates on 1st January, 20X1 and 31st March, 20X1 are Rs 72 per USD and Rs 75
per USD respectively.

(MTP March ’23, RTP May’19)

Answer 12

A Ltd. will recognise a non-monetary contract liability amounting Rs 1,440 million, by

translating USD 20 million at the exchange rate on 1st January, 20X1 ie Rs 72 per USD. A Ltd.
will recognise revenue at 31st March, 20X1 (that is, the date on which it transfers the goods to
the customer).

A Ltd. determines that the date of the transaction for the revenue relating to the advance
consideration of USD 20 million is 1st January, 20X1. Applying paragraph 22 of Ind AS 21, A Ltd.
determines that the date of the transaction for the remainder of the revenue as 31st March,
20X1.

On 31st March, 20X1, A Ltd. will:

[Link]
• derecognise the non-monetary contract liability of USD 20 million and recognise USD 20
million of revenue using the exchange rate as at 1st January, 20X1 ie Rs 72 per USD; and

• recognise revenue and a receivable for the remaining USD 30 million, using the exchange rate
on 31st March, 20X1 ie Rs 75 per USD.

• the receivable of USD 30 million is a monetary item, so it should be translated using the
closing rate until the receivable is settled.

Question 13

An entity can borrow funds in its functional currency (Rs) @ 12%. It borrows $ 1,000 @ 4% on
1st April, 20X1 when $ 1 = Rs 40. The equivalent amount in functional currency is Rs 40,000.
Interest is payable on 31st March, 20X2. On 31st March, 20X2, exchange rate is $ 1 = Rs 50.
The loan is not due for repayment.

Compute exchange loss and borrowing cost to be capitalized as on 31st March, 20X2. What
will be exchange loss and borrowing cost to be capitalized as on 31st March, 20X2 if the
exchange rate on 31st March, 20X2, is $ 1 = Rs 41?

(MTP Sep ‘23)

Answer 13

When the exchange rate on 31st March, 20X2, is $ 1 = Rs 50.

The exchange loss in this case is Rs 10,000 [$ 1,000 (Rs 50 - Rs 40)]. The borrowing cost is Rs
2,000 ($ 1,000 x 4% Rs 50).

Had the entity borrowed funds in functional currency the borrowing cost would have been Rs
4,800 (Rs 40,000 12%).

[Link]
The entity will treat exchange difference upto Rs 2,800 (Rs 4,800 – Rs 2,000) as a borrowing
cost that may be eligible for capitalisation under this Standard.

Thus, the total eligible borrowing cost is Rs 4,800 (Rs 2,000 + Rs 2,800) equivalent to the cost of
borrowing cost in functional currency.

When the exchange rate on 31st March, 20X2, is $ 1 = Rs 41.

The exchange loss would be Rs 1,000 [$ 1,000 – (Rs 41 – Rs 40)]. The entity will treat the entire
exchange loss as an eligible borrowing cost as total borrowing cost i.e. Rs 2,640 [(Rs 1,000 4%
41) + Rs 1,000] since exchange loss in foreign currency does not exceed the cost of
borrowings in functional currency, i.e., Rs 4,800.

Question 14

On 1st April, 20X1, Makers Ltd. raised a long term loan from foreign investors. The investors
subscribed for 6 million Foreign Currency (FCY) loan notes at par. It incurred incremental issue
costs of FCY 2,00,000. Interest of FCY 6,00,000 is payable annually on 31st March, starting
from 31st March, 20X2. The loan is repayable in FCY on 31st March, 20X7 at a premium and
the effective annual interest rate implicit in the loan is 12%. The appropriate measurement
basis for this loan is amortised cost. Relevant exchange rates are as follows:

- 1st April, 20X1 - FCY 1 = Rs. 2.50.

- 31st March, 20X2 – FCY 1 = Rs. 2.75.

Average rate for the year ended 31st Match, 20X2 – FCY 1 = Rs. 2.42. The functional currency
of the group is Indian Rupee.

What would be the appropriate accounting treatment for the foreign currency loan in the
books of Makers Ltd. for the FY 20X1-20X2? Calculate the initial measurement amount for the
loan, finance cost for the year, closing balance and exchange gain / loss.

[Link]
 (RTP May 20)

Answer 14

Initial carrying amount of loan in books

Loan amount received 60,00,000 FCY

Less: Incremental issue costs 2,00,000 FCY

58,00,000 FCY

Ind AS 21, “The Effect of Changes in Foreign Exchange Rates” states that foreign currency
transactions are initially recorded at the rate of exchange in force when the transaction was
first recognized.

Loan to be converted in INR = 58,00,000 FCY Rs. 2.50/FCY = Rs. 1,45,00,000

Therefore, the loan would initially be recorded at Rs. 1,45,00,000.

Calculation of amortized cost of loan (in FCY) at the year end:

Period Opening Financial Interest @ 12% Cash Flow Closing Financial

Liability (FCY) (FCY) (FCY) Liability (FCY) A+B-C

A B C

20X1- 20X2 58,00,000 6,96,000 6,00,000 58,96,000

The finance cost in FCY is 6,96,000

The finance cost would be recorded at an average rate for the period since it accrues over a
period of time.

Hence, the finance cost for FY 20X1-20X2 in INR is Rs. 16,84,320 (6,96,000 FCY Rs. 2.42 / FCY)

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The actual payment of interest would be recorded at 6,00,000 2.75 = INR 16,50,000

The loan balance is a monetary item so it is translated at the rate of exchange at the reporting
date.

So the closing loan balance in INR is 58,96,000 FCY INR 2.75 / FCY = Rs. 1,62,14,000 The
exchange differences that are created by this treatment are recognized in profit and loss.

In this case, the exchange difference is Rs. [1,62,14,000 - (1,45,00,000 + 16,84,320 – 16,50,000)]
= Rs. 16,79,680.

This exchange difference is taken to profit and loss

Topic 5 : Revaluation of PPE

Question 15

Hari Ltd. purchased an equipment for 10,200 CAD from Canada supplier on credit basis on
31st January, 2020. Hari Ltd.'s functional currency is INR. The fair value of the equipment
determined on 31st March, 2020 is 12,100 CAD. The payment to overseas supplier done on
31st March 2021 and the fair value of the equipment remains unchanged for the year ended
on 31st March, 2021.

The exchange rates are as follow:

• On the date of transaction - 1 CAD = INR 57.68

• On 31st March, 2020 - 1 CAD = INR 62.12

• On 31st March 2021 -1 CAD = INR 69.24

[Link]
Prepare the journal entries for the year ended on 31st March, 2020 and 31st March, 2021
according to lnd AS 21. Tax rate is 25%. Hari Ltd. follows revaluation model as per Ind AS 16 in
respect of Property Plant & Equipment.

(PYP Dec ‘21)

Answer 15

Journal Entries

Purchase of an equipment on credit basis on 30th January 2020:

Rs Rs

Equipment A/c (10,200 CAD Rs 57.68) Dr. 5,88,336

To Creditors – Equipment A/c 5,88,336

(Being initial transaction recorded at exchange rate on the date of transaction)

Exchange difference arising on translating monetary item on 31st March 2020:

Rs Rs

Profit & Loss A/c [(10,200 CAD Rs 62.12) – (10,200 CAD Rs 45,288
57.68)] Dr.

To Creditors – Equipment A/c 45,288

(Being loss on exchange difference recognised)

Equipment A/c Dr. 1,09,592

To Revaluation Surplus (OCI) 1,09,592

[Link]
(Being equipment revalued to 12,100 CAD [Rs 57.68 (12,100
CAD – 10,200 CAD)])

Equipment A/c Dr. 53,724

To Revaluation Surplus (OCI) 53,724

(Being equipment measured at the exchange rate on 31.3.2020

[12,100 CAD (Rs 62.12 - Rs 57.68)]

Revaluation Surplus (OCI) [(1,09,592 + 53,724) 25%] Dr. 40,829

To Deferred Tax Liability 40,829

(Being DTL created @ 25% of the total OCI amount)

Exchange difference arising on translating monetary item and settlement of creditors on 31st
March 2021:

Rs Rs

Creditors - Equipment A/c (10,200 CAD Rs 62.12) Dr. 6,33,624

Profit & loss A/c [(10,200 CAD x (Rs 69.24 -Rs 62.12)] Dr. 72,624 7,06,24 8

To Bank A/c

(Being final settlement of creditors done)

Equipment A/c [(12,100 CAD (Rs 69.24 - Rs 62.12)] Dr. 86,152

To Revaluation Surplus (OCI) 86,152

(Being equipment revalued)

[Link]
Revaluation Surplus (OCI) (86,152 25%) Dr. 21,538

To Deferred Tax Liability 21,538

(Being DTL created @ 25% of the total OCI amount)

Question 16

On 30th January, 20X1, A Ltd. purchased a machinery for $ 5,000 from USA supplier on credit
basis. A Ltd.’s functional currency is Rupees. The exchange rate on the date of transaction is 1
$ = Rs 60. The fair value of the machinery determined on 31st March, 20X1 is $ 5,500. The
exchange rate on 31st March, 20X1 is 1$ = Rs 65. The payment to overseas supplier done on
31st March 20X2 and the exchange rate on 31st March 20X2 is 1$ = Rs 67. The fair value of
the machinery remain unchanged for the year ended on 31st March 20X2. Prepare the
Journal entries for the year ended on 31st March 20X1 and year 20X2 according to Ind AS 21.
Tax rate is 30%. A Ltd. follows Revaluation method in respect of Plant & Machinery.

(MTP Oct ‘23)

Answer 16

Journal Entries

Purchase of Machinery on credit basis on 30th January, 20X1:

Rs Rs

Machinery A/c ($ 5,000 Rs 60) Dr. 3,00,000

To Creditors-Machinery A/c 3,00,000

(Initial transaction will be recorded at exchange rate on the date of

[Link]
transaction)

Exchange difference arising on translating monetary item on 31st March, 20X1:

Particular Rs Rs

Profit & Loss A/c [($ 5,000 Rs 65) – ($ 5,000 Rs 60)] Dr. 25,000

To Creditors-Machinery A/c 25,000

Machinery A/c Dr. 30,000

To Revaluation Surplus (OCI) 30,000

[Being Machinery revalued to $ 5,500; (Rs 60 ($ 5,500 - $ 5,000)]

Machinery A/c Dr. 27,500

To Revaluation Surplus (OCI) 27,500

(Being Machinery measured at the exchange 31.3.20X1 [$ 5,500

(Rs 65 - Rs 60)]

rate on

Revaluation Surplus (OCI) Dr. 17,250

To Deferred Tax Liability 17,250

(DTL created @ of 30% of the total OCI amount)

Exchange difference arising on translating monetary item and settlement of creditors on 31st
March, 20X2:

Particular Rs Rs

[Link]
Creditors-Machinery A/c ($ 5,000 x Rs 65) Dr. 3,25,000

Profit & loss A/c [($ 5,000 (Rs 67 - Rs 65)] Dr. 10,000

To Bank A/c 3,35,000

Machinery A/c [$ 5,500 (Rs 67 - Rs 65)] Dr. 11,000

To Revaluation Surplus (OCI) 11,000

Revaluation Surplus (OCI) Dr. 3,300

To Deferred Tax Liability 3,300

(DTL created @ of 30% of the total OCI amount)

Topic 6 : Exchange Differences on Monetary/Non-Monetary Items

Question 17

Global Limited, an Indian company acquired on 30th September, 20X1 70% of the share
capital of Mark Limited, an entity registered as company in Germany. The functional currency
of Global Limited is Rupees and its financial year end is 31st March, 20X2.

(i) The fair value of the net assets of Mark Limited was 23 million EURO and the purchase
consideration paid is 17.5 million EURO on 30th September, [Link] exchange rates as at
30th September, 20X1 was Rs. 82 / EURO and at 31st March, 20X2 was Rs. 84 / EURO.

What is the value at which the goodwill has to be recognised i n the financial statements of
Global Limited as on 31st March, 20X2?

[Link]
(ii) Mark Limited sold goods costing 2.4 million EURO to Global Limited for 4.2 million EURO
during the year ended 31st March, 20X2. The exchange rate on the date of purchase by
Global Limited was Rs. 83 / EURO and on 31st March, 20X2 was Rs. 84 / EURO. The entire
goods purchased from Mark Limited are unsold as on 31st March, 20X2. Determine the
unrealised profit to be eliminated in the preparation of consolidated financial statements.

(RTP Nov 19, May’21)

Answer 17

(i) Para 47 of Ind AS 21 requires that goodwill arose on business combination shall be expressed
in the functional currency of the foreign operation and shall be translated at the closing rate in
accordance with paragraphs 39 and 42. In this case the amount of goodwill will be as follows:

Net identifiable asset Dr. 23 million

Goodwill(bal. fig.) Dr. 1.4 million

To Bank 17.5 million

To NCI (23 30%) 6.9 million

Thus, goodwill on reporting date would be 1.4 million EURO x Rs. 84 =Rs117.6 million

(ii)

Particulars EURO in million

Sale price of Inventory 4.20

Unrealised Profit [a] 1.80

Exchange rate as on date of purchase of Inventory [b] Rs. 83 / Euro Unrealized profit to be
eliminated [a b] Rs. 149.40 million As per para 39 of Ind AS 21 “income and expenses for each

[Link]
statement of profit and loss presented (ie including comparatives) shall be translated at
exchange rates at the dates of the transactions”. In the given case, purchase of inventory is an
expense i tem shown in the statement profit and loss account. Hence, the exchange rate on the
date of purchase of inventory is taken for calculation of unrealized profit which is to be
eliminated on the event of consolidation.

Question 18

(Also in Chapter 21- Ind AS 12 Income taxes)

ABC Ltd. works out translation gain/loss over the years on its investment in foreign subsidiary
2014-15: Rs. 2 lakhs, 2015-16: Rs. 4 lakhs, 2016-17: Rs. 3 lakhs. The foreign subsidiary is sold
on 30th June 2017. The translation gain on sale of such investment as on that date is Rs. 2
lakhs. Assuming that deferred tax effect is computed @ 30%. How should the company
present the translation gain/loss, deferred taxation and reclassification adjustment in the
Profit and loss, other comprehensive income, equity and liabilities?

(MTP Oct ‘18)

Answer 18

Profit and Other- Equity Liabilities

loss comprehensive
income

2014-15

Translation Gain 2.00

Less: Deferred Tax Expenses (0.60)

[Link]
 1.40

Translation Reserve 1.40

Deferred tax liabilities 0.60

2015-16

Translation Gain 2.00

Less: Deferred Tax Expenses (0.60)

1.40

Translation Reserve 2.80

Deferred tax liabilities 1.20

2016-17

Translation loss (1.00)

Less: Deferred Tax Expenses 0.30

(0.70)

Translation Reserve 2.10

Deferred tax liabilities 0.90

2017-18

Translation loss (1.00)

Less: Deferred Tax Expenses 0.30

[Link]
 (0.70)

Translation Reserve 1.40

Deferred tax liabilities 0.60

Reclassification adjustment

credited to P&L 1.40

Current Tax (0.60)

Adjustment of deferred tax

liabilities 0.60

Question 19

SB Limited is engaged in the business of producing extracts from the natural plants for
pharmaceuticals and Ayurvedic companies. It has a wholly owned subsidiary, UB Limited
which is engaged in the business of pharmaceuticals. UB Limited purchases the
pharmaceuticals extracts from its parent company. The demand of UB Limited is very high
and hence to cater its shortfall, UB Limited also purchases the pharmaceutical extracts from
other companies. Purchases are made at the competitive prices.

SB Limited sold pharmaceutical extracts to UB Limited for Euro 10 lakhs on 1st February,
2021. The cost of these extracts was Rs 770 lakh in the books of SB Limited at the time of sale.
At the year-end, i.e. 31st March 2021, all these pharmaceutical extracts were lying as closing
stock and payable with UB Limited.

Euro is the functional currency of UB Limited while Indian-Rupee is the functional currency of
SB Limited.

[Link]
Following additional information is available:

Exchange rate on 1st February 2021 1 Euro = Rs 85

Exchange rate on 31st March 2021 1 Euro = Rs 88

Provide the accounting treatment of the above in the books of SB Limited and UB Limited.

Also show its impact on consolidated financial statements. Support your answer by journal
entries, wherever necessary. Assume NRV to be higher than the cost.

(PYP July 21)

Answer 19

Accounting treatment in the books of SB Ltd (Functional Currency INR) SB Ltd will recognize
sales of Rs 850 lakh (10 lacs Euro x Rs 85) Profit on sale of inventory = 850 lakh – 770 lakh = Rs
80 lakh.

On balance sheet date receivable from UB Ltd. will be translated at closing rate i.e. 1 Euro = Rs
88. Therefore, unrealised for ex gain will be recorded in standalone profit and loss of Rs 30 lakh
[i.e. (Rs 88 - Rs 85) x 10 lakh Euro].

Journal Entries

Date (Rs in lakh) (Rs in lakh )

1.2.2021 UB Ltd. A/c Dr. 850

To Sales 850

(Being revenue recorded on initial recognition)

31.3.202 1 UB Ltd. A/c Dr. 30

[Link]
 To Foreign exchange difference (unrealised) 30

Being foreign exchange difference recorded at

year end)

Accounting treatment in the books of UB Ltd (Functional currency EURO)

Date in Euros in Euros

1.2.2021 Purchase account Dr. 10 lakh

To SB limited 10 lakh

(Being purchased recorded at the date of transaction)

UB Ltd will recognize inventory on 1st February, 2021 of Euro 10 lakh which will also be its
closing stock at year end

Accounting treatment in the consolidated financial statements

Receivable and payable in respect of abovementioned sale / purchase between SB Ltd and UB
Ltd will get eliminated.

The closing stock of UB Ltd will be recorded at lower of cost or NRV.

Since the question ask to assume that NRV is higher than cost, inventory will be measured at
cost only. Therefore, no write off is required.

The amount of closing stock of Rs 850 lakh include two components–

• Cost of inventory for Rs 770 lakh ; and

• Profit element of Rs 80 lakh; and

[Link]
At the time of consolidation, the second element amounting to Rs 80 lakh will be eliminated
from the closing stock.

Journal Entry

(Rs in lakh) (Rs in lakh)

Consolidated P&L A/c Dr. 80

To Inventory 80

(Being profit element eliminated) of intragroup transaction

Question 20

ICAI Illustration

Functional currency of parent P is EURO while the functional currency of its subsidiary S is
USD. P sells inventory to S and a transaction for the same was made for USD 300 during the
year. At the year end, a balance of the same amount is outstanding as receivable from S. It
has been observed that such balance amount has been continuing as receivable from S year
on year and even though the payments in respect of these balances are expected to be
received in the foreseeable future but if we look at the year-end then we see this balance as
outstanding every year.

In addition to the trading balances between P and S, P has lent an amount of USD 500 to S
that is not expected to be repaid in the foreseeable future. Should the exchange difference, if
any, be recognised in the profit and loss?

(Study material)

Answer

[Link]
The exchange gain or loss will arise in the books of accounts of P in respect of its trading
balance with S and the same should be recognised in profit or loss. This being a balance for in
the nature of trade receivable for P, it would not be considered as its net investment in a
foreign operation (i.e. S).

The amount lent by P should be regarded as its net investment in S (i.e. foreign operation).
Thus, the exchange gain or loss incurred by P on the USD 500 loan should be recognised in
profit or loss in P’s separate financial statements and in other comprehensive income in its
consolidated financial statements

Question 21

ICAI Illustration

The functional and presentation currency of parent P is USD while the functional currency of
its subsidiary S is EURO. P sold goods having a value of USD 100 to S when the exchange rate
was USD 1 = Euro 2. At year-end, the amount is still due, and the exchange rate is USD 1 =
Euro 2.2. How should the exchange difference, if any, be accounted for in the consolidated
financial statements?

(Study material)

Answer

At year-end, S should restate its accounts payable to EURO 220, recognising a loss of Euro 20 in
its profit or loss. Thus, in the books of S, the balance payable to P will appear at EURO 220 while
in the books of P the balance receivable from S will be USD 100.

For consolidation purposes, the assets and liabilities of S will be translated to USD at the closing
rate.

[Link]
At the time of consolidation, USD 100 which will get eliminated against the receivable in the
books of P but the exchange loss of EURO 20 recorded in the subsidiary’s statement of profit or
loss has no equivalent gain in the parent’s financial statements.

Therefore, exchange loss of EURO 20 will remain in the consolidated statement of profit or loss.

The reason for this is that the intra-group balance represents a commitment to translate Euro
into USD and this is similar to holding a foreign currency asset in the books of the parent
company.

i.e. the subsidiary would be required to buy USD to settle the obligation to the parent, so the
Group has an exposure to foreign currency risk.

Topic 7 : Cumulative Translation Reserve (FCTR)

Question 22

Parent P acquired 90 percent of subsidiary S some years ago. P now sells its entire investment
in S for Rs 1,500 lakhs. The net assets of S are 1,000 and the NCI in S is Rs 100 lakhs. The
cumulative exchange differences that have arisen during P’s ownership are gains of Rs 200
lakhs, resulting in P’s foreign currency translation reserve in respect of S having a credit
balance of Rs180 lakhs, while the cumulative amount of exchange differences that have been
attributed to the NCI is Rs 20 lakhs Calculate P’s gain on disposal in its consolidated financial
statements.

(Study material)

Answer 22

[Link]
P’s gain on disposal in its consolidated financial statements would be calculated in the following
manner:

(Rs in Lakhs)

Sale proceeds 1,500

Net assets of S (1,000)

NCI derecognised 100

Foreign currency translation reserve 180

Gain on disposal 780

Question 23

P Ltd., incorporated in India owns 70% interest in foreign entity, S Ltd. P Ltd. has INR (Rs) as
its functional currency while S Ltd. has US dollars as its functional currency. P Ltd. sells its
entire investment in S Ltd. for Rs 3,200 thousand. The following information is provided:

(Rs in thousand) (Rs in thousand) (Rs in thousand)

Particulars S’s Total P’s share (70%) NCI (30%)

Net assets 4,000 2,800 1,200

Foreign currency translation 900 630 270

reserve gain

Required:

[Link]
How does an entity account for cumulative translation adjustment (CTA) on disposal of a
foreign subsidiary?

(RTP May’25)

Answer 23

As per paragraphs 48 and 48B of Ind AS 21, on the disposal of a foreign operation, the
cumulative amount of the exchange differences relating to that foreign operation, recognised in
other comprehensive income and accumulated in the separate component of equity, shall be
reclassified from equity to profit or loss (as a reclassification adjustment) when the gain or loss
on disposal is recognised (see Ind AS 1, Presentation of Financial Statements).

Further, the standard states that on disposal of a subsidiary that includes a foreign operation,
the cumulative amount of the exchange differences relating to that foreign operation that have
been attributed to the non-controlling interests shall be derecognised, but shall not be
reclassified to profit or loss.

controlling interest exists) and the parent has sold its entire interest, the amount of the CTA
that has been allocated to the non-controlling interest is derecognised, but it is not transferred
to profit or loss. Derecognition of the non-controlling interest (that includes the non-controlling
interest’s share of CTA) will form part of the journal entry to recognise the gain or loss on
disposal of the subsidiary.

In P Ltd.’s consolidated financial statements, the following amounts (Rs in thousand) have been
recognised in relation to its investment in S Ltd.:

- net assets of Rs 4,000 and associated non-controlling interests of Rs 1,200;

- foreign exchange gains of Rs 900 were recognised in other comprehensive income, of which Rs
270 was attributable to non- controlling interests and is therefore included in the Rs 1,200 non-
controlling interests;

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- Rs 630 of foreign exchange gains have been accumulated in a separate component of equity
relating to P Ltd.'s 70% share in S Ltd.

P Ltd. sells its 70% interest in S Ltd. for Rs 3,200 and records the following amounts:

Cash/Bank A/c Dr. 3,200

NCI Dr. 1,200

Foreign Currency Translation Reserve (OCI) Dr. 630

To Net assets 4,000

To Profit on disposal {630+(3,200-2,800)} 1,030

It can be seen that Rs 630 of the foreign currency gains previously recognised in OCI, i.e. the
amount attributed to P Ltd. is reclassified to profit or loss (profit on disposal) and adjusted from
OCI. However, Rs 270 of such gains attributed to the non-controlling interests is not reclassified
to profit or loss and is derecognised as a part of the NCI balance.

Topic 8 : Intra-group Transactions / Unrealized Profit

Question 24

ICAI Illustration

M Ltd is engaged in the business of manufacturing of bottles for pharmaceutical companies

and non-pharmaceutical companies. It has a wholly owned subsidiary, G Ltd, which is
engaged in the business of pharmaceuticals. G Ltd purchases the pharmaceutical bottles from
its parent company. The demand of G Ltd is very high and hence to cater to its shortfall, G Ltd

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also purchases the bottles from other companies. Purchases are made at the competitive
prices.

M Ltd sold pharmaceuticals bottles to G Ltd for Euro 12 lacs on 1st February, 20X1. The cost of
these bottles was Rs 830 lacs in the books of M Ltd at the time of sale. At the year-end i.e.
31st March, 20X1, all these bottles were lying as closing stock and payable with G Ltd.

Euro is the functional currency of G Ltd. while Indian Rupee is the functional currency of M
Ltd. Following additional information is available:

Exchange rate on 1st February, 20X1 1 Euro = Rs 83

Exchange rate on 31st March, 20X1 1 Euro = Rs 85

Provide the accounting treatment for the above in books of M Ltd. and G Ltd.

Also show its impact on consolidated financial statements. Support your answer by Journal
entries, wherever necessary, in the books of M Ltd.

(Study material)

Answer

Accounting treatment in the books of M Ltd (Functional Currency INR)

M Ltd will recognize sales of Rs 996 lacs (12 lacs Euro 83) Profit on sale of inventory =

996 lacs – 830 lacs = Rs 166 lacs.

On balance sheet date receivable from G Ltd. will be translated at closing rate i.e.

1 Euro = Rs 85. Therefore, unrealised for ex gain will be recorded in standalone profit

and loss of Rs 24 lacs. (i.e. (85 - 83) 12 Lacs)

Journal Entries

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 Rs (in Lacs) Rs (in Lacs)

G Ltd. A/c Dr. 996

To Sales 996

(Being revenue recorded on initial recognition)

G Ltd. A/c Dr. 24

To Foreign exchange difference (unrealised) 24

(Being foreign exchange difference recorded at year end)

Accounting treatment in the books of G Ltd (Functional currency EURO)

G Ltd will recognize inventory on 1st February, 20X1 of Euro 12 lacs which will also be its closing
stock at year end.

Journal Entry

(in Euros) (in Euros)

Purchase Dr. 12 lakhs

To M Ltd. 12 lakhs

Accounting treatment in the consolidated financial statements

Receivable and payable in respect of above mentioned sale / purchase between M Ltd and G
Ltd will get eliminated.

The closing stock of G Ltd will be recorded at lower of cost or NRV.

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 Euro (in lacs) Rate Rs (in lacs)

Cost 12 83 996

NRV (Assumed Same) 12 85 1020

Therefore, no write off is required. The amount of closing stock of Rs. 996 lacs includes two
components–

• Cost of inventory for Rs 830 lacs; and

• Profit element of Rs 166 lacs; and

At the time of consolidation, the second element amounting to Rs 166 lacs will be eliminated
from the closing stock.

Journal Entry

Accounting treatment in the books of G Ltd (Functional currency EURO)

G Ltd will recognize inventory on 1st February, 20X1 of Euro 12 lacs which will also be its
closing stock at year end.

Journal Entry

(in Euros) (in Euros)

Purchase Dr. 12 lakhs

To M Ltd. 12 lakhs

Accounting treatment in the consolidated financial statements

Receivable and payable in respect of above mentioned sale / purchase between M Ltd and G
Ltd will get eliminated.

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The closing stock of G Ltd will be recorded at lower of cost or NRV.

Euro (in lacs) Rate Rs (in lacs)

Cost 12 83 996

NRV (Assumed Same) 12 85 1020

Therefore, no write off is required. The amount of closing stock of Rs. 996 lacs includes two
components–

• Cost of inventory for Rs 830 lacs; and

• Profit element of Rs 166 lacs; and

At the time of consolidation, the second element amounting to Rs 166 lacs will be eliminated
from the closing stock.

Journal Entry

Rs (in Lacs) Rs (in Lacs)

Consolidated P&L A/c Dr. 166

To Inventory 166

(Being profit element of intragroup transaction eliminated)

Topic 9 : Disposal of Foreign Subsidiary / Net Investment

Question 25

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Entity A, whose functional currency is Rs, has a foreign operation, Entity B, with a Euro
functional currency. Entity B issues to A perpetual debt (i.e. it has no maturity) denominated
in euros with an annual interest rate of 6 per cent. The perpetual debt has no issuer call
option or holder put option. Thus, contractually it is just an infinite stream of interest
payments in Euros. In A's consolidated financial statements, can the perpetual debt be
considered, in accordance with Ind AS 21.15, a monetary item "for which settlement is
neither planned nor likely to occur in the foreseeable future" (i.e. part of A's net investment
in B), with the exchange gains and losses on the perpetual debt therefore being recorded in
equity?

(Study material)

Answer 25

Yes, as per Ind AS 21 net investment in a foreign operation is the amount of the reporting
entity’s interest in the net assets of that operation. As per para 15 of Ind AS 21, an entity may
have a monetary item that is receivable from or payable to a foreign operation. An item for
which settlement is neither planned nor likely to occur in the foreseeable future is, in
substance, a part of the entity’s net investment in that foreign operation. Such monetary items
may include long-term receivables or loans. They do not include trade receivables or trade
payables.

Analysis on the basis of above mentioned guidance

Through the origination of the perpetual debt, A has made a permanent investment in B. The
interest payments are treated as interest receivable by A and interest payable by B, not as
repayment of the principal debt. Hence, the fact that the interest payments are perpetual does
not mean that settlement is planned or likely to occur. The perpetual debt can be considered
part of A's net investment in B. In accordance with para 15 of Ind AS 21, the foreign exchange
gains and losses should be recorded in equity at the consolidated level because settlement of
that perpetual debt is neither planned nor likely to occur.

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 Chapter 8 Unit-1

Ind AS 24: “Related Party Disclosures”

Topic 1 : Definition of Related Party

Question 1

Mr. M has an investment in X Limited and Y Limited

i. Under what circumstances, Mr. M is a related party of X Limited and Y Limited?

ii. Will X Limited and Y Limited be related parties, if Mr. M has only significant influence over
both X Limited and Y Limited?

(PYP May ‘23)

Answer 1

(i) As per para 9(a) of Ind AS 24, Mr. M will be considered as a related party to X Limited, when

1. Mr. M has control or joint control over X Limited

2. Mr. M has significant influence over X Limited

Similar will be the circumstances for Mr. M being considered as related party to Y Limited.

(ii) Even if Mr. X has only significant influence over both the entities i.e., X Limited & Y Limited,
then both the entities (X Limited & Y Limited) will not be considered as related party, if no
direct or indirect control is exercised on each other in any of the manner.

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Question 2

Mr. X, is the financial controller of ABC Ltd., a listed entity which prepares consolidated
financial statements in accordance with Ind AS. Mr. X has recently produced the final draft of
the financial statements of ABC Ltd. for the year ended 31st March, 2018 to the managing
director for approval. Mr. Y, who is not an accountant, had raised following queries from Mr.
X after going through the draft financial statements:

One of the notes to the financial statements gives details of purchases made by ABC Ltd. from
PQR Ltd. during the period. Mr. Y own 100% of the shares in PQR Ltd.. However, he feels that
there is no requirement for any disclosure to be made in ABC Ltd.’s financial statements since
the transaction is carried out on normal commercial terms and is totally insignificant to ABC
Ltd., as it represents less than 1% of ABC Ltd.’s purchases.

(RTP Nov ’18)

Answer 2

On going through the queries raised by the Managing Director Mr. Y, the financial controller
Mr. X explained the notes and reasons for their disclosures as follows:

(a) Related parties are generally characterised by the presence of control or influence between
the two parties.

Ind AS 24 ‘Related Party Disclosures’ identifies related parties as, inter alia, key management
personnel and companies controlled by key management personnel.

On this basis, PQR Ltd. is a related party of ABC Ltd.

The transaction is required to be disclosed in the financial statements of ABC Ltd. since Mr. Y is
Key Management personnel of ABC Ltd. Also at the same time, it owns 100% shares of PQR Ltd.
ie. he controls PQR Ltd. This implies that PQR Ltd. is a related party of ABC Ltd.

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Where transactions occur with related parties, Ind AS 24 requires that details of the
transactions are disclosed in a note to the financial statements. This is required even if the
transactions are carried out on an arm’s length basis.

Transactions with related parties are material by their nature, so the fact that the transaction
may be numerically insignificant to ABC Ltd. does not affect the need for disclosure.

Question 3

Mr. X has a 100% investment in A Ltd. He is also a member of the key management personnel
(KMP) of B Ltd. B Ltd has a 100% investment in C Ltd. Examine related party relationship of A
Ltd., as per Ind AS 24, in the financial statements of C Ltd.

(MTP Aug ‘18)

Answer 3

Para 9 of Ind AS 24 defines the term “key management personnel” as persons having authority
and responsibility for planning, directing and controlling the activities of the entity directly or
indirectly, including any director (whether executive or not).

Further, significant influence is the power to participate in the financial and operating policy
decisions of the investee but is not control or joint control of those policies.

Therefore, a key management personnel (KMP) has significant influence over the entity.
Accordingly, Mr. X has significant influence over B Ltd. since he is a key management personnel
of B Ltd.

Now, para 9(vii) of the standard states that an entity is related to a reporting entity if the
person identified in para 9(a)(i) (here KMP ie. Mr. X) has significant influence over the entity or
is a member of the key management personnel of the entity (or of a parent of the entity)”

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Therefore, if C Ltd. is a reporting entity, A Ltd. is related to C Ltd. because a key management
personnel of parent B Limited has control over A Limited. Therefore, the relationship of C Ltd.
and A Ltd. will be “Entities controlled by key management

Question 4

Mr. X has a 100% investment in A Limited. He is also a member of the key management
personnel (KMP) of C Limited. B Limited has a 100% investment in C Limited.

Required Examine related party relationships from the perspective of C Limited for A

(a) Limited.

(b) Examine related party relationships from the perspective of C Limited for A Limited if Mr.
X is a KMP of B Limited and not C Limited.

(c) Will the outcome in (a) & (b) would be different if Mr. X has joint control over A Limited.

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(d) Will the outcome in (a) & (b) would be different if Mr. X has significant influence over A
Limited.

(MTP Nov 21)

Answer 4

(a) A Limited is related to C Limited because Mr. X controls A Limited and is a member of KMP
of C Limited.

(b) Still A Limited will be related to C Limited.

(c) No, Still A Limited will be related to C Limited.

(d) Yes, A Ltd. is not controlled by Mr. X. Therefore, despite Mr. X being KMP of C Ltd., A Ltd.,
having significant influence of Mr. X, will not be considered as related party of C Limited.

Question 5

Mr. X is a domestic partner of Ms. Y. Mr. X has an investment in A Limited and Ms. Y has an
investment in B Limited.

(i) Examine when can a related party relationship is established, from the perspective of A
Limited’s financial statements.

(ii) Examine when can related party relationship is established, from the perspective of B
Limited’s financial statements.

(iii) Will A Limited and B Limited be related parties if Mr. X has only significant influence over
A Limited and Ms. Y also has significant influence over B Limited.

(MTP April 22)

Answer 5

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(i) If Mr. X controls or jointly controls A Limited, then Mr. X is a related party to A limited. B
Limited will be considered as related to A Limited when Ms. Y also has control, joint control or
significant influence over B Limited because Ms. Y is a domestic partner of Mr. X.

(ii) If Ms. Y controls or jointly controls B Limited, then Ms. Y is a related party to B limited. A
Limited will be considered as related to B Limited when Mr. X also has control, joint control or
significant influence over A Limited because Mr. X is a domestic partner of Ms. Y.

(iii) No, Significant influence does not lead to direct / indirect control between the A Ltd. and B
Ltd. Hence, they will not be considered as related party.

Question 6

Mr. X is a domestic partner of Ms. Y. Mr. X has an investment in A Limited and Ms. Y has an
investment in B Limited.

Required

(a) Examine when can a related party relationship is established, from the perspective of A
Limited’s financial statements:

(b) Examine when can related party relationship is established, from the perspective of B
Limited’s financial statements:

(c) Will A Limited and B Limited be related parties if Mr. X has only significant influence over
A Limited and Ms. Y also has significant influence over B Limited:

(Study material)

Answer 6

(a) If Mr. X controls or jointly controls A Limited, B Limited is related to A Limited when Ms. Y
has control, joint control or significant influence over B Limited.

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(b) If Mr. X controls or jointly controls A Limited, A Limited is related to B Limited when Ms. Y
has control, joint control or significant influence over B Limited.

(c) No, Significant influence does not lead to direct/indirect control between the A Ltd. & B Ltd.

Question 7

ICAI Illustration

Mr. X has a 100% investment in A Limited. He is also a member of the key management
personnel (KMP) of C Limited. B Limited has a 100% investment in C Limited.

Required

(a) Examine related party relationships from the perspective of C Limited for A Limited.

(b) Examine related party relationships from the perspective of C Limited for A Limited if Mr.
X is a KMP of B Limited and not C Limited.

(c) Will the outcome in (a) & (b) would be different if Mr. X has joint control over A Limited.

(d) Will the outcome in (a) & (b) would be different if Mr. X has significant influence over A
Limited.

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 (Study material)

Answer

(a) A Limited is related to C Limited because Mr. X controls A Limited and is a member of KMP
of C Limited.

(b) Still A Limited will be related to C Limited.

(c) No, Still A Limited will be related to C Limited.

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(d) Yes, A Ltd. is not controlled by Mr. X. Therefore, despite Mr. X being KMP of C Ltd.,

Question 8

ICAI Illustration

Mr. X has an investment in A Limited and B Limited.

Required

(i) Examine when can related party relationship be established

(a) from the perspective of A Limited’s financial statements:

(b) from the perspective of B Limited’s financial statements:

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(ii) Will A Limited and B Limited be related parties if Mr. X has only significant influence over
both A Limited and B Limited

(Study material)

Answer

(i) (a) If Mr. X controls or jointly controls A Limited, B Limited is related to A Limited when Mr. X
has control, joint control or significant influence over Entity B.

(b) If Mr. X controls or jointly controls A Limited, A Limited is related to Entity B when Mr. X has
control, joint control or significant influence over Entity B.

(ii) No, A Ltd. & B Ltd., will not be considered as related party since no direct or indirect control
is exercised on each other in any of the manner.

Topic 2 : Related Party Relationships due to Common Control

Question 9

Mr. X owns 95% of entity A and is its director. He is also beneficiary of a trust that owns 100%
of entity B, of which he is a director.

Whether entities A and B are related parties? Would the situation be different if:

(a) Mr. X resigned as a director of entity A, but retained his 95% holding?

(b) Mr. X resigned as a director of entities A and B and transferred the 95% holding in entity A
to the trust?

(RTP Nov ‘20)

Answer 9

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Entities A and B are related parties, because the director (Mr. X) controls entity A and is a
member of the key management personnel of entity B.

Answers to different given situations would be as under:

Mr. X resigned as a director of entity A, but retained his 95% holding

Mr. X continues to control entity A through his 95% holding even though he is not (nominally) a
director of the entity. Entities A and B are related if Mr. X controls the trust. Mr. X controls
entity A and also, through the trust, controls entity B. Entities A and B are controlled by the
same person, and so they are related parties.

Mr. X might still be a member of ‘key management personnel’ even though he is not
(nominally) a director of entity A. Key management personnel includes, but is not restricted to,
directors, which include those who are executive ‘or otherwise’ provided they had authority
and responsibility for planning, directing and controlling the activities of the entity. There could
be two reasons why entities A and B would continue to be related parties: Mr. X being a
member of ‘Key management personnel’ of entity A and Mr. X controlling entity A.

Mr. X resigned as a director of entities A and B and transferred the 95% holding in entity A to
the trust.

If Mr. X controls the trust, he controls entities A and B through the trust, so they will be related
parties (see reason in (a) above)

Mr. X is a member of ‘key management personnel’ of the two entities (see (a) above) if, as
seems likely, he continues to direct their operating and financial policies. The substance of the
relationship and not merely the legal form should be considered.

If Mr X is regarded as a member of the key management personnel of, say, entity A, entity B is a
related party, because he exercises control or significant influence over entity B by virtue of his
control over the trust.

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Question 10

An Indian company has a parent company out side India. Parent company negotiates
software licenses with end vendor and based on number of licences, parent company get its
reimbursement from Indian company. Say, license cost of Rs. 12 Lac is charged for calendar
year of 2018. Parent company generates is invoice in February'18. Indian company accounts
full invoice in February'18 and then for Indian financial year, accounts Reimbursement
expense of Rs. 3. 00 Lac during FY 1718 (for licencing cost relating to period January'18 to
March'18) and Prepaid expenses of Rs. 9 Lac for licensing cost reimbursement relating to
April'18 to December'18. Prepaid expense is subsequently reversed and expense of Rs. 9 Lac
is accounted for in FY 18-19.

What amount should be disclosed at Related party transaction?

(MTP Mar ‘19)

Answer 10

Paragraph 9 of Ind AS 24 Related Party Disclosures defines Related Party Transactions as under:

“A related party transaction is a transfer of resources, services or obligations between a

reporting entity and a related party, regardless of whether a price is charged.”

Paragraph 6 of Ind AS 24 states as under:

“6 A related party relationship could have an effect on the profit or loss and financial position of
an entity…”

In the given case, there is a transfer of resources to the extent of Rs.12 lac from the company to
the parent towards software license. Of this transfer of resources, the company has consumed
the benefits relating to Rs.3 lac of software license cost which is recognise in profit or loss. The

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benefits relating to Rs.9 lac of software license cost will be consumed in the next reporting
period and therefore is recognised in balance sheet as prepaid expenses.

Paragraph 18 of Ind AS 24 states as under:

“18 If an entity has had related party transactions during the periods covered by the financial
statements, it shall disclose the nature of the related party relationship as well as information
about those transactions and outstanding balances, including commitments necessary for users
to understand the potential effect of the relationship of the financial statements. At a
minimum, disclosures shall include:

a. The amount of the transactions;

b. The amount of outstanding balances, including commitments, and;

(i) Their terms and conditions, including whether they are secured, and the nature of the
consideration to be provided in settlement; and

(ii) Details of any guarantees given or received;

c. Provisions for doubtful debts related to the amount of outstanding balances; and

d. The expense recognised during the period in respect of bad and doubtful debts due from
related parties.”

Therefore, the company has to disclose:

1. The amount of transaction with the parent of Rs.12 lac towards software license;

2. Outstanding balance of Rs.9 lac presented as prepaid expense along with the terms and
conditions and state that the same will be settled in the next reporting period by receipt of
software licensing services.

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3. The amount of Rs.3 lac recognized as software license expense in profit or loss for the
benefits consumed during the period to make it understandable to users. Paragraph 113 of Ind
AS 1 Presentation of Financial Statements states as under:

“113 An entity shall present notes in a systematic manner. An entity shall cross reference each
line items in the balance sheet and in the statement of profit and loss, and in the statement of
changes in equity and of cash flows to any related information in the notes.”

Therefore, the company shall cross-reference the software license expense recognised in profit
or loss and prepaid expenses recognised in balance sheet to the notes disclosing related party
transactions.

Question 11

Uttar Pradesh State Government holds 60% shares in PQR Limited and 55% shares in ABC
Limited. PQR Limited has two subsidiaries namely P Limited and Q Limited. ABC Limited has
two subsidiaries namely A Limited and B Limited. Mr. KM is one of the Key management
personnel in PQR Limited. ·

(a) Determine the entity to whom exemption from disclosure of related party transactions is
to be given. Also examine the transactions and with whom such exemption applies.

(b) What are the disclosure requirements for the entity which has availed the exemption?

(RTP Nov ’19)

Answer 11

(a) As per para 18 of Ind AS 24, ‘Related Party Disclosures’, if an entity had related party
transactions during the periods covered by the financial statements, it shall disclose the nature
of the related party relationship as well as information about those transactions and

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outstanding balances, including commitments, necessary for users to understand the potential
effect of the relationship on the financial statements.

However, as per para 25 of the standard a reporting entity is exempt from the disclosure
requirements in relation to related party transactions and outstanding balances, including
commitments, with:

(i) a government that has control or joint control of, or significant influence over, the reporting
entity; and

(ii) another entity that is a related party because the same government has control or joint
control of, or significant influence over, both the reporting entity and the other entity

According to the above paras, for Entity P’s financial statements, the exemption in paragraph
25 applies to:

(i) transactions with Government Uttar Pradesh State Government; and

(ii) transactions with Entities PQR and ABC and Entities Q, A and B.

Similar exemptions are available to Entities PQR, ABC, Q, A and B, with the transactions with UP
State Government and other entities controlled directly or indirectly by UP State Government.
However, that exemption does not apply to transactions with Mr. KM. Hence, the transactions
with Mr. KM needs to be disclosed under related party transactions.

(b) It shall disclose the following about the transactions and related outstanding balances
referred to in paragraph 25:

(a) the name of the government and the nature of its relationship with the reporting entity (ie
control, joint control or significant influence);

(b) the following information in sufficient detail to enable users of the entity’s financial
statements to understand the effect of related party transactions on its financial statements:

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(i) the nature and amount of each individually significant transaction; and

(ii) for other transactions that are collectively, but not individually, significant, a qualitative or
quantitative indication of their extent.

Question 12

S Ltd., a wholly owned subsidiary of P Ltd is the sole distributor of electricity to consumers in
a specified geographical area. A manufacturing facility of P Ltd is located in the said
geographical area and, accordingly, P Ltd is also a consumer of electricity supplied by S Ltd.
The electricity tariffs for the geographical area are determined by an independent rate-
setting authority and are applicable to all consumers of S Ltd, including P Ltd. Whether the
above transaction is required to be disclosed as a related party transaction as per Ind AS 24,
Related Party Disclosures in the financial statements of S Ltd.?

Answer 12

As per paragraph 9(b)(i) of Ind AS 24, each parent, subsidiary and fellow subsidiary in a ‘group’
is related to the other members of the group. Thus, in the case under discussion, P Ltd is a
related party of S Ltd from the perspective of financial statements of S Ltd.

Paragraph 11 of Ind AS 24 states as follows:

“In the context of this Standard, the following are not related parties:

(a) two entities simply because they have a director or other member of management
personnel in common or because a member of key management personnel of one entity has
significant influence over the other entity.

(b) two joint venturers simply because they share joint control of a joint venture.

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(c) (i) providers of finance,(ii) trade unions, (iii) public utilities, and (iv) departments and
agencies of a government that does not control, jointly control or significantly influence the
reporting entity, simply by virtue of their normal dealings with an entity (even though they may
affect the freedom of action of an entity or participate in its decision-making process).

(d) a customer, supplier, franchisor, distributor or general agent with whom an entity transacts
a significant volume of business, simply by virtue of the resulting economic dependence.”

Being engaged in distribution of electricity, S Ltd is a public utility. Had the only relationship
between S Ltd and P Ltd been that of a supplier and a consumer of electricity, P Ltd would not
have been regarded as a related party of S Ltd.

However, as per the facts of the given case, this is not the only relationship between S Ltd and P
Ltd. Apart from being a supplier of electricity to P Ltd., S Ltd is also a subsidiary of P Ltd; this is a
relationship that is covered within the related party relationships to which the disclosure
requirements of the standard apply. In view of the above, the supply of electricity by S Ltd to P
Ltd is a related party transaction that attracts the disclosure requirements contained in
paragraph 18 and other relevant requirements of the standard. This is notwithstanding the fact
that P Ltd is charged the electricity tariffs determined by an independent rate-setting authority
(i.e., the terms of supply to P Ltd are at par with those applicable to other consumers) Ind AS 24
does not exempt an entity from disclosing related party transactions merely because they have
been carried out on an arm’s length basis.

Question 13

ICAI Illustration

Government G directly controls Entity 1 and Entity 2. It indirectly controls Entity A and Entity
B through Entity 1, and Entity C and Entity D through Entity 2. Person X is a member of the
key management personnel in Entity 1. Examine the entity to whom the exemption for
disclosure to be given and for transaction with whom.

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 (Study material)

Answer

For Entity A’s financial statements, the exemption of Ind AS 24 applies to:

(a) transactions with Government G; and

(b) transactions with Entities 1 and 2 and Entities B, C and D. However, that exemption does not
apply to transactions with Person X.

Topic 3 : Disclosure Requirements of Related Party Transactions

Question 14

State any 5 major differences between Ind AS 24 and AS 18.

(MTP Oct’22)

Answer 14

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Note: Students may answer any 5 points out of the 11 points mentioned below.

[Link] . Particulars Ind AS 24 AS 18

1. Definition of Relative Ind AS 24 uses the term “a AS 18 uses the term

close member of the family “relatives of an
of a person”. individual”

Definition of close members of AS 18 covers the spouse,

family as per Ind AS 24 includes son, daughter, brother,
those family members, who sister, father and mother
may be expected to influence, who may be expected to
or be influenced by, that person influence, or be influenced
in their dealings with the entity, by, that individual in his/her
including: that person’s dealings with the reporting
children, spouse or domestic enterprise.
partner, brother, sister, father
and mother; children of that
person’s spouse or domestic
partner; and dependents of
that person or that person’s
spouse or domestic partner.

Hence, the definition as per Ind

AS 24 is much wider.

2. State Controlled Enterprise: Ind AS 24, there is extended AS 18 defines state-

coverage of Government controlled enterprise
Enterprises, as it defines a as “an enterprise
government-related entity which is under the
as “an entity that is control of the Central

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 controlled, jointly controlled Government and/or
or significantly influenced by any State
a government.” Further, Government(s)”.
“Government refers to
government, government
agencies and similar bodies
whether local, national or
international.”

3. Key Management Personnel Ind AS 24 covers KMP of the AS 18 covers key

parent as well. Ind AS 24 also management
covers the entity, or any personnel (KMP) of
member of a group of which the entity only
it is a part, providing key
management personnel
services to the reporting
entity or to the parent of the
reporting entity

4. Related Parties in case of Joint Under Ind AS 24 there is As per AS 18, co-
Venture extended coverage in case of venturers or co-
joint ventures. Two entities associates are not
are related to each other in related to each other.
both their financial
statements, if they are either
co-venturers or one is a
venturer and the other is an
associate.

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 5. Effect of influences which do Ind AS 24 does not AS 18 mentions that
not lead to transactions specifically mention this. where there is an
inherent difficulty for
management to
determine the effect
of influences which
do not lead to
transactions,
disclosure of such
effects is

not required

6. Post-employment Benefits Ind AS 24 specifically AS 18 does not

includes post- employment specifically cover
benefit plans for the benefit entities that are post-
of employees of an entity or employment benefit
plans,
its related entity as related
parties. as related parties.

7. Next Most Senior Parent Ind AS 24 requires an AS 18 has no such

additional disclosure as to requirement.
the name of the next most
senior parent which
produces consolidated
financial statements for
public use.

8. Disclosure for Compensation Ind AS 24 requires extended AS 18 does not

disclosures for specifically require

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 compensation of KMP under
different categories.

9. Disclosure of ‘Amount of the Ind AS 24 requires “the AS 18 gives an option

Transactions’ vs ‘Volume of the amount of the transactions” to disclose the
need to be disclosed. “Volume of the
Transactions
transactions either as
an amount or as an
appropriate
proportion”.

10 . Government Related Entities: Ind AS 24 requires AS 18 presently

disclosures of certain exempts the
information by the disclosure of such
government related entities. information.

11 . Clarification of Control, Ind AS 24 neither defines AS 18 includes

Substantial Interest and these terms nor it includes definition and
Significant Influence such clarificatory text and clarificatory text,
allows respective standards primarily with regard
to deal with the same. to control,
substantial interest
(including 20%
threshold), significant
influence (including
20% threshold)

Question 15

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Mr. Atul is an independent director of a company X Ltd. He plays a vital role in the
management of X Ltd. and contributes in major decision making process of the organisation.
X Ltd. pays sitting fee of Rs.2,00,000 to him for every Board of Directors’ (BOD) meeting he
attends. Throughout the year, X Ltd. had 5 such meetings which was attended by Mr. Atul.

Similarly, a non-executive director, Mr. Naveen also attended 5 BOD meetings and charged
Rs. 1,50,000 per meeting. The Accountant of X Ltd. believes that they being not the
employees of the organisation, their fee should not be disclosed as per related party
transaction.

Examine whether the sitting fee paid to independent director and non-executive director is
required to be disclosed in the financial statements prepared as per Ind AS?

(MTP May ’20, RTP May’18)

Answer 15

As per paragraph 9 of Ind AS 24, Related Party Disclosures, “Key management personnel are
those persons having authority and responsibility for planning, directing and controlling the
activities of the entity, directly or indirectly, including any director (whether executive or
otherwise) of that entity.”

Accordingly, key management personnel (KMP) includes any director of the entity who are
having authority and responsibility for planning, directing and controlling the activities of the
entity. Hence, independent director Mr. Atul and non-executive director Mr. Naveen are
covered under the definition of KMP in accordance with Ind AS.

Also as per paragraph 7 and 9 of Ind AS 19, ‘Employee Benefits’, an employee may provide
services to an entity on a full-time, part-time, permanent, casual or temporary basis. For the
purpose of the Standard, Employees include directors and other management personnel.

Therefore, contention of the Accountant is wrong that they are not employees of X Ltd.
Paragraph 17 of Ind AS requires disclosure about employee benefits for key management

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personnel. Therefore, an entity shall disclose key management personnel compensation in total
i.e. disclosure of directors’ fee of (Rs. 10,00,000 + Rs. 7,50,000) Rs. 17,50,000 is to be made as
employees benefits (under various categories).

Since short-term employee benefits are expected to be settled wholly before twelve months
after the end of the annual reporting period in which the employees render the related
services, the sitting fee paid to directors will fall under it (as per Ind AS 19) and is required to be
disclosed in accordance with the paragraph 17 of Ind AS 24.

Question 16

Entity A owns 30% of the share capital of entity B and has the ability to exercise significant
influence over it.

Entity B holds the following investments:

• 70% of the share capital of its subsidiary, entity C; and

• 30% of the share capital of entity D, with the ability to exercise significant influence.

Entity A transacts with entities C and D. Should entity A disclose these transactions as related
party transactions in its separate financial statements?

Also explain the disclosure of such transactions in the financial statements of C and D as
related party transaction.

(RTP May ’22)

Answer 16

Entity A should disclose its transactions with entity C in entity A’s separate financial statements.
Entity C is a related party of entity A, because entity C is the subsidiary of entity A’s associate,
entity B.

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Entity A’s management is not required to disclose entity A’s transactions with entity D in its
financial statements. Entity D is not a related party of entity A, because entity A has no ability to
exercise control or significant influence over entity D.

Entity C is required to disclose its transactions with entity A in its financial statements, because
entity A is a related partly.

Entity D is not required to disclose transactions with entity A, because they are not related
parties.

Question 17

ICAI Illustration

Power Limited is a producer of electricity. Transmission Limited regularly purchases electricity

from Power Limited. Power Limited whose financial year ends on March 31, 20X2, acquired
100% shareholding of Transmission Limited on July 15, 20X1. However, the entire
shareholding is disposed of on March 21, 20X2. Power Limited and Transmission Limited had
transactions when Transmission Limited was a subsidiary of Power Limited and also in the
period when it was not a subsidiary of Power Limited. For which period, related party
disclosure should Power Limited make in its financial statements for the year ended March
31, 20X2 with respect to transactions with Transmission Limited.

(Study material)

Answer

Power Limited should in its financial statements for the year ended March 31, 20X2 make
related party disclosures for the period from July 15, 20X1 to March 21, 20X2 when
Transmission Limited was its subsidiary.

[Link]
Question 18

Mr. Y’s father owns 100% of the shares in A Ltd. Mr. Y and Mrs. Y own 100% of the shares in B
Ltd. Ms. Z who is Mrs. Y’s sister, provides book-keeping services from time to time to B Ltd.
However, Ms. Z is not an employee of B Ltd. A Ltd. has increased its loan of Rs 1,50,000 to B
Ltd. to Rs 2,00,000 during the year, for which A Ltd. charges a below market rate of interest.

Required:

(i) State whether Mr. Y’s father & Mrs. Y’s sister are related party of B Ltd.

(ii) What disclosure is to be made in the financial statements of both A Ltd. & B Ltd. with
respect to the loan given by A Ltd. to B Ltd.?

(iii) Whether B Ltd. is required to disclose the dealings with the sister of Mrs. Y in its financial
statements?

(RTP May’25)

Answer 18

(i) Mr. Y’s father and Mrs. Y’s sister are related parties of B Ltd., if they are ‘close family’ of
either Mr. Y or Mrs. Y. They are close family if they might be expected to influence, or be
influenced by, Mr. Y or Mrs. Y in their dealing with B Ltd. Mr. Y’s father and Mr. Y and Mrs. Y are

[Link]
‘close family’, so Mr. Y’s father is a related partly of B Ltd., which is controlled by Mr. Y and Mrs.
Y.

Mr. Y’s father has a controlling interest in A Ltd. A Ltd. is a related party of B Ltd.

(ii) Both entities should disclose the necessary details regarding the increase in the loan to Rs
2,00,000 in their financial statements. A Ltd. should also disclose the amounts due to it from B
Ltd. on the balance sheet date, together with any provisions and amounts written off. B Ltd.
should disclose the amount that it owes to A Ltd. at the balance sheet date alongwith the
concessional rate of interest at which the loan was given to B Ltd.

(iii) B Ltd. would have to disclose the transactions with Mrs. Y’s sister if the sister might be
expected to influence, or be influenced by, either Mr. Y or Mrs. Y in their dealings with B Ltd.
based on further facts of the case. In case the influence exists, disclosure to be made as per
para 18 of Ind AS 24 about the transactions and the outstanding balances.

Topic 4 : Special Cases / Exceptions

Question 19

A Limited has both (i) joint control over B Limited and (ii) joint control or significant influence
over C Limited Required

(a) Examine related party relationship from the perspective of C Limited’s financial
statements.

(b) Examine related party relationship from the perspective of B Limited’s financial
statements.

(Study material)

[Link]
Answer 19

a) C Limited is related to B Limited

b) B Limited is related to C Limited

Question 20

ICAI Illustration

Entity P Limited has a controlling interest in subsidiaries SA Limited and SB Limited and SC
Limited. SC Limited is a subsidiary of SB Limited. P Limited also has significant influence over
associates A1 Limited and A2 Limited. Subsidiary SC Limited has significant influence over
associate A3 Limited Examine related party relationships of various entities.

(Study material)

Answer

[Link]
• In Separate Financial Statements of P Limited, SA Limited, SB Limited, SC Limited, A1 Limited,
A2 Limited and A3 Limited are all related parties.

• In the Individual Financial Statements of SA Limited, P Limited, SB Limited, SC Limited, A1

Limited, A2 Limited and A3 Limited are all related parties.

• In the Individual Financial Statements of SB Limited, P Limited, SA Limited, SC Limited, A1

Limited, A2 Limited and A3 Limited are all related parties.

• In the Individual Financial Statements of SC Limited, P Limited, SA Limited, SB Limited, A1

Limited, A2 Limited and A3 Limited are all related parties.

• In the Individual Financial Statements of associates A1 Limited, A2 Limited and A3 Limited; P

Limited, SA Limited, SB Limited and SC Limited are related parties.

• A1 Limited, A2 Limited and A3 Limited are not related to each other.

• For Parent’s consolidated financial statements, A1 Limited, A2 Limited and A3 Limited are
related to the Group

[Link]
 Chapter 8 Unit-2

Ind AS 33: “Earnings per Share”

Topic 1 : Basic EPS – Single Period

Question 1

January Shares in issue 1,000,000

5% Convertible bonds Rs 100,000

(terms of conversion 120 ordinary shares for Rs 100)

31March Holders of Rs 25,000 bonds converted to ordinary shares.

Profit for the year ended 31 December Rs 200,000

Tax rate 30%.

Calculate basic and diluted EPS. Ignore the need to split the convertible bonds into liability
and equity elements.

(MTP Sep ‘23)

Answer 1

Number of Profit Rs
shares

Profit 200,000

[Link]
Outstanding shares 1,000,000

New shares on conversion (weighted average) 9/12 Rs 22,500 -

25,000 / 100 120

Figures for basic EPS 1,022,500 200,000

Basic EPS is (Rs 200,000 / 1,022,500) = 0.196 per share Dilution adjustments

Unconverted shares Rs 75,000 / 100 × 120 90,000

Interest: Rs 75,000 5% × 0.7 2,625

Converted shares pre conversion adjustment 3/12 Rs 7,500

25,000 / 100 120

Interest: [3/12 Rs 25,000 5% 0.7] 219

1,120,000 202,844

Diluted EPS is (Rs 202,844 / 1,120,000) = 0.181

Question 2

Following information pertains to an entity for the year ending 31st March 20X1:

Net profit for the year Rs 12,00,000

Weighted average number of equity shares outstanding during the year 5,00,000 shares

Average market price per share during the year Rs 20

Weighted average number of shares under option during the year 1,00,000 shares

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Exercise price per share under option during the year Rs 15

Calculate basic and diluted earnings per share.

(RTP Nov ’21)

Answer 2

Calculation of earnings per share

Earnings Shares Per share

Profit attributable to equity holders Rs 12,00,000

Weighted average shares outstanding during year 5,00,000

20X1

Basic earnings per share Rs 2.40

Weighted average number of shares under option 100,000

Weighted average number of shares that would have (75,000)

been issued at average market Refer Note

price: (1,00,000 × Rs 15.00) ÷ Rs 20.00

Diluted earnings per share Rs 1,200,000 525,000 Rs 2.29

Note: Earnings have not increased because the total number of shares has increased only by
the number of shares (25,000) deemed to have been issued for no consideration.

Question 3

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 ABC Ltd. 1st January, 20X1 Shares in issue 10,00,000

31st March, 20X1 (a) Rights issue 1 for 5 at 90 paise

(b) Fair value of shares Rs 1 (cum-rights

price)

Calculate the number of shares for use in the EPS calculation for the calendar year.

(MTP Sep ’22)

Answer 3

Rights issue bonus fraction

Shares Rs per Rs
share

Cum-rights 5 1 5.0

Rights 1 0.9 0.9

Ex-rights 6 5.9

Theoretical ex-rights price (5.9 / 6) = 0.983

Bonus fraction = Cum-rights price / Theoretical

ex-rights price = 1/0.983

Number of shares

1 January - 31 March (10,00,000 3/12 2,54,323

1/0.983)

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1 April - 31 December (12,00,000 9/12) 9,00,000

Number of shares for the purpose of EPS 11,54,323

calculation

Question 4

Explain why weighted average number of shares are used in the calculation of earnings per
share and how it is calculated.

Following is the data for company XYZ in respect of number of equity shares during the
financial year 20X1-20X2. Find out the number of shares for the purpose of calculation of
basic EPS.

[Link]. Date Particulars Number of shares

1 1-Apr-20X1 Opening balance of outstanding equity shares 1,00,000

2 15-Jun- 20X1 Issue of equity shares 75,000

3 8-Nov- 20X1 Conversion of convertible preference shares 50,000

in Equity

4 22-Feb- 20X2 Buy back of shares (20,000)

5 31-Mar- 20X2 Closing balance of outstanding equity shares 205,000

(MTP May ’20, Oct’22)

Answer 4

[Link]
As per para 20 of Ind AS 33, Earnings per share, the weighted average number of ordinary
shares outstanding during the period reflects the possibility that the amount of shareholders’
capital varied during the period as a result of a larger or smaller number of shares being
outstanding at any time. The weighted average number of ordinary shares outstanding during
the period is the number of ordinary shares outstanding at the beginning of the period,
adjusted by the number of ordinary shares bought back or issued during the period multiplied
by a time - weighting factor. The time weighting factor is the number of days that the shares
are outstanding as a proportion of the total number of days in the period; a reasonable
approximation of the weighted average is adequate in many circumstances.

Formula

The weighted average number of shares is calculated as follows:

Number of shares x (number of days the shares were held during the year / 365) Following the
above formula, the weighted average number of shares for calculation of EPS for the year 20X1-
20X2 will be as follows:

[Link]. Date Particulars No of shares No of days Weighted

shares were average no of
outstanding shares

1 1April 20X1 Opening balance 1,00,000 365 1,00,000

of outstanding
equity shares

2 15June 20X1 Issue of equity 75,000 290 59,589

shares

3 8November Conversion of 50,000 144 19,726

20X1 convertible
preference

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 shares in Equity

4 22February Buy back of (20,000) (38)* (2,082)

20X2 shares

5 31March Closing balance 2,05,000 1,77,233

20X2 of outstanding
equity shares

*These shares had already been considered in the shares issued. The same has been deducted
assuming that the bought back shares have been extinguished immediately.

Question 5

The following information is available relating to Space India Limited for the Financial Year
20X1-20X2.

Net profit attributable to equity shareholders Rs 90,000

Number of equity shares outstanding 16,000

Average fair value of one equity share during the year Rs 90

Potential Ordinary Shares:

Options 900 options with exercise price of Rs 75

Convertible Preference Shares 7,500 shares entitled to a cumulative dividend of Rs 9

per share. Each preference share is convertible into 2
equity shares.

10% Convertible Debentures of Rs 10,00,000 and each debenture is convertible into 4

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 equity shares
Rs 100 each

Tax rate 25%

You are required to compute Basic and Diluted EPS of the company for the financial year
20X1-20X2.

(MTP March ’22, PYP Nov’20)

Answer 5

(i) Basic Earnings per share

Year ended 31.3.20X2

Net profit attributable to equity shareholders (A) Rs 90,000

Number of equity shares outstanding (B) 16,000

Earnings per share (A/B) Rs 5.625

(ii) Diluted earnings per share

Options are most dilutive as their earnings per incremental share is nil. Hence, for the purpose
of computation of diluted earnings per share, options will be considered first. 10% convertible
debentures being second most dilutive will be considered next and thereafter convertible
preference shares will be considered (as per W.N.).

Net profit No. of equity Net Profit

attributable to shares attributable le
equity per share Rs
shareholders
Rs

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Net profit attributable to 90,000 16,000 5.625 Dilutive
equity shareholders

Options 150

90,000 16,150 5.572

10% Convertible debentures 75,000 40,000

1,65,000 56,150 2.939 Dilutive

Convertible Preference Shares 67,500 15,000

2,32,500 71,150 3.268 Anti-

Dilutive

Since diluted earnings per share is increased when taking the convertible preference shares into
account (Rs 2.939 to Rs 3.268), the convertible preference shares are antidilutive and are
ignored in the calculation of diluted earnings per share for the year ended 31st March, 20X2.
Therefore, diluted earnings per share for the year ended 31st March, 20X2 is Rs 2.939.

Working Note:

Calculation of incremental earnings per share and allocation of rank

Increase in Increase in Earnings per Rank

earnings number of incremental
equity share (3) = (1) ÷
(1)
shares (2)

(2)

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 Rs Rs

Options

Increase in earnings Nil

No. of incremental shares issued 150 Nil 1

for no consideration [900 (90-
75)/90]

Convertible Preference Shares

Increase in net profit 67,500

attributable to equity
shareholders as adjusted by
attributable dividend tax [(Rs 9
7,500) + 8% (Rs 9 7,500)]

No. of incremental shares (2 15,000 4.50 3

7,500)

10% Convertible Debentures

Increase in net profit [(Rs 75,000

10,00,000 10% x (1 – 0.25)]

No. of incremental shares 40,000 1.875 2

(10,000 4)

Question 6

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GOLD Ltd., a manufacturing company, prepares its financial statements on 31 st March every
year. On 1st April, 2021, it had issued (a) 10,00,000 ordinary shares and

(b) 6% convertible bonds amounting to Rs 1,00,000, the terms of conversion being 120
ordinary shares for every Rs 100. On 30th June, 2021, Rs 50,000 bonds converted to ordinary
shares. The profit for the year ended 31st March, 2022 is Rs 2,50,000. The applicable tax rate
is 25%.

Calculate basic and diluted EPS. Ignore the need to split the convertible bonds into liability
and equity element.

(PYP May ’22)

Answer 6

Number of Profit (Rs)

shares

Profit 2,50,000

Outstanding ordinary shares 10,00,000

New shares on conversion (weighted average) [(9/12 45,000

Rs 50,000 / 100 120)]

Figures for basic EPS 10,45,000 2,50,000

Dilution adjustments

Unconverted shares (Rs 50,000 / 100 120) 60,000

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Interest (Rs 50,000 6% 0.75 net of tax) 2,250

Converted shares pre conversion adjustment (3/12 Rs 15,000

50,000 / 100 120)

Interest: [3/12 Rs 50,000 6% 0.75 net of tax] 562.50

Diluted EPS is (Rs 2,52,812.50 / 11,20,000 11,20,000 2,52,812.50

shares) = Rs 0.226 per share

Question 7

1 January Shares in issue 1,000,000

5% Convertible bonds Rs 100,000

(terms of conversion 120 ordinary shares for Rs 100)

31March Holders of Rs 25,000 bonds converted to ordinary shares.

Profit for the year ended 31 December Rs 200,000

Tax rate 30%.

Calculate basic and diluted EPS. Ignore the need to split the convertible bonds into liability
and equity elements.

(Study material)

Answer 7

Number of shares Profit Rs

[Link]
Profit 200,000

Outstanding shares 1,000,000

New shares on conversion (weighted average) 22,500

9/12 × Rs 25,000 / 100 × 120

Figures for basic EPS 1,022,500 200,000

Basic EPS is (Rs 200,000 / 1,022,500) = 0.196 per share

Dilution adjustments

Unconverted shares Rs 75,000 / 100 × 120 90,000

Interest: Rs 75,000 × 5% × 0.7 2,625

Converted shares pre conversion adjustment

3/12 × Rs 25,000 / 100 × 120 7,500

Interest: [3/12 × Rs 25,000 × 5% × 0.7] 219

1,120,000 202,844

Diluted EPS is (Rs 202,844 / 1,120,000) = 0.181

Question 8

Calculate Basic EPS for period ending 20X0, 20X1 and 20X2, when

20X0 20X1 20X2

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Profit attributable to ordinary equity holders Rs 1,100 Rs 1,500 Rs 1,800
of the parent entity

Shares outstanding before rights issue 500 shares

Rights issue One new share for each five outstanding

shares

Exercise price Rs 5.00

Date of rights issue 1 January 20X1

Last date to exercise rights 1 March 20X1

Market price of one ordinary share Rs 11.00

immediately before exercise on 1st March
20X1:

Reporting date 31 December

(Study material)

Answer 8

Diluted EPS

Number of Shares Profit (Rs) EPS

Basic 1,000,000 100,000 0.10

Dilution (Refer W.N.) 50,000 – –

1,050,000 100,000 0.095

Working Notes:

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Proceeds of issue (200,000 × Rs 6) = 1,200,000

Number that would have been issued at Fair value (1,200,000 / Rs 8)= 150,000 Number actually
issued 200,000

Number for “free” (200,000 – 150,000) 50,000

Question 9

ICAI Illustration

At 31 December 20X1, the issued share capital of a company consisted of 1.8 million ordinary
shares of Rs 10 each, fully paid. The profits for the year ended 31 December 20X1 and 20X2
amounted to Rs 630,000 and Rs 875,000 respectively. On 31 March 20X2, the company made
a rights issue on a 1 for basis at Rs 30. The market price of the shares immediately before the
rights issue was Rs 60. Calculate EPS.

(Study material)

Answer

Calculation of theoretical ex rights price:

Number of shares Rs

Initial holding 4 Market Value (4 60) 240

Rights taken up 1 Cost (1 30) 30

New holding 5 Theoretical price 270

Theoretical ex rights price = 270/5 = Rs 54 Calculation of bonus element

The bonus element of the rights issue is given by the fraction:

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Market price before rights issue/Theoretical ex-rights price =60 / 54 = 10/9 This corresponds to
a bonus issue of 1 for 9. The bonus ratio will usually be greater than 1 (that is, the market price
of the shares immediately prior to the exercise of rights is greater than the theoretical ex-rights
price). If the ratio is less than 1, it might indicate that the market price has fallen significantly
during the rights period, which was not anticipated when the rights issue was announced. In
this situation, the rights issue should be treated as an issue of shares for cash at full market
price. It can be demonstrated, using the figures in the illustration, that a rights issue of 1 for 4 at
Rs 30 is equivalent to a bonus issue of 1 for 9 combined with an issue of shares at full market
price of Rs 54 per share. Consider an individual shareholder holding 180 shares:

Number of shares (in ‘000s) Value Rs (in million)

Original holding 1,800 Value at Rs60 per share 108.00

Rights shares (1:4) 450 Value at Rs30 per share 13.50

Holding after rights issue 2,250 Value at Rs54 per share 121.50

The additional 450 thousand rights shares at Rs30 can be shown to be equivalent to a bonus
issue of 1 for 9 on the original holding, followed by an issue of 1:8 at full market price of Rs54
following the bonus issue, as follows:

Number of shares (in Value Rs (in million)

‘000s)

Original holding 1,800 Value at Rs60 per share 108.00

Bonus issue of 1 for 9 200 Value Nil nil

2000 Value at Rs 54 per share 108.00

Issue of 1 for 8 at full 250 Value at Rs 54 per share 13.50

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price (450-200)

Total holding 2250 Value at Rs54 per share 121.50

The shareholder is therefore indifferent as to whether the entity makes a rights issue of 1 for 4
at Rs 30 per share, or a combination of a bonus issue of 1 for 9 followed by a rights issue of 1
for 8 at full market price of Rs 54 per share. Having calculated the bonus ratio, the ratio should
be applied to adjust the number of shares in issue before the rights issue, both for the current
year and for the previous year. Therefore, the weighted average number of shares in issue for
the current and the previous period, adjusted for the bonus element, would be:

Weighted average number of shares:

20X2 20X1

No of actual shares in issue before rights 1,800,000 1,800,000

Correction for bonus issue (1:9) 200,000 200,000

Deemed no of shares in issue before right issue 2,000,000 2,000,000

(1.8 million 10/9 for the whole year)

The no of shares after the rights issue

would be

= 1.8 million 5/4 = 2,250,000

Therefore, the weighted average number of shares would be

2.0 million for the whole year 2,000,000

1.8 million 10/9 3/12 (before rights issue) 500,000

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2.25 million x 9/12 (after rights issue) 1,687,500

Weighted average number 2,187,500 2,000,000

20X2 20X1

Calculation of earnings (as previously stated)

Profits for the year Rs 875,000 Rs 630,000

Weighted average number 2,187,500 1,800,000

Basic EPS 40p 35p

Basic EPS for 20X1 (as restated) Rs 630,000 / 2,000,000

= 31.50p

In practice, the restated EPS for 20X1 can also be calculated by adjusting the EPS figure of the
previous year by the reciprocal of the bonus element factor: * 35p x 9/10 = 31.50 p

Question 10

ICAI Illustration

Entity A has in issue 25,000 4% debentures with a nominal value of Re 1. The debentures are
convertible to ordinary shares at a rate of 1:1 at any time until 20X9. The entity’s
management receives a bonus based on 1% of profit before tax. Entity A’s results for 20X2

[Link]
showed a profit before tax of Rs 80,000 and a profit after tax of Rs 64,000 (for simplicity, a tax
rate of 20% is assumed in this question).

Calculate Earnings for the purpose of diluted EPS.

(Study material)

Answer

For the purpose of calculating diluted EPS, the earnings should be adjusted for the reduction in
the interest charge that would occur if the debentures were converted, and for the increase in
the management bonus payment that would arise from the increased profit.

Amount(Rs)

Profit after tax 64,000

Add: Reduction in interest cost (25,000 4%) (Refer Note) 1,000

Less: Tax expense (1,000 20%) (200)

Less: Increase in management bonus (1,000 1%) (10)

Add: Tax benefit (10 20%) 2

Earnings for the purpose of diluted EPS 64,792

Note : For simplicity, this illustration does not classify the components of the convertible
debenture as liabilities and equity, as required by Ind AS 32.

Question 11

ICAI Illustration

[Link]
At 31 December 20X7 and 20X8, the issued share capital of an entity consisted of 4,000,000
ordinary shares of Rs 25 each. The entity has granted options that give holders the right to
subscribe for ordinary shares between 20Y6 and 20Y9 at Rs 70 per share. Options outstanding
at 31 December 20X7 and 20X8 were 630,000. There were no grants, exercises or lapses of
options during the year. The profit after tax, attributable to ordinary equity holders for the
years ended 31 December 20X7 and 20X8, amounted to Rs 500,000 and Rs 600,000
respectively (wholly relating to continuing operations).

Average market price of share:

Year ended 31 December 20X7 = Rs 120 Year ended 31 December 20X8 = Rs 160

(Study material)

Answer

20X8 20X7

Calculation of basic EPS

Profit after tax Rs 600,00 0 Rs 500,000

Number of share 4,000,000 4,000,000

Basic EPS (approx.) 15 paise 13 paise.

Calculation of diluted EPS

Adjusted number of shares

Number of shares under option:

Issued at full market price:

(630,000 × 70) ÷ 120 367,500

[Link]
(630,000 × 70) ÷ 160 275,625

Issued at nil consideration — dilutive 354,375 262,500

Total number of shares under option 630,000 630,000

Number of equity shares for basic EPS 4,000,000 4,000,000

Number of dilutive shares under option 354,375 262,500

Adjusted number of shares (A) 4,354,375 4,262,500

Profit after tax (B) Rs 600,00 0 Rs 500,000

Diluted EPS (B/A) 14 paise 12 paise

Note: If options had been granted or exercised during the period, the number of ‘nil
consideration’ shares in respect of these options would be included in the diluted EPS
calculation on a weighted average basis for the period prior to exercise.

Question 12

ICAI Illustration

An entity has two classes of shares in issue:

• 5,000 non-convertible preference shares

• 10,000 ordinary shares

The preference shares are entitled to a fixed dividend of Rs 5 per share before any dividends
are paid on the ordinary shares. Ordinary dividends are then paid in which the preference
shareholders do not participate. Each preference share then participates in any additional

[Link]
ordinary dividend above Rs 2 at a rate of 50% of any additional dividend payable on an
ordinary share. The entity’s profit for the year is Rs 100,000, and dividends of Rs 2 per share
are declared on the ordinary shares.

Compute the allocation of earnings for the purpose of calculation of Basic EPS when an entity
has ordinary shares & participating equity instruments that are not convertible into ordinary
shares.

(Study material)

Answer

The calculation of basic EPS is as follows:

Rs Rs

Profit 100,000

Less: Dividends payable for the period:

Preference (5,000 × Rs 5) 25,000

Ordinary (10,000 × Rs 2) 20,000 (45,000)

Undistributed earnings 55,000

Allocation of undistributed earnings:

Allocation per ordinary share = A

Allocation per preference share = B where B = 50% of A (A 10,000) + (50% A 5,000) = Rs

55,000

A = 55,000 / (10,000 + 2,500) = Rs 4.4 B = 50% of A

B = Rs 2.2

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Dividend per share are: Preference shares Rs per Ordinary shares Rs per
share share

Distributed earnings 5.00 2.00

Undistributed earnings 2.20 4.40

Totals 7.20 6.40

Proof: (5,000 Rs 7.2) + (10,000 Rs 6.4) = Rs100,000

Question 13

ICAI Illustration

An entity issues 100,000 ordinary shares of Re 1 each for a consideration of Rs 2.50 per share.
Cash of Rs 1.75 per share was received by the balance sheet date. The partly paid shares are
entitled to participate in dividends for the period in proportion to the amount paid. Calculate
number of shares for calculation of\ Basic EPS.

(Study material)

Answer

The number of ordinary share equivalents that would be included in the basic EPS calculation
on a weighted basis is as follows: (100,000 Rs 1.75) / Rs 2.50 = 70,000 shares.

Topic 2 : Preference Dividends & Allocation of Earnings

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Question 14

Mittal Motors Limited is preparing financials for the year ended March 31, 20 X2. The
Company had some queries in preparation of certain data that is required to be presented in
the financials. As the retainer of the Company, please advise the company for the following
issues:

Mittal Motors has issued 10,00,000 numbers of 9% cumulative preference shares. The
Company has arrears of Rs. 15 crores of preference dividend as on March 31, 20X2, it includes
current year arrears of Rs. 1.75 crores. The Company did not declare any dividend for equity
shareholders as well as for preference shareholders.

What is the amount of dividend to be reduced from profit or loss for the year for calculating
basic Earnings Per Share?

(MTP Oct ‘19)

Answer 14

As per para 14 (b) of Ind AS 33 “Earnings per share”, “The after-tax amount of preference
dividends that is deducted from profit or loss is the after-tax amount of the preference
dividends for cumulative preference shares required for the period, whether or not the
dividends have been declared. The amount of preference dividends for the period does not
include the amount of any preference dividends for cumulative preference shares paid or
declared during the current period in respect of previous periods”. In the given case, the
amount of preference dividends Rs.1.75 crores declared for the year ended March 31, 20X2
(i.e., the current period) is to be deducted from profit or loss for calculating EPS.

Question 15

Calculate Subsidiary’s and Group’s Basic EPS and Diluted EPS, when

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Parent:

Profit attributable to ordinary equity holders of Rs. 12,000 (excluding any earnings of, or
the parent entity dividends paid by, the subsidiary)

Ordinary shares outstanding 10,000

Instrument of subsidiary owned by the parent 800 ordinary shares

30 warrant exercisable to purchase

ordinary shares of subsidiary

300 convertible preference shares

Subsidiary:

Profit Rs. 5,400

Ordinary shares outstanding 1,000

Warrants 150, exercisable to purchase ordinary

shares of the subsidiary

Exercise price Rs.10

Average market price of one ordinary share Rs. 20

Convei1ible preference shares 400, each convertible into one ordinary

share

Dividends on preference shares Rs 1 per share

No inter-company eliminations or adjustments were necessary except for dividends.

Ignore income taxes. Also, ignore classification of the components of convertible financial

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instruments as liabilities and equity or the classification of related interest and dividends as
expenses and equity as required by Ind AS 32.

(MTP April ’19)

Answer 15

Subsidiary’s earnings per share

Basic EPS

Diluted EPS

Notes:

(a) Subsidiary's profit attributable to ordinary equity holders.

(b) Dividends paid by subsidiary on convertible preference shares.

(c) Subsidiary's ordinary shares outstanding.

(d) Subsidiary’s profit attributable to ordinary equity holders (Rs. 5,000) increased by Rs. 400
preference dividends for the purpose of calculating diluted earnings per share.

(e) Incremental shares from warrants, calculated: [(Rs. 20 — Rs. 10) - Rs. 20] 150.

(f) Subsidiary's ordinary shares assumed outstanding from conversion of convertible preference
shares, calculated: 400 convertible preference shares X conversion factor of 1.

Consolidated earnings per share

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Basic EPS Rs. 1.63 calculated:

Rs. 12.000{a) + Rs. 4.300 (b) / 10.000(c)

Diluted EPS Rs. 1.61 calculated: Rs. 12.000 + Rs. 2.928(d) + Rs. 55(e) + Rs. 1,098(f) / 10,000

(a) Parent's profit attributable to ordinary equity holders of the parent entity.

(b) Portion of subsidiary’s Profit to be included in consolidated basic earnings per share,
calculated: (800 Rs. 5.00) + (300 Re.1.00)

(c) Parent's ordinary shares outstanding.

(d) Parent’s proportionate interest in subsidiary's earnings attributable to ordinary shares,

calculated: (800 /1,000) (1,000 shares Rs. 3.66 per share).

(e) Parent's proportionate interest in subsidiary's earnings attributable to warrants, calculated:

(30 + 150) (75 incremental shares X Rs. 3.66 per share).

(f) Parent's proportionate interest in subsidiary’s earnings attributable to convertible

preference shares, calculated: (300 + 400) (400 shares from conversion Rs. 3.66 per share).

Question 16

ICAI Illustration

ABC Ltd. issues 9% preference shares of fair value of Rs 10 each on 1.4.20X1. Total value of
the issue is Rs 10,00,000. The shares are issued for a period of 5 years and would be
redeemed at the end of 5th year. The shares are to be redeemed at Rs 11 each.

At the end of the year 3, i.e. on 31.3.20X4, company finds that it has earned good returns
than expected over last three years and can make the redemption of preference shares early.
To compensate the shareholders for two years of dividend which they need to forego,

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company decided to redeem the shares at Rs 12 each instead of original agreement of Rs 11.
Comment on the impact of early conversion of preference shares at a premium on earnings
for the year 20X3- 20X4 attributable to ordinary equity holders of ABC Ltd. for basic EPS.
Ignore the EIR impact in the solution and answer on the basis of Ind AS 33 only.

(Study material)

Answer

In the given situation, Rs 1 per share is the excess payment made by the company amounting to
Rs 1,00,000 in all. The amount of Rs 1,00,000 will be deducted from the earnings of the year
20X3-20X4 while calculating the basic EPS of year 20X3-20X4

Question 17

ICAI Illustration

(This illustration does not illustrate the classification of the components of convertible
financial instruments as liabilities and equity or the classification of related interest and
dividends as expenses and equity as required by Ind AS 32).

Profit attributable to equity holders of the parent entity Rs 100,000

Ordinary shares outstanding 10,000

Non-convertible preference shares 6,000

Non-cumulative annual dividend on preference shares (before any Rs 5.50 per share
dividend is paid on ordinary shares)

After ordinary shares have been paid a dividend of Rs 2.10 per share, the preference shares
participate in any additional dividends on a 20:80 ratio with ordinary shares.

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Compute the allocation of earnings for the purpose of calculation of Basic EPS when an entity
has ordinary shares & participating equity instruments that are not convertible into ordinary
shares

(Study material)

Answer

Dividends on preference shares paid (6000 Rs 5.50 per share) Rs 33,000

Dividends on ordinary shares paid (10,000 Rs 2.10 per share) Rs 21,000

Basic earnings per share is calculated as follows:

Rs Rs

Profit attributable to equity holders of the parent entity 100,000

Less: Dividend paid:

Preference 33,000

Ordinary 21,000 (54,000)

Undistributed earnings 46,000

Allocation of undistributed earnings

Allocation per ordinary share = A

Allocation per preference share = B; B = 1/4 A

(A 10,000) + (1/4 A 6,000) = Rs 46,000

A = Rs 46,000 ÷ (10,000 + 1,500)

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A = Rs 4.00

B = 1/4 A

B = Re. 1.00

Dividend per share:

Preference shares Ordinary shares

Distributed earnings Rs 5.50 Rs 2.10

Undistributed earnings Rs 1.00 Rs 4.00

Totals Rs 6.50 Rs 6.10

Topic 3 : Diluted EPS – Convertible Bonds/Debentures

Question 18

From the following information you are asked to calculate (a) Basic and Diluted EPS of Duck
Ltd. and (b) Diluted EPS of Swan Ltd.:

Duck Ltd. Swan Ltd.

Amount (Rs) Amount

(Rs)

Income/(Loss) from Discontinued Operations (4,20,000) 3,25,920

Net Income/(Loss) (1,68,000) 1,45,920

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Weighted Average Number of Shares outstanding 80,000 96,000

Incremental common shares outstanding relating to stock 16,000 25,600

options

(PYP Dec ’21)

Answer 18

For Duck Ltd.

i. Calculation of Basic EPS

Basic EPS = Profit for the year / Weighted average number of shares outstanding Basic EPS
(Continued Operations) = Profit from continued operations / Weighted average number of
shares outstanding = Rs 2,52,000 / 80,000 = Rs 3.15

Basic Loss per share (Discontinued operations) = Loss from discontinued operations / Weighted
average number of shares outstanding = (Rs 4,20,000)/80,000=(Rs 5.25)

Overall Basic Loss per share = (Rs 1,68,000) / 80,000 = (Rs 2.10)

ii. Calculation of Diluted EPS

Diluted EPS = Profit for the year / Adjusted weighted average number of

shares outstanding

EPS (Continued Operations) = Profit from continued operations / Adjusted weighted average
number of shares outstanding = Rs 2,52,000 / 96,000 = Rs 2.625

Loss per share (Discontinued operations) = Loss from discontinued operations/ Adjusted
weighted average number of shares outstanding = (Rs 4,20,000) / 96,000 = (Rs 4.375)

Overall Diluted Loss per share = (Rs 1,68,000) / 96,000 = (Rs 1.75) (ii)

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Reporting Status:

The income from continuing operations is the control number, there is a dilution in basic EPS
for income from continuing operations (reduction of EPS from Rs 3.15 to Rs 2.625). Therefore,
even though there is an anti-dilution [Loss per share reduced from Rs 2.10 (i) to Rs 1.75 (ii)
above], diluted loss per share of Rs 1.75 is reported.

For Swan Ltd.

Treatment of potential shares:

In case of loss from continuing operations, the potential shares are excluded since including
those shares would result into anti-dilution effect on the control number (loss from continuing
operations).

Therefore, the diluted EPS will be calculated as under:

Diluted EPS = Profit for the year / Adjusted weighted average number of shares outstanding

Overall Profit = Loss from continuing operations + Gain from discontinued operations

= (Rs 1,80,000) + Rs 3,25,920 = Rs 1,45,920

Weighted average number of shares outstanding = 96,000

Diluted EPS = Rs 1,45,920 / 96,000 = Rs 1.52

Reporting Status:

The dilutive effect of the potential common shares on EPS for income from discontinued
operations and net income would not be reported because of the loss from continuing
operations.

Question 19

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Company P has both ordinary shares and equity-classified preference shares in issue. The
reconciliation of the number of shares during Year 1 is set out below:

Number of shares

Dates in Year Transaction Ordinary Treasury Preference

1 shares shares shares

1st April Balance 30,00,000 (5,00,000) 5,00,000

15th April Bonus issue – 5% (no 1,50,000 (25,000) -

corresponding changes
in resources)

1st May Repurchase of shares for - (2,00,000) -

cash

1st November Shares issued for cash 4,00,000 - -

31st March Balance 35,50,000 (7,25,000) 5,00,000

The following additional information is relevant for Year 1.

- Company P’s net profit for the year is Rs 46,00,000.

- On 15th February, non-cumulative preference dividends of Rs 1.20 per share were declared.
The dividends were paid on 15th March. Preference shares do not participate in additional
dividends with ordinary shares.

- Dividends on non-cumulative preference shares are deductible for tax purposes.

The applicable income tax rate is 30%.

The financial year of Company P ends on 31st March.

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Determine the Basic EPS of the Company P for Year 1. Use the number of months or part of
months, rather than the number of days in the calculation of EPS.

(RTP May ’23)

Answer 19

Determination of numerator for calculation of Basic EPS

The first step in the basic EPS calculation is to determine the profit or loss that is attributable to
ordinary shareholders of Company P for the period. Non-cumulative dividends paid on equity-
classified preference shares are not deducted in arriving at net profit or loss for the period, but
they are not returns to ordinary shareholders. Accordingly, these dividends are deducted from
net profit or loss for the period in arriving at the numerator.

(Rs)

Net profit 46,00,000

Preference dividends (5,00,000 shares 1.2) (6,00,000)

Related tax (Rs 6,00,000 30%) 1,80,000 (4,20,000)

Profit or loss attributable to P’s ordinary shareholders 41,80,000

Accordingly, the numerator for calculation of Basic EPS is Rs 41,80,000

Determination of denominator for calculation of Basic EPS

The second step in the basic EPS calculation is to determine the weighted-average number of
ordinary shares outstanding for the reporting period.

Number of shares Time Weight Weighted average

weighting number of shares

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1st April – opening balance (30,00,000 - 25,00,000 1
5,00,000)

15th April – bonus issue (1,50,000 – 25,000) 1,25,000

1st April to 30th April 26,25,000 1/12 2,18,750

1st May – repurchase of shares (2,00,000)

1st May to 31st October 6/12 12,12,500

24,25,000

1st November – new shares issued 4,00,000

1st November to 31st March 28,25,000 5/12 11,77,083

Weighted average number of shares for the 26,08,333

year

The denominator for calculation of Basic EPS is 26,08,333 shares. Basic EPS = Rs 41,80,000 /
26,08,333 shares = Rs 1.60 per share (approx.).

Question 20

P Ltd. is a subsidiary company of ABC Ltd. It preparing both Separate financial statement (SFS)
and consolidated financial statements (CFS) for the year ending on 31st March, 20XI. It has
net profit after tax of Rs. 20,00,000 as per SFS & Rs. 16,00,000 as per CFS. Share capital of P
Ltd. is 2,00,000 shares of Rs. 10 each. ABC Ltd. has acquired 80% shares of P Ltd. Accountant
of P Ltd. had calculated following Basic EPS for its SFS:

Calculation of Basic EPS in its SFS

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Net Profit after tax Rs. 16,00,000

Number of equity shares attributable to Parent company ABC Ltd. (2,00,000 1,60,000 shares
80%)

Basic EPS Rs. 10 per share

Examine the correctness of the above presentation of Basic EPS.

(RTP May ‘18)

Answer 20

As per paragraph 4 of Ind AS 33 “Earnings per Share”, when an entity presents both
consolidated financial statements and separate financial statements prepared in accordance
with Ind AS 110, Consolidated Financial Statements, and Ind AS 27, Separate Financial
Statements, respectively, the disclosures required by this Standard shall be presented both in
the consolidated financial statements and separate financial statements. In consolidated
financial statements such disclosures shall be based on consolidated information and in
separate financial statements such disclosures shall be based on information given in separate
financial statements. An entity shall not present in consolidated financial statements, earnings
per share based on the information given in separate financial statements and shall not present
in separate financial statements, earnings per share based on the information given in
consolidated financial statements.

Also paragraph 9 of the standard states that an entity shall calculate basic earnings per share
amounts for profit or loss attributable to ordinary equity holders of the parent entity and, if
presented, profit or loss from continuing operations attributable to those equity holders.

Further, paragraph A1 of Appendix A of Ind AS 33 states that for the purpose of calculating
earnings per share based on the consolidated financial statements, profit or loss attributable to

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the parent entity refers to profit or loss of the consolidated entity after adjusting for non-
controlling interests.

Therefore. the requirements of paragraph 9 of Ind AS 33 have been provided in the context of
calculating EPS in the consolidated financial statements of an entity. The accountants of P Ltd.
had followed this for calculation of Basic EPS in its SFS. As per ITFG Bulletin 11, for SFS analogy
may be drawn from paragraph 9 of Ind AS 33 that in case of separate financial statements, the
parent entity mentioned in paragraph 9 will imply the legal entity of which separate financial
statements are being prepared and accordingly, when an entity presents EPS in its separate
financial statements, then the same shall be calculated based on the profit or loss attributable
to its equity shareholders.

Hence, the presentation of Basic EPS by the Accountant of P Ltd. on the basis of consolidated
financial statements in its separate financial statements is not correct. The correct presentation
of Basic EPS would be as follows:

Calculation of Basic EPS of P Ltd. in SFS

Net Profit after tax Rs. 20,00,000

No. of share issued 2,00,000 shares

Basic EPS Rs. 10 per share

Question 21

Sohan has been recently hired in Zio Life Limited. Since he is facing difficulty in computation
of EPS as per Ind AS 33, guide him by discussing the steps for the calculation of Basic EPS and
Diluted EPS along with the necessary computations for EPS of Year 1.

The following basic facts relate to Company Zio Life Limited.

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• Net profit for Year 1 is Rs 46,00,000.

• The number of ordinary shares outstanding on 1st April Year 1 is 30,00,000. The following
facts are also relevant for Year 1.

• On 1st April, Zio Life Limited issues 20,00,000 three-year term convertible bonds for Rs 1
each.

• Zio Life Limited has an option to settle the principal amount in ordinary shares (every 10
bonds are convertible into one ordinary share) or cash on settlement date.

• The principal amount of the bonds is classified as an equity instrument and the interest is
classified as a financial liability.

• The interest expense relating to the liability component of the bonds is Rs 1,800.

• The interest expense is tax-deductible. The applicable income tax rate is 40%.

(MTP Oct 21)

Answer 21

The EPS computations for Year 1 as per Ind AS 33 are as follows

Basic EPS Diluted EPS

[Link] the numerator 1. Identify Potential Ordinary Shares (POSs)

No adjustment is necessary until the The convertible bonds are the only POSs.
convertible bonds are converted and
ordinary shares are issued. The numerator is
net profit ie. Rs 46,00,000.

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2. Determine the denominator 2. For each POS, calculate Earnings per
Incremental Share (EPIS)
There is no change in the number of
outstanding shares during the year. The Since Zio Life Limited has the choice of
denominator is therefore 30,00,000. settlement, for the purpose of determining the
EPIS, it assumes the share-settlement
assumption.

Potential adjustment to the numerator for

EPIS:

The convertible bonds, when settled in ordinary

shares, would increase profit or loss for the year
by the post-tax amount of the interest expense:
(Interest expense on the convertible bonds) x (1
- income tax rate) = (Rs 1,800) x (1 - 40%) = Rs
1,080

Potential adjustment to the denominator for

EPIS:

The convertible bonds, when settled in ordinary

shares, would increase the number of
outstanding shares by 2,00,000 (20,00,000 / 10).

EPIS is calculated as follows:

EPIS = 1,080 / 2,00,000 = 0.01

3. Determine basic EPS 3. Rank the POSs

Basic EPS = 46,00,000 / 30,00,000 This step does not apply, because the

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 convertible bonds are the only class of POSs.
= 1.53

4. Identify dilutive POSs and determine diluted

EPS

The potential impact of convertible bonds is

determined as follows. (Refer W.N. below)

Accordingly, Zio Life Limited includes the impact

of the convertible bonds in diluted EPS. Diluted
EPS = Rs 1.44

Working Note:

Calculation of Diluted EPS

Earnings (Rs) Weighted average Per Share (Rs) Dilutive?

number of shares

Basic EPS 46,00,000 30,00,000 1.53

Convertible bonds 1,080 2,00,000

Total 46,01,080 32,00,000 1.44 Yes

Question 22

ABC Ltd. has 1,000,000 Rs. 1 ordinary shares and 1,000 Rs. 100 10% convertible bonds (issued
at par), each convertible into 20 ordinary shares on demand, all of which have been in issue

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for the whole of the reporting period. ABC Ltd.’s share price is Rs. 4.50 per share and earnings
for the period are Rs. 500,000. The tax rate applicable to the entity is 21%.

Calculate basic EPS, earnings per incremental share for the convertible bonds and diluted EPS.

(MTP March ’21)

Answer 22

Basic EPS is Rs. 0.50 per share (ie 500,000/1,000,000)

The earnings per incremental share for the convertible bonds is calculated as follows:

Earnings effect = No. of bonds nominal value interest cost (1 – applicable tax rate)

= 1,000 100 10% (1- 0.21) = Rs. 7,900.

Incremental shares calculation

Assume all bonds are converted to shares, even though this converts Rs. 100 worth of bonds
into 20 shares worth only Rs. 90 and is therefore not economically rational.

This gives 1000 20 = 20,000 additional shares.

Earnings per incremental share = Rs. 7,900 / 20,000 = Rs. 0.395

Diluted EPS = (Rs. 500,000 + Rs. 7,900) / (1,000,000 + 20,000) = Rs. 0.498 per share.

Question 23

An entity issues 2,000 convertible bonds at the beginning of Year 1. The bonds have a three -
year term and are issued at par with a face value of Rs. 1,000 per bond, giving total proceeds
of Rs. 20,00,000. Interest is payable annually in arrears at a nominal annual interest rate of
6%. Each bond is convertible at any time up to maturity into 250 ordinary shares. The entity

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has given an option to settle the principal amount of the convertible bonds in ordinary shares
or in cash.

When the bonds are issued, the prevailing market interest rate for similar debt without a
conversion option is 9%. At the issue date, the market price of one ordinary share is Rs. 3.
Income tax is ignored.

Calculate basic and diluted EPS when

attributable to ordinary equity holders of the parent entity Year 1 Rs. 10,00,000

Ordinary shares outstanding 12,00,000

Convertible bonds outstanding 2,000

(MTP Oct ’20, RTP May’19)

Answer 23

Allocation of proceeds of the bond issue:

Liability component (W.N.1) Rs. 18,47,720

Equity component Rs. 1,52,280

Rs. 2,000,000

The liability and equity components would be determined in accordance with Ind AS 32. These
amounts are recognised as the initial carrying amounts of the liability and equity components.
The amount assigned to the issuer conversion option equity element is an addition to equity
and is not adjusted.

Basic earnings per share Year 1:

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 = Rs.0.83 Per ordinary share

Diluted earnings per share Year 1:

It is presumed that the issuer will settle the contract by the issue of ordinary shares. The
dilutive effect is therefore calculated in accordance with the Standard.

= Rs.0.69 Per ordinary share

Working Notes:

1. This represents the present value of the principal and interest discounted at 9%

1,20,000 2.531 = Rs. 3,03,720

20,00,000 0.772 = Rs. 15,44,000

Rs. 18,47,720

2. Profit is adjusted for the accretion of Rs. 1,66,295 (Rs. 18,47,720 9%) of the liability because
of the passage of time. However, it is assumed that interest @ 6% for the year has already been
adjusted.

5,00,000 ordinary shares = 250 ordinary shares 2,000 convertible bonds

Question 24

CAB Limited is in the process of preparation of the consolidated financial statements of the
group for the year ending 31st March, 20X3 and the extract of the same is as follows:

Particulars Attributable to CAB Non-controlling Total (Rs. in ‘000)

Limited interest

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Profit for the year 39,000 3,000 42,000

Other Comprehensive 5,000 Nil 5,000

Income

Total Comprehensive Income 44,000 3,000 47,000

The long-term finance of the company comprises of the following:

(i) 20,00,00,000 equity shares at the beginning of the year and the company has issued
5,00,00,000 shares on 1st July, 20X2 at full market value.

(ii) 8,00,00,000 irredeemable preference shares. These shares were in issue for the whole of
the year ended 31st March, 20X3. The dividend on these preference shares is discretionary.

(iii) Rs. 18 crores of 6% convertible debentures issued on 1st April, 20X1 and repayable on
31st March, 20X5 at par. Interest is payable annually. As an alternative to repayment at par,
the holder on maturity can elect to exchange their convertible debentures for 10 crores
ordinary shares in the company. On 1st April, 20X1, the prevailing market interest rate for
four-year convertible debentures which had no right of conversion was 8%. Using an annual
discount rate of 8%, the present value of Rs. 1 payable in four years is 0.74 and the
cumulative present value of Rs. 1 payable at the end of years one to four is 3.31.

In the year ended 31st March, 20X3, CAB Limited declared an ordinary dividend of 0.10 paise
per share and a dividend of 0.05 paise per share on the irredeemable preference shares.

Compute the following:

• the finance cost of convertible debentures and its closing balance as on 31st March, 20X3 to
be presented in the consolidated financial statements.

• the basic and diluted earnings per share for the year ended 31st March, 20X3. Assume that
income tax is applicable to CAB Limited and its subsidiaries at 25%.

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 (RTP May ’20, MTP Apr’21)

Answer 24

Calculation of the liability and equity components on 6% Convertible debentures:

Present value of principal payable at the end of 4th year (Rs. 1,80,000 thousand 0.74) = Rs.
1,33,200 thousand

Present value of interest payable annually for 4 years (Rs. 1,80,000 thousand 6% 3.31) = Rs.
35,748 thousand

Total liability component = Rs. 1,68,948 thousand

Therefore, equity component = Rs. 1,80,000 thousand – Rs. 1,68,948 thousand = Rs. 11,052
thousand Calculation of finance cost and closing balance of 6% convertible debentures

Year Opening balance Finance cost @ Interest paid @ Closing balance

in ’000 8% in ’000 6% in ’000 in ’000

a b=a 8% c d=a+b-c

31.3.20X2 1,68,948 13,515.84 10,800 1,71,663.84

31.3.20X3 1,71,663.84 13,733.11 10,800 1,74,596.95

Finance cost of convertible debentures for the year ended 31.3. 20X3 is Rs. 13,733.11 thousand
and closing balance as on 31.3. 20X3 is Rs. 1,74,596.95 thousand.

Calculation of Basic EPS in ’000

Profit for the year 39,000

Less: Dividend on preference shares (80,000 thousand Rs. 0.05) (4,000)

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Profit attributable to equity shareholders 35,000

Weighted average number of shares = 20,00,00,000 + {5,00,00,000 (9/12)} = 23,75,00,000

shares or 2,37,500 thousand shares

Basic EPS = Rs. 35,000 thousand / 2,37,500 thousand shares = Rs. 0.147

Calculation of Diluted EPSRs. in ’000

Profit for the year 39,000

Less: Dividend on preference shares (80,000 0.05) (4,000)

Add: Finance cost (as given in the above table) 13,733.11 35,000

Less: Tax @ 25% (3,433.28) 10,299.83

45,299.83

Weighted average number of shares = 20,00,00,000 + {5,00,00,000 (9/12)} + 10,00,00,000 =

33,75,00,000 shares or 3,37,500 thousand shares

Diluted EPS= Rs. 45,299.83 thousand / 3,37,500 thousand shares = Rs. 0.134

Question 25

Company S is a subsidiary of Company P. Following facts are in respect of Company S:

• Company S has 10,000 ordinary shares and 1,000 options outstanding, of which Company P
owns 9,000 shares and 500 options, respectively.

• The options have an exercise price of Rs 40.

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• The average market price of Company S’s ordinary share was Rs 50 in 20X1.

• In 20X1, Company S’s profit was Rs 30,000.

Following facts are in respect of Company P:

• Company P has 5,000 ordinary shares outstanding.

• In 20X1, Company P’s profit (excluding any distributed and undistributed earnings of
subsidiaries) was Rs 7,000.

• The options outstanding are dilutive at P’s level.

Determine the diluted EPS of Company P for the year 20X1. Ignore income tax.

(RTP Nov’22)

Answer 25

To determine the diluted EPS of Company P, the diluted EPS of Company S has to be calculated
first.

Calculation of Company S’s diluted EPS:

Company S’s earnings for the period Rs 30,000

Weighted average ordinary shares 10,000

Incremental shares (refer W.N.) 200

Company S’s diluted EPS Rs 30,000/ (10,000 +

200

Rs2.94

Calculation of Company P’s diluted EPS:

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Company P’s earning for the period Rs7,000

Company P’s share of Company S’s earning attributable to ordinary Rs 26,460

shares [(9,000 /10,000) (2.94 10,000)]

Company P’s share of Company S’s earning attributable to options Rs294

[(500 /1,000) (2.94 200)]

Company P’s weighted average ordinary shares outstanding 5,000

Company P’s diluted EPS = (7,000 + 26,460 + 294) / 5,000 Rs 6.75

Working Note:

Computation of Incremental shares related to weighted average options outstanding:

All options are dilutive because their exercise price is below the average market price of
Company S’s ordinary shares for the period.

The incremental shares are calculated as follows:

Shares issued on assumed exercise of options 1,000

Less: Shares that would be issued at average market Price [(40 1,000)/50] (800)

Incremental shares 200

Question 26

At 31st March, 2019 the issued share capital of SB Limited consisted of 20,00,000 ordinary
shares of Rs 1 each. On 1st July 2019, the Company issued Rs 25,00,000 of 8% convertible loan

[Link]
stock for cash at par. Each Rs 100 nominal of the loan stock may be converted, at any time
during the years ended 2024 to 2027, into the number of ordinary shares set out below:

• 31st March, 2024: 135 Ordinary Shares

• 31st March, 2025: 130 Ordinary Shares

• 31st March, 2026: 125 Ordinary Shares

• 31st March, 2027: 120 Ordinary Shares

If the loan stock is not converted by 2027, they would be redeemed at par. It is assumed that
the written equity conversion option is accounted for as a derivative liability and marked to
market through profit or loss. The change in the options fair value reported on 31st March
2020 and 31st March 2021 amounted to losses of Rs 5,000 and Rs 5,300 respectively. Further,
it is assumed that there are no tax consequences arising from these losses.

The profit before interest, fair value movements and taxation for the year ended 31st March,
2020 and 2021 amounted to Rs 16,50,000 and Rs 17,90,000 respectively and relate wholly to
continuing operations. The rate of tax for both the periods is 33% (including cess and
surcharge if any). Calculate Basic and Diluted EPS for 31st March 2020 & 31st March 2021.

(PYP July 21, MTP April ‘23)

Answer 26

2021 2020

Trading results Rs Rs

A. Profit before interest, fair value movements and tax 17,90,000 16,50,000

B. Interest on 8% convertible loan stock (2020: 9/12 Rs (2,00,000) (1,50,000)

2,00,000)

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C. Change in fair value of embedded option (5,300) (5,000)

Profit before tax 15,84,700 14,95,000

Taxation @ 33% on (A-B) (5,24,700) (4,95,000)

Profit after tax 10,60,000 10,00,000

Calculation of basic EPS

Number of equity shares outstanding 20,00,000 20,00,000

Earnings 10,60,000 10,00,000

Basic EPS 53 paise 50 paise

Calculation of diluted EPS

Test whether convertibles are dilutive:

The saving in after-tax earnings, resulting from the conversion of Rs 100 nominal of loan stock,
amounts to (Rs 100 8% 67%) + (Rs 5,300 / 25,000) = Rs 5.36 + Rs 0.21 = Rs 5.57.

There will then be 135 extra shares in issue.

Therefore, the incremental EPS is 4 paise (ie. Rs 5.57 / 135). As this incremental EPS is less than
the basic EPS at the continuing level, it will have the effect of reducing the basic EPS of 53 paise.
Hence the convertibles are dilutive.

2021 2021

Adjusted earnings Rs Rs

Profit for basic EPS 10,60,000 10,00,000

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Add: Interest and other charges on earnings saved as a result (2,00,000 + (1,50,000 +
of the conversion 5,300) 5,000) 1,55,0 00
2,05,300

Less: Tax relief on interest portion (66,000) (49,500)

Adjusted earnings for equity 11,99,300 11,05,500

Adjusted number of shares

From the conversion terms, it is clear that the maximum number of shares issuable on
conversion of Rs 25,00,000 loan stock after the end of the financial year would be at the rate of
135 shares per Rs 100 nominal (that is, 33,75,000 shares).

2021 2020

Number of equity shares for basic EPS 20,00,000 20,00,000

Maximum conversion at date of issue (33,75,000 9/12) - 25,31,250

Maximum conversion after balance sheet date 33,75,000 –

Adjusted shares 53,75,000 45,31,250

Adjusted earnings for equity 11,99,300 11,05,500

Diluted EPS (approx.) 22 paise 24 paise

Question 27

ABC Ltd 1 January 20X1 Shares in issue 1,000,000 31 March 20X1

(a) Rights issue 1 for 5 at 90 paise

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(b) Fair value of shares Rs 1 (cum-rights price)

Calculate the number of shares for use in the EPS calculation for the calendar year.

(Study material)

Answer 27

Rights issue bonus

fraction Shares Rs per share Rs

Cum-rights 5 1 5.0

Rights 1 0. 9 0.9

Ex-rights 6 5.9

Theoretical ex-rights price (5.9 / 6) = 0.9833

Bonus fraction = Cum-rights price / Theoretical ex-rights price = 1/0.9833

Number of shares

1 January - 31 March (1,000,000 3/12 1/.9833) 254,237

1 April - 31 December (1,200,000 9/12) 900,000

1,154,246

Question 28

1 January Shares in issue 1,000,000

Profit for the year ended 31 December Rs 100,000

Average fair value during period Rs 8

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The company has in issue 200,000 options to purchase equal ordinary shares

Exercise price Rs 6

Calculate the diluted EPS for the period.

(Study material)

Answer 28

Diluted EPS

Number of Shares Profit (Rs) EPS

Basic 1,000,000 100,000 0.10

Dilution (Refer W.N.) 50,000 – –

1,050,000 100,000 0.095

Working Notes:

Proceeds of issue (200,000 Rs 6) = 1,200,000

Number that would have been issued at Fair value (1,200,000 / Rs 8)= 150,000

Number actually issued = 200,000

Number for “free” (200,000 – 150,000)= 50,000

Question 29

ICAI Illustration

An entity has following preference shares in issue at the end of 20X4:

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• 5% redeemable, non-cumulative preference shares: These shares are classified as liabilities.
During the year, a dividend was paid on the 5% preference shares – Rs 100,000.

• Increasing-rate, cumulative, non-redeemable preference shares issued at a discount in

20X0, with a cumulative dividend rate from 20X5 of 10%: The shares were issued at a
discount to compensate the holders, because dividend payments will not commence until
20X5. The accrual for the discount in the current year, calculated using the effective interest
method amounted to, say, Rs 18,000. These shares are classified as equity – Rs 200,000.

• 8% non-redeemable, non-cumulative preference shares: At the beginning of the year, the

entity had Rs 100,000 8% preference shares outstanding but, at 30 June 20X4, it repurchased
Rs 50,000 of these at a discount of Rs 1,000 – Rs 50,000.

• 7% cumulative, convertible preference shares (converted in the year):

These shares were classified as equity, until their conversion into ordinary shares at the
beginning of the year. No dividend was accrued in respect of the year, although the previous
year’s dividend was paid immediately prior to conversion. To induce conversion, the terms of
conversion of the 7% convertible preference shares were also amended, and the revised
terms entitled the preference shareholders to an additional 100 ordinary shares on
conversion with a fair value of Rs 300 – Nil.

The profit after tax for the year 20X4 is Rs 150,[Link] the adjustments for the
purpose of calculating EPS.

(Study material)

Answer

Adjustments for the purpose of calculating EPS are made as follows:

Particulars Amount (Rs) Amount (Rs)

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Profit after tax 150,000

Amortisation of discount on issue of increasing-rate preference (18,000 )

shares (Refer Note 1)

Discount on repurchase of 8% preference shares (Refer Note 2) 1,000 (17,000)

Profit attributable to ordinary equity holders for basic EPS 1,33,000

(Refer Note 3-5)

Notes:

1. The original discount on issue of the increasing-rate preference shares is treated as

amortised to retained earnings and treated as preference dividends for EPS purposes and
adjusted against profit attributable to the ordinary equity holders. There is no adjustment in
respect of dividend, because these do not commence until 20X5. Instead, the finance cost is
represented by the amortisation of the discount in the dividend-free period. In future years, the
accrual for the dividend of Rs 20,000 will be deducted from profits.

2. The discount on repurchase of the 8% preference shares has been credited to equity so
should be added to profit.

3. The dividend on the 5% preference shares has been charged to the income statement,
because the preference shares are treated as liabilities, so no adjustment is required for it from
the profit.

4. No accrual for the dividend on the 8% preference shares is required, because they are non-
cumulative. If a dividend had been declared for the year, it would have been deducted from
profit for the purpose of calculating basic EPS, because the shares are treated as equity and the
dividend would have been charged to equity in the financial statements.

The 7% preference shares were converted at the beginning of the year, so there is no
adjustment in respect of the 7% preference shares, because no dividend accrued in respect of

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the year. The payment of the previous year’s cumulative dividend is ignored for EPS purposes,
because it will have been adjusted for in the prior year. Similarly, the excess of the fair value of
additional ordinary shares issued on conversion of the convertible preference shares over the
fair value of the ordinary shares to which the shareholders would have been entitled under the
original conversion terms would already have been deducted from profit attributable to the
ordinary shareholders, and no further adjustment is required.

It may be noted that as per Sections 53 and 55 of the Companies Act, 2013, a company cannot
issue shares at discount or any irredeemable preference shares. However, the above
illustration has been given only to explain the concept given in Ind AS.

Question 30

ICAI Illustration

On 31 March, 20X2, the issued share capital of a company consisted of Rs 100,000,000 in

ordinary shares of Rs 25 each and Rs 500,000 in 10% cumulative non-redeemable preference
shares (classified as equity) of Re 1 each. On 1 October, 20X2, the company issued 1,000,000
ordinary shares fully paid by way of capitalisation of reserves in the proportion 1:4 for the
year ended 31 March, 20X3. Profit for 20X1-20X2 and 20X2-20X3 is Rs 450,000 and Rs 550,000
respectively. Calculate the basic EPS for 20X1-20X2 and 20X2-20X3.

(Study material)

Answer

20X2-20X3 Rs’000 20X1-20X2 Rs’000

Calculation of earnings

Profit for the year 550 450

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Less: Preference shares dividend (50) (50)

Earnings (A) 500 400

No. of shares in ‘000 No. of shares in ‘000

Number of ordinary shares

Shares in issue for full year 4,000 4,000

Capitalisation issue at 1 October 20X2 1,000 1,000

Number of shares (B) 5,000 5,000

Earnings per ordinary share (A/B) 10 Paise 8 Paise*

*The comparative EPS for 20X1-20X2 can alternatively be calculated by adjusting the previously
disclosed EPS in 20X1-20X2 (in this example, 10 Paise) by the following factor:

Number of shares before the bonus issue/ Number of shares after the bonus issue

*Adjusted EPS for 20X1-20X2 10 Paise x (4,000/ 5,000) = 8 Paise

ICAI Illustration

X Ltd.

1 January 1,000,000 shares in issue

28 February Issued 200,000 shares at fair value

[Link]
 31 August Bonus issue 1 share for 3 shares held

30 November Issued 250,000 shares at fair value

Calculate the number of shares which would be used in the basic EPS calculation. Consider
reporting date as December end.

(Study material)

Answer

Period Calculations Weighted average number of

shares

1 January - 28 February 1,000,000 2 / 12 4/3 222,222

1 March - 31 August 1,200,000 6 / 12 4/3 800,000

1 September - 30 November 1,600,000 3 / 12 400,000

1 December - 31 December 1,850,000 1 / 12 154,167

1,576,389

Question 31

ICAI Illustration

ABC Ltd. has 1,000,000 Rs 1 ordinary shares and 1,000 Rs 100 10% convertible bonds (issued
at par), each convertible into 20 ordinary shares on demand, all of which have been in issue
for the whole of the reporting period.

[Link]
ABC Ltd.’s share price is Rs 4.50 per share and earnings for the period are Rs 500,000. The tax
rate applicable to the entity is 21%.

Calculate basic EPS, earnings per incremental share for the convertible bonds and diluted EPS.

(Study material)

Answer

Basic EPS is Rs 0.50 per share (ie 500,000/1,000,000)

The earnings per incremental share for the convertible bonds is calculated as follows:

Earnings effect = No. of bonds x nominal value x interest cost x (1 – applicable tax rate)

= 1,000 100 10% (1- 0.21) = Rs 7,900.

Incremental shares calculation

Assume all bonds are converted to shares, even though this converts Rs 100 worth of bonds
into 20 shares worth only Rs 90 and is therefore not economically rational.

This gives 1000 20 = 20,000 additional shares.

Earnings per incremental share = Rs 7,900 / 20,000 = Rs 0.395

Diluted EPS = (Rs 500,000 + Rs 7,900) / (1,000,000 + 20,000) = Rs 0.498 per share.

Question 32

ICAI Illustration

At 30 June 20X1, the issued share capital of an entity consisted of 1,500,000 ordinary shares
of Rs 1 each. On 1 October 20X1, the entity issued Rs 1,250,000 of 8% convertible loan stock

[Link]
for cash at par. Each Rs 100 nominal of the loan stock may be converted, at any time during
the years ended 20X6 to 20X9, into the number of ordinary shares set out below:

30 June 20X6: 135 ordinary shares;

30 June 20X7: 130 ordinary shares;

30 June 20X8: 125 ordinary shares;

and 30 June 20X9: 120 ordinary shares.

If the loan stocks are not converted by 20X9, they would be redeemed at par. It is assumed
that the written equity conversion option is accounted for as a derivative liability and marked
to market through profit or loss. The change in the options’ fair value reported in 20X2 and
20X3 amounted to losses of Rs 2,500 and Rs 2,650 respectively. It is assumed that there are
no tax consequences arising from these losses.

The profit before interest, fair value movements and taxation for the year ended 30 June
20X2 and 20X3 amounted to Rs 825,000 and Rs 895,000 respectively and relate wholly to
continuing operations. The rate of tax for both periods is 33%.

Calculate Basic and Diluted EPS.

(Study material)

Answer

20X3 20X2

Trading results Rs Rs

A. Profit before interest, fair value movements and tax 895,000 825,000

B. Interest on 8% convertible loan stock (20X2: 9/12 (100,000) (75,000)

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Rs100,000)

C. Change in fair value of embedded option (2,650) (2,500)

Profit before tax 792,350 747,500

Taxation @ 33% on (A-B) (262,350) (247,500)

Profit after tax 530,000 500,000

Calculation of basic EPS

Number of equity shares outstanding 1,500,000 1,500,000

Earnings Rs 530,000 Rs 500,000

Basic EPS 35 paise 33 paise

Calculation of diluted EPS

Test whether convertibles are dilutive:

The saving in after-tax earnings, resulting from the conversion of Rs 100 nominal of loan stock,
amounts to Rs 100 8% × 67% + Rs 2,650/12,500 = Rs 5.36 + Rs 0.21 = Rs 5.57.

There will then be 135 extra shares in issue.

Therefore, the incremental EPS is 4 paise (ie. Rs 5.57/135). As this incremental EPS is less than
the basic EPS at the continuing level, it will have the effect of reducing the basic EPS of 35 paise.
Hence the convertibles are dilutive.

20X3 20X2

Adjusted earnings Rs Rs

[Link]
Profit for basic EPS 530,000 500,000

Add: Interest and other charges on earnings saved 102,650 77,500

as a result of the conversion (100,000 + 2,650) (75000+ 2500)

Less: Tax relief thereon (33,000) (24,750)

Adjusted earnings for equity 599,650 552,750

Adjusted number of shares

From the conversion terms, it is clear that the maximum number of shares issuable on
conversion of Rs 1,250,000 loan stock after the end of the financial year would be at the rate of
135 shares per Rs 100 nominal (that is, 1,687,500 shares).

20X3 20X2

Number of equity shares for basic EPS 1,500,000 1,500,000

Maximum conversion at date of issue 1,687,500 1,265,625

9/12

Maximum conversion after balance sheet date 1,687,500 –

Adjusted shares 3,187,500 2,765,625

Adjusted earnings for equity Rs 599,650 Rs 552,750

Diluted EPS (approx.) 19 paise 20 paise

Question 33

[Link]
ICAI Illustration

Profit attributable to ordinary equity holders of the parent entity Rs 1,200,000

for year 20X1

Weighted average number of ordinary shares outstanding during 500,000 shares

year 20X1

Average market price of one ordinary share during year 20X1 Rs 20.00

Weighted average number of shares under option during year 100,000 shares
20X1

Exercise price for shares under option during year 20X1 Rs 15.00

Calculate basic and diluted EPS.

(Study material)

Answer

Calculation of earnings per share

Earnings Shares Per share

Profit attributable to ordinary equity holders of

the parent entity for year 20X1
Rs 1,200,000

Weighted average shares outstanding during 500,000

year 20X1

Basic earnings per share Rs 2.40

[Link]
Weighted average number of shares under 100,000
option

Weighted average number of shares that would

have been issued at average market price:
Refer Note (75,000)
(100,000 × Rs 15.00) ÷ Rs 20.00

Diluted earnings per share Rs 1,200,000 525,000 Rs 2.29

Note: Earnings have not increased because the total number of shares has increased only by
the number of shares (25,000) deemed to have been issued for no consideration.

Question 34

ICAI Illustration

Assume the following facts for Company XY:

• Income from continuing operations: INR 30,00,000

• Loss from discontinued operations: (INR 36,00,000)

• Net loss: (INR 6,00,000)

• Weighted average Number of shares outstanding 10,00,000

• Incremental common shares outstanding relating to stock options2,00,000

(a) You are required to calculate the basic and diluted EPS for Company XY from the above
information.

(b) Assume, if in above case, Loss from continued operations is Rs 10,00,000 and income from
discontinued operations is Rs 36,00,000 calculate the diluted EPS.

[Link]
 (Study material)

Answer

(a) Step 1:

Basic EPS = Profit for the year / Weighted average Number of shares outstanding

Basic EPS (Continued Operations) = Profit from continued operations / Weighted average
Number of shares outstanding

= Rs 30,00,000 / 10,00,000 = Rs 3.00

Basic Loss per share (Discontinued operations) = Loss from discontinued operations / Weighted
average Number of shares outstanding

= Rs (36,00,000) / 10,00,000 = (Rs 3.60)

Overall Basic Loss per share = (Rs 6,00,000) / 10,00,000 = Rs (0.60) (i)

Step 2: Calculation of Diluted EPS

Diluted EPS = Profit for the year / Adjusted Weighted average Number of shares outstanding

EPS (Continued Operations) = Profit from continued operations / Adjusted Weighted average
Number of shares outstanding

= Rs 30,00,000 / 12,00,000 = Rs 2.50

Loss per share (Discontinued operations) = Loss from discontinued operations / Adjusted
weighted average number of shares outstanding

= Rs (36,00,000) / 12,00,000 = (Rs 3.00)

Overall Diluted Loss per share = Rs 6,00,000 / 12,00,000 = Rs (0.50) (ii)

[Link]
The income from continuing operations is the control number, there is a dilution in basic EPS
for income from continuing operations (reduction of EPS from Rs 3.00 to Rs 2.50). Therefore,
even though there is an anti-dilution [Loss per share reduced from Rs 0.60 (i) to Rs 0.50 (ii)
above], diluted loss per share of Rs 0.50 is reported.

(b) In case of loss from continuing operations, the potential shares are excluded since including
those shares would result into anti-dilution effect on the control number (loss from continuing
operations). Therefore, the diluted

EPS will be calculated as under:

Diluted EPS = Profit for the year / Adjusted weighted average number of shares outstanding
Overall Profit = Loss from continuing operations + Gain from discontinued operations

= Rs (10,00,000) + Rs 36,00,000

= Rs 26,00,000

Weighted average number of shares outstanding = 10,00,000 Diluted EPS = Rs 2.60

The dilutive effect of the potential common shares on EPS for income from discontinued
operations and net income would not be reported because of the loss from continuing
operations.

Topic 4 : Diluted EPS – Warrants / Options / Contingent Shares

Question 35

ICAI Illustration

[Link]
Ordinary shares outstanding during 20X1 1,000,000 (there were no
options, warrants or
convertible instruments
outstanding during the
period)

An agreement related to a recent business combination provides for the issue of additional
ordinary shares based on the following conditions:

5,000 additional ordinary

shares for each new retail
site opened during 20X1
1,000 additional ordinary
shares for each Rs 1,000 of
consolidated profit in excess
of Rs 2,000,000 for the year
ended 31 December

Retail sites opened during the year: one on 1 May 20X1

one on 1 September 20X1

Consolidated year-to-date profit attributable to ordinary Rs 1,100,000 as of 31 March

equity holders of the parent entity: 20X1

Rs 2,300,000 as of 30 June
20X1

Rs 1,900,000 as of 30
September 20X1 (including a
Rs 450,000 loss from a

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 discontinued operation)

Rs 2,900,000 as of 31
December 20X1

Calculate basic and diluted EPS

(Study material)

Answer

Basic earnings per share

First Second Third quarter Fourth Full year

quarter quarter quarter

Numerator (Rs) 1,100,000 1,200,000 (400,000) 1,000,000 2,900,000

Denominator:

Ordinary shares 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000

outstanding

Retail site – 3,3336 6,6677 10,000 5,0008

contingency

Earnings – – – – –
contingency9

Total shares 1,000,000 1,003,333 1,006,667 1,010,000 1,005,000

Basic earnings per 1.10 1.20 (0.40) 0.99 2.89

share (Rs)

6. 5,000 shares 2/3

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7. 5,000 shares + (5,000 shares 1/3)

8. (5,000 shares 8/12) + (5,000 shares 4/12)

9. The earnings contingency has no effect on basic earnings per share because it is not certain
that the condition is satisfied until the end of the contingency period. The effect is negligible for
the fourth-quarter and full year calculations because it is not certain that the condition is met
until the last day of the period.

Diluted earnings per share

First quarter Second Third quarter Fourth Full year

quarter quarter

Numerator (Rs) 1,100,000 1,200,000 (400,00 0) 1,000,000 2,900,000

Denominator:

Ordinary shares 1,000,00 1,000,00 1,000,0 1,000,000 1,000,00

outstanding 0 0 00 0

Retail site – 5,000 10,000 10,000 10,000

contingency

Earnings –10 300,00011 –12 900,00013 900,000

contingency

Total shares 1,000,000 1,305,000 1,010,0 00 1,910,000 1,910,000

Diluted earnings 1.10 0.92 (0.40)14 0.52 1.52

per share (Rs)

[Link]
10 Company A does not have year-to-date profit exceeding Rs 2,000,000 at 31 March 20X1. The
Standard does not permit projecting future earnings levels and including the related contingent
shares.

11. [(Rs 2,300,000 – Rs 2,000,000) ÷ 1,000] 1,000 shares = 300,000 shares.

12. Year-to-date profit is less than Rs 2,000,000.

13. [(Rs 2,900,000 – Rs 2,000,000) ÷ 1,000] 1,000 shares = 900,000 shares.

14. Because the loss during the third quarter is attributable to a loss from a discontinued
operation, the anti dilution rules do not apply. The control number (ie profit or loss from,
continuing operations attributable to the equity holders of the parent entity) is positive.
Accordingly, the effect of potential ordinary shares is included in the calculation of diluted
earnings per share.

[Link]
 Chapter 8 Unit-3

Ind AS 108: “Operating segments”

Topic 1 : Segment Identification & Aggregation Criteria

Question 1

T Ltd is engaged in transport sector, running a fleet of buses at different routes.

T Ltd has identified 3 operating segments:

- Segment 1: Local Route

- Segment 2: Inter-city Route

- Segment 3: Contract Hiring

The characteristics of each segment are as under:

Segment 1: The local transport authority awards the contract to ply the buses at different
routes for passengers. These contracts are awarded following a competitive tender process;
the ticket price paid by passengers are controlled by the local transport authority. T Ltd
would charge the local transport authority on a per kilo meter basis.

Segment 2: T Ltd operates buses from one city to another, prices are set by T Ltd on the basis
of services provided (Deluxe, Luxury or Superior).

Segment 3: T Ltd also leases buses to schools under a long-term arrangement.

While Segment 1 has been showing significant decline in profitability, Segment 2 is

performing well in respect of higher revenues and improved margins. The management of the

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company is not sure why is the segment information relevant for users when they should
only be concerned about the returns from overall business. They would like to aggregate the
Segment 1 and Segment 2 for reporting under ‘Operating Segment’

Required:

Whether it is appropriate to aggregate Segments 1 and 2 with reference to Ind AS 108

‘Operating Segments’? and Discuss, in the above context, whether disclosure of segment
information is relevant to an investor’s appraisal of financial statements?

(MTP March ’21)

Answer 1

Ind AS 108 ‘Operating Segments’ requires operating segments to be aggregated to present a

reportable segment if the segments have similar economic characteristics, and the segments
are similar in each of the following aggregation criteria:

(a) The nature of the products and services

(b) The nature of the production process

(c) The type or class of customer for their products and services

(d) The methods used to distribute their products or provide their services

(e) If applicable, the nature of the regulatory environment

While the products and services are similar, the customers for those products and services are
different.

In Segment 1, the decision to award the contract is in the hands of the local authority, which
also sets prices and pays for the services. The company is not exposed to passenger revenue
risk, since a contract is awarded by competitive tender.

[Link]
On the other hand, in the inter-city segment, the customer determines whether a bus route is
economically viable by choosing whether or not to buy tickets. T Ltd sets the ticket prices but
will be affected by customer behavior or feedback. T Ltd is exposed to passenger revenue-risk,
as it sets prices which customers may or may not choose to pay.

Operating Segment provides information that makes the financial statements more useful to
investors. In making the investment decisions, investors and creditors consider the returns they
are likely to make on their investment. This requires assessment of the amount, timing and
uncertainty of the future cash flows of T Ltd as well as of management's stewardship of T Ltd’s
resources. How management derives profit is therefore relevant information to an investor.

Inappropriately aggregating segments reduces the usefulness of segment disclosures to

investors. Ind AS 108 requires information to be disclosed that is not readily available
elsewhere in the financial statements, therefore it provides additional information which aids
an investor's understanding of how the business operates and is managed.

In T Ltd.’s case, if the segments are aggregated, then the increased profits in segment 2 will
hide the decreased profits in segment 1. However, the fact that profits have sharply declined in
segment 1 would be of interest to investors as it may suggest that future cash flows from this
segment are at risk.

Question 2

ICAI Illustration

X Ltd. is engaged in the manufacture and sale of two distinct type of products A & B. X Ltd.
supplies the product in the domestic market in India as well as in Singapore. There are two
regional managers responsible for manufacturing activities of product A & B worldwide and
also two other managers responsible for different geographical areas. For internal reporting
purposes, X Ltd. provides information product-wise and as per the geographical location of

[Link]
the company. The CODM regularly reviews the operating results of both sets of components.
How should X Ltd. identify its operating segments?

(Study material)

Answer

In this situation, both the geographical sales areas and product areas may meet the criteria for
operating segment. However, in such situation, it is more difficult to determine clearly which
set of components should be identified as the entity’s operating segments. In such situation the
entity should determine which set of components constitutes the operating segments by
reference to the core principle. The core principle is that the entity should disclose information
to enable users of its financial statements to evaluate the nature and financial effects of the
business activities in which it engages and the economic environments in which it operates. The
entity should also assess whether the identified operating segments could realistically
represent the level at which the CODM is assessing performance and allocating resources.
Therefore, X Ltd. should consider all the above factors and apply judgement to determine which
component should be disclosed as operating segment.

Question 3

ICAI Illustration

CODM of XY Ltd. receives and reviews multiple sets of information when assessing the
businesses’ overall performance to take a decision on resources allocation. It receives the
information as under:

- Level 1 Report: Summary report for all 4 regions

- Level 2 Report: Summary report for 20 Sub-regions within those regions

- Level 3 Report: Detailed report for 50 Branches within the sub-regions

[Link]
What factors and level should be considered for determining an operating segment?

(Study material)

Answer

We need to consider multiple factors (including but not limited to below):

- The process that CODM may use to assess the performance (Key Financial Matrix, KPIs, Ratio
etc.);

- Identify the segment managers and their responsibility areas;

- The process of budgeting for resource allocations.

Question 4

ICAI Illustration

X Ltd. is engaged in the manufacture and sale of two distinct type of products A & B. X Ltd.
supplies the product in the domestic market in India as well as in Singapore. There are two
regional managers responsible for manufacturing activities of product A & B worldwide and
also two other managers responsible for different geographical areas. For internal reporting
purposes, X Ltd. provides information product-wise and as per the geographical location of
the company. The CODM regularly reviews the operating results of both sets of components.
How should X Ltd. identify its operating segments?

(Study material)

Answer

In this situation, both the geographical sales areas and product areas may meet the criteria for
operating segment. However, in such situation, it is more difficult to determine clearly which

[Link]
set of components should be identified as the entity’s operating segments. In such situation the
entity should determine which set of components constitutes the operating segments by
reference to the core principle. The core principle is that the entity should disclose information
to enable users of its financial statements to evaluate the nature and financial effects of the
business activities in which it engages and the economic environments in which it operates. The
entity should also assess whether the identified operating segments could realistically
represent the level at which the CODM is assessing performance and allocating resources.
Therefore, X Ltd. should consider all the above factors and apply judgement to determine which
component should be disclosed as operating segment.

Question 5

ICAI Illustration

CODM of XY Ltd. receives and reviews multiple sets of information when assessing the
businesses’ overall performance to take a decision on resources allocation. It receives the
information as under:

- Level 1 Report: Summary report for all 4 regions

- Level 2 Report: Summary report for 20 Sub-regions within those regions

- Level 3 Report: Detailed report for 50 Branches within the sub-regions

What factors and level should be considered for determining an operating segment?

(Study material)

Answer

We need to consider multiple factors (including but not limited to below):

[Link]
- The process that CODM may use to assess the performance (Key Financial Matrix, KPIs, Ratio
etc.);

- Identify the segment managers and their responsibility areas;

- The process of budgeting for resource allocations.

Question 6

ICAI Illustration

XY Ltd. has operations in France, Italy, Germany, UK and India. It wishes to apply aggregation
criteria on geographical basis. How will the aggregation criteria apply for reporting segments
in the given scenario?

(Study material)

Answer

XY Ltd. needs to assess and prove that each country possesses the same economic
characteristics. Factors including exchange control regulations, currency risks and economic
conditions are required to be considered. Considering above factors, it may be possible to
aggregate the results of France, Italy and Germany (falling within EU region) and results of UK
and India may be separately reported (no aggregation is permitted).

Question 7

ICAI Illustration

[Link]
X Ltd. is engaged in the business of manufacturing and selling papers. Varieties of paper like
adhesive paper, anti-rust paper, antique paper, art paper etc., are manufactured and sold by
X Ltd. Should X Ltd. classify these papers into different segments?

(Study material)

Answer

Two or more operating segments may be aggregated into a single operating segment if the
segments have similar economic characteristics, and the segments are similar with respect to
various factors like nature of the product and production process, type of customers, method of
distribution and regulatory requirement. In case of X Ltd., so far as varieties of paper
concerned, if all factors such as nature of the product and production process, type of
customers, method of distribution and regulatory requirement are common, there is no need
to create different segments for each type of paper.

Topic 2 : Quantitative Threshold for Reportable Segments

Question 8

Heavy Goods Ltd. has 6 operating segments namely L-Q (below). The total revenues (internal
and external), profits or losses and assets are set out below: (In Rs.)

Segment Inter Segment External Profit / loss Total assets

Sales
Sales

L 4,200 12,300 3,000 37,500

M 3,500 7,750 1,500 23,250

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 N 1,000 3,500 (1,500) 15,750

0 0 5,250 (750) 10,500

P 500 5,500 900 10,500

Q 1,200 1,050 600 5,250

10,400 35,350 3,750 1,02,750

Heavy Goods Ltd. needs to determine how many reportable segments it has. You are
required to advice Heavy Goods Ltd. as per the criteria defined in Ind AS 108

( PYP,Jan’21)

Answer 8

As per paragraph 13 of Ind AS 108, an entity shall report separately information about an
operating segment that meets any of the following quantitative thresholds:

(a) Its reported revenue, including both sales to external customers and intersegment sales or
transfers, is 10 per cent or more of the combined revenue, internal and external, of all
operating segments.

Combined total sales of all the segment = Rs. 10,400 + Rs. 35,350 = Rs. 45,750. 10% thresholds =
45,750 10% = 4,575.

(b) The absolute amount of its reported profit or loss is 10 per cent or more of the greater, in
absolute amount, of

(i) the combined reported profit of all operating segments that did not report a loss and

(ii) the combined reported loss of all operating segments that reported a loss.

[Link]
In the given situation, combined reported profit = Rs. 6,000 and combined reported loss (Rs.
2,250). Hence, for 10% thresholds Rs. 6,000 will be considered. 10% thresholds = Rs. 6,000 x
10% = Rs. 600

(c) Its assets are 10 per cent or more of the combined assets of all operating segments.
Combined total assets of all the segment = Rs. 1,02,750

10% thresholds = Rs. 1,02,750 10% = 10,275

Accordingly, quantitative thresholds are calculated below:

Segments L M N O P Q Reportable
segments

% segment sales 36.66% 24.59% 9.84% 1 1.48% 13.11% 4.92% L,M,O,P

to total sales

% segment 50% 25% 25% 12.5% 15% 10% L,M,N,O,P

profit to total ,Q
profits

% segment 36.50% 22.63% 15.33 % 10.22 % 10.22% 5.11% L,M,N,O,P

assets to total
assets

Segments L, M, O and P clearly satisfy the revenue and assets tests and they are separate
reportable segments.

Segments N does not satisfy the revenue test, but it does satisfy the asset test and it is a
reportable segment.

Segment Q does not satisfy the revenue or the assets test but is does satisfy the profits test.
Therefore, Segment Q is also a reportable segment.

[Link]
Hence, all segments i.e.; L, M, N, O, P and Q are reportable segments.

Question 9

XYZ Ltd. has eight segments namely A, B, C, D, E, F, G and H. The information regarding
respective segments for the year ended 31st March, 20X1 is as follows:

Segments A B C D E F G H

External sales 0 255 15 10 15 50 25 35

Inter-segment sales 100 60 30 5 - - - -

Total 100 315 45 15 15 50 25 35

Segment result Profit/(Loss) 5 (90) 15 (5) 8 (5) 5 7

Segment assets 15 47 5 11 3 5 5 9

Identify which of the above segments out of A to H would be considered as reportable

segments of XYZ Ltd. for the year ending 31st March, 20X1?

(MTP April ’23, RTP May’22)

Answer 9

An entity has eight segments and the relevant information is as follows:

Criteria 1: Segment revenue is 10% or more of total external + intersegment sales

Segments A B C D E F G H Total

Total sales 100 315 45 15 15 50 25 35 600

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% to total sales 16.7 52.5 7.5 2.5 2.5 8.3 4.2 5.8

Reportabe A B - - - - - -
segments

Criteria 2: 10% or more of segment result

Consider segment profit and loss separately in absolute terms

Segments A B C D E F G H Total

Profit 5 - 15 - 8 - 5 7 40

Segments loss - 90 - 5 - 5 - - 100

Since segment loss is greater, we select 100 as evaluating the segment percentage

Segments A B C D E F G H Total

% to segment 5 90 15 5 8 5 5 7
loss

Reportable - B C - - - - -
segments

Criteria 3: 10% or more of segment assets

Segments A B C D E F G H Total

Assets 15 47 5 11 3 5 5 9 100

% 15 47 5 11 3 5 5 9 100

Reportable A B - D - - - -

[Link]
 segments

Based on the above 3 criteria, the Reportable Segments are A, B, C & D However, 75% test for
external sales should also be checked.

Reportable Segments A B C D TOTAL

External sales 0 255 15 10 280

Total entity’s sales (external) 405

% of reportable segments external sales to entity’s 69.14

sales %

Required percentage 75%

Hence, in the above scenario, additional operating segments need to be identified as reportable
segments, till the 75% test is satisfied, even if those segments do not satisfy the quantitative
threshold limits.

Question 10

John Limited has identified four segments for which revenue data is given as per below:

External Sale (Rs.) Internal Sale (Rs.) Total (Rs.)

Segment A 4,00,000 Nil 4,00,000

Segment B 80,000 Nil 80,000

Segment C 90,000 20,000 1,10,000

Segment D 70,000 6,20,000 6,90,000

[Link]
 Total sales 6,40,000 6,40,000 12,80,000

The following additional information is available with respect to John Limited:

Segment C is a high growing business and management expects that this segment to make a
significant contribution to external revenue in coming years. Discuss, which of the segments
would be reportable under the threshold criteria identified in Ind AS 108 and why?

(PYP Nov’20)

Answer 10

Threshold amount of 10% of total revenue is Rs. 1,28,000 (Rs. 12,80,000 10%).

Segment A exceeds the quantitative threshold (Rs. 4,00,000 > Rs. 1,28,000) and hence is a
reportable segment.

Segment D exceeds the quantitative threshold (Rs. 6,90,000 > Rs. 1,28,000) and hence is a
reportable segment.

Segment B & C do not meet the quantitative threshold amount and may not be classified as
reportable segment.

However, the total external revenue generated by these two segments A & D represent only
73.44% (Rs. 4,70,000 / 6,40,000 100) of the entity’s total external revenue. If the total
external revenue reported by operating segments constitutes less than 75% of the entity’s total
external revenue, additional operating segments should be identified as reportable segments
until at least 75% of the revenue is included in reportable segments.

In case of John Limited, it is given that Segment C is a high growing business and management
expects this segment to make a significant contribution to external revenue in coming years. In
accordance with the requirement of Ind AS 108, John Limited may designate segment C as a

[Link]
reportable segment, making the total external revenue attributable to reportable segments be
87.5% (Rs. 5,60,000/ 6,40,000 100) of total entity’s external revenue.

In this situation, Segments A, C and D will be reportable segments and Segment B will be shown
as other segment.

Alternatively, Segment B may be considered as a reportable segment instead of Segment C,

based on the choice of John Ltd. ‘s management, if it meets the definition of operating
segment.

If Segment B is considered as reportable segment, external revenue reported will be Rs.

4,00,000 + Rs. 80,000 + Rs. 70,000 = Rs. 5,50,000

% of Total External Revenue = Rs. 5,50,000 / Rs. 6,40,000 = 85.94%

Segments A, B and D will be reportable segments and Segment C will be shown as other
segment.

Question 11

Pharmaceuticals Limited has 5 operating segments namely K, L, M, N and O. The profit/ loss
of respective segments for the year ended 31st March, 2022 are as follows:

Segment Profit / (Loss) (Rs in crore)

K 1,560

L 3,000

M (4,600)

N (9,000)

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 O 12,000

Total 2,960

Based on the quantitative thresholds, you are required to determine that which of the above
segments would be considered as reportable segments for the year ending 31st March, 2022.

(PYP Nov 22)

Answer 11

With regard to quantitative thresholds to determine reportable segment relevant in context of

instant case, paragraph 13(b) of Ind AS 108 ‘Operating Segments’ may be noted which provides
as follows:

“The absolute amount of its reported profit or loss is 10 per cent or more of the greater, in
absolute amount, of (i) the combined reported profit of all operating segments that did not
report a loss and (ii) the combined reported loss of all operating segments that reported a loss.”

In compliance with Ind AS 108, the segment profit/loss of respective segment will be compared
with the greater of the following:

(i) All segments in profit, i.e., K, L and O – Total profit Rs 16,560 crores.

(ii) All segments in loss, i.e., M and N – Total loss Rs 13,600 crores. Greater of the above – Rs
16,560 crores.

Based on the above, reportable segments will be determined as follows :

Segment Profit/(Loss ) (Rs in % age of Rs 16,560 Reportable segment

crore) crore*

K 1,560 9.42% No

[Link]
 L 3,000 18.12% Yes

M (4,600) 27.78% Yes

N (9,000) 54.35% Yes

O 12,000 72.46% Yes

Total 2,960

Hence, L, M, N, O are reportable segments.

Question 12

X Ltd. has identified 4 operating segments for which revenue data is given below:

External Revenue (Rs) Internal Revenue (Rs) Total (Rs)

Segment A 30,00,000 Nil 30,00,000

Segment B 6,50,000 Nil 6,50,000

Segment C 8,50,000 1,00,000 9,50,000

Segment D 5,00,000 49,00,000 54,00,000

Total Revenue 50,00,000 50,00,000 1,00,00,000

Additional information:

Segment C is a new business unit and management expect this segment to make a significant
contribution to external revenue in coming years.

Which of the segments would be reportable under the criteria identified in Ind AS 108?

[Link]
 (Study material)

Answer 12

Threshold amount is Rs 10,00,000 (Rs 1,00,00,000 10%).

Segment A exceeds the quantitative threshold (Rs 30,00,000 > Rs 10,00,000) and hence
reportable segment.

Segment D exceeds the quantitative threshold (Rs 54,00,000 > Rs 10,00,000) and hence
reportable segment.

Segment B & C do not meet the quantitative threshold amount and may not be classified as
reportable segment.

However, the total external revenue generated by these two segments A & D represent only
70% [(Rs 35,00,000 / 50,00,000) 100+ of the entity’s total external revenue. If the total
external revenue reported by operating segments constitutes less than 75% of the entity total
external revenue, additional operating segments should be identified as reportable segments
until at least 75% of the revenue is included in reportable segments.

In case of X Ltd., it is given that Segment C is a new business unit and management expect this
segment to make a significant contribution to external revenue in coming years. In accordance
with the requirement of Ind AS 108, X Ltd. designates this start up segment C as a reportable
segment, making the total external revenue attributable to reportable segments 87% [(Rs
43,50,000/ 50,00,000) 100] of total entity revenues. In this situation, Segments A, C and D
will be reportable segments and Segment B will be shown as other segment.

Alternatively, segment B can be considered as a reportable segment as well as it meets the

definition of operating segment. If Segment B is considered as reportable segment:

External revenue reported: Rs 30,00,000 + Rs 6,50,000 + Rs 5,00,000 = Rs 41,50,000 % of Total

External Revenue = Rs 41,50,000 / Rs 50,00,000 = 83%

[Link]
Accordingly, Segments A, B and D will be reportable segments and Segment C will be shown as
other segment.

Question 13

ABC Limited has 5 operating segments namely A, B, C, D and E. The profit/ loss of respective
segments for the year ended March 31, 20X1 are as follows:

Segment Profit/(Loss) (Rs in crore)

A 780

B 1,500

C (2,300)

D (4,500)

E 6,000

Total 1,480

Based on the quantitative thresholds, which of the above segments A to E would be

considered as reportable segments for the year ending March 31, 20X1?

(Practice Question)

Answer 13

With regard to quantitative thresholds to determine reportable segment relevant in context of

instant case, paragraph 13(b) of Ind AS 108 may be noted which provides as follows:

[Link]
“The absolute amount of its reported profit or loss is 10 per cent or more of the greater, in
absolute amount, of (i) the combined reported profit of all operating segments that did not
report a loss and (ii) the combined reported loss of all operating segments that reported a loss.”
In compliance with Ind AS 108, the segment profit/loss of respective segment will be compared
with the greater of the following:

(i) All segments in profit, i.e., A, B and E – Total profit Rs 8,280 crores.

(ii) All segments in loss, i.e., C and D – Total loss Rs 6,800 crores. Greater of the above – Rs
8,280 crores. Based on the above, reportable segments will be determined as follows:

Segment Profit/(Loss) (Rs in As absolute % of Rs Reportable segment

crore) 8,280 crore

A 780 9% No

B 1,500 18% Yes

C (2,300) 28% Yes

D (4,500) 54% Yes

E 6,000 72% Yes

Total 1,480

Hence B, C, D, E are reportable segments.

Question 14

ICAI Illustration

X Ltd. has identified the following business components

[Link]
 Segment Revenue (Rs) Profit (Rs) Assets (Rs)

External Internal

Pharma 97,00,000 Nil 20,00,000 55,00,000

FMCG Nil 4,00,000 2,50,000 25,00,000

Ayurveda 3,00,000 Nil 2,00,000 4,00,000

Others 8,00,000 41,00,000 5,50,000 6,00,000

Total for the 1,08,00,000 45,00,00 0 30,00,000 90,00,000

entity

Which of the segments would be reportable as per the criteria prescribed in Ind AS108?

(Study material)

Answer

Quantitative thresholds are calculated below:

Segments Pharma FMCG Ayurveda Others

% segment sales to 63.40 2.61 1.96 32.0 3

total sales

% segment profit to 66.67 8.33 6.67 18.3 3

total profits

% segment assets to 61.11 27.78 4.44 6.67

total assets

[Link]
Segment Pharma would separately reportable since they meet all three size criteria, though any
one criteria is required. FMCG segment does not satisfy the revenue and profit test but does
satisfy the asset test. So it would be separately reportable. Ayurveda segment does not meet
any threshold. It may not be classified as reportable segment.

An entity may combine information about operating segments that do not meet the
quantitative thresholds with information about other operating segments that do not meet the
quantitative thresholds to produce a reportable segment only if the operating segments have
similar economic characteristics and share a majority of the aggregation criteria.

If the total external revenue reported by operating segments constitutes less than 75% of the
entity’s revenue, additional operating segments should be identified as reportable segments
(even if they do not meet the criteria) until at least 75% of the entity’s revenue is included in
reportable segments.

Note

• External revenue of reportable segments must be ≥ 75% of total external revenue of the
entity.

• Operating segments that do not meet any of the quantitative thresholds may be considered
reportable, and separately disclosed, if information about the segment is useful to users.

Question 15

ICAI Illustration

An entity has branches in different parts of the country – catering to different customers and
selling local made products (a product of one region is not sold in any other region). No
region or product contributes more than 5% to total revenue of the entity. Discuss how many
segments are reportable?

[Link]
 (Study material)

Answer

Under the quantitative threshold, external revenue of reportable segments must be ≥ 75% of
total external revenue of the entity. Considering above case, minimum 15 operating segments
need to be reportable (75% [threshold] / 5% {revenue}).

Topic 3 : Disclosure of Segment Information

Question 16

A Limited operates in coating industry. Its business segments comprise Coating (consisting of
decorative, automotive, industrial paints and related activities) and Others (consisting of
chemicals, polymers and related activities).

Certain information for financial year 2022-2023 is given below:

All amounts in Rs lakhs

Segments External GST Other Result Assets Liabilities

revenue operating
(including GST) income

Coating 1,20,000 3,000 24,000 6,000 30,000 18,000

Others 42,000 1,800 9,000 2,400 18,000 6,000

Information:

i) Unallocated income net of expenses is Rs 18,00,00,000

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ii) Interest and bank charges is Rs 12,00,00,000

iii) Income tax expenses is Rs 12,00,00,000 (current tax Rs 11,70,00,000 and deferred tax Rs
30,00,000)

iv) Unallocated Investments are Rs 60,00,00,000 and other assets are Rs 60,00,00,000.

v) Unallocated liabilities, Reserve & Surplus and Share Capital are Rs 1,20,00,00,000, Rs
1,80,00,00,000 & Rs 60,00,00,000 respectively.

vi) Depreciation amounts for coating & others are Rs 6,00,00,000 and Rs 1,80,00,000
respectively.

vii) Capital expenditure for coating and others are Rs 30,00,00,000 and Rs 12,00,00,000
respectively. viii. Revenue from outside India is Rs 3,72,00,00,000 and segment asset outside
India Rs 60,00,00,000.

Based on the above information, how A Limited would disclose information about reportable
segment, revenue, profit or loss, assets and liabilities for financial year 2022-2023. Ignore
corresponding figures for the previous year.

Give figures in Rs lakhs.

(PYP May ‘23)

Answer 16

Segment information

Information about operating segment

(1) the company’s operating segments comprise:

Coatings: consisting of decorative, automotive, industrial paints and related activities.

Others: consisting of chemicals, polymers and related activities.

[Link]
(2) Segment revenues, results and other information:

(Rs
inlakhs)

Revenue Coating Others Total

1. External revenue (gross) 1,20,000 42,000 1,62,000

GST (3,000) (1,800) (4,800)

Total revenue (net) 1,17,000 40,200 1,57,200

Other operating income 24,000 9,000 33,000

Total Revenue 1,41,000 49,200 1,90,200

2. Results Segment results 6,000 2,400 8,400

Unallocated income (net of unallocated 1,800

expenses)

Profit from operation before interest, 10,200

taxation and exceptional items

Interest and bank charges (1,200)

Profit before exceptional items 9,000

Exceptional items Nil

Profit before taxation 9,000

Income taxes (1,170)

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 Current taxes

Deferred taxes (30)

Profit after taxation 7,800

3. Other information

(a) Assets 30,000 18,000 48,000

Segment assets

Investments 6,000

Unallocated assets 6,000

Total assets 60,000

(b) Liabilities and Shareholder’s funds 18,000 6,000 24,000

Segment liabilities

Unallocated liabilitie 12,000

Share capital 6,000

Reserves and surplus 18,000

Total liabilities and shareholder’s funds 60,000

(c) Others (3,000) (1,200) (4,200)

Capital expenditure

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 Depreciation (600) (180) (780)

Geographical Information India Outside Total

India

Revenue 1,53,000 37,200 1,90,200

Segment assets 54,000 6,000 60,000

Capital expenditure 4,200 4,200

Notes:

(i) The operating segments have been identified in line with Ind AS 108, taking into account the
nature of products, organisation structure, economic environment

and internal reporting system.

(ii) Segment revenue, results, assets and liabilities include the respective amounts identifiable
to each of the segments. Unallocable assets include unallocable noncurrent assets and other
current assets. Unallocable liabilities include unallocable current liabilities and net deferred tax
liability.

Question 17

Seeds Ltd. is operating in oil industry. Its business segments comprise crushing and refining.
Certain information for financial year 2017-18 is given below:

(Rs. in lakh)

Segments External Sale Tax Other Result Assets Liabilities

Operating

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 Income

Crushing 1,00,000 2,500 20,000 5,000 25,000 15,000

Refining 35,000 1,500 7,500 2,000 15,000 5,000

Additional Information: (Rs. in lakh)

− Unallocated revenue net of expenses is Rs. 1,500.

− Interest and bank charges is Rs. 1,000

− Income-tax expense is Rs. 1,000 (current tax Rs. 975 and deferred tax Rs. 25)

− Investments Rs. 5,000 and unallocated assets Rs. 5,000

− Unallocated liabilities, Reserves & Surplus and Share capital are Rs. 10,000;

Rs. 15,000 and Rs. 5,000 respectively.

− Depreciation amounts for crushing and refining are Rs. 500 and Rs. 150 respectively.

− Capital expenditure for crushing and refining are Rs. 2,500 and Rs. 1,000 respectively.

− Revenue from outside India is Rs. 15,000 and segment assets outside India Rs. 5,000.

Based on the above information, how Seeds Ltd. would disclose information about reportable
segment revenue, profit or loss, assets and liabilities for financial year 2017-18?

(PYP May’18)

Answer 17

Segment revenues, results and other information (Rs. in lakh)

Revenue Crushing Refining Total

[Link]
1. External sales (gross) 1,00,000 35,000 1,35,000

Tax (2,500) (1,500) (4,000)

External sales (net) 97,500 33,500 1,31,000

Other operating income 20,000 7,500 27,500

Total Revenue 1,17,500 41,000 1,58,500

2. Results

Segment results 5,000 2,000 7,000

Unallocated income (net of unallocated 1,500

expenses)

Profit from operation before interest, 8,500

taxation and exceptional items

Interest and bank charges (1,000)

Profit before exceptional items 7,500

Exceptional items Nil

Profit before taxation 7,500

Less: Income Taxes

Current taxes (975)

Deferred taxes (25)

Profit after taxation 6,500

[Link]
3. Other Information

(a) Assets

Segment Assets 25,000 15,000 40,000

Investments 5,000

Unallocated assets 5,000

Total Assets 50,000

(b) Liabilities/Shareholder’s funds

Segment liabilities 15,000 5,000 20,000

Unallocated liabilities 10,000

Share capital 5,000

Reserves and surplus 15,000

Total liabilities / shareholder’s funds 50,000

(c) Others

Capital Expenditure 2,500 1,000 3,500

Depreciation 500 150 650

Geographical Information

(Rs. in lakh)

India Outside India Total

[Link]
Revenue 1,43,500 15,000 1,58,500

Segment assets 35,000 5,000 40,000

Capital expenditure 3,500 - 3,500

Note: Segment revenue, results, assets and liabilities include the respective amounts
identifiable to each of the segments.

Question 18

Ltd. is operating in coating industry. Its business segments comprise Coating and Others
(consisting of chemicals, polymers and related activities). Certain information for financial
year 20X1-20X2 is given below:

Segments External GST Other Result Asset Liabilities

Revenue operating
(including income
GST)

Coating 2,00,000 5,000 40,000 10,000 50,000 30,000

Others 70,000 3,000 15,000 4,000 30,000 10,000

Additional information:

1. Unallocated income net of expenses is Rs 30,00,00,000

2. Interest and bank charges is Rs 20,00,00,000

3. Income tax expenses is Rs 20,00,00,000 (current tax Rs 19,50,00,000 and deferred tax Rs
50,00,000)

[Link]
4. Unallocated Investments are Rs 1,00,00,00,000 and other assets are Rs 1,00,00,00,000.

5. Unallocated liabilities, Reserves & surplus and share capital are Rs 2,00,00,00,000,

Rs 3,00,00,00,000 & Rs 1,00,00,00,000 respectively.

6. Depreciation amounts for coating & others are Rs 10,00,00,000 and Rs 3,00,00,000
respectively.

7. Capital expenditure for coating and others are Rs 50,00,00,000 and Rs 20,00,00,000
respectively.

8. Revenue from outside India is Rs 6,20,00,00,000 and segment asset outside India Rs
1,00,00,00,000.

Based on the above information, how X Ltd. would disclose information about reportable
segment revenue, profit or loss, assets and liabilities for financial year 20X1-20X2?

(Study material)

Answer 18

Segment information

(A) Information about operating segment

(1) the company’s operating segments comprise:

Coatings: consisting of decorative, automotive, industrial paints and related activities.

Others: consisting of chemicals, polymers and related activities.

(2) Segment revenues, results and other information.

(Rs in Lakhs)

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 Revenue Coating Others Total

1 External Revenue (gross) 2,00,000 70,000 2,70,000

GST (5,000) (3,000) (8,000)

Total Revenue (net) 1,95,000 67,000 2,62,000

Other Operating Income 40,000 15,000 55,000

Total Revenue 2,35,000 82,000 3,17,000

2 Results

Segment results 10,000 4,000 14,000

Unallocated income (net of unallocated 3,000

expenses)

Profit from operation before interest, 17,000

taxation and exceptional items

Interest and bank charges (2,000)

Profit before exceptional items 15,000

Exceptional items Nil

Profit before taxation 15,000

Income Taxes

-Current taxes (1,950)

-Deferred taxes (50)

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 Profit after taxation 13,000

3 Other Information

(a) Assets

Segment Assets 50,000 30,000 80,000

Investments 10,000

Unallocated assets 10,000

Total Assets 1,00,000

(b) Liabilities/Shareholder’s funds

Segment liabilities 30,000 10,000 40,000

Unallocated liabilities 20,000

Share capital 10,000

Reserves and surplus 30,000

Total liabilities/shareholder’s funds 1,00,000

(c) Others

Capital Expenditure (5,000) (2,000) (7,000)

Depreciation (1,000) (300) (1,300)

Geographical Information (Rs in lakhs)

India (Rs) Outside Total (Rs)

India (Rs)

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 Revenue 2,55,000 62,000 3,17,000

Segment assets 90,000 10,000 1,00,000

Capital expenditure 7,000 - 7,000

Notes:

(i) The operating segments have been identified in line with the Ind AS 108, taking into account
the nature of product, organisation structure, economic environment and internal reporting
system.

(ii) Segment revenue, results, assets and liabilities include the respective amounts identifiable
to each of the segments. Unallocable assets include unallocable fixed assets and other current
assets. Unallocable liabilities include unallocable current liabilities and net deferred tax liability.

(iii) Corresponding figures for previous year have not been provided. However, in practical
scenario the corresponding figures would need to be given.

Topic 4 : Reconciliation of Segment Results with Financial Statements

Question 19

An entity uses the weighted average cost formula to assign costs to inventories and cost of
goods sold for financial reporting purposes, but the reports provided to the chief operating
decision maker use the First-In, First-Out (FIFO) method for evaluating the performance of
segment operations. Which cost formula should be used for Ind AS 108 disclosure purposes?

(RTP May ’19)

[Link]
Answer 19

The entity should use First-In, First-Out (FIFO) method for its Ind AS 108 disclosures, even
though it uses the weighted average cost formula for measuring inventories for inclusion in its
financial statements. Where chief operating decision maker uses only one measure of segment
asset, same measure should be used to report segment information. Accordingly, in the given
case, the method used in preparing the financial information for the chief operating decision
maker should be used for reporting under Ind AS 108.

However, reconciliation between the segment results and results as per financial statements
needs to be given by the entity in its segment report

Question 20

ICAI Illustration

GH Ltd. has four distinct operating segments. The management of GH is concerned as it is

unsure on how common costs be reasonably allocated to different operating segments. They
intend to allocate management charges, interest costs of internal funding, cost of
management of properties and pension costs. Whether such costs need to conform to the
accounting policies as used to prepare the financial statements?

(Study material)

Answer

Ind AS 108 does not prescribe any specific basis but suggests that a reasonable basis to be used
in allocation of common costs. Here, it may not be reasonable to allocate management charges
to most profitable segment. However, it may be reasonable to charge interest costs of internal
funding on the basis of actual usage over time, even if majority of funds are used for running a
loss-making segment.

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A reasonable manner of allocation of above costs could be:

Management Charges: These may be allocated based on Net Assets invested or Revenue
earned by the segments. It needs to be understood if there is an operating segment which is yet
to earn revenue, it would fail to have any costs being allocated. Interest costs: As mentioned
above, these may be allocated on the basis of actual usage and time.

Cost of management of properties: Based on value of property used at each segment.

Pension costs: Based on salary expenses of each segment.

Topic 5 : Classification of Transactions: Operating, Investing, Financing

Question 21

From the following transactions taken from a parent company having multiple businesses and
multiple segments, identify which transactions will be classified as Operating, Investing and
Financing:

Sr. No. Nature of transaction

1 Issued preference shares

2 Purchased the shares of 100% subsidiary company

3 Dividend received from shares of subsidiaries

4 Dividend received from other companies

5 Bonus shares issued

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 6 Purchased license for manufacturing of special drugs

7 Royalty received from the goods patented by the company

8 Rent received from the let-out building (letting out is not main business)

9 Interest received from loans and advances given

10 Dividend paid

11 Interest paid on security deposits

12 Purchased goodwill

13 Acquired the assets of a company by issue of equity shares (not parting any cash)

14 Interim dividends paid

15 Dissolved the 100% subsidiary and received the amount in final settlement

(MTP Oct ‘23)

Answer 21

[Link] Nature of transaction Operating/Investing/

Financing/Not to be
considered

1 Issued preference shares Financing

2 Purchased the shares of 100% subsidiary company Investing

3 Dividend received from shares of subsidiaries Investing

4 Dividend received from other companies Investing

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 5 Bonus shares issued No cash flow

6 Purchased license for manufacturing of special drugs Investing

7 Royalty received from the goods patented by the Operating

company

8 Rent received from the let-out building (letting out is Investing

not main business)

9 Interest received from loans and advances given Investing

10 Dividend paid Financing

11 Interest paid on security deposits Financing

12 Purchased goodwill Investing

13 Acquired the assets of a company by issue of equity Not to be considered

shares (not parting any cash)

14 Interim dividends paid Financing

15 Dissolved the 100% subsidiary and received the Investing

amount in final settlement

Topic 6 : Presentation of Notes to Accounts (Investments)

Question 22

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A Ltd. is a cash rich company. It has its business running across the country which as per AS 17
constitutes geographical segments. The company has also got substantial investments. The
company has provided its segmental report for its primary segment and secondary
geographical segments and the extract of its Note on Investment from its draft financial
statements for the year ending 31st March 2018:

Primary segment report

Segment 1 Segment 2 Segment 3 Total

Segment Revenue 2,655 2,121 1,264 6,040

Segment Results 504 1,111 114 1,729

Unallocable Costs

Interest Income 403

Finance Costs (120)

Others (50)

Net Profit Before Tax 1,962

Segmental report for its secondary geographical segments All figures are Rs. in crores

Geography Segment Assets Segment Revenue

Delhi 1,962 2522

Mumbai 1,691 1241

Chennai 2,030 1255

Others (refer Additional information 1) 1,082 1022

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Total 6,765 6040

Note on Investment

Investment in: Rs. in crores

Mutual Funds - Liquid Funds 500

Mutual Funds - ETFs 20

X Ltd. a wholly owned subsidiary 100

A Foundation – 100% 20

Time Deposit 20

Total 660

Additional information:

1. Segment Assets in ‘Others’ category comprises of Rs. 744 crores held for a new project yet
to commence operations in Kolkata.

2. Tax expenses are not considered in above segment reporting as the management is of the
opinion that taxes are not a part of operating cost.

3. Mutual funds are valued at MTM basis as of year-end. These were initially invested for Rs.
300 crore for liquid funds and Rs. 25 crore for ETFs respectively.

4. The Foundation has a clause in its deed that in the event of liquidation, the net assets of
the trust shall be transferred to another trust with similar objects.

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Analyze the extracts given above and Identify the errors and misstatements in the segment
reports / Note on Investment and also prepare the rectified Note to Accounts on Investment
in accordance with the Accounting Standards.

(MTP April ‘18)

Answer 22

Geographical segment reporting: The category ‘others’ in the secondary geographical segment
report represents 16% of the total geographical segment assets. Para 48 of AS 17 inter alia
requires to disclose the total carrying amount of segment assets by geographic allocation of
assets, for each geographical segment whose segment assets are 10 per cent or more of the
total assets of all geographical segments’.

Hence to comply with AS 17 disclosures, the management has to further breakdown the
‘others’ category and identify reportable geographies. Kolkata segment assets is 10.997% of
total geographical assets i.e. [(744 / 6,765) x 100]. Therefore, Kolkata segment will be
considered as the reportable geographical segment.

The revised secondary segmental reporting will be as follows:

All figures are Rs. in crores

Geography Segment Assets Segment Revenue

Delhi 1,962 2,522

Mumbai 1,691 1,241

Chennai 2,030 1,255

Kolkata 744 0

Others 338 1,022

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TOTAL 6,765 6,040

Besides above, the same para also mandates to disclose ‘the total cost incurred during the
period to acquire segment assets that are expected to be used during more than one period
(tangible and intangible fixed assets) by geographical location of assets, for each geographical
segment whose segment assets are 10 per cent or more of the total assets of all segments’.
Hence, the management has to show the addition to segment assets in a separate table; and if
there are no additions during the year, the same has to be stated as ‘Nil’ for the year.

1. Primary Business Segment Report: The management’s interpretation of presenting ‘Net

profit before taxes’ is incorrect. The standard requires allocating expenses to each segment to
the possible extent, and unallocated costs to be shown separately. In this case, tax expense will
be added as an unallocable cost.

2. Notes to Accounts on Investment

Refer Rs. in crore

Note No.

Non-current Investment (at cost)

X Ltd., a wholly owned subsidiary 100

A Foundation 1 20

Total Non-current Investment (A) 120

Current Investment 2 325

Total Current Investment (B) 325

Total (A+B) 445

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In accordance with Para 35 (d) of AS 13, a note should be given that there exists a significant
restriction on the realisability of investments or the remittance of income and proceeds of
disposal. Accordingly, the note is prepared as follows:

Note 1: The Company has a 100% stake holding in A Foundation. There exists a significant
restriction on the realisability of investments due to the clause in the constitution deed of the
Foundation that in the event of liquidation, the net assets of the trust shall be transferred to
another trust with similar objects.

Note 2: Para 31 of AS 13 states – ‘Investment classified as current investment should be carried

in the financial statements at the lower of cost and fair value determined either on an
individual investment basis or by category of investment, but not on an overall (or global)
basis’. Assuming that the MTM values provided represent the fair value, accordingly
investments in mutual funds are treated as follows:

Investment in Mutual Funds Rs. in crore

Mutual Funds - Liquid Funds (MTM) 300

Mutual Funds - ETFs 25

Total 325

Note 3: Time deposit will be a part of cash and cash equivalents.

Topic 7 : "Inventory Valuation and Security Deposit under Ind AS"

Question 23

Case Scenario

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P Ltd. is a multi-national company and prepares and presents its financial statements
following Indian Accounting Standards as its securities are listed on National Stock Exchange.
P Ltd. has a number of business segments and requires guidance on following matters.

(i)

Particulars Kg. Rs

Opening Inventory: Finished Goods 1,000 25,000

Raw Materials 1,100 11,000

Purchases 10,000 1,00,000

Labour 76,500

Overheads (Fixed) 75,000

Sales 10,000 2,80,000

Closing Inventory: Raw Materials 900

Finished Goods 1200

The expected production for the year was 15,000 kg of the finished product. Due to fall in
market demand the sales price for the finished goods was Rs 20 per kg and the replacement
cost for the raw material was Rs 9.50 per kg on the closing day. Calculate the closing
inventory as on that date.

(ii) P Ltd has made a security deposit whose details are described below. The market interest
rate for a deposit for similar period is 12% per annum.

Particulars Details

[Link]
Date of Security Deposit (Starting Date) 1-Apr-20X1

Date of Security Deposit (Finishing Date) 31-Mar-20X6

Description Lease

Total Lease Period 5 years

Discount rate 12.00%

Security deposit 10,00,000

Present value factor at the 5th year 0.567427

Analyze the transactions mentioned above and choose the most appropriate option in the
below questions 6 to 10 in line with relevant Ind AS:

(MTP May ’25)

6. What is the total cost of production during the year?

(a) Rs 2,62,500

(b) Rs 2,51,500

(c) Rs 2,53,500

(d) Rs 2,29,500

Answer: (d) Rs 2,29,500

Reason

Part 1: Closing Inventory Calculation

[Link]
First, let's review the provided data and break it down step-by-step to calculate the closing
inventory. The calculation for closing inventory will depend on the valuation method and the
figures provided for both raw materials and finished goods.

Given Data:

Opening Inventory

Finished Goods: 1,000 kg for Rs 25,000

Raw Materials: 1,100 kg for Rs 11,000

Purchases

10,000 kg of raw material for Rs 1,00,000

Sales

10,000 kg finished goods for Rs 2,80,000

Closing Inventory

Raw Materials: 900 kg

Finished Goods: 1,200 kg

Other Relevant Data:

Expected production: 15,000 kg

Sales price: Rs 20 per kg (for finished goods)

Replacement cost for raw materials: Rs 9.50 per kg

Calculation of Finished Goods Inventory:

Finished Goods Produced:

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Opening Finished Goods = 1,000 kg

Finished Goods Sold = 10,000 kg

Expected Finished Goods Production = 15,000 kg

So, Closing Finished Goods Inventory = Opening Inventory + Produced - Sold

= 1,000 + 15,000 - 10,000 = 6,000 kg

However, the provided closing finished goods inventory is 1,200 kg, so we will use that as the
closing inventory value.

Valuation of Finished Goods Inventory:

The finished goods inventory will be valued at the lower of cost or net realizable value (NRV).

Cost per kg = Total cost of goods produced / Finished goods produced

= (Cost of raw materials + labor + overheads) / Finished goods produced

Net Realizable Value (NRV) = Rs 20 per kg (Sales price)

Since we do not have the full cost breakdown, we can conclude that the finished goods
inventory should be valued based on Rs 20 per kg.

Raw Materials Inventory:

Raw Material Costing:

Opening raw material: 1,100 kg for Rs 11,000

Purchases during the year: 10,000 kg for Rs 1,00,000

Total raw materials available = 1,100 kg + 10,000 kg = 11,100 kg

Total value of raw materials available = Rs 11,000 + Rs 1,00,000 = Rs 1,11,000

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Closing Raw Material Inventory:

Closing raw material = 900 kg

Replacement cost (lower of cost or replacement cost) = Rs 9.50 per kg (replacement cost)

So, the closing raw material inventory will be valued at Rs 9.50 per kg, i.e.,

Closing Raw Material Inventory = 900 kg × Rs 9.50 = Rs 8,550

Final Closing Inventory:

Finished Goods: 1,200 kg × Rs 20 = Rs 24,000

Raw Materials: 900 kg × Rs 9.50 = Rs 8,550

Total Closing Inventory = Rs 24,000 + Rs 8,550 = Rs 32,550

Part 2: Total Cost of Production

Now, let's move on to calculating the total cost of production for the year.

Given data for calculation:

Opening Inventory of Finished Goods = Rs 25,000

Raw Material Purchases = Rs 1,00,000

Labor Costs = Rs 76,500

Fixed Overheads = Rs 75,000

Closing Inventory of Finished Goods = Rs 24,000 (calculated above)

Closing Inventory of Raw Materials = Rs 8,550 (calculated above)

Step-by-Step Calculation:

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Raw Material Consumed = Opening Inventory + Purchases - Closing Inventory

= Rs 11,000 + Rs 1,00,000 - Rs 8,550 = Rs 1,02,450

Total Cost of Production = Raw Material Consumed + Labor + Overheads + Opening Finished
Goods Inventory - Closing Finished Goods Inventory

= Rs 1,02,450 + Rs 76,500 + Rs 75,000 + Rs 25,000 - Rs 24,000

= Rs 2,29,500

7. What is the value of closing inventory of finished goods at the end of the year?

(a) Rs 27,000

(b) Rs 29,823

(c) Rs 24,000

(d) Rs 32,550

Answer: (c) Rs 24,000

Reason

To calculate the closing inventory of finished goods, we need to use the following information:

Opening Inventory of Finished Goods: 1,000 kg at Rs. 25,000

Purchases: 10,000 kg at Rs. 1,00,000

Sales: 10,000 kg at Rs. 2,80,000

Closing Inventory of Finished Goods: 1,200 kg

[Link]
Expected production: 15,000 kg

The price of the finished goods has decreased due to market demand to Rs. 20 per kg.

Step-by-Step Calculation:

Total Production:

Total production is expected to be 15,000 kg for the year.

Total Goods Available for Sale:

The total goods available for sale is the sum of the opening inventory and purchases.

Total Goods Available=Opening Inventory+Purchases=1,000kg+10,000kg=11,000kg

Total Sales: P Ltd. has sold 10,000 kg, so the remaining unsold goods will be part of the closing
inventory.

Unsold Goods (Closing Inventory)=Total Goods Available−Sales=11,000kg−10,000kg=1,000kg

Calculation of Closing Inventory Value:

The closing inventory of finished goods is valued at the market price, which is Rs. 20 per kg due
to the fall in market demand.

Closing Inventory Value=Closing Inventory×Market Price=1,200kg×Rs. 20 per kg=24,000

8. What is the value of closing inventory of raw materials at the end of the year?

(a) Rs 8,550

(b) Rs 9,000

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(c) Rs 18,000

(d) Rs 32,550

Answer: (a) Rs 8,550

Reason

Closing inventory of raw materials: 900 kg

Replacement cost of raw materials: Rs 9.50 per kg

Calculation:

The closing inventory of raw materials is calculated at its replacement cost, as per the lower of
cost and net realizable value (NRV) principle under Indian Accounting Standards (Ind AS). Since
the replacement cost is provided, we use that directly for the calculation.

The value of the closing inventory of raw materials is:

Closing Inventory of Raw Materials=Quantity × Replacement Cost

Substituting the given values:

Closing Inventory of Raw Materials=900kg×9.50Rs/kg=8,550Rs

9. Security deposit will be initially recognized at

(a) Rs 10,00,000

(b) Rs 5,67,427

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(c) Rs 4,32,573

(d) Nil

Answer: (b) Rs 5,67,427

Reason

Closing Inventory of Finished Goods:

Cost of Finished Goods:

Formula:

Opening Inventory of Finished Goods+Purchases−Cost of Goods Sold (COGS)

The COGS is not explicitly mentioned, but we can infer that it's related to production costs.
However, without a direct breakdown of production costs (other than labor and fixed
overhead), let's first focus on NRV (net realizable value).

The sales price of finished goods is Rs 20 per kg, and the closing stock of finished goods is 1,200
kg.

NRV of Finished Goods=1,200kg×20Rs/kg=24,000Rs

Now, we must compare the cost and NRV and use the lower value for the closing inventory.

Since the cost of finished goods isn't directly available, but assuming cost of goods sold and
other inventory cost details would be applied, if NRV is Rs 24,000, this would be used unless the
calculated cost is lower than this.

Finished Goods Closing Inventory = Rs 24,000 (if cost of finished goods is higher than this, you
would use cost instead).

Closing Inventory of Raw Materials:

[Link]
Cost of Raw Materials:

The replacement cost of raw materials on the closing day is given as Rs 9.50 per kg.

Closing Stock of Raw Materials = 900 kg × Rs 9.50 = Rs 8,550.

Again, the lower of cost or NRV would apply here. Since the replacement cost is the only
available value (and typically represents NRV in such cases), you would use the replacement
cost of Rs 8,550.

Final Closing Inventory Calculation:

Finished Goods: Rs 24,000 (using the lower of cost or NRV).

Raw Materials: Rs 8,550.

Thus, the total closing inventory would be:

Total Closing Inventory=24,000(Finished Goods)+8,550(Raw Materials)=32,550Rs.

Second Part: Security Deposit Calculation (Ind AS)

For the security deposit under Ind AS (Indian Accounting Standards), the value should be
initially recognized at the present value of the security deposit. This follows the concept of
discounting future cash flows to present value, which is common under Ind AS 109 for financial
instruments.

Security Deposit = Rs 10,00,000

The discount rate is 12% per annum.

The present value factor for 5 years is 0.567427 (given).

The present value of the security deposit will be:

Present Value=Security Deposit × Present Value Factor

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Present Value=10,00,000×0.567427=5,67,427Rs

10. Prepaid lease payment will be initially recognized at

(a) Rs 10,00,000

(b) Rs 5,67,427

(c) Rs 4,32,573

(d) Nil

Answer: (c) Rs 4,32,573

Reason

Security Deposit and Ind AS Treatment

Given:

Security deposit paid: ₹10,00,000

Lease term: 5 years (from 01-Apr-20X1 to 31-Mar-20X6)

Market interest rate / Discount rate: 12% p.a.

Present Value (PV) factor for year 5 @ 12%: 0.567427

Conceptual Basis (Ind AS 116 + Ind AS 109)

As per Ind AS 116 (Leases) and Ind AS 109 (Financial Instruments):

When a refundable security deposit is paid to a lessor, the deposit is split into:

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Financial asset – measured at present value of refundable amount.

The difference between the amount paid and present value is treated as a prepaid lease
payment (i.e., an advance to be amortized over lease period).

Step-by-step Calculation:

Present Value (PV) of Refundable Deposit

= ₹10,00,000 × 0.567427

= ₹5,67,427

→ This is recognized as a financial asset under Ind AS 109.

Prepaid Lease Expense

= Total Deposit – PV of Refundable Deposit

= ₹10,00,000 – ₹5,67,427

= ₹4,32,573

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 Chapter 9

Ind AS 115: REVENUE FROM CONTRACTS WITH CUSTOMERS

Topic 1 : Toll Projects and Infrastructure Development

Question 1

A Ltd. is in the business of infrastructure and has two divisions. The brief details of its
business and underlying project details are as follows:

Project 1: Ludhiana - Chandigarh Expressway Toll Project

The Company has commenced the construction of the project in the current year. The brief
details of the Concession Agreement are given below:

• Total expenses incurred Rs 100 crore as on 31st March, 2022.

• Under IGAAP, the company has recorded such expenses as intangible assets in the books of
account. Total expenses estimated to be incurred on the project are Rs 200 crore;

• Fair value of the construction service is Rs 220 crore;

• Total cash flow guaranteed by the government under the concession agreement is Rs 350
crore;

• Finance revenue over the period of operation phase is Rs 30 crore;

• Other income relates to the services provided during the operation phase.

Project 2: Bengaluru - Chennai Expressway Toll Project

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The Company has also entered into another Concession Agreement with Government of
Karnataka in the current year. The said concession agreement is Toll Based Project and the
Company needs to collect the toll from the users of the expressway. The construction cost for
the said project will be Rs 150 crore. The fair value of such construction cost is approximately
Rs 200 crore. Under IGAAP, the company has recorded the expenses incurred on the said
project as an intangible asset.

You are required to answer the following:

(i) What would be the classification of Ludhiana - Chandigarh Expressway Toll Project as per
applicable Ind AS? Give brief reasoning.

(ii) What would be the classification of Bengaluru – Chennai Expressway Toll Project as per
applicable Ind AS? Give brief reasoning.

(iii) What should be the accounting entries for the preparation of financial statements as per
relevant Ind AS for the above 2 projects?

(PYP Nov 22)

Answer 1

(i) Project 1 : Ludhiana - Chandigarh Expressway Toll Project

Here the operator has a contractual right to receive cash from the grantor. The grantor has
little, if any, discretion to avoid payment, usually because the agreement is enforceable by law.
The operator has an unconditional right to receive cash if the grantor contractually guarantees
to pay the operator. Hence, the operator recognizes a financial asset to the extent it has a
contractual right to receive cash.

(ii) Project 2 : Bengaluru - Chennai Expressway Toll Project

Here the operator has a contractual right to charge users of the public services. A right to
charge users of the public service is not an unconditional right to receive cash because the

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amounts are contingent on the extent that the public uses the service. Therefore, the operator
shall recognise an intangible asset to the extent it receives a right (a license) to charge users of
the public service.

(iii) Accounting Entries for preparation of financial statements

Ludhiana-Chandigarh Expressway Toll Project

Journal Entries

Particulars Dr. (Rs in Cr. (Rs in

crore) crore)

During construction:

1. Financial asset A/c Dr 220

To Construction revenue 220

(To recognise revenue relating to construction services, to be

settled in cash)

2 Cost of construction (profit or loss) Dr. 200

To Bank A/c (As and when incurred) 200

(To recognise costs relating to construction services)

During the operation phase:

3. Financial asset Dr 30

To Finance revenue (As and when received or due to receive) 30

(To recognise interest income under the financial asset model)

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4. Financial asset Dr 100

To Revenue [(350-220) – 30] 100

(To recognise revenue relating to the operation phase)

5 Bank A/c Dr. 350

To Financial asset 350

(To recognise cash received from the grantor)

Bengaluru-Chennai Expressway Toll Project

Journal Entries

Particulars Dr. (Rs in Cr. (Rs in

crore) crore)

During construction:

1 Cost of construction (profit or loss) Dr. 150

To Bank A/c (As and when incurred) 150

(To recognise costs relating to construction services)

2 Intangible asset Dr. 200

To Revenue 200

(To recognise revenue relating to construction services

provided for non-cash consideration)

During the operation phase:

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3 Amortisation expense Dr. 200

To Intangible asset (accumulated amortisation) 200

(To recognise amortisation expense relating to the operation

phase over the period of operation)

4 Bank A/c Dr. ?

To Revenue ?

(To recognise revenue relating to the operation phase)

Note: Amount in entry 4 is kept blank as no information in this regard is given in the question

Question 2

ICAI Illustration

Media Company P Ltd. offers magazine subscriptions to customers. When customers

subscribe, they receive a printed copy of the magazine each month and access to the
magazine’s online content. Determine how many performance\ obligations does the entity
have?

(Study material)

Answer

P evaluates whether the promises to provide printed copies and online access are separate
performance obligations. P determines that the arrangement includes two performance
obligations for the following reasons:

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• The printed copies and online access are both capable of being distinct because the customer
could use them on their own.

The printed copies and online access are distinct within the context of the contract because
they are different formats so they do not significantly customise or modify each other, nor is
there any transformative relationship into a single output.

Question 3

ICAI Illustration

A Ltd. is in the business of the infrastructure and has two divisions under the same; (I) Toll
Roads and (II) Wind Power. The brief details of these business and underlying project details
are as follows:

I. Bhilwara-Jabalpur Toll Project - The Company has commenced the construction of the
project in the current year and has incurred total expenses aggregating to Rs 50 crore as on
31st December, 20X1. Under IGAAP, the Company has 'recorded such expenses as Intangible
Assets in the books of account. The brief details of the Concession Agreement are as follows:

• Total Expenses estimated to be incurred on the project Rs 100 crore;

• Fair Value of the construction services is Rs 110 crore;

• Total Cash Flow guaranteed by the Government under the concession agreement is Rs 200
crore;

• Finance revenue over the period of operation phase is Rs 15 crore:

• Other income relates to the services provided during the operation phase.

II. Kolhapur- Nagpur Expressway - The Company has also entered into another concession
agreement with Government of Maharashtra in the current year.

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The construction cost for the said project will be Rs 110 crore. The fair value of such
construction cost is approximately Rs 200 crore. The said concession agreement is Toll based
project and the Company needs to collect the toll from the users of the expressway. Under
IGAAP, UK Ltd. has recorded the expenses incurred on the said project as an Intangible Asset.

(i) What would be the classification of Bhilwara-Jabalpur Toll Project as per applicable Ind AS?
Give brief reasoning for your choice.

(ii) What would be the classification of Kolhapur-Nagpur Expressway Toll Project as per
applicable Ind AS? Give brief reasoning for your choice.

(iii) Also, suggest suitable accounting treatment for preparation of financial statements as per
Ind AS for the above 2 projects

(Study material)

Answer

(i) Here the operator has a contractual right to receive cash from the grantor. The grantor has
little, if any, discretion to avoid payment, usually because the agreement is enforceable by law.
The operator has an unconditional right to receive cash if the grantor contractually guarantees
to pay the operator. Hence, operator recognizes a financial asset to the extent it has a
contractual right to receive cash.

(ii) Here the operator has a contractual right to charge users of the public services. A right to
charge users of the public service is not an unconditional right to receive cash because the
amounts are contingent on the extent that the public uses the service. Therefore, the operator
shall recognise an intangible asset to the extent it receives a right (a licence) to charge users of
the public service.

(iii) Accounting treatment for preparation of financial statements

Bhilwara-Jabalpur Toll Project Journal Entries

[Link]
 Particulars Dr. (Rs in Cr. (Rs in
crore) crore)

During construction:

1 Financial asset A/c Dr. 110

To Construction revenue 110

[To recognise revenue relating to construction services, to

be settled in case]

2 Cost of construction (profit or loss) Dr. 100

To Bank A/c (As and when incurred) 100

[To recognise costs relating to construction services]

During the operation phase:

3 Financial asset Dr. 15

To Finance revenue (As and when received or due to 15

receive)

[To recognise interest income under the financial asset

model]

4 Financial asset Dr. 75

To Revenue [(200-110) – 15] 75

[To recognise revenue relating to the operation phase]

5 Bank A/c Dr. 200

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 To Financial asset 200

[To recognise cash received from the grantor]

Kolhapur-Nagpur Expressway -Intangible asset Journal Entries

Particulars Dr . (Rs in Cr . (Rs in

crore) crore)

During construction:

1 Cost of construction (profit or loss) Dr. 110

To Bank A/c (As and when incurred) 110

[To recognise costs relating to construction services ]

2 Intangible asset Dr. 200

To Revenue 200

[To recognise revenue relating to construction services

provided for non-cash consideration]

During the operation phase:

3 Amortisation expense Dr. 200

To Intangible asset (accumulated amortisation) 200

[To recognise amortisation expense relating to the

operation phase over the period of operation]

4 Bank A/c Dr. ?

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 To Revenue ?

[To recognise revenue relating to the operation phase]

Note: Amount in entry 4 is kept blank as no information in this regard is given in the question

Topic 2 : Performance Obligations

Question 4

GTM Limited has provided the following 4 independent scenarios. You are advised to respond
to the queries mentioned at the end of each scenario. Support your answer with the relevant
extracts of the applicable Ind AS.

Scenario 1

GTM Limited enters into a contract with a customer to sell product G, T and M in exchange
for Rs 1,90,000. GTM Limited will satisfy the performance obligations for each of the product
at different points in time. GTM Limited regularly sells product G separately and therefore the
stand-alone selling price is directly observable. The stand- alone selling prices of product T
and M are not directly observable. Because the stand-alone selling prices for Product T and M
are not directly observable, the Company has to estimate them. To estimate the standalone
selling prices, the Company uses the adjusted market assessment approach for product T and
the expected cost plus a margin approach for product M. In making these estimates, the
Company maximizes the use of observable inputs. The entity estimated the stand -alone
selling prices as follows:

Product Stand-alone selling price (Rs)

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 Product G 90,000

Product T 44,000

Product M 66,000

Total 2,00,000

Determine the transaction price allocated to each Product.

Scenario 2

GTM Limited regularly sells Products G, T and M individually. The standalone selling prices are
as under:

Product Stand-alone selling price (Rs)

Product G 90,000

Product T 44,000

Product M 66,000

Total 2,00,000

In addition, the Company regularly sells Products T and M together for Rs 1,00,000. The
Company enters into a contract with another customer to sell Products G, T and M in
exchange for Rs 1,90,000. GTM Limited will satisfy the performance obligations for each of
the products at different points in time; or Product T and M at same point in time.

Determine the allocation of transaction price to Product T and M.

Scenario 3

[Link]
GTM Limited enters into a contract with a customer to sell products G, T and M as described
in scenario 2. The contract also includes a promise to transfer product 'Hope'. Total
consideration in the contract is Rs 2,40,000. The stand-alone selling price for product 'Hope' is
highly variable because the company sells Product 'Hope' to different customers for a broad
range of amounts (Rs 40,000 to Rs 65,000). Determine the selling price of Products G, T, M
and Hope using the residual approach.

Scenario 4

The same facts as in scenario 3 applies to scenario 4 except that the transaction price is Rs
2,25,000 instead of Rs 2,40,000. Discuss how the transaction price should be allocated.

(PYP July 21)

Answer 4

Scenario 1

The customer receives a discount for purchasing the bundle of goods because the sum of the
stand-alone selling prices (Rs 2,00,000) exceeds the promised consideration (Rs 1,90,000). The
entity considers that there is no observable evidence about the performance obligation to
which the entire discount belongs. The discount is allocated proportionately across Products G,
T and M. The discount, and therefore the transaction price, is allocated as follows:

Product Allocated transaction price

Rs

Product G 85,500 (Rs 90,000 ÷ Rs 2,00,000 Rs

1,90,000)

Product T 41,800 (Rs 44,000 ÷ Rs 2,00,000 Rs

1,90,000)

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 Product M 62,700 (Rs 66,000 ÷ Rs 2,00,000 Rs
1,90,000)

Total 1,90,000

Scenario 2

The contract includes a discount of Rs 10,000 on the overall transaction, which would be
allocated proportionately to all three performance obligations when allocating the transaction
price using the relative stand-alone selling price method. However, because the entity regularly
sells Products T and M together for Rs 1,00,000 and Product G for Rs 90,000, it has evidence
that the entire discount of Rs 10,000 should be allocated to the promises to transfer Products T
and M in accordance with paragraph 82 of Ind AS 115.

If the entity transfers control of Products T and M at the same point in time, then the entity
could, as a practical matter, account for the transfer of those products as a single performance
obligation. That is, the entity could allocate Rs 90,000 of the transaction prices to the single
performance obligation of G and recognise revenue of Rs 1,00,000 when Products T and M
simultaneously transfer to the customer. If the contract requires the entity to transfer control
of Products T and M at different points in time, then the allocated amount of Rs 1,00,000 is
individually allocated to the promises to transfer Product T (stand-alone selling price of Rs
44,000) and Product M (stand-alone selling price of Rs 66,000) as follows:

Product Allocated transaction

price

Rs

Product T 40,000 (Rs 44,000 ÷ Rs 1,10,000 total stand-

alone selling price Rs 1,00,000)

[Link]
 Product M 60,000 (Rs 66,000 ÷ Rs 1,10,000 total stand-
alone selling price Rs 1,00,000)

Total 1,00,000

Scenario 3

Before estimating the stand-alone selling price of Product Hope using the residual approach,
the entity determines whether any discount should be allocated to the other performance
obligations in the contract. As in Scenario 2, because the entity regularly sells Products T and M
together for Rs 1,00,000 and Product G for Rs 90,000, it has observable evidence that Rs
1,90,000 should be allocated to those three products and Rs 10,000 discount should be
allocated to the promises to transfer Products T and M in accordance with paragraph 82 of Ind
AS 115. Using the residual approach, the entity estimates the stand-alone selling price of
Product Hope to be Rs 50,000 as follows:

Product Stand-alone selling price Method

Rs

Product G 90,000 Directly observable

Products T and M 1,00,000 Directly observable with

discount

Product Hope 50,000 Residual approach

Total 2,40,000

The entity observes that the resulting Rs 50,000 allocated to Product Hope is within the range
of its observable selling prices (Rs 40,000 to Rs 65,000).

Scenario 4

[Link]
The same facts as in Scenario 3 apply to Scenario 4 except the transaction price is Rs 2,25,000
instead of Rs 2,40,000. Consequently, the application of the residual approach would result in a
stand-alone selling price of Rs 35,000 for Product Hope (Rs 2,25,000 transaction price less Rs
1,90,000 allocated to Products G, T and M). The entity concludes that Rs 35,000 would not
faithfully depict the amount of consideration to which the entity expects to be entitled in
exchange for satisfying its performance obligation to transfer Product Hope, because Rs 35,000
does not approximate the stand- alone selling price of Product Hope, which ranges from Rs
40,000 to Rs 65,000. Consequently, the entity reviews its observable data, including sales and
margin reports, to estimate the stand-alone selling price of Product Hope using another
suitable method. The entity allocates the transaction price of Rs 2,25,000 to Products G, T, M
and Hope using the relative stand-alone selling prices of those products in accordance with
paragraphs 73–80 of Ind AS 115.

EXAMINERS’ COMMENTS ON THE PERFORMANCE OF EXAMINEES:

Most of the examinees were able to compute the value of each product in all the scenarios but
lacked in explaining the reason for the same. Further, in scenario 4, a few of the examinees
considered the minimum price of the product Hope as Rs 40,000 (instead of Rs 35,000) and
done the allocation accordingly.

Question 5

Orange Ltd. contracts to renovate a five-star hotel including the installation of new elevators
on 01.10.2017. Orange Ltd. estimates the transaction price of Rs. 480 lakhs. The expected cost
of elevators is Rs. 144 lakhs and expected other costs is Rs. 240 lakhs. Orange Ltd. purchases
elevators and they are delivered to the site six months before they will be installed. Orange
Ltd. uses an input method based on cost to measure progress towards completion. The entity
has incurred actual other costs of Rs. 48 lakhs by 31.03.2018. How much revenue will be
recognised as per relevant Ind AS 115 for the year ended 31st March, 2018, if performance
obligation is met over a period of time?

[Link]
 (PYP, May 19)

Answer 5

Cost to be incurred comprises two major components – cost for elevators and cost of
construction service.

(a) The elevators are part of the overall construction project and are not a distinct performance
obligation

(b) The cost of elevators is substantial to the overall project and are incurred well in advance.

(c) Upon delivery at site, customer acquires control of such elevators.

(d) There is no modification done to the elevators, which the company only procures and
delivers at site. Nevertheless, as part of materials used in overall\ construction project, the
company is a principal in the transaction with the customer for such elevators also.

Therefore, applying the guidance on Input method –

- The measure of progress should be based on percentage of costs incurred relative to the total
budgeted costs. The cost of elevators should be excluded when measuring such progress and
revenue for such elevators should be recognized to the extent of costs incurred.

The revenue to be recognized is measured as follows:

Particulars Amount (Rs. in lakh)

Transaction price 480

Costs incurred:

(a) Cost of elevators 144

(b) Other costs 48

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Measure of progress 48 / 240 = 20%

Revenue to be recognised: (Rs. in lakh)

(a) For costs incurred (other than elevators) Total attributable revenue = 480 -144 = 336 %
of work completed = 20% Revenue to be
recognised = 67.20

(b) Revenue for elevators (equal to costs incurred) 144

Total revenue to be recognized 144 + 67.2 = 211.20

Therefore, for the year ended 31st March, 2018, the company shall recognize revenue of Rs.
211.20 lakhs on the project.

EXAMINERS’ COMMENTS ON THE PERFORMANCE OF EXAMINEES:

Some of the examinees made mistake in calculating the amount of revenue to be recognised
while some failed to properly explain the basis for the treatment done. A few examinees
erroneously included the cost of elevator in the total cost and revenue.

Question 6

An entity G Ltd. enters into a contract with a customer P Ltd. for the sale of a machinery for
Rs.20,00,000. P Ltd. intends to use the said machinery to start a food processing unit. The
food processing industry is highly competitive and P Ltd. has very little experience in the said
industry. P Ltd. pays a non-refundable deposit of Rs.1,00,000 at inception of the contract and
enters into a long-term financing agreement with G Ltd. for the remaining 95 per cent of the

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agreed consideration which it intends to pay primarily from income derived from its food
processing unit as it lacks any other major source of income. The financing arrangement is
provided on a non-recourse basis, which means that if P Ltd. defaults then G Ltd. can
repossess the machinery but cannot seek further compensation from P Ltd., even if the full
value of the amount owed is not recovered from the machinery. The cost of the machinery
for G Ltd. is Rs. 12,00,000. P Ltd. obtains control of the machinery at contract inception. When
should G Ltd. recognize revenue from sale of machinery to P Ltd. In accordance with Ind AS
115?

(RTP Nov’19)

Answer 6

As per paragraph 9 of Ind AS 115, “An entity shall account for a contract with a customer that is
within the scope of this Standard only when all of the following criteria are met: the parties to
the contract have approved the contract (in writing, orally or in accordance with other
customary business practices) and are committed to perform their respective obligations;

(a) the entity can identify each party’s rights regarding the goods or services to be transferred;

(b) the entity can identify the payment terms for the goods or services to be transferred;

(c) the contract has commercial substance (I e the risk, timing or amount of the entity’s

(d) future cash flows is expected to change as a result of the contract); and it is probable that
the entity will collect the consideration to which it will be entitled in exchange for the goods or
services that will be transferred to the customer. In evaluating whether collectability of an
amount of consideration is probable, an entity shall consider only the customer’s ability and
intention to pay that amount of consideration when it is due. The amount of consideration to
which the entity will be entitled may be less than the price stated in the contract if the
consideration is variable because the entity may offer the customer a price concession”.

[Link]
Paragraph 9(e) above, requires that for revenue to be recognized, it should be probable that
the entity will collect the consideration to which it will be entitled in exchange for the goods or
services that will be transferred to the customer. In the given case, it is not probable that G Ltd.
will collect the consideration to which it is entitled in exchange for the transfer of the
machinery. P Ltd.’s ability to pay may be uncertain due to the following reasons:

(a) P Ltd. intends to pay the remaining consideration (which has a significant balance) primarily
from income derived from its food processing unit (which is a business involving significant risk
because of high competition in the said industry and P Ltd.'s little experience);

(b) P Ltd. lacks sources of other income or assets that could be used to repay the balance
consideration; and

(c) P Ltd.'s liability is limited because the financing arrangement is provided on a nonrecourse
basis.

In accordance with the above, the criteria in paragraph 9 of Ind AS 115 are not met. Further,
para 15 states that when a contract with a customer does not meet the criteria in paragraph 9
and an entity receives consideration from the customer, the entity shall recognize the
consideration received as revenue only when either of the following events has occurred:

(a) the entity has no remaining obligations to transfer goods or services to the customer and all,
or substantially all, of the consideration promised by the customer has been received by the
entity and is non-refundable; or

(b) the contract has been terminated and the consideration received from the customer is non-
refundable.

Para 16 states that an entity shall recognize the consideration received from a customer as a
liability until one of the events in paragraph 15 occurs or until the criteria in paragraph 9 are
subsequently met. Depending on the facts and circumstances relating to the contract, the
liability recognized represents the entity’s obligation to either transfer goods or services in the

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future or refund the consideration received. In either case, the liability shall be measured at the
amount of consideration received from the customer.

In accordance with the above, in the given case G Ltd. should account for the non refundable
deposit of Rs.1,00,000 payment as a deposit liability as none of the events described in
paragraph 15 have occurred—that is, neither the entity has received substantially all of the
consideration nor it has terminated the contract.

Consequently, in accordance with paragraph 16, G Ltd. Will continue to account for the initial
deposit as well as any future payments of principal and interest as a deposit liability until the
criteria in paragraph 9 are met (i.e. the entity is able to conclude that it is probable that the
entity will collect the consideration) or one of the events in paragraph 15 has occurred. Further,
G Ltd. will continue to assess the contract in accordance with paragraph 14 to determine
whether the criteria in paragraph 9 are subsequently met or whether the events in paragraph
15 of Ind AS 115 have occurred.

Question 7

Growth Ltd. enters into an arrangement with a customer for infrastructure outsourcing deal.
Based on its experience, Growth Ltd. determines that customising the infrastructure will take
approximately 200 hours in total to complete the project and charges Rs 150 per hour. After
incurring 100 hours of time, Growth Ltd. and the customer agree to change an aspect of the
project and increases the estimate of labour hours by 50 hours at the rate of Rs 100 per hour.
Determine how contract modification will be accounted as per Ind AS 115?

(MTP Oct 21)

Answer 7

Considering that the remaining goods or services are not distinct, the modification will be
accounted for on a cumulative catch-up basis, as given below:

[Link]
Particulars Hours Rate (Rs) Amount (Rs)

Initial contract amount 200 150 30,000

Modification in contract 50 100 5,000

Contract amount after modification 250 140* 35,000

Revenue to be recognised 100 140 14,000

Revenue already booked 100 150 15,000

Adjustment in revenue (1,000)

*Rs 35,000 / 250 hours = Rs 140.

Question 8

ICAI Illustration

The promised goods and services are the same as in the above Illustration, except that the
contract specifies that, as part of the installation service, the software is to be substantially
customised to add significant new functionality to enable the software to interface with other
customised software applications used by the customer. The customised installation service
can be provided by other entities.

Determine how many performance obligations does the entity have?

(Study material)

Answer

[Link]
The entity assesses the goods and services promised to the customer to determine which goods
and services are distinct. The entity observes that the terms of the contract result in a promise
to provide a significant service of integrating the licensed software into the existing software
system by performing a customised installation service as specified in the contract. In other
words, the entity is using the license and the customised installation service as inputs to
produce the combined output (i.e. a functional and integrated software system) specified in the
contract. In addition, the software is significantly modified and customised by the service.
Although the customised installation service can be provided by other entities, the entity
determines that within the context of the contract, the promise to transfer the license is not
separately identifiable from the customised installation service and, therefore, the criterion on
the basis of the factors is not met. Thus, the software license and the customised installation
service are not distinct.

The entity concludes that the software updates and technical support are distinct from the
other promises in the contract. This is because the customer can benefit from the updates and
technical support either on their own or together with the other goods and services that are
readily available and because the promise to transfer the software updates and the technical
support to the customer are separately identifiable from each of the other promises.

On the basis of this assessment, the entity identifies three performance obligations in the
contract for the following goods or services:

a) customised installation service (that includes the software license);

b) software updates; and

c) technical support.

Question 9

ICAI Illustration

[Link]
V Ltd. grants Customer C a three-year licence for anti-virus software. Under the contract, V
Ltd. promises to provide C with when-and-if-available updates to that software during the
licence period. The updates are critical to the continued use of the anti-virus software.
Determine how many performance obligations does the entity have?

(Study material)

Answer

V Ltd. concludes that the licence and the updates are capable of being distinct because the anti-
virus software can still deliver its original functionality during the licence period without the
updates. C can also benefit from the updates together with the licence transferred when the
contract is signed.

However, V Ltd. concludes that the licence and the updates are not separately identifiable
because the software and the service are inputs into a combined item in the contract − i.e. the
nature of V Ltd.’s promise is to provide continuous anti-virus protection for the term of the
contract. Therefore, V Ltd. accounts for the licence and the updates as a single performance
obligation.

Question 10

ICAI Illustration

Carmaker N Ltd. has a historical practice of offering free maintenance services – e.g. oil
changes and tyre rotation – for two years to the end customers of dealers who buy its
vehicles. However, the two years’ free maintenance is not explicitly stated in the contract
with its dealers, but it is typically stated in N’s advertisements for the vehicles. Determine
how many performance obligations does the entity have?

(Study material)

[Link]
Answer

The maintenance is treated as a separate performance obligation in the sale of the vehicle to
the dealer. Revenue from the sale of the vehicle is recognised when control of the vehicle is
transferred to the dealer. Revenue from the maintenance services is recognised separately as
and when the maintenance services are provided to the retail customer.

Question 11

ICAI Illustration

AST Limited enters into a contract with a customer to build a manufacturing facility. The
entity determines that the contract contains one performance obligation satisfied over time.

Construction is scheduled to be completed by the end of the 36th month for an agreed-upon
price of Rs 25 crore.

The entity has the opportunity to earn a performance bonus for early completion as follows:

15 percent bonus of the contract price if completed by the 30th month (25% likelihood)

10 percent bonus if completed by the 32nd month (40% likelihood)

5 percent bonus if completed by the 34th month (15% likelihood)

In addition to the potential performance bonus for early completion, AST Limited is entitled
to a quality bonus of Rs 2 crore if a health and safety inspector assigns the facility a gold star
rating as defined by the agency in the terms of the contract. AST Limited concludes that it is
60% likely that it will receive the quality bonus.

Determine the transaction price.

(Study material)

[Link]
Answer

In determining the transaction price, AST Limited separately estimates variable consideration
for each element of variability ie the early completion bonus and the quality bonus.

AST Limited decides to use the expected value method to estimate the variable consideration
associated with the early completion bonus because there is a range of possible outcomes and
the entity has experience with a large number of similar contracts that provide a reasonable
basis to predict future outcomes. Therefore, the entity expects this method to best predict the
amount of variable consideration associated with the early completion bonus. AST’s best
estimate of the early completion bonus is Rs 2.13 crore, calculated as shown in the following
table:

Bonus % Amount of bonus (Rs in Probability Probability-weighted

crore) amount (Rs in crore)

15% 3.75 25% 0.9375

10% 2.50 40% 1.00

5% 1.25 15% 0.1875

0% - 20% -

2.125

AST Limited decides to use the most likely amount to estimate the variable consideration
associated with the potential quality bonus because there are only two possible outcomes (Rs 2
crore or Rs Nil) and this method would best predict the amount of consideration associated
with the quality bonus. AST Limited believes the most likely amount of the quality bonus is Rs 2
crore.

[Link]
Question 12

ICAI Illustration

AFS Ltd. is a risk advisory firm and enters into a contract with a company – WBC Ltd to
provide audit services that results in AFS issuing an audit opinion to the Company. The
professional opinion relates to facts and circumstances that are specific to the company. If
the Company was to terminate the consulting contract for reasons other than the entity's
failure to perform as promised, the contract requires the Company to compensate the risk
advisory firm for its costs incurred plus a 15 per cent margin. The 15 per cent margin
approximates the profit margin that the entity earns from similar contracts.

Whether risk advisory firm’s performance obligation is met over period of time?

(Study material)

Answer

AFS has a single performance to provide an opinion on the professional audit services proposed
to be provided under the contract with the customer. Evaluating the criterion for recognising
revenue over a period of time or at a point in time, Ind AS 115 requires one of the following
criterion to be met –

• Criterion (a) – whether the customer simultaneously receives and consumes the benefits from
services provided by AFS: Company shall benefit only when the audit opinion is provided upon
completion. And in case the contract was to be terminated, any other firm engaged to perform
similar services will have to substantially re -per form.

Hence, this criterion is not met.

• Criterion (b) – An asset created that customer controls: This is service contract and no asset
created, over which customer acquires control.

• Criterion (c) – no alternate use to entity and right to seek payment:

[Link]
❖ The services provided by AFS are specific to the company – WBC and do not have any
alternate use to AFS

❖ Further, AFS has a right to enforce payment if contract was early terminated, for reasons
other than AFS’s failure to perform. And the profit margin approximates what entity otherwise
earns.

Therefore, criterion (c) is met and such performance obligation is said to be met over a period
of time.

Topic 3 : Variable Consideration

Question 13

On 1st January 20X8, entity J enters into a one-year contract with a customer to deliver water
treatment chemicals. The contract stipulates that the price per container will be adjusted
retroactively once the customer reaches certain sales volume, defined, as follows:

Price per container Cumulative sales volume

100 1 - 1,000,000 containers

90 1,000,001 - 3,000,000 containers

85 3,000,001 containers and above

Volume is determined based on sales during the calendar year. There are no minimum
purchase requirements. Entity J estimates that the total sales volume for the year will be 2.8
million containers, based on its experience with similar contracts and forecasted sales to the
customer. Entity J sells 700,000 containers to the customer during the first quarter ended 31st

[Link]
March 20X8 for a contract price of Rs100 per container. How should entity J determine the
transaction price?

(Study material)

Answer 13

The transaction price is Rs 90 per container based on entity J's estimate of total sales volume
for the year, since the estimated cumulative sales volume of 2.8 million containers would result
in a price per container of 90. Entity J concludes that based on a transaction price of Rs 90 per
container, it is highly probable that a significant reversal in the amount of cumulative revenue
recognized will not occur when the uncertainty is resolved. Revenue is therefore recognized at
a selling price of Rs 90 per container as each container is sold. Entity J will recognize a liability
for cash received in excess of the transaction price for the first 1 million containers sold at
Rs100 per container (that is, Rs 10 per container) until the cumulative sales volume is reached
for the next pricing tier and the price is retroactively reduced.

For the quarter ended 31st March, 20X8, entity J recognizes revenue of Rs63 million (700,000
containers x 90) and a liability of 7 million [700,000 containers x ( Rs 100 - Rs90)]. Entity J will
update its estimate of the total sales volume at each reporting date until the uncertainty is
resolved.

Question 14

ICAI Illustration

A gymnasium enters into a contract with a new member to provide access to its gym for a 12-
month period at Rs 4,500 per month. The member can cancel his or her membership without
penalty after three months. Specify the contract term.

(Study material)

[Link]
Answer

The enforceable rights and obligations of this contract are for three months, and therefore the
contract term is three months.

Question 15

ICAI Illustration

NKT Limited sells a product to a customer for Rs 1,21,000 that is payable 24 months after
delivery. The customer obtains control of the product at contract inception. The contract
permits the customer to return the product within 90 days. The product is new and the entity
has no relevant historical evidence of product returns or other available market evidence.

The cash selling price of the product is Rs 1,00,000 which represents the amount that the
customer would pay upon delivery for the same product sold under otherwise identical terms
and conditions as at contract inception. The entity's of 10 per cent (i.e. the interest rate that
over 24 months discounts the promised consideration of Rs 1,21,000 to the cash selling price
of Rs 1,00,000).

Analyse the above transaction with respect to its financing component.

(Study material)

Answer

The contract includes a significant financing component. This is evident from the difference
between the amount of promised consideration of Rs 1,21,000 and the cash selling price of Rs
1,00,000 at the date that the goods are transferred to the customer. The contract includes an
implicit interest rate of 10 per cent (i.e. the interest rate that over 24 months discounts the
promised consideration of Rs 1,21,000 to the cash selling price of Rs 1,00,000). The entity
evaluates the rate and concludes that it is commensurate with the rate that would be reflected

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in a separate financing transaction between the entity and its customer at contract inception.
Until the entity receives the cash payment from the customer, interest revenue would be
recognised in accordance with Ind AS 109. In determining the effective interest rate in
accordance with Ind AS 109, the entity would consider the remaining contractual term.

Question 16

ICAI Illustration

Telco G Ltd. grants a one-time credit of Rs 50 to a customer in Month 14 of a two-year

contract. The credit is discretionary and is granted as a commercial gesture, not in response
to prior service issues (often referred to as a ‘retention credit’). The contract includes a
subsidised handset and a voice and data plan. G Ltd. does not regularly provide these credits
and therefore customers do not expect them to be granted.

How this will be accounted for under Ind AS 115?

(Study material)

Answer

G Ltd. concludes that this is a change in the transaction price and not a variable consideration.
Since, the credit does not relate to a satisfied performance obligation, the change in transaction
price resulting from the credit is accounted for as a contract modification and recognised over
the remaining term of the contract. If, in this example, rather than providing a onetime credit,
G Ltd. granted a discount of Rs 5 per month for the remaining contract term, then also G Ltd.
would conclude that it was a change in the transaction price. It would apply the contract
modification guidance and recognise the credit over the remaining term of the contract.

Question 17

[Link]
ICAI Illustration

An entity, a music record label, licenses to a customer a 1975 recording of a classical

symphony by a noted orchestra. The customer, a consumer products company, has the right
to use the recorded symphony in all commercials, including television, radio and online
advertisements for two years in Country A. In exchange for providing the licence, the entity
receives fixed consideration of Rs 50,000 per month. The contract does not include any other
goods or services to be provided by the entity. The contract is non-cancellable.

Determine how the revenue will be recognised?

(Study material)

Answer

The entity assesses the goods and services promised to the customer to determine which goods
and services are distinct in accordance with paragraph 27 of Ind AS 115. The entity concludes
that its only performance obligation is to grant the licence. The entity does not have any
contractual or implied obligations to change the licensed recording. The licensed recording has
significant stand-alone functionality (i.e. the ability to be played) and, therefore, the ability of
the customer to obtain the benefits of the recording is not substantially derived from the
entity’s on going activities. The entity therefore determines that the contract does not require,
and the customer does not reasonably expect, the entity to undertake activities that
significantly affect the licensed recording.

Consequently, the entity concludes that the nature of its promise in transferring the licence is
to provide the customer with a right to use the entity’s intellectual property as it exists at the
point in time that it is granted. Therefore, the promise to grant the licence is a performance
obligation satisfied at a point in time. The entity recognises all of the revenue at the point in
time when the customer can direct the use of, and obtain substantially all of the remaining
benefits from, the licensed intellectual property.

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Topic 4 : Licensing and IP Rights

Question 18

ICAI Illustration

Space Ltd. enters into an arrangement with a government agency for construction of a space
satellite. Although Space Ltd is in this business for building such satellites for various
customers across the world, however the specifications for each satellite may vary based on
technology that is incorporated in the satellite. In the event of termination, Company has
right to enforce payment for work completed to date.

Evaluate if contract will qualify for satisfaction of performance obligation over a period of
time.

(Study material)

Answer

While evaluating the pattern of transfer of control to the customer, the Company shall evaluate
conditions laid in para 35 of Ind AS 115 as follows:

• Criterion (a) – whether the customer simultaneously receives and consumes the benefits:
Customer can benefit only when the satellite is fully constructed and no benefits are consumed
as its constructed. Hence, this criterion is not met.

• Criterion (b) – An asset created that customer controls: Per provided facts, the customer does
not acquire control of the asset as its created.

• Criterion (c) – no alternate use to entity and right to seek payment:

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❖ The asset is being specifically created for the customer. The asset is customised to
customer’s requirements, such that any diversion for a different customer will require
significant work. Therefore, the asset has practical limitation in being put to alternate use.

❖ Further, Space Ltd. has a right to enforce payment if contract was early terminated, for
reasons other than Space Ltd.’s failure to perform.

Therefore, criterion (c) is met and such performance obligation is said to be met over a period
of time.

Question 19

ICAI Illustration

Customer outsources its information technology data centre Term = 5 years plus two 1-yr
renewal options

Average customer relationship is 7 years

Entity spends Rs 400,000 designing and building the technology platform needed to
accommodate out- sourcing contract:

Design services Rs 50,000

Hardware Rs 140,000

Software Rs 100,000

Migration and testing of data centre Rs 110,000

TOTAL Rs 400,000

(Study material)

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Answer

Design services Rs 50,000 Assess under Ind AS 115. Any resulting

asset would be amortized over 7 years
(i.e. include renewals)

Hardware Rs 140,000 Account for asset under Ind AS 16

Software Rs 100,000 Account for asset under Ind AS 38

Migration and testing of data Centre Rs 110,000 Assess under Ind AS 115. Any resulting
asset would be amortized over 7 years
(i.e. include renewals)

TOTAL Rs 400,000

Topic 5 : Customer Loyalty Programs / Reward Points

Question 20

ICAI Illustration

Customer C is in the middle of a two-year contract with Telco B Ltd., its current wireless
service provider, and would be required to pay an early termination penalty if it terminated
the contract today. If C cancels the existing contract with B Ltd. and signs a two-year contract
with Telco D Ltd. for Rs 800 per month, then D Ltd. promises at contract inception to give C a
one-time credit of Rs 2,000 (referred to as a ‘port-in credit’). The amount of the port-in credit
does not depend on the volume of service subsequently purchased by C during the two-year
contract.

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Determine the transaction price.

(Study material)

Answer

D Ltd. determines that it should account for the port-in credit as consideration payable to a
customer. This is because the credit will be applied against amounts owing to D Ltd. Since, D
Ltd. does not receive any distinct goods or services in exchange for this credit, it will account for
it as a reduction in the transaction price Rs 17,200 [(Rs 800 x 24 month) – Rs 2,000]. D Ltd. will
recognise the reduction in the transaction price as the promised goods or services are
transferred.

Topic 6 : Contract Modifications

Question 21

ICAI Illustration

Manufacturer of airplanes for the air force negotiates a contract to design and manufacture
new fighter planes for a Kashmir air base. At the same meeting, the manufacturer enters into
a separate contract to supply parts for existing planes at other bases.

(Study material)

Answer

Contracts were negotiated at the same time, but they appear to have separate commercial
objectives. Manufacturing and supply contracts are not dependent on one another, and the
planes and the parts are not a single performance obligation. Therefore, contracts for supply of

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fighter planes and supply of parts shall not be combined and instead, they shall be accounted
separately.

Question 22

ICAI Illustration

Software Company S enters into a contract to license its customer relationship management
software to Customer B. Three days later, in a separate contract, S agrees to provide
consulting services to significantly customise the licensed software to function in B’s IT
environment. B is unable to use the software until the customisation services are complete.

(Study material)

Answer

S determines that the two contracts should be combined because they were entered into at
nearly the same time with the same customer, and the goods or services in the contracts are a
single performance obligation.

Question 23

ICAI Illustration

Manufacturer M enters into a contract to manufacture and sell a cyber security system to
Government-related Entity P. One week later, in a separate contract, M enters into a contract
to sell the same system to Government-related Entity Q. Both entities are controlled by the
same government. During the negotiations, M agrees to sell the systems at a deep discount if
both P and Q purchases the security system.

(Study material)

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Answer

M concludes that the said two contracts should be combined because, among other things, P is
a related party of Q, the contracts were entered into at nearly the same time and the contracts
were negotiated as a single commercial package, which is clearly evident from the fact that
discount is being offered if both the parties purchases the security system, thereby also making
the consideration in one contract dependent on the other contract.

Topic 7 : Bill-and-Hold & Delivery Terms

Question 24

A property sale contract includes the following:

(a) Common areas

(b) Construction services and building material

(c) Property management services

(d) Golf membership

(e) Car park

(f) Land entitlement

Analyze whether the above items can be considered as separate performance obligations as
per the requirements of Ind AS 115?

(RTP May 21)

Answer 24

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Paragraph 22 of Ind AS 115 provides that at contract inception, an entity evaluates the
promised goods or services to determine which goods or services (or bundle of goods or
services) are distinct and therefore constitute a performance obligation.

A performance obligation is a promise in a contract to transfer to the customer either:

• a good or service (or a bundle of goods or services) that is distinct; and

• series of distinct goods or services that are substantially the same and that have the same
pattern of transfer to the customer.

As per paragraph 27 of Ind AS 115, a good or service that is promised to a customer is distinct if
both of the following criteria are met:

(a) the customer can benefit from the good or service either on its own or together with other
resources that are readily available to the customer (i.e. the good or service is capable of being
distinct); and

(b) the entity’s promise to transfer the good or service to the customer is separately identifiable
from other promises in the contract (i.e. the promise to transfer the good or service is distinct
within the context of the contract).

Each performance obligation is required to be accounted for separately. Based on the above
guidance, the following table discusses whether the common goods and services in property
sale contract should be considered as separate performance obligation or not:

Goods/Service Whether a separate Reason

Performance obligation (PO) or
not

Common areas Unlikely to be separate PO Common areas are unlikely to be a

separate performance obligation
because the interests received in

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 common areas are typically undivided
interests that are not separable from
the property itself.

However, if the common areas were

sold separately by the developer,
then they could be considered as a
separate performance obligation
provided that it is distinct in the
context of the contract.

Construction Unlikely to be separate PO Construction services and building

services and building materials can meet the first criterion
material as they are items that can be used in
conjunction with other readily
available goods or services.

However, the developer would be

considered to be providing a
significant integration service as it is
bringing together all the separate
elements to deliver a complete
building

Property Likely to be separate PO Property management services and

management golf membership are likely to be
services and Golf separate performance obligations as
membership they may be used in isolation or with
the property already acquired, i.e.,
management services can be used
with the property. These types of

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 services are not significantly
customised, integrated with, or
dependent on the property. This is
because there is no change in their
function with or without the property.
Also, a property management service
could be undertaken by a third party.

Car park and Land Analysis required Items such as car parks and land
entitlement entitlements generally meet the first
criterion – i.e., capable of being
distinct – as the buyer benefits from
them on their own.

Whether the second criterion is met

depends on the facts and
circumstances. For example, if the
land entitlement can be sold
separately or pledged as security as a
separate item, it may indicate that it
is not highly dependent on, or
integrated with, other rights received
in the contract. In an apartment
scenario, the customer can receive an
undivided interest in the land on
which the apartment block sits. This
type of right is generally considered
as highly inter-related with the
apartment itself.*

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However, if title to the land is transferred to the buyer separately – for example in a single
party development – then the separately identifiable criterion may be met. PS: Other facts and
circumstances of each contract should also be carefully examined to determine performance
obligations.

Topic 8 : Financing Component

Question 25

ICAI Illustration

VT Limited enters into a contract with a customer to sell equipment. Control of the
equipment transfers to the customer when the contract is signed.

The price stated in the contract is Rs 1 crore plus a 10% contractual rate of interest, payable in
60 monthly instalments of Rs 212,470.

Determine the discounting rate and the transaction price when

Case A—Contractual discount rate reflects the rate in a separate financing transaction

Case B—Contractual discount rate does not reflect the rate in a separate financing
transaction i.e. 14%.

(Study material)

Answer

Case A—Contractual discount rate reflects the rate in a separate financing transaction In
evaluating the discount rate in the contract that contains a significant financing component, VT

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Limited observes that the 10% contractual rate of interest reflects the rate that would be used
in a separate financing transaction between the entity and its customer at contract inception
(i.e. the contractual rate of interest of 10% reflects the credit characteristics of the customer).

The market terms of the financing mean that the cash selling price of the equipment is Rs 1
crore. This amount is recognised as revenue and as a loan receivable when control of the
equipment transfers to the customer. The entity accounts for the receivable in accordance with
Ind AS 109.

Case B—Contractual discount rate does not reflect the rate in a separate financing transaction

In evaluating the discount rate in the contract that contains a significant financing component,
the entity observes that the 10% contractual rate of interest is significantly lower than the 14%
interest rate that would be used in a separate financing transaction between the entity and its
customer at contract inception (i.e. the contractual rate of interest of 10% does not reflect the
credit characteristics of the customer). This suggests that the cash selling price is less than Rs 1
crore.

VT Limited determines the transaction price by adjusting the promised amount of consideration
to reflect the contractual payments using the 14% interest rate that reflects the credit
characteristics of the customer. Consequently, the entity determines that the transaction price
is Rs 9,131,346 (60 monthly payments of Rs 212,470 discounted at 14%). The entity recognises
revenue and a loan receivable for that amount. The entity accounts for the loan receivable in
accordance with Ind AS 109.

Question 26

ICAI Illustration

XYZ Limited, a personal computer (PC) manufacturer, enters into a contract with a customer
to provide global PC support and repair coverage for three years along with its PC. The

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customer purchases this support service at the time of buying the product. Consideration for
the service is an additional Rs 3,000. Customers electing to buy this service must pay for it
upfront (i.e. a monthly payment option is not available).

Analyse whether there is any significant financing component in the contract or not.

(Study material)

Answer

To determine whether there is a significant financing component in the contract, the entity
considers the nature of the service being offered and the purpose of the payment terms. The
entity charges a single upfront amount, not with the primary purpose of obtaining financing
from the customer but, instead, to maximise profitability, taking into consideration the risks
associated with providing the service. Specifically, if customers could pay monthly, they would
be less likely to renew and the population of customers that continue to use the support service
in the later years may become smaller and less diverse over time (i.e. customers that choose to
renew historically are those that make greater use of the service, thereby increasing the entity's
costs). In addition, customers tend to use services more if they pay monthly rather than making
an upfront payment. Finally, the entity would incur higher administration costs such as the
costs related to administering renewals and collection of monthly payments.

In assessing whether or not the contract contains a significant financing component, XYZ
Limited determines that the payment terms were structured primarily for reasons other than
the provision of finance to the entity. XYZ Limited charges a single upfront amount for the
services because other payment terms (such as a monthly payment plan) would affect the
nature of the risks it assumes to provide the service and may make it uneconomical to provide
the service. As a result of its analysis, XYZ Limited concludes that there is not a significant
financing component.

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Topic 9 : Non-Cash Consideration

Question 27

Entity I sells a piece of machinery to the customer for Rs2 million, payable in 90 days. Entity I
is aware at contract inception that the customer might not pay the full contract price. Entity I
estimates that the customer will pay at least Rs 1.75 million, which is sufficient to cover entity
I's cost of sales ( Rs1.5 million) and which entity I is willing to accept because it wants to grow
its presence in this market. Entity I has granted similar price concessions in comparable
contracts.

Entity I concludes that it is highly probable that it will collect 1.75 million, and such amount is
not constrained under the variable consideration guidance. What is the transaction price in
this arrangement?

(Study material)

Answer 27

Entity I is likely to provide a price concession and accept an amount less than Rs 2 million in
exchange for the machinery. The consideration is therefore variable. The transaction price in
this arrangement is Rs 1.75 million, as this is the amount which entity I expects to receive after
providing the concession and it is not constrained under the variable consideration guidance.
Entity I can also conclude that the collectability threshold is met for Rs 1.75 million and
therefore contract exists.

Question 28

ICAI Illustration

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MS Limited is a manufacturer of cars. It has a supplier of steering systems – SK Limited. MS
Limited places an order of 10,000 steering systems on SK Limited. It also agrees to pay Rs
25,000 per steering system and contributes tooling to be used in SK’s production process.

The tooling has a fair value of Rs 2 crore at contract inception. SK Limited determines that
each steering system represents a single performance obligation and that control of the
steering system transfers to MS Limited upon delivery.

SK Limited may use the tooling for other projects and determines that it obtains control of
the tooling.

Determine the transaction price?

(Study material)

Answer

As a result, at contract inception, SK Limited includes the fair value of the tooling in the
transaction price at contract inception, which it determines to be Rs 27 crore (Rs 25 crore for
the steering systems and Rs 2 crore for the tooling).

Topic 10 : Revenue Recognition Timing

Question 29

ICAI Illustration

Minitek Ltd. is a payroll processing company. Minitek Ltd. enters into a contract to provide
monthly payroll processing services to ABC limited for one year.

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Determine how entity will recognise the revenue?

(Study material)

Answer

Payroll processing is a single performance obligation. On a monthly basis, as Minitek Ltd carries
out the payroll processing –

• The customer, ie, ABC Limited simultaneously receives and consumes the benefits of the
entity’s performance in processing each payroll transaction.

• Further, once the services have been performed for a particular month, in case of termination
of the agreement before maturity and contract is transferred to another entity, then such new
entity will not need to re-perform the services for expired months.

Therefore, it satisfies the first criterion, ie, services completed on a monthly basis are consumed
by the entity at the same time and hence, revenue shall be recognised over the period of time.

For certain performance obligations, an entity may not be able to readily identify whether a
customer simultaneously receives and consumes the benefits from the entity's performance as
the entity performs. In such cases, a performance obligation is satisfied over time if an entity
determines that another entity would not need to substantially re-perform the work that the
entity has completed to date if that other entity were to fulfil the remaining performance
obligation to the customer.

In making such determination, an entity shall make both of the following assumptions:

(a) disregard potential contractual restrictions or practical limitations that otherwise would
prevent the entity from transferring the remaining performance obligation to another entity;
and

(b) presume that another entity fulfilling the remainder of the performance obligation would
not have the benefit of any work in progress.

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Question 30

ICAI Illustration

AFS Ltd. is a risk advisory firm and enters into a contract with a company – WBC Ltd to
provide audit services that results in AFS issuing an audit opinion to the Company. The
professional opinion relates to facts and circumstances that are specific to the company. If
the Company was to terminate the consulting contract for reasons other than the entity's
failure to perform as promised, the contract requires the Company to compensate the risk
advisory firm for its costs incurred plus a 15 per cent margin. The 15 per cent margin
approximates the profit margin that the entity earns from similar contracts.

Whether risk advisory firm’s performance obligation is met over period of time?

(Study material)

Answer

AFS has a single performance to provide an opinion on the professional audit services proposed
to be provided under the contract with the customer. Evaluating the criterion for recognising
revenue over a period of time or at a point in time, Ind AS 115 requires one of the following
criterion to be met –

• Criterion (a) – whether the customer simultaneously receives and consumes the benefits from
services provided by AFS: Company shall benefit only when the audit opinion is provided upon
completion. And in case the contract was to be terminated, any other firm engaged to perform
similar services will have to substantially re -per form.

Hence, this criterion is not met.

• Criterion (b) – An asset created that customer controls: This is service contract and no asset
created, over which customer acquires control.

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• Criterion (c) – no alternate use to entity and right to seek payment:

❖ The services provided by AFS are specific to the company – WBC and do not have any
alternate use to AFS

❖ Further, AFS has a right to enforce payment if contract was early terminated, for reasons
other than AFS’s failure to perform. And the profit margin approximates what entity otherwise
earns.

Therefore, criterion (c) is met and such performance obligation is said to be met over a period
of time.

Topic 11 : Discounting and Refunds

Question 31

ICAI Illustration

HT Limited enters into a contract with a customer on 1st April, 20X1 to sell Product X for Rs
1,000 per unit. If the customer purchases more than 100 units of Product A in a financial year,
the contract specifies that the price per unit is retrospectively reduced to Rs 900 per unit.
Consequently, the consideration in the contract is variable.

For the first quarter ended 30th June, 20X1, the entity sells 10 units of Product A to the
customer. The entity estimates that the customer's purchases will not exceed the 100 unit
threshold required for the volume discount in the financial year. HT Limited determines that
it has significant experience with this product and with the purchasing pattern of the
customer. Thus, HT Limited concludes that it is highly probable that a significant reversal in
the cumulative amount of revenue recognised (i.e. Rs 1,000 per unit) will not occur when the
uncertainty is resolved (i.e. when the total amount of purchases is known). Further, in May,

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20X1, the customer acquires another company and in the second quarter ended 30th
September, 20X1 the entity sells an additional 50 units of Product A to the customer. In the
light of the new fact, the entity estimates that the customer's purchases will exceed the 100
unit threshold for the financial year and therefore it will be required to retrospectively reduce
the price per unit to Rs 900. Determine the amount of revenue to be recognise by HT Ltd. for
the quarter ended 30th June, 20X1 and 30th September, 20X1.

(Study material)

Answer

The entity recognises revenue of Rs 10,000 (10 units × Rs 1,000 per unit) for the quarter ended
30th June, 20X1.

HT Limited recognises revenue of Rs 44,000 for the quarter ended 30th September, 20X1. That
amount is calculated from Rs 45,000 for the sale of 500 units (50 units x Rs 900 per unit) less
the change in transaction price of Rs 1,000 (10 units x Rs 100 price reduction) for the reduction
of revenue relating to units sold for the quarter ended 30th June, 20X1.

Question 32

ICAI Illustration

An entity that manufactures consumer goods enters into a one-year contract to sell goods to
a customer that is a large global chain of retail stores. The customer commits to buy at least
Rs 15 crore of products during the year.

The contract also requires the entity to make a non- refundable payment of Rs 1.5 crore to
the customer at the inception of the contract. The Rs 1.5 crore payment will compensate the
customer for the changes it needs to make to its shelving to accommodate the entity's

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products. The entity does not obtain control of any rights to the customer's shelves.
Determine the transaction price.

(Study material)

Answer

The entity considers the requirements in paragraphs 70 – 72 of Ind AS 115 and concludes that
the payment to the customer is not in exchange for a distinct good or service that transfers to
the entity. This is because the entity does not obtain control of any rights to the customer's
shelves. Consequently, the entity determines that, in accordance with paragraph 70 of Ind AS
115, the Rs 1.5 crore payment is a reduction of the transaction price.

The entity applies the requirements in paragraph 72 of Ind AS 115 and concludes that the
consideration payable is accounted for as a reduction in the transaction price when the entity
recognises revenue for the transfer of the goods. Consequently, as the entity transfers goods to
the customer, the entity reduces the transaction price for each good by 10 per cent [(Rs 1.5
crore ÷ Rs 15 crore) x 100]. Therefore, in the first month in which the entity transfers goods to
the customer, the entity recognises revenue of Rs 1.125 crore (Rs 1.25 crore invoiced amount
less Rs 0.125 crore of consideration payable to the customer).

Question 33

ICAI Illustration

On 1st April, 20X0, a consultant enters into an arrangement to provide due diligence,
valuation, and software implementation services to a customer for Rs 2 crore. The consultant
can earn Rs 20 lakh bonus if it completes the software implementation by 30th September,
20X0 or Rs 10 lakh bonus if it completes the software implementation by 31st December,
20X0.

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The due diligence, valuation, and software implementation services are distinct and therefore
are accounted for as separate performance obligations. The consultant allocates the
transaction price, disregarding the potential bonus, on a relative stand-alone selling price
basis as follows:

Due diligence – Rs 80 lakh

Valuation – Rs 20 lakh

Software implementation – Rs 1 crore

At contract inception, the consultant believes it will complete the software implementation
by 30th January, 20X1. After considering the factors in Ind AS 115, the consultant cannot
conclude that a significant reversal in the cumulative amount of revenue recognized would
not occur when the uncertainty is resolved since the consultant lacks experience in
completing similar projects. As a result, the consultant does not include the amount of the
early completion bonus in its estimated transaction price at contract inception.

On 1st July, 20X0, the consultant notes that the project has progressed better than expected
and believes that implementation will be completed by 30th September, 20X0 based on a
revised forecast. As a result, the consultant updates its estimated transaction price to reflect
a bonus of Rs 20 lakh.

After reviewing its progress as of 1st July, 20X0, the consultant determines that it is 100
percent complete in satisfying its performance obligations for due diligence and valuation
and 60 percent complete in satisfying its performance obligation for software
implementation.

Determine the transaction price.

(Study material)

Answer

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On 1st July, 20X0, the consultant allocates the bonus of Rs 20 lakh to the software
implementation performance obligation, for total consideration of Rs 1.2 crore allocated to that
performance obligation, and adjusts the cumulative revenue to date for the software
implementation services to Rs 72 lakh (60 percent of Rs 1.2 crore).

Topic 12 : Multiple Elements in a Contract

Question 34

ICAI Illustration

An entity, a software developer, enters into a contract with a customer to transfer a software
license, perform an installation service and provide unspecified software updates and
technical support (online and telephone) for a two-year period. The entity sells the license,
installation service and technical support separately. The installation service includes
changing the web screen for each type of user (for example, marketing, inventory
management and information technology). The installation service is routinely performed by
other entities and does not significantly modify the software. The software remains
functional without the updates and the technical support. Determine how many performance
obligations does the entity have?

(Study material)

Answer

The entity assesses the goods and services promised to the customer to determine which goods
and services are distinct. The entity observes that the software is delivered before the other
goods and services and remains functional without the updates and the technical support.
Thus, the entity concludes that the customer can benefit from each of the goods and services

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either on their own or together with the other goods and services that are readily available. The
entity also considers the factors of Ind AS 115 and determines that the promise to transfer each
good and service to the customer is separately identifiable from each of the other promises. In
particular, the entity observes that the installation service does not significantly modify or
customise the software itself and, as such, the software and the installation service are
separate outputs promised by the entity instead of inputs used to produce a combined output.

On the basis of this assessment, the entity identifies four performance obligations in the
contract for the following goods or services:

• The software license

• An installation service

• Software updates

• Technical support

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 Chapter 10 Unit-1

Ind AS 41: “Agriculture”

Topic 1 : Introduction to Ind AS 41 & Scope

Question 1

Analyze whether the following activities fall within the scope of Ind AS 41 with proper
reasoning:

• Managing animal-related recreational activities like Zoo

• Fishing in the ocean

• Fish farming

• Development of living organisms such as cells, bacteria and viruses

• Growing of plants to be used in the production of drugs

• Purchase of 25 dogs for security purpose of the company’s premises

(MTP Sep’22 & Oct ‘23, RTP May ’21)

Answer 1

Activity Whether in Remarks

the scope of
Ind AS 41?

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Managing animal-related No Since the primary purpose is to show the
recreational activities like Zoo animals to public for recreational
purposes, there is no management of
biological transformation but simply
control of the number of animals. Hence it
will not fall in the purview of considered in
the definition of agricultural activity.

Fishing in the ocean No Fishing in ocean is harvesting biological

assets from unmanaged sources. There is
no management of biological
transformation since fish grow naturally in
the ocean. Hence, it will not fall in the
scope of the definition of agricultural
activity.

Fish farming Yes Managing the growth of fish and then

harvest for sale is agricultural activity
within the scope of Ind AS 41 since there is
Management of biological transformation
of biological assets for sale or additional
biological assets

Development of living organisms Analysis The development of living organisms for

such as cells, bacteria viruses required research purposes does not qualify as
agricultural activity, as those organisms
are not being developed for sale, or for
conversion into agricultural produce or
into additional biological assets. Hence,
development of such organisms for the

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 said purposes does not fall under the
scope of Ind AS 41. However, if the
organisms are being developed for sale or
use in dairy products the activity will be
considered as agricultural activity under
the scope of Ind AS 41.

Growing of plants to be used in Yes If an entity grows plants for using it in

the production of drugs production of drugs, the activity will be
agricultural activity. Hence it will come
under the scope of Ind AS 41.

Purchase of 25 dogs for security No Ind AS 41 is applied to account for the

purposes of the company’s biological assets when they relate to
premises. agricultural activity. Guard dogs for
security purposes do not qualify as
agricultural activity, since they are not
being kept for sale, or for conversion into
agricultural produce or into additional
biological assets. Hence, they are outside
the scope of Ind AS 41

Question 2

Fisheries Ltd. practices pisciculture in sweet waters (ponds, tanks and dams). The fishing
activity of Fisheries Ltd. in such sweet waters consists only of catching the fishes. Comment
whether such fishing activity will be covered within the scope of Ind AS 41?

(RTP May ’23)

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Answer 2

Paragraph 5 of Ind AS 41, defines agricultural activity as follows:

“Agricultural activity is the management by an entity of the biological transformation and

harvest of biological assets for sale or for conversion into agricultural produce or into additional
biological assets.” For fishing to qualify as agricultural activity, it must satisfy both of the below
mentioned conditions:

a) management of biological transformation of a biological asset; and

b) harvesting of biological assets for sale or for conversion into agricultural produce or into
additional biological assets.

Therefore, when fishing involves managed activity to grow and procreate fishes in designated
areas, such fishing is an agricultural activity as per the above definition.

Managing the growth of fish for subsequent sale is an agricultural activity as per Ind AS 41.

In the aforementioned scenario, only fish harvesting is managed by Fisheries Ltd.

Therefore, mere fish harvesting without management of biological transformation cannot be

termed as an agricultural activity as per Ind AS 41.

Hence, fishing in sweet waters (pond, tanks and dams) where only fishing (harvesting) is carried
out without any management of biological transformation is outside the scope of Ind AS 41.

Question 3

M. Chinnaswamy & Brothers Ltd. is a company that is engaged in growing and maintaining
coconut palms and selling their output in various forms. The company has a farmland having
2,00,000 coconut palms in the coastal area of Karnataka near Mangalore.

[Link]
The fair value of each coconut palm is derived based on the average realisable price of Rs 30
per nut (fruit). Each coconut palm grows 80 nuts per annum on an average basis. Each
coconut palm can generate revenue for as long as 80 years and the current palms are only 20-
year-old. The management thinks that considering the risk factors in business, the valuation
of each palm can be considered at 5 times its annual revenue.

During August, 20X5, the Ooty Hotels Association (OHA) chairman and his team visited the
corporate office of the company at Mangalore. The deal was to supply tender coconuts to
Ooty Hotels at an agreed price throughout the year. The agreement came into effect from 1st
September, 20X5 whereby the company shall reserve 15,000 coconut palms (out of 2,00,000
coconut palms) for OHA and will charge a concessional rate of Rs 15 only per nut supplied to
OHA. OHA will in turn supply the tender coconuts to each Ooty Hotel at the same price. This
contract price is applicable irrespective of the ownership of palm trees (it is not an entity
specific restriction). All tender coconuts of these 15,000 coconut palms were used by OHA
irrespective of the agreement being effective from 1st September, 20X5.

What will be the valuation of 2,00,000 coconut palms in the company’s farm for the quarter
ended 30th September, 20X5?

(RTP Nov ’23)

Answer 3

Para 16 of Ind AS 41 says that entities often enter into contracts to sell their biological assets or
agricultural produce at a future date. Contract prices are not necessarily relevant in measuring
fair value, because fair value reflects the current market conditions in which buyers and sellers
would enter into a transaction. As a result, the fair value of a biological asset or agricultural
produce is not adjusted because of the existence of a contract.

Moreover, the OHA contract represents just 7.5% [(15,000 / 2,00,000) 100] of the total
number of palms in the farm. Hence, the contract price can’t be considered for fair valuation of
the entire inventory of bearer plants.

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The valuation in this case would be as follows:

Adding the fair value for 15,000 coconut palm (15,000 palm 80 nuts Rs 15 5 times) and
1,85,000 coconut palm (1,85,000 palm 80 nuts Rs 30 5 times), we get total valuation of
2,00,000 coconut palm as Rs 231 crore.

Question 4

ABC Ltd. is in the business of manufacturing an apple beverage and requires large quantity of
apples to manufacture such beverage. In order to satisfy its requirement of apples, it enters
into 3 years lease contracts with owners of apple orchards. The lease contracts are mainly of
two types:

(1) Contract 1: The owner of the apple orchard (i.e. the lessor) raises the apple trees to
produce apples. ABC Ltd. (i.e. lessee) makes a fixed annual payment to the owner of the
apple orchard who is required to cultivate the produce as per the specifications of ABC Ltd.
ABC Ltd. harvests the apples itself for fulfilling its requirement of apples.

(2) Contract 2: ABC Ltd. obtains the apple orchard from owner (i.e. the lessor) to raise the
apple trees for subsequent harvest of the apples to ensure that the apples are as per the
requirements of ABC Ltd. ABC Ltd. makes a fixed annual payment to the owner of the apple
orchards (i.e. the lessor).

Explain whether ABC Ltd. is engaged in agricultural activity as per Ind AS 41 in both of the
cases?

(RTP Nov’22)

Answer 4

Paragraph 5 of Ind AS 41, Agriculture defines agricultural activity and biological transformation
as follows:

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“Agricultural activity is the management by an entity of the biological transformation and
harvest of biological assets for sale or for conversion into agricultural produce or into additional
biological assets.” “Biological transformation comprises the processes of growth, degeneration,
production, and procreation that cause qualitative or quantitative changes in a biological
asset.”

Contract 1:

As per contract 1, during the 3 years of the contract, ABC Ltd. only harvests apples from the
apple orchards whereas biological transformation is managed by the owners of the apple
orchards (i.e. the lessor). Since ABC Ltd. is not involved in the biological transformation of the
apple orchards and is only harvesting biological assets, it cannot be said to be an agricultural
activity as per Ind AS 41. Hence, ABC Ltd. is not engaged in agricultural activity as per Ind AS 41.

Contract 2:

As per contract 2, ABC Ltd. obtains the apple orchards and is actively involved in the raising of
apple trees in order to ensure that the apples are as per its requirements. Since, it is actively
managing the biological transformation and harvest of biological asset, Hence, ABC Ltd. is
engaged in agricultural activity as per Ind AS 41.

Question 5

ICAI Illustration

ABC Ltd grows vines, harvests the grapes and produces wine. Which of these activities are in
the scope of Ind AS 41?

(Study material)

Answer

[Link]
The grape vines are bearer plants that continually generate crops of grapes which arecovered
by Ind AS 16, Property, Plant and Equipment. When the entity harvests the grapes, their
biological transformation ceases and they become agricultural produce covered by Ind AS 41,
Agriculture. Wine involves a lengthy maturation period. This process is similar to the conversion
of raw materials to a finished product rather than biological transformation hence treated as
inventory in accordance with Ind AS 2, Inventories.

Topic 2 : Definition of Biological Assets & Agricultural Produce

Question 6

Moon Ltd prepares financial statements to 31st March, each year. On 1st April 20X1 the
company carried out the following transactions:

-- Purchased a land for Rs 50 Lakhs.

-- Purchased 200 dairy cows (average age at 1st April, 20X1 is 2 years) for Rs 10 Lakhs.

-- Received a grant of Rs 1 million towards the acquisition of the cows. This grant was non-
refundable.

For the year ending 31st March, 20X2, the company has incurred following costs:

-- Rs 6 Lakh to maintain the condition of the animals (food and protection).

-- Rs 4 Lakh as breeding fee to a local farmer.

On 1st October, 20X1, 100 calves were born. There were no other changes in the number of
animals during the year ended 31st March, 20X2. As of 31st March, 20X2, Moon Ltd had 3,000
litres of unsold milk in inventory. The milk was sold shortly after the year end at market
prices.

[Link]
Information regarding fair values is as follows:

Item Fair Value less cost to sell

1st April, 20X1 1st October, 31st

20X1 March,
20X2

Rs Rs Rs

Land 50 Lakhs 60 Lakhs 70 Lakhs

New born calves (per calf) 1,000 1,100 1,200

Six month old calves (per calf) 1,100 1,200 1,300

Two year old cows (per cow) 5,000 5,100 5,200

Three year old cows (per cow) 5,200 5,300 5,500

Milk (per litre) 20 22 24

Prepare extracts from the Balance Sheet and Statement of Profit & Loss that would be
reflected in the financial statements of the entity for the year ended 31st March, 20X2.

(PYP Jul’21)

Answer 6

Extract from the Statement of Profit & Loss

WN Amount

Income

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Change in fair value of purchased dairy cow WN 2 1,00,000

Government Grant WN 3 10,00,000

Change in the fair value of newly born calves WN 4 1,30,000

Fair Value of Milk WN 5 72,000

Total Income 13,02,000

Expenses

Maintenance Costs WN 2 6,00,000

Breeding Fees WN 2 4,00,000

Total Expense (10,00,000)

Net Income 3,02,000

Extracts from Balance Sheet

Property, Plant and Equipment:

Land WN 1 50,00,000

Biological assets other than bearer plants:

Dairy Cow WN 2 11,00,000

Calves WN 4 1,30,000

Inventory: 62,30,000

Milk WN 5 72,000

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 72,000

Working Notes:

1. Land: The purchase of the land is not covered by Ind AS 41. The relevant standard which
would apply to this transaction is Ind AS 16. Under this standard the land would initially be
recorded at cost and depreciated over its useful economic life. This would usually be considered
to be infinite in the case of land and so no depreciation would be appropriate. Under Cost
Model no recognition would be made for post-acquisition changes in the value of land. The
allowed alternative treatment under Revaluation Model would permit the land to be revalued
to market value with the revaluation surplus taken to the other comprehensive income. We
have followed the Cost Model.

2. Dairy Cows: Under the ‘fair value model’ laid down in Ind AS 41 the mature cows would be
recognised in the Balance Sheet at 31st March, 20X2 at

the fair value of 200 Rs 5,500 = Rs 11,00,000.

Increase in price change 200 (5,200-5,000) = 40,000

Increase in physical change 200 (5,500-5,200) = 60,000

The total difference between the fair value of matured herd and its initial cost (Rs 11,00,000 –
Rs 10,00,000 = a gain of Rs 1,00,000) would be recognised in the profit and loss along with the
maintenance costs and breeding fee of Rs 6,00,000 and Rs 4,00,000 respectively.

3. Grant: Grant relating to agricultural activity is not subject to the normal requirement of Ind
AS 20. Under Ind AS 41 such grants are credited to income as soon as they are unconditionally
receivable rather than being recognised over the useful economic life of the herd. Therefore, Rs
10,00,000 would be credited to income of the company.

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4. Calves: They are a biological asset and the fair value model is applied. The breeding fees are
charged to income and an asset of 100 Rs 1,300 = Rs 1,30,000 recognised in the Balance
sheet and credited to Profit and loss.

5. Milk: This is agricultural produce and initially recognised on the same basis as biological
assets. Thus the milk would be valued at 3,000 Rs 24 = Rs 72,000.

This is regarded as ‘cost’ for the future application of Ind AS 2 to the unsold milk.

Question 7

ABC Ltd. is into dairy farm. Cows are milked on a daily basis. After milking, milk is
immediately kept in cold storage. The milk is sold to retail distributors on a weekly basis.

On 1st April, 2022, ABC Ltd. had 500 cows which were all 3 years old. During the financial year
2022-2023, some of the cows became sick and on 30th September, 2022, 20 cows died. On 1st
October, 2022, ABC Ltd. purchased 20 replacement cows from the market for Rs 63,000 each.
These 20 cows were all 1- year-old when they were purchased.

On 31st March, 2023, ABC Ltd. had 1,000 litres of milk in cold storage which had not been
sold to retail distributors. The market price of milk as at 31st March, 2023 was Rs 60 per litre.
While selling the milk to distributors, ABC Ltd. Incurs selling costs of Rs 3 per litre. These
amounts did not change during March, 2023 and are not expected to change during April,
2023. Information relating to fair value and costs to sell is given below:

Date Fair value of a dairy cow aged Cost to sell a

cow

1 year 1.5 year 3 years 4 years

1.4.2022 60,000 66,000 81,000 75,000 3,000

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 1.10.2022 63,000 69,000 84,000 78,000 3,000

31.3.2023 64,500 70,500 87,000 79,500 3,300

You can assume that fair value of 3.5 year old cow as on 30th September, 2022 isRs 81,000.

Provide necessary journal entries in the books of account with respect to cows for above
events & transactions in the financial statements of ABC Ltd. as at-

(i) 30th September, 2022;

(ii) 1st October, 2022 and

(iii) 31st March, 2023.

Also determine the value of milk inventory as at 31st March, 2023.

(PYP May ‘23)

Answer 7

Journal Entries (All figures in Rs)

[Link] Date Particulars Dr. Cr.

(i) 30th September, Loss (on death of 20 cows) (Refer Dr. 15,60,000
2022 W.N.)

To Biological asset (Loss booked 15,60,000

on death of 20 cows)

(ii) 1st October, 2022 Biological Asset (purchase of 20 Dr. 12,00,000

new cows) (Refer W.N.)

Loss on initial recognition (of 20 Dr. 60,000

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 new cows)

To Bank 12,60,000

(iii) 31st March, 2023 (Initial recognition of 20 new Dr. 8,64,000

purchased cows at fair value less
costs to sell)

Loss on remeasurement of old

cows

To Biological asset [(3,90,00,000 8,64,000

– 15,60,000) – 3,65,76,000]

(Subsequent measurement of Dr. 1,44,000

cows at fair value less costs to
sell)

Biological Asset (13,44,000 –

12,00,000)

To Gain on remeasurement of 1,44,000

new cows (Subsequent
measurement of cows at fair
value less costs to sell)

Inventory (Milk) as at 31st March, 2023 = Rs 57,000 [1,000 (60 – 3)]

Working Note:

Calculation of Biological asset at various dates

Date Number Age Fair Cost to Sell Net (Rs) Biological

[Link]
 Value (Rs) asset (Rs)
(Rs)

1st April, 2022 500 3 years 81,000 3,000 78,000 3,90,00,000

30th (20) 3.5 years 81,000 3,000 78,000 (15,60,000)

September,
2022

1st October, 20 1 year 63,000 3,000 60,000 12,00,000

2022

3,86,40,000

31st March, 480 4 years 79,500 3,300 76,200 3,65,76,000

2023

20 1.5 years 70,500 3,300 67,200 13,44,000

3,79,20,000

Question 8

XY Ltd. is a farming entity where cows are milked on a daily basis. Milk is kept in cold storage
immediately after milking and sold to retail distributors on a weekly basis. On 1 April 20X1,
XY Ltd. had a herd of 500 cows which were all three years old.

During the year, some of the cows became sick and on 30 September 20X1, 20 cows died. On
1 October 20X1, XY Ltd. purchased 20 replacement cows from the market for Rs 21,000 each.
These 20 cows were all one year old when they were purchased.

On 31 March 20X2, XY Ltd. had 1,000 litres of milk in cold storage which had not been sold to
retail distributors. The market price of milk at 31 March 20X2 was Rs 20 per litre. When

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selling the milk to distributors, XY Ltd. incurs selling costs of Rs 1 per litre. These amounts did
not change during March 20X2 and are not expected to change during April 20X2.

Information relating to fair value and costs to sell is given below:

Date Fair value of a dairy cow (aged) Costs to sell a

cow

1 year 1.5 years 3 years 4 years

1st April 20X1 20,000 22,000 27,000 25,000 1,000

1st October 20X1 21,000 23,000 28,000 26,000 1,000

31st March 20X2 21,500 23,500 29,000 26,500 1,100

You can assume that fair value of a 3.5 years old cow on 1st October 20X1 is Rs 27,000.

Pass necessary journal entries of above transactions with respect to cows in the financial
statements of XY Ltd. for the year ended 31st March, 20X2? Also show the amount lying in
inventory if any.

(Study material)

Answer 8

1. Journal Entries on 1st October, 20X1 (All figures in Rs)

Loss (on death of 20 cows) (Refer W.N.) Dr. 5,20,000

To Biological asset 5,20,000

(Loss booked on death of 20 cows)

Biological Asset (purchase of 20 new cows) (Refer W.N.) Dr. 4,00,000

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Loss on initial recognition (of 20 new cows) Dr. 20,000

To Bank 4,20,000

(Initial recognition of 20 new purchased cows at fair value less

costs to sell)

Journal Entries on 31st March, 20X2

Loss on remeasurement of old cows Dr. 2,88,000

To Biological asset 2,88,000

[(1,30,00,000 – 5,20,000) – 1,21,92,000]

(Subsequent measurement of cows at fair value less costs to

sell)

Biological Asset (4,48,000 – 4,00,000) Dr. 48,000

To Gain on remeasurement of new cows 48,000

(Subsequent measurement of cows at fair value less costs to

sell)

Inventory (Milk) as at 31st March, 20X2 = Rs 19,000 [1,000 x (20 – 1)]

Working Note:

Calculation of Biological asset at various dates

Date Number Age Fair Value Cost to Sell Net (Rs) Biological

[Link]
 (Rs) (Rs) asset (Rs)

1st April 20X1 500 3 years 27,000 1,000 26,000 1,30,00,000

1st October (20) 3.5 years 27,000 1,000 26,000 (5,20,000)

20X1

1st October 20 1 year 21,000 1,000 20,000 4,00,000

20X1

1,28,80,000

31st March 480 4 years 26,500 1,100 25,400 1,21,92,000

20X2

20 1.5 years 23,500 1,100 22,400 4,48,000

1,26,40,000

Topic 3 : Initial Recognition & Cost to Sell

Question 9

Entity A purchased cattle at an auction on 30th June 20X1

Purchase price at 30th June 20X1 Rs 1,00,000

Costs of transporting the cattle back to the entity’s farm Rs 1,000

Sales price of the cattle at 31st March, 20X2 Rs 1,10,000

The company would have to incur similar transportation costs if it were to sell

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the cattle at auction, in addition to an auctioneer’s fee of 2% of sales price.

The auctioneer charges 2% of the selling price, from both, the buyer as well as

the seller.

Calculate the amount at which cattle is to be recognised in books on initial

recognition and at year end 31st March, 20X2.

(MTP Nov 21, RTP Nov’20)

Answer 9

Initial recognition of cattle

Particular Rs

Fair value less costs to sell (Rs1,00,000 – Rs1,000 - Rs2,000) 97,000

Cash outflow (Rs1,00,000 + Rs1,000 + Rs2,000) 1,03,000

Loss on initial recognition 6,000

Cattle Measurement at year end

Fair value less costs to sell (Rs1,10,000 – 1,000 – (2% 1,10,000)) 1,06,800

At 31st March, 20X2, the cattle is measured at fair value of Rs 1,09,000 less the estimated
auctioneer’s fee of Rs 2,200). The estimated transportation costs of getting the cattle to the
auction of Rs 1,000 are deducted from the sales price in determining fair value.

Question 10

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On 1st November 2019, Crattle Agro Limited purchased 100 goats of special breed from a
market for Rs 10,00,000 with a transaction cost of 2%. Goats fair value decreased from Rs
10,00,000 to Rs 9,00,000 as on 31st March 2020.

Determine the fair value on the date of purchase and as on financial year ended 31st March
2020. Also pass relevant journal entries on 1st November 2019 and 31st March 2020.

(PYP Jan’21)

Answer 10

The fair value less cost to sell of goats on the date of purchase i.e.

on 1st November, 2019, would be Rs 9,80,000 (10,00,000-20,000). Expense of Rs 20,000 would

be recognized in profit and loss.

On date of Purchase

Biological Asset Dr. 9,80,000

Expense on initial recognition Dr. 20,000

To Bank 10,00,000

(Being biological asset purchased)

On 31st March, 2020 goats would be measured at Rs 8,82,000 as Biological Asset (9,00,000-
18,000) and loss of Rs 98,000 (9,80,000 - 8,82,000) would be recognized in profit or loss. At the
end of reporting period

Loss – Change in fair value Dr. 98,000

To Biological Asset 98,000 98,000

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(Being change in fair value recognized at the end of reporting
period)

Note: It is assumed that the transaction cost is borne by the seller.

Question 11

Entity A purchased cattle at an auction on 30th June 20X1

Purchase price at 30th June 20X1 Rs 1,00,000

Costs of transporting the cattle back to the entity’s farm Rs 1,000

Sales price of the cattle at 31st March, 20X2 Rs 1,10,000

The company would have to incur similar transportation costs if it were to sell the cattle at
auction, in addition to an auctioneer’s fee of 2% of sales price. The auctioneer charges 2% of
the selling price, from both, the buyer as well as the seller. Calculate the amount at which
cattle is to be recognised in books on initial recognition and at year end 31st March, 20X2.

(Study material)

Answer 11

Initial recognition of cattle

Rs

Fair value less costs to sell (Rs 1,00,000 – Rs 1,000 - Rs 2,000) 97,000

Cash outflow (Rs 1,00,000 + Rs 1,000 + Rs 2,000) 1,03,000

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Loss on initial recognition 6,000

Cattle Measurement at year end

Fair value less costs to sell (Rs 1,10,000 – 1,000 – (2% 1,10,000)) 1,06,800

At 31st March, 20X2, the cattle is measured at fair value of Rs 1,09,000 less the estimated
auctioneer’s fee of Rs 2,200). The estimated transportation costs of getting the cattle to the
auction of Rs 1,000 are deducted from the sales price in determining fair value.

Question 12

Company X purchased 100 goats at an auction for Rs 1,00,000 on 30 September 20X1.

Subsequent transportation costs were Rs 1,000 that is similar to the cost X would have to
incur to sell the goat at the auction. Additionally, there would be a 2% selling fee on the
market price of the goat to be incurred by the seller. On 31 March 20X2, the market value of
the goat in the most relevant market increases to Rs 1,10,000. Transportation costs of Rs
1,000 would have to be incurred by the seller to get the goat to the relevant market. An
auctioneer’s fee of 2% on the market price of the goat would be payable by the seller.

On 1 June 20X2, X sold 18 goats for Rs 20,000 and incurred transportation charges of Rs 150.
In addition, there was a 2% auctioneer’s fee on the market price of the goat paid by the
seller.

On 15 September 20X2, the fair value of the remaining goat was Rs 82,820. 42 goats were
slaughtered on that day, with a total slaughter cost of Rs 4,200. The total market price of the
carcasses on that day was Rs 48,300, and the expected transportation cost to sell the
carcasses is Rs 420. No other costs are expected.

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On 30 September 20X2, the market price of the remaining 40 goat was Rs 44,800. The
expected transportation cost is Rs 400. Also, there would be a 2% auctioneer’s fee on the
market price of the goat payable by the seller.

Pass Journal entries so as to provide the initial and subsequent measurement for all above
transactions. Interim reporting periods are of 30 September and 31 March and the company
determines the fair values on these dates for reporting.

(Study material)

Answer 12

1. Value of goat at initial recognition (30 September 20X1) (All figures are in Rs)

Biological asset (goat) Dr. 97,000*

Loss on initial recognition Dr. 4,000

To Bank (Purchase and cost of transportation) 1,01,000

(Initial recognition of goat at fair value less costs to sell)

*Fair value of goat = 1,00,000 – 1,000 – 2,000 (2% of 1,00,000) = 97,000

Subsequent measurement at 31 March 20X2 (All figures are in Rs)

Biological Assets (Goat) Dr. 9,800

To Gain on Sale (Profit & Loss) 9,800

(Subsequent measurement of Goat at fair value less costs to sell

(1,06,800 – 97,000))

Fair value of goat = 1,10,0000 – 1,000 – 2,200 (2% of 1,10,000) = 1,06,800

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Sale of goat on 1 June 20X2 (All figures are in Rs)

Biological Assets (Goats) Dr. 226

To Gain on Sale (Profit & Loss) 226

(Subsequent re-measurement of 18 goats at fair value less costs

to sell just prior to the point at which they are sold [19,450 -
{(1,06,800/100) x 18}])

Cost to Sales Dr. 19,450

To Biological Assets (Goats) 19,450

(Recording a cost of sales figure separately with a corresponding

reduction in the value of the biological assets)

Bank Dr. 19,450

Selling expenses (150 + 400) Dr. 550

To Revenue 20,000

(Recognition of revenue from sale of goat)

Transfer of Goat to Inventory on 15 September 20X2 (All figures are in Rs)

Inventory (48,300 - 420) Dr. 47,880

Loss on remeasurement Dr. 1,176

To Biological Asset (Goats) 44,856#

To Bank (Slaughtering cost) 4,200

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(Transfer of goat to inventory)

#Note: 44,856 is calculated as the proportion of goat sold using the fair value [(1,06,800+ 226 –
19,450) 42/82]

Subsequent measurement of goat at 30 September 20X2 (All figures are in Rs)

Biological Asset (Goats) Dr. 784

To Gain on remeasurement 784

(Subsequent measurement of goat at fair value less costs to sell

[43,504## – {(1,06,800 + 226 – 19,450) – 44,856}]

##Fair value of goat = 44,800 – 400 – 896 (2% of 44,800) = 43,504.

Question 13

On 1st November, 20X1, C Agro Ltd. purchased 100 goats of special breed from a market for
Rs 10,00,000 with a transaction cost of 2%. Goats fair value decreased from Rs 10,00,000 to
Rs 9,00,000 as on 31st March, 20X2.

Determine the fair value on the date of purchase and as on financial year ended 31st March,
20X2 under both the cases viz-

(i) the transaction costs are borne by the seller and

(ii) the transaction costs are incurred by the seller and purchaser both. Also pass journal
entries under both the situations on both dates.

(Study material)

Answer 13

[Link]
As per para 12 of Ind AS 41, a biological asset shall be measured on initial recognition and at the
end of each reporting period at its fair value less costs to sell. Therefore, regardless of who
bears the transaction costs, the transaction costs of 2% are the costs to sell the goats on 1st
November 20X1, and therefore, the goats should be measured at their fair value less costs to
sell on initial recognition date, i.e., Rs 9,80,000.

Journal Entry

As on 1st November 20X1:

(i) Where transaction costs are borne by the seller:

Biological assets (Goats) A/c Dr. 9,80,000

Loss on purchase of biological assets (Goats) A/c Dr. 20,000

To Bank A/c 10,00,000

(ii) Where transaction costs are borne by the buyer:

Biological assets (Goats) A/c Dr. 9,80,000

Loss on purchase of biological asset (Goats) A/c Dr. 40,000

To Bank A/c 10,20,000

As on 31 March 20X2 – under both the scenarios:

Loss on fair valuation of biological assets A/c Dr. 98,000

To Biological assets (Goats) A/c 98,000

[9,80,000 - (9,00,000 - 18,000)]

[Link]
Question 14

ICAI Illustration

XYZ Ltd., on 1st December, 20X3, purchased 100 sheep from a market for Rs 5,00,000. The
transaction cost of 2% on the market price of the sheep was incurred which was paid by the
seller. Sheep’s fair value increased from Rs 500,000 to Rs 600,000 on 31st March, 20X4.
Transaction cost of 2% would have to be incurred by the seller to get the sheep to the
relevant market.

Determine the fair value on the date of purchase and the reporting date and pass necessary
journal entries thereon.

(Study material)

Answer

The fair value less cost to sell of sheep’s on the date of purchase would be Rs 4,90,000
(5,00,000- 10,000). Expense of Rs 10,000 would be recognised in profit and loss.

On date of Purchase

Biological Asset Dr 4,90,000

Loss on initial recognition Dr. 10,000

To Bank 5,00,000

(Being biological asset purchased)

On 31st March, 20X4 sheep would be measured at Rs 5,88,000 as Biological Asset (6,00,000-
12,000) and gain of Rs 98,000 (5,88,000 - 4,90,000) would be recognised in profit or loss.

[Link]
At the end of reporting period

Biological Asset Dr. 98,000

To Gain – Change in fair value 98,000

(Being change in fair value recognised at the end of reporting

Topic 4 : Subsequent Measurement & Fair Value Changes

Question 15

A farmer owned a dairy herd of three years old cattle as at 1st April, 20X1 with a fair value of
Rs. 13,750 and the number of cattle in the herd was 250. The fair value of three year cattle as
at 31st March, 20X2 was Rs. 60 per cattle. The fair value of four year cattle as at 31st March,
20X2 is Rs. 75 per cattle.

Calculate the measurement of group of cattle as at 31st March, 20X2 stating price and
physical change separately.

(MTP April ’21)

Answer 15

Particulars Amount (Rs.)

Fair value as at 1st April, 20X1 13,750

Increase due to Price change [250 x {60 - (13,750/250)}] 1,250

Increase due to Physical change [250 x {75-60}] 3,750

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Fair value as at 31st March, 20X2 18,750

Topic 5 : Price vs Physical Change Analysis

Question 16

A herd of 15, 4-year-old cows valued at 500 thousand per cow were held in 'M Dairy Farm' as
at 1st April 2021. The following transactions took place on 1st October, 2021:

(A) One cow aged 4.5 years was purchased for 520 thousands.

(B) One calf was born.

No cow was sold or disposed off during the year.

The per cow/calf fair value less cost to sell was as follows: Rs in thousands

4 year old cow on 1st April 2021 500

New born calf on 1st October 2021 400

4.5 year old cow on 1st October 2021 520

New born calf on 31st March, 2022 410

0.5 year old calf on 31st March, 2022 440

4 year old cow on 31st March, 2022 516

4.5 year old cow on 31st March, 2022 540

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5 year old cow on 31st March, 2022 560

You are required to:

(i) Calculate change in fair value less costs to sell showing:

(a) The portion attributable to physical changes

(b) The portion attributable to price changes.

(ii) Calculate the carrying cost of the herd as on 31st March, 2022.

(iii) Prepare an extract of the livestock account for the year ended 31st March, 2022.

(PYP Nov 22)

Answer 16

(i) Change in fair value less costs to sell, due to physical change and price change:

Fair value less costs to sell of herd at 1st April 2021 (15 500) 7,500

Purchase on 1st October 2021 (1 520) 520

(a) Increase in fair value less costs to sell due to price change:

15 cows (516 – 500) 240

1 cows (540 – 520) 20

1 calf (410 – 400) 10 270

(b) Increase in fair value less costs to sell due to physical change:

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 15 cows (560 – 516) 660

1 cows (560 – 540) 20

1 calf (440 – 410) 30

1 calf 400 (Gain on initial recognition) 400 1,110

9,400

(ii) Calculation of carrying cost of herd as on 31st March 2022 i.e. Fair value less costs to sell
of herd at 31st March 2022

16 560 8,960

1 440 440 9,400

(iii) Extract of Livestock Account for the year 31st March 2022

Particulars Amount (Rs in Particulars Amount (Rs in

000) 000)

To Opening Stock 7500 By Closing Balance 9,400

To Purchases (1 520) 520

To Increase in fair value (Price 270

Changes)

To Increase in fair value 1,110

(Physical Changes)

Total 9,400 Total 9,400

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Topic 6 : Government Grants under Ind AS 41

Question 17

ICAI Illustration

Agro Foods Ltd. runs a poultry farm business. It has received a government grant from the
government for setting up a new poultry unit in a backward area. Agro Foods Ltd used the
amount of government grants to buy the first batch of broiler birds, incubators etc. The
broiler birds are measured at fair value less costs to sell. However, the incubator machine is
measured as per the cost model in Ind AS 16. As such there are no conditions attached to the
release of the government grants pertaining to purchase of poultry birds. However, as
regards the investment in incubators and other related plant and machinery items, the
government grant contains a condition that the plant and machinery item should be used for
a minimum period of 3 years. The useful life of the incubator machine has also been
determined to be 3 years in accordance with the management estimate of the time period
over which the economic benefits embedded in the incubator machine shall be consumed.

Advise the accounting requirements prescribed in Ind AS 41 Agriculture and Ind AS 20

Accounting for Government Grants and Disclosure of Government Assistance in respect of
both the government grants?

(Study material)

Answer

Ind AS 41 requires an unconditional government grant related to a biological asset measured at

its fair value less costs to sell to be recognised in profit or loss when, and only when, the
government grant becomes receivable. Accordingly, the amount of government grant

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attributable to the broiler birds which qualify as a biological bird shall be recognized in profit or
loss account when the grant becomes receivable. If a government grant is conditional, including
when a government grant requires an entity not to engage in specified agricultural activity, an
entity should recognize the government grant in profit or loss when, and only when, the
conditions attaching to the government grant are met. This provision of Ind AS 41 is not
applicable as we have been informed that there are no conditions attached to the release of
the government grant pertaining to broiler birds. In the given case, the grant related to broiler
birds has already been received for the purpose of providing immediate financial support to the
entity with no future related conditions to be fulfilled Accordingly, the grant relating to broiler
birds is to be recognized in profit and loss in the period in which it is received. If a government
grant relates to a biological asset measured at its cost less any accumulated depreciation and
any accumulated impairment losses, the entity applies Ind AS 20 Accounting for Government
Grants and Disclosure of Government Assistance. The incubator machine does not qualify as a
biological asset as it is specifically covered by Ind AS 16 which states that plant and machinery
items used to develop or maintain biological assets is covered by Ind AS 16. Therefore, the
provisions relating to Government grants contained in Ind AS 41 will not apply to the incubator
machine. Therefore, we have to apply directly the provisions contained in IAS 20. Ind AS 20
contains two methods of presentation in financial statements of grants (or the appropriate
portions of grants) related to assets are regarded as acceptable alternatives:

• One method recognises the grant as deferred income that is recognized in profit or loss on a
systematic basis over the useful life of the asset.

• The other method deducts the grant in calculating the carrying amount of the asset. The grant
is recognized in profit or loss over the life of a depreciable asset as a reduced depreciation
expense.

Therefore, the grant relating to incubator machine will have to be accounted as a deferred
income that is recognized in Profit or loss on a systematic basis over a period of 3 years in line
with the condition attached to the grant. Alternatively, the grant may be deducted in
determining the carrying amount of the incubator. In such a case the grant is recognised in

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Profit or Loss over the 3-year useful life of the depreciable incubator machine as a reduced
depreciation expense.

Topic 7 : Special Cases: Bearer Plants, Plantations, Fish Farming

Question 18

As at 31st March, 20X1, a plantation consists of 100 Pinus Radiata trees that were planted 10
years earlier. The tree takes 30 years to mature, and will ultimately be processed into
building material for houses or furniture. The enterprise’s weighted average cost of capital is
6% p.a.

Only mature trees have established fair values by reference to a quoted price in an active
market. The fair value (inclusive of current transport costs to get 100 logs to market) for a
mature tree of the same grade as in the plantation is:

As at 31st March, 20X1: 171 As at 31st March, 20X2: 165

Assume that there would be immaterial cash flow between now and point of harvest. The
present value factor of Rs. 1 @ 6% for 19th year = 0.331 20th year = 0.312

State the value of such plantation as on 31st March, 20X1 and 20X2 and the gain or loss to be
recognized as per Ind AS.

(MTP Oct ’19, RTP Nov’18)

Answer 18

As at 31st March, 20X1, the mature plantation would have been valued at 17,100 (171 100).

As at 31st March, 20X2, the mature plantation would have been valued at 16,500 (165 100).

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Assuming immaterial cash flow between now and the point of harvest, the fair value (and
therefore the amount reported as an asset on the statement of financial position) of the
plantation is estimated as follows:

As at 31st March, 20X1: 17,100 0.312 = 5,335.20. As at 31st March, 20X2: 16,500 0.331 =
5,461.50.

Gain or loss

The difference in fair value of the plantation between the two-year end dates is 126.30
(5,461.50 – 5,335.20), which will be reported as a gain in the statement or profit or loss
(regardless of the fact that it has not yet been realised).

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 Chapter 10 Unit-2

Ind AS 20: “Accounting for Government Grants and Disclosure of Government

Assistance”

Topic 1 : Types of Government Grants

Question 1

ICAI Illustration

Government gives a grant of Rs 10,00,000 for past research of H1N1 vaccine to A

Pharmaceuticals Limited. There is no condition attached to the grant. Examine how the
Government grant be recognised in the books of A Pharmaceuticals Limited.

(Study material)

Answer

The entire grant should be recognised immediately in profit or loss.

Question 2

ICAI Illustration

Government gives a grant of Rs 10,00,000 for research and development of H1N1 vaccine to A
Pharmaceuticals Limited even though similar vaccines are available in the market but are
expensive. The entity has to ensure by developing a manufacturing process over a period of 2
years that the costs come down by at least 40%. Examine how the Government grant be

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recognised assuming that A Pharmaceuticals Limited has reasonable assurance that the
conditions attached to the grant will be complied with.

(Study material)

Answer

The entire grant should be recognised immediately as deferred income and charged to profit or
loss over a period of two years.

Question 3

Shagun Ltd. received two different grants from State Government as per details below:

A cash grant of Rs 24 lakh was received on 31st March, 2020 towards the skill development of
employees over a period of 18 months, starting from 1st April, 2020. Actual costs of the skill
development program in financial year 2020 -2021 was Rs 30 lakh and in financial year 2021-
2022 was Rs 20 lakh. State, how this grant should be accounted for in the books of account in
financial year 2019-2020, 2020-2021 & 2021-2022?

(PYP May ‘22)

Answer 3

At 31st March, 2020 the grant would be recognized as a liability and presented in the balance
sheet as a split between current and non-current amounts. Rs 16 lakh [(12 months / 18 month)
24 lakhs] is current and would be recognized in profit and loss for the year ended 31st March,
2021. The balance amount of Rs 8 lakh will be shown as non-current.

At the end of the year 2020-2021, there would be a current balance of Rs 8 lakh\ (being the
non-current balance at the end of year 2019-2020 reclassified as current) in the balance sheet.

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This would be recognised as profit in the statement of profit and loss for the year ended on
2021-2022.

2022 Balance Sheet (extracts) as at

31st March,2020 31st March,2021 31st March,2022

Current liabilities

Deferred income 16 lakh 8 lakh -

Non-current liabilities

Deferred income 8 lakh - -

Statement of Profit and Loss (extracts) for the year ended

31st March, 2021 31st March, 2022

Method 1 (As per para 29 of Ind AS 20)

Other Income - Government grant received 16 lakh 8 lakh

Training costs (30 lakh) (20 lakh)

Method 2 (Alternative) (As per para 29 of Ind AS 20)

Training costs (30 lakh – 16 lakh) 14 lakh

Training costs (20 lakh – 8 lakh) 12 lakh

Question 4

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How will you recognize and present the grants received from the Government in the
following cases as per Ind AS 20?

S Ltd. received Rs. 10 lakh for purchase of machinery costing Rs. 80 lakh.

Useful life of machinery is 10 years. Depreciation on this machinery is to be charged on

straight line basis.

Government gives a grant of Rs. 25 lakh to U Limited for research and development of
medicine for breast cancer, even though similar medicines are available in the market but are
expensive. The company is to ensure by developing a manufacturing process over a period of
two years so that the cost comes down at least to 50%.

(PYP Nov’18)(Certain adjustments similar to MTP PYP May’)

Answer 4

Rs. 10 lakh should be recognized by S Ltd. as deferred income and will be transferred to profit
and loss over the useful life of the asset. In this case, Rs. 1,00,000 [Rs. 10 lakh / 10 years] should
be credited to profit and loss each year over period of 10 years. (As per the Amendment in IND
AS 20 , If the company is following the policy of recognizing non-monetary grants at nominal
value, the company will not

recognize any government grant. The machinery will be recognized at Rs 70 Lakhs (80 lakhs – 10
lakhs). Reduced Depreciation will be charged to the statement of Profit or Loss)

(v) As per para 12 of Ind AS 20, the entire grant of Rs. 25 lakh should be recognized immediately
as deferred income and charged to profit and loss over a period of two years based on the
related costs for which the grants are intended to compensate provided that there is
reasonable assurance that U Ltd. will comply with the conditions attached to the grant.

Question 5

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A Ltd. received a government grant of 10,00,000 to defray expenses for environmental
protection. Expected environmental costs to be incurred is 3,00,000 per annum for the next 5
years. How should A Ltd. present such grant related to income in its financial statements?

(RTP May ’23)

Answer 5

As per paragraph 29 of Ind AS 20 ‘Accounting for Government Grants and Disclosure of

Government Assistance’, grants related to income are presented as part of profit or loss, either
separately or under a general heading such as ‘Other income’. Alternatively, they are deducted
in reporting the related expense.

In accordance with the above, presentation of grants related to income under both the
methods would be as follows:

Method 1: Credit in the Statement of Profit and Loss The entity can recognise the grant as
income on a straight-line basis i.e., Rs 2,00,000 per year in the statement of profit and loss
either separately or under the head “Other Income”.

This method considered on the contention that it would be inappropriate to present income
and expense items on a net basis and that separation of the grant from the expense would
facilitate comparison with other expenses not affected by a grant.

Method 2: As a deduction in reporting the related expense Since the grant relates to
environmental expenses incurred/to be incurred by the entity, it can present the grant by
reducing the grant amount every year from the related expense i.e., environmental expense of
1,00,000 (i.e., net expense Rs 3,00,000 – Rs 2,00,000).

This method is considered based on the contention that the expenses might well not have been
incurred by the entity if the grant had not been available and presentation of the expense
without offsetting the grant might therefore be misleading.

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The Standard regards both the methods as acceptable for the presentation of grants related to
income. However, method 2 may be more appropriate when the company can relate the grant
to a specific expenditure.

The Standard also provides that disclosure of the grant may be necessary for a proper
understanding of the financial statements. Disclosure of the effect of the grants on any item of
income or expense which is required to be separately disclosed is usually appropriate.

Question 6

A Limited received from the government a loan of Rs.1,00,00,000 @ 5% payable after 5 years
in a bulleted payment. The prevailing market rate of interest is 12%. Interest is payable
regularly at the end of each year. Calculate the amount of government grant and Pass
necessary journal entry. Also examine how the Government grant be realized. Also state how
the grant will be recognized in the statement of profit or loss assuming that the loan is to
finance a depreciable asset.

(MTP Aug ’18)

Answer 6

The fair value of the loan is calculated at Rs. 74,76,656.

Year Opening Balance Interest Calculated Interest paid @ 5% Closing Balance

@ 12% on Rs. 1,00,00,000 +
principal paid

(a) (b) (c) = (b) 12% (d) (e) =(b) + (c) – (d)

1 74,76,656 8,97,200 5,00,000 78,73,856

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 2 78,73,856 9,44,862 5,00,000 83,18,718

3 83,18,718 9,98,246 5,00,000 88,16,964

4 88,16,964 10,58,036 5,00,000 93,75,000

5 93,75,000 11,25,000 1,05,00,000 Nil

A Limited will recognise Rs. 25,23,344 (Rs. 1,00,00,000 – Rs. 74,76,656) as the government
grant and will make the following entry on receipt of loan:

Bank Account Dr. Rs. 1,00,00,000

To Deferred Income Rs. 25,23,344

To Loan Account Rs. 74,76,656

Rs. 25,23,344 is to be recognised in profit or loss on a systematic basis over the periods in which
A Limited recognise the related costs (which the grant intends to compensate) as expenses.

If the loan is to finance a depreciable asset, Rs. 25,23,344 will be recognised in profit or loss on
the same basis as depreciation.

Question 7

A Ltd. has been conducting its business activities in backward areas of the country and due to
higher operating costs in such regions, it has collectively incurred huge losses in previous
years. As per a scheme of government announced in March 20X1, the company will be
partially compensated for the losses incurred by it to the extent of Rs 10,00,00,000, which will
be received in October 20X1. The compensation being paid by the government meets the
definition of government grant as per Ind AS 20.

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Assume that no other conditions are to be fulfilled by the company to receive the
compensation.

When should the grant be recognised in statement of profit and loss? Discuss in light of
relevant Ind AS.

(RTP Nov ’21)

Answer 7

Paragraph 7 of Ind AS 20 states that, Government grants, including non-monetary grants at fair
value, shall not be recognised until there is reasonable assurance that:

(a) the entity will comply with the conditions attaching to them; and

(b) the grants will be received.

Further, paragraphs 20 and 22 of Ind AS 20 state as follows:

“A government grant that becomes receivable as compensation for expenses or losses already
incurred or for the purpose of giving immediate financial support to the entity with no future
related costs shall be recognised in profit or loss of the period in which it becomes receivable”.

“A government grant may become receivable by an entity as compensation for expenses or

losses incurred in a previous period. Such a grant is recognised in profit or loss of the period in
which it becomes receivable, with disclosure to ensure that its effect is clearly understood.”

In accordance with the above, in the given case, as at March 20 X1, A Ltd. is entitled to receive
government grant in the form of compensation for losses already incurred by it in the previous
years. Therefore, even though the compensation will be received in the month of October
20X1, A Ltd. should recognise the compensation receivable by it as a government grant in the
profit or loss for the period in which it became receivable, i.e., for the financial year 20X0-20X1
with disclosure to ensure that its effect is clearly understood.

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Question 8

A company receives a cash grant of Rs 30,000 on 31 March 20X1. The grant is towards the
cost of training young apprentices. Training programme is expected to last for 18 months
starting from 1 April 20X1. Actual costs of the training incurred in 20X1-20X2 was Rs 50,000
and in 20X2-20X3 Rs 25,000. State, how this grant should be accounted for?

(Practice Question)

Answer 8

At 31st March 20X1 the grant would be recognised as a liability and presented in the balance
sheet as a split between current and non-current amounts. Rs 20,000 [(12 months / 18
months) 30,000] is current and would be recognised in profit and loss for the year ended 31st
March, 20X1. The balance amount of Rs 10,000 will be shown as noncurrent. At the end of year
20X1-20X2, there would be a current balance of 10,000 (being the non- current balance at the
end of year 20X1-20X1 reclassified as current) in the balance sheet.

This would be recognised in profit in the year 20X2-20X3. Extracts from the financial statements
are as follows:

Balance Sheet (extracts)

31 March 20X1 31 March 20X2 31 March 20X3

Current liabilities Deferred income 20,000 10,000 -

Non-current liabilities Deferred 10,000 - -

income

Statement of profit and loss (extracts)

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 31 March 20X2 31 March 20X3

Method 1

Other Income - Government grant 20,000 10,000

received Training costs (50,000) (25,000)

Method 2

Training costs (50,000 – 20,000) 30,000

Training costs (25,000 – 10,000) 15,000

Topic 2 : Recognition Criteria

Question 9

Rainbow Limited is carrying out various projects for which the company has either received
government financial assistance or is in the process of receiving the same. The company has
received two grants of Rs. 1,00,000 each, relating to the following on going research and
development projects:

(i) The first grant relates to the “Clean river project” which involves research into the effect of
various chemicals waste from the industrial area in Madhya Pradesh. However, no major
steps have been completed by Rainbow limited to commence this research as at 31st March,
20X2.

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(ii) The second grant relates to the commercial development of a new equipment that can be
used to manufacture eco-friendly substitutes for existing plastic products. Rainbow Limited is
confident about the technical feasibility and financial viability of this new technology which
will be available for sale in the market by April 20X3.

In September 20X1, due to the floods near one of its factories, the entire production was lost
and Rainbow Limited had to shut down the factory for a period of 3 months. The State
Government announced a compensation package for all the manufacturing entities affected
due to the floods. As per the scheme, Rainbow Limited is entitled to a compensation based
on the average of previous three months’ sales figure prior to the floods, for which the
company is required to submit an application form on or before30th June, 20X2 with
necessary figures. The financial statements of Rainbow Limited are to be adopted on 31st
May, 20X2, by which date the claim form would not have been filed with the State
Government. Suggest the accounting treatment of, if any, for the two grants received and the
flood-related compensation in the books of accounts of Rainbow Limited as on 31st March,
20X2.

(MTP March ’21, RTP May’20)

Answer 9

Accounting treatment for:

1. First Grant

The first grant for ‘Clear River Project’ involving research into effects of various chemicals waste
from the industrial area in Madhya Pradesh, seems to be unconditional as no details regarding
its refund has been mentioned. Even though the research has not been started nor any major
steps have been completed by Rainbow Limited to commence the research, yet the grant will
be recognised immediately in profit or loss for the year ended 31st March, 20X2.

Alternatively, in case, the grant is conditional as to expenditure on research, the grant will be
recognised in the books of Rainbow Limited over the years the expenditure is being incurred.

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2. Second Grant

The second grant related to commercial development of a new equipment is a grant related to
depreciable asset. As per the information given in the question, the equipment will be available
for sale in the market from April, 20X3. Hence, by that time, grant relates to the construction of
an asset and should be initially recognised as deferred income.

The deferred income should be recognised as income on a systematic and rational basis over
the asset’s useful life. The entity should recognise a liability on the balance sheet for the years
ending 31st March, 20X2 and 31st March, 20X3.

Once the equipment starts being used in the manufacturing process, the deferred grant income
of Rs. 100,000 should be recognised over the asset’s useful life to compensate for depreciation
costs.

Alternatively, as per Ind AS 20, Rainbow Limited would also be permitted to offset the deferred
income of Rs. 100,000 against the cost of the equipment in April, 20X3.

3. For flood related compensation

Rainbow Limited will be able to submit an application form only after 31st May, 20X2 ie in the
year 20X2-20X3. Although flood happened in September, 20X1 and loss was incurred due to
flood related to the year 20X1-20X2, the entity should recognise the income from the
government grant in the year when the application form related to it is submitted and
approved by the government for compensation.

Since, in the year 20X1-20X2, the application form could not be submitted due to adoption of
financials with respect to sales figure before flood occurred, Rainbow Limited should not
recognise the grant income as it has not become receivable as on 31st March,20X2.

Topic 3 : Measurement and Presentation

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Question 10

M Limited had constructed another factory few years ago with the assistance of yet another
government grant, 'Innovative Product'. The grant is non-repayable and, following the
construction of the factory, cannot be clawed back by the government. There are no further
conditions attached to the grant that the Company is required to satisfy. The grant received
has been treated as deferred income and is being credited to the income statement over the
same period as the factory is being depreciated. Following an adverse change in the demand
of the product the factory manufactures, during the year at the reporting date, the directors
have concluded that the factory's carrying value is no longer recoverable in full and that a
write down for impairment is required. The write down is more than covered by the
amortized deferred income balance related to the grant. Discuss, in the context of Ind AS
framework and Ind AS 20, the impairment of the factory for which 'Innovative Product'
government grant, has been received.

Would your answer be different, if there are further conditions attached to grant beyond
construction of factory?

(MTP March ‘22)

Answer 10

Accounting treatment for Government Grant:

Government grants, related to assets, including non-monetary grants at fair value should be
presented in the Balance Sheet either by setting up the grant as deferred income or by
deducting the grant in arriving at the asset’s carrying amount. (Para 24 of Ind AS 20)

Government grants should be recognised as income over the periods in which the entity
recognises as expenses the related costs that they are intended to compensate, on a systematic
basis. The outcome should be same in the Profit and Loss account statement regardless of
whether grants are netted or deferred.

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In case the grant had been offset against the acquisition cost of the factory and net carrying
value is less than the recoverable amount, there would be no need for an impairment write-
down. The Profit and Loss account would be charged with annual depreciation on the net
acquisition cost.

Government grant relating to ‘Innovative Product’:

To match the same result for the grant ‘Innovative Product’ which has been shown as deferred
income and the factory is initially recorded at its cost, it is reasonable to release an amount of
deferred income to the Profit and Loss account to compensate for the impairment write-down.

Treatment in case of further conditions attached:

If there are further conditions attached to the grant beyond construction of the factory, it may
not be appropriate to release an amount of the deferred income to compensate for the
impairment write down. An entity would need to assess those further conditions to determine
the amount, if any, of deferred income to release.

Question 11

An entity opens a new factory and receives a government grant of Rs 15,000 in respect of
capital equipment costing Rs 1,00,000. It depreciates all plant and machinery at 20% per
annum on straight-line basis. Show the statement of profit and loss and balance sheet
extracts in respect of the grant for first year under both the methods as per Ind AS 20.

(MTP March ’23)

Answer 11

When grant is treated as deferred income

Statement of profit and loss – An extract

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 Rs

Depreciation (Rs 1,00,000 20%) (20,000)

Government grant credit (W.N.1) 3,000

Balance Sheet - An extract

Rs

Non-current assets

Property, plant and equipment 1,00,000

Less: Accumulated depreciation (1,00,000 20%) (20,000) 80,000

Non-current liabilities XX

Government grant [12,000 – 3,000 (current 9,000

liability)]

Current liabilities

Government grant (15,000 20%) 3,000

XX

Working Note:

Government grant deferred income account

Rs Rs

To Profit or loss 3,000 By Grant cash received 15,000

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(15,000 20%)

Balance c/f 12,000

15,000 15,000

When grant is deducted from cost of the asset

Statement of profit and loss – An extract

Rs

Depreciation [(Rs 1,00,000 – 15,000) 20%] (17,000)

Balance Sheet – An extract

Rs

Non-current assets

Property, plant and equipment (1,00,000-15,000) 85,000 68,000

(17,000)
Less: Accumulated depreciation

Question 12

An entity opens a new factory and receives at the beginning of the year a government grant
of Rs 15,000 in respect of capital equipment costing Rs 1,00,000. It depreciates all plant and
machinery at 20% p.a. using straight-line method.

Assume that there is reasonable assurance that the conditions attached to the grant will be
fulfilled.

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For year 1, pass the necessary Journal Entries and show the presentation of the effect of this
grant in both Balance Sheet and Statement of Profit and Loss under both methods permitted
under paragraph 24 of Ind AS 20?

(RTP Nov ’23)

Answer 12

Paragraph 24 of Ind AS 20 provides that government grants related to assets, including non-
monetary grants at fair value, shall be presented in the balance sheet either by setting up the
grant as deferred income or by deducting the grant in arriving at the carrying amount of the
asset.

In accordance with the above, journal entries and presentation of grants related to assets under
both the methods are as follows:

Method 1: When the deferred income account is set-up with the amount of government
grant

Journal Entries

[Link]. Particulars Nature of Dr. / Amount (in Amount (in

Account Cr. Rs) Rs)

(i) Bank A/c Balance Sheet Dr. 15,000

(Asset)

To Government Grant Balance Sheet Cr. 15,000

Deferred Income A/c (Liability)

(Being grant received and

deferred income set up)

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 (ii) Government Grant Balance Sheet Dr. 3,000
Deferred Income A/c (Liability)

To Government Grant Income (P/L) Cr. 3,000

Income A/c

(Being amortisation of the

grant in Profit and loss
A/c for the current year)

(iii) Depreciation A/c Expense (P/L) Dr. 20,000

To Accumulated Balance Sheet Cr. 20,000

Depreciation A/c (Asset)

(Being depreciation
charge of the asset for
the current year)

(iv) Government Grant Income (P/L) Dr. 3,000

Income A/c

To Profit and Loss A/c P/L Cr. 3,000

(Being transfer of
government grant income
to profit and loss A/c)

(v) Profit and Loss A/c P/L Dr. 20,000

To Depreciation A/c Expense (P/L) Cr. 20,000

(Being the charge of

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 depreciation transferred
to profit and loss A/c)

(ii) Presentation in Balance Sheet and Statement of Profit and Loss Extract of Statement of
Profit and Loss

Particulars Amount (in Rs)

Income

Government grant (Refer W.N.1) 3,000

Expenses

Depreciation (1,00,000 20%) (20,000)

Net effect on profit and loss (17,000)

Presentation in Balance Sheet (Year 1)

Amount (in Rs)

Non-current Assets

Property, Plant and Equipment

Plant & machinery 1,00,000

Accumulated depreciation (1,00,000 20%) (20,000)

80,000

Non-current liabilities

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Government grant (Refer W.N.1) 9,000

Current liabilities

Government grant (Refer W.N.1) 3,000

Working Note 1: Presentation in Balance Sheet as current and non-current liability

Particulars Amount (in Rs)

Portion to be amortised in next 12 months (15,000 20%) 3,000

Portion to be amortised after 12 months 9,000

Total Balance 12,000

Method 2: When the government grant is deducted from the cost of the asset

(I) Journal Entries

S. Particulars Nature of Account Dr./ Amount (in Amount

No. Cr. Rs) (in Rs)

(i) Bank A/c Balance sheet (Asset) Dr. 15,000

To Government Grant A/c Balance sheet (Liability) Cr. 15,000

(Being grant received)

(ii) Government grant A/c Balance sheet(Liability) Dr. 15,000

To Plant & Machinery A/c Balance sheet (Asset) Cr. 15,000

(Being cost of asset

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 reduced with grant
received)

(iii) Depreciation A/c (85,000 Expense (P/L) Dr. 17,000

20%)

To Accumulated Balance Sheet (Asset) Cr. 17,000

Depreciation A/c

(Being depreciation
charge of the asset for the
current year)

(iv) Profit and Loss A/c P/L Dr. 17,000

To Depreciation Expense (P/L) Cr. 17,000

(Being the charge of

depreciation transferred
to the profit and loss A/c)

(II) Presentation in Balance Sheet and Statement of Profit and Loss Extract of Statement of
Profit and Loss (Year 1)

Particulars Amount (in Rs)

Depreciation (Rs 85,000 20%) (17,000)

Extract of Balance Sheet (Year 1)

Particulars Amount (in Rs)

Non-current Assets

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Property, Plant and Equipment

Plant & machinery

Original cost 1,00,000

Less: Government Grant (15,000)

Adjusted cost 85,000

Accumulated depreciation (17,000)

Carrying amount 68,000

Question 13

ICAI Illustration

A Limited establishes solar panels to supply solar electricity to its manufacturing plant. The
cost of solar panels is Rs 1,00,00,000 with a useful life of 10 years. The depreciation is
provided on straight line method basis. The government gives Rs 50,00,000 as a subsidy.
Examine how the Government grant be realized.

(Study material)

Answer

A Limited will set up Rs 50,00,000 as deferred income and will credit Rs 5,00,000 equally to its
statement of profit and loss over next 10 years. Alternatively, A Ltd. may deduct Rs 50,00,000
from the cost of solar panel of Rs 1,00,00,000.

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Topic 4 : Non-Monetary Grants

Question 14

How will you recognize and present the grants received from the Government in the
following cases as per Ind AS 20?

A Ltd. received one acre of land to setup a plant in backward area (fair value of land Rs. 12
lakh and acquired value by Government is Rs. 8 Iakhs).

(PYP Nov’18)(Certain adjustments similar to MTP PYP May’)

Answer 14

The land and government grant should be recognized by A Ltd. at fair value of Rs. 12,00,000
and this government grant should be presented in the books as deferred income. (As per the
Amendment in IND AS 20 , If the company is following the policy of recognizing non-monetary
grants at nominal value, the company will not recognize any government grant. Land will be
shown in the Financial statements at Re.1

Question 15

How will you recognize and present the grants received from the Government in the
following cases as per Ind AS 20? A Ltd. received one acre of land to setup a plant in
backward area (fair value of land Rs. 12 lakhs and acquired value by Government is Rs. 8
Iakhs).

(i) B Ltd. received an amount of loan for setting up a plant at concessional rate of interest
from the Government.

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 (MTP Oct ‘20) (Certain adjustments similar to PYP Nov’18 & May’)

Answer 15

(i) The land and government grant should be recognized by A Ltd. at fair value of Rs. 12,00,000
and this government grant should be presented in the books as deferred income. Alternatively,
if the company is following the policy of recognising non-monetary grants at nominal value, the
company will not recognise any government grant. Land will be shown in the financial
statements at Rs. 1)

Question 16

ICAI Illustration

A Limited wants to establish a manufacturing unit in a backward area and requires 5 acres of
land. The government provides the land on a leasehold basis at a nominal value of Rs 10,000
per acre. The fair value of the land is Rs 100,000 per acre. Calculate the amount of the
Government grant to be recognized by an entity.

(Study material)

Answer

A limited will recognise the land at fair value of Rs 5,00,000 and Rs 450,000 [(Rs 100,000 – Rs
10,000) 5)] as government grant. This government grant should be presented in the balance
sheet by setting up the grant as deferred income. Alternatively, the land may be recognised by
A Ltd. at nominal value of Rs 50,000 (Rs 10,000 x 5).

Topic 5 : Loans at Concessional Rate of Interest

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Question 17

How will you recognize and present the grants received from the Government in the
following cases as per Ind AS 20?

B Ltd. received an amount of loan for setting up a plant at concessional rate of interest from
the Government.

(PYP Nov’18)(Certain adjustments similar to MTP PYP May’)

Answer 17

(ii) As per para 10A of Ind AS 20 ‘Accounting for Government Grants and Disclosure of
Government Assistance’, loan at concessional rates of interest is to be measured at fair value
and recognised as per Ind AS 109. Value of concession is the difference between the initial
carrying value of the loan determined in accordance with Ind AS 109, and the proceeds
received. The benefit is accounted for as Government grant.

Question 18

How will you recognize and present the grants received from the Government in the
following cases as per Ind AS 20? A Ltd. received one acre of land to setup a plant in
backward area (fair value of land Rs. 12 lakhs and acquired value by Government is Rs. 8
Iakhs).

D Ltd. received an amount of Rs. 25 lakhs for immediate start-up of a business without any
condition.

(MTP Oct ‘20) (Certain adjustments similar to PYP Nov’18 & May’)

Answer 18

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As per para 10A of Ind AS 20 ‘Accounting for Government Grants and Disclosure of Government
Assistance’, loan at concessional rates of interest is to be measured at fair value and recognized
as per Ind AS 109. Value of concession is the difference between the initial carrying value of the
loan determined in accordance with Ind AS 109, and the proceeds received. The benefit is
accounted for as Government grant.

Question 19

A Limited is engaged in the manufacturing of certain specialized chemicals. During the

manufacturing process, certain wastewater is produced which is released by A Limited in the
nearby river. To reduce pollution of the rivers, the state government has introduced a scheme
with the following salient features:

• If a manufacturer installs certain pre-approved wastewater treatment plant, the

government will provide an interest free loan equal to 50% of the cost of the plant;

• Such loan will be repayable to the government in 5 years from the date of disbursal;

• The manufacturer availing the benefit of this scheme must treat the wastewater of its
factory using the specified plant before releasing it to the river. If this condition is violated,
the entire loan shall become immediately repayable to the government along with a penalty
of Rs 10 lakh.

Cost of the wastewater treatment plant to be installed to avail the benefit of the scheme is Rs
50 lakh. A Limited decided to utilise this scheme because, if it were to obtain the similar loan
from a bank, it would be available at a market interest rate of 12% per annum. Accordingly, A
Limited applied for and obtained the government loan of Rs 25 lakh on 1st April, 20X1. A
Limited purchased and installed the plant such that it became ready for use on the same
date.

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A Limited has an accounting policy of recognising government grant in relation to depreciable
assets in the proportion of depreciation expense. It has determined that the plant will be
depreciated over a period of 5 years using straight-line method. In the month of March, 20X3,
government officials conducted a surprise audit, and it was found that A Limited was not
using the wastewater treatment plant as prescribed. Accordingly, on 31st March, 20X3, the
government ordered A Limited to repay the entire loan along with penalty. A Limited repaid
the loan with interest and penalty as per the order on 31st March, 20X3.

Measure the amount of government grant as on 1st April, 20X1. Determine the nature of the
government grant and its accounting treatment (principally) for the year ended 31 st March,
20X2. Also determine the impact on profit or loss if any, on account of revocation of
government grant as on 31st March, 20X3.

(MTP Sep’22, RTP May’22)

Answer 19

As per the principles of Ind AS 20 “Accounting for Government Grants and Disclosure of
Government Assistance”, the benefits of a government loan at a below market rate of interest
is treated as a government grant. The loan shall be recognized and measured in accordance
with Ind AS 109 “Financial Instruments”. The benefit of the below market rate of interest shall
be measured as the difference between the initial carrying value of the loan determined in
accordance with Ind AS 109 and the proceeds received. The benefit is accounted for in
accordance with Ind AS 20. As per Ind AS 109, the loan should be initially measured at its fair
value. Initial recognition of grant as on 1st April, 20X1 Fair value of loan = Rs 25,00,000 x 0.567
(PVF @ 12%, 5th year) = Rs 14,17,500 A Limited will recognize Rs 10,82,500 (25,00,000 –
14,17,500) as the government grant and will make the following entry on receipt of loan:

Date Particulars Dr. (Rs) Cr. (Rs)

1.4.20X1 Bank account Dr. 25,00,000

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 To Deferred Grant Income 10,82,500

To Loan account 14,17,500

(Being grant initially recorded at fair value)

As per para 3 of Ind AS 20, grants related to assets are government grants whose primary
condition is that an entity qualifying for them should purchase, construct or otherwise acquire
long-term assets.

As per para 24-27 of Ind AS 20, Government grants related to assets, including nonmonetary
grants at fair value, shall be presented in the balance sheet either by setting up the grant as
deferred income or by deducting the grant in arriving at the carrying amount of the asset.

One method recognises the grant as deferred income that is recognised in profit or loss on a
systematic basis over the useful life of the asset.

The other method deducts the grant in calculating the carrying amount of the asset. The grant
is recognised in profit or loss over the life of a depreciable asset as a reduced depreciation
expense.

A Ltd. has adopted first method of recognising the grant as deferred income that is recognised
in profit or loss on a systematic basis over the useful life of the asset. Here, deferred income is
recognised in profit or loss in the proportion in which depreciation expense on the asset is
recognised.

Depreciation for the year (20X1-20X2) = Rs 50,00,000 / 5 years = Rs 10,00,000 As the loan is to
finance a depreciable asset, Rs 10,82,500 will be recognized in Profit or Loss on the same basis
as depreciation.

Since the depreciation is provided on straight line basis by A Limited, it will credit Rs2,16,500
(10,82,500 / 5) equally to its statement of profit and loss over the 5 years

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Journal Entries

Date Particulars Dr. (Rs) Cr. (Rs)

31.3.20X2 Depreciation (Profit or Loss A/c)Dr. 10,00,000

To Property, Plant & Equipment 10,00,000

(Being depreciation provided for the year)

Deferred grant income Dr. 2,16,500

To Profit or Loss 2,16,500

(Being deferred income adjusted)

Impact on profit or loss due to revocation of government grant as on 31st March 20X3 As per
para 32 of Ind AS 20, a government grant that becomes repayable shall be accounted for as a
change in accounting estimate. Repayment of a grant related to income shall be applied first
against any unamortised deferred credit recognised in respect of the grant. To the extent that
the repayment exceeds any such deferred credit, or when no deferred credit exists, the
repayment shall be recognised immediately in profit or loss.

Amount payable to Government on account of principal loan Rs 25,00,000

Amount payable to Government on account of penalty Rs 10,00,000

Journal Entries

Date Particulars Dr. (Rs) Cr. (Rs)

31.3.20X3 Deferred grant income 2,16,500

To Profit or Loss 2,16,500

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 (Being deferred income adjusted)

Loan account (W.N.1) 17,78,112

Deferred grant income (W.N.2) 6,49,500

Profit or Loss 72,388

To Government grant payable 25,00,000

(Being refund of government grant)

Profit or Loss 10,00,000

To Government grant payable 10,00,000

(Being penalty payable to government)

Therefore, total impact on profit or loss on account of revocation of government grant as on

31st March, 20X3 will be Rs 10,72,388 (10,00,000 + 72,388). Circumstances giving rise to
repayment of a grant related to an asset may require consideration to be given to the possible
impairment of the new carrying amount of the asset.

Working Notes:

2. Amortisation Schedule of Loan

Year Opening balance of Loan Interest @ 12% Closing balance of

Loan

31.03.20 X2 14,17,500 1,70,100 15,87,600

31.03.20 X3 15,87,600 1,90,512 17,78,112

3. Deferred Grant Income

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 Year Opening balance Adjustment Closing balance

31.03.20X2 10,82,500 2,16,500 8,66,000

31.03.20X3 8,66,000 2,16,500 6,49,500

Question 20

ICAI Illustration

A Limited received from the government a loan of Rs 50,00,000 @ 5% payable after 5 years in
a bulleted payment. The prevailing market rate of interest is 12%. Interest is payable
regularly at the end of each year. Calculate the amount of government grant and Pass
necessary journal entry. Also examine how the Government grant be recognised.

(Study material)

Answer

The fair value of the loan is calculated at Rs 37,38,328.

Year Opening Balance Interest calculated Interest paid @ 5% Closing Balance

@ 12% on Rs 50,00,000 +
principal paid

(a) (b) (c) = (b) 12% (d) (e) =(b) + (c) –

(d)

1 37,38,328 4,48,600 2,50,000 39,36,928

2 39,36,928 4,72,431 2,50,000 41,59,359

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 3 41,59,359 4,99,123 2,50,000 44,08,482

4 44,08,482 5,29,018 2,50,000 46,87,500

5 46,87,500 5,62,500 52,50,000 Nil

A Limited will recognise Rs 12,61,672 (Rs 50,00,000 – Rs 37,38,328) as the government grant
and will make the following entry on receipt of loan:

Bank Account Dr. 50,00,000

To Deferred Income 12,61,672

To Loan Account 37,38,328

Rs 12,61,672 is to be recognised in profit or loss on a systematic basis over the periods in which
A Limited recognise as expenses the related costs for which the grant is intended to
compensate. (see Illustration 5 in this regard)

Question 21

ICAI Illustration

Continuing with the facts given in the Illustration 4, state how the grant will be recognized in
the statement of profit or loss assuming:

(a) the loan is an immediate relief measure to rescue the enterprise

(b) the loan is a subsidy for staff training expenses, incurred equally, for a period of 4 years

(c) the loan is to finance a depreciable asset.

(Study material)

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Answer

Rs 12,61,672 is to be recognised in profit or loss on a systematic basis over the periods in which
A Limited recognised as expenses the related costs for which the grant is intended to
compensate.

Assuming (a), the loan is an immediate relief measure to rescue the enterprise. Rs 12,61,672
will be recognised in profit or loss immediately.

Assuming (b), the loan is a subsidy for staff training expenses, incurred equally, for a period of 4
years. Rs 12,61,672 will be recognised in profit or loss over a period of 4 years.

Assuming (c), the loan is to finance a depreciable asset. Rs 12,61,672 will be recognised in profit
or loss on the same basis as depreciation.

Topic 6 :Grants for Specific Purposes

Question 22

Shagun Ltd. received two different grants from State Government as per details below:

A grant of Rs 10 lakh receivable over three years (Rs 5 lakh in financial year 2019-2020, Rs 2
lakh in financial year 2020-2021 and Rs 3 lakh in financial year 2021-2022), contingent on
developing 5 gardens and maintaining them for three years. The gardens are developed in
financial year 2019- 2020 at a total cost of Rs 6 lakh, and the maintenance cost for financial
year 2019-2020 is Rs 12 lakh, for financial year 2020-2021 is Rs 15 lakh and for financial year
2021-2022 is Rs 17 lakh.

(PYP May ‘22)

Answer 22

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The income of Rs 10 lakh should be recognized over the three-year period to compensate for
the related costs. Since the receipt of grant is depending on fulfilling the contract, it is assumed
that on initial date certainty to fulfil the conditions by the entity could not be established.
Hence, the grant is recognized in the books on receipt basis

Calculation of Grant Income and Deferred Income: (Rs in lakh)

Year Maintenance Cost Grant Income Grant received Deferred Income

during the
year

a b = [(10/50) c d
a]

2019- 2020 18 3.6 5 (5 – 3.6)1.4

2020- 2021 15 3.0 2 [(5 + 2) – (3.6 + 3.0)]

0.4

2021- 2022 17 3.4 3 [(5 + 2 + 3) – (3.6+ 3.0

+ 3.4)] –
50 10.0

Therefore, Grant income to be recognised in Profit & Loss for years 2019 -2020, 2020-2021 and
2021-2022 will be Rs 3.6 lakh, Rs 3.0 lakh and Rs 3.4 lakh respectively.

Amount of grant that has not yet been credited to profit & loss i.e. deferred income will be
reflected in the balance sheet. Hence, deferred income balance as at year end 2019-2020,
2020-2021 and 2021-2022 will be Rs 1.4 lakh, Rs 0.4 lakh and Nil respectively.

Question 23

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Entity A is awarded a government grant of Rs. 60,000 receivable over three years (Rs.40,000
in year 1 and Rs.10,000 in each of years 2 and 3), contingent on creating 10 new jobs and
maintaining them for three years. The employees are recruited at a total cost of Rs.30,000,
and the wage bill for the first year is Rs. 1,00,000, rising by Rs.10,000 in each of the
subsequent years. Calculate the grant income and deferred income to be accounted for in the
books for year 1, 2 and 3.

(MTP Nov 21, RTP Nov 20)

Answer 23

The income of Rs. 60,000 should be recognised over the three year period to compensate for
the related costs.

Calculation of Grant Income and Deferred Income:

Year Labour Cost Grant Income Deferred

Income

Rs. Rs. Rs.

1 1,30,000 21,667 60,000 18,333 (40,000 – 21,667)

(130/360)

2 1,10,000 18,333 60,000

(110/360)
10,000 (50,000 – 21,667 –
18,333)

3 1,20,000 20,000 60,000

(120/360)
- (60,000 – 21,667 –
18,333 – 20,000)

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 3,60,000 60,000

Therefore, Grant income to be recognised in Profit & Loss for years 1, 2 and 3 are Rs. 21,667,
Rs. 18,333 and Rs. 20,000 respectively.

Amount of grant that has not yet been credited to profit & loss i.e; deferred income is to be
reflected in the balance sheet. Hence, deferred income balance as at year end 1, 2 and 3 are Rs.
18,333, Rs. 10,000 and Nil respectively.

Question 24

Med quick Ltd. has received the following grants from the Central Government for its newly
started pharmaceutical business:

• Rs. 50 lakh received for immediate start-up of business without any condition.

• Rs. 70 lakh received for research and development of drugs required for the treatment of
cardiovascular diseases with following conditions:

(i) That drugs should be available to the public at 20% cheaper from current market price and

(ii) The drugs should be in accordance with quality prescribed by the Govt. Drug Control
department.

• Three acres of land (fair value: Rs. 20 lakh) received for set up of plant.

• Rs. 4 lakh received for purchase of machinery of Rs. 10 lakh. Useful life of machinery is 4
years. Depreciation on this machinery is to be charged on straight-line basis.

How should Med quick Ltd. recognize the government grants in its books of accounts as per
relevant Ind AS?

(PYP May’19)

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Answer 24

Mediquick Ltd. should recognise the grants in the following manner: a. Rs. 50 lakhs have been
received for immediate start-up of business. This should be recognised in the Statement of
Profit and Loss immediately as there are no conditions attached to the grant.

b. Rs. 70 lakhs should be recognised in profit or loss on a systematic basis over the periods in
which the entity recognises as expense the related costs for which the grants are intended to
compensate. However, for this compliance, there should be reasonable assurance that
Mediquick Ltd. complies with the conditions attached to the grant.

c. Land should be recognised at fair value of Rs. 20 lakhs and government grants should be
presented in the balance sheet by setting up the grant as deferred income.

Alternatively, since the land is granted at no cost, it may be presented in the books at nominal
value.

d. Rs. 4 lakhs should be recognised as deferred income and will be transferred to profit and loss
account over the useful life of the asset. In this cases, Rs. 1,00,000 [Rs. 4 lakhs/ 4 years] should
be credited to profit and loss account each year over the period of 4 years.

Alternatively, Rs. 4,00,000 will be deducted from the cost of the asset and depreciation will be
charged at reduced amount of Rs. 6,00,000 (Rs. 10,00,000 – Rs. 4,00,000) i.e. Rs. 1,50,000 each
year.

Question 25

MNC Ltd. has received grant in the nature of exemption of custom duty on capital goods with
certain conditions related to export of goods under Export Promotion Capital Goods (EPCG)
scheme of Government of India. Whether the same is a government grant under Ind AS 20,

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Government Grants and Disclosure of Government Assistance? If yes, then how the same is
to be accounted for if it is

(a) A Grant related to asset or

(b) A Grant related to income?

(Study material)

Answer 25

Paragraph 3 of Ind AS 20 states that Government grants are assistance by government in the
form of transfers of resources to an entity in return for past or future compliance with certain
conditions relating to the operating activities of the entity. They exclude those forms of
government assistance which cannot reasonably have a value placed upon them and
transactions with government which cannot be distinguished from the normal trading
transactions of the entity.

In accordance with the above, in the given case exemption of custom duty under EPCG scheme
is a government grant and should be accounted for as per the provisions of Ind AS 20.

Ind AS 20 defines grant related to assets and grants related to income as follows:

“Grants related to asset are government grants whose primary condition is that an entity
qualifying for them should purchase, construct or otherwise acquire long-term assets.
Subsidiary conditions may also be attached restricting the type or location of the assets or the
periods during which they are to be acquired or held. Grants related to income are government
grants other than those related to assets.”

Presentation of grants related to assets

Government grants related to assets, including non-monetary grants at fair value, shall be
presented in the balance sheet by setting up the grant as deferred income. The grant set up as
deferred income is recognised in profit or loss on a systematic basis over the useful life of the

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asset. Alternatively, the amount of grant will be deducted from the cost of the asset and
depreciation will be charged on the reduced value of the asset.

Presentation of grants related to income

Grants related to income are presented as part of profit or loss, either separately or under a
general heading such as ‘Other income’; alternatively, they are deducted in reporting the
related expense.

Presentation

In the given case, based on the terms and conditions of the scheme, the grant received is to
compensate the import cost of assets subject to an export obligation as prescribed in the EPCG
Scheme and does not relate to purchase, construction or acquisition of a long term asset.
Hence it is a grant related to income.

Accounting of such grant

It may be further noted that as per paragraph 12 of Ind AS 20, government grants shall be
recognised in profit or loss on a systematic basis over the periods in which the entity recognises
as expenses the related costs for which the grants are intended to compensate Grants related
to income are presented as part of profit or loss, over a period of six years, either separately or
under a general heading such as ‘Other income’. Alternatively, they are deducted in reporting
the related expense.

Topic 7 : Contingent or Conditional Grants

Question 26

ICAI Illustration

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A Ltd. has received a grant of Rs 10,00,00,000 in the year 20X1-20X2 from local government in
the form of subsidy for selling goods at lower price to lower income group population in a
particular area for two years. A Ltd. had accounted for the grant as income in the year 20X1-
20X2. While accounting for the grant in the year 20X1-20X2, A Ltd. was reasonably assured
that all the conditions attached to the grant will be complied with. However, in the year
20X5-20X6, it was found that A Ltd. has not complied with the above condition and therefore
notice of refund of grant has been served to it. A Ltd. has contested but lost in court in 20X5-
20X6 and now grant is fully repayable. How should A Ltd. reflect repayable grant in its
financial statements ending 20X5-20X6?

(Study material)

Answer

Note: It is being assumed that the accounting done in previous years was not incorrect and was
not in error as per Ind AS 8.

Paragraph 32 of Ind AS 20, states that a Government grant that becomes repayable shall be
accounted for as a change in accounting estimate (see Ind AS 8, Accounting Policies, Changes in
Accounting Estimates and Errors).

Repayment of a grant related to income shall be applied first against any unamortised deferred
credit recognised in respect of the grant. To the extent that the repayment exceeds any such
deferred credit, or when no deferred credit exists, the repayment shall be recognised
immediately in profit or loss.

Repayment of a grant related to an asset shall be recognised by increasing the carrying amount
of the asset or reducing the deferred income balance by the amount repayable. The cumulative
additional depreciation that would have been recognised in profit or loss to date in the absence
of the grant shall be recognised immediately in profit or loss.

The following journal entries should be passed:

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[Link]. Particulars Nature of Account Dr./ Amount (Rs
Cr. in crores)

(i) Repayment of Government Expense (P/L) Dr. 10

Grant

To Grant repayable Balance sheet (Liability) 10

(Being recognition of
repayment of grant in
statement of profit or loss)

(ii) Grant repayable Balance sheet (Liability) Dr. 10

To Bank Balance sheet (Asset) 10

(Being grant refunded)

Assuming that no deferred credit balance exists in the year 20X5-20X6, therefore repayment
recognised in P&L. It may also be noted that the standard also provides that circumstances
giving rise to repayment of a grant related to an asset may require consideration to be given to
the possible impairment of the new carrying amount of the asset.

Topic 8 : First-time Adoption under Ind AS

Question 27

ABC Ltd is a government company and is a first-time adopter of Ind AS. As per the previous
GAAP, the contributions received by ABC Ltd. from the government (which holds 100%
shareholding in ABC Ltd.) which is in the nature of promoters’ contribution have been

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recognized in capital reserve and treated as part of shareholders’ funds in accordance with
the provisions of AS 12, Accounting for Government Grants. State whether the accounting
treatment of the grants in the nature of promoters’ contribution as per AS 12 is also
permitted under Ind AS 20 Accounting for Government Grants and Disclosure of Government
Assistance. If not, then what will be the accounting treatment of such grants recognized in
capital reserve as per previous GAAP on the date of transition to Ind AS

(RTP May 18)

Answer 27

Paragraph 2 of Ind AS 20, “Accounting for Government Grants and Disclosure of Government
Assistance” inter alia states that the Standard does not deal with government participation in
the ownership of the entity. Since ABC Ltd. is a Government company, it implies that
government has 100% shareholding in the entity. Accordingly, the entity needs to determine
whether the payment is provided as a shareholder contribution or as a government. Equity
contributions will be recorded in equity while grants will be shown in the Statement of Profit
and Loss. Where it is concluded that the contributions are in the nature of government grant,
the entity shall apply the principles of Ind AS 20 retrospectively as specified in Ind AS 101 ‘First
Time Adoption of Ind AS’. Ind AS 20 requires all grants to be recognised as income on a
systematic basis over the periods in which the entity recognises as expenses the related costs
for which the grants are intended to compensate. Unlike AS 12, Ind AS 20 requires the grant to
be classified as either a capital or an income grant and does not permit recognition of
government grants in the nature of promoter’s contribution directly to shareholders’ funds.
Where it is concluded that the contributions are in the nature of shareholder contributions and
are recognised in capital reserve under previous GAAP, the provisions of paragraph 10 of Ind AS
101 would be applied which states that, which states that except in certain cases, an entity shall
in its opening Ind AS Balance Sheet:

(a) Recognise all assets and liabilities whose recognition is required by Ind AS;

(b) Not recognise items as assets or liabilities if Ind AS do not permit such recognition;

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(c) Reclassify items that it recognised in accordance with previous GAAP as one type of asset,
liability or component of equity, but are a different type of asset, liability or component of
equity in accordance with Ind AS; and

(d) Apply Ind AS in measuring all recognised assets and liabilities.” Accordingly, as per the above
requirements of paragraph 10(c) in the given case, contributions recognised in the Capital
Reserve should be transferred to appropriate category under ‘Other Equity’ at the date of
transition to Ind AS.

Question 28

ABC Ltd is a government company and is a first-time adopter of Ind AS. As per the previous
GAAP, the contributions received by ABC Ltd. from the government (which holds 100%
shareholding in ABC Ltd.) which is in the nature of promoters’ contribution have been
recognised in capital reserve and treated as part of shareholders’ funds in accordance with
the provisions of AS 12, Accounting for Government Grants. State whether the accounting
treatment of the grants in the nature of promoters’ contribution as per AS 12 is also
permitted under Ind AS 20 Accounting for Government Grants and Disclosure of Government
Assistance.

(Study material)

Answer 28

Paragraph 2 of Ind AS 20, “Accounting for Government Grants and Disclosure of Government
Assistance” inter alia states that the Standard does not deal with government participation in
the ownership of the entity.

Since ABC Ltd. is a Government company, it implies that government has 100% shareholding in
the entity. Accordingly, as per Ind AS 20, the entity needs to determine whether the payment is

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provided as a shareholder contribution or as a government. Equity contributions will be
recorded in equity while grants will be shown in the Statement of Profit and Loss.

Where it is concluded that the contributions are in the nature of government grant, the entity
shall apply the principles of Ind AS 20 retrospectively as specified in Ind AS 101 ‘First Time
Adoption of Ind AS’. Ind AS 20 requires all grants to be recognised as income on a systematic
basis over the periods in which the entity recognises as expenses the related costs for which the
grants are intended to compensate. Unlike AS 12, Ind AS 20 requires the grant to be classified
as either a capital or an income grant and does not permit recognition of government grants in
the nature of promoter’s contribution directly to shareholders’ funds.

Topic 9 : Revocation or Repayment of Grant

Question 29

M Limited had constructed another factory few years ago with the assistance of yet another
government grant, 'Innovative Product'. The grant is non-repayable and, following the
construction of the factory, cannot be clawed back by the government. There are no further
conditions attached to the grant that the Company is required to satisfy. The grant received
has been treated as deferred income and is being credited to the income statement over the
same period as the factory is being depreciated. Following an adverse change in the demand
of the product the factory manufactures, during the year at the reporting date, the directors
have concluded that the factory's carrying value is no longer recoverable in full and that a
write down for impairment is required. The write down is more than covered by the
amortized deferred income balance related to the grant. Discuss, in the context of Ind AS
framework and Ind AS 20, the impairment of the factory for which 'Innovative Product'
government grant, has been received.

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Would your answer be different, if there are further conditions attached to grant beyond
construction of factory?

(MTP March ‘22)

Answer 29

Accounting treatment for Government Grant:

Government grants, related to assets, including non-monetary grants at fair value should be
presented in the Balance Sheet either by setting up the grant as deferred income or by
deducting the grant in arriving at the asset’s carrying amount. (Para 24 of Ind AS 20)

Government grants should be recognised as income over the periods in which the entity
recognises as expenses the related costs that they are intended to compensate, on a systematic
basis. The outcome should be same in the Profit and Loss account statement regardless of
whether grants are netted or deferred.

In case the grant had been offset against the acquisition cost of the factory and net carrying
value is less than the recoverable amount, there would be no need for an impairment write-
down. The Profit and Loss account would be charged with annual depreciation on the net
acquisition cost.

Government grant relating to ‘Innovative Product’:

To match the same result for the grant ‘Innovative Product’ which has been shown as deferred
income and the factory is initially recorded at its cost, it is reasonable to release an amount of
deferred income to the Profit and Loss account to compensate for the impairment write-down.

Treatment in case of further conditions attached:

If there are further conditions attached to the grant beyond construction of the factory, it may
not be appropriate to release an amount of the deferred income to compensate for the

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impairment write down. An entity would need to assess those further conditions to determine
the amount, if any, of deferred income to release.

Topic 10 : Cash Flow Treatment

Question 30

ICAI Illustration

Continuing with the facts given in the Illustration 7 above, state how the same will be
disclosed in the Statement of cash flows.

(Study material)

Answer

A Limited will show Rs 1,00,00,000 being acquisition of solar panels as outflow in investing
activities. The receipt of Rs 50,00,000 from government will be shown as inflow under financing
activities.

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 Chapter 10 Unit-3

Ind AS 102: “Share Based Payment”

Topic 1 : Concept Introduction & Basic Definitions

Question 1

Voya Limited issued 1,000 share options to each of its 200 employees for an exercise price of
Rs 10. The employees are required to stay in employment for next 3 years. The fair value of
the option is estimated at Rs 18. 90% of the employees are expected to vest the option.

The Company faced severe crisis during the 2nd year and it was decided to cancel the scheme
with immediate effect. The market price of the share at the date of cancellation was Rs 15.

The following information is available:

• Fair value of the option at the date of cancellation is Rs 12.

• The company paid compensation to the employees at the rate of Rs 13.50.

There were only 190 employees in the employment at that time.

You are required to show how cancellation will be recorded in the books of the Company as
per relevant Ind AS.

(PYP July 21, MTP Apr’23)

Answer 1

(a) (A) Calculation of employee compensation expense

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 Year 1 Year 2

Expected employees to remain in the 180 190

employment during the vesting period

Fair value of option 18 18

Number of options 1,000 1,000

Total 32,40,000 34,20,000

Expense weightage 1/3 2/3 Balance 2/3rd in full,

as it is cancelled

Expense for the year 10,80,000 23,40,000 Remaining amount

since cancelled

(B) Cancellation compensation to be charged in the year 2

Number of employees (A) 190

Amount agreed to pay (B) 13.50

Number of options/ employee (C) 1,000

Compensation amount (A B C) 25,65,000

Less: Amount to be deducted from Equity

Number of employees (D) 190

Fair value of option (at the date of cancellation) (E) 12

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Number of options / employee (F) 1,000

Amount to be deducted from Equity (D E F) (22,80,000)

Balance transferred to Profit and Loss 2,85,000

Question 2

ABC Limited issued 20,000 Share Appreciation Rights (SARs) that vest immediately to its
employees on 1st April 2015. The SARs will be settled in cash. At that date it is estimated
using an option pricing model, that the fair value of a SAR is Rs. 95. SAR can be exercised any
time up to 31st March 2018. At the end of 31st March 2016 it is expected that 95% of total
employees will exercise the option, 92 % of total employees will exercise the option at the
end of next year and finally 89 % will be vested only at the end of the 3rd year. Fair values at
the end of each period have been given below:

Fair value of SAR Rs.

31st March, 2016 110

31st March, 2017 107

31st March, 2018 112

Discuss the applicability of Cash Settled Share based payments under the relevant Ind AS and
pass the journal entries.

(PYP May’18)

Answer 2

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Applicability of cash settled share-based payment transactions For cash-settled share-based
payment transactions, the entity shall measure the goods or services acquired and the liability
incurred at the fair value of the liability.

1. When vesting conditions are attached to the share based payment plans

The recognition of such share based payment plans should be done by recognizing fair value of
the liability at the time of goods/ services received and not at the date of grant.

2. When no vesting period / condition is attached or to be fulfilled

Cash settled share based payment can be recognized in full at initial recognition itself. Until the
liability is settled, the entity shall remeasure the fair value of the liability at the end of each
reporting period date and difference in fair value will be charged to profit or loss for the period
as employee benefit expenses. At the date of settlement, the liability is paid in cash based on
the fair value on the date of settlement.

Calculation of expenses recognized during the year on account of change in the fair value of
SARs

Period Fair value To be vested Cumulative Expense / (benefit) for

expenses the current year

a b c=a b 20,000 d = c-of current period –

c of previous period

1st April, 2015 95 100% 19,00,000 19,00,000

31st March, 110 95% 20,90,000 1,90,000

2016

31st March, 107 92% 19,68,800 (1,21,200)

2017

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31st March, 112 89% 19,93,600 24,800
2018

19,93,600

Journal Entries

Date

1st April, Employee benefits expenses Dr. 19,00,000

2015

To Share based payment liability 19,00,000

(Fair value of the SAR recognized initially)

31st March, Employee benefits expenses Dr. 1,90,000

2016

To Share based payment liability 1,90,000

(Fair value of the SAR re-measured)

31st March, Share based payment liability Dr. 1,21,200

2017

To Employee benefits expenses 1,21,200

(Fair value of the SAR re-measured & reversed)

31st March, Employee benefits expenses Dr. 24,800

2018

To Share based payment liability 24,800

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 (Fair value of the SAR premeasured &
recognized)

Share based payment liability Dr. 19,93,600

To Cash 19,93,600

(Settlement of SARs in cash)

Question 3

On 1st April 20X1, Nuogen Ltd. had granted 1,20,000 share options to its employees with the
vesting condition being a service condition as follows:

• Vesting date : 31st March 20X2 - 80,000 share options (1-year vesting period since grant
date)

• Vesting date : 31st March 20X5 - 40,000 share options (4-year vesting period since grant
date)

Each option can be converted into one equity share of Nuogen Ltd. The fair value of the
options on grant date, i.e., on 1st April 20X1 was Rs 20. Nuogen Ltd. is required to prepare
financial statements in Ind AS for the financial year ending 31st March 20X4. The transition
date for Ind AS being 1st April 20X2.

The entity has disclosed publicly the fair value of both these equity instruments as
determined at the measurement date, as defined in Ind AS 102.

The previous applicable GAAP for the entity was IGAAP (AS) and therein, the entity had not
adopted intrinsic method of valuation. The share options have not been yet exercised by the
employees of Nuogen Ltd.

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How the share based payment should be reflected in, the books of Nuogen Ltd. as on 31st
March 20X4, assuming that the entity has erred by not passing any entry for the
aforementioned transactions in the books of Nuogen Ltd. on grant date, i.e. 1st April 20X1?

(RTP Nov’22)

Answer 3

For 80,000 share-based options vested before transition date:

Ind AS 101 provides that a first-time adopter is encouraged, but not required, to apply Ind AS
102 on ‘Share-based Payment’ to equity instruments that vested

before the date of transition to Ind AS. Hence, Nuogen Ltd. may opt for the exemption given in
Ind AS 101 for 80,000 share options vested before the transition date. However, since no earlier
accounting was done for these share-based options under previous GAAP too, therefore this led
to an error on the transition date, as detected on the reporting date i.e. 31st March, 20X4.
Hence, being an error, no exemption could be availed by Nuogen Ltd. on transition date with
respect to Ind AS 102.

While preparing the financial statements for the financial year 20X3 -20X4, an error has been
discovered which occurred in the year 20X1 -20X2, i.e., for the period which was earlier than
earliest prior period presented. The error should be corrected by restating the opening
balances of relevant assets and/or liabilities and relevant component of equity for the year
20X2-20X3. This will result in consequential restatement of balances as at 1st April, 20X2 (i.e,
opening balance sheet as at 1st April, 20X2).

Accordingly, on retrospective calculation of Share based options with respect to 80,000 options,
Nuogen Ltd. will create ‘Share based payment reserve (equity)’ by Rs 16,00,000 and
correspondingly adjust the same though Retained earnings.

For 40,000 share based options to be vested on 31st March, 20X5:

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Since share-based options have not been vested before transition date, no option as per Ind AS
101 is available to Nuogen Ltd. The entity will apply Ind AS 102 retrospectively. However,
Nuogen Ltd. did not account for the same at the grant date. This will result in consequential
restatement of balances as at 1st April, 20X2 (i.e, opening balance sheet as at 1st April, 20X2).
Adjustment is to be made by recognising the ‘ Share based payment reserve (equity)’ and
adjusting the retained earnings by Rs 2,00,000.

Further, expenses for the year ended 31st March, 20X3 and share based payment reserve
(equity) as at 31st March, 20X3 were understated because of non recognition of ‘employee
benefits expense’ and related reserve. To correct the above errors in the annual financial
statements for the year ended 31st March, 20X4, the entity should restate the comparative
amounts (i.e., those for the year ended 31st March, 20X3) in the statement of profit and loss. In
the given case, ‘Share based payment reserve (equity)’ would be credited by Rs 2,00,000 and
‘employee benefits expense’ would be debited by Rs 2,00,000

For the year ending 31st March, 20X4, ‘Share based payment reserve (equity)’ would be
credited by Rs 2,00,000 and ‘employee benefits expense’ would be debited by Rs 2,00,000.

Working Note:

Period Lot Proportion Fair value Cumulative Expenses

expenses

a b d= b a e = d-previous
period d

20X1-20X2 1 (1-year 1/1 16,00,000 16,00,000 16,00,000

vesting period)

20X1-20X2 2 (4-year 1/4 8,00,000 2,00,000 2,00,000

vesting period)

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 20X2-20X3 2 (4-year 2/4 8,00,000 4,00,000 2,00,000
vesting period)

20X3-20X4 2 (4-year 3/4 8,00,000 6,00,000 2,00,000

vesting period)

Topic 2 : Equity-settled SBP

Question 4

On 1st April, 20X1, ABC limited gives options to its key management personnel (employees)
to take either cash equivalent to 1,000 shares or 1,500 shares. The minimum service
requirement is 2 years and shares being taken must be kept for 3 years. (Oct 21)

Fair values of the shares are as follows: Rs

Share alternative fair value (with restrictions) 102

Grant date fair value on 1st April, 20X1 113

Fair value on 31st March, 20X2 120

Fair Value on 31st March, 20X3 132

The employees exercise their cash option at the end of 20X2-20X3. Pass the
journal entries.

(MTP Oct 21)

Answer 4

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 1st April, 20X1 31st March, 31st March, 20X3
20X2

Rs Rs Rs

Equity alternative (1,500 102) 1,53,000

Cash alternative (1,000 113) 1,13,000

Equity option (1,53,000- 1,13,000) 40,000

Cash Option (cumulative) (using (1,000 120 1,32,000

period end fair value) ½) 60,000

Equity Option (cumulative) (40,000 ½) 40,000

20,000

Expense for the period

Equity option 20,000 20,000

Cash Option 60,000 72,000

Total 80,000 92,000

Journal Entries

31st March, 20X2 Rs Rs

Employee benefits expenses Dr. 80,000

To Share based payment reserve (equity)* 20,000

To Share based payment liability 60,000

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(Recognition of Equity option and cash settlement
option)

31st March, 20X3

Employee benefits expenses Dr 92,000

To Share based payment reserve (equity)* 20,000

To Share based payment liability 72,000

(Recognition of Equity option and cash settlement

option)

Share based payment liability Dr. 1,32,000

To Bank/ Cash 1,32,000

(Settlement in cash)

*The equity component recognized (Rs 40,000) shall remain within equity. By electing to
receive cash on settlement, the employees forfeited the right to receive equity instruments.
However, ABC Limited may transfer the share-based payment reserve within equity, i.e. a
transfer from one component of equity to another.

Question 5

New Age Technology Limited has entered into following Share Based payment transactions:

(i) On 1st April, 20X1, New Age Technology Limited decided to grant share options to its
employees. The scheme was approved by the employees on 30th June, 20X1. New Age

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Technology Limited determined the fair value of the share options to be the value of the
equity shares on 1st April, 20X1.

(ii) On 1st April, 20X1, New Age Technology Limited entered into a contract to purchase IT
equipment from Bombay Software Limited and agreed that the contract will be settled by
issuing equity instruments of New Age Technology Limited. New Age Technology Limited
received the IT equipment on 30th July, 20X1. The share-based payment transaction was
measured based on the fair value of 'the equity instruments as on 1 st April, 20X1.

(iii) On 1st April, 20X1, New Age Technology Limited decided to grant the share options to its
employees. The scheme was approved by the employees on 30th June, 20X1. The issue of the
share options was however subject to the same being approved by the shareholders in a
general meeting. The scheme was approved in the general meeting held on 30th September,
20X1. The fair value of the equity instruments for measuring the share- based payment
transaction was taken on 30th September, 20X1.

Identify the grant date and measurement date in all the 3 cases of Share based payment
transactions entered into by New Age Technology Limited, supported by appropriate
rationale for the determination?

(MTP April ’21 & Mar ’23, RTP May 22)

Answer 5

Ind AS 102 defines grant date and measurement dates as follows:

(a) Grant date: The date at which the entity and another party (including an employee) agree to
a share-based payment arrangement, being when the entity and the counterparty have a
shared understanding of the terms and conditions of the arrangement. At grant date the entity
confers on the counterparty the right to cash, other assets, or equity instruments of the entity,
provided the specified vesting conditions, if any, are met. If that agreement is subject to an
approval process (for example, by shareholders), grant date is the date when that approval is
obtained.

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(b) Measurement date: The date at which the fair value of the equity instruments granted is
measured for the purposes of this Ind AS. For transactions with employees and others providing
similar services, the measurement date is grant date. For transactions with parties other than
employees (and those providing similar services), the measurement date is the date the entity
obtains the goods or the counterparty renders service.

Applying the above definitions in the given scenarios following would be the conclusion based
on the assumption that the approvals have been received prospectively:

Scenario Grant date Measurement date Base for grant date Base for
measurement
date

(i) 30th June 20X1 30th June , 20X1 The date on which the For employees,
scheme was approved the
by the employees measurement
date is grant
date

(ii) 1st April , 20X1 30th July, 20X1 The date when the The date when
entity and the the entity
counterparty entered obtains the
a contract and agreed goods from the
for settlement by counterparty
equity instruments

(iii) 30th September 30th September, The date approval For employees,
, 20X1 20X1 shareholders obtained the
when the by was measurement
date is grant
date

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Question 6

ABC Limited granted 500 stock appreciation rights (SAR) each to 80 employees on 1st April,
20X1 with a fair value Rs 100 each. The terms of the award require the employee to provide
service for four years to earn the award. The SARs are expected to be settled in cash and it is
expected that 100% of the employees will exercise the option. The fair value of each SAR at
each reporting date is as follows:

31st March, 20X2 Rs 110

31st March, 20X3 Rs 120

31st March, 20X4 Rs 115

31st March, 20X5 Rs 130

Please present the journal entries in the books of ABC Limited over the entire life of the
grants. What would be the difference if at the end of the second year of service (i.e. at 31 st
March, 20X3), ABC Limited modifies the terms of the award to require only three years of
total service? Please present with the revised journal entries. Answer on the basis of relevant
Ind AS.

(MTP March ‘22) (PYP Nov ’19)

Answer 6

Number of SARs = 80 Employees x 500 SARs = 40,000 SARs

1. When the term of the awards is 4 years of service

Period Fair value To be Cumulative Expense in Cumulative

vested proportion to the expenses
award earned recognize d

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 a b c = 40,000 x a d = [{(c / no. of e
xb total years) x
years completed}
– e of pvs year]

100 100 % 40,00,000 - -

31st March, 110 100 % 44,00,000 11,00,000 11,00,00

20X2

31st March, 120 100 % 48,00,000 13,00,000 24,00,00 0

20X3

31st March, 115 100 % 46,00,000 10,50,000 34,50,00 0

20X4

31st March, 130 100 % 52,00,000 17,50,000 52,00,00 0

20X5

Journal Entries

31st March, 20X2

Employee benefits expenses/Profit and Loss A/c Dr. 11,00,000

To Share based payment liability 11,00,000

(Fair value of SARs has been recognised)

31st March, 20X3

Employee benefits expenses/Profit and Loss A/c Dr. 13,00,000

To Share based payment liability 13,00,000

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(Fair value of SARs has been re-measured)

31st March, 20X4

Employee benefits expenses/Profit and Loss A/c Dr. 10,50,000

To Share based payment liability 10,50,000

(Fair value of SARs has been recognized)

31st March, 20X5

Employee benefits expenses A/c Dr. 17,50,000

To Share based payment liability 17,50,000

(Fair value of SARs has been recognized)

2. When the term of the awards is modified to 3 years of service instead of 4 years of service

Period Fair value %age of Cumulative Expense in Cumulative

vesting proportion to expenses
the award recognized
earned

a b c = 40,000 x a d = [{(c / no. of e

b total years)
years
completed} –

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 e of pvs

1st April, 100 100 % 40,00,000 - -

20X1

31st March, 110 100 % 44,00,000 11,00,000 11,00,000

20X2

31st March, 120 100 % 48,00,000 21,00,000 32,00,000

20X3

31st March, 115 100 % 46,00,000 14,00,000 46,00,000

20X4

Journal Entries

31st March, 20X2

Employee benefits expenses Dr. 11,00,000

To Share based payment liability 11,00,000

(Fair value of SARs has been recognised)

31st March, 20X3

Employee benefits expenses Dr. 21,00,000

To Share based payment liability 21,00,000

(Fair value of SARs has been re-measured)

31st March, 20X4

Employee benefits expenses Dr. 14,00,000

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To Share based payment liability 14,00,000

(Fair value of SARs has been recognized)

Question 7

The following particulars in respect of stock options granted by a company are available:

No. of Employees covered 400 Nominal Value per share Rs 100

No. of options per Employee 60 Exercise price per share Rs 125

Shares offered were put in three groups. Group 1 was for 20% of shares offered with vesting
period one-year. Group II was for 40% of shares offered with vesting period two- years.
Group III was for 40% of shares offered with vesting period three-years. Fair value of option
per share on grant date was Rs 10 for Group I, Rs 12.50 for Group II and Rs 14 for Group III.

Position on 1st Year Position on 2nd Year Position on 3rd Year

-No. of employees left = 40 - Employees left = 35 - Employees left = 28

- Estimate of employees to leave - Estimate of employees to - Employees exercising

in Year 2 = 36 leave in Year 3 = 30 Options in Group III = 295

- Estimate of employees to leave - Employees exercising

in Year 3 = 34 Options in Group II = 319

- Employees exercising Options in

Group I = 350

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Options not exercised immediately on vesting, were forfeited. Compute expenses to
recognize in each year and show important accounts in the books of the company.

(RTP Nov’22)

Answer 7

Total number of Options per employee = 60

Group I - 20% vesting in Year Group II - 40% vesting in Year Group III - 40% vesting in Yr.
1 2 3

= 12 options, Vesting period = = 24 options, Vesting period = 2 = 24 options, Vesting period

1 Yr. Yrs. = 3 Yrs

Computation of Expenses for all the years

Group = No. of Group I = Group II = 24 Options Group III = 24 Options

Options
12 Options

Year 1 Year 1 Year 2 Year 1 Year 2 Year 3

(a) Employees at 400 - 40 = 400 - 40 = 360 - 35 = 400 - 40 = 360 - 35 = 325 - 28

year end = =
[Opening

No. of Employees 360 360 325 360 325 297

- Forfeiture]

(b) Expected to NA 36 NA 36 + 34 = 30 NA
leave in future
70

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(c) No. of 360 324 325 290 295 297
employees
eligible (a - b)

(d) Options (360 x 12 (324 x 24 (325 x 24 (290 x 24 (295 x 24 (297 x 24

expected to Vest sh.)
sh.) sh.) sh.) sh.) sh.)
=

[(c) No. of 4,320 7,776 7,800 6,960 7,080 7,128

Shares]

(e) FV per option= Rs 10 Rs 12.50 Rs 12.50 Rs 14 Rs 14 Rs 14

(f) Value of Total Rs 43,200 Rs 97,200 Rs 97,500 Rs 97,440 Rs 99,120 Rs 99,792

Options = [d e]

(g) Total Rs 43,200 [(f) 1/2] [(f) 2/2] [(f) 1/3] [(f) [(f)
Cumulative Cost 2/3] 3/3]
of Options

= [(f) x Completed Rs 48,600 Rs 97,500 Rs32,480 Rs66,080 Rs 99,792

Yrs/ Total Yrs)

(h) Less: 0 0 Rs 48,600 0 Rs32,480 Rs 66,080

Recognized in last
years

(i) Expenses to be Rs 43,200 Rs 48,600 Rs 48,900 Rs32,480 Rs33,600 Rs 33,712

recognized

(j) Employees not 10Employe 325 - 319 = 297 - 295 =

exercising ESOP es 6 2

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 Employees Employees

(k) Total Expenses Rs 43,200 (Gr. 1) + Rs 48,600 (Gr. 2) + Rs 32,480 (Gr. 3) = Rs 1,24,280
for- Year 1

Year 2 Rs 48,900 (Gr. 2) + Rs 33,600 (Gr. 3) = Rs 82,500

Year 3 Rs 33,712 (Gr. 3 only)

Employees Benefit Expenses A/c

Year 1

To Share-based Payment 1,24,280 By Profit and Loss A/c 1,24,280

Reserve A/c

1,24,280 1,24,280

Year 2

To Share-based Payment 82,500 By Profit and Loss A/c 82,500

Reserve A/c

82,500 82,500

Year 3

To Share-based Payment 33,712 By Profit and Loss A/c 33,712

Reserve A/c

33,712 33,712

Share-based Payment Reserve A/c

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 Year 1

Rs Rs

To Retained Earnings 1,200 By Employees Benefit 1,2s4,280

[(360 - 350) Emp 12 Expenses A/c
Options Rs 10]

To Share Capital (350 Emp 4,20,000 By Bank A/c (350 Emp x 5,25,000
12 Options Rs 100) 12 Options x Rs 125)

To Securities Premium 1,47,000

(350 Emp 12 Options
Rs 35)

To Balance c/d 81,080

6,49,280 6,49,280

Year 2

To Retained Earnings 1,800 By Balance b/d 81,080

[(325 - 319) Emp 24 By Employees Benefit 82,500

Expenses A/c
Options x Rs 12.50]

To Share Capital (319 Emp 7,65,600 By Bank A/c (319 Emp 9,57,000
24 Options Rs 100) 24 Options Rs 125)

To Securities Premium 2,87,100

(319 Emp 24 Options

Rs 37.50)

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To Balance c/d 66,080

11,20,580 11,20,580

Year 3

Retained Earnings 672 By Balance b/d 66,080

[(297 - 295) Emp x 24 By Employees Benefit 33,712

Options Rs14] Expenses A/c

To Share Capital (295 Emp 7,08,000 By Bank A/c (295 Emp 8,85,000
24 Options Rs 100) 24 Options x Rs 125)

To Securities Premium 2,76,120

(295 Emp 24 Options
Rs 39)

9,84,792 9,84,792

Working Note:

Calculation of Securities Premium

Group I Group II Group III

Year 1 Year 2 Year 3

Exercise Price received per share 125.00 125.00 125.00

Value of service received per share, being the 10.00 12.50 14.00
FV of the Options

Total Consideration received per share 135.00 137.50 139.00

[Link]
Less: Nominal Value per share (100.00) (100.00) (100.00)

Securities Premium per share 35.00 37.50 39.00

Question 8

Company P is a holding company for company B. A group share-based payment is being

organized in which Parent issues its own equity-shares for the employees of company B. The
details are as below –

Number of employees of company B 100

Grant date fair value of share Rs 87

Number of shares to each employee granted 25

Vesting conditions Immediately

Pass the journal entry in the books of company P & company B?

(Study material)

Answer 8

Books of Company P

Investment in Company B Dr. Rs 2,17,500

To Equity (Issue of Shares) 2,17,500

Books of Company B

[Link]
Expense Dr 2,17,500

To Capital contribution from Parent P 2,17,500

Question 9

ICAI Illustration

XYZ issued 10,000 Share Appreciation Rights (SARs) that vest immediately to its employees on
1st April, 20X0. The SARs will be settled in cash. Using an option pricing model, at that date it
is estimated that the fair value of a SAR is Rs 95. SAR can be exercised any time upto 31st
March, 20X3. At the end of period on 31st March, 20X1 it is expected that 95% of total
employees will exercise the option, 92% of total employees will exercise the option at the
end of next year and finally 89% were exercised at the end of the 3rd year. Fair Values at the
end of each period have been given below:

Fair value of SAR Rs

31st March, 20X1 112

31st March, 20X2 109

31st March, 20X3 114

(Study material)

Answer

Period Fair value To be vested Cumulative Expense

[Link]
 a b c= a b d= c-prev. period
10,000 c

Start 95 100% 9,50,000 9,50,000

Period 1 112 95% 10,64,000 1,14,000

Period 2 109 92% 10,02,800 (61,200)

Period 3 114 89% 10,14,600 11,800

10,14,600

Journal Entries

1st April, 20X0

Employee benefits expenses Dr. 9,50,000

To Share based payment liability 9,50,000

(Fair value of the SAR recognized)

31st March, 20X1

Employee benefits expenses Dr. 1,14,000

To Share based payment liability 1,14,000

(Fair value of the SAR re-measured)

31st March, 20X2

Share based payment liability Dr. 61,200

[Link]
To Employee benefits expenses 61,200

(Fair value of the SAR re-measured & reversed)

31st March,-20X3

Employee benefits expenses Dr. 11,800

To Share based payment liability 11,800

(Fair value of the SAR recognized)

Share based payment liability Dr. 10,14,600

To Cash 10,14,600

(Settlement of SAR)

Topic 3 : Cash-settled SBP

Question 10

Georgy Ltd. gave its key management an option to take either 810 equity shares or cash
amount equivalent to 650 equity shares on 1st April, 2020. The minimum service requirement
is 2 years. If shares are opted then they are to be kept for at least 4 years.

Fair value of the shares Rs

Fair value for share alternative (with restrictions) 460

Grant date fair value on 1st April, 2020 480

[Link]
Fair value on 31st March, 2021 530

Fair value on 31st March, 2022 560

Pass the necessary Journal Entries for the years ended 31st March, 2021 & 2022 if the key
management exercises the cash option at the end of 2022.

(PYP Dec ’21)

Answer 10

1st April, 31st March, 31st March,

2020 2021 2022

Equity alternative (810 460) 3,72,600

Cash alternative (650 480) 3,12,000

Equity option (3,72,600 – 3,12,000) 60,600

Cash Option (cumulative) (using period end fair [(650 530) [650 560]
value) 1/2] 1,72,250 3,64,000

Equity Option (cumulative) 30,300 60,600

Expense for the period

Equity option 30,300 30,300

Cash Option 1,72,250 1,91,750

Total 2,02,250 2,22,050

Journal Entries

[Link]
31st March, 2021

Employee benefits expenses Dr. 2,02,250

To Share based payment reserve (equity) 30,300

To Share based payment liability 1,72,250

(Recognition of Equity option and cash settlement option)

31st March, 2022

Employee benefits expenses Dr. 2,22,050

To Share based payment reserve (equity) 30,300

To Share based payment liability 1,91,750

(Recognition of Equity option and cash settlement option)

Share based payment liability Dr. 3,64,000

To Bank/ Cash 3,64,000

(Settlement in cash)

Question 11

Ryder, a public limited company is reviewing certain events which have occurred since its
year - end 31st March, 20X4. The financial statements were authorized for issue on 12th May,
20X4. The following events are relevant to the financial statements for the year ended 31 st
March, [Link] company granted share appreciation rights (SARs) to its employees on 1 st
April, 20X2 based on 10 million shares. At the date the rights are exercised, the SAR’s provide

[Link]
employees with the right to receive cash equal to the appreciation in the company’s share
price since the grant date. The rights vested on 31st March, 20X4 and payment was made on
schedule on 1st May, 20X4. The FV of the SAR’s per share at 31st March, 20X3 was Rs 6, at
31st March, 20X4 was Rs 8 and at 1st May, 20X4 was Rs 9. The company has recognized a
liability for the SAR’s as at 31st March, 20X2 based upon Ind AS 102 ‘Share-based Payments’
but the liability was stated at the same amount at 31st March, 20X4.

Discuss the accounting treatment of the above events in the financial statements of the Ryder
Group for the year ending 31st March, 20X4 taking into account the implications of events
occurring after the reporting period.

(MTP Oct 21)

Answer 11

Ind AS 102 ‘Share-based Payments’ requires a company to remeasure the fair value of a liability
to pay cash-settled share-based payments at each reporting date and the settlement date until
the liability is settled. Share Appreciation rights fall under this category. Hence, the company
should recognize a liability of Rs 80 million (Rs 8 x 10 million) at 31st March, 20X4, the vesting
date. The liability recognised at 31st March, 20X4 was in fact based on the share price at the
previous year-end and would have been shown at Rs 6 x ½ x 10 million shares – half the cost as
the SARs vest over 2 years. This liability at 31st March, 20X4 has not been changed since the
previous year- end by the company. The SARs vest over a two year period and hence on 31st
March, 20X4 there would be a weighting of the eventual cost by 1 year / 2 year. Therefore, an
additional liability of Rs 50 million (30 million + 20 million) should be accounted for in the
financial statements at 31st March, 20X4. The SARs would be settled on 1st May, 20X4 at Rs 90
million (Rs 9 x 10 million). The increase of Rs 10 million (over and above Rs 80 million) in the
value of the SARs is a non-adjusting event. Hence, the change in the fair value of Rs 10 million
during the year 20X4-20X5 would be charged to profit and loss for the year ended 31st March,
20X5 and not 31st March, 20X4.

[Link]
Question 12

A Ltd. had on 1st April, 2015 granted 1,000 share options each to 2,000 employees. The
options are due to vest on 31st March, 2018 provided the employee remains in employment
till 31st March, 2018. On 1st April, 2015, the Directors of Company estimated that 1,800
employees would qualify\ for the option on 31st March, 2018. This estimate was amended to
1,850 employees on 31st March, 2016 and further amended to 1,840 employees on 31st
March, 2017. On 1st April, 2015, the fair value of an option was Rs. 1.20. The fair value
increased to Rs. 1.30 as on 31st March, 2016 but due to challenging business conditions, the
fair value declined thereafter. In September 2016, when the fair value of an option was Rs.
0.90, the Directors repriced the option and this caused the fair value to increase to Rs. 1.05.
Trading conditions improved in the second half of the year and by 31st March, 2017 the fair
value of an option was Rs.1.25. QA Ltd. decided that additional cost incurred due to repricing
of the options on 30th September, 2016 should be spread over the remaining vesting period
from 30th September, 2016 to 31st March, 2018. The Company has requested you to suggest
the suitable accounting treatment for these transaction as on 31st March, 2017.

(MTP Mar’19, Oct’22 RTP Nov’19)

Answer 12

Paragraph 27 of Ind AS 102 requires the entity to recognise the effects of repricing that increase
the total fair value of the share-based payment arrangement or are otherwise beneficial to the
employee.

If the repricing increases the fair value of the equity instruments granted paragraph B43(a) of
Appendix B requires the entity to include the incremental fair value granted (ie the difference
between the fair value of the repriced equity instrument and that of the original equity
instrument, both estimated as at the date of the modification) in the measurement of the
amount recognised for services received as consideration for the equity instruments granted. If
the repricing occurs during the vesting period, the incremental fair value granted is included in
the measurement of the amount recognised for services received over the period from the

[Link]
repricing date until the date when the repriced equity instruments vest, in addition to the
amount based on the grant date fair value of the original equity instruments, which is
recognised over the remainder of the original vesting period.

Accordingly, the amounts recognized in years 1 and 2 are as follows:

Year Calculation Compensation Cumulative

expense for period compensation
expense

Rs. Rs.

1 [1,850 employees× 1,000 options Rs. 7,40,000 7,40,000

1.20] 1/3

2 (1,840 employees× 1,000 options 8,24,000 15,64,000

[(Rs.1.20 2/3)+ {(Rs.1.05 - 0.90)
0.5/1.5}] – 7,40,000

Question 13

A parent grants 200 share options to each of 100 employees of its subsidiary, conditional
upon the completion of two years’ service with the subsidiary. The fair value of the share
options on grant date is Rs. 30 each. At grant date, the subsidiary estimates that 80 percent of
the employees will complete the two-year service period. This estimate does not change
during the vesting period. At the end of the vesting period, 81 employees complete the
required two years of service. The parent does not require the subsidiary to pay for the
shares needed to settle the grant of share options. Pass the necessary journal entries for
giving effect to the above arrangement.

(RTP May ’19)

[Link]
Answer 13

As required by paragraph B53 of the Ind AS 102, over the two-year vesting period, the
subsidiary measures the services received from the employees in accordance, the requirements
applicable to equity-settled share-based payment transactions as given in paragraph 43B. Thus,
the subsidiary measures the services received from the employees on the basis of the fair value
of the share options at grant date. An increase in equity is recognized as a contribution from
the parent in the separate or individual financial statements of the subsidiary.

The journal entries recorded by the subsidiary for each of the two years are as follows:

Year 1 Rs. Rs.

Remuneration expense Dr. 2,40,000

(200 100 employees Rs. 30 80% ½)

To Equity (Contribution from the parent) 2,40,000

Year 2

Remuneration expense Dr. 2,46,000

[(200 x 81 employees Rs. 30) – 2,40,000]

To Equity (Contribution from the parent) 2,46,000

Question 14

Entity A runs a copper-mining business. Entity A has a year-end of 31st March. Dividends
declared on the shares accrue to the employees during the three-year period. If the condition
is met, the employees will receive the shares together with the dividends that have been
declared on those shares during the three years upto 31st March, 20X3.

[Link]
The entity estimates that on 1st April, 20X0 its shares are valued at Rs 10 each. The grant date
fair amount of each share is Rs 10.

Entity A prepares annual financial statements for the year ended 31 st March and:

a) on 1st April, 20X0 it estimates that 800 shares will vest;

b) at the end of the first year (31st March, 20X1) it has revised this estimate to 780;

c) at 31st March, 20X2 it has further revised this estimate to 750; and

d) 750 shares vest on 31st March, 20X3 based on the number of employees still employed on
that date.

On 1st April, 20X0 as part of a long-term incentive scheme, Entity A provisionally awards its
sales employees 1,000 Entity A’s shares receivable on 31st March, 20X3. Explain the
accounting treatment for the above share based awards based on satisfaction of the
condition that the sales employees must remain in employment until 31st March, 20X3. The
requirement to remain in employment is a service condition and would not be reflected in
the fair value of the share awards.

(RTP May ’23)

Answer 14

The grant date fair value amount would be recognized as an expense over the three year
service period adjusted by the number of shares expected to vest., Consequently, for each
period, Entity A estimates how many eligible employees are expected to be employed on 31st
March, 20X3 and this forms the basis for that adjustment. The journal entries would be:

Year 1 (Year ended 31st March, 20X1)

Employee benefit expenses A/c Dr. Rs 2,600

[Link]
To Share-based payment reserve Rs 2,600 (To recognize the receipt of employee services in
exchange for shares)

Year 2 (Year ended 31st March, 20X2)

Employee benefit expenses A/c Dr. Rs 2,400

To Share-based payment reserve Rs 2,400 (To recognize the receipt of employee services in
exchange for shares)

Year 3 (Year ended 31st March, 20X3)

Employee benefit expenses A/c Dr. Rs 2,500

To Share-based payment reserve Rs 2,500 (To recognize the receipt of employee services in
exchange for shares)

Working Notes:

1. Year 1

780 shares expected to vest x Rs 10 grant date fair value of each share x 1/3 of vesting period
elapsed = Rs 2,600 recognised in Year 1.

2. Year 2

(750 shares expected to vest x Rs 10 grant date fair value of each share x 2/3 of vesting period
elapsed) less Rs 2,600 recognised in Year 1 = Rs 2,400 recognised in Year 2.

3. Year 3

(750 shares x Rs 10 grant date fair value of each share) less Rs 5,000 recognised in Years 1 and 2
= Rs 2,500 recognised in Year 3.

[Link]
Question 15

MINDA issued 11,000 share appreciation rights (SARs) that vest immediately to its employees
on 1st April, 20X0. The SARs will be settled in cash. Using an option pricing model, at that
date it is estimated that the fair value of a SAR is Rs 100. SAR can be exercised any time until
31st March, 20X3. It is expected that out of the total employees, 94% at the end of period on
31st March, 20X1, 91% at the end of next year will exercise the option. Finally, when these
were vested i.e. at the end of the 3rd year, only 85% of the total employees exercised the
option.

Fair value of SAR Rs

31st March, 20X1 132

31st March, 20X2 139

31st March, 20X3 141

Pass the Journal entries?

(Study material)

Answer 15

Period Fair value To be vested Cumulative Expense

Start 100 100% 11,00,000 11,00,0 00

Period 1 132 94% 13,64,880 2,64,88 0

Period 2 139 91% 13,91,390 26,510

Period 3 141 85% 13,18,350 (73,040)

[Link]
 13,18,350

Journal Entries

1st April, 20X0

Employee benefits expenses Dr. 11,00,000

To Share based payment liability 11,00,000

(Fair value of the SAR recognised)

31st March, 20X1

Employee benefits expenses Dr. 2,64,880

To Share based payment liability 2,64,880

(Fair value of the SAR re-measured)

31st March, 20X2

Employee benefits expenses Dr. 26,510

To Share based payment liability 26,510

(Fair value of the SAR re-measured)

31st March, 20X3

Share based payment liability Dr. 73,040

To Employee benefits expenses 73,040

(Fair value of the SAR reversed)

[Link]
Share based payment liability Dr. 13,18,350

To Cash 13,18,350

(Settlement of SAR)

Question 16

P Ltd. granted 400 stock appreciation rights (SAR) each to 75 employees on 1st April 20X1 with
a fair value Rs 200. The terms of the award require the employee to provide service for four
years in order to earn the award. The fair value of each SAR at each reporting date is as
follows:

31st March 20X2 Rs 210

31st March 20X3 Rs 220

31st March 20X4 Rs 215

31st March 20X5 Rs 218

What would be the difference if at the end of the second year of service (i.e. at 31st March
20X3), P Ltd. modifies the terms of the award to require only three years of service?

(Practice Question)

Answer 16

Journal entries in the books of P Ltd (without modification of service period of stock
appreciation rights)

Date Particulars Debit Credit

[Link]
31.03.20X2 Profit and Loss account Dr. 15.75

To Liability against SARs 15.75

(Being expenses liability for stock appreciation rights

recognized)

31.03.20X3 Profit and Loss account Dr. 17.25

To Liability for SARs 17.25

(Being expenses liability for stock appreciation rights

recognized)

31.03.20X4 Profit and Loss account Dr. 15.38

To Liability for SARs 15.38

(Being expenses liability for stock appreciation rights

recognized)

31.03.20X5 Profit and Loss account Dr. 17.02

To Liability for SARs 17.02

(Being expenses liability for stock appreciation rights

recognised)

Journal entries in the books of P Ltd (with modification of service period of stock appreciation
rights)

Date Particulars Debit Credit

31.03.20X2 Profit and Loss account Dr. 15.75

[Link]
 To Liability for SARs 15.75

(Being expenses liability for stock appreciation rights

recognised)

31.03.20X3 Profit and Loss account Dr. 28.25

To Liability for SARs 28.25

(Being expenses liability for stock appreciation rights

recognised)

31.03.20X4 Profit and Loss account Dr. 20.50

To Liability for SARs 20.50

(Being expenses liability for stock appreciation rights

recognised)

Working Notes:

Calculation of expenses for issue of stock appreciation rights without modification of service
period

For the year ended 31st March 20X2

= Rs 210 400 awards 75 employees 1 year /4 years of service

= Rs 15,75,000

For the year ended 31st March 20X3

= Rs 220 400 awards 75 employees 2 years /4 years of service

- Rs 15,75,000 previous recognised

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Rs 33,00,000 - Rs 15,75,000 = Rs 17,25,000

For the year ended 31st March 20X4

= Rs 215 400 awards 75 employees 3 years/4 years of service -

Rs 33,00,000 previously recognised

= Rs 48,37,500 - Rs 33,00,000 = Rs 15,37,500

For the year ended 31st March, 20X5

= Rs 218 400 awards 75 employees 4 years / 4 years of service

– Rs 48,37,500 previously recognised

= Rs 65,40,000 – Rs 48,37,500 = Rs 17,02,500

Calculation of expenses for issue of stock appreciation rights with modification of service period

For the year ended 31st March 20X2

= Rs 210 400 awards 75 employees 1 year / 4 years of service

= Rs 15,75,000 For the year ended 31st March 20X3

= Rs 220 400 awards 75 employees 2 years / 3 years of service - Rs 15,75,000 previous

recognised

= Rs 44,00,000 - Rs 15,75,000 = Rs 28,25,000

For the year ended 31st March 20X4

= Rs 215 400 awards 75 employees 3 years/ 3 years of service - Rs 44,00,000 previous

recognised

= Rs 64,50,000 - Rs 44,00,000 = Rs 20,50,000.

[Link]
Question 17

ICAI Illustration

On 1st January, 20X1, ABC limited gives options to its key management personnel
(employees) to take either cash equivalent to 1,000 shares or 1,500 shares. The minimum
service requirement is 2 years and shares being taken must be kept for 3 years. The
employees exercise their cash option at the end of 20X2. Pass the journal entries.

(Study material)

Answer

1st January, 31st December, 31st December,

20X1 20X1 20X2

Rs Rs Rs

Equity alternative (1,500 x 102) 1,53,000

Cash alternative (1,000 x 113) 1,13,000

Equity option (1,53,000 – 1,13,000) 40,000

Cash option (cumulative) (using period (1,000x120 x ½) 1,32,000

end fair value 60,000

Equity option (cumulative) (40,000 x ½) 40,000

20,000

Expense for the period

Equity option 20,000 20,000

[Link]
Cash Option 60,000 72,000

Total 80,000 92,000

Journal Entries

31st December, 20X1 Rs

Employee benefits expenses Dr. 80,000

To Share based payment reserve (equity)* 20,000

To Share based payment liability 60,000

(Recognition of Equity option and cash settlement option)

31st December, 20X2

Employee benefits expenses Dr. 92,000

To Share based payment reserve (equity)* 20,000

To Share based payment liability 72,000

(Recognition of Equity option and cash settlement option)

Share based payment liability Dr. 1,32,000

To Bank/ Cash 1,32,000

(Settlement in cash)

*The equity component recognized (Rs 40,000) shall remain within equity. By electing to
receive cash on settlement, the employees forfeited the right to receive equity instruments.

[Link]
However, ABC Limited may transfer the share based payment reserve within equity, i.e. a
transfer from one component of equity to another.

Topic 4 : Group Share-based Payment

Question 18

Company P is a holding company for company B. A group share-based payment is being

organized in which Parent issues its own equity shares to the employees of company B. The
details are as below

Number of Employees of Company B 100

Grant date fair value of share Rs. 87

Number of shares granted to each employee 25

Vesting conditions Immediately

Face value per share Rs. 10

Pass the journal entries in the books of company P & company B.

(RTP May ‘21)

Answer 18

Journal Entries in Books of Company P

Particulars Debit (Rs.) Credit (Rs.)

[Link]
Investment in Company B Dr. 2,17,500

To Equity Share Capital A/c (2,500 shares Rs. 10) 25,000

To Securities Premium A/c (2,500 shares Rs. 77) 1,92,500

(Being allotment of 25 shares each to 100 employees of B at

fair value of Rs. 87 per share)

Journal Entries in Books of Company B

Particulars Debit (Rs.) Credit (Rs.)

Employee Benefit Expense A/c Dr. 2,17,500

To Capital Contribution from Parent P 2,17,500

Being issue of shares by Parent to Employees pursuant to

Group Share-based Payment Plan)

Question 19

A Ltd. grants 100 shares to each of its 500 employees on 1st January 20X1. The employees
should remain in service during the vesting period. The shares will vest at the end of the First
year if the company’s earnings increase by 12%; Second year if the company’s earnings
increase by more than 20% over the two-year period; Third year if the entity’s earnings
increase by more than 22% over the three year period.

The fair value per share at the grant date is INR 122. In 20X1, earnings increased by 10%, and
29 employees left the organization. The company expects that earnings will continue at a
similar rate in 20X2 and expects that the shares will vest at the end of the year 20X2. The
company also expects that additional 31 employees will leave the organization in the year

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20X2 and that 440 employees will receive their shares at the end of the year 20X2. At the end
of 20X2, company's earnings increased by 18%. Only 29 employees left the organization
during 20X2. Company believes that additional 23 employees will leave in 20X3 and earnings
will further increase so that the, performance target will be achieved in 20X3. At the end of
the year 20X3, only 21 employees have left the organization. The company’s earnings
increased to desired level and the performance target has been met. Determine the expense
for each year and pass appropriate journal entries as per the relevant Ind AS?

(MTP March ’18 & April ’19)

Answer 19

Since the earnings of the entity is non-market related, hence it will not be considered in fair
value calculation of the shares given. However, the same will be considered while calculating
number of shares to be vested.

Workings:

20X1 20X2 20X3

Total employees 500 500 500

Employees left (Actual) (29) (58) (79)

Employees expected to leave in the next year (31) (23) -

Year end – No of employees 440 419 421

Shares per employee 100 100 100

Fair value of share at grant date 122 122 122

Vesting period 1/2 2/3 3/3

[Link]
Expenses-20X1 (Note 1) 26,84,000

Expenses-20X2 (Note 2) 7,23,867

Expenses-20X3 (Note 3) 17,28,333

Note 1:

Expenses for 20X1 = No. of employee’s Shares per employee Fair value of share

Proportionate vesting period

= 440 100 122 ½

= 26,84,000

Note 2:

Expenses for 20X2 = (No of employees Shares per employee Fair value of share
Proportionate vesting period) – Expenses recognized in year 20X1 = (419 100 122 2/3) –
26,84,000 = 7,23,867

Note 3:

Expenses for 20X3 = (No of employees Shares per employee Fair value of share
Proportionate vesting period) – Expenses recognized in year 20X1 and 20X2 = (421 100 122
3/3) – (26,84,000 + 7,23,867) = 17,28,333.

Journal Entries

31-Dec-20X1

Employee benefits expenses Dr. 26,84,000

[Link]
 To Share based payment reserve (equity) 26,84,000

(Equity settled shared based payment expected vesting amount)

31-Dec-20X2

Employee benefits expenses Dr. 7,23,867

To Share based payment reserve (equity) 7,23,867

(Equity settled shared based payment expected vesting amount)

31-Dec-20X3

Employee benefits expenses Dr. 17,28,333

To Share based payment reserve (equity) 17,28,333

(Equity settled shared based payment expected vesting amount)

Share based payment reserve (equity) Dr 51,36,200

To Share Capital 51,36,200

(Share capital Issued)

Question 20

A parent, Company P, grants 30 shares to 100 employees each of its subsidiary, Company S,
on condition that the employees remain employed by Company S for three years. Assume
that at the outset, and at the end of Years 1 and 2, it is expected that all the employees will
remain employed for all the three years. At the end of Year 3, none of the employees has left.
The fair value of the shares on grant date is Rs 5 per share. Company S agrees to reimburse

[Link]
Company P over the term of the arrangement for 75 percent of the final expense recognised
by Company S. What would be the accounting treatment in the books of Company P and
Company S?

(Practice Question)

Answer 20

Company S expects to recognise an expense totalling Rs 15,000 (30 shares 100 employees
Rs 5 per share) and, therefore, expects the total reimbursement to be Rs 11,250 (Rs 15,000
75%). Company S therefore reimburses Company P Rs 3,750 (Rs 11,250 1/3) each year.

Accounting by Company S

In each of Years 1 to 3, Company S recognises an expense in profit or loss, the cash paid to
Company P, and the balance of the capital contribution it has received from Company P.

Journal Entry

Rs Rs

Employee benefits expenses Dr. 5,000

To Cash/Bank 3,750

To Equity (Contribution from the parent) 1,250

(To recognise the share-based payment expense and partial

reimbursement to parent)

Accounting by Company P

In each of Years 1 to 3, Company P recognises an increase in equity for the instruments being
granted, the cash reimbursed by Company S, and the balance as investment for the capital
contribution it has made to Company S.

[Link]
Journal Entry

Rs Rs

Investment in Company S Dr. 1,250

Cash/Bank Dr. 3,750

To Equity 5,000

(To recognise the grant of equity instruments to employees of

subsidiary less partial reimbursement from subsidiary)

Question 21

An entity which follows its financial year as per the calendar year grants 1,000 share
appreciation rights (SARs) to each of its 40 management employees as on, 1st January 20X5.
The SARs provide the employees with the right to receive (at the date when the rights are
exercised) cash equal to the appreciation in the entity’s share price since the grant date. All of
the rights vest on 31st December 20X6; and they can be exercised during 20X7 and 20X8.
Management estimates that, at grant date, the fair value of each SAR is Rs 11; and it
estimates that overall 10% of the employees will leave during the two-year period. The fair
values of the SARs at each year end are shown below:

Year Fair value at year end

31 December 20X5 12

31 December 20X6 8

31 December 20X7 13

[Link]
 31 December 20X8 12

10% of employees left before the end of 20X6. On 31st December 20X7 (when the intrinsic
value of each SAR was Rs 10), six employees exercised their options; and the remaining 30
employees exercised their options at the end of 20X8 (when the intrinsic value of each SAR
was equal to the fair value of Rs 12). How much expense and liability is to be recognized at
the end of each year? Pass Journal entries.

(Practice Question)

Answer 21

The amount recognized as an expense in each year and as a liability at each year end) is as
follows:

Year Expense Liability Calculation of Liability

Rs Rs

31 December 20X5 2,16,000 2,16,000 = 36 1,000 12 ½

31 December 20X6 72,000 2,88,000 = 36 1,000 8

31 December 20X7 1,62,000* 3,90,000 = 30 1,000 13

31 December 20X8 (30,000) 0 Liability extinguished

* Expense comprises an increase in the liability of Rs 102,000 and cash paid to those exercising
their SARs of Rs 60,000 (6 1,000 10).

Difference of opening liability (Rs 3,90,000) and actual liability paid [Rs 3,60,000 (30 1,000
12)] is recognised to Profit and loss ie Rs 30,000

Journal Entries

[Link]
31 December 20X5

Employee benefits expenses 2,16,000

To Share based payment liability 2,16,000

(Fair value of the SAR recognized)

31 December 20X6

Employee benefits expenses Dr. 72,000

To Share based payment liability 72,000

(Fair value of the SAR re-measured)

31 December 20X7

Employee benefits expenses Dr.

1,62,000

To Share based payment liability 1,62,000

(Fair value of the SAR recognized)

Share based payment liability Dr. 60,000

To Cash 60,000

(Settlement of SAR)

31 December 20X8

Share based payment liability Dr. 30,000

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 To Employee benefits expenses 30,000

(Fair value of the SAR recognized)

Share based payment liability Dr. 3,60,000

To Cash 3,60,000

(Settlement of SAR)

Note: Last two entries can be combined

Topic 5 : Vesting Conditions

Question 22

EXAMINERS’ COMMENTS ON THE PERFORMANCE OF EXAMINEES:

Majority of the examinees were able to calculate correctly the ESOP expenses as per the vesting
years. However, they stumped in the calculation of proportionate expenses to be recognized in
the financial years. Hence, the amount in the journal entries also went wrong.

Rely Industries issued share-based option to one of its key management personal which can
be exercised either in cash or equity and it has following features:

Option I Period INR

No of cash settled shares 74,000

Service condition 3 years

[Link]
Option II

No of equity settled shares 90,000

Conditions:

Service 3 years

Restriction to sell 2 years

Fair values

Equity price with a restriction of sale for 2 years 115

Fair value grant date 135

Fair value as on 31St March 2016 138

2017 140

2018 147

Pass the Journal entries?

(MTP April ’18, PYP Nov’22)

Answer 22

Fair value of Equity option components:

Fair value of a share with restrictive clause Rs. 115

No. of shares 90,000 shares

Fair value (90,000 115) A Rs. 1,03,50,000

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Fair value of a share at the date of grant Rs. 135

No. of cash settled shares 74,000

Fair value (74,000 135) B Rs. 99,90,000

Fair value of equity component in compound instrument (A-B) Rs. 3,60,000

Journal Entries

31/3/2016 Rs.

Employee benefit expenses Dr. 35,24,000

To Share based payment reserve (equity) (3,60,000/3) 1,20,000

To Share based payment liability (138 74,000) / 3 34,04,000

(Recognition of equity option and cash settlement option)

31/3/2017

Employee benefits expenses Dr. 36,22,667

To Share based payment reserve (equity) (3,60,000/3) 1,20,000

To Share based payment liability (140 74,000) 2/3 - 35,02,667

34,04,000

(Recognition of equity option and cash settlement option)

31/3/2018

Employee benefits expenses Dr. 40,91,333

[Link]
To Share based payment reserve (equity) (3,60,000/3) 1,20,000

To Share based payment liability 39,71,333

(147 74,000) 3/3 - (34,04,000 + 35,02,667)

(Recognition of equity option and cash settlement option)

Upon cash alternative chosen Share based payment liability 1,08,78,000

(147 74,000) Dr.

To Bank/ Cash 1,08,78,000

(Being settlement made in cash)

Upon equity alternative chosen Share based payment 1,08,78,000

liability (147 74,000) Dr.

To Share capital 1,08,78,000

(Being settlement made in equity)

Question 23

On 1st April 2017, Kara Ltd. granted an award of 150 share options to each of its 1,000
employees, on condition of continuous employment with Kara Ltd. for three years and the
benefits will then be settled in cash of an equivalent amount of share price. Fair value of each
option on the grant date was Rs 129. Towards the end of 31st March 2018, Kara Ltd.'s share
price dropped; so on 1st April 2018 management chose to reduce the exercise price of the
options.

[Link]
At the date of the re-pricing, the fair value of each of the original share options granted was
Rs 50 and the fair value of each re-priced option was Rs 80. Thus, the incremental fair value of
each modified option was Rs 30. At the date of the award, management estimated that 10%
of employees would leave the entity before the end of three years (i.e., 900 awards would
vest). During financial year 2018-2019, it became apparent that fewer employees than
expected were leaving, so management revised its estimate of the number of leavers to only
5 % (i.e. 950 awards would vest). At the end of 31st March 2020, awards to 930 employees
actually vested. Determine the expense for each year and pass appropriate journal entries as
per the relevant lnd AS.

(PYP Jan 21)

Answer 23

Note: The first para of the question states that “benefits will then be settled in cash of an
equivalent amount of share price.” This implies that the award is cash settled share-based
payment. However, the second and third para talks about repricing of the option which arises in
case of equity settled share-based payment.

Hence, two alternative solutions have been provided based on the information taking certain
assumptions.

1st Alternative based on the assumption that the award is cash settled share based payment.

In such a situation, the services received against share-based payment plan to be settled in cash
are measured at fair value of the liability and the liability continues to be re- measured at every
reporting date until it is actually paid off.

There is a vesting condition attached to the share-based payment plans i.e. to remain in service
for next 3 years. The recognition of such share-based payment plans should be done by
recognizing fair value of the liability at the time of services received and not at the date of
grant. The liability so recognized will be fair valued at each reporting date and difference in fair
value will be charged to profit or loss for the period.

[Link]
Calculation of expenses:

For the year ended 31st March 2018

= Rs 50 x 150 awards x 900 employees x (1 year /3 years of service) = Rs 22,50,000

For the year ended 31st March 2019

Note: It is assumed that the fair value of Rs 80 each of repriced option continues at the end of
the remaining reporting period ie 31st March, 2019 and 31st March, 2020

= [Rs 80 x 150 awards x 950 employees x (2 year / 3 years of service)] - Rs 22,50,000 = Rs

7,60,00,000 – Rs 22,50,000 = Rs 53,50,000

For the year ended 31st March 2020

= [Rs 80 x 150 awards x 930 employees] - Rs 22,50,000 - Rs 53,50,000

= Rs 1,11,60,000 – Rs 22,50,000 - Rs 53,50,000= Rs 35,60,000

Journal Entries

Employee benefits expenses Dr. 22,50,000

To Share based payment liability 22,50,000

(Fair value of the liability recognized)

31st March, 2019

Employee benefits expenses Dr. 53,50,000

To Share based payment liability 53,50,000

(Fair value of the liability re-measured)

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31st March, 2020

Employee benefits expenses Dr. 35,60,000

To Share based payment liability 35,60,000

(Fair value of the liability recognized)

Share based payment Dr. 1,11,60,000

liability To Bank 1,11,60,000

(Being liability for awards settled in cash)

2nd Alternative based on fair value at the grant date (ignoring the fact that the award has to be
settled in cash).

Calculation of expenses:

For the year ended 31st March 2018

= [Rs 129 x 150 awards x 900 employees x (1 year /3 years of service)] = Rs 58,05,000

For the year ended 31st March 2019

Ind AS 102 requires the entity to recognize the effects of repricing that increase the total fair
value of the share-based payment arrangement or are otherwise beneficial to the employee.

If the repricing increases the fair value of the equity instruments granted standard requires the
entity to include the incremental fair value granted (ie the difference between the fair value of
the repriced equity instrument and that of the original equity instrument, both estimated as at
the date of the modification) in the measurement of the amount recognised for services
received as consideration for the equity instruments granted.

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If the repricing occurs during the vesting period, the incremental fair value granted is included
in the measurement of the amount recognised for services received over the period from the
repricing date until the date when the repriced equity instruments vest, in addition to the
amount based on the grant date fair value of the original equity instruments, which is
recognised over the remainder of the original vesting period. Accordingly, the amounts
recognised are as follows:

Year ended Calculation Compensation Cumulative

expense for period compensation
expense

Rs Rs

31 March, [Rs 129 150 awards 900 58,05,000 58,05,000

2018 employees (1 year /3 years of
service)]

31 March, [Rs 129 150 awards 950 85,87,500 1,43,92,500

2019 employees (2 year /3 years of
service)] + (80-50) 150 awards
950 employees (1 year / 2 years
of service) - 58,05,000

31 March, [(Rs 129 + 30) 150 awards 930 77,88,000 2,21,80,500

2020 employees] - 1,43,92,500

Journal Entries

31st March, 2018

Employee benefits expenses Dr. 58,05,000

[Link]
To Outstanding Share based payment option 58,05,000

(Fair value of the liability recognized)

31st March, 2019

Employee benefits expenses Dr 85,87,500

To Outstanding Share based payment option 85,87,500

(Fair value of the liability re-measured)

Question 24

An entity issued 100 shares each to its 1,000 employees subject to service condition of next 2
years. Grant date fair value of the share is Rs 195 each. There is an expectation 97% of the
employees will remain in service at the end of 1st year. However, at the end of 2nd year the
expected employees to remain in service would be 91% of the total employees. Calculate
expense for the year 1 & 2?

(Study material)

Answer 24

Year end % Vest Expense (current period)

FIRST 97% 100 1,000 195 97% 1/2 = 94,57,500

SECOND 91% 100 1,000 195 91% 2/2 –

94,57,500= 82,87,500

[Link]
Question 25

An entity issued 50 shares each to its 170 employees subject to service condition of next 2
years. The settlement is to be made in cash. Grant date fair value of the share is Rs 85 each,
however, the fair value as at end of 1st year, 2nd year were Rs 80 & Rs 90 respectively.
Calculate expense for years 1 and 2?

(Study material)

Answer 25

Year end Vest Expense (current period)

FIRST 1/2 50 170 80 1/2 = 3,40,000

SECOND 2/2 50 170 90 2/2 – 3,40,000 = 4,25,000

a) Liability will be re-measured at each reporting date.

b) Fair value at the end of the year will be used.

Question 26

An entity P issues share-based payment plan to its employees based on the below details:

Number of employees 100

Fair value at grant date Rs 25

[Link]
Market condition Share price to reach at Rs 30

Service condition Expected completion of To remain in service until market condition is

market condition fulfilled 4 years

Define expenses related to such share-based payment plan in each year subject to the below
scenarios

a) Market condition if fulfilled in year 3, or

b) Market condition is fulfilled in year 5.

(Study material)

Answer 26

Market conditions are required to be considered while calculating fair value at grant date.
However, service conditions will be considered as per the expected vesting right to be exercised
by the employees and would be re-estimated during vesting period. However, if the market
related condition is fulfilled before it is expected then all remaining expenses would
immediately be charged off. If market related condition takes longer than the expected period
then original expected period will be followed.

a) Market condition is fulfilled in year 3:

Year 1 2,500/4 = 625

Year 2 2,500/4 = 625

Year 3 2,500-625-625=1,250

Year 4 NIL

b) Market condition is fulfilled in year 5:

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 Year 1 2,500/4 = 625

Year 2 2,500/4 = 625

Year 3 2,500/4 = 625

Year 4 2,500/4 = 625

Year 5 NIL

Question 27

Entity X grants 10 shares each to its 1000 employees on the conditions as mentioned below-

- To remain in service & entity’s profit after tax (PAT) shall reach to Rs 100 million.

- It is expected that PAT should reach to Rs 100 million by the end of 3 years.

- Fair value at grant date is Rs 100.

- Employees expected for vesting right by 1st year 97%, then it revises to 95% by 2nd year and
finally to 93% by 3rd year.

Calculate expenses for next 3 years in respect of share-based payment?

(Study material)

Answer 27

Entity’s PAT is one of the non-market related condition and hence would be included while
making an expectation of vesting shares and there is no requirement to make any changes in
the non-market condition whether this is fulfilled or not because it has already been considered
in the expectation of vesting rights at the end of each year.

[Link]
 Year -1 1,000 10 100 97% 1/3 = 3,23,333

Year-2 1,000 10 100 95% 2/3 - 3,23,333 = 3,10,000

Year -3 1,000 10 100 93% 3/3 - 6,33,333 = 2,96,667

Question 28

At 1st January, 20X0, Ambani Limited grants its CEO an option to take either cash amount
equivalent to 800 shares or 990 shares. The minimum service requirement is 2 years. There is
a condition to keep the shares for 3 years if shares are opted.

Fair values of the shares Rs

Share alternative fair value (with restrictions) 212

Grant date fair value on 1st January, 20X0 213

Fair value on 31st December, 20X0 220

Fair value on 31st December, 20X1 232

The key management exercises his cash option at the end of 20X2. Pass journal entries.

(Study material)

Answer 28

1st January, 31st December, 31st December,

20X0 20X0 20X1

Equity alternative (990 x 212) 2,09,880

[Link]
Cash alternative (800 x 213) 1,70,400

Equity option (2,09,880 – 39,480

1,70,400)

Cash Option (cumulative) (using 88,000 1,85,600

period end fair value)

Equity Option (cumulative) 19,740 39,480

Expense for the period

Equity option 19,740 19,740

Cash Option 88,000 97,600

Total 1,07,740 1,17,340

Journal Entries

31st December, 20X0 Rs Rs

Employee benefits expenses Dr. 1,07,740

To Share based payment reserve (equity) 19,740

To Share based payment liability 88,000

(Recognition of Equity option and cash settlement option)

31st December, 20X1

Employee benefits expenses Dr. 1,17,340

To Share based payment reserve (equity) 19,740

[Link]
 To Share based payment liability 97,600

(Recognition of Equity option and cash settlement option)

Share based payment liability Dr. 1,85,600

To Bank/ Cash 1,85,600

(Settlement in cash)

Topic 6 : Modification of Terms

Question 29

ABC Limited granted 500 stock appreciation rights (SAR) each to 80 employees on 1st April,
20X1 with a fair value Rs 100 each. The terms of the award require the employee to provide
service for four years to earn the award. The SARs are expected to be settled in cash and it is
expected that 100% of the employees will exercise the option. The fair value of each SAR at
each reporting date is as follows:

31st March, 20X2 Rs 110

31st March, 20X3 Rs 120

31st March, 20X4 Rs 115

31st March, 20X5 Rs 130

Please present the journal entries in the books of ABC Limited over the entire life of the
grants. What would be the difference if at the end of the second year of service (i.e. at 31 st
March, 20X3), ABC Limited modifies the terms of the award to require only three years of

[Link]
total service? Please present with the revised journal entries. Answer on the basis of relevant
Ind AS.

(MTP March ‘22) (PYP Nov ’19)

Answer 29

Number of SARs = 80 Employees x 500 SARs = 40,000 SARs

1. When the term of the awards is 4 years of service

Period Fair value To be Cumulative Expense in Cumulative

vested proportion to the expenses
award earned recognize d

a b c = 40,000 x a d = [{(c / no. of e

xb total years) x
years completed}
– e of pvs year]

100 100 % 40,00,000 - -

31st March, 110 100 % 44,00,000 11,00,000 11,00,00

20X2

31st March, 120 100 % 48,00,000 13,00,000 24,00,00 0

20X3

31st March, 115 100 % 46,00,000 10,50,000 34,50,00 0

20X4

31st March, 130 100 % 52,00,000 17,50,000 52,00,00 0

20X5

[Link]
Journal Entries

31st March, 20X2

Employee benefits expenses/Profit and Loss A/c Dr. 11,00,000

To Share based payment liability 11,00,000

(Fair value of SARs has been recognised)

31st March, 20X3

Employee benefits expenses/Profit and Loss A/c Dr. 13,00,000

To Share based payment liability 13,00,000

(Fair value of SARs has been re-measured)

31st March, 20X4

Employee benefits expenses/Profit and Loss A/c Dr. 10,50,000

To Share based payment liability 10,50,000

(Fair value of SARs has been recognized)

31st March, 20X5

Employee benefits expenses A/c Dr. 17,50,000

To Share based payment liability 17,50,000

(Fair value of SARs has been recognized)

[Link]
2. When the term of the awards is modified to 3 years of service instead of 4 years of service

Period Fair value %age of Cumulative Expense in Cumulative

vesting proportion to expenses
the award recognized
earned

a b c = 40,000 x a d = [{(c / no. of e

b total years)
years
completed} –
e of pvs

1st April, 100 100 % 40,00,000 - -

20X1

31st March, 110 100 % 44,00,000 11,00,000 11,00,000

20X2

31st March, 120 100 % 48,00,000 21,00,000 32,00,000

20X3

31st March, 115 100 % 46,00,000 14,00,000 46,00,000

20X4

Journal Entries

31st March, 20X2

Employee benefits expenses Dr. 11,00,000

[Link]
To Share based payment liability 11,00,000

(Fair value of SARs has been recognised)

31st March, 20X3

Employee benefits expenses Dr. 21,00,000

To Share based payment liability 21,00,000

(Fair value of SARs has been re-measured)

31st March, 20X4

Employee benefits expenses Dr. 14,00,000

To Share based payment liability 14,00,000

(Fair value of SARs has been recognized)

Question 30

ICAI Illustration

ABC Limited granted to its employees, share options with a fair value of Rs 5,00,000 on 1st
April, 20X0, if they remain in the organization upto 31st March, 20X3. On 31st March, 20X1,
ABC Limited expects only 91% of the employees to remain in the employment. On 31st
March, 20X2, company expects only 89% of the employees to remain in the employment.
However, only 82% of the employees remained in the organisation at the end of March, 20X3
and all of them exercised their options. Pass the Journal entries?

(Study material)

[Link]
Answer

Period Proportion Fair value To be vested Cumulative Expenses

expenses

a b c d= b c a e = d-
previous
period

Period 1 1/3 5,00,000 91 % 1,51,667 1,51,667

Period 2 2/3 5,00,000 89 % 2,96,667 1,45,000

Period 3 3/3 5,00,000 82 % 4,10,000 1,13,333

4,10,000

Journal Entries

31st March, 20X1 Rs Rs

Employee benefits expenses Dr. 1,51,667

To Share based payment reserve (equity) 1,51,667

(1/3 of expected vested equity instruments value)

31st March, 20X2

Employee benefits expenses Dr. 1,45,000

To Share based payment reserve (equity) 1,45,000

(2/3 of expected vested equity instruments value)

[Link]
31st March, 20X3

Employee benefits expenses Dr. 1,13,333

To Share based payment reserve (equity) 1,13,333

(Final vested equity instruments value)

Share based payment reserve (equity) Dr. 4,10,000

To Share Capital 4,10,000

(re-allocated and issued shares)

Topic 7 : Transition to Ind AS

Question 31

An entity which follows its financial year as per the calendar year grants 1,000 share
appreciation rights (SARs) to each of its 40 management employees as on 1st January 20X5.
The SARs provide the employees with the right to receive (at the date when the rights are
exercised) cash equal to intrinsic value of the entity’s share price. All of the rights vest on 31st
December 20X6; and they can be exercised during 20X7 and 20X8. Management estimates
that, at grant date, the fair value of each SAR is Rs. 11; and it estimates that 10% of the
employees will leave evenly during the two-year period. The fair values of the SARs at each
year end are shown below:

Year Fair value at year end

[Link]
31 December 20X5 12

31 December 20X6 8

31 December 20X7 13

31 December 20X8 12

10% of employees left before the end of 20X6. On 31st December 20X7 (when the intrinsic
value of each SAR was Rs. 10), six employees exercised their options and remaining
employees exercised their options at the end of 20X8 (when the intrinsic value of each SAR
was equal to the fair value of Rs. 12). How much expense and liability is to be recognized at
the end of each year? Also pass Journal entries.

(MTP May ’20, RTP May 20)

Answer 31

The amount recognized as an expense in each year and as a liability at each year end is as
follows:

Year Expense Rs. Liability Rs. Calculation of Liability

31 December 20X5 2,16,00 0 2,16,00 0 = 36 1,000 12 x ½

31 December 20X6 72,000 2,88,000 = 36 1,000 8

31 December 20X7 1,62,000 3,90,000 =30 x 1,000 x 13

Expense comprises an increase in

the liability of Rs. 102,000 and cash
paid to those exercising their SARs
of Rs. 60,000(6 1,000 10).

[Link]
31 December 20X8 (30,000) 0 Liability extinguished.

Excess liability reversed, because

cash paid to those exercising their
SARs Rs. 3,60,000 (30 1,000 12)
was less than the opening liability
Rs.3,90,000.

Journal Entries

31 December 20X5

Employee benefits expenses Dr. 2,16,000

To Share based payment liability 2,16,000

(Fair value of the SAR recognized)

31 December 20X6

Employee benefits expenses Dr. 72,000

To Share based payment liability 72,000

(Fair value of the SAR re-measured)

31 December 20X7

Employee benefits expenses Dr. 1,62,000

To Share based payment liability 1,62,000

(Fair value of the SAR recognized)

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Share based payment liability Dr. 60,000

To Cash 60,000

(Settlement of SAR)

31 December 20X8

Share based payment liability Dr. 30,000

To Employee benefits expenses 30,000

(Fair value of the SAR recognized)

Share based payment liability Dr. 3,60,000

To Cash 3,60,000

(Settlement of SAR)

[Link]
 Chapter 11 Unit 1

Accounting and Reporting of Financial Instruments

Topic 1 : Introduction to Financial Instruments

Question 1

Which of the following would meet and not meet the definition of financial instruments and
fall outside the scope of Ind AS 32?

(1) Cash deposited in banks

(2) Gold deposited in banks

(3) Trade receivables

(4) Investments in debt instruments

(5) Investments in equity instruments

(6) Prepaid expenses

(7) Inter-corporate loans and deposits

(8) Deferred revenue

(9) Tax liability

(10) Provision for estimated litigation losses.

(MTP Oct ‘21)

[Link]
Answer 1

Table showing classification of various items:

[Link]. Item Classification

(1) Cash deposited in banks Financial Instrument

(2) Gold deposited in banks Not a financial instrument

(3) Trade receivables Financial Instrument

(4) Investments in debt instruments Financial Instrument

(5) Investments in equity instruments Financial Instrument

(6) Prepaid expenses Not a financial instrument

(7) Inter-corporate loans and deposits Financial Instrument

(8) Deferred revenue Not a financial instrument

(9) Tax liability Not a financial instrument

(10) Provision for estimated litigation losses Not a financial instrument

Question 2

In an arm’s length transaction, Entity X buys 10,000 convertible preference shares in

Company Z for cash payments of Rs 40,000, with Rs 25,000 payable immediately and Rs
15,000 payable in two years. The market rate of annual interest for a two year loan to the
entity would be 6%. Explain the accounting treatment for the said transaction.

(RTP May ’23)

[Link]
Answer 2

Since payment of Rs 15,000 is deferred for two years, the fair value of the consideration given
for the shares is equal to Rs 25,000 plus the present value of Rs 15,000. The present value of Rs
15,000 deferred payment is Rs 13,350 (Rs 15,000 ÷ 1.062). Entity X will initially measure the
shares purchased at Rs 38,350 (i.e., Rs 25,000 + Rs 13,350). Since this transaction took place at
an arm’s length, this is considered to be fair value for initial recognition in the absence of
evidence to the contrary.\ The difference between the Rs 40,000 cash paid out and the Rs
38,350, i.e. Rs 1,650, will be recognised as interest expense in profit or loss over the two year
period of deferred payment.

Question 3

ICAI Illustration

A Ltd. (the ‘Company’) makes a borrowing for INR 10 lacs from RBC Bank, with bullet
repayment of INR 10 lacs and an annual interest rate of 12% per annum. Now, Company
defaults at the end of 5th year and consequently, a rescheduling of the payment schedule is
made beginning 6th year onwards.

The Company is required to pay INR 1,300,000 at the end of 6th year for one time settlement,
in lieu of defaults in payments made earlier.

(a) Does the above instrument meet definition of financial liability? Please explain.

(b) Analyse the differential amount to be exchanged for one-time settlement.

(Study material)

Answer

[Link]
(a) A Ltd. has entered into an arrangement wherein against the borrowing, A Ltd. Has
contractual obligation to make stream of payments (including interest and principal).

This meets definition of financial liability.

(b) Let’s compute the amount required to be settled and any differential arising upon one time
settlement at the end of 6th year –

a) Loan principal amount = Rs 10,00,000

b) Amount payable at the end of 6th year = Rs 12,54,400 [10,00,000 x 1.12 x 1.12 (Interest for
5th & 6th year in default plus principal amount)]

c) One time settlement = INR 13,00,000

d) Additional amount payable = Rs 45,600

The above represents a contractual obligation to pay cash against settlement of a financial
liability under conditions that are un favorable to A Ltd. (owing to additional amount payable in
comparison to amount that would have been paid without one time settlement). Hence the
rescheduled arrangement meets definition of ‘financial liability’

Topic 2 : Initial Recognition & Measurement

Question 4

X Ltd. issues Rs 1.5 crore convertible bonds on 1st April, 2018. The bonds have a life of 8 years
and a face value of Rs 10 each and offer interest @ 5.5% p.a. payable at the end of each
financial year.

[Link]
Bonds are issued at their face value and each bond can be converted into one ordinary share
of X Ltd. at any time in the next eight years.

Companies of a similar risk profile have recently issued debt with similar terms, without the
option for conversion, at a rate of 7% p.a.

You are required to:

(i) Provide the journal entries from financial year 2018-2019 to financial year 2021-2022;

(ii) Calculate the interest expenses across all eight years of the life of the convertible bonds;

(iii) Give the accounting entries if the holders of the bonds elect to convert the bonds to
ordinary shares at the end of the fourth year (after receiving interest for the fourth year).

(PYP May ’22)

Answer 4

(a) (i) Journal Entries

Dr. (Rs) Cr. (Rs)

1st April, 2018

Bank A/c Dr. 1,50,00,000

To Convertible bonds A/c (liability) (Refer W.N.) 1,36,56,075

To Convertible bonds A/c (equity) (Refer W.N.) 13,43,925

(Being recognition of convertible bonds at the date of issuance into

liability and equity components)

31st March, 2019

[Link]
Interest expense A/c Dr. 9,55,925

To Bank A/c 8,25,000

To Convertible bonds A/c (liability) 1,30,925

(Being interest expense recorded at market rate of 7% and actual

interest paid @ 5.5%)

31st March, 2020

Interest expense A/c Dr. 9,65,090

To Bank A/c 8,25,000

To Convertible bonds A/c (liability) 1,40,090

(Being interest expense recorded at market rate of 7% and actual

interest paid @ 5.5%)

31st March, 2021

Interest expense A/c Dr. 9,74,896

To Bank A/c 8,25,000

To Convertible bonds A/c (liability) 1,49,896

(Being interest expense recorded at market rate of 7% and actual

interest paid @ 5.5%)

31st March, 2022

Interest expense A/c Dr. 9,85,389

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 To Bank A/c 8,25,000

To Convertible bonds A/c (liability) 1,60,389

(Being interest expense recorded at market rate of 7% and actual

interest paid @ 5.5%)

(ii) Table showing computation of interest expense at market rate and actual interest outflow
@ 5.5%

Year Date Opening Actual Interest Increase in Closing bond

bond interest expense liability liability
liability outflow @ @ 7%
5.5%

a b =1.5 cr c=a 7% d = c-b e=a+d

5.5%

0 1st April, 2018 1,36,56,075

1 31st March,2019 1,36,56,075 8,25,000 9,55,925 1,30,925 1,37,87,000

2 31st March,2020 1,37,87,000 8,25,000 9,65,090 1,40,090 1,39,27,090

3 31st March,2021 1,39,27,090 8,25,000 9,74,896 1,49,896 1,40,76,986

4 31st March,2022 1,40,76,986 8,25,000 9,85,389 1,60,389 1,42,37,375

5 31st March, 2023 1,42,37,375 8,25,000 9,96,616 1,71,616 1,44,08,991

6 31st March, 2024 1,44,08,991 8,25,000 10,08,629 1,83,629 1,45,92,620

7 31st March, 2025 1,45,92,620 8,25,000 10,21,483 1,96,483 1,47,89,103

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 8 31st March, 2026 1,47,89,103 8,25,000 10,35,897* 2,10,897 1,50,00,000

*Difference of Rs 660 (10,35,897 -10,35,237) is due to rounding off

(iii) When holders of the bonds elect to convert the bonds to ordinary shares at the end of the
fourth year (after receiving their interest payments), the entries would be:

Dr. (Rs) Cr. (Rs)

31st March, 2022

Convertible bonds A/c (liability) Dr. 1,42,37,375

Convertible bonds A/c (equity) Dr. 13,43,925

To Ordinary share capital A/c 1,55,81,300

(Being bonds converted into ordinary shares of X Ltd.)

Working Note:

Computation of equity and liability component of convertible bond at 7% market rate

Rs

Present value of principal to be received at the end of eight year discounted at 87,30,000
7% (1,50,00,000 0.582)

Annuity of annual interest discounted at 7% for 8 years (1,50,00,000 5.5% 49,26,075

5.971)

Total present value (a) 1,36,56,075

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Equity component (balancing figure) (a-b) 13,43,925

Total proceeds received from issuance of convertible bonds (b) 1,50,00,000

Question 5

A Company invested in Equity shares of another entity on 15th March for Rs 20,000.
Transaction Cost = Rs 400 (not included in Rs 20,000) Fair Value on Balance Sheet date i.e.
31st March, 20X1 = Rs 24,000. Pass necessary Journal Entries when Financial Asset is
accounted as FVTPL.

(MTP March‘22)

Answer 5

Date Particulars (Rs) (Rs)

15/3/20X1 Investment A/c Dr. 20,000

Transaction Cost A/c Dr. 400

To Bank A/c 20,400

31/3/20X1 Investment A/c Dr. 4,000

To Fair Value Gain A/c 4,000

31/3/20X1 P&L A/c Dr. 400

To Transaction Cost A/c 400

31/3/20X1 Fair Value Gain A/c Dr. 4,000

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 To P&L A/c 4,000

Question 6

Autumn Limited has a policy of providing subsidized loans to its employees for their personal
purposes. Mrs. Jama Bai, a senior HR manager in the Company, took a loan of Rs 12.00 lakhs
on the following terms:

• Interest rate 4% per annum

• Loan disbursement date: 1st April, 2019

• The principal amount of the loan shall be recovered in 4 equal annual installments
commencing from 31st March, 2020

• The accumulated interest computed on reducing balance at simple interest is collected in 3

equal annual installments after collection of the principal amount

• Mrs. Jama Bai must remain in service till the principal and interest are paid

• The market rate of a comparable loan to Mrs. Jama Bai is 9% per annum

• The present value of Rs 1 at 9% per annum at the end of respective years is as follows:

Year ending 31st March 2020 2021 2022 2023 2024 2025 2026

Present Value 0.9174 0.8417 0.7722 0.7084 0.6499 0.5963 0.5470

Under the assumption that no probable future economic benefits except the return of loan
has been guaranteed by the employee, you are required to:

i. Provide the journal entries at the time of initial recognition of loan on 1st April, 2019 and as
at 31st March, 2020; and

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ii. Prepare ledger account of 'Loan to Mrs. Jama Bai' from the inception of the loan till its final
payment.

(PYP May ‘23)

Answer 6

i) Journal Entry

Date Particulars Dr. Cr.

Rs Rs

1/4/2019 Loan to Mrs. Jama Bai A/c Dr. 10,43,638

Pre-paid employee cost A/c Dr. 1,56,362

To Bank A/c 12,00,000

(Being loan to employee recorded at fair value)

31/3/2020 Loan to Mrs. Jama Bai A/c Dr 93,927

To Finance Income A/c 93,927

(Being finance income @ 9% recorded in the

books)

31/3/2020 Bank A/c Dr. 3,00,000

To Loan to Mrs. Jama Bai A/c 3,00,000

(Being installment received at the end of the year)

ii) In the books of Autumn Ltd.

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Loan to Mrs. Jama Bai A/c

Date Particulars Amount (Rs) Date Particulars Amount(Rs)

1.4.2019 To Bank A/c 10,43,638 31.3.2020 By Bank A/c 3,00,000

31.3.2020 To Finance 93,927 31.3.2020 By Balance c/d 8,37,565

income (W.N.3)

11,37,565 11,37,565

1.4.2020 To Balance b/d 8,37,565 31.3.2021 By Bank A/c 3,00,000

31.3.2021 To Finance 75,381 31.3.2021 By Balance c/d 6,12,946

income (W.N.3)

9,12,946 9,12,946

1.4.2021 To Balance b/d 6,12,946 31.3.2022 By Bank A/c 3,00,000

31.3.2022 To Finance 55,165 31.3.2022 By Balance c/d 3,68,111

income (W.N.3)

6,68,111 6,68,111

1.4.2022 To Balance b/d 3,68,111 31.3.2023 By Bank A/c 3,00,000

31.3.2023 To Finance 33,130 31.3.2023 By Balance c/d 1,01,241

income (W.N.3)

4,01,241 4,01,241

1.4.2023 To Balance b/d 1,01,241 31.3.2024 By Bank A/c 40,000

31.3.2024 To Finance 9,112 31.3.2024 By Balance c/d 70,353

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 income (W.N.3)

1,10,353 1,10,353

1.4.2024 To Balance b/d 70,353 31.3.2025 By Bank A/c 40,000

31.3.2025 To Finance 6,332 31.3.2025 By Balance c/d 36,685

income (W.N.3)

76,685 76,685

1.4.2025 To Balance b/d 36,685 31.3.2026 By Bank A/c 40,000

31.3.2026 To Finance 3,315*

income (W.N.3)

40,000 40,000

*Difference of Rs 13 (Rs 3,315 – Rs 3,302) is due to approximation.

Working Notes:

1. Calculation of initial recognition amount of loan to employee

Year Estimated Cash Flows PV Factor @9% Present Value

Rs Rs

31/3/2020 3,00,000 0.9174 2,75,220

31/3/2021 3,00,000 0.8417 2,52,510

31/3/2022 3,00,000 0.7722 2,31,660

31/3/2023 3,00,000 0.7084 2,12,520

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 31/3/2024 40,000 (W.N.2) 0.6499 25,996

31/3/2025 40,000 (W.N.2) 0.5963 23,852

31/3/2026 40,000 (W.N.2) 0.5470 21,880

Fair Value of Loan 10,43,638

2. Computation of Interest to be paid

Year Opening Cash Flows Principal Interest @ Cumulative

outstanding outstanding
b 4% on a Interest
balance a at year end c

d e

Rs Rs Rs Rs

31/3/2020 12,00,000 3,00,000 9,00,000 48,000 48,000

31/3/2021 9,00,000 3,00,000 6,00,000 36,000 84,000

31/3/2022 6,00,000 3,00,000 3,00,000 24,000 1,08,000

31/3/2023 3,00,000 3,00,000 Nil 12,000 1,20,000

31/3/2024 1,20,000 40,000

(1,20,000/3)

31/3/2025 40,000
(1,20,000/3)

31/3/2026 40,000
(1,20,000/3)

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3. Computation of finance cost as per amortization table

Year Opening Balance Interest @ 9% Repayment Closing

(1) (2) (3) Balance (1+2-3)

Rs Rs Rs Rs

1/4/2019 10,43,638

31/3/2020 10,43,638 93,927 3,00,000 8,37,565

31/3/2021 8,37,565 75,381 3,00,000 6,12,946

31/3/2022 6,12,946 55,165 3,00,000 3,68,111

31/3/2023 3,68,111 33,130 3,00,000 1,01,241

31/3/2024 1,01,241 9,112 40,000 70,353

31/3/2025 70,353 6,332 40,000 36,685

31/3/2026 36,685 3,315* 40,000 Nil

*Difference of Rs 13 (Rs 3,315 – Rs 3,302) is due to approximation.

Question 7

A Ltd has made a security deposit whose details are described below. Make necessary journal
entries for accounting of the deposit in the first year and last year. Assume market interest
rate for a deposit for similar period to be 12% per annum.

Particulars Details

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Date of Security Deposit (Starting Date) 1-Apr-20X1

Date of Security Deposit (Finishing Date) 31-Mar-20X6

Description Lease

Total Lease Period 5 years

Discount rate 12.00%

Security deposit (A) 10,00,000

Present value factor at the 5th year 0.567427

(MTP Oct ‘23)

Answer 7

The above security deposit is an interest free deposit redeemable at the end of lease term
forRs10,00,000. Hence, this involves collection of contractual cash flows and shall be accounted
at amortised cost.

Upon initial measurement –

Particulars Details

Security deposit (A) 10,00,000

Total Lease Period (Years) 5

Discount rate 12.00%

Present value factor of 5th year end 0.56743

Present value of deposit at beginning (B) 5,67,427

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Prepaid lease payment at beginning (A-B) 4,32,573

Journal Entries

Year – 1 beginning

Particulars Amount Amount

Security deposit A/c Dr. 5,67,427

Prepaid lease expenses Dr. 4,32,573

To Bank A/c 10,00,000

Subsequently, every annual reporting year, interest income shall be accrued @ 12% per annum
and prepaid expenses shall be amortised on straight line basis over the lease term.

Year 1 end

Particulars Amount Amount

Security deposit A/c (5,67,427 12%) Dr. 68,091

To Interest income A/c 68,091

Depreciation (4,32,573 / 5 years) Dr. 86,515

To Prepaid lease expenses 86,515

At the end of 5th year, the security deposit shall accrue Rs 10,00,000 and prepaid lease
expenses shall be fully amortised (i.e. depreciated as per Ind AS 116, this prepaid lease rent
would be shown as ROU asset). Journal entry for realisation of security deposit –

Particulars Amount Amount

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Security deposit A/c Dr. 1,07,143

To Interest income A/c 1,07,143

Depreciation (4,32,573 / 5 years) Dr. 86,515

To Prepaid lease expenses (ROU Asset) 86,515

Bank A/c Dr. 10,00,000

To Security deposit A/c 10,00,000

Question 8

M Limited has made a security deposit whose details are given below:

Particulars Details

Date of security deposit (starting date) 1st April, 2016

Date of security deposit (finishing date) 31st March, 2021

Description Lease

Total lease period 5 years

Security deposit Rs 20,00,000

Present value factor at the end of the 5th year 0.6499

Determine, how above financial asset should be measured and briefly explain measurement
determined as such. Make necessary journal entries for accounting of the security deposit in
the first year and last year. Assume market rate for a deposit for similar period to be 9% p.a.

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 (PYP Dec ‘21)

Answer 8

The given security deposit is an interest free deposit redeemable at the end of lease term for Rs
20,00,000. Hence, this involves collection of contractual cash flows and shall be accounted at
amortised cost.

Upon initial measurement

Rs

Security deposit (A) 20,00,000

Present value of deposit at beginning (20,00,000 0.6499) (B) (12,99,800)

Prepaid lease payment at beginning (A-B) 7,00,200

Journal Entries

Year 1 – beginning

Particulars Rs Rs

Security deposit A/c Dr. 12,99,800

Prepaid lease rent (ROU Asset) Dr. 7,00,200

To Bank A/c 20,00,000

(Recognised present value of security deposit and prepaid lease)

Subsequently, every annual reporting year, interest income shall be accrued @ 9% per annum
and prepaid expenses shall be amortised on straight line basis over the lease term.

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Year 1 – end

Particulars Rs Rs

Security deposit A/c (12,99,800 9%) Dr. 1,16,982

To Interest income A/c 1,16,982

(Recognised interest on security deposit)

Depreciation (7,00,200 / 5 years) Dr. 1,40,040

To Prepaid lease rent (ROU Asset) 1,40,040

(Prepaid lease depreciated for the year)

Year 5- end

At the end of 5th year, the security deposit shall accrue Rs 20,00,000 and prepaid lease
expenses shall be fully amortised (i.e. depreciated as per Ind AS 116, this prepaid lease rent
would be shown as ROU asset).

Journal entry for realization of security deposit

Particulars Rs Rs

Security deposit A/c (Refer W.N.) Dr. 1,65,227

To Interest income A/c 1,65,227

(Recognised interest on security deposit)

Depreciation (7,00,200 / 5 years) Dr. 1,40,040

To Prepaid lease rent (ROU Asset) 1,40,040

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(Prepaid lease depreciated for the year)

Bank A/c Dr. 20,00,000

To Security deposit A/c 20,00,000

(Security deposit paid back at the end of the lease term)

Working Note:

Amortization schedule

Year end Opening balance Interest income Closing balance

1 12,99,800 1,16,982 14,16,782

2 14,16,782 1,27,510 15,44,292

3 15,44,292 1,38,986 16,83,278

4 16,83,278 1,51,495 18,34,773

5 18,34,773 1,65,227* 20,00,000

* Difference is due to approximation.

Topic 3 : Subsequent Measurement (FVTPL / FVOCI / Amortized Cost)

Question 9

An entity purchases a debt instrument with a fair value of Rs. 1,000 on 15th March, 20X1 and
measures the debt instrument at fair value through other comprehensive income. The

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instrument has an interest rate of 5% over the contractual term of 10 years, and has a 5%
effective interest rate. At initial recognition, the entity determines that the asset is not a
purchased or original credit-impaired asset.

On 31st March 20X1 (the reporting date), the fair value of the debt instrument has decreased
to Rs. 950 as a result of changes in market interest rates. The entity determines that there has
not been a significant increase in credit risk since initial recognition and that ECL should be
measured at an amount equal to 12 month ECL, which amounts to Rs. 30. On 1st April 20X1,
the entity decides to sell the debt instrument for Rs. 950, which is its fair value at that date.

Pass journal entries for recognition, impairment and sale of debt instruments as per Ind AS
109. Entries relating to interest income are not to be provided.

(MTP March ’21, RTP Nov ’19)

Answer 9

On Initial recognition

Debit (Rs) Credit (Rs)

Financial asset-FVOCI Dr. 1,000

To Cash 1,000

On Impairment of debt instrument

Debit (Rs) Credit (Rs)

Impairment expense (P&L) Dr. 30

Other comprehensive income Dr. 20

To Financial asset-FVOCI 50

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The cumulative loss in other comprehensive income at the reporting date was Rs. 20. That
amount consists of the total fair value change of Rs. 50 (that is, Rs. 1,000-Rs. 950) offset by the
change in the accumulated impairment amount representing 12- month ECL, that was
recognized (Rs. 30).

On Sale of debt instrument

Debit Credit

(Rs.) (Rs.)

Cash 950

To Financial asset –FVOCI 950

Loss on sale (P&L) 20

To Other comprehensive income 20

Question 10

On 1 April 2018, an 8% convertible loan with a nominal value of Rs. 6,00,000 was issued at
par. It is redeemable on 31 March 2022 also at par. Alternatively, it may be converted into
equity shares on the basis of 100 new shares for each Rs. 200 worth of loan.

An equivalent loan without the conversion option would have carried interest at 10%.
Interest of Rs. 48,000 has already been paid and included as a finance cost. Present value
rates are as follows:

Year End @ 8% @ 10%

1 0.93 0.91

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 2 0.86 0.83

3 0.79 0.75

4 0.73 0.68

How will the Company present the above loan notes in the financial statements for the year
ended 31 March 2019?

(MTP Mar ‘19)

Answer 10

Step 1 There is an ‘option’ to convert the loans into equity i.e. the loan note holders do not
have to accept equity shares; they could demand repayment in the form of cash.

Ind AS 32 states that where there is an obligation to transfer economic benefits there should be
a liability recognised. On the other hand, where there is not an obligation to transfer economic
benefits, a financial instrument should be recognised as equity.

In the above illustration we have both – ‘equity’ and ‘debt’ features in the instrument. There is
an obligation to pay cash – i.e. interest at 8% per annum and a redemption amount – this is
‘financial liability’ or ‘debt component’. The ‘equity’ part of the transaction is the option to
convert. So it is a compound financial instrument.

Step 2 Debt element of the financial instrument so as to recognise the liability is the present
value of interest and principal The rate at which the same is to be discounted, is the rate of
equivalent loan note without the conversion option would have carried interest at 10%,
therefore this is the rate to be used for discounting

Step 3 Calculation of the debt element of the loan note as follows: 8% Interest discounted at a
rate of 10% Present Value (6,00,000 8%)

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 No Year Interest amount PVF Amount

Year 1 2019 48,000 0.91 43,680

Year 2 2020 48,000 0.83 39,840

Year 3 2021 48,000 0.75 36,063

1,19,583

Year 4 2022 648,000 0.68 4,40,640

Amount to be recognised as a liability 5,60,223

Initial proceeds (6,00,000)

Amount to be recognised as equity 39,777

• In year 4, the loan note is redeemed therefore Rs. 6,00,000 + Rs. 48,000 = Rs. 6,48,000.

Step 4 The next step is to recognise the interest component equivalent to the loan that would
carry if there was no option to cover. Therefore, the interest should be recognised at 10%. As
on date Rs. 48,000 has been recognised in the statement of profit and loss i.e. 6,00,000 x 8%
but we have discounted the present value of future interest payments and redemption amount
using discount factors of 10%, so the finance charge in the statement of profit and loss must
also be recognised at the same rate i.e. for the purpose of consistency.

The additional charge to be recognised in the income statement is calculated as: Debt
component of the financial instrument Rs. 5,60,000

Interest charge (5,60,000 10%) Rs. 56,000

Already charged to the income statement (Rs. 48,000)

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Additional charge required Rs. 8,000

Journal Entries for recording additional finance cost for year ended 31 March 2019

Particulars Dr. Amount Cr. Amount

(Rs.) (Rs.)

Finance cost A/c Dr. 8,000

To Debt component A/c 8,000

(Being interest recorded for difference between amount

recorded earlier and that to be recorded per Ind AS 32)

Question 11

Croton Limited is engaged in the business of trading commodities. The company’s main asset
are investments in equity shares, preference shares, bonds, nonconvertible debenture (NCD)
and mutual funds.

The Company collects the periodical income (i.e. interest, dividend, etc.) from the
investments and regularly sells the investment in case of favorable market conditions. Such
investments have been classified as non-current investments in the financial statements.

Also, the company buys and sells equity shares of companies for earning short term profits
from the stock market.

The CFO of company classified all the non-current investments as Fair Value Through Other
Comprehensive Income (FVTOCI) and all the current investment as Fair value Through Profit
and Loss (FVTPL).

Croton Limited raised the following queries:

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(a) Can the Company classify the equity shares previously held under current investment as
FVTOCI if the company decides to hold them for more than one-year (i.e. classify it as non-
current)?

(b) The Company had classified NCDs with a maturity period of less than twelve months from
the reporting period as current. This has been classified as FVTPL by the CFO of the company.
The Company wants to know whether these NCDs can be recognized as FVTOCI?

(MTP Oct ‘19)

Answer 11

a) It seems that the equity shares are acquired for the purpose of selling it in the near term and
therefore are held for trading. Such investments have been appropriately classified as
subsequently measured at fair value through profit or loss. Such investments in equity shares
cannot be classified as subsequently measured at fair value through other comprehensive
income. The option to measure investment in equity shares at fair value through other
comprehensive income has to be made at initial recognition. Therefore, equity shares that were
held for trading previously cannot be reclassified to fair value through other comprehensive
income due to change in business model to not held for trading.

b) In absence of contractual terms of NCDs, it is assumed that the contractual terms give rise on
specified dates to cash flows that are solely payment of principal and interest on the principal
outstanding. The business model also includes sales of these instruments on a regular basis.
Hence, these instruments will be classified as FVTOCI. Therefore, such NCD investments shall be
classified as subsequently measured at Fair Value through Other Comprehensive Income. The
classification does not change based on whether the investment is current or non-current as
the end of the reporting period. It seems the company has previously classified these
investments at fair value through profit or loss. The company must rectify this by reclassifying
as FVTOCI.

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Question 12

Softech Limited has a policy of providing subsidized loans to its employees for the purpose of
buying or construction of residential houses. Mrs. B is a Senior Manager in the Company. The
Company granted a loan to her on the following terms:

• Principal amount : Rs 25 lakh

• Interest rate: 4% for the first Rs 10 lakh and 7% for the next Rs 15 lakh

• Loan disbursed on: 1st January, 2019

• Tenure: 5 years

• Pre-payment: Full or partial pre-payment at the option of the employee.

• The principal amount of loan shall be recovered in 5 equal installments and

will be first applied to 7% interest bearing principal.

• The accrued interest shall be paid on an annual basis.

• Mrs. B must remain in service till the term of the loan ends.

• The market rate of a comparable loan available to Mrs. B, is 12% per annum.

• Give your calculations by adopting the present value factor as :

31.12.20 19 31.12.20 20 31.12.20 21 31.12.20 22 31.12.20 23

0.8929 0.7972 0.7118 0.6355 0.5674

Following table shows the contractually expected cash flows from the loan given to Mrs. B.

Date Outflows Inflows Principal

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 outstanding
Principal Interest Interest
income income
(7%) (4%)

1st January (25,00,000) 25,00,000

2019

31st December 5,00,000 1,05,000 40,000 20,00,000

2019

31st December 5,00,000 70,000 40,000 15,00,000

2020

31st December 5,00,000 35,000 40,000 10,00,000

2021

31st December 5,00,000 - 40,000 5,00,000

2022

31st December 5,00,000 - 20,000 -

2023

Mrs. B pre-pays Rs 5,00,000 on 31st December 2020, reducing the outstanding principal as on
date to Rs 10,00,000.

Following table shows the actual cash flows from the loan given to Mrs. B, considering the
pre-payment event on 31st December, 2020: (Amount in Rs)

Date Outflows Inflows Principal

Principal Interest Interest income outstanding

income (4%)

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 (7%)

1st January 2019 (25,00,000) 25,00,000

31st December 5,00,000 1,05,000 40,000 20,00,000

2019

31st December 10,00,000 70,000 40,000 10,00,000

2020

31st December 5,00,000 - 40,000 5,00,000

2021

31st December 5,00,000 - 20,000 -

2022

31st December - - - -
2023

Record the journal entries (up to 31st December, 2020) in the books of Softech Limited
considering the requirements of Ind AS 109.

(PYP July 21)

Answer 12

As per Ind AS 109, a financial instrument is initially measured and recorded at its fair value.
Therefore, considering the market rate of interest of similar loan available to Mrs. B is 12%, the
fair value of the contractual cash flows shall be as follows:

Inflows

Date Principal Interest Interest Discount PV

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 income @ income @ 4% factor @12%
7%

31st December 5,00,000 1,05,000 40,000 0.8929 5,75,921

2019

31st December 5,00,000 70,000 40,000 0.7972 4,86,292

2020

31st December 5,00,000 35,000 40,000 0.7118 4,09,285

2021

31st December 5,00,000 - 40,000 0.6355 3,43,170

2022

31st December 5,00,000 - 20,000 0.5674 2,95,048

2023

Total (fair value) 21,09,716

Benefit to Mrs. B, to be considered a part of employee cost for Softech Limited Rs 3,90,284 (Rs
25,00,000 – Rs 21,09,716).

The deemed employee cost is to be amortised over the period of loan i.e. the minimum period
that Mrs. B must remain in service.

The amortization schedule of Rs 21,09,716 loan is shown in the following table:

Date Opening Total cash Interest @ Closing

outstanding inflows (principal 12% outstanding loan
loan repayment +
interest

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 1st January 2019 21,09,716 - - 21,09,716

31st December 21,09,716 6,45,000 2,53,166 17,17,882

2019

31st December 17,17,882 6,10,000 2,06,146 13,14,028

2020

31st December 13,14,028 5,75,000 1,57,683 8,96,711

2021

31st December 8,96,711 5,40,000 1,07,605 4,64,316

2022

31st December 4,64,316 5,20,000 55,684* -

2023

* Difference of Rs 34 (55,718 – 55,684) is due to approximation.

Journal Entries in the books of Softech Limited

a. 1st January 2019

Particulars Dr. (Rs) Cr. (Rs)

Loan to Mrs. B A/c Dr. 21,09,716

Pre-paid employee cost A/c Dr. 3,90,284

To Bank A/c 25,00,000

(Being loan asset recorded at initial fair value)

b. 31st December 2019

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Particulars Dr. (Rs) Cr. (Rs)

Bank A/c Dr. 6,45,000

To Interest income (profit and loss) @ 12% A/c 2,53,166

To Loan to Mrs. B A/c 3,91,834

(Being first instalment of repayment of loan accounted for

using the amortised cost and effective interest rate of 12%)

Employee benefit (profit and loss) A/c Dr. 78,05

To Pre-paid employee cost A/c 78,057

(Being amortization of pre-paid employee cost charged to

profit and loss as employee benefit V cost)

On 31st December 2020, due to pre-payment of a part of loan by Mrs. B, the carrying value of
the loan shall be re-computed by discounting the future remaining cash flows by the original
effective interest rate. There shall be two sets of accounting entries on 31st December 2020,
first the realisation of the contractual cash flow as shown in (c) below and then the accounting
for the pre-payment of Rs 5,00,000 included in (d) below:

c. 31st December 2020

Particulars Dr. (Rs) Cr. (Rs)

Bank A/c Dr. 6,10,000

To Interest income (profit and loss) @ 12% A/c 2,06,146

To Loan to Mrs. B A/c 4,03,854

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(Being second instalment of repayment of loan accounted for
using the amortised cost and effective interest rate of 12%)

Employee benefit (profit and loss) A/c Dr. 78,057

To Pre-paid employee cost A/c 78,057

(Being amortization of pre-paid employee cost charged to

profit and loss as employee benefit cost)

d. Computation of new carrying value of loan to Mrs. B:

Inflows

Date Principal Interest Interest Discount PV

income income 4% factor @
7% 12%

31st December 2021 5,00,000 - 40,000 0.8929 4,82,166

31st December 2022 5,00,000 - 20,000 0.7972 4,14,544

Total (revised carrying 8,96,710

value)

Less: Current carrying (13,14,028)

value

Adjustment required 4,17,318

The difference between the amount of pre-payment and adjustment to loan shall be
considered a gain, though will be recorded as an adjustment to pre-paid employee cost, which
shall be amortised over the remaining tenure of the loan.

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e. 31st December 2020 prepayment

Particular Dr. Cr.

Bank A/c Dr. 5,00,000

To Pre-paid employee cost A/c 82,682

To Loan to Mrs. B A/c 4,17,318

(Being gain to Softech Limited recorded as an adjustment to pre-

paid employee cost)

EXAMINERS’ COMMENTS ON THE PERFORMANCE OF EXAMINEES:

Some examinees erred in computing the revised carrying value and adjustment amount relating
to pre-payment of loan by the employee which led to passing of wrong journal entry in the year
of pre-payment.

Amortisation of employee benefit cost shall be as follows

Date Opening Amortised to P&L Adjustment Closing Balance

Balance

1st January 2019 3,90,284 3,90,284

31st December 2019 3,90,284 78,057 82,682 3,12,227

31st December 2020 3,12,227 78,057 1,51,488

Topic 4 : Derecognition of Financial Instruments

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Question 13

To encourage entities to expand their operations in a specified development zone, the

government provides interest-free loans to fund the purchase of manufacturing equipment.
In accordance with the development scheme, an entity receives an interest -free loan of Rs
5,00,000 from the government for a period of three years. The market rate of interest for
similar loans for 3 years is 5% per year. There are no future performance conditions attached
to the interest -free loan. Discuss how to account for the above loan. Pass necessary journal
entries in the entity’s books of accounts from year 1 to year 3, as per relevant Ind AS.

(RTPNov’22)

Answer 13

The entity measures the loan on initial recognition at Rs 4,32,000, which is the present value of
the loan (financial liability) — Rs 5,00,000/(1.05)3. Rs 68,000, the difference between the loan
proceeds received Rs 5,00,000 (the loan’s face value) and present value of the loan Rs 4,32,000,
is a government grant and is recognised immediately as there are no specified future
performance conditions. The amount recognised on day one will accrete to Rs 5,00,000 over
the three-year term using the effective interest method.

Journal Entries

On initial recognition:

Rs Rs

Cash/Bank (financial asset) Dr. 5,00,000

To Loan (financial liability) 4,32,000

To Income (profit or loss) 68,000

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(Being interest-free loan recognised at fair value and the receipt of a
government grant)

At the end of Year 1:

Rs Rs

Finance cost (profit or loss) Dr. 21,600

To Loan (financial liability) 21,600

(Being accretion of time value recognised on the financial liability)

Year 2

Rs Rs

Finance cost (profit or loss) Dr. 22,680

To Loan (financial liability) 22,680

(Being accretion of time value recognised on the financial liability)

Year 3

Rs Rs

Finance cost (profit or loss) Dr. 23,720

To Loan (financial liability) 23,720

(Being accretion of time value recognised on the financial liability)

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Immediately after all the accretions are recognised, the carrying amount of the loan is equal to
its face value of Rs 5,00,000, which is also the amount payable to the government.

Rs Rs

Loan (financial liability) Dr. 5,00,000

To Cash/Bank 5,00,000

(Being loan repaid to the government)

Working Note:

Calculation of Amortised Cost

Year Opening balance (A) Interest at 5% Cash flow (C) Closing balance (A) +
(B) – (C)
(B) = (A) 5%

1 4,32,000 21,600 – 4,53,600

2 4,53,600 22,680 – 4,76,280

3 4,76,280 23,720* (5,00,000) –

* Difference is due to approximation.

Question 14

Perfect Ltd. issued 50,000 Compulsory Cumulative Convertible Preference Shares (CCCPS) as
on 1st April, 2017 @ Rs. 180 each. The rate of dividend is 10% payable at the end of every
year. The preference shares are convertible into 12,500 equity shares (Face value Rs. 10 each)
of the company at the end of 5th year from the date of allotment. When the CCCPS are

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issued, the prevailing market interest rate for similar debt without conversion option is 15%
per annum. Transaction cost on the date of issuance is 2% of the value of the proceeds.
Effective Interest Rate is 15.86%. (Round off the figures to the nearest multiple of Rupee)
Discounting Factor @ 15%

Year 1 2 3 4 5

Discount Factor 0.8696 0.7561 0.6575 0.5718 0.4971

You are required to compute Liability and Equity Component and Pass Journal Entries for
entire term of arrangement i.e. from the issue of Preference Shares till their conversion into
Equity Shares. Keeping in view the provisions of relevant Ind AS

(PYP May’19)

Answer 14

This is a compound financial instrument with two components – liability representing present
value of future cash outflows and balance represents equity component.

Total proceeds = 50,000 Shares x Rs. 180 each = Rs. 90,00,000 Dividend @ 10% = Rs.9,00,000

a. Computation of Liability & Equity Component

Date Particulars Cash Flow Discount Factor Net present

Value

01-Apr-2017 0 1 0.00

31-Mar-2018 Dividend 9,00,000 0.8696 7,82,640

31-Mar-2019 Dividend 9,00,000 0.7561 6,80,490

31-Mar-2020 Dividend 9,00,000 0.6575 5,91,750

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 31-Mar-2021 Dividend 9,00,000 0.5718 5,14,620

31-Mar-2022 Dividend 9,00,000 0.4971 4,47,390

Total Liability Component 30,16,890

Total Proceeds 90,00,000

Total Equity Component 59,83,110

(Bal fig)

b. Allocation of transaction costs

Particulars Amount Allocation Net Amount

a b a-b

Liability Component 30,16,890 60,338 29,56,552

Equity Component 59,83,110 1,19,662 58,63,448

Total Proceeds 90,00,000 1,80,000 88,20,000

c. Accounting for liability at amortized cost

- Initial accounting = Present value of cash outflows less transaction costs

- Subsequent accounting = At amortized cost, ie initial fair value adjusted for interest and
repayments of the liability.

Opening Interest @ Cash Flow Closing Financial

Financial 15.86% (Dividend Liability
Liability payment)
B A+B-C

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 A C

01-Apr- 2017 29,56,552 29,56,552

31-Mar- 2018 29,56,552 4,68,909 9,00,000 25,25,461

31-Mar- 2019 25,25,461 4,00,538 9,00,000 20,25,999

31-Mar- 2020 20,25,999 3,21,323 9,00,000 14,47,322

31-Mar- 2021 14,47,322 2,29,545 9,00,000 7,76,867

31-Mar- 2022 7,76,867 1,23,133* 9,00,000 -

*Difference of Rs. 78 (adjusted in the interest value of 31st March, 2022) is due to
approximation of figures in the earlier years.

d. Journal Entries to be recorded for entire term of arrangement are as follows:

Date Particulars Debit Credit

Rs. Rs.

01-Apr- Bank A/c Dr. 88,20,000

2017

To Preference Shares A/c 29,56,552

To Equity Component of Preference shares A/c 58,63,448

Being compulsorily convertible preference shares

issued. The same are divided into equity
component and liability component as per the
calculation)

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 31-Mar- Preference shares A/c Dr. 9,00,000
2018

To Bank A/c 9,00,000

(Being dividend at the coupon rate of 10% paid

to the shareholders)

31-Mar- Finance cost A/c Dr. 4,68,909

2018

To Preference Shares A/c 4,68,909

(Being interest as per EIR method recorded)

31-Mar- Preference shares A/c Dr. 9,00,000

2019

To Bank A/c 9,00,000

(Being dividend at the coupon rate of 10% paid

to the shareholders)

31-Mar- Finance cost A/c Dr. 4,00,538

2019

To Preference Shares A/c 4,00,538

(Being interest as per EIR method recorded)

31-Mar- Preference shares A/c Dr. 9,00,000

2020

To Bank A/c 9,00,000

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 (Being dividend at the coupon rate of 10% paid
to the shareholders)

31-Mar- Finance cost A/c Dr. 3,21,323

2020

To Preference Shares A/c 3,21,323

(Being interest as per EIR method recorded)

31-Mar- Preference shares A/c Dr. 9,00,000

2021

To Bank A/c 9,00,000

(Being dividend at the coupon rate of 10% paid

to the shareholders)

31-Mar- Finance cost A/c Dr. 2,29,545

2021

To Preference Shares A/c 2,29,545

(Being interest as per EIR method recorded)

31-Mar- Preference shares A/c Dr. 9,00,000

2022

To Bank A/c 9,00,000

(Being dividend at the coupon rate of 10% paid

to the shareholders)

31-Mar- Finance cost A/c Dr. 1,23,133

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 2022

To Preference Shares A/c 1,23,133

(Being interest as per EIR method recorded)

31-Mar- Equity Component of Preference shares A/c Dr. 58,63,448

2022

To Equity Share Capital A/c 1,25,000

To Securities Premium A/c 57,38,448

(Being preference shares converted in equity

shares and remaining equity component is
recognised as securities premium)

Topic 5 : Compound Financial Instruments

Question 15

KK Ltd. has granted an interest free loan of Rs. 10,00,000 to its wholly owned Indian
Subsidiary YK Ltd. There is no transaction cost attached to the said loan. The Company has
not finalised any terms and conditions including the applicable interest rates on such loans.
The Board of Directors of the Company are evaluating various options and has requested your
firm to provide your views under Ind AS in following situations:

(i) The Loan given by KK Ltd. to its wholly owned subsidiary YK Ltd. is interest free and such
loan is repayable on demand.

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(ii) The said Loan is interest free and will be repayable after 3 years from the date of granting
such loan. The current market rate of interest for similar loan is 10%. Considering the same,
the fair value of the loan at initial recognition is Rs.8,10,150.

(iii) The said loan is interest free and will be repaid as and when YK Ltd. has funds to repay
the Loan amount.

Based on the same, KK Ltd. has requested you to suggest the accounting treatment of the
above loan in the stand-alone financial statements of KK Ltd. and YK Ltd. and also in the
consolidated financial statements of the group. Consider interest for only one year on the
above loan for the purpose of providing journal entries.

(MTP Oct ’20, RTP May’19)

Answer 15

Scenario (i)

Since the loan is repayable on demand, it has fair value equal to cash consideration given. KK
Ltd. and YK Ltd. should recognize financial asset and liability, respectively, at the amount of loan
given (assuming that loan is repayable within a year). Upon, repayment, both the entities
should reverse the entries that were made at the origination.

Journal entries in the books of KK Ltd.

At origination

Loan to YK Ltd. A/c Dr. Rs. 10,00,000

To Bank A/c Rs. 10,00,000

On repayment

Bank A/c Dr. Rs. 10,00,000

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 To Loan to YK Ltd. A/c Rs. 10,00,000

Journal entries in the books of YK Ltd.

At origination

Bank A/c Dr. Rs. 10,00,000

To Loan from KK Ltd. A/c Rs. 10,00,000

On repayment

Loan from KK Ltd. A/c Dr. Rs. 10,00,000

To Bank A/c Rs. 10,00,000

In the consolidated financial statements, there will be no entry in this regard since loan
receivable and loan payable will get set off.

Scenario (ii)

Applying the guidance in Ind AS 109, a ‘financial asset’ shall be recorded at its fair value upon
initial recognition. Fair value is normally the transaction price. However, sometimes certain
type of instruments may be exchanged at off market terms (ie, different from market terms for
a similar instrument if exchanged between market participants).

If a long-term loan or receivable that carries no interest while similar instruments if exchange d
between market participants carry interest, then fair value for such loan receivable will be
lower from its transaction price owing to the loss of interest that the holder bears. In such cases
where part of the consideration given or received is for something other than the financial
instrument, an entity shall measure the fair value of the financial instrument. The difference in
fair value and transaction cost will treated as investment in Subsidiary YK Ltd.

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Both KK Ltd. and YK Ltd. should recognise financial asset and liability, respectively, at fair value
on initial recognition, i.e., the present value of Rs. 10,00,000 payable at the end of 3 years using
discounting factor of 10%. Since the question mentions fair value of the loan at initial
recognition as Rs. 8,10,150, the same has been considered. The difference between the loan
amount and its fair value is treated as an equity contribution to the subsidiary. This represents
a further investment by the parent in the subsidiary.

Journal entries in the books of KK Ltd. (for one year)

At origination

Loan to YK Ltd .A/c Dr. Rs. 8,10,150

Investment in YK Ltd. A/c Dr. Rs. 1,89,850

To Bank A/c Rs. 10,00,000

During periods to repayment- to recognise interest

Year 1 – Charging of Interest

Loan to YK Ltd. A/c Dr. Rs. 81,015

To Interest income A/c Rs. 81,015

Transferring of interest to Profit and Loss

Interest income A/c Dr. Rs. 81,015

To Profit and Loss A/c Rs. 81,015

On repayment

Bank A/c Dr. Rs. 10,00,000

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 To Loan to YK Ltd. A/c Rs. 10,00,000

Note- Interest needs to be recognized in statement of profit

and loss. The same cannot be adjusted against capital
contribution recognized at origination.

Journal entries in the books of YK Ltd. (for one year)

At origination

Bank A/c Dr. Rs. 10,00,000

To Loan from KK Ltd. A/c Rs. 8,10,150

To Equity Contribution in KK Ltd. A/c Rs. 1,89,850

During periods to repayment- to recognise interest

Year 1

Interest expense A/c Dr. Rs. 81,015

To Loan from KK Ltd. A/c Rs. 81,015

On repayment

Loan from KK Ltd. A/c Dr. Rs. 10,00,000

To Bank A/c Rs. 10,00,000

In the consolidated financial statements, there will be no entry in this regard since loan and
interest income/expense will get set off.

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Scenario (iii)

Generally, a loan which is repayable when funds are available, cannot be stated as loan
repayable on demand. Rather the entity needs to estimate the repayment date and determine
its measurement accordingly by applying the concept prescribed in

Scenario (iv).

In the consolidated financial statements, there will be no entry in this regard since loan and
interest income/expense will get set off.

In case the subsidiary YK Ltd. is planning to grant interest free loan to KK Ltd., then the
difference between the fair value of the loan on initial recognition and its nominal value should
be treated as dividend distribution by YK Ltd. and dividend income by the parent KK Ltd.

EXAMINERS’ COMMENTS ON THE PERFORMANCE OF EXAMINEES:

This question dealt with the accounting treatment of Financial Instruments under various
scenarios. Many examinees explained the accounting treatment without passing the journal
entries or incomplete journal entries were provided by some of the examinees.

Question 16

ICAI Illustration

Target Ltd. took a borrowing from Z Ltd. for Rs 10,00,000. Z Ltd. enters into an arrangement
with Target Ltd. for settlement of the loan against issue of a certain number of equity shares
of Target Ltd. whose value equals Rs 10,00,000. For this purpose, fair value per share (to
determine total number of equity shares to be issued) shall be determined based on the
market price of the shares of Target Ltd. at a future date, upon settlement of the contract.
Evaluate this under definition of financial instrument.

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 (Study material)

Answer

In the above scenario, Target Ltd. is under an obligation to issue variable number of equity
shares equal to a total consideration of Rs 10,00,000. Hence equity shares are used as currency
for purpose of settlement of an amount payable by Target Ltd.

Since this is variable number of shares to be issued in a non-derivative contract for fixed
amount of cash, it tantamounts to use of equity shares as ‘currency’ and hence this contract
meets the definition of financial liability in books of Target Ltd

Topic 6 : Modification of Terms (Debt Restructuring)

Question 17

ABC Bank gave loans to a customer – Target Ltd. that carry fixed interest rate @ 10% per
annum for a 5 year term and 12% per annum for a 3 year term.

Additionally, the bank charges processing fees @1% of the principal amount borrowed.
Target Ltd borrowed loans as follows:

10 lacs for a term of 5 years

8 lacs for a term of 3 years.

Compute the fair value upon initial recognition of the loan in books of Target Ltd. and how
will loan processing fee be accounted?

(April ’21)

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Answer 17

The loans from ABC Bank carry interest @ 10% and 12% for 5 year term and 3 year term
respectively. Additionally, there is a processing fee payable @ 1% on the principal amount on
date of transaction. It is assumed that ABC Bank charges all customers in a similar manner and
hence this is representative of the market rate of interest.

Amortized cost is computed by discounting all future cash flows at market rate of interest.
Further, any transaction fees that are an integral part of the transaction are adjusted in the
effective interest rate and recognized over the term of the instrument. Hence loan processing
fees shall be reduced from the principal amount to arrive the value on day 1 upon initial
recognition.

Fair value (5-year term loan) = 10,00,000 – 10,000 (1% 10,00,000) = 9,90,000

Fair value (3-year term loan) = 8,00,000 – 8,000 (1% 8,00,000) = 7,92,000.

Now, effective interest rate shall be higher than the interest rate of 10% and 12% on 5 year
loan and 3 year loan respectively, so that the processing fees gets recognized as interest over
the respective term of loans.

Topic 7 : Embedded Derivatives

Question 18

Vedika Ltd. issued 80,000 8% convertible debentures of Rs. 100 each on 1st April, 2015. The
debentures are due for redemption on 31st March, 2019 at a premium of 20%, convertible
into equity shares to the extent of 50% and balance to be settled in cash to the debenture
holders. The interest rate on equivalent debentures without conversion right was 12%. The
conversion to equity qualifies as fixed for fixed.

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You are required to separate the debt and equity components at the time of issue and show
the accounting entries in Vedika Ltd.'s books at initial recognition only. The following present
values of Rupee 1 at 8% and 12% are provided for a period of 5 years.

Interest rate Year 1 Year 2 Year 3 Year 4 Years 5

8% 0.923 0.853 0.789 0.731 0.677

12% 0.887 0.788 0.701 0.625 0.557

(PYP Nov 19)

Answer 18

Computation of debt component of convertible debentures on 1st April, 2015

Particulars Amount (Rs.)

Present value of principal amount repayable after 4 years

(A) 80,00,000 50% 120% 0.625 (12% discount factor) 30,00,000

(B) Present value of interest [8,00,000 80% 3.001] (4 years cumulative 19,20,640
10% discount factor)

Total present value of debt component (A) + (B) 49,20,640

Issue proceeds from convertible debentures 80,00,000

Value of equity component 30,79,360

Journal entry at initial recognition

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Bank A/c Dr. 80,00,000

To 8% Debentures A/c (liability component) To 8% Debentures A/c 49,20,640

(equity component)
30,79,360
(Being disbursement recorded at fair value)

Note: The question has been solved on the basis of the discounting factors given in the
question.

Question 19

Weak Limited, which is a fully owned subsidiary company of Strong Limited approached
Strong Limited for an interest free loan for mitigation of its financial difficulties. Strong
Limited provided the loan to Weak Limited on the following terms & conditions:

Nature of loan Interest free

Amount of loan Rs 60,00,000

Date of disbursement of loan 1st April, 2021

Loan period 3 years

Loan repayable by Weak Ltd. On 31st March, 2024

Market rate of interest for similar loan 8% (both for holding and subsidiary)
per annum

P.V. factor of Rs 1 at the end of 3rd year at 8% per 0.7938

annum is

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Assuming that there are no transaction costs, you are required to pass necessary accounting
entries in the books of Weak Limited for all the three years.

(PYP May ‘23)

Answer 19

Accounting in the books of Weak Ltd (Subsidiary)

Date Particulars Amount Amount

On the date of loan

1.4.2021 Bank A/c Dr. 60,00,000

To Loan from Strong Ltd. (Payable) 47,62,800

To Equity (Deemed capital contribution from ABC 12,37,200

Ltd.)

(Being the loan taken from Strong Ltd.

recognised at fair value)

At the end of Year 1

31.3.2022 Interest expense (Finance cost) Dr. 3,81,024

To Loan from Strong Ltd. (Payable) 3,81,024

(Being interest expense recognised)

At the end of Year 2

31.3.2023 Interest expense (Finance cost) Dr. 4,11,506

To Loan from Strong Ltd. (Payable) 4,11,506

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 (Being interest expense recognised)

At the end of Year 3

31.3.2024 Interest expense (Finance cost) Dr. 4,44,670*

To Loan from Strong Ltd. (Payable) 4,44,670

(Being interest expense recognised)

On repayment of loan

31.3.2024 Loan from Strong Ltd. (Payable) Dr. 60,00,000

To Bank A/c 60,00,000

(Being loan repaid by Weak Ltd.)

*Difference is due to approximation.

Working Notes:

1. Present Value of Loan = Rs 60,00,000 0.7938 = Rs 47,62,800

2. Amortisation table for computation of interest:

Year end Opening balance Interest @ 8% Repayment Closing balance

(1) (2) (3) (1) + (2) - (3)

1 47,62,800.00 3,81,024.00 - 51,43,824.00

2 51,43,824.00 4,11,506.00 - 55,55,330.00

3 55,55,330.00 4,44,670.00* 60,00,000.00 -

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*Difference is due to approximation

Topic 8 : Hedge Accounting

Question 20

Discuss the need of hedge accounting and types of various hedges?

(MTP Oct ‘18)

Answer 20

Hedge accounting may be required due to accounting mismatches in:

• Measurement – some financial instruments (non-derivative) are not measured at fair value
with changes being recognised in the statement of profit and loss whereas all derivatives, which
commonly are used as hedging instruments, are measured at fair value

• Recognition – unsettled or forecast transactions that may be hedged are not recognised on
the balance sheet or are included in the statement of profit and loss only in a future accounting
period, whereas all derivatives are recognised at inception.

Recognition mismatches include the hedge of a contracted or expected but not yet recognised
sale, purchase or financing transaction in a foreign currency and future committed variable
interest payments.

Types of hedge accounting

1. Fair value hedge accounting model

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• A fair value hedge seeks to offset the risk of changes in the fair value of an existing asset or
liability or an unrecognised firm commitment that may give rise to a gain or loss being
recognised in the statement of profit and loss.

• A fair value hedge is a hedge of the exposure to changes in fair value of a recognised asset or
liability or an unrecognised firm commitment, or an identified portion of such an asset, liability
or firm commitment, that is attributable to a particular risk and could affect the statement of
profit and loss.

2. Cash flow hedge accounting model

• A cash flow hedge seeks to offset certain risks of the variability of cash flows in respect of an
existing asset or liability or a highly probable forecast transaction that may be reflected in the
statement of profit and loss in a future period.

• A cash flow hedge is a hedge of the exposure to variability in cash flows that (i) is attributable
to a particular risk associated with a recognised asset or liability (such as all or some future
interest payments on variable rate debt) or a highly probable forecast transaction or a firm
commitment in respect of foreign currency and (ii) could affect the statement of profit and loss.

3. Net investment hedging

• An investor in a non-integral operation is exposed to changes in the carrying amount of the

net assets of the foreign operation (the net investment) arising from the translation of those
assets into the reporting currency of the investor.

Topic 9 : Foreign Exchange Transactions & Forward Contracts

Question 21

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On 1st January 2017, Expo Limited agreed to purchase USD ($) 40,000 from E&I Bank in future
on 31st December 2017 for a rate equal to Rs. 65 per USD. Expo Limited did not pay any
amount upon entering into the contract. Expo Limited is a listed company in India and
prepares its financial statements on a quarterly basis.

Using the definition of derivative included in Ind AS 109 and following the principles of
recognition and measurement as laid down in Ind AS 109, you are required to record the
entries for each quarter ended till the date of actual purchases of USD.

For the purpose of accounting, use the following information representing marked to market
fair value of forward contracts at each reporting date:

As at 31st March, 2017 Rs. (50,000)

As at 30th June, 2017 Rs. (30,000)

As at 30th September, 2017 Rs. 24,000

Spot rate of USD on 31st December, 2017 Rs. 62 per USD

(RTP May’18)

Answer 21

Assessment of the arrangement using the definition of derivative included under Ind AS 109.

Derivative is a financial instrument or other contract within the scope of this Standard with all
three of the following characteristics:

(a) Its value changes in response to the change in foreign exchange rate (emphasis laid)

(b) It requires no initial net investment or an initial net investment is smaller than would be
required for other types of contracts with similar response to changes in market factors.

(c) It is settled at a future date.

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Upon evaluation of contract in question, on the basis of the definition of derivative, it is noted
that the contract meets the definition of a derivative as follows:

(a) The value of the contract to purchase USD at a fixed price changes in response to changes in
foreign exchange rate.

(b) The initial amount paid to enter into the contract is zero. A contract which would give the
holder a similar response to foreign exchange rate changes would have required an investment
of USD 40,000 on inception.

(c) The contract is settled in future

The derivative is a forward exchange contract.

As per Ind AS 109, derivatives are measured at fair value upon initial recognition and are
subsequently measured at fair value through profit and loss.

Accounting in each Quarter

(i) Accounting on 1st January 2017

As there was no consideration paid and without evidence to the contrary the fair value of the
contract on the date of inception is considered to be zero. Accordingly, no accounting entries
shall be recorded on the date of entering into the contract.

(ii) Accounting on 31st March 2017

Particulars Dr. (Rs.) Cr. (Rs.)

Profit and loss A/c Dr. 50,000

To Derivative financial liability 50,000

(Being mark to market loss on forward contract recorded)

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(iii) Accounting on 30th June 2017

Particulars Dr. (Rs.) Cr. (Rs.)

Derivative financial liability A/c Dr. 20,000

To Profit and Loss A/c 20,000

(Being partial reversal of mark to market loss on forward contract

recorded)

(iv) Accounting on 30th September 2017

Particulars Dr. (Rs.) Cr. (Rs.)

Derivative financial liability A/c Dr. 30,000

Derivative financial asset A/c Dr. 24,000

To Profit and Loss A/c 54,000

(Being gain on mark to market of forward contract booked as

derivative financial asset and reversal of derivative financial
liability)

(v) Accounting on 31st December 2017

The settlement of the derivative forward contract by actual purchase of USD 40,000

Particulars Dr. (Rs.) Cr. (Rs.)

Cash (USD Account) (USD 40,000 Rs. 62) Dr. 24,80,000

Profit and loss A/c Dr. 1,44,000

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 To Cash (USD 40,000 Rs. 65) 26,00,000

To Derivative financial asset A/c 24,000

(Being loss on settlement of forward contract booked on actual

purchase of USD)

EXAMINERS’ COMMENTS ON THE PERFORMANCE OF EXAMINEES:

Majority of the examinees were not able to state whether the contract met the definition of
derivative and hence were not able to record the correct entries for each quarter.

Question 22

Company A, an Indian company whose functional currency is Rs, enters into a contract to
purchase machinery from an unrelated local supplier, company B. The functional currency of
company B is also Rs. However, the contract is denominated in USD, since the machinery is
sourced by company B from a US based supplier. Payment is due to company B on delivery of
the machinery.

Key terms of the contract:

Contractual features Details

Contract / order date 9th September 20X1

Delivery / payment date 31st December 20X1

Purchase price USD 1,000,000

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USD / Rs Forward rate on 9th September, 20X1 for 31st December, 67.8
20X1 maturity

USD / Rs Spot rate on 9th September, 20X1 66.4

USD / Rs Forward rates for 31st December, on: 30th September 67.5

31st December (spot rate) 67.0

Company A is required to analyse if the contract for purchase of machinery (a capital asset)
from company B contains an embedded derivative and whether this should be separately
accounted for on the basis of the guidance in Ind AS 109. Also give necessary journal entries
for accounting the same.

(Sep ‘23)

Answer 22

The USD contract for purchase of machinery entered into by company A includes an embedded
foreign currency derivative due to the following reasons:

▪ The host contract is a purchase contract (non-financial in nature) that is not classified as, or
measured at FVTPL.

▪ The embedded foreign currency feature (requirement to settle the contract by payment of
USD at a future date) meets the definition of a stand-alone derivative – it is akin to a USD

- Rs forward contract maturing on 31st December, 20X1.

▪ USD is not the functional currency of either of the substantial parties to the contract (i.e.,
neither company A nor company B).

▪ Machinery is not routinely denominated in USD in commercial transactions around the world.
In this context, an item or a commodity may be considered ‘routinely denominated’ in a

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particular currency only if such currency was used in a large majority of similar commercial
transactions around the world. For example, transactions in crude oil are generally considered
routinely denominated in USD. A transaction for acquiring machinery would not qualify for this
exemption.

▪ USD is not a commonly used currency for domestic commercial transactions in the economic
environment in which either company A or B operate. This exemption generally applies when
the business practice in a particular economic environment is to use a more stable or liquid
foreign currency (such as the USD), rather than the local currency, for a majority of internal or
cross-border transactions, or both.

Here, companies A and B are companies operating in India and the purchase contract is an
internal/domestic transaction. USD is not a commonly used currency for internal trade within
this economic environment and therefore the contract would not qualify for this exemption.

Accordingly, company A is required to separate the embedded foreign currency derivative from
the host purchase contract and recognise it separately as a derivative.

The separated embedded derivative is a forward contract entered into on 9th September, 20X1,
to exchange USD 10,00,000 for Rs at the USD / Rs forward rate of Rs 67.8 on 31st December,
20X1. Since the forward exchange rate has been deemed to be the market rate on the date of
the contract, the embedded forward contract has a fair value of zero on initial recognition.

Subsequently, company A is required to measure this forward contract at its fair value, with
changes in fair value recognised in the statement of profit and loss. The following is the
accounting treatment at quarter-end and on settlement:

Accounting treatment:

Date Particulars Amount (Rs) Amount (Rs)

09-Sep- On initial recognition of the forward contract

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 X1

(No accounting entry recognised since initial Nil Nil

fair value of the forward contract is considered
to be nil)

30-Sep- Fair value change in forward contract

X1

Derivative asset (company B) Dr . 3,00,000

[(67.8-67.5) 10,00,000]

To Profit or loss 3,00,000

31-Dec- Fair value change in forward contract

X1

Forward contract asset (company B) Dr . 5,00,000

[{(67.8-67) 10,00,000} - 3,00,000]

To Profit or loss 5,00,000

31-Dec- Recognition of machinery acquired and on

X1 settlement

Property, plant and equipment Dr . 6,78,00,000

(at forward rate)

To Forward contract asset (company B) 8,00,000

To Creditor (company B) / Bank 6,70,00,000

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Question 23

KUPA Ltd. Borrowed · Rs 95 lakh as loan from XYZ Bank on 1st April, 2018 at an interest rate
of 10% p.a. KUPA Ltd. spent Rs 1,80,912 as loan processing charges. Principal amount of loan
is to be repaid in 5 equal instalments and the interest to be paid annually on accrual basis.
Effective interest rate on loan is 10.8%. On 31st March, 2020, KUPA Ltd. faced challenges in
business because of sudden change in the technology. It approached XYZ Bank and
renegotiated the terms of the loan. Interest rate changed to 15% p.a. Principal amount of
loan is to be repaid in 8 equal instalments payable annually starting 31st March, 2021 and the
interest is to be paid annually on accrual basis. Before approaching bank, KUPA Ltd. Made the
interest payment on 31st March, 2020.

You are required to record Journal entries in the books of KUPA Ltd. till 31st March, 2021,
after giving effect of the changes in the terms of the loan on 31st March, 2020. Workings
should form part of the answer.

PV of Rs 1 Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Year 7 Year 8

10% 0.909 0.826 0.751 0.683 0.621 0.564 0.513 0.467

10.8% 0.903 0.815 0.735 0.664 0.599 0.540 0.488 0.440

15% 0.870 0.756 0.658 0.572 0.497 0.432 0.376 0.327

(PYP Dec ’21, MTP Mar’23)

Answer 23

The following table shows the amortisation of loan based on effective interest rate:

Date Opening Cash flows Cash Total cash Interest @ Closing

Amortised (Principal) outflows flows (3 + EIR 10.80% Amortised
(1)

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 cost (2) (3) (Interest 4 = 5) (2 cost (2- 5 +
@ 10% and 10.80% 6 = 7)
fee) (4)
= 6)

1st April, (95,00,000) 1,80,912 93,19,088

2018

31st March, 93,19,088 19,00,000 9,50,000 28,50,000 10,06,462 74,75,550

2019

31st March, 74,75,550 19,00,000 7,60,000 26,60,000 8,07,359 56,22,909

2020

31st March, 56,22,909 19,00,000 5,70,000 24,70,000 6,07,274 37,60,183

2021

31st March, 37,60,183 19,00,000 3,80,000 22,80,000 4,06,100 18,86,283

2022

31st March, 18,86,283 19,00,000 1,90,000 20,90,000 2,03,717*

2023

* Difference of Rs 2 (2,03,719 – 2,03,717) is due to approximation.

(i) On 1st April, 2018

Particulars Dr. (Rs) Cr. (Rs)

Bank A/c Dr. 93,19,088

To Loan from bank A/c 93,19,088

(Being loan recorded at its fair value less transaction costs on the

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initial recognition date)

(ii) On 31st March, 2019

Particulars Dr. (Rs) Cr. (Rs)

Loan from bank A/c Dr. 18,43,5 38

Interest expense Dr. 10,06,462

To Bank A/c 28,50,000

(Being first instalment of loan and payment of interest accounted

for as an adjustment to the amortised cost of loan)

(iii) On 31st March, 2020– Before KUPA Ltd. approached the bank

Particulars Dr. (Rs) Cr. (Rs)

Interest expense Dr. 8,07,359

To Loan from bank A/c 47,359

To Bank A/c 7,60,000

(Being loan payment of interest recorded by the Company before it

approached the Bank for deferment of principal)

Reason for treating the modification as a fresh loan:

Upon receiving the new terms of the loan, KUPA Ltd., re-computed the carrying value of the
loan by discounting the new cash flows with the original effective interest rate and comparing
the same with the current carrying value of the loan. As per requirements of Ind AS 109, any

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change of more than 10% shall be considered a substantial modification, resulting in fresh
accounting for the new loan.

The following table shows the present value (PV) of new contractual cash flows and percentage
of variation:

Date Cash flows Interest Total cash Discounting PV of cash

(principal) outflow @ outflow factor @ flows
15% 10.80%

31st March, (76,00,000)

2020

31st March, 9,50,000 11,40,000 20,90,000 0.903 18,87,270

2021

31st March, 9,50,000 9,97,500 19,47,500 0.815 15,87,213

2022

31st March, 9,50,000 8,55,000 18,05,000 0.735 13,26,675

2023

31st March, 9,50,000 7,12,500 16,62,500 0.664 11,03,900

2024

31st March, 9,50,000 5,70,000 15,20,000 0.599 9,10,480

2025

31st March, 9,50,000 4,27,500 13,77,500 0.540 7,43,850

2026

31st March, 9,50,000 2,85,000 12,35,000 0.488 6,02,680

2027

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 31st March, 9,50,000 1,42,500 10,92,500 0.440 4,80,700
2028

PV of new contractual cash flows discounted @ 10.80% 86,42,768

Carrying amount of loan (93,19,088 - 18,43,538 + 47,359) (75,22,909)

Difference 11,19,859

Percentage of carrying amount 14.89%

Decision Making:

Considering a more than 10% change in PV of cash flows compared to the carrying value of the
loan, the existing loan shall be considered to have been extinguished and the new loan shall be
accounted for as a separate financial liability.

The accounting entries for the same are included below:

(i) On 31st March, 2020 – Accounting for extinguishment

Particular Dr. (Rs) Cr. (Rs)

Loan from bank (old) A/c Dr. 75,22,909

Finance cost Dr. 77,091

To Loan from bank (new) A/c 76,00,000

(Being new loan accounted for at its principal amount in

absence of any transaction costs directly related to such loan
and corresponding derecognition of existing loan)

(ii) On 31st March, 2021

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Particulars Dr. (Rs) Cr. (Rs)

Loan from bank A/c Dr. 9,50,000

Interest expense Dr. 11,40,000

To Bank A/c 20,90,000

(Being first instalment of the new loan and payment of interest

accounted for as an adjustment to the amortised cost of loan)

Topic 10 : Impairment of Financial Assets

Question 24

On 1st April, 20X1, S Ltd. issued 30,000 6% convertible debentures of face value of Rs 100 per
debenture at par. The debentures are redeemable at a premium of 10% on 31st March, 20X5
or these may be converted into ordinary shares at the option of the holder. The interest rate
for equivalent debentures without conversion rights would have been 10%. The date of
transition to Ind AS is 1st April, 20X3. Suggest how should S Ltd. account for this compound
financial instrument on the date of transition. The present value of Rs 1 receivable at the end
of each year based on discount rates of 6% and 10% can be taken as:

End of year 6% 10%

1 0.94 0.91

2 0.89 0.83

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 3 0.84 0.75

4 0.79 0.68

(MTP March ’22)

Answer 24

The carrying amount of the debenture on the date of transition under previous GAAP, assuming
that all interest accrued other than premium on redemption have been paid, will be Rs
31,50,000 [(30,000 100) + (30,000 100 10/100 2/4)]. The premium payable on
redemption is being recognised as borrowing costs as per para 4(b) of AS 16 ie under previous
GAAP on straight- line basis.

As per para D18 of Ind AS 101, Ind AS 32, Financial Instruments: Presentation, requires an entity
to split a compound financial instrument at inception into separate liability and equity
components. If the liability component is no longer outstanding, retrospective application of
Ind AS 32 would involve separating two portions of equity. The first portion is recognised in
retained earnings and represents the cumulative interest accreted on the liability component.

The other portion represents the original equity component. However, in accordance with this
Ind AS, a first-time adopter need not separate these two portions if the liability component is
no longer outstanding at the date of transition to Ind AS. In the present case, since the liability
is outstanding on the date of transition, S Ltd. will need to split the convertible debentures into
debt and equity portion on the date of transition. Accordingly, we will first measure the liability
component by discounting the contractually determined stream of future cash flows (interest
and principal) to present value by using the discount rate of 10% p.a. (being the market interest
rate for similar debentures with no conversion option).

Rs

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Interest payments p.a. on each debenture 6

Present Value (PV) of interest payment for years 1 to 4 (6 3.17) (Note 1) 19.02

PV of principal repayment (including premium) 110 0.68 (Note 2) 74.80

Total liability component per debenture 93.82

Equity component per debenture (Balancing figure) 6.18

Face value of debentures 100.00

Total equity component for 30,000 debentures 1,85,400

Total debt amount (30,000 93.82) 28,14,600

Thus, on the date of initial recognition, the amount of Rs 30,00,000 being the amount of
debentures will be split as under:

Debt Rs 28,14,600

Equity Rs 1,85,400

However, on the date of transition, unwinding of Rs 28,14,600 will be done for two years as
follows:

Year Opening balance Finance cost @ 10% Interest paid Closing balance

1 28,14,600 2,81,460 1,80,000 29,16,060

2 29,16,060 2,91,606 1,80,000 30,27,666

Therefore, on transition date, S Ltd. shall –

a. recognise the carrying amount of convertible debentures at Rs 30,27,666;

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b. recognise equity component of compound financial instrument of Rs 1,85,400;

c. debit Rs 63,066 to retained earnings being the difference between the previous GAAP
amount of Rs 31,50,000 and Rs 30,27,666 and the equity component of compound financial
instrument of Rs 1,85,400; and

d. derecognise the debenture liability in previous GAAP of Rs 31,50,000.

Notes:

1. 3.17 is present value of annuity factor of Rs 1 at a discount rate of 10% for 4 years.

2. On maturity, Rs 110 will be paid (Rs 100 as principal payment + Rs 10 as premium)

Question 25

State whether the following items meet the definition of Financial Asset or Financial Liability
for an entity:

(i) A bank advances an entity a five-year loan. The bank also provides the entity with an
overdraft facility for a number of years.

(ii) Entity A owns preference shares in Entity B. The preference shares entitle Entity A to
dividends, but not to any voting rights.

(iii) An entity has a present obligation in respect of income tax due for the prior year.

(iv) In a lawsuit brought against an entity, a group of people is seeking compensation for
damage to their health as a result of land contamination believed to be caused by waste from
the entity’s production process. It is unclear whether the entity is the source of the
contamination since many entities operate in the same area and produce similar waste.

(RTP May ’23)

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Answer 25

(i) The entity has two financial liabilities namely (a) the obligation to repay the fiveyear loan and
(b) the obligation to repay the bank overdraft to the extent that it has borrowed using the
overdraft facility. Both the loan and the overdraft result in contractual obligations for the entity
to pay cash to the bank for the interest incurred and for the return of the principal.

(ii) For Entity B: The preference shares may be equity instruments or financial liabilities of Entity
B, depending on their terms and conditions.

For Entity A: Irrespective of Entity B’s treatment, the preference shares are a financial asset
because the investment satisfies the definition of a financial asset.

(iii) An income tax liability is created as a result of statutory requirements imposed by the
government. The rights and obligations are not created by a contract. Hence, the liability for
income-tax dues is not a financial liability.

(iv) The fact that a lawsuit may result in the payment of cash does not create a financial liability
for the entity because there is no contract between the entity and the affected group. The
entity will need to consider providing for the payment as per Ind AS 37 ‘Provisions, Contingent
Liabilities and Contingent Assets’.

Topic 11 : Presentation & Disclosure Requirements

Question 26

On 1st April, 20X3, Charming Ltd issued 1,00,000 Rs 10 bonds for Rs 10,00,000. On 1st April,
each year, interest at the fixed rate of 8% per year is payable on outstanding capital amount
of the bonds (ie the first payment will be made on 1 st April, 20X4). On 1st April each year (i.e
from 1st April, 20X4), Charming Ltd has a contractual obligation to redeem 10,000 of the

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bonds at Rs 10 per bond. In its statement of financial position at 31st March, 20X4. How
should this be presented in the financial statements?

(March ‘22)

Answer 26

Charming Ltd must present Rs 80,000 accrued interest and Rs 1,00,000 current portion of the
non-current bond (i.e. the portion repayable on 1st April, 20X4) as current liabilities. The Rs
9,00,000 due later than 12 months after the end of the reporting period shall be presented as a
non-current liability.

Question 27

An asset is sold in 2 different active markets (a market in which transaction for the asset or
liability takes place with sufficient frequency and volume to provide pricing information on an
ongoing basis) at different prices. An entity entersinto transactions in both markets and can
access the price in those markets for the asset at the measurement date.

In Market A:

The sale price of the asset is Rs. 26, transaction cost is Rs. 3 and the cost to transport the
asset to Market A is Rs. 2 (i.e., the net amount that would be received is Rs. 21).

In Market B:

The sale price of the asset is Rs. 25, transaction cost is Re. 1 and the cost to transport the
asset to Market B is Rs. 2 (i.e., the net amount that would be received is Rs. 22).

Determine the fair value of the asset by supporting your answer with proper reason.

(MTP Aug ‘18)

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Answer 27

If Market A is the principal market for the sale of asset (i.e., the market with the greatest
volume and level of activity for the asset), the fair value of the asset would be measured using
the price that would be received in that market, after taking into account transport cost of Rs.
24. The price in the principal (or most advantageous) market used to measure the fair value of
the asset or liability shall not be adjusted for transaction costs.

If neither market is the principal market for the sale of asset, the fair value of the asset would
be measured using the price in the most advantageous market. The most advantageous market
is the market that maximises the amount that would be received by selling the asset, after
taking into account transport cost (i.e., the net amount that would be received in the respective
markets). Since the entity would maximise the net amount that would be received for the asset
in Market B, the fair value of the asset would be measured using the price in that market ie.
sale of asset Rs. 25 less transport cost Rs. 2, resulting in a fair value measurement of Rs. 23.

Question 28

(a) On 1st April, 2017, XYZ Ltd., a company incorporated in India enters into a contract to buy
solar panels from Good Associates, a firm domiciled in UAE, for which delivery is due after 6
months i.e. on 30th September, 2017.

The purchase price for solar panels is US$ 50 million.

The functional currency of XYZ is Indian Rupees (INR) and of Good Associates is Dirhams.

The obligation to settle the contract in US Dollars has been evaluated to be an embedded
derivative which is not closely related to the host purchase contract.

Exchange rates:

1. Spot rate on 1st April 2017: USD 1 = Rs. 60

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2. Six-month forward rate on 1st April, 2017: USD 1 = Rs. 65

3. Spot rate on 30th September, 2017: USD 1 = Rs. 66

Analyze the contract and pass the necessary journal entries.

(MTP April ‘18)

Answer 28

(a) This contract comprises of two components:

• Host contract to purchase solar panels denominated in Rs. i.e. a notional payment in Rs. at 6-
month forward rate (Rs. 3,250 million or Rs. 325 crores)

• Forward contract to pay US Dollars and receive Rs. i.e. a notional receipt in Rs. In other words,
a forward contract to sell US Dollars at Rs. 65 per US Dollar.

It may be noted that the notional Rupees payment in respect of host contract and the notional
Rupees receipt in respect of embedded derivative create an offsetting position.

Subsequently, the host contract is not accounted for until delivery. The embedded derivative is
recorded at fair value through profit or loss. This gives rise to a gain or loss on the derivative,
and a corresponding derivative asset or liability.

On delivery XYZ records the inventory at the amount of the host contract (Rs. 325 crores). The
embedded derivative is considered to expire. The derivative asset or liability (i.e. the cumulative
gain or loss) is settled by becoming part of the financial liability that arises on delivery.

In this case the carrying value of the currency forward at 30th September 2017 on maturity is
Rs. 50 million X (66 minus 65) = Rs. 5 crores (liability/loss). The loss arises because XYZ has
agreed to sell US Dollars at Rs 65 per US Dollar whereas in the open market, US Dollar can be
sold at Rs. 66 per US Dollar. No accounting entries are passed on the date of entering into
purchase contract.

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On that date, the forward contract has a fair value of zero (refer section “option and non-
option based derivatives” below).

Subsequently, say at 30th September 2017, the accounting entries are as follows:

(all Rs. in crores):

1. Loss on derivative contract 5

To Derivative liability 5

(Being loss on currency forward)

2. Inventory 325

To Trade payables (financial liability) 325

(Being inventory recorded at forward exchange rate

determined on date of contract)

3. Derivative liability 5

To Trade payables (financial liability) 5

(Being reclassification of derivative liability to trade payables

upon settlement)

The effect is that the financial liability at the date of delivery is Rs. 330 crores (Rs. 325 crores +
Rs. 5 crores), equivalent to US$ 50 million at the spot rate on 30th September 2017.

Going forward, the financial liability is a US$ denominated financial instrument. It is

retranslated at the dollar spot rate in the normal way, until it is settled.

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Topic 12 : Leases (ROU Asset & Lease Liability)

Question 29

XYZ issued Rs. 4,80,000 4% redeemable preference shares on 1st April 20X5 at par. Interest is
paid annually in arrears, the first payment of interest amounting Rs. 19,200 was made on 31st
March 20X6 and it is debited directly to retained earnings by accountant. The preference
shares are redeemable for a cash amount of Rs. 7,20,000 on 31st March 20X8. The effective
rate of interest on the redeemable preference shares is 18% per annum. The proceeds of the
issue have been recorded within equity by accountant as this reflects the legal nature of the
shares. Board of directors intends to issue new equity shares over the next two years to build
up cash resources to redeem the preference shares. Mukesh, Accounts manager of XYZ has
been told to review the accounting of aforesaid issue. CFO has asked from Mukesh the closing
balance of preference shares at the year end. If you were Mukesh, then how much balance
you would have shown to CFO on analysis of the stated issue. Prepare necessary adjusting
journal entry in the books of account, if required. Analyze.

(MTP March’21, RTP May 20)

Answer 29

The preference shares provide the holder with the right to receive a predetermined amount of
annual dividend out of profits of the company, together with a fixed amount on redemption.
Whilst the legal form is equity, the shares are in substance debt. The fixed level of dividend is
interest and the redemption amount is equivalent to the repayment of a loan.

Under Ind AS 32 ‘Financial Instruments: Presentation’ these instruments should be classified as

financial liabilities because there is a contractual obligation to deliver cash. The preference
shares should be accounted for at amortized cost using the effective interest rate of 18%.

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 Year 1 April, 20X5 Interest @18% Paid at 4% 31 March, 20X6

Rs. Rs. Rs. Rs.

20X5-20X6 480,000 86,400 (19,200) 547,200

Accordingly, the closing balance of Preference shares at year end i.e. 31st March, 20X6 would
be Rs. 5,47,200. Accountant has inadvertently debited interest of Rs. 19,200 in the profit and
loss. However, the interest of Rs. 86,400 should have been debited to profit and loss as finance
charge. Similarly, amount of Rs. 5,47,200 should be included in borrowings (non-current
liabilities) and consequently, Equity should be reduced by Rs. 480,000 proceeds of issue and Rs.
67,200 (86,400 – 19,200) i.e. total by 5,47,200.

Necessary adjusting journal entry to rectify the books of accounts will be:

Rs. Rs.

Preference share capital (equity) (Balance sheet) Dr. 4,80,000

Finance costs (Profit and loss) Dr. 86,400

To Equity – Retained earnings (Balance sheet) 19,200

To Preference shares (Long-term Borrowings) (Balance sheet) 5,47,200

Topic 13 : Related Party Transactions

Question 30

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S Limited issued redeemable preference shares to its Holding Company -H Limited. The terms
of the instrument have been summarized below. Analyze the given situation, applying the
guidance in Ind AS 109 'Financial Instruments', and account for this in the books of H Limited.

Nature Non-cumulative redeemable preference

shares

Repayment Redeemable after 3 years

Date of Allotment 1st April 2015

Date of Repayment 31st March 2018

Total Period 3 Years

Value of Preference Shares issued 5,00,00,000

Dividend Rate 0.0001% Per Annum

Market rate of interest 12% Per Annum

Present value factor 0.7118

(PYP May’18)

Answer 30

1. Analysis of the financial instrument issued by S Ltd. to its holding company H Ltd.

Applying the guidance in Ind AS 109, a ‘financial asset’ shall be recorded at its fair value upon
initial recognition. Fair value is normally the transaction price. However, sometimes certain
type of instruments may be exchanged at off market terms (ie, different from market terms for
a similar instrument if exchanged between market participants).

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For example, a long-term loan or receivable that carries no interest while similar instruments if
exchanged between market participants carry interest, then fair value for such loan receivable
will be lower from its transaction price owing to the loss of interest that the holder bears. In
such cases where part of the consideration given or received is for something other than the
financial instrument, an entity shall measure the fair value of the financial instrument. In the
above case, since S Ltd has issued preference shares to its Holding Company– H Ltd, the
relationship between the parties indicates that the difference in transaction price and fair value
is akin to investment made by H Ltd. in its subsidiary. This can further be substantiated by the
nominal rate of dividend i.e. . 0.0001% mentioned in the terms of the instrument issued.

Computations on initial recognition:

Transaction value of the Redeemable preference shares 5,00,00,000

Less: Present value of loan component @ 12% (5,00,00,000 .7118) (3,55,90,000)

Investment in subsidiary 1,44,10,000

Subsequently, such preference shares shall be carried at amortized cost at each reporting date
as follows:

Date Opening Balance Interest @ 12% Closing balance

1st April, 2015 3,55,90,000 - 3,55,90,000

31st March, 2016 3,55,90,000 42,70,800 3,98,60,800

31st March, 2017 3,98,60,800 47,83,296 4,46,44,096

31st March, 2018 4,46,44,096 53,55,904* 5,00,00,000

* Rs. 4,46,44,096 x 12% = Rs. 53,57,292. The difference of Rs. 1,388 (Rs.53,57,292 – Rs.
53,55,904) is due to approximation in present value factor

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2. In the books of H Ltd.

Journal Entries to be done at every reporting date

Date Particulars Amount Amount

1st April, 2015 Investment (Equity portion) Dr. 1,44,10,000

Redeemable Preference Shares 3,55,90,000

To Bank 5,00,00,000

(Being initial recognition of transaction

recorded)

31st March, 2016 Redeemable Preference Shares Dr. 42,70,800

To Interest income 42,70,800

(Being interest income on loan component

recognized)

31st March, 2017 Redeemable Preference Shares Dr. 47,83,296

To Interest income 47,83,296

(Being interest income on loan component

recognized)

31st March, 2018 Redeemable Preference Shares Dr. 53,55,904

To Interest income 53,55,904

(Being interest income on loan component

recognized)

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31st March, 2018 Bank Dr. 5,00,00,000

To Redeemable Preference Shares 5,00,00,000

(Being settlement of transaction done at the

end of the third year)

Topic 14 : Provisions & Contingencies

Question 31

On 1st October, 2017 Axe Limited issues preference shares to B Limited for a consideration of
Rs 18 lakh. The holder has an option to convert these preference shares to a fixed number of
equity instruments of the issuer any time up to a period of 4 years. If the holder does not
exercise the option, the preference shares are redeemable at the end of 4 years. The
preference shares carry a fixed coupon of 5.5% per annum and is payable every year. The
prevailing market rate for similar preference shares without the conversion feature is 8% per
annum. Axe Limited has an early redemption option to prepay the instrument at Rs 20 lakh
and on 30th September, 2020, it exercised that option. The interest rate has changed on that
date. At that time, Axe Limited could have issued a 1 year (that is maturity 30th September,
2021) non-convertible instrument at 6%. Calculate the value of liability and equity
components at the date of initial recognition. Also give amortization schedule. (Limit
discounting factor to 3 decimal places for calculation purpose).

(PYP July 21)

Answer 31

The values of the liability and equity components are calculated as follows:

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Present value of principal payable at the end of 4 years (Rs 18,00,000 Rs 13,23,000
discounted at 8% for 4 years i.e. Rs 18,00,000 0.735)

Present value of interest payable in arrears for 4 years (Rs 99,000 (Rs Rs 3,27,888
18,00,000 5.5%) discounted at 8% for each of 4 years (i.e. Rs 99,000
3.312))

Total financial liability Rs 16,50,888

Consideration amount (Rs 18,00,000)

Residual – equity component Rs 1,49,112

Therefore, equity component = fair value of compound instrument, say, Rs 18,00,000 less
financial liability component i.e. Rs 16,50,888 = Rs 1,49,112.

The amortisation schedule of the instrument is set out below:

Dates Cash flows Finance cost at effective Liability

interest rate

1st October 2017 18,00,000 - 16,50,888

30th September 2018 (99,000) 1,32,071 16,83,959

30th September 2019 (99,000) 1,34,717 17,19,676

30th September 2020 (99,000) 1,37,574 17,58,250

30th September 2021 (18,99,000) 1,40,750* -

*Note: The difference in amount of finance cost is due to approximation of discounting factor
to 3 decimal places.

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 Chapter 11 Unit-2

“Classification and measurement of Financial Assets And Financial Liabilities”

Topic 1: Business Model Assessment

Question 1

ICAI Illustration

An entity holds investments to collect their contractual cash flows. The funding needs of the
entity are predictable and the maturity of its financial assets is matched to the entity's
estimated funding needs.

The entity performs credit risk management activities with the objective of minimizing credit
losses. In the past, sales have typically occurred when the financial assets' credit risk has
increased such that the assets no longer meet the credit criteria specified in the entity's
documented investment policy. In addition, infrequent sales have occurred as a result of
unanticipated funding needs.

Reports to key management personnel focus on the credit quality of the financial assets and
the contractual return. The entity also monitors fair values of the financial assets, among
other information. Evaluate the business model.

(Study material)

Answer

• Although the entity considers, among other information, the financial assets' fair values from
a liquidity perspective (ie the cash amount that would be realised if the entity needs to sell

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assets), the entity's objective is to hold the financial assets in orderto collect the contractual
cash flows.

• Sales would not contradict that objective if they were in response to an increase in the assets'
credit risk, for example if the assets no longer meet the credit criteria specified in the entity's
documented investment policy. Infrequent sales resulting from unanticipated funding needs (eg
in a stress case scenario) also would not contradict that objective, even if such sales are
significant in value.

Hence the business model of the company is to collect contractual cash flows and not
realisation from sale of financial assets.

Question 2

ICAI Illustration

An entity's business model is to purchase portfolios of financial assets, such as loans. Those
portfolios may or may not include financial assets that are credit impaired.

If payment on the loans is not made on a timely basis, the entity attempts to realise the
contractual cash flows through various means—for example, by contacting the debtor by
mail, telephone or other methods. The entity's objective is to collect the contractual cash
flows and the entity does not manage any of the loans in this portfolio with an objective of
realising cash flows by selling them.

In some cases, the entity enters into interest rate swaps to change the interest rate on
particular financial assets in a portfolio from a floating interest rate to a fixed interest rate.
Evaluate the business model.

(Study material)

Answer

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The objective of the entity's business model is to hold the financial assets in order to collect the
contractual cash flows. The same analysis would apply even if the entity does not expect to
receive all of the contractual cash flows (eg some of the financial assets are credit impaired at
initial recognition).

Moreover, the fact that the entity enters into derivatives to modify the cash flows of the
portfolio does not in itself change the entity's business model.

Question 3

ICAI Illustration

Entity B sells goods to customers on credit. Entity B typically offers customers up to 60 days
following the delivery of goods to make payment in full. Entity B collects cash in accordance
with the contractual cash flows of trade receivables and has no intention to dispose of the
receivables. Evaluate the business model.

(Study material)

Answer

Entity’s B objective is to collect contractual cash flows from trade receivables and therefore,
trade receivables meet the business model test for the purpose of classifying the financial
assets at amortised cost.

Question 4

ICAI Illustration

An entity anticipates capital expenditure in a few years. The entity invests its excess cash in
short and long-term financial assets so that it can fund the expenditure when the need arises.

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Many of the financial assets have contractual lives that exceed the entity's anticipated
investment period. The entity will hold financial assets to collect the contractual cash flows
and, when an opportunity arises, it will sell financial assets to re-invest the cash in financial
assets with a higher return. The managers responsible for the portfolio are remunerated
based on the overall return generated by the portfolio. Evaluate the business model.

(Study material)

Answer

The objective of the business model is achieved by both collecting contractual cash flows and
selling financial assets. The entity will make decisions on an on going basis about whether
collecting contractual cash flows or selling financial assets will maximise the return on the
portfolio until the need arises for the invested cash. In contrast, consider an entity that
anticipates a cash outflow in five years to fund capital expenditure and invests excess cash in
short-term financial assets. When the investments mature, the entity reinvests the cash in new
short-term financial assets. The entity maintains this strategy until the funds are needed, at
which time the entity uses the proceeds from the maturing financial assets to fund the capital
expenditure. Only sales that are insignificant in value occur before maturity (unless there is an
increase in credit risk). The objective of this contrasting business model is to hold financial
assets to collect contractual cash flows.

Question 5

ICAI Illustration

An entity has a business model with the objective of originating loans to customers and
subsequently selling those loans to a securitisation vehicle. The securitisation vehicle issues
instruments to investors. The originating entity controls the securitisation vehicle and thus
consolidates it.

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The securitisation vehicle collects the contractual cash flows from the loans and passes them
on to its investors. In the consolidated balance sheet, loans continue to be recognised
because they are not derecognised by the securitisation vehicle. Evaluate the business model.

(Study material)

Answer

The entity originating loans to customers has the objective of realising contractual cash flows
on the loan portfolio only through sale to securitisation vehicle. However, the consolidated
group originates loans with the objective of holding them to collect the contractual cash flows.

- Hence, the consolidated financial statements provide for a business model with the objective
of collecting contractual cash flows by holding to maturity.

- And in separate financial statements of the entity originating loans to customers, business
model is to collect cash flows through sale only.

Question 6

ICAI Illustration

A financial institution holds financial assets to meet liquidity needs in a 'stress case' scenario
(eg, a run on the bank's deposits). The entity does not anticipate selling these assets except in
such scenarios. The entity monitors the credit quality of the financial assets and its objective
in managing the financial assets is to collect the contractual cash flows. The entity evaluates
the performance of the assets on the basis of interest revenue earned and credit losses
realised. However, the entity also monitors the fair value of the financial assets from a
liquidity perspective to ensure that the cash amount that would be realised if the entity
needed to sell the assets in a stress case scenario would be sufficient to meet the entity's

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liquidity needs. Periodically, the entity makes sales that are insignificant in value to
demonstrate liquidity. Evaluate the business model.

(Study material)

Answer

The objective of the entity's business model is to hold the financial assets to collect contractual
cash flows. The analysis would not change –

- If during a previous stress case scenario the entity had sales that were significant in value in
order to meet its liquidity needs; or

- Recurring sales activity that is insignificant in value is not inconsistent with holding financial
assets to collect contractual cash flows; or

- If the entity is required by its regulator to routinely sell financial assets to demonstrate that
the assets are liquid, and the value of the assets sold is significant, the entity's business model is
not to hold financial assets to collect contractual cash flows. Whether a third party imposes the
requirement to sell the financial assets, or that activity is at the entity's discretion, is not
relevant to the analysis.

In contrast, if an entity holds financial assets to meet its everyday liquidity needs and meeting
that objective involves frequent sales that are significant in value, the objective of the entity's
business model is not to hold the financial assets to collect contractual cash flows.

Question 7

ICAI Illustration

An entity purchased a debt instrument for 1,00,000.

[Link]
The instrument pays interest of 6,000 annually and has 10 years to maturity when purchased.
The entity intends to hold the asset to collect the contractual cash flows. Evaluate the
business model test.

(Study material)

Answer

Entity’s objective is to hold the asset to collect the contractual cash flows and not to sell the
assets before the maturity period.

Thus, the debt instrument would meet the ‘hold-to-collect’ business model test.

Question 8

ICAI Illustration

An entity purchased a debt instrument for 1,00,000.

The instrument pays interest of 6,000 annually and has 10 years to maturity when purchased.
The entity intends to hold the asset to collect the contractual cash flows.

Six years have passed and the entity is suffering a liquidity crisis and needs to sell the asset to
raise funds. Evaluate the business model test.

(Study material)

Answer

Since the sale of financial assets was not expected on initial classification and therefore, does
not affect the classification (i.e. there is no retrospective reclassification).

Thus, the debt instrument would still meet the ‘hold-to-collect’ business model test.

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Question 9

ICAI Illustration

Entity A has surplus funds – INR 50 million A has not yet found suitable investment
opportunity so it buys medium dated (5 year maturity) high quality government bonds in
order to generate interest income.

If a suitable investment opportunity arises before the maturity date, the entity will sell the
bonds and use the proceeds for the acquisition of a business operation. It is likely that a
suitable business opportunity will be found before maturity date.

Whether the investment opportunity will meet the ‘hold-to-collect’ or ‘hold-to collect & sell
business model test?

(Study material)

Answer

Government bonds would not meet the ‘hold-to-collect’ business model test because it is
considered likely that the bonds will be sold well before their contractual maturity.

However, it is likely that such investment would meet the ‘hold-to-collect and sell’ business
model test.

Question 10

ICAI Illustration

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Bonds for Rs 100,000 reclassified as Amortised cost. Fair value on reclassification is Rs 90,000
and Rs 10,000 loss was recognised in OCI till date of reclassification. Pass required journal
entry.

(Study material)

Answer

Particulars Amount Amount

Bonds at FVOCI Dr. 10,000

To OCI - Loss on reclassification 10,000

[Being loss recognized in OCI now reversed prior to

reclassification]

Bonds (Amortised cost) Dr. 1,00,000

To Bonds at FVOCI 1,00,000

[Being bonds reclassified from FVOCI to Amortised cost]

Topic 2: SPPI (Solely Payments of Principal and Interest) Test

Question 11

ICAI Illustration

Instrument A is a bond with a stated maturity date. Payments of principal and interest on the
principal amount outstanding are linked to an inflation index of the currency in which the

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instrument is issued. The inflation link is not leveraged and the principal is protected.
Evaluate the Contractual cash flows characteristics test

(Study material)

Answer

The contractual cash flows are solely payments of principal and interest on the principal
amount outstanding. Linking payments of principal and interest on the principal amount
outstanding to an unleveraged inflation index resets the time value of money to a current level.
In other words, the interest rate on the instrument reflects 'real' interest. Thus, the interest
amounts are consideration for the time value of money on the principal amount outstanding.
However, if the interest payments were indexed to another variable such as the debtor's
performance (eg the debtor's net income) or an equity index, the contractual cash flows are not
payments of principal and interest on the principal amount outstanding (unless the indexing to
the debtor's performance results in an adjustment that only compensates the holder for
changes in the credit risk of the instrument, such that contractual cash flows are solely
payments of principal and interest). That is because the contractual cash flows reflect a return
that is inconsistent with a basic lending arrangement.

Question 12

ICAI Illustration

Instrument F is a bond that is convertible into a fixed number of equity instruments of the
issuer. Analyse the nature of cash flows.

(Study material)

Answer

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The holder would analyse the convertible bond in its entirety. The contractual cash flows are
not payments of principal and interest on the principal amount outstanding because they
reflect a return that is inconsistent with a basic lending arrangement; ie the return is linked to
the value of the equity of the issuer.

Question 13

ICAI Illustration

Instrument H is a perpetual instrument but the issuer may call the instrument at any point
and pay the holder the par amount plus accrued interest due. Instrument H pays a market
interest rate but payment of interest cannot be made unless the issuer is able to remain
solvent immediately afterwards. Deferred interest does not accrue additional interest.
Analyse the nature of cash flows.

(Study material)

Answer

The contractual cash flows are not payments of principal and interest on the principal amount
outstanding. That is because the issuer may be required to defer interest payments and
additional interest does not accrue on those deferred interest amounts. As a result, interest
amounts are not consideration for the time value of money on the principal amount
outstanding.

If interest accrued on the deferred amounts, the contractual cash flows could be payments of
principal and interest on the principal amount outstanding.

Question 14

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ICAI Illustration

Instrument D is loan with recourse and is secured by collateral. Does the collateral affect the
nature of contractual cash flows?

(Study material)

Answer

The fact that a loan is collateralised (since with recourse) does not in itself affect the analysis of
whether the contractual cash flows are solely payments of principal and interest on the
principal amount outstanding. The collateral is only a security to recover dues.

Question 15

ICAI Illustration

Instrument G is a loan that pays an inverse floating interest rate (ie the interest rate has an
inverse relationship to market interest rates). Analyse the nature of cash flows.

(Study material)

Answer

Here, interest on the instrument has an inverse relationship to the market rate of interest.
Hence, it is unlike a basic lending arrangement which normally comprises of interest payable
on any funds lent, as a consideration for the time value of money, credit risk and profit margin
normally existing in such arrangements. This arrangement with an inverse floating interest rate
provides the lender with a return which may be higher or lower to the market rate of interest
and hence, is not necessarily a consideration for the time value of money on the principal
amount outstanding.

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Thus, these do not represent contractual cash flows that are solely payments of principal and
interest on the principal amount outstanding.

Question 16

ICAI Illustration

SPPI test for loan with zero interest and no fixed repayment terms Parent H Ltd. provides a
loan to its Subsidiary S Ltd. The loan is classified as a current liability in Subsidiary S’s financial
statements and has the following terms:

– Interest free loan.

– No fixed repayment terms

– Repayable on demand of Parent H Ltd.

Does the loan meet the ‘SPPI’ or contractual cash flows characteristic test?

(Study material)

Answer

Yes. The terms for the repayment of the principal amount of the loan on demand satisfies the
criterion of SPPI.

Question 17

ICAI Illustration

Parent H Ltd. provides a loan of INR 100 million to Subsidiary B. The loan has the following
terms:

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– No interest

– Repayable in ten years.

Does the loan meet the ‘SPPI’ or contractual cash flows characteristic test?

(Study material)

Answer

Yes. The terms for the repayment of the principal amount of the loan on demand satisfies the
criterion of SPPI.

Question 18

ICAI Illustration

Entity A Ltd. lends Entity B Ltd. INR 5 million for ten years, subject to the following terms:

– Interest is based on the prevailing variable market interest rate.

– Variable interest rate is capped at 10%.

– Repayable in ten years.

Does the loan meet the ‘SPPI’ or contractual cash flows characteristic test?

(Study material)

Answer

Contractual cash flows of both a fixed rate instrument and a floating rate instrument are
payments of principal and interest as long as the interest reflects consideration for the time
value of money and credit risk.

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Therefore, a loan that contains a combination of a fixed and variable interest rate meets the
contractual cash flow characteristics test.

Question 19

ICAI Illustration

H Ltd. makes sale of goods to customers on credit of 60 days. The customers are entitled to
earn a cash discount @ 5% per annum if payment is made before 60 days and an interest @
12% per annum is charged for any payments made after 60 days. Company does not have a
policy of selling its debtors and holds them to collect contractual cash flows. Evaluate the
financial instrument.

(Study material)

Answer

In the above case, since H Ltd. has a contractual right to receive cash flows from its customers
and therefore such trade receivable are financial assets for H Ltd. Further, H Ltd. business
model test to collect will satisfy as the objective is to hold its trade receivable to collect
contractual cash flows till the end of maturity period and such trade receivable recorded in
books represents contractual cash flows that are solely payments of principal and interest if
paid beyond credit period. Hence such trade receivables are classified at amortised cost.

Question 20

ICAI Illustration

Silver Ltd. has made an investment in optionally convertible preference shares (OCPS) of a
Company – Bronze Ltd. at Rs 100 per share (face value Rs 100 per share). Silver Ltd. has an

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option to convert these OCPS into equity shares in the ratio of 1:1 and if such option not
exercised till end of 9 years, then the shares shall be redeemable at the end of 10 years at a
premium of 20%. Analyse the measurement of this investment in books of Silver Ltd.

(Study material)

Answer

The classification assessment for a financial asset is done based on two characteristics:

i. Whether the contractual cash flows comprise cash flows that are solely payments of principal
and interest on the principal outstanding

ii. Entity’s business model (BM) for managing financial assets – Whether the Company’s BM is
to collect cash flows; or a BM that involves realisation of both contractual cash flows & sale of
financial assets;

In all other cases, the financial assets are measured at fair value through profit or loss.

In the above case, the Holder can realise return either through conversion or redemption at the
end of 10 years, hence it does not indicate contractual cash flows that are solely payments of
principal and interest. Therefore, such investment shall be carried at fair value through profit or
loss. Accordingly, the investment shall be measured at fair value periodically with gain/ loss
recorded in profit or loss.

Question 21

ICAI Illustration

Company M, a manufacturer, has a portfolio of trade receivables of CU 30 million in 20X1 and

operates only in one geographical region. The customer base consists of a large number of
small clients and the trade receivables are categorised by common risk characteristics that

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are representative of the customers' abilities to pay all amounts due in accordance with the
contractual terms. The trade receivables do not have a significant financing component in
accordance with Ind AS 115. In accordance with paragraph 5.5.15 of Ind AS 109 the loss
allowance for such trade receivables is always measured at an amount equal to lifetime
expected credit losses. Please use the following information of debtors outstanding:

Gross carrying amount

Current CU 15,000,000

1–30 days past due CU 7,500,000

31–60 days past due CU 4,000,000

61–90 days past due CU 2,500,000

More than 90 days past due CU 1,000,000

CU 30,000,000

Company M uses following default rates for making provisions:

Current 1–30 days 31–60 days 61–90 days More than 90

past due past due past due days past due

Default rate 0.3% 1.6% 3.6% 6.6% 10.6%

Determine the expected credit losses for the portfolio

(Study material)

Answer

To determine the expected credit losses for the portfolio, Company M uses a provision matrix.
The provision matrix is based on its historical observed default rates over the expected life of

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the trade receivables and is adjusted for forward looking estimates. At every reporting date the
historical observed default rates are updated and changes in the forward-looking estimates are
analysed. In this case it is forecast that economic conditions will deteriorate over the next year.
On that basis, Company M estimates the following provision matrix:

Current 1–30 days 31–60 days 61–90 days More than 90

past due past due past due days past
due

Default rate 0.3% 1.6% 3.6% 6.6% 10.6%

The trade receivables from the large number of small customers amount to CU 30 million and
are measured using the provision matrix.

Gross carrying amount Lifetime expected credit loss

allowance (Gross carrying amount
lifetime expected credit loss
rate)

Current CU 15,000,000 CU 45,000

1–30 days past due CU 7,500,000 CU 120,000

31–60 days past due CU 4,000,000 CU 144,000

61–90 days past due CU 2,500,000 CU 165,000

More than 90 days past CU 1,000,000 CU 106,000

due

CU 30,000,000 CU 580,000

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Topic 3: Initial Measurement of Financial Assets/Liabilities

Question 22

ICAI Illustration

An entity acquires a financial asset for CU 100 plus a purchase commission of CU 2. Initially,
the entity recognises the asset at CU 102. The reporting period ends one day later, when the
quoted market price of the asset is CU 100. If the asset were sold, a commission of CU 3
would be paid. How would transaction costs be accounted in books of the entity?

(Study material)

Answer

- On that date, the entity measures the asset at CU 100 (without regard to the possible
commission on sale) and recognises a loss of CU 2 in other comprehensive income.

- If the financial asset is measured at fair value through other comprehensive income in
accordance with Ind AS 109.4.1.2A, the transaction costs are amortised to profit or loss using
the effective interest method.

Question 23

ICAI Illustration

The shareholders of Company C provide C with financing in the form of loan notes to enable it
to acquire investments in subsidiaries. The loan notes will be redeemed solely out of
dividends received from these subsidiaries and become redeemable only when C has

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sufficient funds to do so. In this context, 'sufficient funds' refers only to dividend receipts
from subsidiaries. Analyse the initial measurement of loan notes.

(Study material)

Answer

In this case –

Loan notes are repayable only then C earns returns in form of dividends from subsidiaries.
Hence, C cannot be forced to obtain additional external financing or to liquidate its investments
to redeem the shareholder loans. Consequently, the loan notes are not considered payable on
demand.

Accordingly –

- Loan notes shall be initially measured at their fair value (plus transaction costs), being the
present value of the expected future cash flows, discounted using a market related rate. The
amount and timing of the expected future cash flows should be determined on the basis of the
expected dividend flow from the subsidiaries. Also, the valuation would need to take into
account possible early repayments of principal and corresponding reductions in interest
expense.

- Since the loan notes are interest-free or bear lower-than-market interest, there will be a
difference between the nominal value of the loan notes - i.e. the amount granted

- and their fair value on initial recognition. Because the financing is provided bym shareholders,
acting in the capacity of shareholders, the resulting credit should be reflected in equity as a
shareholder contribution in C's balance sheet. Conversely, in books of shareholders, the
difference between amount invested and its fair value shall be recorded as ‘investment in C Ltd’
being representative of the underlying relationship between shareholders and C Ltd.

[Link]
Question 24

ICAI Illustration

XYZ Ltd. is a company incorporated in India. It provides INR 10,00,000 interest free loan to its
wholly owned Indian subsidiary (ABC). There are no transaction costs.

How should the loan be accounted for, in the Ind AS financial statements of XYZ, ABC and
consolidated financial statements of the group?

Consider the following scenarios:

a) The loan is repayable on demand.

b) The loan is repayable after 3 years. The current market rate of interest for similar loan is
10% p.a. for both holding and subsidiary.

c) The loan is repayable when ABC has funds to repay the loan.

(Study material)

Answer

Ind AS 109 requires that a financial assets and liabilities are recognized on initial recognition at
its fair value, as adjusted for the transaction cost. In accordance with Ind AS

113 Fair Value Measurement, the fair value of a financial liability with a demand feature (e.g., a
demand deposit) is not less than the amount payable on demand, discounted from the first
date that the amount could be required to be paid.

Using the guidance, the loan will be accounted for as below in various scenarios:

Scenario (a)

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Since the loan is repayable on demand, it has fair value equal to cash consideration given. The
parent and subsidiary recognize financial asset and liability, respectively, at the amount of loan
given. Going forward, no interest is accrued on the loan.

Upon repayment, both the parent and the subsidiary reverse the entries made at origination.

Scenario (b)

Both parent and subsidiary recognize financial asset and liability, respectively, at fair value on
initial recognition. The difference between the loan amount and its fair value is treated as an
equity contribution to the subsidiary. This represents a further investment by the parent in the
subsidiary.

Accounting in the books of XYZ Ltd (Parent)

[Link]. Particulars Amount Amount

On the date of loan

1. Loan to ABC Ltd (Subsidiary) Dr. 7,51,315

Deemed Investment (Capital Contribution) in ABC Ltd. 2,48,685

Dr.

To Bank 10,00,000

(Being the loan is given to ABC Ltd and recognised at

fair value)

Accrual of Interest income

2. Loan to ABC Ltd 75,131

To Interest income 75,131

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 (Being interest income accrued) – Year 1

3. Loan to ABC Ltd 82,645

To Interest income 82,645

(Being interest income accrued) – Year 2

4. Loan to ABC Ltd 90,909

To Interest income 90,909

(Being interest income accrued) – Year 3

On repayment of loan

5. Bank 10,00,000

To Loan to ABC Ltd (Subsidiary) 10,00,000

Accounting in the books of ABC Ltd (Subsidiary)

[Link]. Particulars Amount Amount

On the date of loan

1 Bank Dr 10,00,000

To Loan from XYZ Ltd (Payable) 751,315

To Equity (Deemed Capital Contribution from xyz Ltd) 2,48,685

(Being the loan is given to ABC Ltd and recognised at

Fair value)

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 Accrual of Interest

2 Interest expense Dr. 75,131

To Loan from XYZ Ltd (Payable) 75,131

(Being interest expense recognised) – Year I

3 Interest expense Dr. 82,645

To Loan from XYZ Ltd (Payable) 82,645

(Being interest expense recognised) – Year II

4. Interest expense Dr. 90,909

To Loan from XYZ Ltd (Payable) 90,909

(Being interest expense recognised) – Year III

On repayment of loan

5. Loan from XYZ Ltd (Payable) Dr. 10,00,000

To Bank 10,00,000

Working Notes:-

1. Computation of Present value of loan

Rate 10%

Amount of Loan 10,00,000

Year 3

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Present Value 7,51,315

2 Computation of interest for Year I

Present Value 7,51,315

Rate 10%

Period of interest - for 1 year 1

Closing value at the end of year 1 8,26,446

Interest for 1st year 75,131

3 Computation of interest for Year 2

Value of loan as at the beginning of Year 2 8,26,446

Rate 10%

Period of interest - for 2nd year 1

Closing value at the end of year 2 9,09,091

Interest for 2nd year 82,645

4 Computation of interest for Year 3

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Value of loan as at the beginning of Year 3 9,09,091

Rate 10%

Period of interest - for 3rd year 1

Closing value at the end of year 3 10,00,000

Interest for 3rd year 90,909

Scenario (c)

Generally, a loan, which is repayable when funds are available, can’t be stated to be repayable
on demand. Rather, the entities need to estimate repayment date and determine its
measurement accordingly. If the loan is expected to be repaid in three years, its measurement
will be the same as in scenario (b).

In the Consolidated Financial Statements (CFS), the loan and interest income/expense will get
knocked-off as intra-group transaction in all three scenarios. Hence the above accounting will
not have any impact in the CFS. However, if the loan is in foreign currency, exchange difference
will continue to impact the statement of profit and loss in accordance with the requirements of
Ind AS 21.

Question 25

ICAI Illustration

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A Ltd has made a borrowing from RBC Bank for Rs 10,000 at a fixed interest of 10% per
annum. Loan processing fees were additionally paid for Rs 500 and loan is payable after 5
years in bullet repayment of principal. Details are as follows:

Particulars Details

Loan amount Rs 10,000

Date of loan (Starting Date) 1-Apr-20X1

Date of repayment of principal amount (Finishing Date) 31-March-20X6

Interest rate 10.00%

Interest charge Interest to be charged and

paid yearly

Upfront fees Rs 500

How would loan be accounted in books of A Ltd?

(Study material)

Answer

The loan taken by A Ltd shall be measured at amortised cost as follows:

- Initial measurement – At transaction price less processing fees = 10,000 – 500 = 9,500

- Subsequently – interest to be accrued using effective rate of interest as follows:

Year end Opening balance Interest @ 11.42 Repayment of Closing balance

% interest & principal

1 9,500 1,085 1,000 9,585

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 2 9,585 1,095 1,000 9,679

3 9,679 1,105 1,000 9,785

4 9,785 1,117 1,000 9,902

5 9,902 1,098* 11,000 -

* Difference due to approximation

Computation of IRR

IRR would be the rate using which the present value of cash flow should come out to be Rs
9,500 i.e. (Rs 10,000 less Rs 500).

For this, we should first compute present value of cash flows using any two rates as follows:

Year end Opening Repayment Closing PVF @ Present PVF @ Present

balance / Cash balance 10% Value at 13% Value at
flows 10% rate 13% rate

1 9,500 1,000 8,500 0.909 909 0.885 885

2 8,500 1,000 7,500 0.826 826 0.783 783

3 7,500 1,000 6,500 0.751 751 0.693 693

4 6,500 1,000 5,500 0.683 683 0.613 613

5 5,500 11,000 (5,500) 0.621 6,830 0.543 5,970*

10,000 8,945

Difference is due to approximation

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Taking 10% as discount rate, present value (PV) comes out to be Rs 10,000.

If rate is increased by 3% over a base rate of 10%, PV decreases by Rs 1,055 (i.e. Rs 10,000 less
Rs 8945).

To decrease PV by Rs 1,055, rate should be increased = 3% To

decrease PV by Re.1, rate should be increased = 3% 1,055

To decrease PV by Rs 500, rate should be increased =3%x(500/1,055)= 1.42%

This would mean that the discount rate to get present value of cash flows

equivalent to Rs 9,500 should be 11.42% (i.e. 10% + 1.42%).

Question 26

ICAI Illustration

A Ltd has made a borrowing from RBC Bank for Rs 10,000 at a fixed interest of 12% per
annum. Loan processing fees were additionally paid for Rs 500 and loan is payable 4 half-
yearly instalments of Rs 2,500 each. Details are as follows:

Particulars Details

Loan amount Rs 10,000

Date of loan (Starting Date) 1-Apr-20X1

Date of loan (Finishing Date) 31-March-20X3

Description of repayment Repayment of loan starts from 30-Sept-

20X1 (To be paid half yearly)

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Installment amount Rs 2,500

Interest rate 12.00%

Interest charge Interest to be charged quarterly

Upfront fees Rs 500

How would loan be accounted in books of A Ltd?

Consider IRR is 16.60% p.a.

(Study material)

Answer

The loan taken by A Ltd shall be measured at amortised cost as follows:

- Initial measurement – At transaction price less processing fees = 10,000 – 500 = 9,500

- Subsequently – interest to be accrued using effective rate of interest as follows:

Date Amoun Re- Upfront Amount Days IRR Revised Loan

t of payment fees of Calculati Interest Balance
Loan paid Interest on compute
d

1-Apr- 10,000 - 500 - - 9,500 - -

20X1

30-Jun- - - - 300 90 (300) 389 9,589

20X1

30-Sep- - 2500 - 300 92 (2,800) 401 7,190

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 20X1

31-Dec- - - - 225 92 (225) 301 7,266

20X1

31-Mar - 2500 - 225 90 (2,725) 297 4,838

20X2

30-Jun- - - - 150 91 (150) 200 4,888

20X2

30-Sep- - 2500 - 150 92 (2,650) 204 2,442

20X2

31-Dec- - - - 75 92 (75) 102 2,473

20X2

31- - 2500 - 75 91 (2,575) 102 -

Mar-
20X3

IRR 16.60%

Question 27

ICAI Illustration

X Ltd. had taken 6 year term loan in April 20X0 from bank and paid processing fees at the
time of sanction of loan.

The term loan is disbursed in different tranches from April 20X0 to April 20X6. On the date of
transition to Ind AS, i.e. 1.4.20X5, it has calculated the net present value of term loan

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disbursed upto 31.03.20X5 by using effective interest rate and proportionate processing fees
has been adjusted in disbursed amount while calculating net present value.

What will be the accounting treatment of processing fees belonging to undisbursed term loan
amount?

(Study material)

Answer

Processing fee is an integral part of the effective interest rate of a financial instrument and shall
be included while calculating the effective interest rate.

(a) Accounting treatment in case future drawdown is probable

It may be noted that to the extent there is evidence that it is probable that the undisbursed
term loan will be drawn down in the future, the processing fee is accounted for as a transaction
cost under Ind AS 109, i.e., the fee is deferred and deducted from the carrying value of the
financial liabilities when the draw down occurs and considered in the effective interest rate
calculations.

(b) Accounting treatment in case future drawdown is not probable

If it is not probable that the undisbursed term loan will be drawn down in the future, then the
fees is recognised as an expense on a straight-line basis over the term of the loan.

Question 28

ICAI Illustration

PQR Limited had obtained term loan from Bank A in 20X1-20X2 and paid loan processing fees
and commitment charges.

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In May 20X5, PQR Ltd. has availed fresh loan from Bank B as take-over of facility i.e. the new
loan is sanctioned to pay off the old loan taken from Bank A. The company paid prepayment
premium to Bank A to clear the old term loan and paid processing fees to Bank B for the new
term loan.

Whether the prepayment premium and the processing fees both will be treated as
transaction cost (as per Ind AS 109, Financial Instruments) of obtaining the new loan, in the
financial statements of PQR Ltd?

(Study material)

Answer

(a) Accounting treatment of prepayment premium

Ind AS 109, provides that if an exchange of debt instruments or modification of terms is

accounted for as an extinguishment, any costs or fees incurred are recognised as part of the
gain or loss on the extinguishment in the statement of profit and loss. Since the original loan
was prepaid, the prepayment would result in extinguishment of the original loan. The
difference between the CV of the financial liability extinguished and the consideration paid shall
be recognised in profit or loss as per Ind AS 109.

Accordingly, the prepayment premium shall be recognised as part of the gain or loss on
extinguishment of the old loan.

(b) Accounting treatment of Unamortised processing fee of old loan

Unamortised processing fee related to the old loan will also be required to be charged to the
statement of profit and loss.

(c) Accounting treatment of Processing fee for new loan

Transaction costs are “Incremental costs that are directly attributable to the acquisition, issue
or disposal of a financial asset or financial liability. An incremental cost is one that would not

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have been incurred if the entity had not acquired, issued or disposed of the financial
instrument.”

It is assumed that the loan processing fees solely relates to the origination of the new loan (i.e.
does not represent loan modification/renegotiation fees). Hence, the processing fees paid to
avail fresh loan from Bank B will be considered as transaction cost in the nature of origination
fees of the new loan and will be included while calculating effective interest rate as per Ind AS
109

Topic 4: Subsequent Measurement – Amortized Cost vs FVOCI vs FVTPL

Question 29

ICAI Illustration

A Ltd. (the ‘Company’) has obtained the premises from B Ltd. on lease to carry on its
business. The lease contract period is 5 years. As per the lease agreement, A Ltd. has paid
security deposits to B Ltd. amounting to Rs 10 Lac which is refundable after the expiry of
lease agreement. How would such deposits be treated in books of the A Ltd. ?

(Study material)

Answer

In the above case, since A Ltd. has a contractual right to receive cash flows from its Lessor, B
Ltd. and therefore such security deposits receivable are financial assets for A Ltd.

Further, A Ltd. business model test to collect will be satisfied as the objective is to hold its
security deposits receivable to collect contractual cash flows till the end of maturity period. And

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such trade receivable recorded in books represents contractual cash flows that are solely
payments of principal and interest.

Hence such security deposits receivables are classified at amortised cost.

Question 30

ICAI Illustration

Containers Ltd provides containers for use by customers for multiple purposes. The
containers are returnable at the end of the service contract period (3 years) between
Containers Ltd and its customers. In addition to the monthly charge, there is a security
deposit that each customer makes with Containers Ltd for Rs 10,000 per container and such
deposit is refundable when the service contract terminates. Deposits do not carry any
interest. Analyse the fair value upon initial recognition in books of customers leasing
containers. Market rate of interest for 3 year loan is 7% per annum

(Study material)

Answer

In the above case, lessee (ie, customers leasing the containers) make interest free deposits,
which are refundable at the end of 3 years. Now, this money if it was to lent to a third party
would fetch interest @ 7% per annum.

Hence, discounting all future cash flows (ie, Rs 10,000)

Fair value on initial recognition = 10,000 / (1+0.07)3 = 8,163.

Differential on day 1 = 10,000 – 8,163 = 1,837

The differential on day 1 shall be treated as follows:

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- Scenario 1 – If fair valuation is determined using level 1 inputs or other observable inputs,
difference on day 1 recognised in profit or loss

- Scenario 2 – If fair valuation is determined using other inputs, difference on day 1 shall be
recognised in profit or loss unless it meets definition of an asset or liability.

However, in case of security deposits level 1 fair value is not available.

Therefore, in the above case, the fair valuation is made based on unobservable inputs and
hence applying scenario 2, difference can be recognised as an asset if it meets the definition.
Now, since the lessee gets to use the containers in return for making an interest free deposit
plus monthly charges, the lost interest representing day 1 difference between value of deposit
and its fair value is like ‘’prepaid lease rent’ and can be recognised as such. Prepaid rent (ROU
Asset) shall be charged off to profit or loss in a straight lined manner as depreciation as per Ind
AS 16.

Question 31

ICAI Illustration

A Ltd. invested in equity shares of C Ltd. on 15th March for Rs 10,000. Transaction costs were
Rs 500 in addition to the basic cost of Rs 10,000. On 31 March, the fair value of the equity
shares was Rs 11,200 and market rate of interest is 10% per annum for a 10 year loan. Pass
necessary journal entries. Analyse the measurement principle and pass necessary journal
entries.

(Study material)

Answer

The above investment is in equity shares of C Ltd and hence, does not involve any contractual
cash flows that are solely payments of principal and interest. Hence, these equity shares shall

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be measured at fair value through profit or loss. Also, an irrecoverable option exists to
designate such investment as fair value through other comprehensive income.

Journal Entries

Particulars Amount Amount

Upon initial recognition –

Investment in equity shares of C Ltd. Dr. 10,000

Transaction cost Dr. 500

To Bank A/c 10,500

(Being investment recognized at fair value plus transaction

costs upon initial recognition)

Profit and Loss A/c Dr. 500

To Transaction cost 500

(Being transaction cost incurred on assets measured at FVTPL

transferred to P&L A/c)

Subsequently –

Investment in equity shares of C Ltd. Dr. 1,200

To Fair value gain on financial instruments 1,200

(Being fair value gain recognized at year end in P&L)

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Fair value gain on financial instruments Dr. 1,200

To Profit and Loss A/c 1,200

(Being fair value gain transferred to P&L A/c)

Question 32

ICAI Illustration

Metallics Ltd. has made an investment in equity instrument of a company – Castor Ltd. for
19% equity stake. Significant influence not exercised. The investment was made for Rs
5,00,000 for 10,000 equity shares on 01 April 20X1. On 30 June 20X1 the fair value per equity
share is Rs 45. The Company has taken an irrevocable option to measure such investment at
fair value through other comprehensive income.

(Study material)

Answer

The Company has made an irrecoverable option to carry its investment at fair value through
other comprehensive income. Accordingly, the investment shall be initially recognised at fair
value and all subsequent fair value gains/ losses shall be recognised in other comprehensive
income (OCI).

Journal Entries

Particulars Amount Amount

Upon initial recognition –

Investment in equity shares of C Ltd. Dr . 5,00,000

[Link]
To Bank a/c 5,00,000

(Being investment recognized at value fair transaction costs

upon initial plus recognition)

Subsequently –

Fair value loss on financial instruments Dr . 50,000

To Investment in equity shares of C Ltd. 50,000

(Being fair value loss recognised)

Fair value reserve in OCI Dr. 50,000

To Fair value loss on financial instruments 50,000

(Being fair value loss recognized in other comprehensive

income)

Question 33

ICAI Illustration

A Company purchases its raw materials from a vendor at a fixed price of Rs 1,000 per tonne of
steel. The payment terms provide for 45 days of credit period, after which an interest of 18%
per annum shall be charged. How would the creditors be classified in books of the Company?

(Study material)

Answer

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In the above case, creditors for purchase of steel shall be carried at amortised cost, ie, fair value
of amount payable upon initial recognition plus interest (if payment is delayed). Here, fair value
upon initial recognition shall be the price per tonne, since the transaction is at market terms
between two knowledgeable parties in an armslength transaction and hence, the transaction
price is representative of fair value.

Question 34

ICAI Illustration

An entity is about to purchase a portfolio of fixed rate assets that will be financed by fixed
rate debentures. Both financial assets and financial liabilities are subject to the same interest
rate risk that gives rise to opposite changes in fair value that tend to offset each other.
Provide your comments.

(Study material)

Answer

The fixed rate assets provide for contractual cash flows and based on business model of the
entity, such fixed rate assets may be classified as ‘amortised cost’ (if entity collects contractual
cash flows) or fair value through other comprehensive income (FVOCI) (if entity manages
through collecting contractual cash and sale of financial assets). In the absence of fair value
option, the entity can classify the fixed rate assets as FVOCI with gains and losses on changes in
fair value recognised in other comprehensive income and fixed rate debentures at amortised
cost. However, reporting both assets and liabilities at fair value through profit and loss, ie,
FVTPL corrects the measurement inconsistency and produces more relevant information.
Hence, it may be appropriate to classify the entire group of fixed rate assets and fixed rate
debentures at fair value through profit or loss (FVTPL).

[Link]
Question 35

ICAI Illustration

A share broking company is dealing in sale/purchase of shares for its own account and
therefore is having inventory of shares purchased by it for trading. How will these
instruments be accounted for in the financial statements?

(Study material)

Answer

Ind AS 2, Inventories, states that this Standard applies to all inventories, except financial
instruments (Ind AS 32, Financial Instruments: Presentation and Ind AS 109, Financial
Instruments).

Accordingly, the principles of recognising and measuring financial instruments are governed by
Ind AS 109, its presentation is governed by Ind AS 32 and disclosures are in accordance with Ind
AS 107, Financial Instruments: Disclosures, even if these instruments are held as stock-in trade
by a company.

Further Ind AS 101, First-time Adoption of Indian Accounting Standards does not provide any
transitional relief from the application of the above standards.

Accordingly, in the given case, the relevant requirements of Ind AS 109, Ind AS 32 and Ind AS
107 shall be applied retrospectively.

Question 36

ICAI Illustration

Bonds for Rs 1,00,000 reclassified as FVTPL. Fair value on reclassification is Rs 90,000. Pass the
required journal entry.

[Link]
 (Study material)

Answer

Particulars Amount Amount

Bonds at FVTPL 90,000

Loss on reclassification 10,000

To Bonds at amortised cost 1,00,000

Question 37

ICAI Illustration

Bonds for Rs 1,00,000 reclassified as FVOCI. Fair value on reclassification is Rs 90,000. Pass the
required journal entry.

(Study material)

Answer

Particulars Amount Amount

Bonds at FVOCI 90,000

OCI (Loss on reclassification) 10,000

To Bonds at amortised cost 1,00,000

Question 38

[Link]
ICAI Illustration

Bonds for Rs 100,000 reclassified as Amortised cost. Fair value on reclassification is Rs 90,000.
Pass the required journal entry.

(Study material)

Answer

Particulars Amount Amount

Bonds at Amortised cost Dr. 90,000

Loss on reclassification Dr. 10,000

To Bonds at FVTPL 1,00,000

Question 39

ICAI Illustration

Bonds for Rs 100,000 reclassified as FVOCI. Fair value on reclassification is Rs 90,000. Pass the
required journal entry.

(Study material)

Answer

Particulars Amount Amount

Bonds at FVOCI Dr. 90,000

Loss on reclassification Dr. 10,000

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 To Bonds at FVTPL 1,00,000

Question 40

ICAI Illustration

Bonds for Rs 100,000 reclassified as FVTPL. Fair value on reclassification is Rs 90,000. Pass the
required journal entry.

(Study material)

Answer

Amount Amount

P&L - Loss on reclassification 10,000

To Bonds at FVTOCI 10,000

Bonds at FVTPL 90,000

To Bonds at FVOCI 90,000

Topic 5: Expected Credit Losses (ECL) and Impairment

Question 41

ICAI Illustration

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Entity A originates a single 10 year amortising loan for CU1 million. Taking into consideration
the expectations for instruments with similar credit risk (using reasonable and supportable
information that is available without undue cost or effort), the credit risk of the borrower,
and the economic outlook for the next 12 months, Entity A estimates that the loan at initial
recognition has a probability of default (PoD) of 0.5 per cent over the next 12 months. Entity
A also determines that changes in the 12-month PoD are a reasonable approximation of the
changes in the lifetime PoD for determining whether there has been a significant increase in
credit risk since initial recognition. Loss given default (LGD) is estimated as 25% of the balance
outstanding. Calculate loss allowance.

(Study material)

Answer

At reporting date, no change in 12-month POD and entity assesses that there is no significant
increase in credit risk since initial recognition – therefore lifetime ECL is not required to be
recognised.

Particulars Details

Loan Rs 1,000,000 (A)

LGD 25% (B)

PoD – 12 months 0.5% (C)

Loss allowance (for 12-months ECL) Rs 1,250 (A*B*C)

Question 42

ICAI Illustration

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Bank A originates 2,000 bullet loans with a total gross carrying amount of CU 500,000. Bank A
segments its portfolio into borrower groups (Groups X and Y) on the basis of shared credit
risk characteristics at initial recognition. Group X comprises 1,000 loans with a gross carrying
amount per client of CU 200, for a total gross carrying amount of CU 200,000. Group Y
comprises 1,000 loans with a gross carrying amount per client of CU 300, for a total gross
carrying amount of CU 300,000. There are no transaction costs and the loan contracts include
no options (for example, prepayment or call options), premiums or discounts, points paid, or
other fees. Calculate loss rate when

Group Historic per annum average Present value of observed loss

defaults assumed

X 4 CU 600

Y 2 CU 450

(Study material)

Answer

- Bank A measures expected credit losses on the basis of a loss rate approach for Groups X and
Y. In order to develop its loss rates, Bank A considers samples of its own historical default and
loss experience for those types of loans.

- In addition, Bank A considers forward-looking information, and updates its historical

information for current economic conditions as well as reasonable and supportable forecasts of
future economic conditions. Historically, for a population of 1,000 loans in each group, Group
X's loss rates are 0.3 per cent, based on four defaults, and historical loss rates for Group Y are
0.15 per cent, based on two defaults.

[Link]
 Number Estimate Total Historic Estimated Present Loss
of clients d per estimated per total gross value of rate
in sample client gross annum carrying observed
gross carrying average amount at loss
carrying amount at defaults default assumed
amount at default
default

Group A B C=A B D E=B D F G=F÷C

X 1,000 CU 200 CU 4 CU 800 CU 600 0.3%

2,00,000

Y 1,000 CU 300 CU 2 CU 600 CU 450 0.15%

3,00,000

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 Chapter 11 Unit-3

“Financial Instruments Equity and Financial Liabilities”

Topic 1 : Financial Liability vs Equity Classification (Basic Concepts)

Question 1

ICAI Illustration

A Ltd. (issuer) issues preference shares to B Ltd (holder). Those preference shares are
redeemable at the end of 10 years from the date of issue and entitle the holder to a
cumulative dividend of 15% p.a. The rate of dividend is commensurate with the credit risk
profile of the issuer. Examine the nature of the financial instrument.

(Study material)

Answer

This instrument provides for mandatory fixed dividend payments and redemption by the issuer
for a fixed amount at a fixed future date. Since there is a contractual obligation to deliver cash
(for both dividends and repayment of principal) to the preference shareholder that cannot be
avoided, the instrument is a financial liability in its entirety

Question 2

ICAI Illustration

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X Co. Ltd. (issuer) issues debentures to Y Co. Ltd. (holder). Those debentures are redeemable
at the end of 10 years from the date of issue. Interest of 15% p.a. is payable at the discretion
of the issuer. The rate of interest is commensurate with the credit risk profile of the issuer.
Examine the nature of the financial instrument.

(Study material)

Answer

This instrument has two components – (1) mandatory redemption by the issuer for a fixed
amount at a fixed future date, and (2) interest payable at the discretion of the issuer.

The first component is a contractual obligation to deliver cash (for repayment of principal with
or without premium, as per terms) to the debenture holder that cannot be avoided. This
component of the instrument is a financial liability.

The second component of interest payable is discretion of the issuer and hence willM be
classified as equity. This is also discussed in detailed in the compound financial instrument
section (Also refer Illustration 27 in the subsequent section).

Question 3

ICAI Illustration

P Co. Ltd. (issuer) takes a loan from Q Co. Ltd. (holder). The loan is perpetual and entitles the
holder to fixed interest of 8% p.a. Examine the nature of the financial instrument.

(Study material)

Answer

This instrument has two components – (1) mandatory interest by the issuer for a fixed amount
at a fixed future date, and (2) perpetual nature of the principal amount. The first component is

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a contractual obligation to deliver cash (for payment of interest) to the lender that cannot be
avoided. This component of the instrument is a financial liability.

Question 4

ICAI Illustration

D Ltd. issues preference shares to G Ltd. The holder has an option to convert these preference
shares to equity instruments of the issuer anytime up to a period of 10 years. If the option is
not exercised by the holder, the preference shares are redeemed at the end of 10 years.
Examine the nature of the financial instrument.

(Study material)

Answer

This instrument has two components – (1) contractual obligation that is conditional on holder
exercising its right to redeem, and (2) conversion option with the holder. The first component is
a financial liability because the entity does not have the unconditional right to avoid delivering
cash.

Question 5

ICAI Illustration

LMN Ltd. issues preference shares to PQR Ltd. These preference shares are redeemable at the
end of 5 years from the date of issue.

The instrument also provides a settlement alternative to the issuer whereby it can transfer a
particular commercial building to the holder, whose value is estimated to be significantly
higher than the cash settlement amount. Examine the nature of the financial instrument.

[Link]
 (Study material)

Answer

Such preference shares are financial liability because the entity can avoid a transfer of cash or
another financial asset only by settling the non-financial obligation.

Question 6

ICAI Illustration

ABC Ltd. has two classes of puttable shares – Class A shares and Class B shares. On
liquidation, Class B shareholders are entitled to a pro rata share of the entity’s residual assets
up to a maximum of Rs 10,000,000.

There is no limit to the rights of the Class A shareholders to share in the residual assets on
liquidation. Examine the nature of the financial instrument.

(Study material)

Answer

The cap of Rs 10,000,000 means that Class B shares do not have entitlement to a pro rata share
of the residual assets of the entity on liquidation. They cannot therefore be classified as equity.

Question 7

ICAI Illustration

T Motors Ltd. has issued puttable ordinary shares and puttable ‘A’ ordinary shares whereby
holders of ordinary shares are entitled to one vote per share whereas holders of ‘A’ ordinary
shares are not entitled to any voting rights. The holders of two classes of shares are equally

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entitled to receive share in net assets upon liquidation. Examine whether the financial
instrument will be classified as equity.

(Study material)

Answer

Neither of the two classes of puttable shares can be classified as equity, as they do not have
identical features due to the difference in voting rights. It is not possible for T Motors Ltd. to
achieve equity classification of the ordinary shares by designating them as being more
subordinate than the ‘A’ ordinary shares, as this does not reflect the fact that the two classes of
share are equally entitled to share in entity’s residual assets on liquidation.

Question 8

ICAI Illustration

S Ltd. has issued a class of puttable ordinary shares to T Ltd. Besides the put option (which is
consistent with other classes of ordinary shares), T Ltd. is also entitled to convert the class of
ordinary shares held by it into equity instruments of S Ltd. whose number will vary as per the
market value of S Ltd. Examine whether the financial instrument will be classified as equity.

(Study material)

Answer

The shares cannot qualify for equity classification in their entirety as in addition to the put
option there is also a contractual obligation to settle the instrument in variable number of
entity’s own equity instruments.

Question 9

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ICAI Illustration

P Ltd. has issued puttable ordinary shares to Q Ltd. Q Ltd. has also entered into an asset
management contract with P Ltd. whereby Q Ltd. is entitled to 50% of the profit of P Ltd.
Normal commercial terms for similar contracts will entitle the service provider to only 4%- 6%
of the net profits. Examine whether the financial instrument will be classified as equity.

(Study material)

Answer

The puttable ordinary shares cannot qualify for equity classification as (a) in addition to the put
option, there is another contract between the issuer (P Ltd.) and holder of puttable instrument
(Q Ltd.) whose cash flows are based substantially on profit or loss of issuer, (b) whose
contractual terms are not similar to a contract between a non-instrument holder and issuer and
(c) it has the effect of substantially restricting return on puttable ordinary shares.

Topic 2 : Convertible Instruments – Fixed vs Variable Conversion Ratio

Question 10

ICAI Illustration

A Ltd. issued compulsorily convertible preference shares (CCPS) at Rs 100 each (Rs 10 face
value + Rs 90 premium per share) for Rs 10,00,000. These are convertible into equity shares at
the end of 10 years, where the number of equity shares to be issued shall be determined
based on fair value per equity share to be determined at the time of conversion. Evaluate if
this is financial liability or equity? What if the conversion ratio was fixed at the time of issue
of such preference shares?

[Link]
 (Study material)

Answer

i. As per Ind AS 109, non-derivative contracts which will be settled against issue of variable
number of own equity shares meet the definition of financial liability. In this case, A Ltd. has
issued CCPS which are convertible into variable number of shares. Hence, it is akin to use of
own equity shares as currency for settlement of the liability of CCPS issued. Accordingly, it
meets the definition of financial liability. Measurement –

Initial measurement – This shall be measured at fair value on date of transaction. Since A Ltd
shall give shares worth Rs 10 lacs at the end of 10 years which is equal to the amount borrowed
on day 1, the liability is recognised at fair value, determined by discounting future settlement of
the borrowed amount. For difference arising on day 1 between amount borrowed and that
recognised as liability using level 3 inputs, it is deferred and recognised on a systematic basis
over the period of liability.

Subsequent measurement – Such liability shall be carried at fair value through profit or loss.

ii. Per Ind AS 109, a non-derivative contract that involves issue of fixed number of equity shares
shall be classified as equity. In this case, if the conversion of CCPS was into a fixed number of
equity shares at the end of 10 years, then it meets the definition of equity and hence, shall be
classified as ‘equity instrument’.

An equity instrument is carried at cost and no further adjustments made to its carrying value
after initial recognition.

Question 11

ICAI Illustration

[Link]
CBA Ltd. issues convertible debentures to RQP Ltd. for a subscription amount of Rs 100
crores. Those debentures are convertible after 5 years into equity shares of CBA Ltd. using a
pre- determined formula. The formula is

Examine the nature of the financial instrument.

(Study material)

Answer

Such a contract is a financial liability of the entity even though the entity can settle it by
delivering its own equity instruments. It is not an equity instrument because the entity uses a
variable number of its own equity instruments as a means to settle the contract. The underlying
thought behind this conclusion is that the entity is using its own equity instruments ‘as
currency’

Question 12

ICAI Illustration

DF Ltd. issues convertible debentures to JL Ltd. for a subscription amount of Rs 100 crores.
Those debentures are convertible after 5 years into 15 crore equity shares of Rs 10 each.

Examine the nature of the financial instrument.

(Study material)

Answer

[Link]
This contract is an equity instrument because changes in the fair value of equity shares arising
from market related factors do not affect the amount of cash or other financial assets to be
paid or received, or the number of equity instruments to be received or delivered.

Question 13

ICAI Illustration

On 1 January 20X1, PG Ltd. subscribes to convertible preference shares of BG Ltd. at Rs 100

per preference share. The preference shares are convertible in the ratio of 10:1 i.e. 10 equity
shares for each preference share held. On a fully diluted basis, PG Ltd. is entitled to 30% stake
in BG Ltd. If subsequent to the issuance of these convertible preference shares, BG Ltd. issues
any equity instruments at a price lower than Rs 10 per share, conversion ratio will be changed
to compensate PG Ltd. for dilution in its stake below the expected dilution at a price of Rs 10
per share. Examine the nature of the financial instrument.

(Study material)

Answer

The convertible preference shares will be classified as “financial liability” in the books of the
issuer, BG Ltd. The variability in the conversion ratio underwrites the return on preference
shares and not just protects the rights of convertible instrument holders vis-à-vis equity
shareholders

Question 14

ICAI Illustration

[Link]
On 1 January 20X1, NG Ltd. subscribes to convertible preference shares of AG Ltd. at Rs 100
per preference share. On a fully diluted basis, NG Ltd. is entitled to 30% stake in AG Ltd.

The preference shares are convertible at fair value, subject to, NG Ltd.’s stake not going
below 15% and not going above 40%. Examine the nature of the financial instrument.

(Study material)

Answer

The convertible preference shares will be classified as “financial liability” in the books of the
issuer, AG Ltd. The variability in the conversion ratio underwrites the return on preference
shares to an extent and also restricts that return. The preference shareholder is not entitled to
residual net assets of the issuer. In certain situations, an instrument is convertible only at the
option of issuer. While such instruments provide the issuer with an unconditional right to avoid
payment of cash, it is important to understand the economic substance of the option. It is also
very important to determine whether the option is exercised by the issuer or by shareholders
acting in their capacity as instrument holders.

For example, if the convertible instrument is held by the equity shareholders of the issuer and
the conversion requires unanimous consent of all the shareholders, it would be inappropriate
to consider that the issuer has an unconditional right to avoid payment of cash. In this situation,
it would be more relevant to consider the rights of the instrument holders in their capacity as
equity shareholders of the issuer.

Topic 3 : Options and Equity Features (Equity vs Liability)

Question 15

[Link]
ICAI Illustration

ST Ltd. purchases an option from AT Ltd. entitling the holder to subscribe to fixed number of
equity shares of issuer at a fixed exercise price of Rs 50 per share at any time during a period
of 3 months. Holder paid an initial premium of Rs 2 per option. Examine whether the financial
instrument will be classified as equity.

(Study material)

Answer

For the issuer AT Ltd., this option is an equity instrument as it will be settled by the exchange of
a fixed amount of cash for a fixed number of its own equity instruments.

If, on the other hand, if the exercise price of the option was variable, say benchmarked to an
index or a variable, other than the market price of equity shares of AT Ltd., the written option
will be classified as a “financial liability” in the books of the issuer, AT Ltd

Question 16

ICAI Illustration

WC Ltd. writes an option in favour of GT Ltd. wherein the holder can purchase issuer’s equity
instruments at prices that fluctuate in response to the share price of issuer.

As per the terms, if the share price of issuer is less than Rs 50 per share, option can be
exercised at Rs 40 per share. If the share price is equal to or more than Rs 50 per share,
option can be exercised at Rs 60 per share. Explain the nature of the financial instrument.

7(Study material)

Answer

[Link]
As the contract will be settled by delivery of fixed number of instruments for a variable amount
of cash, it is a financial liability.

Question 17

ICAI Illustration

Acquirer Ltd. enters into an arrangement with shareholders of Target Ltd. wherein Acquirer
Ltd. will purchase shares of Target Ltd. in a share swap arrangement against a variable
amount of cash i.e. market value of Target Ltd.’s equity shares. The share swap ratio is agreed
as 1:5 i.e. 1 equity share of Acquirer Ltd. for every 5 equity shares held in Target Ltd. Examine
whether the financial instrument will be classified as equity.

(Study material)

Answer

Such arrangements will not meet the condition for classification as “equity instrument” since
the contract will be settled by delivery of fixed number of Acquirer Ltd.’s own equity
instruments against a variable amount of cash i.e. market value of Target Ltd.’s equity shares.
Such a contract will likely result in a derivative liability or asset for both the parties.

Question 18

ICAI Illustration

Entity A issues a bond with face value of USD 100 and carrying a fixed coupon rate of 6% p.a.
Each bond is convertible into 1,000 equity shares of the issuer.

Examine the nature of the financial instrument.

[Link]
 (Study material)

Answer

While the number of equity shares is fixed, the amount of cash is not. The variability in cash
arises on account of fluctuation in exchange rate of INR-USD. Such a foreign currency
convertible bond (FCCB) will qualify the definition of “financial liability”. However, Ind AS 32.11
provides, “the equity conversion option embedded in a convertible bond denominated in
foreign currency to acquire a fixed number of the entity’s own equity instruments is an equity
instrument if the exercise price is fixed in any currency.”

Accordingly, FCCB will be treated as an “equity instrument”.

Topic 4 : Time-based or Event-based Conversion Ratios

Question 19

ICAI Illustration

On 1 January 20X1, NKT Ltd. subscribes to convertible preference shares of VT Ltd. The
conversion ratio varies as below:

Conversion upto 31 March 20X1: 1 equity share of VT Ltd. for each preference share held
Conversion upto 30 June 20X1: 1.5 equity share of VT Ltd. for each preference share held
Conversion upto 31 December 20X1: 2 equity share of VT Ltd. for each preference share held.
Examine whether the financial instrument will be classified as equity.

(Study material)

Answer

[Link]
The convertible preference shares can be classified as “equity instrument” in the books of the
issuer, VT Ltd. The conversion ratio doesn’t change corresponding to any underlying variable, it
only varies in response to passage of time which is a certain event and hence fixed.

Question 20

ICAI Illustration

On 1 January 20X1, HT Ltd. subscribes to convertible preference shares of RT Ltd. The

preference shares are convertible in the ratio of 1:1.

The terms of the instrument entitle HT Ltd. to proportionately more equity shares of RT Ltd.
in case of a stock split or bonus issue. Examine whether the financial instrument will be
classified as equity.

(Study material)

Answer

The convertible preference shares can be classified as “equity instrument” in the books of the
issuer, RT Ltd. The variability in the conversion ratio is only to protect the rights of the holder of
convertible instrument vis-à-vis other equity shareholders.

The conversion was always intended to be in a fixed ratio and hence the holder is exposed to
the change in equity value. The variability is brought in to maintain holder’s exposure in line
with other holders.

Question 21

ICAI Illustration

[Link]
On 1 January 20X1, STAL Ltd. subscribes to convertible preference shares of ATAL Ltd. The
preference shares are convertible as below: Convertible 1:1 if another strategic investor
invests in the issuer within one year

Convertible 1.5:1: if a prospectus filing is successfully completed within 2 years

Convertible 2:1: if a binding agreement for sale of majority stake by equity

shareholders is entered into within 3 years

Convertible 3:1: if none of these events occur in 3 years’ time. Examine whether the financial
instrument will be classified as equity.

(Study material)

Answer

In this case the four events can be viewed as discrete because the achievement of each one of
these can occur independently of the other (as they relate to different periods). The
arrangement can therefore be considered to be economically equivalent to four separate
contracts. The price per share and the amount of shares to be issued is fixed in each of these
discrete periods, with each event relating to a different year and therefore a separate risk. The
“fixed for fixed” test is therefore met.

The instrument is therefore classified as “equity instrument”.

Topic 5 : Interdependent Events in Conversion

Question 22

ICAI Illustration

[Link]
On 1 January 20X1, RHT Ltd. subscribes to convertible preference shares of RDT Ltd. The
preference shares are convertible as below:

Convertible 1:1 if another strategic investor invests at an enterprise valuation (EV) of USD 100
million.

Convertible 1.5:1: if another strategic investor invests at EV of USD 150 million

Convertible 2:1: if another strategic investor invests at EV of USD 200 million

Convertible 3:1: if no strategic investment is made within a period of 3 years

Examine the nature of the financial instrument.

(Study material)

Answer

The four events are interdependent because the second event cannot be met without also
meeting the first event, and the third event cannot be met unless the first two are met.

Therefore, this contract should be treated as a single instrument when applying the “fixed for
fixed” test. The test is then failed because the number of shares to be exchanged for cash are
variable.

Topic 6 : Compound Financial Instruments (Debt + Equity Components)

Question 23

ICAI Illustration

[Link]
X Co. Ltd. (issuer) issues debentures to Y Co. Ltd. (holder). Those debentures are redeemable
at the end of 10 years from the date of issue. Interest of 15% p.a. is payable at the discretion
of the issuer. The rate of interest is commensurate with the credit risk profile of the issuer.
Examine the nature of the financial instrument.

(Study material)

Answer

This instrument has two components – (1) mandatory redemption by the issuer for a fixed
amount at a fixed future date, and (2) interest payable at the discretion of the issuer.

The first component is a contractual obligation to deliver cash (for repayment of principal with
or without premium, as per terms) to the debenture holder that cannot be avoided. This
component of the instrument is a financial liability. The other component, discretionary interest
is an equity feature because issuer can avoid payment of cash or another financial asset in this
respect.

Therefore, this instrument is concluded to be a compound financial instrument.

Question 24

ICAI Illustration

P Co. Ltd. (issuer) takes a loan from Q Co. Ltd. (holder). The loan is perpetual and entitles the
holder to fixed interest of 8% p.a. Examine the nature of the financial instrument.

(Study material)

Answer

This instrument has two components – (1) mandatory interest by the issuer for a fixed amount
at a fixed future date, and (2) perpetual nature of the principal amount. The first component is

[Link]
a contractual obligation to deliver cash (for payment of interest) to the lender that cannot be
avoided. This component of the instrument is a financial liability.

The other component, perpetual principal, is an equity feature because issuer is not required to
pay cash or another financial asset in this respect.

Therefore, this instrument is concluded to be a compound financial instrument.

Question 25

ICAI Illustration

D Ltd. issues preference shares to G Ltd. The holder has an option to convert these preference
shares to equity instruments of the issuer anytime up to a period of 10 years. If the option is
not exercised by the holder, the preference shares are redeemed at the end of 10 years.
Examine the nature of the financial instrument.

(Study material)

Answer

This instrument has two components – (1) contractual obligation that is conditional on holder
exercising its right to redeem, and (2) conversion option with the holder. The first component is
a financial liability because the entity does not have the unconditional right to avoid delivering
cash.

The other component, conversion option with the holder, is an equity feature if the “fixed for
fixed” test is satisfied. If the conversion option does not fulfil that test, say, because the
conversion ratio varies in response to an underlying variable, it is a derivative liability.

Such an instrument is called a “hybrid instrument”.

[Link]
Question 26

ICAI Illustration

P Co. Ltd. (issuer) takes a loan from Q Co. Ltd. (holder) for Rs 12 lakhs. The loan is perpetual
and entitles the holder to fixed interest of 8% p.a. The rate of interest commensurate with
credit risk profile of the issuer is 12% p.a.

Calculate the value of the liability and equity components.

(Study material)

Answer

The values of the liability and equity components are calculated as follows:

Present value of interest payable in perpetuity (Rs 96,000 discounted at 12%) = Rs 800,000

Therefore, equity component = fair value of compound instrument, say, Rs 1,200,000 less
financial liability component i.e. Rs 800,000 = Rs 400,000.

In subsequent years, the profit and loss account is charged with interest of 12% on the debt
instrument.

Question 27

ICAI Illustration

On 1 July 20X1, D Ltd. issues preference shares to G Ltd. for a consideration of Rs 10 lakhs.
The holder has an option to convert these preference shares to a fixed number of equity
instruments of the issuer anytime up to a period of 3 years. If the option is not exercised by
the holder, the preference shares are redeemed at the end of 3 years. The preference shares
carry a fixed coupon of 6% p.a. and is payable every year. The prevailing market rate for

[Link]
similar preference shares, without the conversion feature, is 9% p.a. Calculate the value of
the liability and equity components.

(Study material)

Answer

The values of the liability and equity components are calculated as follows:

Present value of principal payable at the end of 3 years (Rs 10 lakhs discounted at 9% for 3
years) = Rs 772,183

Present value of interest payable in arrears for 3 years (Rs 60,000 discounted at 9% for each of
3 years) = Rs 151,878

Total financial liability = Rs 924,061

Therefore, equity component = fair value of compound instrument, say, Rs 1,000,000 less
financial liability component i.e. Rs 924,061 = Rs 75,939.

In subsequent years, the profit and loss account is charged with interest of 9% on the debt
instrument.

Question 28

ICAI Illustration

D Ltd. issues preference shares to G Ltd. for a consideration of Rs 10 lakhs.

The holder has an option to convert these preference shares to a fixed number of equity
instruments of the issuer anytime up to a period of 3 years. If the option is not exercised by
the holder, the preference shares are redeemed at the end of 3 years. The preference shares
carry a coupon of RBI base rate plus 1% p.a. and is payable at the end of every year.

[Link]
The prevailing market rate for similar preference shares, without the conversion feature or
issuer’s redemption option, is RBI base rate plus 4% p.a.

On the date of contract, RBI base rate is 9% p.a.

Calculate the value of the liability and equity components.

(Study material)

Answer

The values of the liability and equity components are calculated as follows:

Present value of principal payable at the end of 3 years (Rs 10 lakhs discounted at13% for 3
years) = Rs 6,93,050

Present value of interest payable in arrears for 3 years (Rs 100,000 discounted at 13% for each
of 3 years) = Rs 2,36,115

Paragraph AG 31 of Ind AS 32 states that a common form of compound financial instruments is

a debt instrument with an embedded conversion option, such as a bond convertible into
ordinary shares of the issuer, and without any other embedded derivatives features.

The liability component = Present value of principal + Present value of Interest = Rs 6,93,050 +
Rs 2,36,115 = Rs 9,29,165

Equity Component = Rs 10,00,000 – Rs 9,29,165 = Rs 70,835

Topic 7 : Amortisation Schedule and Early Redemption of Compound

Instruments

[Link]
Question 29

ICAI Illustration

Optionally convertible redeemable preference shares (continued from Illustration 29)

The amortisation schedule of the instrument is set out below:

Dates Cash flows Finance cost at Liability Equity

effective
interest rate

1July 20X1 1,000,000 - 9,24,061 75,93 9

30 June 20X2 (60,000) 83,165 9,47,226 75,93 9

30 June 20X3 (60,000) 85,250 9,72,476 75,93 9

30 June 20X4 (10,60,000) 87,524 - 75,939

Assume that D Ltd. has an early redemption option to prepay the instrument at Rs 11 lakhs
and on 30 June 20X3, it exercises that option. At 30 June 20X3, the interest rate has changed.
At that time, D Ltd. could have issued a one-year (i.e. maturity 30 June 20X4) non-convertible
instrument at 5%. Calculate the value of the liability and equity components.

(Study material)

Answer

Ind AS 32 requires that the amount paid (of Rs 11 lakhs) is split by the same method as is used
in the initial recording. However, at 30 June 20X3, the interest rate has changed. At that time, D
Ltd. could have issued a one-year (i.e. maturity 30 June 20X4) nonconvertible instrument at 5%.

The split will be made as below:

[Link]
Particulars Amount (Rs)

Present value of principal payable at 30 June 20X4 in one year’s time 9,52,381

(Rs 10 lakhs discounted at 5% for one year)

Present value of interest payable (Rs 60,000 discounted at 5% for one 57,142
year)

Total liability component 10,09,523

Consideration paid 11,00,000

Residual – equity component 90,477

Accordingly, the difference between consideration allocated to liability component (Rs

10,09,523) less carrying amount of financial liability on date of redemption i.e. 30 June 20X3 (Rs
9,72,476), amounting to Rs 37,047 is recognised in profit or loss.

The residual i.e. consideration allocated to equity component is recognised in equity.

An entity may amend the terms of a convertible instrument to induce early conversion, for
example by offering a more favourable conversion ratio or paying other additional
consideration in the event of conversion before a specified date.

The difference, at the date the terms are amended, between:

• the fair value of the consideration the holder receives on conversion of the instrument under
the revised terms and

• the fair value of the consideration the holder would have received under the original terms is
recognised as a loss in profit or loss

[Link]
Topic 8 : Issuer’s Option to Convert or Redeem – Substance over Form

Question 30

ICAI Illustration

XYZ Ltd. issues optionally convertible debentures with the following terms: The debentures
carry interest at the rate of 7% p.a.

Issuer has option to either:

Convert the instrument into a fixed number of its own shares at any time, or redeem the
instrument in cash at any time. The redemption price is the fair value of the fixed number of
shares into which the instrument would have converted if it had been converted.

The holder has no conversion or redemption options.

Debentures have a tenor of 12 years and, if not converted or redeemed earlier, will be repaid
in cash at maturity, including accrued interest, if any.

Examine the nature of the financial instrument.

(Study material)

Answer

The issuer has the ability to convert the debentures into a fixed number of its own shares at any
time. The issuer, therefore, has the ability to avoid making a cash payment or settling the
debentures in a variable number of its own shares.

Therefore, such a financial instrument is likely to be classified as equity.

[Link]
However, it must be noted that mere existence of a right to avoid payment of cash is not
conclusive. The instrument is to be accounted for as per its substance and hence it needs to be
seen whether the conversion option is substantive In this particular situation, the issuer will
need to determine whether it is favourable to exercise the conversion option or redemption
option. In case of latter, the instrument will be classified as a financial liability (a hybrid
instrument, whose measurement is dealt with in a subsequent section).

Practical situations do arise wherein the issuer has an option or obligation to issue own equity
instruments only in particular circumstances i.e. the instrument is contingently convertible.

[Link]
 Chapter 11 Unit-4

“Derivatives and Embedded Derivatives”

Topic 1 : Introduction to Derivatives

Question 1

ICAI Illustration

Entity S enters into a Rs 100 crores notional amount five-year pay-fixed, receive-variable
interest rate swap with Counterparty C.

A) The interest rate of the variable part of the swap is reset on a quarterly basis to three-
month Mumbai Interbank Offer Rate (MIBOR).

B) The interest rate of the fixed part of the swap is 10% p.a.

C) Entity S prepays its fixed obligation under the swap of Rs 50 crores (Rs 100 crores × 10% × 5
years) at inception, discounted using market interest rates

D) Entity S retains the right to receive interest payments on the Rs 100crores reset quarterly
based on three-month MIBOR over the life of the swap. Analyse.

(Study material)

Answer

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
an initial net investment that is smaller than would be required for other types of contracts that

[Link]
would be expected to have a similar response to changes in market factors, such as a variable
rate bond.

Therefore, the contract fulfils the condition 'no initial net investment or an initial net
investment that is smaller than would be required for other types of contracts that would be
expected to have a similar response to changes in market factors'.

Even though Entity S 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 in the
LIBOR index. Accordingly, the contract is regarded as a derivative contract.

Question 2

ICAI Illustration

A) Entity S enters into a Rs 100 crores notional amount five-year pay-variable, receive- fixed
interest rate swap with Counterparty C.

B) The variable leg of the swap is reset on a quarterly basis to three-month MIBOR.

C) The fixed interest payments under the swap are calculated as 10% of the swap's notional
amount, i.e. Rs 10 crores p.a.

D)Entity S prepays its obligation under the variable leg of the swap at inception at current
market rates. Say, that amount is Rs 36 crores.

E) It retains the right to receive fixed interest payments of 10% on Rs 100 crores every year.
Analyse.

(Study material)

Answer

[Link]
In effect, this contract results in an initial net investment of Rs 36 crores which yields a cash
inflow of Rs 10 crores every year, for five years. By discharging the obligation to pay variable
interest rate payments, Entity S in effect provides a loan to Counterparty C.

Therefore, all else being equal, the initial investment in the contract should equal that of other
financial instruments that consist of fixed annuities. Thus, the initial net investment in the pay-
variable, receive-fixed interest rate swap is equal to the investment required in a non-derivative
contract that has a similar response to changes in market conditions.

For this reason, the instrument fails the condition 'no initial net investment or an initial net
investment that is smaller than would be required for other types of contracts that would be
expected to have a similar response to changes in market factors'. Therefore, the contract is
not accounted for as a derivative contract.

Question 3

ICAI Illustration

Entity XYZ enters into a forward contract to purchase 1 million ordinary shares of Entity T in
one year

a) The current market price of T is Rs 50 per share

b) The one-year forward price of T is Rs 55 per share

c) XYZ is required to prepay the forward contract at inception with a Rs 50 million payment.

Analyse.

(Study material)

Answer

[Link]
Purchase of 1 million shares for current market price is likely to have the same response to
changes in market factors as the contract mentioned above. Accordingly, the prepaid forward
contract does not meet the initial net investment criterion of a derivative instrument.

Question 4

ICAI Illustration

Entity ABC Ltd., whose functional currency is Indian Rupees, sells products in France
denominated in Euro. ABC enters into a contract with an investment bank to convert Euro to
Indian Rupees at a fixed exchange rate. The contract requires ABC to remit Euro based on its
sales volume in France in exchange for Indian Rupees at a fixed exchange rate of 80.00. Is that
contract a derivative?

(Study material)

Answer

Yes. The contract has two underlying variables (the foreign exchange rate and the volume of
sales); no initial net investment or an initial net investment that is smaller than would be
required for other types of contracts that would be expected to have a similar response to
changes in market factors, and a payment provision.

Question 5

ICAI Illustration

The definition of a derivative requires that the instrument “is settled at a future date”. Is this
criterion met even if an option is expected not to be exercised, for example, because it is out
of the money?

[Link]
 (Study material)

Answer

Yes. An option is settled upon exercise or at its maturity. Expiry at maturity is a form of
settlement even though there is no additional exchange of consideration.

Question 6

ICAI Illustration

Silver Ltd. has purchased 100 ounces of gold on 10 March 20X1. The transaction provides for a
price payable which is equal to market value of 100 ounces of gold on 10 April 20X1 and shall
be settled by issue of such number of equity shares as is required to settle the
aforementioned transaction price at Rs 10 per share on 10 April 20X1. Whether this is
classified as liability or equity? Own use exemption does not apply.

(Study material)

Answer

In the above scenario, there is a contract for purchase of 100 ounces of gold whose
consideration varies in response to changing value of gold. Analysing this contract as a
derivative –

(a) Value of contract changes in response to change in market value of gold;

(b) There is no initial net investment

(c) It will be settled at a future date, i.e. 10 April 20X1.

Since the above criteria are met, this is a derivative contract.

[Link]
Now, a derivative contract that is settled in own equity other than exchange of fixed amount of
cash for fixed number of shares is classified as ‘liability’. In this case, since the contract results in
issue of variable number of shares based on transaction price to be determined in future,
hence, this shall be classified as ‘derivative financial liability’. Per Ind AS [Link] – A derivative
financial liability shall be carried at fair value through profit or loss.

Question 7

ICAI Illustration

Entity – B Ltd writes an option contract for sale of shares of Target Ltd. At a fixed price of Rs
100 per share to C Ltd. This option is exercisable anytime for a period of 90 days (‘American
option’). Evaluate this under the definition of financial instrument.

(Study material)

Answer

In the above case – B Ltd has written an option, which if exercised by C Ltd. will result in B Ltd.
selling equity shares of Target Ltd. for fixed cash of Rs 100 per share. Such option will be
exercised by C Ltd. only if the market price of shares of Target Ltd. increases beyond Rs 100,
thereby resulting in contractual obligation over B Ltd. to settle the contract under potential
unfavorable terms.

In the above case, if the market price is already Rs 120 which means that if option is exercised
by C Ltd, then B Ltd shall buy shares from the market at Rs 120 per share and sell at Rs 100,
thereby resulting in a loss or exchange at unfavorable terms to B Ltd.

Hence, it meets the definition of financial liability in books of B Ltd. The additional question that
arises here is the nature of this financial liability and if it meets the definition of derivative. A
derivative is a financial instrument that meets following conditions –

[Link]
(a) Its value changes in response to change in specified variable like interest rate, equity index,
commodity price, etc. If the variable is non-financial, it is not specific to party to the contract

(b) It requires no or little initial net investment

(c) It is settled at a future date.

Evaluating the above instrument, B Ltd. has written an option whose value changes based on
change in market price of equity share, it requires no initial net investment and is settled at a
future date (anytime in 90 days). Hence, it meets definition of derivative financial liability in
books of B Ltd.

Question 8

ICAI Illustration

A Ltd. issues warrants to all existing shareholders entitling them to purchase additional
equity shares of A Ltd. (with face value of Rs 100 per share) at an issue price of Rs 150 per
share. Evaluate whether this constitutes an equity instrument or a financial liability?

(Study material)

Answer

In this case, Company A Ltd. has issued warrants entitling the shareholders to purchase equity
shares of the Company at a fixed price. Hence, it constitutes a contractual arrangement for
issuance of fixed number of shares against fixed amount of cash.

Now, evaluating this contract under definition of derivative –

(i) The value of warrant changes in response to change in value of underlying equity shares;

(ii) This involves no initial net investment

[Link]
(iii) It shall be settled at a future date.

Hence, this warrant meets the definition of derivative.

Applying definition of equity under Ind AS 32, a derivative contract that will be settled by
exchange of fixed number of equity shares for fixed amount of cash meets definition of equity
instrument. The above contract is derivative contract that will be settled by issue of fixed
number of own equity instruments by A Ltd. for fixed amount of cash and hence meets
definition of equity instrument

Topic 2 : Embedded Derivatives

Question 9

ICAI Illustration

A lease contract contains a provision that rentals increase each year by Rs 3 million. Is there
an embedded derivative in this contract?

(Study material)

Answer

The price adjustment feature does not meet the definition of a derivative on a standalone basis
since its value does not change in response to changes of some underlying.

There is no underlying in this case; hence there is no embedded derivative in the lease contract

Question 10

[Link]
ICAI Illustration

Entity X issues a redeemable fixed interest rate debenture to Entity Y. Amount of interest and
principal is indexed to the value of equity instruments of Entity X.

Analyse

(Study material)

Answer

In the given case, the host is a fixed interest rate debt instrument. The economic characteristics
and risks of a debt instrument are not closely related to those of an equity instrument.

Hence, the exposure of this hybrid instrument to changes in value of equity instruments is an
embedded derivative which is required to be separated.

The response above will not change even if the interest payment and principal repayments are
indexed to a commodity index or similar underlying.

Question 11

ICAI Illustration

A lease contract, between two Indian companies of an asset in India, includes contingent
lease rentals that are dependent upon an US inflation index. Can the entity treat inflation
linked features as closely related?

(Study material)

Answer

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For inflation linked features, an embedded derivative in a lease contract is considered as closely
related to the host if it is an inflation—related index related to inflation in the entity’s own
economic environment.

In this case, whilst the asset and the lessor and lessee are located in India, lease payment are
linked to US index. Hence, embedded derivative is not closely related and needs to be
separated.

Question 12

ICAI Illustration

As per the contract entered between lease and lessor, lease rentals will increase by Rs 3
million, if profit after tax is over Rs 200 million. Can the entity treat inflation linked features
as closely related?

(Study material)

Answer

No. Whilst contingent rentals based on sales are closely related to a host lease contract, the
same is not true of contingent rentals based on profit after tax.

Topic 3 : Complex Cases – Hybrid Instruments & Prepayment Options

Question 13

ICAI Illustration

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Entity PQR borrows Rs 100 crores from CFDH Bank on 1 April 20X1. Interest is payable at 12%

p.a. and there is a bullet repayment of principal at the end of the term.

Term of the loan is 6 years.

The loan includes an option to prepay the loan at 1st April each year with a prepayment
penalty of 3%. There are no transaction costs. Without the prepayment option, the interest
rate quoted by bank is 11% p.a.

Analyse

(Study material)

Answer

Step 1: Identify the host contract and embedded derivative, if any In the given case,

• Host is a debt instrument comprising annual interest payment at 12% p.a. and bullet principal
repayment at the end of 6 years.

• Option to prepay the debt at Rs 103 crores is an embedded derivative

Step 2: Determine the amortised cost of the host debt instrument

Whether the prepayment option is likely to be exercised or not, the amortised cost of the host
debt instrument should be calculated as present value (PV) of expected cash flows using a fair
market interest rate for a debt without the prepayment option (11% p.a. in this case). This is
calculated below as Rs 104.23 crores

Year Cash outflow PV @ 11% p.a. Finance cost Amortised cost

Rs crores

1 12.00 10.81 11.46 103.68

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 2 12.00 9.74 11.41 103.09

3 12.00 8.77 11.34 102.43

4 12.00 7.90 11.27 101.70

5 12.00 7.12 11.20 100.90

6 112.00 59.88 11.10 -

104.22 67.78

Step 3: Compare the exercise price of the prepayment option with the amortised cost of

the host debt instrument

Year Amortised cost Exercise price of Difference

prepayment option

Rs Crores

1 103.68 103.00 0.7%

2 103.09 103.00 0.1%

3 102.43 103.00 -0.6%

4 101.70 103.00 -1.3%

5 100.90 103.00 -2.1%

6 - N/A

The management of Entity PQR may formulate an appropriate accounting policy to determine
what constitutes “approximately equal”. In this case, if the management determines that a

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difference of more than 2% will indicate that the option's exercise price is not approximately
equal to the amortised cost of the host debt instrument, it will need to separate the embedded
derivative and account for it as per principles given in the subsequent sub-section.

It may be questioned as to why an option to repay a fixed rate loan early meets the definition
of embedded derivative. Let us revisit an important phrase from the definition of embedded
derivative:

“…some or all of the cash flows that otherwise would be required by the contract to be
modified…”

In the context of a fixed rate debt, it may be interpreted that:

• the option affects cash flows only if exercised; and

• the cash flows of a fixed rate debt do not vary with interest rates.

However, in this context, a variation in cash flows should be interpreted as a possible change in
the fair value of expected cash flows. Accordingly, the option's expected cash flows vary
according to interest rates in a similar way as a separate option to purchase a fixed rate debt
asset at a fixed price. A fixed price option to prepay a fixed rate loan will increase in value as
interest rates decline (and vice versa).

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 Chapter 11 Unit-5

“Recognition and Derecognition of Financial Instruments”

Topic 1 : Recognition of Financial Instruments

Question 1

ICAI Illustration

ST Ltd. enters into a forward contract to purchase 10 lakh shares of ABC Ltd. In a month’s
time for Rs 50 per share. This contract is entered into with a broker, Mr. AG and not through
regular trading mode in a stock exchange. The contract requires Mr. AG to deliver the shares
to ST Ltd. upon payment of agreed consideration. Shares of ABC Ltd. are traded on a stock
exchange. Regular way delivery is two days. Assess the forward contract.

(Study material)

Answer

In this case, the forward contract is not a regular way transaction and hence must be accounted
for as a derivative i.e. between the date of entering into the contract to the date of delivery, all
fair value changes are recognised in profit or loss. On the other hand, if the forward contract is
a regular way transaction, such fair value changes are recognised in other comprehensive
income if share of ABC Ltd. are equity instruments and not held for trading.

Question 2

ICAI Illustration

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NKT Ltd. purchases a call option in a public market permitting it to purchase 100 shares of VT
Ltd. at any time over the next one month at a price of Rs 1,000 per share. If NKT Ltd. exercises
its option, it has 7 days to settle the transaction according to regulation or convention in the
options market. VT Ltd.’s shares are traded in an active public market that requires two-day
settlement

(Study material)

Answer

In this case, the options contract is a regular way transaction as the settlement of the option is
governed by regulation or convention in the marketplace for options. Fair value changes
between the trade date and settlement date are recognised in other comprehensive income if
share of VT Ltd. are equity instruments and not held for trading by NKT Ltd.

The illustrations below explain the flow of journal entries in case of trade date accounting and
settlement date accounting for regular way purchase and sale of financial assets.

Question 3

ICAI Illustration

On 1 January 20X1, X Ltd. enters into a contract to purchase a financial asset for Rs 10 lakhs,
which is its fair value on trade date. On 4 January 20X1 (settlement date), the fair value of the
asset is Rs 10.5 lakhs. The amounts to be recorded for the financial asset will depend on how
it is classified and whether trade date or settlement date accounting is used. Pass necessary
journal entries.

(Study material)

Answer

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Journal Entries in the Buyer’s Books

Trade date accounting

Dr. / Cr. Particulars Amortized cost Fair value Fair value

through P&L through OCI

1 January 20X1

Dr. Financial asset 10 00,000 10 00,000 10 00,000

Cr. Financial liability (to pay) (10,00,000) (10,00,000) (10,00,000)

4 January 20X1

Dr. Financial asset - 50,000 50,000

Dr. Financial liability (to pay) 10,00,000 10,00,000 10,00,000

Cr. Profit or loss - (50,000) -

Cr. Other comprehensive - - (50,000)

income

Cr. Cash (10,00,000) (10,00,000) (10,00,000)

Settlement date accounting

Dr. / Cr. Particulars Amortized cost Fair value Fair value

through P&L through OCI

4 January 20X1

Dr. Financial asset 10 00,000 10 50,000 10 50,000

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 Cr. Profit or loss - (50,000) -

Cr. Other comprehensive - - (50,000)

income

Cr. Cash (10,00,000) (10,00,000) (10,00,000)

The above mentioned accounting principles apply only to financial assets and Ind AS 109 does
not contain any such principles for financial liabilities

Topic 2 : Derecognition of Financial Instruments

Question 4

ICAI Illustration

State whether the derecognition principles will be applied or not.

i. Interest strip of an interest-bearing financial asset i.e. the part entitles its holder to interest
cash flows of a financial asset

ii. Dividend strip of an equity share i.e. the part entitles its holder to only dividends arising
from an equity share

iii. Cash flows (principal and asset) upto a certain tenure or first right on a proportion of cash
flows of an amortising financial asset. Say, the part entitles its holder to first 80% of the cash
flows or cash flows for first 4 of the 6 years’ tenure.

(Study material)

Answer

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Derecognition requirements are applied to a part of a financial asset if that part meets any of
the following three conditions:

a) The part comprises only specifically identified cash flows from a financial asset (or a group of
similar financial assets).

For example, when an entity enters into an interest rate strip whereby the counterparty obtains
the right to the interest cash flows, but not the principal cash flows from a debt instrument,
derecognition principles are applied to the interest cash flows

b) The part comprises only a fully proportionate (pro rata) share of the cash flows from a
financial asset (or a group of similar financial assets).

For example, when an entity enters into an arrangement whereby the counterparty obtains the
rights to a 90 per cent share of all cash flows of a debt instrument, derecognition principles are
applied to 90 per cent of those cash flows.

c) The part comprises only a fully proportionate (pro rata) share of specifically identified cash
flows from a financial asset (or a group of similar financial assets)

For example, when an entity enters into an arrangement whereby the counterparty obtains the
rights to a 90 per cent share of interest cash flows from a financial asset, derecognition
principles are applied to 90 per cent of those interest cash flows.

The example of a part of a financial asset at (iii) in Illustration 4 above will not qualify conditions
at (b) and (c) above since it does not represent pro rata share of all or specifically identified
cash flows.

In (b) and (c) above, if there is more than one counterparty, each counterparty is not required
to have a proportionate share of the cash flows provided that the transferring entity has a fully
proportionate share.

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In all other cases, derecognition principles are applied to the financial asset in its entirety (or to
the group of similar financial assets in their entirety).

Question 5

ICAI Illustration

State whether the derecognition principles will be applied or not.

i. Entity Y transfers the rights to the first or the last 90 per cent of cash collections from a
financial asset (or a group of financial assets)

ii. Entity Z transfers the rights to 90 per cent of the cash flows from a group of receivables,
but provides a guarantee to compensate the buyer for any credit losses up to 8 per cent of
the principal amount of the receivables.

(Study material)

Answer

In the above circumstances, Entity Y and Entity Z need to apply the derecognition requirements
to the financial asset (or a group of similar financial assets) in its entirety

Question 6

ICAI Illustration

Entity A makes a five-year interest-bearing loan (the 'original asset') of Rs 100 crores to Entity
B. Entity A settles a Trust and transfers the loan to that Trust.

The Trust issues participatory notes to an investor, Entity C, that entitle the investor to the
cash flows from the asset.

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As per Trust’s agreement with Entity C, in exchange for a cash payment of Rs 90 crores, Trust
will pass to Entity C 90% of all principal and interest payments collected from Entity B (as,
when and if collected). Trust accepts no obligation to make any payments to Entity C other
than 90% of exactly what has been received from Entity B. Trust provides no guarantee to
Entity C about the performance of the loan and has no rights to retain 90% of the cash
collected from Entity B nor any obligation to pay cash to Entity C if cash has not been received
from Entity B.

Compute the amount to be dercognised.

(Study material)

Answer

If the three conditions are met, the proportion sold is derecognised, provided the entity has
transferred substantially all the risks and rewards of ownership. Thus, Entity A would report a
loan asset of Rs 10 crores and derecognise Rs 90 crores.

Question 7

ICAI Illustration

A financial asset is sold under repurchase agreement. The repurchase price as per that
agreement is (a) fixed price or (b) sale price plus a lender's return. Let’s look at three
alternate scenarios:

i. Repurchase agreement is for the same financial asset.

ii. Repurchase agreement is for substantially the same asset

iii. Repurchase agreement provides the transferee a right to substitute assets that are similar
and of equal fair value to the transferred asset at the repurchase date.

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State whether the derecognition principles will be applied or not.

(Study material)

Answer

In each of these scenarios, the transferred financial asset is not derecognised because the
transferor retains substantially all the risks and rewards of ownership. Let’s look at another
scenario:

Repurchase agreement provides the transferor only a right of first refusal to repurchase the
transferred asset at fair value if the transferee subsequently sells it In this scenario, the
transferred financial asset is derecognised because the transferor has transferred substantially
all the risks and rewards of ownership.

Question 8

ICAI Illustration

A financial asset is sold and the transferee has a put option. Let’s look at some alternate
scenarios:

i. Put option is deeply in the money

ii. Put option is deeply out of the money.

State whether the derecognition principles will be applied or not.

(Study material)

Answer

In the first scenario, the transferred asset does not qualify for derecognition because the
transferor has retained substantially all the risks and rewards of ownership. However, in the

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second scenario, the transferor has transferred substantially all the risks and rewards of
ownership.

Question 9

ICAI Illustration

A financial asset is sold and the transferor has a call option. Let’s look at some alternate
scenarios:

i. Call option is deeply in the money

ii. Call option is deeply out of the money.

What if the transferor holds a call option on an asset that is readily obtainable in the market?

iii. Call option is neither deeply in the money nor deeply out of the money State whether the
derecognition principles will be applied or not.

(Study material)

Answer

In the first scenario, the transferred asset does not qualify for derecognition because the
transferor has retained substantially all the risks and rewards of ownership. However, in the
second scenario, the transferor has transferred substantially all the risks and rewards of
ownership.

In the third scenario, the asset is derecognised. This is because the entity (i) has neither
retained nor transferred substantially all the risks and rewards of ownership, and (ii) has not
retained control.

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Question 10

ICAI Illustration

An entity may transfer to a transferee a fixed rate financial asset that is paid off over time,
and enter into an amortising interest rate swap with the transferee to receive a fixed interest
rate and pay a variable interest rate based on a notional amount.

Scenarios:

i. Notional amount of the swap amortises so that it equals the principal amount of the
transferred financial asset outstanding at any point in time.

ii. Amortisation of the notional amount of the swap is not linked to the principal amount
outstanding of the transferred asset.

State whether the derecognition principles will be applied or not.

(Study material)

Answer

In the first scenario, the swap would generally result in the entity retaining substantial
prepayment risk, in which case the entity either continues to recognise all of the transferred
asset or continues to recognise the transferred asset to the extent of its continuing
involvement.

Such a swap would not result in the entity retaining prepayment risk on the asset. Hence, it
would not preclude derecognition of the transferred asset provided the payments on the swap
are not conditional on interest payments being made on the transferred asset and the swap
does not result in the entity retaining any other significant risks and rewards of ownership on
the transferred asset.

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Question 11

ICAI Illustration

ST Ltd. assigns its trade receivables to AT Ltd. The carrying amount of the receivables is Rs
10,00,000. The consideration received in exchange of this assignment is Rs 9,00,000.
Customers have been instructed to deposit the amounts directly in a bank account for the
benefit of AT Ltd. AT Ltd. has no recourse to ST Ltd. in case of any shortfalls in collections.
State whether the derecognition principles will be applied or not.

(Study material)

Answer

In this situation, ST Ltd. has transferred the rights to contractual cash flows and has also
transferred substantially all the risks and rewards of ownership (credit risk being the most
significant risk in this situation).

Accordingly, ST Ltd. derecognises the financial asset and recognises Rs 1,00,000, the difference
between consideration received and carrying amount, as an expense in the statement of profit
or loss.

Topic 3 : Continuing Involvement and Guarantee Liabilities

Question 12

ICAI Illustration

Entity C agrees with factoring company D to enter into a debt factoring arrangement. Under
the terms of the arrangement, the factoring company D agrees to pay Rs 91.5 crores, less a
servicing charge of Rs 1.5 crores (net proceeds of Rs 90 crores), in exchange for 100% of the

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cash flows from short-term receivables. The receivables have a face value of Rs 100 crores
and carrying amount of Rs 95 crores.

The customers will be instructed to pay the amounts owed into a bank account of the
factoring company. Entity C also writes a guarantee to the factoring company under which it
will reimburse any credit losses upto Rs 5 crores, over and above the expected credit losses of
Rs 5 crores. The guarantee is estimated to have a fair value of Rs 0.5 crores. Calculate the
amount of continuing involvement asset.

(Study material)

Answer

In this situation, the “continuing involvement asset” will be recognised at Rs5.5 crores i.e. lower
of:

i. the amount of the asset – Rs 95 crores

ii. the guarantee amount – Rs 5.5 crores

Question 13

ICAI Illustration

Continuing illustration 12A, calculate the amount of associated liability.

(Study material)

Answer

The amount of associated liability is recognized at Rs 5.5 crores, as below:

i. the guarantee amount (i.e. Rs 5 crores) plus

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ii. the fair value of the guarantee (i.e. Rs 0.5 crores).

Question 14

ICAI Illustration

Continuing illustration 12A and 12B, pass the necessary Journal Entry.

(Study material)

Answer

The journal entries passed by Entity C on the date of derecognition is as below:

Cash Dr. Rs 90 crores

Loss on derecognition Dr. Rs 5 crores

Continuing involvement asset

Dr.Rs5.5 crores

To Receivables Rs 95 crores

To Associated liability Rs 5.5 crores

The guarantee liability of Rs 0.5 crores shall be amortised in profit or loss over the underlying
period.

Topic 4 : Modification Gains/Losses under Ind AS 109

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Question 15

ICAI Illustration

Ind AS 109, Financial Instruments requires recognition of renegotiation gain/loss subject to

fulfillment of certain conditions as mentioned in the standard. If there has been a
renegotiation of terms of (defaulted) borrowings subsequent to the year end, but before the
date of approval of financial statements, then should such modification gain/loss be
recognised in the current year financial statements itself or in the next year when the terms
of (defaulted) borrowings have been renegotiated in accordance with Ind AS 109?

(Study material)

Answer

As per paragraph 5.4.3 of Ind AS 109, Financial Instruments, whenever contractual cash flows of
a financial instrument are renegotiated or otherwise modified and the renegotiation or
modification does not result in the derecognition of that financial asset in accordance with this
Standard, an entity shall recalculate the gross carrying amount, of the financial asset and shall
recognise a modification gain or loss in profit or loss. In accsssordance with the above,
modification gain or loss should be recognised in profit or loss in the period in which the
renegotiation has contractually taken place. Accordingly, in the given case, if the terms of the
(defaulted) borrowings have been renegotiated in the next year, then the related gain/loss
should also be recognised in the next year.

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 Chapter 12

Business Combination & Corporate Restructuring

Topic 1 : Business Combination vs Asset Acquisition

Question 1

ICAI Illustration

Modifying the above illustration, if Company A had revenue contracts and a sales force, such
that Company B acquires all the inputs and processes other than the sales force, then
whether the definition of the business is met in accordance with Ind AS 103?

(Study material)

Answer

Though the sales force has not been taken over, however, if the missing inputs (i.e., sales force)
can be easily replicated or obtained by the market participant to generate output, it may be
concluded that Company A has acquired business. Further, if Company B is also into similar line
of business, then the existing sales force of the Company B may also be relevant to mitigate the
missing input. As such, the definition of business is met in accordance with Ind AS 103.

Question 2

ICAI Illustration

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ABC Ltd. a pharmaceutical group acquires XYZ Ltd. another pharmaceutical business. XYZ Ltd.
has incurred significant research costs in connection with two new drugs that have been
undergoing clinical trials. Out of the two drugs, one drug has not been granted necessary
regulatory approvals. However, ABC Ltd. expects that approval will be given within two years.
The other drug has recently received regulatory approval. The drugs’ revenue-earning
potential was one of the principal reasons why entity ABC Ltd. decided to acquire entity XYZ
Ltd. Whether the research and development on either of the drugs be recognised as an
intangible asset in the books of ABC Ltd.?

(Study material)

Answer

Ind AS 38, Intangible Assets provides explicit guidance on recognition of acquired in-process
research and development.

Paragraph 21 of Ind AS 38 provides guidance regarding general recognition conditions which

require it to be probable that expected future economic benefits will flow to the entity before
an intangible asset can be recognised and for the cost to be measured reliably.

As per paragraph 33 of Ind AS 38, both of the standard's general recognition criteria, i.e.
probability of benefits and reliable measurement, are always considered to be satisfied for
intangible assets acquired in a business combination.

The fair value of an intangible asset reflects expectations about the probability of these
benefits, despite uncertainty about the timing or the amount of the inflow. There will be
sufficient information to measure the fair value of the asset reliably if it is separable or arises
from contractual or other legal rights. If there is a range of possible outcomes with different
probabilities, this uncertainty is taken into account in the measurement of the asset's fair value.

Paragraph 34 of Ind AS 38, provides that in accordance with this Standard and Ind AS 103, an
acquirer recognises at the acquisition date, separately from goodwill, an intangible asset of the

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acquiree, irrespective of whether the asset had been recognised by the acquiree before the
business combination.

This means that the acquirer recognises as an asset separately from goodwill an in-process
research and development project of the acquiree if the project meets the definition of an
intangible asset. An acquiree’s in-process research and development project meets the
definition of an intangible asset when it:

(a) meets the definition of an asset; and\

(b) is identifiable, i.e. is separable or arises from contractual or other legal rights. In accordance
with above,

(i) The fair value of the first drug reflects the probability and the timing of the regulatory
approval being obtained. As per the standard, the recognition criterion of probable future
economic benefits is considered to be satisfied in respect of the asset acquired accordingly an
asset is recognised. Subsequent expenditure on an in-process research or development project
acquired separately is to be dealt with in accordance with paragraph 43 of Ind AS 38.

(ii) The rights to the second drug also meet the recognition criteria in Ind AS 8 and are
recognised. The approval means it is probable that future economic benefits will flow to ABC
Ltd. This will be reflected in the fair value assigned to the intangible asset.

Thus, recognising in-process research and development as an asset on acquisition applies

different criteria to those that are required for internal projects. The research costs of internal
R&D projects may under no circumstances be capitalised as an intangible asset. It may be
pertinent to note that entities will be required to recognise on acquisition some research and
development expenditure that they would not have been able to recognise if it had been an
internal project. Although the amount attributed to the project is accounted for as an asset, Ind
AS 38 requires that any subsequent expenditure incurred after the acquisition of the project is
to be accounted for in accordance with paragraphs 54 to 62 of Ind AS 38.

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Question 3

ICAI Illustration

Green Ltd acquired Pollution Ltd. as a part of the arrangement Green Ltd had to replace the
Pollution Ltd.’s existing equity-settled award. The original awards specify a vesting period of
five years. At the acquisition date, Pollution Ltd employees have already rendered two years
of service. As required, Green Ltd replaced the original awards with its own share-based
payment awards (replacement award). Under the replacement awards, the vesting period is
reduced to 2 year (from the acquisition date). The value (market-based measure) of the
awards at the acquisition date are as follows:

• original awards: Rs 500

• replacement awards: Rs 600

As of the acquisition date, all awards are expected to vest.

(Study material)\

Answer

Pre-combination period

The value of the replacement awards will have to be allocated between the precombination
and post combination period. As of the acquisition date, the fair value of the original award (Rs
500) will be multiplied by the service rendered upto acquisition date (2 years) divided by
greater of original vesting period (5 years) or new vesting period (4 years). Accordingly, 500 x
2/5= 200 will be considered as precombination service and will be included in the purchase
consideration.

Post- Combination period

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The fair value of the award on the acquisition date is 600 which means the difference between
the replacement award which is 600 and the amount allocated to precombination period (200)
is 400 which will be now recorded over the remaining vesting period which is 2 years as an
employee compensation cost.

Question 4

On 1st January, 20X1, H Ltd. acquired all of the share capital of S Ltd. for Rs 15,00,000. The
book values and the fair values of the identifiable assets and liabilities of S Ltd. at the date of
acquisition are set out below, together with their tax bases in S Ltd.’s tax jurisdictions. Any
goodwill arising on the acquisitions is not deductible for tax purposes. The tax rates in H Ltd.’s
and S Ltd.’s tax jurisdictions are 30% and 40% respectively.

Net assets acquired Book values Rs Tax base Rs Fair values Rs

’000 ’000 ’000

Land and buildings 600 500 700

Property, plant and equipment 250 200 270

Inventory 100 100 80

Accounts receivable 150 150 150

Cash and cash equivalents 130 130 130

Total assets 1,230 1,080 1,330

Accounts payable (160) (160) (160)

Retirement benefit obligations (100) - (100)

Net assets before deferred tax liability 970 920 (1070)

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Deferred tax liability on differences (20)
between book values and tax bases (Rs
50 @ 40%)

Net assets at acquisition 950 920 1,070

Calculate deferred tax arising on acquisition of S Ltd. and goodwill based on the above
information.

(RTP May’25)

Answer 4

Calculation of deferred tax arising on acquisition of S Ltd. and goodwill

Rs’000 Rs’000

Fair values of S Ltd.’s identifiable assets and liabilities (excluding 1,070

deferred tax)

Less: Tax base (920)

Temporary difference arising on acquisition 150

Net deferred tax liability arising on acquisition of S Ltd. (Rs 60

1,50,000 @ 40%)– replaces book deferred tax

Purchases consideration 1,500

Fair values of S Ltd.’s identifiable assets and liabilities (excluding 1,070

deferred tax)

Deferred tax (60) 1,010

Goodwill arising on acquisition 490

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The tax base of the goodwill is nil, so a taxable temporary difference of Rs 4,90,000 arises on
the goodwill. No deferred tax is recognised on the goodwill. The deferred tax on other
temporary differences arising on acquisitions is provided at 40% (not 30%), because taxes will
be payable or recoverable in S Ltd.’s tax jurisdictions when the temporary differences are
reversed.

Topic 2 : Goodwill / Bargain Purchase

Question 5

On 1st April 20X1, A Limited acquired 80% of the share capital of S Limited. On acquisition
date the share capital and reserves of S Ltd. stood at Rs 5,00,000 and Rs 1,25,000 respectively.
A Limited paid initial cash consideration of Rs 10,00,000. Additionally, A Limited issued
2,00,000 equity shares with a nominal value of Rs 1 per share at current market value of Rs
1.80 per share. It was also agreed that A Limited would pay a further sum of Rs 5,00,000 after
three years. A Limited's cost of capital is 10%. The appropriate discount factor for Rs 1 @ 10%
receivable at the end of

1st year: 0.91

2nd year: 0.83

3rd year: 0.75

The shares (issued in the year 20X2-20X3) and deferred consideration have not yet been
recorded by A limited.

Below are the Balance Sheet of A Limited and S Limited as at 31st March, 20X3:

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 A Limited (Rs 000) S Limited (Rs 000)

Non-current assets:

Property, plant & equipment 5,500 1,500

Investment in S Limited at cost 1,000

Current assets:

Inventory 550 100

Receivables 400 200

Cash 200 50

Equity: 7,650 1,850

Share capital 2,000 500

Retained earnings 1,400 300

3,400 800

Non-current liabilities 3,000 400

Current liabilities 1,250 650

7,650 1,850

Further information:

(i) On the date of acquisition the fair values of S Limited's plant exceeded its book value by

Rs 2,00,000. The plant had a remaining useful life of five years at this date;

(ii) The consolidated goodwill has been impaired by Rs 2,58,000; and

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(iii) The A Limited Group, values the non-controlling interest using the fair value method. At
the date of acquisition, the fair value of the 20% non-controlling interest was Rs 3,80,000.

You are required to prepare Consolidated Balance Sheet of A Limited as at 31st March, 20X3.
(Notes to Account on Consolidated Balance Sheet is not required).

(MTP March ’22, MTP Oct 21, PYP Jan’21)

Answer 5

Consolidated Balance Sheet of A Ltd. and its subsidiary, S Ltd. as at 31st March, 20X3

Particulars Rs in 000s

I. Assets

(1) Non-current assets

(i) Property Plant & Equipment (W.N.4) 7,120.00

(ii) Intangible asset – Goodwill (W.N.3) 1,032.00

(2) Current Assets

(i) Inventories (550 + 100) 650.00

(ii) Financial Assets

(a) Trade Receivables (400 + 200) 600.00

(b) Cash & Cash equivalents (200 + 50) 250.00

Total Assets 9,652.00

II. Equity and Liabilities

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(1) Equity

(i) Equity Share Capital (2,000 + 200) 2,200.00

(ii) Other Equity

(a) Retained Earnings (W.N.6) 1190.85

(b) Securities Premium 160.00

(2) Non-Controlling Interest (W.N.5) 347.40

(3) Non-Current Liabilities (3,000 + 400) 3,400.00

(4) Current Liabilities (W.N.8) 2,353.75

Total Equity & Liabilities 9,652.00

Working Notes:

1. Calculation of purchase consideration at the acquisition date i.e. 1st April, 20X1

Rs in 000s

Payment made by A Ltd. to S Ltd.

Cash 1,000.00

Equity shares (2,00,000 shares x Rs 1.80) 360.00

Present value of deferred consideration (Rs 5,00,000 0.75) 375.00

Total consideration 1,735.00

2. Calculation of net assets i.e. net worth at the acquisition date i.e. 1st April, 20X1

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 Rs in 000s

Share capital of S Ltd. 500.00

Reserves of S Ltd. 125.00

Fair value increase on Property, Plant and Equipment 200.00

Net worth on acquisition date 825.00

3. Calculation of Goodwill at the acquisition date i.e. 1st April, 20X1 and 31st March, 20X3

Rs in 000s

Purchase consideration (W.N.1) 1,735.00

Non-controlling interest at fair value (as given in the question) 380.00

2,115.00

Less: Net worth (W.N.2) (825.00)

Goodwill as on 1st April 20X1 1,290.00

Less: Impairment (as given in the question) 258.00

Goodwill as on 31st March 20X3 1,032.00

4. Calculation of Property, Plant and Equipment as on 31st March 20X3

Rs in 000s Rs in 000s

A Ltd. 5,500.00

S Ltd. 1,500.00

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Add: Net fair value gain not recorded yet 200.00

Less: Depreciation [(200/5) 2] (80.00) 120.00 1,620.00

7,120.00

5. Calculation of Post-acquisition gain (after adjustment of impairment on goodwill) and value

of NCI as on 31st March 20X3

Rs in 000s Rs in 000s

NC I (20 %) A Ltd. (80%)

Acquisition date balance 380.00 Nil

Closing balance of Retained Earnings 300.00

Less: Pre-acquisition balance (125.00)

Post-acquisition gain 175.00

Less: Additional Depreciation on PPE [(200/5) 2]

(80.00)

Share in post-acquisition gain 95.00 19.00 76.00

Less: Impairment on goodwill 258.00 (51.60) (206.40)

347.40 (130.40)

6. Consolidated Retained Earnings as on 31st March 20X3

Rs in 000s

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A Ltd. 1,400.00

Add: Share of post-acquisition loss of S Ltd. (W.N.5) (130.40)

Less: Finance cost on deferred consideration (37.5 + 41.25) (W.N.7) (78.75)

Retained Earnings as on 31st March 20X3 1,190.85

7. Calculation of value of deferred consideration as on 31st March 20X3

Rs in 000s

Value of deferred consideration as on 1st April 20X1 (W.N.1) 375.00

Add: Finance cost for the year 20X1-20X2 (375 10%) 37.50

412.50

Add: Finance cost for the year 20X2-20X3 (412.50 10%) 41.25

Deferred consideration as on 31st March 20X3 453.75

8. Calculation of current Liability as on 31st March, 20X3

Rs in 000s

A Ltd. 1,250.00

S Ltd. 650.00

Deferred consideration as on 31st March, 20X3 (W.N.7) 453.75

Current Liability as on 31st March, 20X3 2,353.75

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Question 6

Deepak Ltd., an automobile group acquires 25% of the voting ordinary shares of Shaun Ltd.,
another automobile business, by paying, Rs. 4,320 crores on 01.04.2017. Deepak Ltd.
accounts its investment in Shaun Ltd. using equity method as prescribed under Ind AS 28. At
31.03.2018, Deepak Ltd. recognized its share of the net asset changes of Shaun Ltd. using
equity accounting as follows:

(Rs. in crore)

Share of Profit or Loss 378

Share of Exchange difference in OCI 54

Share of Revaluation Reserve of PPE in OCI 27

The carrying amount of the investment in the associate on 31.03.2018 was therefore Rs.
4,779 crores (4,320 + 378 + 54 + 27).

On 01.04.2018, Deepak Ltd. acquired remaining 75% of Shaun Ltd. for cash Rs. 13,500 crore.
Fair value of the 25% interest already owned was Rs. 4,860 crore and fair value of Shaun Ltd.'
s identifiable net assets was Rs. 16,200 crores as on 01.04.2018.

How should such business combination be accounted for in accordance with the applicable
Ind AS?

(PYP, May’19), (MTP Oct ’20)

Answer 6

Paragraph 42 of Ind AS 103 provides that in a business combination achieved in stages, the
acquirer shall remeasure its previously held equity interest in the acquire at its acquisition-date
fair value and recognize the resulting gain or loss, if any, in profit or loss or other
comprehensive income, as appropriate. In prior reporting periods, the acquirer may have

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recognized changes in the value of its equity interest in the acquiree in other comprehensive
income. If so, the amount that was recognised in other comprehensive income shall be
recognized on the same basis as would be required if the acquirer had disposed of directly the
previously held equity interest. Applying the above, Deepak Ltd. records the following entry in
its consolidated financial statements:

(Rs. in crore)

Debit Credit

Identifiable net assets of Shaun Ltd. Dr. 16,200

Goodwill (W.N.1) Dr. 2,160

Foreign currency translation reserve Dr. 54 13,500

PPE revaluation reserve Dr. 27

To Cash

To Investment in associate -Shaun Ltd. 4,779

To Retained earnings (W.N.2) 27

To Gain on previously held interest in Shaun Ltd. recognised 135

in Profit or loss (W.N.3)

(Recognition of acquisition of Shaun Ltd.)

Working Notes:

1. Calculation of Goodwill

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 Rs. in crore

Cash consideration 13,500

Add: Fair value of previously held equity interest in Shaun Ltd. 4,860

Total consideration 18,360

Less: Fair value of identifiable net assets acquired (16,200)

Goodwill 2,160

2. The credit to retained earnings represents the reversal of the unrealized gain of Rs. 27 crore
in Other Comprehensive Income related to the revaluation of property, plant and equipment. In
accordance with Ind AS 16, this amount is not reclassified to profit or loss.

3. The gain on the previously held equity interest in Shaun Ltd. Is calculated as follows:

Rs. in crore

Fair Value of 30% interest in Shaun Ltd. at 1st April, 2018 4,860

Carrying amount of interest in Shaun Ltd. at 1st April, 2018 (4,779)

81

Unrealised gain previously recognised in OCI 54

Gain on previously held interest in Shaun Ltd. recognised in profit or loss 135

EXAMINERS’ COMMENTS ON THE PERFORMANCE OF EXAMINEES:

Many examinees have only calculated goodwill but have not calculated gain on the previously
held equity interest in Shaun Ltd. recognized in Profit and Loss. Some of the examinees were
not able to pass correct journal entry for the given business

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Question 7

Smart Technologies Inc. is a Company incorporated in India in 1998 having business in the
field of development and installation of softwares, trading of computer peripherals and other
IT related equipment and provision of cloud computing services along with other services
incidental thereto. It is one of the leading brands in India.

After witnessing immense popularity and support in its niche market, Smart Technologies
further grew by bringing its subsidiaries namely:

Company Name Principle Activity

Cloudustries India Private Limited Provision of cloud computing services.

Micro Fly India Private Limited Trading of computer peripherals like mouse,
keyboard, printer etc.

Smart Technologies started preparing its financial statements based on Ind AS from 1st April,
2015 on voluntary basis. The Microfly India Pvt. Ltd. is planning to merge the business of
Clouds tries India Pvt. Ltd. with its own for which it presented before the members in the
meeting the below extract of latest audited Balance Sheet of Cloudustries (prepared on the
basis of Ind AS) for the year ended 31st March, 2017:

Balance Sheet as at March 31, 2017 (Rs. in Crores)

Assets

Non-current assets

Property, plant and Equipment 15.00

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Current Assets 15.00

(a) Financial assets

Trade Receivables 10.00

Cash and cash equivalents 10.00

Other current assets 8.00

28.00

Total 43.00

Equity and Liabilities

Equity

Equity Share Capital 45.00

Other Equity

Reserves and Surplus (Accumulated Losses)* (24.80)

Liabilities 20.20

Non-current Liabilities

Financial liabilities

Borrowings 2.80

Current Liabilities 20.00

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 22.80

Total 43.00

*The Tax Loss carried forward of the company is Rs. 27.20 crores On September 5, 2017, the
merger got approved by the Directors. The purchase consideration payable by MicroFly to
Cloudustries was fixed at Rs. 18.00 crores payable in cash and that MicroFly take over all the
assets and liabilities of Cloudustries.

Present the statement showing the calculation of assets/liabilities taken over as per Ind AS.
Also mention the accounting of difference between consideration and assets/liabilities taken
over.

(RTP Nov 18)

Answer 7

Before the merger, Cloudustries and MicroFly are the subsidiary of Smart Technologies Inc. As
the control is not transitory, the proposed merger will fall under the category of Business
combination of entities under common control, it will be accounted as per Appendix C of Ind AS
103 “Business Combination” and Pooling of Interest Method would be applied.

Statement showing the calculation of assets/liabilities taken over and treatment of difference
between consideration and assets/liabilities taken over:

Net asset taken over: (Rs. in crore)

Assets taken over:

Property, Plant and Equipment 15.00

Cash and cash equivalents 10.00

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Other current assets 8.00

Trade Receivables 10.00

Total - A 43.00

Less: Liabilities taken over:

Borrowings 2.80

Current Liabilities 20.00

Total - B 22.80

Net Asset taken over (A-B) 20.20

Treatment of difference between consideration and assets/liabilities taken over: (Rs. in crore)

Net Asset taken over - A 20.20

Less: Purchase Consideration - B 18.00

Difference (A – B) 1.80

The difference between consideration and assets/liabilities taken over of Rs. 1.80 crore shall be
transferred to capital reserve

Question 8

H Ltd. acquired equity shares of S Ltd., a listed company, in two tranches as mentioned in the
below table:

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Date Equity stake purchased Remarks

1st November, 2016 15% The shares were purchased

based on the quoted price on

1st January, 45% the stock exchange on the

relevant dates.
2017

Both the above-mentioned companies have INR as their functional currency. Consequently, H
Ltd. acquired control over S Ltd. on 1st January, 2017. Following is the Balance Sheet of S Ltd.
as on that date:

Particulars Carrying value (Rs. Fair value (Rs. In

In crore) crore)

ASSETS:

Non-current assets

(a) Property, plant and equipment 40.0 90.0

(b) Intangible assets 20.0 30.0

(c) Financial assets 100.0 350.0

- Investments

Current assets

(a) Inventories 20.0 20.0

(b) Financial assets

- Trade receivables 20.0 20.0

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- Cash held in functional currency 4.0 4.5

(c) Other current assets

Non-current asset held for sale 4.0 4.5

TOTAL ASSETS 208

EQUITY AND LIABILITIES:

Equity

Share capital (face value Rs.100) 12.0 50.4

Other equity 141.0 Not applicable

Non-current liabilities

(a) Financial liabilities

- Borrowings 20.0 20.0

Current liabilities

Financial liabilities 28.0 28.0

- Trade payables

Provision for warranties 3.0 3.0

Current tax liabilities 4.0 4.0

TOTAL EQUITY AND LIABILITIES 208.0

Other information:

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Property, plant and equipment in the above Balance Sheet include leasehold motor vehicles
having carrying value of Rs. 1 crore and fair value of Rs. 1.2 crore. The date of inception of the
lease was 1st April, 2010. On the inception of the lease, S Ltd. had correctly classified the
lease as a finance lease. However, if facts and circumstances as on 1st April, 2017 are
considered, the lease would be classified as an operating lease. Following is the statement of
contingent liabilities of S Ltd. as on 1st January, 2017:

Particulars Fair value (Rs. Remarks

in crore)

Law suit filed by a customer for a 0.5 It is not probable that an outflow of
claim of Rs. 2 crore resources embodying economic
benefits will be required to settle
them claim. Any amount which
would be paid in respect of law suit
will be tax deductible.

Income tax demand of Rs. 7 crore 2.0 It is not probable that an outflow of
raised by tax authorities; S Ltd. has resources embodying economic
challenged the demand in the court. benefits will be required to settle
the claim.

In relation to the above-mentioned contingent liabilities, S Ltd. has given an indemnification

undertaking to H Ltd. up to a maximum of Rs. 1 crore.

Rs. 1 crore represents the acquisition date fair value of the indemnification undertaking.

Any amount which would be received in respect of the above undertaking shall not be
taxable. The tax bases of the assets and liabilities of S Ltd. is equal to their respective carrying
values being recognised in its Balance Sheet.

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Carrying value of non-current asset held for sale of Rs. 4 crore represents its fair value less
cost to sell in accordance with the relevant Ind AS. In consideration of the additional stake
purchased by H Ltd. on 1st January, 2017, it has issued to the selling shareholders of S Ltd. 1
equity share of H Ltd. for every 2 shares held in S Ltd. Fair value of equity shares of H Ltd. As
on 1st January, 2017 is Rs. 10,000 per share.

On 1st January, 2017, H Ltd. has paid Rs. 50 crore in cash to the selling shareholders of S Ltd.
Additionally, on 31st March, 2019, H Ltd. will pay Rs. 30 crore to the selling shareholders of S
Ltd. if return on equity of S Ltd. for the year ended 31st March, 2019 is more than 25% per
annum. H Ltd. has estimated the fair value of this obligation as on 1st January, 2017 and 31st
March, 2017 as Rs. 22 crore and Rs. 23 crore respectively. The change in fair value of the
obligation is attributable to the change in facts and circumstances after the acquisition date.

Quoted price of equity shares of S Ltd. as on various dates is as follows:

As on November, 2016 Rs. 350 per share

As on 1st January, 2017 Rs. 395 per share

As on 31st March, 2017 Rs. 420 per share

On 31st May, 2017, H Ltd. learned that certain customer relationships existing as on 1st
January, 2017, which met the recognition criteria of an intangible asset as on that date, were
not considered during the accounting of business combination for the year ended 31st March,
2017. The fair value of such customer relationships as on 1st January, 2017 was Rs. 3.5 crore
(assume that there are no temporary differences associated with customer relations;
consequently, there is no impact of income taxes on customer relations).

On 31st May, 2017 itself, H Ltd. further learned that due to additional customer relationships
being developed during the period 1st January, 2017 to 31st March, 2017, the fair value of
such customer relationships has increased to Rs. 4 crore as on 31st March, 2017.

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On 31st December, 2017, H Ltd. has established that it has obtained all the information
necessary for the accounting of the business combination and that more information is not
obtainable.

H Ltd. and S Ltd. are not related parties and follow Ind AS for financial reporting.= Income tax
rate applicable is 30%.

You are required to provide your detailed responses to the following, along with reasoning
and computation notes:

(a) What should be the goodwill or bargain purchase gain to be recognised by H Ltd. in its
financial statements for the year ended 31st March, 2017. For this purpose, measure non-
controlling interest using proportionate share of the fair value of the identifiable net assets of
S Ltd.

(b) Will the amount of non-controlling interest, goodwill, or bargain purchase gain so
recognised in (a) above change subsequent to 31st March, 2017? If yes, provide relevant
journal entries.

(c) What should be the accounting treatment of the contingent consideration as on 31st
March, 2017?

(MTP Mar ’19, RTP Nov’19)

Answer 8

(i) As an only exception to the principle of classification or designation of assets as they exist at
the acquisition date is that for lease contract and insurance contracts classification which will
be based on the basis of the conditions existing at inception and not on acquisition date.
Therefore, H Ltd. would be required to retain the original lease classification of the lease
arrangements and thereby recognise the lease arrangements as finance lease.

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(ii) The requirements in Ind AS 37 ‘Provisions, Contingent Liabilities and Contingent Assets’, do
not apply in determining which contingent liabilities to recognise as of the acquisition date as
per Ind AS 103 ‘Business Combination’. Instead, the acquirer shall recognise as of the
acquisition date a contingent liability assumed in a business combination if it is a present
obligation that arises from past events and its fair value can be measured reliably. Therefore,
contrary to Ind AS 37, the acquirer recognises a contingent liability assumed in a business
combination at the acquisition date even if it is not probable that an outflow of= resources
embodying economic benefits will be required to settle the obligation.

Hence H Ltd. will recognize contingent liability of Rs. 2.5 cr.

Since S Ltd. has indemnified for Rs. 1 cr., H Ltd. shall recognise an indemnification asset at the
same time for Rs. 1 cr.

As per the information given in the question, this indemnified asset is not taxable. Hence, its
tax base will be equal to its carrying amount. No deferred tax will arise on it.

(iii) As per Ind AS 103, non-current assets held for sale should be measured at fair value less
cost to sell in accordance with Ind AS 105 ‘Non-current Assets Held for Sale and Discontinued
Operations’. Therefore, its carrying value as per balance sheet has been considered in the
calculation of net assets.

(iv) Any equity interest in S Ltd. held by H Ltd. immediately before obtaining control over S Ltd.
is adjusted to acquisition-date fair value. Any resulting gain or loss is recognised in the profit or
loss of H Ltd.

(i) Calculation of purchase consideration as per Ind AS 103 Rs. in lakh

Investment in S Ltd.

On 1st Nov. 2016 15 % [(12/100) 395 15%] 7.11

On 1st Jan. 2017 45 %

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Own equity given 10,000 12% 45% 1/2 270

Cash 50

Contingent consideration 22

349.11

(ii) Calculation of defer tax on assets and liabilities acquired as part of the business
combination, including current tax and goodwill.

Item Rs. in crore

Book value Fair value Tax base Taxable Deferred tax

(deductible) assets
temporary (liability) @
difference 30%

Property, plant and 40 90 40 50 (15)

equipment

Intangible assets 20 30 20 10 (3)

Investments 100 350 100 250 (75)

Inventories 20 20 20 - -

Trade receivables 20 20 20 - -

Cash held in 4 4 4 - -
functional currency

Non-current asset 4 4 4 - -

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held for sale

Indemnified asset - 1 1 - -

Borrowings 20 20 20 - -

Trade payables 28 28 28 - -

Provision for 3 3 3 - -
warranties

Current tax liabilities 4 4 4 - -

Contingent liability 0.5 - (0.5) 0.15

Deferred tax Liability (92.85)

(iii) Calculation of identifiable net assets acquired

Rs. in crore Rs. in crore

Property, plant and equipment 90

Intangible assets 30

Investments 350

Inventories 20

Trade receivables 20

Cash held in functional currency 4

Non-current asset held for sale 4

Indemnified asset 1

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Total asset 519

Less: Borrowings 20

Trade payables 28

Provision for warranties 3

Current tax liabilities 4

Contingent liability (2 + 0.5) 2.50

Deferred tax liability (W.N.2) 92.85 (150.35)

Net identifiable assets 368.65

(a) Calculation of NCI by proportionate share of net assets Net identifiable assets of S Ltd. on
1.1.2017 (Refer W.N.3) = 372.85 crore NCI on 1.1.2017 = 368.65 crore 40% = 147.46 crore

Calculation of Goodwill as per Ind AS 103

Goodwill on 1.1.2017 = Purchase consideration + NCI – Net assets = 349.11 + 147.46 – 368.65 =
127.92 crore

(b) As per para 45 of Ind AS 103 ‘Business Combination’, if the initial accounting for a business
combination is incomplete by the end of the reporting period in which the combination occurs,
the acquirer shall report in its financial statements provisional amounts for the items for which
the accounting is incomplete.

During the measurement period, the acquirer shall retrospectively adjust the provisional
amounts recognised at the acquisition date to reflect new information obtained about facts and
circumstances that existed as of the acquisition date and, if known, would have affected the
measurement of the amounts recognised as of that date.

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During the measurement period, the acquirer shall also recognise additional assets or liabilities
if new information is obtained about facts and circumstances that existed as of the acquisition
date and, if known, would have resulted in the recognition of those assets and liabilities as of
that date.

The measurement period ends as soon as the acquirer receives the information it was seeking
about facts and circumstances that existed as of the acquisition date or learns that more
information is not obtainable. However, the measurement period shall not exceed one year
from the acquisition date.

Further, as per para 46 of Ind AS 103, the measurement period is the period after the
acquisition date during which the acquirer may adjust the provisional amounts recognised for a
business combination. The measurement period provides the acquirer with a reasonable time
to obtain the information necessary to identify and measure the following as of the acquisition
date in accordance with the requirements of this Ind AS:

(a) the identifiable assets acquired, liabilities assumed and any non controlling interest in the
acquiree;

(b) …..

(c) ……; and

(d) the resulting goodwill or gain on a bargain purchase.

Para 48 states that the acquirer recognises an increase (decrease) in the provisional amount
recognised for an identifiable asset (liability) by means of a decrease (increase) in goodwill.

Para 49 states that during the measurement period, the acquirer shall recognise adjustments to
the provisional amounts as if the accounting for the business combination had been completed
at the acquisition date.

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Para 50 states that after the measurement period ends, the acquirer shall revise the accounting
for a business combination only to correct an error in accordance with Ind AS 8 ‘Accounting
Policies, Changes in Accounting

Estimates and Errors’.

On 31st December, 2017, H Ltd. has established that it has obtained all the information
necessary for the accounting of the business combination and the more information is not
obtainable. Therefore, the measurement period for acquisition of S Ltd. ends on 31st December,
2017.

On 31st May, 2017 (ie within the measurement period), H Ltd. learned that certain customer
relationships existing as on 1st January, 2017 which met the recognition criteria of an intangible
asset as on that date were not considered during the accounting of business combination for
the year ended 31st March, 2017. Therefore, H Ltd. shall account for the acquisition date fair
value of customer relations existing on 1st January, 2017 as an identifiable intangible asset. The
corresponding adjustment shall be made in the amount of goodwill.

Accordingly, the amount of goodwill will be changed due to identification of new asset from
retrospective date for changes in fair value of assets and liabilities earlier recognised on
provisional amount (subject to meeting the condition above for measurement period). NCI
changes would impact the consolidated retained earnings (parent’s share). Also NCI will be
increased or decreased based on the profit during the post-acquisition period.

Journal entry

Customer relationship………. Dr. 3.5 crore

To NCI 1.4 crore

To Goodwill 2.1 crore

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However, the increase in the value of customer relations after the acquisition date shall not be
accounted by H Ltd., as the customer relations developed after 1st January, 2017 represents
internally generated intangible assets which are not eligible for recognition on the balance
sheet.

(c) Since the contingent considerations payable by H Ltd is not classified as equity and is within
the scope of Ind AS 109 ‘Financial Instruments’, the changes in the fair value shall be recognised
in profit or loss. Change in Fair value of contingent consideration (23 -22) Rs. 1 crore will be
recognized in the Statement of Profit and Loss.

Question 9

Enterprise Ltd. has 2 divisions Laptops and Mobiles. Division Laptops has been making
constant profits while division Mobiles has been invariably suffering losses.

On 31st March, 20X2, the division-wise draft extract of the Balance Sheet was:

(Rs. In (Rs. In (Rs. In

crores) crores) crores)

Laptops Mobiles Total

Property, Plant and Equipment cost 250 500 750

Depreciation (225) (400) (625)

Net Property, Plant and Equipment (A) 25 100 125

Current assets: 200 500 700

Less: Current liabilities (25) (400) (425)

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(B) 175 100 275

Total (A+B) 200 200 400

Financed by:

Loan funds - 300 300

Capital : Equity Rs. 10 each 25 - 25

Surplus 175 (100) 75

200 200 400

Division Mobiles along with its assets and liabilities was sold for Rs. 25 crores to Turnaround
Ltd. a new company, who allotted 1 crore equity shares of Rs. 10 each at a premium of Rs. 15
per share to the members of Enterprise Ltd. in full settlement of the consideration, in
proportion to their shareholding in the company. One of the members of the Enterprise Ltd.
was holding 52% shareholding of the Company.

Assuming that there are no other transactions, you are asked to:

(i) Pass journal entries in the books of Enterprise Ltd.

(ii) Prepare the Balance Sheet of Enterprise Ltd. after the entries in (i).

(iii) Prepare the Balance Sheet of Turnaround Ltd.

(MTP March ‘21)

Answer 9

Journal of Enterprise Ltd. (Rs. in crores)

Dr. Cr.

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1) Loan Funds Dr. 300

Current Liabilities Dr. 400

Provision for Depreciation Dr. 400

To Property, Plant and Equipment 500

To Current Assets 500

To Capital Reserve 100

(Being division Mobiles along with its assets and liabilities

sold to Turnaround Ltd. for Rs. 25 crores)

Notes :

(1) Any other alternative set of entries, with the same net effect on various accounts, may be
given by the students.

(2) In the given scenario, this demerger will meet the definition of common control transaction.
Accordingly, the transfer of assets and liabilities will be derecognized and recognized as per
book value and the resultant loss or gain will be recorded as capital reserve in the books of
demerged entity (Enterprise Ltd).

Enterprise Ltd.

Balance Sheet after reconstruction (Rs. R in crores)

ASSETS Note No. Amount

Non-current assets

Property, Plant and Equipment 25

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Current assets

Other current assets 200

225

EQUITY AND LIABILITIES

Equity

Equity share capital (of face value of Rs. 10 each) 25

Other equity (Surplus) 175

Liabilities

Current liabilities

Current liabilities 25

225

Notes to Accounts

(Rs. in crores)

1. Other Equity

Surplus (175-100) 75

Add: Capital Reserve on reconstruction 100

175

Notes to Accounts: Consequent on transfer of Division Mobiles to newly incorporated company

Turnaround Ltd., the members of the company have been allotted 1 crore equity shares of Rs.

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10 each at a premium of Rs. 15 per share of Turnaround Ltd., in full settlement of the
consideration in proportion to their shareholding in the company.

Balance Sheet of Turnaround Ltd. (Rs. in crores)

ASSETS Note No. Amount

Non-current assets

Property, Plant and Equipment 100

Current assets

Other current assets 500

600

EQUITY AND LIABILITIES

Equity

Equity share capital (of face value of Rs. 10 each) 1 10

Other equity 2 (110)

Liabilities

Non-current liabilities

Financial liabilities

Borrowings 300

Current liabilities

Current liabilities 400

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 600

Notes to Accounts

(Rs. in crores)

1. Share Capital:

Issued and Paid-up capital

1 crore Equity shares of Rs. 10 each fully paid up 10

(All the above shares have been issued for consideration other than cash, to
the members of Enterprise Ltd. on takeover of Division

Mobiles from Enterprise Ltd.)

2. Other Equity:

Securities Premium 15

Capital reserve [25- (600 – 700)] (125)

(110)

Working Note:

In the given case, since both the entities are under common control, this will be accounted as
follows:

• All assets and liabilities will be recorded at book value

• Identity of reserves to be maintained.

• No goodwill will be recorded.

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• Securities issued will be recorded as per the nominal value.

EXAMINERS’ COMMENTS ON THE PERFORMANCE OF EXAMINEES:

Some of the examinees were not able to give correctly the Notes to Accounts as regard ‘Share
Capital’ and ‘Other Equity’.

Question 10

On 1st April, 20X1, Johansen Ltd. acquired a new subsidiary, Bosman Ltd., purchasing all 150
million shares of Bosman Ltd. The terms of the sale agreement included the exchange of four
shares in Johansen Ltd. for every three shares acquired in Bosman Ltd. On 1 st April, 20X1, the
market value of a share in Johansen Ltd. was Rs 10 and the market value of a share in Bosman
Ltd. Rs 12. The terms of the share purchase included the issue of one additional share in
Johansen Ltd. for every five acquired in Bosman Ltd., if the profits of Bosman Ltd. for the two
years ending 31st March, 20X3 exceeded a target figure. Current estimates are that it is 80%
probable that the management of Bosman Ltd. will achieve this target.

Legal and professional fees associated with the acquisition of Bosman Ltd. shares were Rs
12,00,000, including Rs 2,00,000 relating to the cost of issuing shares. The senior
management of Johansen Ltd. estimates that the cost of their time that can be fairly allocated
to the acquisition is Rs 2,00,000. This figure of Rs 2,00,000 is not included in the legal and
professional fees of Rs 12,00,000 mentioned above.

The individual Balance Sheet of Bosman Ltd. at 1st April, 20X1 comprised net assets that had
a fair value at that date of Rs 1,200 million. Additionally, Johansen Ltd. considered Bosman
Ltd. possessed certain intangible assets that were not recognized in its individual Balance
Sheet:

• Customer relationships – reliable estimate of value Rs 100 million. This value has been
derived from the sale of customer databases in the past.

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• An in-process research and development project that had not been recognised by Bosman
Ltd. since the necessary conditions laid down in Indian Accounting Standards for
capitalisation were only just satisfied at 31st March, 20X2. However, the fair value of the
whole project (including the research phase) is estimated at Rs 50 million.

• Employee expertise – estimated value of Director employees of Bosman Ltd. is Rs 80

million.

• The market value of a share in Johansen Ltd. on 31st March, 20X2 was Rs 11. Compute the
goodwill on consolidation of Bosman Ltd. that will appear in the consolidated Balance Sheet
of Johansen Ltd. at 31st March, 20X2 with necessary explanation of adjustments therein. Also
state the treatment of contingent consideration as on 31 st March, 20X2

(Sep ‘23)

Answer 10

Calculation of purchase consideration:

Particulars Rs in million

Market value of shares issued (150 million 4/3 Rs 10) 2,000

Initial estimate of market value of shares to be issued (150 million 1/5 Rs 300
10)

Total consideration 2,300

Contingent consideration is recognized in full if payment is probable.

As per para 53 of Ind AS 103, acquisition‑related costs are costs the acquirer incurs to effect a
business combination. Those costs include finder’s fees; advisory, legal, accounting, valuation
and other professional or consulting fees; general administrative costs, including the costs of
maintaining an internal acquisitions department; and costs of registering and issuing debt and

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equity securities. The acquirer shall account for acquisition-related costs as expenses in the
periods in which the costs are incurred and the services are received, with one exception. The
costs to issue debt or equity securities shall be recognised in accordance with Ind AS 32 and Ind
AS 109.

Statement of fair value of identifiable net assets at the date of acquisition

Particulars Rs in million

As per Bosman Ltd.’s Balance Sheet 1,200

Fair value of customer relationships 100

Fair value of research and development project 50

Total net assets acquired 1,350

As per Ind AS 38 ‘Intangible assets’, intangible assets can be recognized separately from
goodwill provided they are identifiable, are under the control of the acquiring entity, and their
fair value can be measured reliably. Customer relationships that are similar in nature to those
previously traded, pass these tests but employee expertise fail the ‘control’ test. Both the
research and development phases of in process project can be capitalised provided their fair
value can be measured reliably.

Statement of computation of goodwill

Particulars Rs in million

Fair value of consideration given 2,300

Fair value of net assets acquired (1,350)

Goodwill on acquisition 950

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Paragraph 58 of Ind AS 103 provides guidance on the subsequent accounting for contingent
consideration. In general, an equity instrument is any contract that evidences a residual interest
in the assets of an entity after deducting all of its liabilities. Ind AS 32 describes an equity
instrument as one that meets both of the following conditions:

➢ There is no contractual obligation to deliver cash or another financial asset to another party,
or to exchange financial assets or financial liabilities with another party under potentially
unfavourable conditions (for the issuer of the instrument).

➢ If the instrument will or may be settled in the issuer's own equity instruments, then it is:

• a non-derivative that comprises an obligation for the issuer to deliver a fixed number of its
own equity instruments; or

• a derivative that will be settled only by the issuer exchanging a fixed amount of cash or other
financial assets for a fixed number of its own equity instruments.

In the given case, given that the acquirer has an obligation to issue fixed number of shares on
fulfillment of the contingency, the contingent consideration will be classified as equity as per
the requirements of Ind AS 32.

As per paragraph 58 of Ind AS 103, contingent consideration classified as equity should not be
re-measured and its subsequent settlement should be accounted for within equity.

Question 11

MNC Ltd. is in process of setting up a medicine manufacturing business which is at very initial
stage. For this purpose, MNC Ltd. as part of its business expansion strategy acquired on 1st
April, 2019, 100% shares of Akash Ltd., a company that manufactures pharmacy products. The
purchase consideration for the same was by way of a share exchange valued at Rs. 38 crore.

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The fair value of Akash Ltd.’s assets and liabilities were Rs. 68 crore and Rs. 50 crore
respectively, but the same does not include the following:

(i) A patent owned by Akash Ltd. for an established successful new drug that has a remaining
life of 6 years. A consultant has estimated the value of this patent to be Rs. 8 crore. However,
the outcome of clinical trails for the same are awaited. If the trails are successful, the value of
the drug would fetch the estimated Rs. 12 crore.

(ii) Akash Ltd. has developed and patented another new drug which has been approved for
clinical use. The cost of developing the drug was Rs. 13 crore. Based on early assessment of its
sales success, a reputed valuer has estimated its market value at Rs. 19 crore. However, there
is no active market for the patent.

(iii) Akash Ltd.’s manufacturing facilities have received a favourable inspection by a

government department. As a result of this, the company has been granted an exclusive five-
year license on 1st April, 2018 to manufacture and distribute a new vaccine. Although the
license has no direct cost to the Company, its directors believe that obtaining the license is
valuable asset which assures guaranteed sales and the cost to acquire the license is estimated
at Rs. 7 crore of remaining period of life. It is expected to generate at least equivalent
revenue.

Suggest the accounting treatment of the above transactions with reasoning under applicable
Ind AS in the books of MNC Ltd.

(PYP Nov’19)

Answer 11

As per para 13 of Ind AS 103 ‘Business Combination’, the acquirer's application of the
recognition principle and conditions may result in recognising some assets and liabilities that
the acquiree had not previously recognised as assets and liabilities in its financial statements.
This may be the case when the asset is developed by the entity internally and charged the

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related costs to expense. Based on the above, the company can recognise following Intangible
assets while determining Goodwill / Bargain Purchase for the transaction:

(i) Patent owned by Akash Ltd.: The patent owned will be recognised at fair value by MNC Ltd.
even though it was not recognised by Akash Ltd. in its financial statements. The patent will be
amortised over the remaining useful life of the asset i.e. 6 years. Since the company is awaiting
the outcome of the trials, the value of the patent should be valued at Rs. 8 crore. It cannot be
estimated at Rs. 12 crore and the extra Rs. 4 crore should only be disclosed as a contingent
asset and not recognised.

(ii) Patent internally developed by Akash Ltd.: As per para 18 of Ind AS 103 ‘Business
Combination’, the acquirer shall measure the identifiable assets acquired and the liabilities
assumed at their acquisition date fair values. Since the patent developed has been approved for
clinical use, it is an identifiable asset, hence the same will be measured at fair value ie Rs. 19
crore on the acquisition date.

(iii) Grant of Licence to Akash Ltd. by the Government: As regards to the five-year license,
applying para 18 of Ind AS 103, grant asset will be recognised at fair value on the acquisition
date by MNC Ltd. On acquisition date, the fair value of the license asset is Rs. 7 crore. However,
since the question does not mention about the fair value of the identifiable liability with respect
to grant of license for the acquirer, it is assumed that the fair value of the liability with respect
to grant, for acquirer is nil. Therefore, only, the grant asset (license) would be recognised at Rs.
7 crore in the books of acquirer MNC Ltd.

Hence the revised working would be as follows:

Fair value of net assets of Akash Ltd. (68-50) Rs. 18 crore

Add: Patent (8 + 19) Rs. 27 crore

Add: License Rs. 7 crore

Less: Grant for License (Nil)

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 Rs. 52 crore

Purchase Consideration (Rs. 38 crore)

Capital Reserve Rs. 14 crore

Question 12

Entity A and entity B provide construction services in India. Entity A is owned by a group of
individuals, none of whom has control and does not have a collective control agreement.
Entity B is owned by a single individual, Mr. Ram. The owners of entities A and B have
decided to combine their businesses. The consideration will be settled in shares of entity B.
Entity B issues new shares, amounting to 40% of its issued share capital, to its controlling
shareholder, Mr. Ram. Mr. Ram then transfers the shares to the owners of entity A in
exchange for their interest in entity A. At this point Mr. Ram controls both entities A and B,
owning 100% of entity A and 71.42% of entity B. Mr. Ram had a controlling interest in both
entity A and entity B before and after the contribution. Is the combination of entities A and B
a combination of entities under common control?

(Study material)

Answer 12

No. This is not a business combination of entities under common control. Mr. Ram’s control of
both entities before the business combination was transitory. The substance of the transaction
is that entity B has obtained control of entity A. Entity B accounts for this transaction as a
business combination under Ind AS 103 using acquisition accounting.

Question 13

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ICAI Illustration

Sita Ltd and Beta Ltd decides to combine together for forming a Dual Listed Corporation
(DLC). As per their shareholder’s agreement, both the parties will retain original listing and
Board of DLC will be comprised of 10 members out of which 6 members will be of Sita Ltd and
remaining 4 board members will be of Beta Ltd.

The fair value of Sita Ltd is Rs 100 crores and fair value of Beta Ltd is Rs 80 crores.

The fair value of net identifiable assets of Beta Limited is Rs 70 crores. Assume non-
controlling Interest (NCI) to be measured at fair value.

You are required to determine the goodwill to be recognised on acquisition.

(Study material)

Answer

Sita Ltd has more Board members and thereby have majority control in DLC.

Therefore, Sita Ltd is identified as acquirer and Beta Ltd as acquiree.

Since no consideration has been transferred, the goodwill needs to be calculated as the
difference of Part A and Part B:

Part A:

1) Consideration paid by Acquirer.- Nil

2) Controlling Interest in Acquiree– Rs 80 crores

3) Acquirer’s previously held interest – Nil

Part B:

Fair value of net identifiable asset – Rs 70 crores

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Goodwill is recognised as Rs 10 crores (80 – 70 crores) in business combination achieved
through contract alone when NCI is measured at fair value.

Question 14

ICAI Illustration

ABC Ltd. acquires PQR Ltd. on 30th June, 20X1. The assets acquired from PQR Ltd. include an
intangible asset that comprises wireless spectrum license. For this intangible asset, ABC Ltd. is
required to make an additional one-time payment to the regulator in PQR’s jurisdiction in
order for the rights to be transferred for its use. Whether such additional payment to the
regulator is an acquisition-related cost?

(Study material)

Answer

As per Ind AS 103, the acquisition-related costs incurred by an acquirer to effect a business
combination are not part of the consideration transferred. Paragraph 53 of Ind AS 103 states
that, acquisition-related costs are costs the acquirer incurs to effect a business combination.
Those costs include finder’s fees; advisory, legal, accounting, valuation and other professional
or consulting fees; general administrative costs, including the costs of maintaining an internal
acquisitions department; and costs of registering and issuing debt and equity securities. The
acquirer shall account for acquisition-related costs as expenses in the periods in which the costs
are incurred and the services are received, with one exception. The costs to issue debt or equity
securities shall be recognised in accordance with Ind AS 32 and Ind AS 109.

The payment to the regulator represents a transaction cost and will be regarded as acquisition
related cost incurred to effect the business combination. Applying the requirements of para 53
of Ind AS 103, it should be expensed as it is incurred. Transfer of rights in the instant case
cannot be construed to be separate from the business combination because the transfer of the

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rights to ABC Ltd. is an integral part of the business combination itself. It may be noted that had
the right been acquired separately (i.e. not as part of business combination), the transaction
cost is required to be capitalised as part of the intangible asset as per the requirements of Ind
AS 38, Intangible Assets.

Question 15

ICAI Illustration

ABC Ltd. and XYZ Ltd. are owned by four shareholders B, C, D and E, each of whom holds 25%
of the shares in each company. Shareholders B, C and D have entered into a shareholders'
agreement in terms of governance of ABC Ltd. and XYZ Ltd. due to which they exercise joint
control.

Whether ABC Ltd. and XYZ Ltd. are under common control?

(Study material)

Answer

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Appendix C to Ind AS 103 defines common control business combination as a business
combination involving entities or businesses in which all the combining entities or businesses
are ultimately controlled by the same party or parties both before and after the business
combination, and that control is not transitory.

As per paragraphs 6 and 7 of Appendix C to Ind AS 103, an entity can be controlled by an

individual, or by a group of individuals acting together under a contractual arrangement, and
that individual or group of individuals may not be subject to the financial reporting
requirements of Ind AS. Therefore, it is not necessary for combining entities to be included as
part of the same consolidated financial statements for a business combination to be regarded
as one having entities under common control. Also, a group of individuals are regarded as
controlling an entity when, as a result of contractual arrangements, they collectively have the
power to govern its financial and operating policies so as to obtain benefits from its activities,
and that ultimate collective power is not transitory. In the instant case, both ABC Ltd. and XYZ
Ltd. are jointly controlled by group of individuals (B, C and D) as a result of contractual
arrangement. Therefore, in the current scenario, ABC Ltd. and XYZ Ltd. are considered to be
under common control.

Topic 3 : Non-controlling Interest (NCI) Measurement

Question 16

On 1st April, 20X1, Company A acquired 5% of the equity share capital of Company B for
1,00,000. A accounts for its investment in B at Fair Value through OCI (FVOCI) under Ind AS
109, Financial Instruments: Recognition and Measurement.

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At 31st March, 20X2, A carried its investment in B at fair value and reported an unrealised
gain of Rs 5,000 in other comprehensive income, which was presented as a separate
component of equity. On 1st April, 20X2, A obtains control of B by acquiring the remaining 95
percent of B.

Comment on the treatment to be done based on the facts given in the question.

(Study material)

Answer 16

At the acquisition date A recognises the gain of Rs 5,000 in OCI as the gain or loss is not allowed
to be recycled to income statement as per the requirement of Ind AS 109. A’s investment in B
would be at fair value and therefore does not require remeasurement as a result of the
business combination. The fair value of the 5 percent investment (1,05,000) plus the fair value
of the consideration for the 95 percent newly acquired interest is included in the acquisition
accounting.

Topic 4 : Contingent Consideration

Question 17

Mini Limited is a manufacturing entity in textile industry. Mini Limited decided to reduce the
cost of manufacturing by setting up its own power plant for their captive consumption. As per
market research report, there was non-operational power plant in nearby area. Hence, it
decided to acquire that power plant which was having capacity of 80MW along with all entire
labour force. This Power entity was owned by another entity Max Limited. Mini Limited
approached Max Limited for acquisition of 80MW power plant at following terms:

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(i) Mini Limited will seek an independent valuation for determining fair value of 80MW power
plant.

(ii) Value of other Non-current assets acquired, and Non–current financial liabilities assumed
is Rs 11.10 million and Rs 32 million respectively.

(iii) Consideration agreed between both the parties is at Rs 51 million.

Both the parties agreed to the terms and entered into agreement on 1st April, 20X1 with
immediate effect.

Due to unavoidable circumstances, valuation could not be completed by the time Max
Limited finalizes its financial statements for the year ending 31st March, 20X1. Max Limited’s
annual financial statements records the fair value of 80 MW Power Plant at Rs 46.90 million
with remaining useful life at 40 years. Max Limited also has license to operate that power
plant unrecorded in books. As on 31st March, 20X1, it has fair value of Rs 5 million. Six
months after acquisition date, Mini Limited received the independent valuation, which
estimated the fair value of 80MW Power Plant as Rs 54.90 million.

CFO of Mini Limited, wants you to work upon following aspects of the transaction:

(a) Determine whether transaction should be accounted as asset acquisition or business

combination.

(b) Calculate Goodwill / Bargain Purchase due to the above acquisition.

(c) Pass necessary journal entities in the books of Mini Limited as per Ind AS 103 and prepare
balance sheet as on date of acquisition.

(d) Determine whether any adjustment is required in case of valuation received subsequent
to acquisition. If yes, pass the necessary entries in the books of Mini Limited.

Balance Sheet of Mini Limited as at 31st March, 20X1

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Particulars (Rs in Million)

ASSETS

Non-current assets

Property, plant and equipment 2,158

Capital work-in-progress 12

Deferred Tax Assets (Net) 324

Other non-current assets 25

Total non-current assets 2,519

Current assets

Inventories 368

Financial assets

(i) Investments 45

(ii) Trade Receivables 762

(iii) Cash and Cash Equivalents 110

(iv) Bank balances other than (iii) above 28

(v) Other financial assets 267

Total current assets 1,580

Total assets 4,099

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EQUITY AND LIABILITIES

Equity

Equity Share Capital 295

Other equity

Equity component of compound financial instruments 717

Reserves and surplus 2,481

Total equity 3,493

Liabilities 268

Non-current liabilities

Financial Liabilities

Borrowings

Total non-current liabilities 268

Current liabilities

Financial Liabilities

(i) Trade payables 302

Other current liabilities 36

Total current liabilities 338

Total liabilities 606

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Total equity and liabilities 4,099

(RTP Nov ’23)

Answer 17

(a) Ind AS 103 defines business as an integrated set of activities and assets that is capable of
being conducted and managed for the purpose of providing goods and services to customers,
generating investment income (such as dividends or interest) or generating other income from
ordinary activities. In the given scenario, acquisition of power plant along with its labour force
will be considered as integrated set of activity as it is capable of being generating power. Hence,
transaction will be considered as business combination and not asset acquisition and
acquisition method of accounting will be applied.

Thus, following will be the case:

(i) Acquirer – Mini Ltd;

(ii) Acquiree – Max Ltd;

(iii) Acquisition date – 1st April, 20X1

(b) Calculation of Goodwill:

Particulars Rs in Million

Purchase consideration (A) 51

Fair Value of Power Plant – PPE 46.90

Fair Value of other non-current assets 11.10

Fair Value of Intangible Asset (License) – Refer Note 1 below 5

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Non-Current Liabilities assumed (32)

Value of net assets acquired (B) 31

Goodwill 20

Note 1:

The licence to operate power plant is an intangible asset that meets the contractual-legal
criterion for recognition separately from goodwill though acquirer cannot sell or transfer it
separately from the acquired power plant. Intangible Assets needs to be recorded by the
acquirer at the time of accounting for acquisition though not recorded by the acquiree in its
book.

(c) Journal Entries for acquiring power plant

Rs in Million Rs in Million

Fair Value of Power Plant Dr. 46.90

Fair Value of other assets Dr. 11.10

Fair Value of License acquired Dr. 5

Goodwill Dr. 20

To Liabilities assumed 32

To Bank (PC paid) 51

Balance Sheet of Mini Limited as at 1st April, 20X1

Particulars Notes to Rs in Million

Accounts

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ASSETS

Non-current assets

Property, plant and equipment 1 2,204.90

Intangible Asset (License acquired in business combination) 5.00

Capital work-in-progress 12.00

Goodwill on acquisition 20.00

Deferred Tax Assets (Net) 324.00

Other non-current assets 2 36.10

Total non-current assets 2,602.00

Current assets

Inventories 368.00

Financial assets

(i) Investments 45.00

(ii) Trade Receivables 762.00

(iii) Cash and Cash Equivalents 3 59.00

(iv) Bank balances other than (iii) above 28.00

(v) Other financial assets 267.00

Total current assets 1,529.00

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Total assets 4,131.00

EQUITY AND LIABILITIES

Equity

Equity Share Capital 295.00

Other equity

Equity component of compound financial instruments 717.00

Reserves and surplus 2,481.00

Total equity 3,493.00

Liabilities

Non-current liabilities

Financial Liabilities

Borrowings 4 300.00

Total non-current liabilities 300.00

Current liabilities

Financial Liabilities

(i) Trade payables 302.00

Other current liabilities 36.00

Total current liabilities 338.00

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Total liabilities 638.00

Total equity and liabilities 4,131.00

Notes to Accounts

1. Property, Plant and Equipment

Particulars Rs in Million

PPE value as on 1st April, 20X1 2,158.00

Add: Fair Value of Power Plant acquired 46.90

Total 2,204.90

2. Other Non-current Assets

Particulars Rs in Million

Other non-current assets value as on 1st April, 20X1 25.00

Add: Fair Value of Non-current assets acquired 11.10

Total 36.10

3. Cash and Cash equivalents

Particulars Rs in Million

Cash and Cash equivalents as on 1st April, 20X1 110

Less: Payment of Purchase consideration transferred (51)

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Total 59

4. Non-current Liabilities

Particulars Rs in Million

Non-current Liabilities value as on 1st April, 20X1 268

Add: Non-current liabilities assumed in acquisition 32

Total 300

(d) Subsequent Accounting: Ind AS 103 provides a measurement period window, wherein if all
the required information is not available on the acquisition date, then entity can do price
allocation on provisional basis. During the measurement period, the acquirer shall
retrospectively adjust the provisional amounts recognised at the acquisition date to reflect new
information obtained about facts and circumstances that existed as on the acquisition date and,
if known, would have affected the measurement of the amounts recognised as of that date.
Any change i.e. increase or decrease in the net assets acquired due to new information
available during the measurement period which existed on the acquisition date will be adjusted
against goodwill.

Accordingly, in the financial statements for half year ending 30th September, 20X1, Mini Limited
will retrospectively adjusts the prior year information as follows:

(i) the carrying amount of PPE (including power plant) as of 1st April, 20X1 is increased by Rs 8
million (i.e. Rs 54.90 million minus Rs 46.90 million). The adjustment is measured as the fair
value adjustment at the acquisition date less the additional depreciation that would have been
recognised if the asset’s fair value at the acquisition date had been recognised from that date
[(80,00,000/40) (6/12) = 0.1 million]

(ii) the carrying amount of goodwill as of 1st April, 20X1 is decreased by Rs 8 million; and

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(iii) depreciation expense for the period ending 30th September, 20X1 will increase by Rs 0.1
million

(iv) disclose in its financial statements of 1st April, 20X1, that the initial accounting for the
business combination has not been completed because the valuation of property, plant and
equipment has not yet been received;

(v) disclose in its financial statements of 30th September, 20X1, the amounts and explanation of
the adjustments to the provisional values recognised during the current reporting period.
Therefore, Mini Limited discloses that comparative information is adjusted retrospectively to
increase the fair value of the item of property, plant and equipment at the acquisition date by
Rs 8 million, offset by decrease in goodwill of Rs 8 million.

Journal Entries

(1) PPE (Power Plant) Dr. Rs 8 Million

To Goodwill Rs 8 Million

(2) Depreciation Dr. Rs 0.1 Million

To Provision for Depreciation Rs 0.1 Million

Question 18

On 1 April 20X1, Alpha Ltd. acquires 80 percent of the equity interest of Beta Pvt. Ltd. in
exchange for cash of Rs 300. Due to legal compulsion, Beta Pvt. Ltd. had to dispose of their
investments by a specified date. Therefore, they did not have sufficient time to market Beta
Pvt. Ltd. to multiple potential buyers. The management of Alpha Ltd. initially measures the
separately recognizable identifiable assets acquired and the liabilities assumed as of the

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acquisition date in accordance with the requirement of Ind AS 103. The identifiable assets are
measured at Rs 500 and the liabilities assumed are measured at Rs 100. Alpha Ltd. engages
on independent consultant, who determined that the fair value of 20 per cent non-controlling
interest in Beta Pvt. Ltd. is Rs 84.

Alpha Ltd. reviewed the procedures it used to identify and measure the assets acquired and
liabilities assumed and to measure the fair value of both the non controlling interest in Beta
Pvt. Ltd. and the consideration transferred. After the review, it decided that the procedures
and resulting measures were appropriate.

Calculate the gain or loss on acquisition of Beta Pvt. Ltd. and also show the journal entries for
accounting of its acquisition. Also calculate the value of the non-controlling interest in Beta
Pvt. Ltd. on the basis of proportionate interest method, if alternatively applied?

(RTP May ’18)

Answer 18

The amount of Beta Pvt. Ltd. identifiable net assets [Rs 400, calculated as Rs 500 - Rs 100)
exceeds the fair value of the consideration transferred plus the fair value of the non controlling
interest in Beta Pvt. Ltd. [Rs 384 calculated as 300 + 84]. Alpha Ltd. measures the gain on its
purchase of the 80 per cent interest as follows:

Rs in lakh

Amount of the identifiable net assets acquired (Rs 500 - Rs 100) 400

Less: Fair value of the consideration transferred for Alpha Ltd. 300
80 per cent interest in Beta Pvt. Ltd.

Add: Fair value of non controlling interest in Beta Pvt. Ltd. 84 (384)

Gain on bargain purchase of 80 per cent interest 16

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Journal Entry

Rs in lakhs Rs in lakhs

Identifiable assets acquired Dr. 500

To Cash 300

To Liabilities assumed 100

To OCI/Equity-Gain on the bargain purchase 16

To Equity-non controlling interest in Beta Pvt Ltd. 84

If the acquirer chose to measure the non controlling interest in Beta Pvt. Ltd. on the basis of its
proportionate interest in the identifiable net assets of the acquire, the recognized amount of
the non controlling interest would be Rs 80 (Rs 400 0.20). The gain on the bargain purchase
then would be Rs 20 (Rs 400- (Rs 300 + Rs 80)

Question 19

Veera Limited and Zeera Limited are both in the business of manufacturing and selling of
Lubricant. Veera Limited and Zeera Limited shareholders agree to join forces to benefit from
lower delivery and distribution costs. The business combination is carried out by setting up a
new entity called Meera Limited that issues 100 shares to Veera Limited’s shareholders and
50 shares to Zeera Limited’s shareholders in exchange for the transfer of the shares in those
entities. The number of shares reflects the relative fair values of the entities before the
combination. Also respective company’s shareholders gets the voting rights in Meera Limited
based on their respective shareholding. Determine the acquirer by applying the principles of
Ind AS 103 ‘Business Combinations’.

(RTP Nov’20)

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Answer 19

As per para B15 of Ind AS 103, in a business combination effected primarily by exchanging
equity interests, the acquirer is usually the entity that issues its equity interests. However, in
some business combinations, commonly called ‘reverse acquisitions’, the issuing entity is the
acquiree.

Other pertinent facts and circumstances shall also be considered in identifying the acquirer in a
business combination effected by exchanging equity interests, including:

The relative voting rights in the combined entity after the business combination -

The acquirer is usually the combining entity whose owners as a group retain or receive the
largest portion of the voting rights in the combined entity. Based on above mentioned para,
acquirer shall be either of the combining entities (i.e. Veera Limited or Zeera Limited), whose
owners as a Group retain or receive the largest portion of the voting rights in the combined
entity.

Hence, in the above scenario Veera Limited’s shareholder gets 66.67% share (100 / 150 100)
and Zeera Limited’s shareholder gets 33.33% share in Meera Limited.

Hence, Veera Limited is acquirer as per the principles of Ind AS 103.

Question 20

Entity A acquires entity B. Entity A agrees with the former shareholders of entity B to pay Rs
900, with an additional payment of Rs 500 if the subsequent earnings of entity B reach a
specified target in three years. The former shareholders also become employees. On the
acquisition date, the fair value of the net assets of entity B amount to Rs 850, and the fair
value of additional payment is estimated at Rs 200. At the acquisition date, the outflow of
additional payment is not probable. Over the next three years, the cumulative earnings of

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entity B (before considering the effects of the additional payments) amount to Rs 1,050. At
the end of year three, entity A pays Rs 500 as the conditions were met. State the impact on
the financial position and results of classifying the payments as remuneration and contingent
consideration.

(RTP May ’22)

Answer 20

The impact on the financial position and results of classifying the payments as remuneration
and contingent consideration is tabulated as follows:

Additional Payment is classified as

Remuneration Contingent
consideration

Consideration 900 900

Fair value of additional payment 0 200

Total consideration 900 1,100

Fair value of net assets (850) (850)

Goodwill at acquisition date 50 250

Subsequent changes in additional payment 0 0

Total Goodwill 50 250

Cumulative earnings (before considering 1,050 1,050

additional payment)

Impact of additional payment (500) (300)

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Reported results across three years 550 750

Question 21

ABC Ltd. prepares consolidated financial statements upto 31 st March each year. On 1st July
20X1, ABC Ltd. acquired 75% of the equity shares of JKL Ltd. And gained control of JKL Ltd. the
issued shares of JKL Ltd. is 1,20,00,000 equity shares. Details of the purchase consideration
are as follows:

- On 1st July, 20X1, ABC Ltd. issued two shares for every three shares acquired in JKL Ltd. On
1st July, 20X1, the market value of an equity share in ABC Ltd. Was Rs 6.50 and the market
value of an equity share in JKL Ltd. was Rs 6.

- On 30th June, 20X2, ABC Ltd. will make a cash payment of Rs 71,50,000 to the former
shareholders of JKL Ltd. who sold their shares to ABC Ltd. on 1st July, 20X1. On 1st July, 20X1,
ABC Ltd. would have to pay interest at an annual rate of 10% on borrowings.

- On 30th June, 20X3, ABC Ltd. may make a cash payment of Rs 3,00,00,000 to the former
shareholders of JKL Ltd. who sold their shares to ABC Ltd. on 1st July, 20X1. This payment is
contingent upon the revenues of ABC Ltd. growing by 15% over the two-year period from 1st
July, 20X1 to 30th June, 20X3. On 1st July, 20X1, the fair value of this contingent
consideration was Rs 2,50,00,000. On 31st March, 20X2, the fair value of the contingent
consideration was Rs 2,20,00,000. On 1st July, 20X1, the carrying values of the identifiable net
assets of JKL Ltd. In the books of that company was Rs 6,00,00,000. On 1 st July, 20X1, the fair
values of these net assets was Rs 7,00,00,000. The rate of deferred tax to apply to temporary
differences is 20%.

During the nine months ended on 31st March, 20X2, JKL Ltd. had a poorer than expected
operating performance. Therefore, on 31st March, 20X2 it was necessary for ABC Ltd. to

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recognise an impairment of the goodwill arising on acquisition of JKL Ltd., amounting to 10%
of its total computed value.

(Study material)

Answer 21

Computation of goodwill impairment

NCI at fair NCI at of net

value assets

Rsin ‘000 Rsin ‘000

Cost of investment

Share exchange (12,000 75% 2/3 Rs6.50) 39,000 39,000

Deferred consideration (7,150 / 1.10) 6,500 6,500

Contingent consideration 25,000 25,000

Non-controlling interest at date of acquisition:

Fair value – 3000 Rs6 18,000

% of net assets – 68,000 (Refer W.N.) 25% 17,000

Net assets on the acquisition date (Refer W.N.) (68,000) (68,000)

Goodwill on acquisition 20,500 19,500

Impairment @ 10% 2,050 1,950

Working Note:

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Net assets on the acquisition date Rs ’000

Fair value at acquisition date 70,000

Deferred tax on fair value adjustments [20% (70,000 – 60,000)] (2,000)

68,000

Question 22

ICAI Illustration

Company A, FMCG company acquires an online e-commerce company E, with the intention to
start its retail business. The e-commerce company has over the period have 10 million
registered users. However, the e-commerce company E does not have any intention to sale
the customer list. Should this customer list be recorded as an intangible in a business
combination?

(Study material)

Answer

In this situation the customer database does not give rise to legal or contractual right.
Accordingly, the assessment of its separability will be assessed. The database can be useful to
other players and Company E has the ability to transfer this to them. Accordingly, the intention
not to transfer will not affect the assessment whether to record this as an intangible or not.
Hence customer list should be recorded as an intangible in a business combination.

Topic 5 : Acquisition Date & Measurement Period

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Question 23

ICAI Illustration

Can an acquiring entity account for a business combination based on a signed non-binding
letter of intent where the exchange of consideration and other conditions are expected to be
completed with 2 months?

(Study material)

Answer

No. as per the requirement of the standard a non- binding Letter of Intent (LOI) does not
effectively transfer control and hence this cannot be considered as the basis for determining
the acquisition date

Topic 6 : Combination Under Common Control

Question 24

The Balance Sheet of David Ltd. and Parker Ltd. as of 31st March, 20X1 is given below:

(Rs. in lakh)

Assets David Ltd. Parker Ltd.

Non-current assets:

Property, plant and equipment 400 600

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Investment 300 200

Current assets:

Inventories 300 100

Financial assets

Trade receivables 400 200

Cash and cash equivalents 150 200

Others 300 300

Total 1,850 1,600

Equity and Liabilities

Equity

Share capital - Equity shares of Rs. 100 each for Parker 500 400
Ltd. &Rs. 10each for David Limited

Other Equity 700 275

Non-current liabilities:

Long term borrowings 200 300

Long term provisions 100 80

Deferred tax 20 55

Current liabilities:

Short term borrowings 130 170

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Trade payables 200 320

Total 1,850 1,600

Other Information:

(i) David Ltd. acquired 70% shares of Parker Ltd. on 1st April, 20X1·by issuing its own shares in
the ratio of 1 share of David Ltd. for every 2 shares of Parker Ltd. The fair value of the shares
of David Ltd. was Rs. 50 per share.

(ii) The fair value exercise resulted in the following :

(1) Fair value of property, plant and equipment (PPE) on 1st April, 20X1 was Rs. 450 lakh.

(2) David Ltd. agreed to pay an additional payment as consideration that is higher of Rs. 30
lakh and 25% of any excess profits in the first year after acquisition, over its profits in the
preceding 12 months made by Parker Ltd. This additional amount will be due after 3 years.
Parker Ltd. Has earned Rs. 20 lakh profit in the preceding year and expects to earn another
Rs. 10 lakh.

(3) In addition to above, David Ltd. also has agreed to pay one of the founder shareholder-
Director a payment of Rs. 25 lakh provided he stays with the Company for two years after the
acquisition.

(4) Parker Ltd. had certain equity settled share-based payment award (original award) which
got replaced by the new awards issued by David Ltd. As per the original term, the vesting
period was 4 years and as of the acquisition date the employees of Parker Ltd. have already
served 2 years of service. As per the replaced awards, the vesting period has been reduced to
one year (one year from the acquisition date). The fair value of the award on the acquisition
date was as follows:

Original award - Rs. 6 lakh Replacement award - Rs. 9 lakh

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(5) Parker Ltd. had a lawsuit pending with a customer who had made a claim of Rs. 35 lakh.
Management reliably estimated the fair value of the liability to be Rs. 10 lakhs.

(6) The applicable tax rate for both entities is 40%.

You are required to prepare opening consolidated balance sheet of David Ltd. As on 1st April,
20X1 along with workings. Assume discount rate of 8%.

(MTP April ‘21)

Answer 24

Consolidated Balance Sheet of David Ltd as on 1st April, 20X1 (Rs. in lakh)

Amount

Assets

Non-current assets:

Property, plant and equipment 850.00

Investment 500.00

Current assets:

Inventories 400.00

Financial assets:

Trade receivables 600.00

Cash and cash equivalents 350.00

Others 600.00

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Total 3,300.00

Equity and Liabilities

Equity

Share capital - Equity shares of Rs. 100 each 514.00

Other Equity 1,067.49

Non-Controlling Interest 173.70

Non-current liabilities:

Financial liabilities:

Long term borrowings 500.00

Long term provisions (100+80+23.81) 203.81

Deferred tax 11.00

Current liabilities:

Financial liabilities:

Short term borrowings 300.00

Trade payables 520.00

Provision for law suit damages 10.00

Total 3,300.00

Working Notes:

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a. Fair value adjustment- As per Ind AS 103, the acquirer is required to record the assets and
liabilities at their respective fair value. Accordingly, the PPE will be recorded at Rs. 450 lakh.

b. The value of replacement award is allocated between consideration transferred and post
combination expense. The portion attributable to purchase consideration is determined based
on the fair value of the replacement award for the service rendered till the date of the
acquisition. Accordingly, Rs. 3 lakh (6 2/4) is considered as a part of purchase consideration
and is credited to David Ltd equity as this will be settled in its own equity. The balance of Rs. 3
lakh will be recorded as employee expense in the books of Parker Ltd over the remaining life,
which is 1 year in this scenario.

c. There is a difference between contingent consideration and deferred consideration. In the

given case, Rs. 30 lakh is the minimum payment to be paid after 3 years and accordingly will be
considered as deferred consideration. The other element is if company meet certain target then
they will get 25% of that or Rs. 30 lakh whichever is higher. In the given case, since the criteria
is the minimum what is expected to be paid, the fair value of the contingent consideration has
been considered as zero. The impact of time value on deferred consideration has been given @
8%.

d. The additional consideration of Rs. 25 lakh to be paid to the founder shareholder is

contingent to him/her continuing in employment and hence this will be considered as
employee compensation and will be recorded as post combination expenses in the income
statement of Parker Ltd.

Working Notes:

1. Computation of Purchase Consideration Rs. in lakh

Particulars Amount

Share capital of Parker Ltd. 400

Number of shares 4,00,000

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Shares to be issued 2:1 2,00,000

Fair value per share 50

Purchase consideration (2,00,000 70% Rs. 50 per share) (A) 70.00

Deferred consideration after discounting Rs. 30 lakh for 3 years

@ 8% (B) 23.81

Replacement award - Market based measure of the acquiree award

ie Fair value of original award (6) ratio of the portion of the

vesting period completed (2) / greater of the total vesting period (3)

or the original vesting period (4) of the acquiree award ie (6 2 / 4)

(C) 3.00

Purchase consideration (A+B+C) 96.81

2. Allocation of Purchase consideration

Particulars Book value (A) Fair value (B) FV adjustment

(A-B)

Property, plant and 600 450 (150)

equipment

Investment 200 200 -

Inventories 100 100 -

Financial assets: -

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Trade receivables 200 200 -

Cash and cash equivalents 200 200 -

Others 300 300

Less: Financial Liabilities Long (300) (300) -

term borrowings

Long term provisions (80) (80) -

Deferred tax (55) (55) -

Financial Liabilities Short (170) (170) -

term borrowings

Trade payables (320) (320) -

Contingent liability - (10) (10)

Net assets (X) 675 515 (160)

Deferred tax asset on fair 64 160

value adjustment (160 40%)
(Y)

Net assets (X+Y) 579

Non-controlling interest (NCI) 173.70

(579 30%) rounded off

Capital reserve (Net assets – 308.49

NCI – PC)

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Purchase consideration (PC) 96.81

. Computation of Consolidated amounts of consolidated financial statements

David Ltd. Parker Ltd. PPA Total

(preacquisition) Allocation

Assets 400 600 (150) 850

Non-current assets:

Property, plant and equipment

Investment 300 200 500

Current assets: 300 100 400

Inventories

Financial assets: 400 200 600

Trade receivables

Cash and cash equivalents 150 200 3 50

Others 300 300 6 00

Total 1,850 1,600 (150) 3300

Equity and Liabilities 500 14 514

Equity Share capital- Equity shares

of Rs. 100 each Shares allotted to
Parker Ltd. (2,00,000 70% Rs.
10 per share)

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Other Equity 700 700

Other Equity

Replacement award 3 3

Security premium (2,00,000 shares 56 56

70% Rs. 40)

Capital reserve 308.49 308.49

Non-controlling interest 0 1 73.70 173.70

Non-current liabilities: 200 300 500

Financial Liabilities

Long term borrowings

Long term provisions 100 80 23.81 203.81

Deferred tax 20 55 (64) 11

Current liabilities: 130 170 300

Financial Liabilities

Short term borrowings

Trade payable 200 320 0 520

Liability for lawsuit damages _ 10 10

Total 1,850 925 525 3,300

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Topic 7 : Joint Arrangements (Ind AS 28)

Question 25

ICAI Illustration

Company P Ltd., a manufacturer of textile products, acquires 40,000 equity shares of

Company X (a manufacturer of complementary products) out of 1,00,000 shares in issue. As
part of the same agreement, the Company P purchases an option to acquire an additional
25,000 shares. The option is exercisable at any time in the next 12 months. The exercise price
includes a small premium to the market price at the transaction date. After the above
transaction, the shareholdings of Company P’s two other original shareholders are 35,000 and
25,000. Each of these shareholders also has currently exercisable options to acquire 2,000
additional shares. Assess whether control is acquired by Company P.

(Study material)

Answer

In assessing whether it has obtained control over Company X, Company P should consider not
only the 40,000 shares it owns but also its option to acquire another 25,000 shares (a so-called
potential voting right). In this assessment, the specific terms and conditions of the option
agreement and other factors are considered as follows:

• the options are currently exercisable and there are no other required conditions before such
options can be exercised

• if exercised, these options would increase Company P’s ownership to a controlling interest of
over 50% before considering other shareholders’ potential voting rights (65,000 shares out of a
total of 1,25,000 shares)

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• although other shareholders also have potential voting rights, if all options are exercised
Company P will still own a majority (65,000 shares out of 1,29,000 shares)

• the premium included in the exercise price makes the options out-of-the-money. However,
the fact that the premium is small and the options could confer majority ownership indicates
that the potential voting rights have economic substance. By considering all the above factors,
Company P concludes that with the acquisition of the 40,000 shares together with the potential
voting rights, it has obtained control of Company X.

Topic 8 : Intangible Assets in Business Combination

Question 26

ICAI Illustration

Vadapav Ltd. is a successful company has number of own stores across India and also offers
franchisee to other companies. Efficient Ltd. is one of the franchisee of Vadapav Ltd. and is
and operates number of store in south India. Vadapav Ltd. decided to acquire Efficient Ltd
due to its huge distribution network and accordingly purchased the outstanding shares on 1st
April, 20X2. On the acquisition date, Vadapav Ltd. determines that the license agreement
reflects current market terms.

(Study material)

Answer

Vadapav will record the franchisee right as an intangible asset (reacquired right) while doing
purchase price allocation and since it is at market terms no gain or loss will be recorded on
settlement.

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 Chapter 13 Unit-3

“Consolidated Financial Statements”

Topic 1: Consolidated Financial Statements & Control (Ind AS 101, 110)

Question 1

Preet Pvt. Ltd. has a number of wholly-owned subsidiaries including Stuti Pvt. Ltd. at 31st
March, 2018. Preet Pvt. Ltd.’s consolidated balance sheet and the carrying amount of assets
and liabilities of Stuti Pvt. Ltd., included in the respective amount of respective grouped
assets and liabilities of the consolidated balance sheet as at 31st March, 2018 are as follows:

Particulars Consolidated (Rs in Group carrying amount of S

millions) Pvt. Ltd. asset and liabilities
Ltd. (Rs in millions)

Assets

Non-Current Assets

Goodwill 380 180

Buildings 3,240 1,340

Current Assets

Inventories 140 40

Trade Receivables 1,700 900

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Cash 3,100 1000

Total Assets 8,560 3,460

Equities & Liabilities

Equity

Share Capital 1600

Other Equity

Retained Earnings 4,260

Current liabilities

Trade Payables 2,700 900

Total Equity & Liabilities 8,560 900

Prepare Consolidated Balance Sheet after disposal as on 31st March, 2018 when Preet Pvt.
Ltd. group sold 100% shares of Stuti Pvt. Ltd. to independent party for Rs. 3,000 millions.

(MTP Aug ’18)

Answer 1

When 100% shares sold to independent party Consolidated Balance Sheet of Preet Pvt. Ltd.
and its remaining subsidiaries as on 31st March, 2018.

Particulars Note No. (Rs. in million)

Assets

(1) Non-current assets

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Property Plant & Equipment 1 1,900

Goodwill 2 200

(2) Current Assets

(i) Inventories 3 100

(ii) Financial Assets

(a) Trade Receivables 4 800

(b) Cash & Cash equivalents 5 5,100

Total Assets 8,100

II. Equity and Liabilities

(1) Equity

(i) Equity Share Capital 6 1,600

(ii) Other Equity 7 4,700

(2) Current Liabilities

(i) Financial Liabilities

(a) Trade Payables 8 1,800

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Total Equity & Liabilities 8,100

Notes to Financial Statements:

(Rs. in million)

1. Property Plant & Equipment

Land & Building

Group 3,240

Less: Stuti Pvt. Ltd. (1,340) 1,900

2. Intangible Assets

Goodwill

Group 380

Less: Stuti Pvt. Ltd. (180) 200

3 Inventories

Group 140

Less: Stuti Pvt. Ltd. (40) 100

4. Trade Receivables

Group 1,700

Less: Stuti Pvt. Ltd. (900) 800

5. Cash & cash equivalents

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 Group (WN 2) 5,100 5,100

8. Trade Payables

Group 2,700

Less: Stuti Pvt. Ltd. 900 1,800

Statement of Changes in Equity:

1. Equity Share Capital

Balance at the beginning of the Changes in Equity share Balance at the end of the
reporting period capital during the year reporting period

1600 0 1600

2. Other Equity

Share Equity Reserves & Surplus Total

applicat component
ion money

Capital Retained Securities

reserve Earnings Premium

Balance at the 4,260 4,260

beginning

Total 0
comprehensive
income for the
year

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Dividend 0

Total 0
comprehensive
income
attributable to the
parent

Gain on disposal of 440 440

Stuti Pvt. Ltd.

Balance at the end 0 4,700 4,700

of the reporting
period

Working Notes:

1. When sold, the carrying amount of all assets and liabilities attributable to Stuti Pvt. Ltd. were
eliminated from the consolidated statement of financial position.

2. Cash in hand (in million)

(In million)

Cash before disposal of Stuti Pvt. Ltd. 3,100

Less: Stuti Pvt. Ltd. Cash (1,000)

Add: Cash realized from disposal 3,000

Cash in hand 5,100

3. Gain / Loss on disposal of entity (in million)

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Proceeds from disposal 3,000

Less: Net assets of Stuti Pvt. Ltd. (2,560)

Gain on disposal 440

4. Retained Earnings (in million)

Retained earnings before disposal 4,260

Add: Gain on disposal 440

Retained earnings after disposal 4,700

Question 2

Huge Ltd. has a controlling interest in Subsidiaries P, Q and R and has significant influence
over Associates A and B. Subsidiary R has significant influence over Associate C. Determine
the related party relationship, as per Ind AS 24, of the entities referred in the question in the
following financial statements:

(i) In consolidated financial statements of Huge Ltd.

(ii) In individual financial statements of Huge Ltd.

(iii) In individual financial statements of Subsidiary P

(iv) In individual financial statements of Subsidiary Q

(v) In individual financial statements of Subsidiary R

(vi) In individual financial statements of Associates A, B and C

(MTP April ‘18)

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Answer 2

As per para 9 (b) (i) and (ii) of Ind AS 24,

“An entity is related to a reporting entity if any of the following conditions applies:

(i) The entity and the reporting entity are members of the same group (which means that each
parent, subsidiary and fellow subsidiary is related to the others).

(ii) One entity is an associate or joint venture of the other entity (or an associate or joint
venture of a member of a group of which the other entity is a member).”

Accordingly,

(i) For Huge Ltd.’s consolidated financial statements- Associates A, B and C are related to the
Group.

(ii) For Huge Ltd.’s separate financial statements- Subsidiaries P, Q and C and Associates A, B
and C are related parties.

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(iii) For Subsidiary P’s financial statements- Parent, Subsidiaries Q and R and Associates A, B
and C are related parties.

(iv) For Subsidiary Q’s separate financial statements- Parent, Subsidiaries P and R and
Associates A, B and C are related parties.

(v) For Subsidiary R’s financial statements- Parent, Subsidiaries P and Q and Associates A, B
and C are related parties.

(vi) For the financial statements of Associates A, B and C- Parent and Subsidiaries

Question 3

A parent purchased an 80% interest in a subsidiary for Rs. 1,60,000 0n 1 ApriI 20X1 when the
fair value of the subsidiary’s net assets was Rs. 1,75,000. Goodwill of Rs. 20,000 arose on
consolidation under the partial goodwill method. An impairment of goodwill of Rs. 8,000 was
charged in the consolidated financial statements to 31 March 20X3. No other impairment
charges have been recorded. The parent sold its investment in the subsidiary on 31 March
20X4 for Rs. 2,00,000. The book value of the subsidiary’s net assets in the consolidated
financial statement on the date of the sale was Rs. 2,25,00d (not including goodwill of Rs.
12,000). When the subsidiary met the criteria to be classified as held for sale under Ind AS
105, no write down was required because the expected fair clue less cost to sell (of 100% of
the subsidiary) was greater than the carrying value. The parent carried the investment in the
subsidiary at cost, as permitted by Ind AS 27.

Calculate gain or loss on disposal of subsidiary in parents separate and consolidated financial
statement as on 31st March 20X4.

(MTP April 19)

Answer 3

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The parent’s separate statement of profit and loss for 20X3-20X4 would show a gain on the sale
of investment of Rs. 40,000 calculated as follow:

Rs. 000

Sale proceeds 200

[Link] Cost of investment in subsidiary (160)

Gain on sale in parentRss account 40

However, the groupRss statement of profit & loss for 20X3-20X4 would show a gain on the sale
of subsidiary of Rs. 8,000 calculated as follows:

Rs. 000

Sale proceeds 200

Less: share of net assets at date of disposal (Rs. 2,25,000 80%) (180)

Goodwill on consolidation at date of sale (W.N 1) (12)

(192)

Gain on sale in the groupRss account 8

Working Note

The goodwill on consolidation (assuming partial goodwill method) is

calculated as follows: Rs.000

Fair value of consideration at the date of acquisition 160

Non- controlling interest measured at proportionate share of the acquireeRss identifiable net
assets (1,75,000 20%) 35

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[Link] fair value of net assets of subsidiary at date of acquisition (175) (140)

Goodwill arising on consolidation 20

Impairment at 31 March 20X3 (8)

Goodwill at 31 March 20X4 12

Question 4

Angel Ltd. has adopted Ind AS with a transition date of 1st April, 2017. Prior to Ind AS
adoption, it followed Accounting Standards notified under Companies (Accounting Standards)
Rules, 2006 (hereinafter referred to as "IGAAP"). It has made investments in equity shares of
Pharma Ltd., a listed company engaged in the business of pharmaceuticals. The shareholding
pattern of Pharma Ltd. Is given below:

Shareholders (refer Note 1) Percentage shareholding as on

1st April, 2017

Angel Ltd. 21%

Little Angel Ltd. (refer Note 2) 24%

Wealth Master Mutual Fund (refer Note 3) 3%

Individual public shareholders (refer Note 4) 52%

(1) None of the shareholders have entered into any shareholdersRs

(2) Little Angel Ltd. is a subsidiary of Angel Ltd. (under Ind AS) in which Angel Ltd. holds 51%
voting power.

(3) Wealth Master Mutual Fund is not related party of either Little Angel Ltd. or Pharma Ltd.

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(4) Individual public shareholders represent 17,455 individuals. None of the individual
shareholders hold more than 1% of voting power in Pharma Ltd.

All commercial decisions of Pharma Ltd. are taken by its directors who are appointed by a
simple majority vote of the shareholders in the annual general meetings ("AGM ”). The
following table shows the voting pattern of past AGMs of Pharma Ltd.:

Shareholders AGM for the financial year:

2013-14 2014-15 2015-16

Angel Ltd. Attended and voted in Attended and voted in Attended and voted in
favour of all the favour of all the favour of all the
resolutions resolutions resolutions

Little Angel Ltd. Attended and voted as Attended and voted as Attended and voted as
per directions of Angel per directions of Angel per directions of Angel
Ltd. Ltd Ltd

Wealth Master Attended and voted in Attended and voted in Attended and voted in
Mutual Fund favour of all the favour of all the favour of all the
resolutions except for resolutions except for resolutions except for
the reappointment of the reappointment of the reappointment of
the retiring directors the retiring directors the retiring directors

Individuals 7% of the individual 8% of the individual 6% of the individual

shareholders attended shareholders attended shareholders attended
the AGM. All the the AGM. All the the AGM. All the
individual shareholders individual shareholders individual shareholders
voted in favour of all voted in favour of all voted in favour of all the
the resolutions, except the resolutions, except resolutions, except that
that 50% of the that 50% of the 50% of the individual

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 individual Shareholders individual Shareholders Shareholders voted
voted against the voted against the against the resolution
resolution to appoint Resolution to appoint to appoint the retiring
the retiring directors. the retiring directors. directors

Pharma Ltd. has obtained substantial long term borrowings from a bank. The loan is payable
in 20 years from 1st April, 2017. As per the terms of the borrowing, following actions by
Pharma Ltd. will require prior approval of the bank:

• Payment of dividends to the shareholders in cash or kind;

• Buyback of its own equity shares;

• Issue of bonus equity shares;

• Amalgamation of Pharma Ltd. with any other entity; and

• Obtaining additional loans from any entity.

• Recently, the Board of Directors of Pharma Ltd. proposed a dividend of Rs. 5 per share.
However, when the CFO of Pharma Ltd. approached the bank for obtaining their approval,
the bank rejected the proposal citing concerns over the short-term cash liquidity of Pharma
Ltd. Having learned about the developments, the Directors of Angel Ltd. along with the
Directors of Little Angel Ltd. approached t he bank with a request to re-consider its decision.

The Directors of Angel Ltd. and Little Angel Ltd. urged the bank to approve a reduced
dividend of at least Rs. 2 per share. However, the bank categorically refused to approve any
payout of dividend.

• Under IGAAP, Angel Ltd. has classified Pharma Ltd. as its associate. As the CFO of Angel Ltd.,
you are required to comment on the correct classification of Pharma Ltd. on transition to Ind
AS.

(RTP May 19)

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Answer 4

To determine whether Pharma Limited can be continued to be classified as an associate on

transition to lnd AS, we will have to determine whether Angel Limited controls Pharma Limited
as defined under Ind AS 110.

An investor controls an investee if and only if the investor has all the following:

(a) Power over investee

(b) Exposure, or rights, to variable returns from its involvement with the investee

(c) Ability to use power over the investee to affect the amount of the investorRss returns.

Since Angel Ltd. does not have majority voting rights in Pharma Ltd. we will have to determine
whether the existing voting rights of Angel Ltd. are sufficient to provide it power over Pharma
Ltd.

Analysis of each of the three elements of the definition of control:

Elements / conditions Analysis

Power over investee Angel Limited along with its subsidiary Little Angel

Limited (hereinafter referred to as "the Angel group")

does not have majority voting rights in Pharma Limited.
Therefore, in order to determine whether Angel group
have power over Pharma Limited. we will need to
analyse whether Angel group, by virtue of its non-
majority voting power, have practical ability to
unilaterally direct the relevant activities of Pharma
Limited. In other words, we will need to analyse
whether Angel group has de facto power over Pharma

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 Limited. Following is the analysis of de facto power of
Angel over Pharma Limited: The public shareholding of
Pharma Limited (that is, 52% represents thousands of
shareholders none individually holding material
shareholding, The actual participation of Individual
public shareholders in the general meetings is minimal
(that is, in the range of 6% to 8%). Even the public
shareholders who attend the meeting do not consult
with each other to vote. Therefore, as per guidance of
Ind AS 110, the public shareholders will not be able to
outvote Angel group (who is the largest shareholder
group) in any general meeting. Based on the above-
mentioned analysis, we can conclude that Angel group
has de facto power over Pharma Limited.

Exposure, or rights, to variable Angel group has exposure to variable returns from its
returns from its involvement with involvement with Pharma Limited by virtue of its equity
the investee stake.

Ability to use power over the nature as they do not relate to the relevant activities
investee to affect the amount of (that is, activities that significantly affect he Pharma
the investorRss returns LimitedRss returns) of Pharma Limited. As per lnd AS
110, protective rights are the rights designed to protect
the interest of the party holding those rights without
giving that party power over the entity to which those
rights relate. Therefore, the protective rights held by
the bank should not be considered while evaluating
whether or not Angel Group has control over Pharma
Limited.

[Link]
Conclusion: Since all the three elements of definition of control is present, it can be
concluded that Angel Limited has control over Pharma Limited.

Since it has been established that Angel Limited has control over Pharma Limited, upon
transition to lnd AS, Angel Limited shall classify Pharma Limited as its subsidiary.

Question 5

ICAI Illustration

A Ltd. and B Ltd. have formed a new entity AB Ltd. for constructing and selling a scheme of
residential units consisting of 100 units. Construction of the residential units will be done by
A Ltd. and it will take all the necessary decision related to the construction activity. B Ltd. will
do the marketing and selling related activities for the units and it will take all the necessary
decisions related to marketing and selling. Based on above, who has the power over AB Ltd.?

(Study material)

Answer

In this case, both the investors A Ltd. and B Ltd. have the rights to unilaterally direct different
relevant activities of AB Ltd. Here, investors shall determine which activities can most
significantly affect the returns of the investee and the investor having the ability to direct those
activities would be considered to have power over the investee. Hence, if the investors
conclude that the construction related activities would most significantly affect the returns of
AB Ltd. then A Ltd. would be said to have power over AB Ltd. On the other hand, if it is
concluded that marketing and selling related activities would most significantly affect the
returns of AB Ltd. then B Ltd. would be said to have power over AB Ltd.

[Link]
Question 6

ICAI Illustration

A decision maker establishes, markets and manages a fund that provides investment
opportunities to a number of investors. The decision maker (fund manager) must make
decisions in the best interests of all investors and in accordance with the fundRss governing
agreements. Nonetheless, the fund manager has wide decision-making discretion. The fund
manager receives a market- based fee for its services equal to 1% of assets under
management and 20% of all the fundRss profits if a specified profit level is achieved. The fees
are commensurate with the services provided.

Although it must make decisions in the best interests of all investors, the fund manager has
extensive decision-making authority to direct the relevant activities of the fund. The fund
manager is paid fixed and performance-related fees that are commensurate with the services
provided. In addition, the remuneration aligns the interests of the fund manager with those
of the other investors to increase the value of the fund, without creating exposure to
variability of returns from the activities of the fund that is of such significance that the
remuneration, when considered in isolation, indicates that the fund manager is a principal.

The above fact pattern and analysis applies to various scenarios described below. Each
scenario is considered in isolation. Determine whether the fund manager control the fund?

Scenario A

The fund manager also has a 2% investment in the fund that aligns its interests with those of
the other investors. The fund manager does not have any obligation to fund losses beyond its
2% investment. The investors can remove the fund manager by a simple majority vote, but
only for breach of contract.

Scenario B

[Link]
The fund manager has a more substantial pro rata investment in the fund but does not have
any obligation to fund losses beyond that investment. The investors can remove the fund
manager by a simple majority vote, but only for breach of contract.

Scenario C

The fund manager has a 20% pro rata investment in the fund but does not have any
obligation to fund losses beyond its 20% investment. The fund has a board of directors, all of
whose members are independent of the fund manager and are appointed by the other
investors. The board appoints the fund manager annually. If the board decided not to renew
the fund managerRss contract, the services performed by the fund manager could be
performed by other managers in the industry.

(Study material)

Answer

Scenario A

The fund managerRss 2% investment increases its exposure to variability of returns from the
activities of the fund without creating exposure that is of such significance that it indicates that
the fund manager is a principal. The other investorsRs rights to remove the fund manager are
considered to be protective rights because they are exercisable only for breach of contract. In
this example, although the fund manager has extensive decision-making authority and is
exposed to variability of returns from its interest and remuneration, the fund managerRss
exposure indicates that the fund manager is an agent. Thus, the fund manager concludes that it
does not control the fund.

Scenario B

In this scenario, the other investorsRs rights to remove the fund manager are considered to be
protective rights because they are exercisable only for breach of contract. Although the fund
manager is paid fixed and performance-related fees that are commensurate with the services

[Link]
provided, the combination of the fund managerRss investment together with its remuneration
could create exposure to variability of returns from the activities of the fund that is of such
significance that it indicates that the fund manager is a principal. The greater the magnitude of,
and variability associated with, the fund managerRss economic interests (considering its
remuneration and other interests in aggregate), the more emphasis the fund manager would
place on those economic interests in the analysis, and the more likely the fund manager is a
principal.

For example, having considered its remuneration and the other factors, the fund manager
might consider a 20% investment to be sufficient to conclude that it controls the fund.
However, in different circumstances (i.e. if the remuneration or other factors are different),
control may arise when the level of investment is different.

Scenario C

Although the fund manager is paid fixed and performance-related fees that are commensurate
with the services provided, the combination of the fund managerRss 20% investment together
with its remuneration creates exposure to variability of returns from the activities of the fund
that is of such significance that it indicates that the fund manager is a principal. However, the
investors have substantive rights to remove the fund manager—the board of directors provides
a mechanism to ensure that the investors can remove the fund manager if they decide to do so.
In this scenario, the fund manager places greater emphasis on the substantive removal rights in
the analysis. Thus, although the fund manager has extensive decision making authority and is
exposed to variability of returns of the fund from its remuneration and investment, the
substantive rights held by the other investors indicate that the fund manager is an agent. Thus,
the fund manager concludes that it does not control the fund.

Question 7

ICAI Illustration

[Link]
An investee is created to purchase a portfolio of fixed rate asset-backed securities, funded by
fixed rate debt instruments and equity instruments. The equity instruments are designed to
provide first loss protection to the debt investors and receive any residual returns of the
investee. The transaction was marketed to potential debt investors as an investment in a
portfolio of asset- backed securities with exposure to the credit risk associated with the
possible default of the issuers of the asset-backed securities in the portfolio and to the
interest rate risk associated with the management of the portfolio.

On formation, the equity instruments represent 10% of the value of the assets purchased. A
decision maker (the asset manager) manages the active asset portfolio by making investment
decisions within the parameters set out in the investeeRss prospectus. For those services, the
asset manager receives a market based fixed fee (i.e. 1% of assets under management) and
performance-related fees (i.e. 10% of profits) if the investeeRss profits exceed a specified
level. The fees are commensurate with the services provided. The asset manager holds 35%
of the equity in the investee. The remaining 65% of the equity, and all the debt instruments,
are held by a large number of widely dispersed unrelated third-party investors. The asset
manager can be removed, without cause, by a simple majority decision of the other investors.
Does the asset manager control the investee?

(Study material)

Answer

The asset manager is paid fixed and performance-related fees that are commensurate with the
services provided. The remuneration aligns the interests of the fund manager with those of the
other investors to increase the value of the fund. The asset manager has exposure to variability
of returns from the activities of the fund because it holds 35% of the equity and from its
remuneration. Although operating within the parameters set out in the investeeRss prospectus,
the asset manager has the current ability to make investment decisions that significantly affect
the investeeRss returns - the removal rights held by the other investors receive little weighting
in the analysis because those rights are held by a large number of widely dispersed investors. In

[Link]
this example, the asset manager places greater emphasis on its exposure to variability of
returns of the fund from its equity interest, which is subordinate to the debt instruments.
Holding 35% of the equity creates subordinated exposure to losses and rights to returns of the
investee, which are of such significance that it indicates that the asset manager is a principal.
Thus, the asset manager concludes that it controls the investee.

Question 8

ICAI Illustration

An asset manager has set up and investment fund for the purpose of acquiring capital
contributions from various investors (by issuing them units in the fund) and investing those
contributions in the equity share capital of various entities for the purpose of earning capital
appreciation on those investments. Following is the existing structure of the fund.

Apart from the investments in various entities, the investment fund also provides its investee
the strategic advisory services so that it can result in increase in the capital appreciation from
investments in those investees. It also provides its investees financial support in the form of
loan to provide them with funds for acquiring capital assets. The investment fund does not
hold such investments for a period longer than 5 years. The investment fund measures and

[Link]
evaluate the performance of the investments on fair value basis. Whether the investment
fund can be treated as an investment entity?

(Study material)

Answer

Out of the three elements of the definition of an investment entity, the investment fund fulfils
the two elements very clearly i.e. it obtains fund from more than one investor for providing
investment management services and measures and evaluates its investments on fair value
basis.

The typical characteristics of an investment entity are also present in the structure of the
investment fund i.e. more than one investment, more than one investor, investors are
unrelated and investment fund issues units in the fund to the investors. With respect to the
business objective of the investment fund, the objective is to earn capital appreciation from its
investments. The strategic advisory services and financial support provided to investees are
extended with the intention of earning higher capital appreciation from the investees.

However, judgement should to be applied that these do not represent substantial business
activity or a separate substantial source of income for the investment fund. If the investment
fund concludes that these services and financial support to investees are not substantial
business activity and substantial source of income for the investment fund, then only the
investment fund can be treated as an investment entity.

Topic 2: Joint Arrangements & Joint Operations (Ind AS 111)

Question 9

[Link]
A company, AB Ltd. holds investments in subsidiaries and associates. In its separate financial
statements, AB Ltd. wants to elect to account its investments in subsidiaries at cost and the
investments in associates as financial assets at fair value through profit or loss (FVTPL) in
accordance with Ind AS 109, Financial Instruments. Whether AB Limited can carry
investments in subsidiaries at cost and investments in associates in accordance with Ind AS
109 in its separate financial statements

(RTP NovRs20)

Answer 9

Paragraph 10 of Ind AS 27, Separate Financial Statements inter-alia provides that, when an
entity prepares separate financial statements, it shall account for investments in subsidiaries,
joint ventures and associates either at cost, or in accordance with Ind AS 109, Financial
Instruments in its separate financial statements. Further, the entity shall apply the same
accounting for each category of investments.

It may be noted that although the RscategoryRs is used in number of Standards, it is not
defined in any of the Ind AS. It seems that subsidiaries, associates and joint ventures would
qualify as separate categories. Thus, the same accounting policies are applied for each category
of investments - i.e. each of subsidiaries, associates and joint ventures. However, paragraph 10
of Ind AS 27 should not be read to mean that, in all circumstances, all investments in associates
are one RscategoryRs of investment and all investments in joint ventures or an associate are
one RscategoryRs of investment. These categories can be further divided into sub-categories
provided the sub-category can be defined clearly and objectively and results in information that
is relevant and reliable.

For example, an investment entity parent can have investment entity subsidiary (at fair value
through profit or loss) and non-investment entity subsidiary (whose main purpose is to provide
services that relate to the investment entityRss investment activities) as separate categories in
its separate financial statements. In the present case, investment in subsidiaries and associates
are considered to be different categories of investments.

[Link]
Further, Ind AS 27 requires to account for the investment in subsidiaries, joint ventures and
associates either at cost, or in accordance with Ind AS 109 for each category of Investment.
Thus, AB Limited can carry its investments in subsidiaries at cost and its investments in
associates as financial assets in accordance with Ind AS 109 in its separate financial statements.

Question 10

On 1st April 2019, Big Limited acquired a 35% interest in Dig Limited and achieved a
significant influence. The cost of the investment was Rs 3,00,000. Dig Limited has net assets
of Rs 5,50,000 as on 1st April 2019. The fair value of those net assets is Rs 6,50,000, since the
fair value of property, plant and equipment is Rs 1,00,000 higher than its book value. This
property, plant and equipment have a remaining useful life of 8 years. For the financial year
2019-2020, Dig Limited earned a profit (after tax) of Rs 1,00,000 and paid a dividend of Rs
11,000 out of these profits. Dig Ltd. has also recognized the loss of Rs 15,000, that arose from
remeasurement of defined benefit directly in RsOther Comprehensive IncomeRs.

Calculate Big [Link] interest in Dig Ltd. as at the year ended 31 st March 2020 under the
relevant method.

( PYP JanRs21)

Answer 10

Calculation of Big [Link] interest in Dig Ltd at the year ended 31st March, 2020 as per Equity
method:

Amount (Rs)

Cost of investment (35%) 3,00,000

Share in profit asfter adjustment (Refer Working Note) 30,625

[Link]
Dividend received by Big Ltd from Dig Ltd (35% Rs 11,000) (3,850)

Big [Link] share of loss in OCI w.r.t Dig [Link] loss from

remeasurement of defined benefit liability (35% Rs 15,000) (5,250)

Big [Link] interest in Dig Ltd at the end of the year 3,21,525

Working Note: Computation of Share in profit after adjustment

Amount (Rs)

Big [Link] share of Dig [Link] after tax profit (35% Rs1,00,000) 35,000

Less: Big [Link] share of depreciation based on fair value

(35% Rs 12,500) (4,375)

Share in profit after adjustment 30,625

Question 11

ICAI Illustration

ABC Ltd. Is established with primary objective of investing in the equity shares of various
entities across various industries based on the detailed research about each industry and
entities within that industry being done by the investment manager of the company.

The investment manager decides the timing as to when the investments should be made
considering the current market situation. Sometimes, the investment manager decides to
invest the idle funds into short-term to medium-term debt instruments with fixed maturity.
The exit strategies are in place for the investments done in equity shares but the same is not
there for investments done in debt instruments.

[Link]
Determine whether the entity fulfils the exit strategy condition of being classified as
investment entity?

(Study material)

Answer

The exit strategies are in place for investments done in equity shares. But not in place for
investments done in debt instruments. However, it should be noted that the debt instruments
have fixed maturity period and they cannot be held for indefinite period. Hence, there is no
need for having exit strategies for such instruments. Accordingly, the exit strategy condition is
fulfilled for being classified as investment entity.

Topic 3: Investment Entities & Exemption from Consolidation (Ind AS 110)

Question 12

ICAI Illustration

Scenario A:

Following is the structure of a group headed by Company X:

[Link]
Company X is a listed entity in India and prepares consolidated financial statements as per
the requirements of Ind AS. Company A is an unlisted entity and it is not in the process of
listing any of its instruments in public market. Company X does not object to Company A not
preparing consolidated financial statements. Whether Company A is required to prepare
consolidated financial statements as per the requirements of Ind AS 110?

Scenario B:

Assume the same facts as per Scenario A except, Company X is a foreign entity and is listed in
stock exchange of a foreign country and it prepares its financial statements as per the
generally accepted accounting principles (GAAP) applicable to that country. Will your answer
be different in this case?

Scenario C:

Assume the same facts as per Scenario A except, 100% of the investment in Company A is
held by Mr. X (an individual) instead of Company X. Will your answer be different in this case?

(Study material)

Answer

Scenario A:

In this case, Company A satisfies all the conditions for not preparing consolidated financial
statements i.e. it is not a listed entity nor it is in the process of listing, the parent of Company A
prepares consolidated financial statements as per Ind AS which is available for public use and
parent of Company A does not object Company A not preparing consolidated financial
statements. Hence, Company A is not required to prepare consolidated financial statements.

Scenario B:

[Link]
In this case, the consolidated financial statements of parent of Company A are not prepared
under Ind AS. Hence Company A cannot avail the exemption from preparation of consolidated
financial statements.

Scenario C:

In this case, Mr. X (an individual) would not be preparing its financial statements as per the
requirements of Ind AS which is available for public use. Hence Company A cannot avail the
exemption from preparation of consolidated financial statements.

Question 13

ICAI Illustration

Scenario A:

Following is the structure of a

group headed by Company A.

[Link]
Company A is a listed entity in India and prepares consolidated financial statements as per
the requirements of Ind AS. Company C is an unlisted entity and it is not in the process of
listing any of its instruments in public market. 60% of the equity share capital of Company C is
held by Company A and balance 40% equity share capital is held by other outside investors.
Company A does not object to Company C not preparing consolidated financial statements.\
Whether Company C is required to prepare consolidated financial statements as per the
requirements of Ind AS 110?

Study material)

Answer

Scenario A:

Company C is a partly owned subsidiary of Company A. In such case, Company C should inform
the other 40% equity shareholders about Company C not preparing consolidated financial
statements and if they do not object then only Company C can avail the exemption from
preparing consolidated financial statements.

Question 14

ICAI Illustration

PQR Ltd. Is established with primary objective of investing in the equity shares of various
pharmaceutical companies which are involved in the research and

[Link]
development of medicine for a critical illness. DEF Ltd. Is a follow subsidiary of PQR Ltd. And
DEF Ltd. Has entered into contractual arrangements with all the investees of PQR Ltd. That in
case they are successful in developing the medicine then they will transfer the patent and
distribution rights for that medicine to DEF Ltd. At less then market price. This arrangement is
explained in following diagram:

Determine whether PQR Ltd. Can be classified as investment entity?

(Study material)

Answer

PQR Ltd. And DEF Ltd. Are part of same group. Further, DEF Ltd. Have exclusive right to acquire
the patent and distributions rights from the investees of PQR Ltd. And that too at less then the
market price. Hence, the related party of PQR Ltd. Is in position to obtain benefits other than
capital appreciation and investment income from the investees that are not available to other
parties unrelated to the investee. Accordingly, PQR Ltd. Cannot be classified as investment
entity.

Topic 4: Equity Method & Associates (Ind AS 28)

[Link]
Question 15

On 1st April 2017 Alpha Ltd. commenced joint construction of a property with Gama Ltd. For
this purpose, an agreement has been entered into that provides for joint operation and
ownership of the property. All the ongoing expenditure, comprising maintenance plus
borrowing costs, is to be shared equally. The construction was completed on 30th September
2017 and utilisation of the property started on 1st January 2018 at which time the estimated
useful life of the same was estimated to be 20 years.

Total cost of the construction of the property was Rs. 40 crores. Besides internal accruals, the
cost was partly funded by way of loan of Rs. 10 crores taken on 1st January 2017. The loan
carries interest at an annual rate of 10% with interest payable at the end of year on 31st
December each year. The company has spent Rs. 4,00,000 on the maintenance of such
property.

The company has recorded the entire amount paid as investment in Joint Venture in the
books of accounts. Suggest the suitable accounting treatment of the above transaction as per
applicable Ind AS.

(RTP Nov ’18)

Answer 15

As provided in Ind- AS 111 - Joint Arrangements - this is a joint arrangement because two or
more parties have joint control of the property under a contractual arrangement. The
arrangement will be regarded as a joint operation because Alpha Ltd. and Gama Ltd. have rights
to the assets and obligations for the liabilities of this joint arrangement. This means that the
company and the other investor will each recognise 50% of the cost of constructing the asset in
property, plant and equipment.

The borrowing cost incurred on constructing the property should under the principles of Ind AS
23 ‘Borrowing Costs’, be included as part of the cost of the asset for the period of construction.

[Link]
In this case, the relevant borrowing cost to be included is Rs. 50,00,000 (Rs. 10,00,00,000 10%
6/12).

The total cost of the asset is Rs. 40,50,00,000 (Rs. 40,00,00,000 + Rs. 50,00,000) Rs.
20,25,00,000 crores is included in the property, plant and equipment of Alpha Ltd. and the
same amount in the property, plant and equipment of Gama Ltd.

The depreciation charge for the year ended 31 March 2018 will therefore be Rs.1,01,25,000 (Rs.
40,50,00,000 1/20 6/12) Rs. 50,62,500 will be charged in the statement of profit or loss of
the company and the same amount in the statement of profit or loss of Gama Ltd.

The other costs relating to the arrangement in the current year totalling Rs. 54,00,000 (finance
cost for the second half year of Rs. 50,00,000 plus maintenance costs of Rs. 4,00,000) will be
charged to the statement of profit or loss of Alpha Ltd. and Gama Ltd. in equal proportions- Rs.
27,00,000 each.

Question 16

Two parties structure a joint arrangement in an incorporated entity i.e. Entity A in which each
party has a 50% ownership interest. The purpose of the arrangement is to manufacture
materials required by the parties for their own, individual manufacturing processes. The
arrangement ensures that the parties operate the facility that produces the materials to the
quantity and quality specifications of the parties. The legal form of Entity A (an incorporated
entity) through which the activities are conducted initially indicates that the assets and
liabilities held in Entity A are the assets and liabilities of Entity A. The contractual
arrangement between the parties does not specify that the parties have rights to the assets
or obligations for the liabilities of Entity A. There are following other relevant facts and
circumstances applicable in this case:

• The parties agreed to purchase all the output produced by Entity A in a ratio of 50:50. Entity
A cannot sell any of the output to third parties, unless this is approved by the two parties to

[Link]
the arrangement. Because the purpose of the arrangement is to provide the parties with
output they require, such sales to third parties are expected to be uncommon and not
material.

• The price of the output sold to the parties is set by both parties at a level that is designed to
cover the costs of production and administrative expenses incurred by Entity A. Based on this
operating model, the arrangement is intended to operate at a break-even level.

Based on the above fact pattern, determine whether the arrangement is a joint operation or
a joint venture? Will your conclusion change in case Entity A sells all its output to third parties
instead of its owners?

(MTP April 22)

Answer 16

The legal form of Entity A and the terms of the contractual arrangement indicate that the
arrangement is a joint venture. However, the other relevant facts and circumstances mentioned
above indicates that:

• the obligation of the parties to purchase all the output produced by Entity A reflects the
exclusive dependence of Entity A upon the parties for the generation of cash flows and, thus,
the parties have an obligation to fund the settlement of the liabilities of Entity A.

• the fact that the parties have rights to all the output produced by Entity A means that the
parties are consuming, and therefore have rights to, all the economic benefits of the assets of
Entity A.

These facts and circumstances indicate that the arrangement is a joint operation. The
conclusion about the classification of the joint arrangement in these circumstances would not
change if, instead of the parties using their share of the output themselves in a subsequent
manufacturing process, the parties sold their share of the output to th ird parties.

[Link]
If the parties changed the terms of the contractual arrangement so that the arrangement was
able to sell output to third parties, this would result in Entity A assuming demand, inventory
and credit risks. In that scenario, such a change in the facts and circumstances would require

reassessment of the classification of the joint arrangement. Such facts and circumstances would
indicate that the arrangement is a joint venture.

Question 17

On the first day of a financial year, A Ltd. invested in the equity share capital of B Ltd. at a
cost of Rs 1,00,000 to acquire 25% share in the voting power of B Ltd. A Ltd. has concluded
that B Ltd. is an associate of A Ltd. At the end of the year, B Ltd. earned profit of Rs 10,000
and other comprehensive income of Rs 2,000. In that year, B Ltd. also declared dividend to
the extent of Rs 4,000. Pass necessary entries in the books of A Ltd. to account for the
investment in associate.

(MTP April Rs23)

Answer 17

Following entries would be passed in the books of A Ltd.:

1) Initial entry to record investment done in associate

Investment in B Ltd. A/c Dr. 1,00,000

To Bank A/c 1,00,000

2) Recording of share in the profit of the associate

Investment in B Ltd. A/c Dr. 2,500

To Share in profit of investee (P&L) 2,500

[Link]
[A Ltd. share in profit would be Rs 2,500 (Rs 10,000 x 25%)]

3) Recording of share in the other comprehensive income (OCI) of the associate

Investment in B Ltd. A/c Dr. 500

To Share in OCI of investee (OCI) 500

[A Ltd. share in OCI would be Rs 500 (Rs 2,000 x 25%)]

4) Recording of dividend distributed by associate

Dividend Receivable A/c Dr. 1,000

To Investment in B Ltd. A/c 1,000

[A Ltd. share in dividend would be Rs 1,000 (Rs 4,000 x 25%)]

Question 18

On 1st April, 20X1, A Ltd. acquired 80% of the share capital of S Ltd. On acquisition date the
share capital and reserves of S Ltd. stood at Rs 5,00,000 and Rs 1,25,000 respectively. A
[Link] paid initial cash consideration of Rs 10,00,000. Additionally, A Ltd. issued 2,00,000
equity shares with a nominal value of Rs 1 per share at current market value of Rs 1.80 per
share. It was also agreed that A Ltd. would pay a further sum of Rs 5,00,000 after three years.
A [Link] cost of capital is 10%. The appropriate discount factor for Rs 1 @ 10% receivable at
the end of

1st year: 0.91

2nd year: 0.83

3rd year: 0.75

[Link]
The shares and deferred consideration have not yet been recorded by A limited. Below are
the Balance Sheet of A Ltd. and S Ltd. as at 31st March, 20X3:

Ltd. (Rs 000) S Ltd. (Rs 000)

Non-current assets:

Property, plant & equipment 5,500 1,500

Investment in S Ltd. at cost 1,000

Current assets:

Inventory 550 100

Receivables 400 200

Cash 200 50

Equity: 7,650 1,850

Share capital 2,000 500

Retained earnings 1,400 300

3,400 800

Non-current liabilities 3,000 400

Current liabilities 1,250 650

7,650 1,850

Further information:

(i) On the date of acquisition the fair values of S [Link] plant exceeded its book value by Rs
2,00,000. The plant had a remaining useful life of five years at this date;

[Link]
(ii) The consolidated goodwill has been impaired by Rs 2,58,000; and

(iii) A Ltd. Group values the non-controlling interest using the fair value method.

At the date of acquisition, the fair value of 20% non-controlling interest was Rs 3,80,000.

You are required to prepare Consolidated Balance Sheet of A Ltd. as at 31st March, 20X3.
(Notes to Account on Consolidated Balance Sheet is not required).

(Oct Rs23)

Answer 18

Consolidated Balance Sheet of A Ltd. and its subsidiary, S Ltd.

as at 31st March, 20X3

Particulars Rs in 000s

I. Assets

(1) Non-current assets

(i) Property Plant & Equipment (W.N.4) 7,120.00

(ii) Intangible asset – Goodwill (W.N.3) 1,032.00

(2) Current Assets

(i) Inventories (550 + 100) 650.00

(ii) Financial Assets

(a) Trade Receivables (400 + 200) 600.00

(b) Cash & Cash equivalents (200 + 50) 250.00

[Link]
Total Assets 9,652.00

II. Equity and Liabilities

(1) Equity

(i) Equity Share Capital (2,000 + 200) 2,200.00

(ii) Other Equity

(a) Retained Earnings (W.N.6) 1190.85

(b) Securities Premium 160.00

(2) Non-Controlling Interest (W.N.5) 347.40

(3) Non-Current Liabilities (3,000 + 400) 3,400.00

(4) Current Liabilities (W.N.8) 2,353.75

Total Equity & Liabilities 9,652.00

Notes:

1. Since the question required not to prepare Notes to Account, the column of Note to
Accounts had not been drawn.

2. It is assumed that shares were issued during the year 20X2-20X3 and entries are yet to be
made.

Working Notes:

1. Calculation of purchase consideration at the acquisition date i.e. 1st April, 20X1

Rs in 000s

[Link]
Payment made by A Ltd. to S Ltd. 1,000.00

Cash

Equity shares (2,00,000 shares x Rs 1.80) 360.00

Present value of deferred consideration (Rs 5,00,000 x 0.75) 375.00

Total consideration 1,735.00

2. Calculation of net assets i.e. net worth at the acquisition date i.e. 1st April, 20X1

Rs in 000s

Share capital of S Ltd. 500.00

Reserves of S Ltd. 125.00

Fair value increase on Property, Plant and Equipment 200.00

Net worth on acquisition date 825.00

3. Calculation of Goodwill at the acquisition date i.e. 1st April, 20X1 and 31st March, 20X3

Rs in 000s

Purchase consideration (W.N.1) 1,735.00

Non-controlling interest at fair value (as given in the question) 380.00

2,115.00

Less: Net worth (W.N.2) (825.00)

Goodwill as on 1st April, 20X1 1,290.00

[Link]
Less: Impairment (as given in the question) 258.00

Goodwill as on 31st March, 20X3 1,032.00

4. Calculation of Property, Plant and Equipment as on 31st March, 20X3

in 000s

A Ltd. 5,500.00

S Ltd. 1,500.00

Add: Net fair value gain not recorded yet 200.00

Less: Depreciation [(200/5) 2] (80.00) 120.00 1,620.00

7,120.00

5. Calculation of Post-acquisition gain (after adjustment of impairment on goodwill) and value

of NCI as on 31st March, 20X3

in 000s Rs in 000s

NCI (20% ) A Ltd(80%)

Acquisition date balance 380.00 Nil

Closing balance of Retained Earnings 300.00

Less: Pre-acquisition balance (125.00)

Post-acquisition gain 175.00

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Less: Additional Depreciation on PPE [(200/5) 2] (80.00)

Share in post-acquisition gain 95.00 19.00 76.00

Less: Impairment on goodwill 258.00 (51.60) (206.40)

347.40 (130.40)

6. Consolidated Retained Earnings as on 31st March, 20X3

Rs in 000s

A Ltd. 1,400.00

Add: Share of post-acquisition loss of S Ltd. (W.N.5) (130.40)

Less: Finance cost on deferred consideration (37.5 + 41.25) (W.N.7) (78.75)

Retained Earnings as on 31st March, 20X3 1,190.85

7. Calculation of value of deferred consideration as on 31st March, 20X3

in 000s

Value of deferred consideration as on 1st April, 20X1 (W.N.1) 375.00

Add: Finance cost for the year 20X1-20X2 (375 10%) 37.50

412.50

Add: Finance cost for the year 20X2-20X3 (412.50 10%) 41.25

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Deferred consideration as on 31st March, 20X3 453.75

8. Calculation of current Liability as on 31st March, 20X3

Rs in 000s

A Ltd. 1,250.00

S Ltd. 650.00

Deferred consideration as on 31st March, 20X3 (W.N.7) 453.75

Current Liability as on 31st March, 20X3 2,353.75

Question 19

Solar Limited has an 80% interest in its subsidiary, Mars Limited. Solar Limited holds a direct
interest of 25% in Venus Limited. Mars Limited also holds a 30% interest in Venus Limited.
The decisions concerning relevant activities of Venus Limited require a simple majority of
votes. How should Solar Limited account for its investment in Venus Limited in its
consolidated financial statements?

(RTP Nov Rs21, MTP AprRs22)

Answer 19

In the present case, Solar Limited controls Mars Limited (since it holds 80% of its voting rights).
Consequently, it also controls the voting rights associated with 30% equity interest held by
Mars Limited in Venus Limited. Solar Limited also has 25% direct equity interest and related
voting power in Venus Limited. Thus, Solar Limited controls 55% (30% + 25%) voting power of

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Venus Limited. As the decisions concerning relevant activities of Venus Limited require a simple
majority of votes. Solar Limited controls Venus Limited and should therefore consolidate it in
accordance with Ind AS 110.

Although, Solar Limited controls Venus Limited, its entitlement to the subsidiaryRss economic
benefits is determined on the basis of its actual ownership interest. For the purposes of the
consolidated financial statements, Solar LimitedRss share in Venus Limited is determined as
49% [25% + (80% 30%)]. As a result, 51% of profit or loss, other comprehensive income and
net assets of Venus Limited shall be attributed to the non-controlling interests in the
consolidated financial statements (this comprises 6% attributable to holders of non-controlling
interests in Mars Limited [reflecting 20% interest of non-controlling shareholders of Mars
Limited in 30% of Venus Limited] and 45% to holders of non-controlling interests in Venus
Limited).

Question 20

RsHigh Speed LimitedRs manufactures and sells cars. The Company wants to foray into the
two-wheeler business and therefore it acquires 30% interest in Quick Bikes Limited for Rs
5,00,000 as at 1st November, 20X1 and an additional 25% stake as at 1st January, 20X2 for Rs
5,00,000 at its fair value.

Following is the Balance Sheet of Quick Bikes Limited as at 1st January, 20X2:

Liabilities Carrying Fair value Assets Carrying Fair value

value value

Share capital 1,00,000 Plant and 3,50,000 7,50,000

equipment

Reserves 5,50,000 Investment in 4,00,000 5,00,000

bonds

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Trade 1,50,000 1,50,000 Trade 50,000 50,000
payables Receivables

Total 8,00,000 Total 8,00,000

Quick Bikes Limited sells the motorcycles under the brand name Rs Super Start Rs which has a
fair value of Rs 3,50,000 as at 1st January, 20X2. This is a self- generated brand therefore
Quick Bikes Limited has not recognized the brand in its books of accounts. Following is the
separate balance sheet of High Speed Limited as at 1st January, 20X2:

Liabilities Amount Assets Amount

Share capital 5,00,000 Plant and equipment 13,50,000

Reserves 15,00,000 Investment in Quick Bike 10,00,000

Short term loans 4,00,000 Trade Receivables 80,000

Trade payables 3,00,000 Cash and bank balances 5,20,000

Other liabilities 2,50,000

Total 29,50,000 Total 29,50,000

In relation to the acquisition of Quick Bikes Limited, you are required to:

(i) Pass the necessary journal entries to give effect of business combination in accordance
with Ind AS 103 as at acquisition date 1st January, 20X2. NCI is measured by the entity at fair
value. Provide working notes, Ignore deferred tax implication; and

(ii) Prepare a consolidated balance sheet of High Speed Limited as at 1st January, 20X2.

(RTP May Rs23)

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Answer 20

(i) Journal Entry

Rs Rs

Plant and Equipment Dr. 7,50,000

Investment in bonds Dr. 5,00,000

Trade Receivables Dr. 50,000

Brand Dr. 3,50,000

Goodwill (balancing figure) Dr. 5,00,000

To Investment in Quick Bikes 10,00,000

To Profit or loss A/c (W.N.1) 1,00,000

To Trade Payables 1,50,000

To NCI (W.N.3) 9,00,000

(Being assets and liabilities acquired at fair value and

previous investment considered at fair value on the
acquisition date)

Working Notes:

1. Calculation of fair value of shares on the acquisition date 1st January, 20X2

25% Shares purchase on 1st January, 20X2 (fair value) Rs 5,00,000

30% Shares purchase on 1st November, 20X1 at Rs 5,00,000

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Fair value = [(5,00,000 / 25%) x 30%] Rs 6,00,000

Total consideration at fair value on acquisition date Rs 11,00,000

Less: Cost of investment (Rs 10,00,000)

Gain charged to Profit or Loss (5,00,000 + 5,00,000) Rs 1,00,000

2. Computation of Net Identifiable Assets at fair value

Rs

Plant and Equipment 7,50,000

Investment in bonds 5,00,000

Trade Receivables 50,000

Self-generated Brand 3,50,000

16,50,000

Less: Trade Payables (1,50,000)

Net Identifiable Assets at fair value 15,00,000

3. Measurement of Non-controlling Interest (on fair value basis)

Share of NCI (100- 30-25) 45%

Taking fair value of shares on 1st January, 20X2 as a base [(11,00,000/ 55%) Rs 9,00,000
45%]

(ii) Consolidated Balance Sheet of High Speed Limited as at 1st January, 20X2

Note No. Rs

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Assets

Non-current assets

(a) Property, plant and equipment 1 21,00,000

(b) Intangible asset 2 8,50,000

(c) Investment in bonds 5,00,000

Current Assets

(a) Financial assets

(i) Trade receivables 3 1,30,000

(ii) Cash and cash equivalents 4 5,20,000

Equity and Liabilities 41,00,000

Equity

(a) Equity share capital 5,00,000

(b) Other Equity 5 16,00,000

Non-controlling Interest (W.N.3) 9,00,000

Current Liabilities

(a) Financial liabilities

(i) Borrowings 6 4,00,000

(ii) Trade Payables 7 4,50,000

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(b) Other Current Liabilities 8 2,50,000

41,00,000

Notes to Accounts

S. No. Rs Rs

1. Property, plant, and equipment

High Speed Ltd. 13,50,000

Quick Bikes Ltd. 7,50,000 21,00,000

2. Intangible asset

Goodwill 5,00,000

Brand value of Quick Bikes Ltd. 3,50,000 8,50,000

3. Trade Receivables

High Speed Ltd. 80,000

Quick Bikes Ltd. 50,000 1,30,000

4. Cash and cash equivalents

Quick Bikes Ltd. 5,20,000

5. Other Equity - Reserves

High Speed Ltd. 15,00,000

Add: Gain on investment in Quick Bikes Ltd. 1,00,000 16,00,000

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 6. Borrowings

Short term loans of High-Speed Ltd. 4,00,000

7. Trade Payables

High Speed Ltd. 3,00,000

Quick Bikes Ltd. 1,50,000 4,50,000

8. Other Current Liabilities

High Speed Ltd. 2,50,000

Question 21

ICAI Illustration

Scenario B:

Assume the same facts as per Scenario A except, the balance 40% of the equity share capital
of Company C is held by Company B. State whether C Limited is required to inform its other
owner B Limited (owning 40%) of its intention to not prepare consolidated financial
statements as mentioned in paragraph 4(a)(i)?

(Study material)

Answer

Scenario B:

In this scenario, Company C is 100% held by Company A (60% direct investment and 40%
investment through Company B). Hence, Company C is not required to inform to Company B of

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not preparing consolidated financial statements and can avail the exemption from preparing
the consolidated financial statements.

Topic 5: Related Party Disclosures (Ind AS 24)

Question 22

ICAI Illustration

An investment vehicle (the investee) is created and financed with a debt instrument held by
an investor (the debt investor) and equity instruments held by a number of other investors.
The equity tranche is designed to absorb the first losses and to receive any residual return
from the investee. One of the equity investors who holds 30 per cent of the equity is also the
asset manager. The investee uses its proceeds to purchase a portfolio of financial assets,
exposing the investee to the credit risk associated with the possible default of principal and
interest payments of the assets. The transaction is marketed to the debt investor as an
investment with minimal exposure to the credit risk associated with the possible default of
the assets in the portfolio because of the nature of these assets and because the equity
tranche is designed to absorb the first losses of the investee.

The returns of the investee are significantly affected by the management of the investeeRss
asset portfolio, which includes decisions about the selection, acquisition and disposal of the
assets within portfolio guidelines and the management upon default of any portfolio assets.
All those activities are managed by the asset manager until defaults reach a specified
proportion of the portfolio value (ie when the value of the portfolio is such that the equity
tranche of the investee has been consumed). From that time, a third-party trustee manages
the assets according to the instructions of the debt investor. Based on the above, who has
power over the investment vehicle?

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 (Study material)

Answer

Managing the investeeRss asset portfolio is the relevant activity of the investee. The asset
manager has the ability to direct the relevant activities until defaulted assets reach the
specified proportion of the portfolio value; the debt investor has the ability to direct the
relevant activities when the value of defaulted assets surpasses that specified proportion of the
portfolio value.

The asset manager and the debt investor each need to determine whether they are able to
direct the activities that most significantly affect the investeeRss returns, including considering
the purpose and design of the investee as well as each partyRss exposure to variability of
returns.

Topic 6: Power, Exposure to Returns & Control Analysis (Ind AS 101, 110)

Question 23

ICAI Illustration

A Ltd. is an asset manager of a venture capital fund i.e. Fund X. Out of the total outstanding
units of the fund, 10% units are held by A Ltd. and balance 90% units are held by other
investors. Majority of the unit holders of the fund have right to appoint a committee which
will manage the day to day administrative activities of the fund. However, the decisions
related to the investments / divestments to be done by Fund X is taken by asset manager i.e.
A Ltd. Based on above, who has power over Fund X?

(Study material)

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Answer

In this case, A Ltd. is able to direct the activities that can most significantly affect the returns of
Fund X. Hence A Ltd. has power over the investee. However, this does not mean that A Ltd. Has
control over the fund and consideration will have to be given to other elements of control
evaluation as well i.e. exposure to variable returns and link between power and exposure to
variable returns.

Question 24

ICAI Illustration

Scenario A:

Following is the voting power holding pattern of B Ltd.

➢ 10% voting power held by A Ltd.

➢ 90% voting power held by 9 other investor each holding 10%

All the investors have entered into a management agreement whereby they have granted the
decision-making powers related to the relevant activities of B Ltd. to A Ltd. for a period of 5
years.

After 2 years of the agreement, the investors holding 90% of the voting powers have some
disputes with A Ltd. and they want to take back the decision-making rights from A Ltd. This
can be done by passing a resolution with majority of the investors voting in favour of the
removal of rights from A Ltd. However, as per the termination clause of the management
agreement, B Ltd. will have to pay a huge penalty to A Ltd. for terminating the agreement
before its stated term. Whether the rights held by investors holding 90% voting power are
substantive?

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Scenario B:

Assume the same facts as per Scenario A except, there is no penalty required to be paid by B
Ltd. for termination of agreement before its stated term. However, instead of all other
investors, there are only 4 investors holding total 40% voting power that have disputes with A
Ltd. and want to take back decision-making rights from A Ltd. Whether the rights held by
investors holding 40% voting power are substantive?

(Study material)

Answer

Scenario A:

If the investors holding 90% of the voting power exercise their right to terminate the
management agreement, then it will result in B Ltd. having to pay huge penalty which will affect
the returns of B Ltd. This is a barrier that prevents such investors from exercising their rights
and hence such rights are not substantive.

Scenario B:

To take back the decision-making rights from A Ltd., investors holding majority of the voting
power need to vote in favour of removal of rights from A Ltd. However, the investors having
disputes with A Ltd. do not have majority voting power and hence the rights held by them are
not substantive.

Question 25

ICAI Illustration

Scenario A:

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An investor is holding 30% of the voting power in ABC Ltd. The investor has been granted an
option to purchase 30% more voting power from other investors. However, the exercise price
of the option is too high compared to the current market price of ABC Ltd. because ABC Ltd. is
incurring losses since last 2 years and it is expected to continue to incur losses in future
period as well. Whether the right held by the investor to exercise purchase option is
substantive?

Scenario B:

Assume the same facts as per Scenario A except, the option price is in line with the current
market price of ABC Ltd. and ABC Ltd. is making profits. However, the option can be exercised
in next 1 month only and the investor is not in a position to arrange for the require amount in
1 monthsRs time to exercise the option. Whether the right held by the investor to exercise
purchase option is substantive?

Scenario C:

Assume the same facts as per Scenario A except, ABC Ltd. is making profits. However, the
current market price of ABC Ltd. is not known since the ABC Ltd. is a relatively new company,
business of the company is unique and there are no other companies in the market doing
similar business. Hence the investor is not sure whether to exercise the purchase option.
Whether the right held by the investor to exercise purchase option is substantive?

(Study material)

Answer

Scenario A:

The right to exercise purchase option is not substantive since the option exercise price is too
high as compared to current market price of ABC Ltd.

Scenario B:

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The right to exercise purchase option is not substantive since the time period for the investor to
arrange for the requisite amount for exercising the option is too narrow.

Scenario C:

The right to exercise purchase option is not substantive. This is because the investor is not able
to obtain information about the market value of ABC Ltd. which is necessary in order to
compare the option exercise price with market price so that it can decide whether the exercise
of purchase option would be beneficial or not.

Question 26

ICAI Illustration

An investor holds 35% of the voting rights of an investee. Three other shareholders each hold
5% of the voting rights of the investee. The remaining voting rights are held by numerous
other shareholders, none individually holding more than 1% of the voting rights. None of the
shareholders has arrangements to consult any of the others or make collective decisions.
Decisions about the relevant activities of the investee require the approval of a majority of
votes cast at relevant shareholdersRs meetings—75% of the voting rights of the investee have
been cast at recent relevant shareholdersRs meetings. Whether the investorRss voting rights
are sufficient to give it power to direct the relevant activities of the investee?

(Study material)

Answer

In this case, the active participation of the other shareholders at recent shareholdersRs
meetings indicates that the investor would not have the practical ability to direct the relevant
activities unilaterally, regardless of whether the investor has directed the relevant activities
because a sufficient number of other shareholders voted in the same way as the investor.

[Link]
Question 27

ICAI Illustration

Investor A and two other investors each hold a third of the voting rights of an investee. The
investeeRss business activity is closely related to investor A. In addition to its equity
instruments, investor A also holds debt instruments that are convertible into ordinary shares
of the investee at any time for a fixed price. The conversion rights are substantive. If the debt
were converted, investor A would hold 60% of the voting rights of the investee. Investor A
would benefit from realising synergies if the debt instruments were converted into ordinary
shares. Whether investor A has power over the investee?

(Study material)

Answer

Investor A has power over the investee because it holds voting rights of the investee together
with substantive potential voting rights that give it the current ability to direct the relevant
activities.

Question 28

ICAI Illustration

An investeeRss only business activity, as specified in its founding documents, is to purchase

receivables and service them on a day-to-day basis for its investors.

Following is the relevant fact pattern:

➢ The servicing on a day-to-day basis includes the collection and passing on of principal and
interest payments as they fall due.

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➢ Upon default of a receivable the investee automatically puts the receivable to an investor
as agreed separately in an agreement between the investee and the investor.

➢ The only relevant activity is managing the receivables upon default because it is the only
activity that can significantly affect the investeeRss returns.

➢ Managing the receivables before default is not a relevant activity because the activities
before default are predetermined and amount only to collecting cash flows as they fall due
and passing them on to investors.

Whether the investor has power over the investee?

(Study material)

Answer

In this question, the design of the investee ensures that the investor has decision making power
only in case of default of a receivable. The terms of the agreement between investee and
investor are integral to the overall transaction and the establishment of the investee.
Therefore, the terms of the agreement together with the founding documents of the investee
lead to the conclusion that the investor has power over the investee even though the investor
takes ownership of the receivables only upon default and manages the defaulted receivables
outside the legal boundaries of the investee.

Question 29

ICAI Illustration

A Ltd. is a manufacturer of pharmaceutical products. A Ltd. has invested in share capital of B

Ltd. which is a manufacturer of packing material for pharmaceutical products. A [Link]
requirements of packing materials for its products are entirely supplied by B Ltd. A Ltd. is not

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purchasing the packing materials from any other vendors because the materials supplied by
other vendors are of inferior quality. Whether A Ltd. has power over B Ltd.?

(Study material)

Answer

A Ltd. would be the most affected by the operations of B Ltd. since it is dependent on B Ltd. for
the supply of packing materials. Therefore A Ltd. would be committed to ensure that B Ltd.
operates as designed. This can be an indicator of A Ltd. having power over B Ltd. But it has to
consider other facts and circumstances as well to conclude whether it control B Ltd. or not.

Question 30

ICAI Illustration

A decision maker (fund manager) establishes, markets and manages a publicly traded,
regulated fund according to narrowly defined parameters set out in the investment mandate
as required by its local laws and regulations. The fund was marketed to investors as an
investment in a diversified portfolio of equity securities of publicly traded entities. Following
is the relevant fact pattern related to fund manager:

➢ Within the defined parameters, the fund manager has discretion about the assets in which
to invest.

➢ The fund manager has made a 10% pro rata investment in the fund and receives a market-
based fee for its services equal to 1% of the net asset value of the fund.

➢ The fees are commensurate with the services provided.

➢ The fund manager does not have any obligation to fund losses beyond its 10% investment.

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The fund is not required to establish, and has not established, an independent board of
directors. The investors do not hold any substantive rights that would affect the decision-
making authority of the fund manager but can redeem their interests within particular limits
set by the fund. Whether the fund manager controls the fund?.

(Study material)

Answer

Although operating within the parameters set out in the investment mandate and in
accordance with the regulatory requirements, the fund manager has decision making rights
that give it the current ability to direct the relevant activities of the fund—the investors do not
hold substantive rights that could affect the fund managerRss decision-making authority. The
fund manager receives a market-based fee for its services that is commensurate with the
services provided and has also made a pro rata investment in the fund. The remuneration and
its investment expose the fund

Topic 7: Impairment & Goodwill (Ind AS 36)

Question 31

Summarised Balance Sheets of PN Ltd. and SR Ltd. as on 31st March, 2018 were given as
below:

(Amount in Rs.)

Particulars PN Ltd. SR Ltd.

Assets

Land & building 4,68,000 5,61,600

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Plant & Machinery 7,48,800 4,21,200

Investme nt in SR Ltd. 12,48,000 -

Inventories 3,74,400 1,13,600

Trade Receivables 1,86,500 1,24,800

Cash & Cash equivalents 45,200 24,900

Total Assets 30,70,900 12,46,100

Equity & Liabilities

Equity Share Capital (Shares of Rs. 100 each fully paid) 15,60,000 6,24,000

Other Reserves 9,36,000 3,12,000

Retained Earnings 1,78,400 2,55,800

Trade Payables 1,46,900 34,300

Short-term borrowings 2,49,600 20,000

Total Equity & Liabilities 30,70,900 12,46,100

(i) PN Ltd. acquired 70% equity shares of Rs. 100 each of SR Ltd. on 1st October, 2017.

(ii) The Retained Earnings of SR Ltd. showed a credit balance of Rs. 93,600 on 1st April, 2017
out of which a dividend of 12% was paid on 15th December, 2017.

(iii) PN Ltd. has credited the dividend received to its Retained Earnings.

(iv) Fair value of Plant & Machinery of SR Ltd. as on 1st October, 2017 was Rs. 6,24,000. The
rate of depreciation on Plant & Machinery was 10% p.a.

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(v) Following are the increases on comparison of Fair Value as per respective Ind AS with
book value as on 1st October, 2017 of SR Ltd. which are to be considered while consolidating
the Balance Sheets:

(a) Land & Buildings Rs. 3,12,000

(b) Inventories Rs. 46,800

(c) Trade Payables Rs. 31,200.

(vi) The inventory is still unsold on Balance Sheet date and the Trade Payables are not yet
settled.

(vii) Other Reserves as on 31st March, 2018 are the same as was on 1st April, 2017.

(viii) The business activities of both the company are not seasonal in nature and therefore, it
can be assumed that profits are earned evenly throughout the year.

Prepare the Consolidated Balance Sheet as on 31st March, 2018 of the group of entities PN
Ltd. and SR Ltd. as per Ind AS.

(PYP,MayRs19, MTP OctRs20)

Answer 31

Consolidated Balance Sheet of PN Ltd. and its subsidiary SR Ltd. as on 31st March, 2018

Particulars Note No. Rs.

Assets 26,83,200

(1) Non-current assets

Property, Plant & Equipment 1

Goodwill 2 89,402

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(2) Current Assets

Inventories 3 5,34,800

Financial Assets

Trade Receivables 4 3,11,300

Cash & Cash equivalents 5 70,100

Total Assets 36,88,802

Equity and Liabilities

(1) Equity

Equity Share Capital 6 15,60,000

Other Equity 7 11,39,502

(2) Non-controlling Interest (W.N.3) 5,07,300

(3) Current Liabilities

Financial Liabilities

Trade Payables

Short term borrowings 8 2,12,400

Total Equity & Liabilities 9 2,69,600

36,88,802

Notes to accounts

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1. Property, Plant & Equipment

Land & Building (4,68,000 + 5,61,600 + 3,12,000) 13,41,600

Plant & Machinery (W.N.5) 13,41,600 26,83,200

2. Goodwill 89,402

3. Inventories

PN Ltd. 3,74,400

SR Ltd. (1,13,600 +46,800) 1,60,400 5,34,800

4. Trade Receivables

PN Ltd. 1,86,500

SR Ltd. 1,24,800 3,11,300

5. Cash & Cash equivalents

PN Ltd. 45,200

SR Ltd. 24,900 70,100

8. Trade Payables

PN Ltd. 1,46,900

SR Ltd. (34,300 + 31,200) 65,500 2,12,400

9. Short-term borrowings

PN Ltd. 2,49,600

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 SR Ltd. 20,000 2,69,600

Statement of Changes in Equity:

Equity share Capital

Balance at the beginning of the Changes in Equity share Balance at the end of
reporting period capital during the year the reporting period

Rs. Rs. Rs.

15,60,000 0 15,60,000

Other Equity

Share applicati on money Equity Reserves & Surplus Total

compon ent
Rs.

Capit al Retained Other

reserve Earnings Reserves

Rs. Rs. Rs.

Balance at the beginning 0 9,36,000 9,36,000

of the reporting period

Total comprehensive 0 1,78,400 1,78,400

income for the year

Dividends 0 (52,416) (52,416)

Total comprehensive 0 77,518 77,518

income attributable to
parent

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Gain on Bargain purchase 0 0

Balance at the end of 2,03,502 9,36,000 11,39,502

reporting period

Working Notes:

1. Adjustments of Fair Value

The Plant & Machinery of SR Ltd. would stand in the books at Rs. 4,44,600on 1st October,2017,

Considering only six monthsRs Depreciation on Rs.( ) = 4,68,000; total depreciation

being Rs. 4,68,000 10% = 23,400. The value put on the assets being Rs. 6,24,000 there is

an appreciation to the extent of Rs. 1,79,400.

Acquisition date profits of SR Ltd.

Reserves on 1.4.2017 3,12,000

Profit& Loss Account Balance on 1.4.2017 93,600

Profit for 2017-2018: Total [Rs. 2,55,800- (93,600-74,880)] 6/12 i.e. 1,18,540

Rs. 1,18,540 upto 1.10.2017 5,07,000 *

Total Appreciation 10,31,140

Total Holding Co. Share (70%) 7,21,798

*Appreciation = Land & Building Rs. 3,12,000 + Inventories Rs. 46,800 + Plant & Machinery Rs.
1,79,400 – Trade Payables Rs. 31,200 = Rs. 5,07,000

2. Post-acquisition profits of SR Ltd. Rs.

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Profit after 1.10.2017 [2,55,800 - (93,600-74,880)] x 6/12 1,18,54 0

Less: 10% depreciation on Rs. 6,24,000 for 6 months (7,800)

Less: depreciation already charged for 2nd half of 2017-2018 on Rs.

4,68,800 (ie 31,200 - 23,400)

Total 1,10,74 0

Share of holding Co. (70%) (77,518)

Share of NCI (30%) 33,222

3. Non-controlling Interest Rs

Par value of 1872 shares 1,87,200

Add: 30% Acquisition date profits [(10,31,140 – 74,880) 30%] 2,86,878

30% Post-acquisition profits [W.N.2] 33,222

5,07,300

4. Goodwill Rs.

Amount paid for 4,368 shares 12,48,000

Less : Par value of shares 4,36,800

Acquisition date profits-share of PN Ltd 7,21,798 (11,58,598)

Goodwill 89,402

5. Value of Plant & Machinery: Rs.

PN Ltd. 7,48,800

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SR Ltd. 4,21,200

Add: Appreciation on 1.10.2017 1,79,400

6,00,600

Add: Depreciation for 2nd half charged on pre- revalued 23,400

value

Less: Depreciation on Rs. 6,24,000 for 6 months (31,200) 5,92,800

13,41,600

6. Consolidated Profit & Loss account Rs.

PN Ltd. (as given) 1,78,400

Less: Dividend (52,416 ) 1,25,984

Share of PN Ltd. in post-acquisition profits (W.N.2) 77,518

2,03,502

Note: Alternatively, the solution can be done on Net Assets approach on the date of
acquisition. In such a situation, answer in substance will be same. However, presentation of
working notes will be as below:

1. Net assets of SR Ltd. on the date of acquisition Rs.

Share Capital 6,24,000

Reserves on 1.4.2017 3,12,000

[Link]
 93,600

Profit & Loss Account Balance on 1.4.2017

Profit for 2017-2018: Total [Rs. 2,55,800-(93,600- 74,880)] x 6/12 i.e. 1,18,540

Rs. 1,18,540 upto 1.10.2017 5,07,000*

Total Appreciation 16,55,140

Total Holding Co. Share (70%) 11,58,598

Non-controlling Interest (30) 4,96,542

*Appreciation = Land and Building Rs. 3,12,000 + Inventories Rs. 46,800+ Plant & Machinery Rs.
1,79,400 – Trade Payables Rs. 31,200 = Rs. 5,07,000

2. Non-controlling Interest Rs.

30% Share in net assets of SR Ltd on 1st October, 2017 4,96,542

30% Post-acquisition profits [WN 2] 33,222

Less: Dividend received (30% x 12% x 6,24,000) (22,464)

5,07,300

3. Goodwill Rs

Amount paid for 4,368 shares 12,48,000

Acquisition date profits share of PN Ltd. (11,58,598)

Goodwill 89,402

[Link]
EXAMINERSRs COMMENTS ON THE PERFORMANCE OF EXAMINEES:

Some of the examinees erred in the calculation of additional depreciation on Plant and
Machinery while others erred in Statement of Changes in Equity and Other Equity

Topic 8: Derecognition & Partial Disposal of Subsidiaries (Ind AS 103)

Question 32

AB Limited and BC Limited establish a joint arrangement through a separate vehicle PQR, but
the legal form of the separate vehicle does not confer separation between the parties and the
separate vehicle itself. Thus, both the parties have rights to the assets and obligations for the
liabilities of PQR. As neither the contractual terms nor the other facts and circumstances
indicate otherwise, it is concluded that the arrangement is a joint operation and not a joint
venture. Both the parties own 50% each of the equity interest in PQR. However, the
contractual terms of the joint arrangement state that AB Limited has the rights to all of
Building No. 1 owned by PQR and the obligation to pay all of the debt owed by PQR to a
lender XYZ. AB Limited and BC Limited have rights to all other assets in PQR, and obligations
for all other liabilities of PQR in proportion of their equity interests (i.e. 50% each). PQRRss
summarized balance sheet is as follows: (Rs. In crore)

Amount

Building 1 240

Building 2 200

Cash 40

Total Assets 480

[Link]
Equity 140

Debt owed to XYZ 240

Employee benefit plan obligation 100

Total Liabilities 480

How would AB Limited present its interest in PQR in its financial statements?

(RTP MayRs20)

Answer 32

8 Paragraph 20 of Ind AS 111 states that “a joint operator shall recognise in relation to its
interest in a joint operation:

• its assets, including its share of any assets held jointly;

• its liabilities, including its share of any liabilities incurred jointly;

• its revenue from the sale of its share of the output arising from the joint operation;

• its share of the revenue from the sale of the output by the joint operation; and

• its expenses, including its share of any expenses incurred jointly.”

The rights and obligations, as specified in the contractual arrangement, that an entity has with
respect to the assets, liabilities, revenue and expenses relating to a joint operation might differ
from its ownership interest in the joint operation. Thus a joint operator needs to recognize its
interest in the assets, liabilities, revenue and expenses of the joint operation on the basis
(bases) specified in the contractual arrangement, rather than in proportion of its ownership
interest in the joint operation.

[Link]
Thus, AB Limited would record the following in its financial statements, to account for its rights
to the assets of PQR and its obligations for the liabilities of PQR.

Rs. in crore

Assets

Cash 20

Building 1* 240

Building 2 100

Liabilities

Debt owned to XYZ (third party) 240

Employees benefit plan obligation 50

* Since AB Limited has the rights to all of Building No. 1, it records the amount in its entirety.

AB Limited has obligation for the debt owed by PQR to XYZ in its entirety.

Question 33

ICAI Illustration

A venture capital fund is managed by an asset manager who has right to take the investment
and divestments decisions related to the fund corpus. The asset manager is also holding some
stake in the fund. The other investors of the fund have right to remove the asset manager.
However, in the present scenario, there is absence of other managers who are willing or able
to provide specialized services that the current asset manager is providing and purchase the

[Link]
stake that the current asset manager is holding in the fund. Whether the removal rights
available with other investors are substantive?

(Study material)

Answer

If the other investors exercise their removal rights, then it will impact the operations of the
fund and ultimately the returns of the fund since there is no substitute of the current asset
manager available who can manage the corpus of the fund. Hence the removal rights held by
other investors are not substantive.

Topic 9: Potential Voting Rights & Economic Substance (Ind AS 101)

Question 34

ICAI Illustration

ABC Ltd. is a manufacturer of branded garments and is the owner of Brand X. PQR Ltd. has
entered into a franchise agreement with ABC Ltd. to allow PQR Ltd. to set up a retail outlet to
sell the products of Brand X. As per the agreement, PQR Ltd. will set up the retail outlet from
its own funds, decide the capital structure of the entity, hire employees and their
remuneration, select vendors for acquiring capital items, etc. However, ABC Ltd. will give
certain operating guidelines like the interior of the retail outlet, uniform of the employees
and other such guidelines to protect the brand name of ABC Ltd. Whether the rights held by
ABC Ltd. protective or substantive?

(Study material)

Answer

[Link]
The activities that most significantly affect the returns of PQR Ltd. are the funding and capital
structure of PQR Ltd., hiring of employees and their remuneration, vendors for capital items,
etc.

which are exercisable by PQR Ltd. Further, the retails outlet is being set up by PQR Ltd. without
any financial support from ABC Ltd. The rights available with ABC Ltd. are to protect the brand
name of ABC Ltd. and such rights do not affect the ability of PQR Ltd. to take decisions about
relevant activities. Hence, the rights held by ABC Ltd. are protective rights.

Question 35

ICAI Illustration

An investor holds 45% of the voting rights of an investee. The remaining voting rights are held
by thousands of shareholders, none individually holding more than 1% of the voting rights.
None of the shareholders has any arrangements to consult any of the others or make
collective decisions. Whether the investor holding 45% voting right have power over the
investee?

(Study material)

Answer

On the basis of the absolute size of its holding by the investor and the relative size of the voting
rights held by other shareholders, it is more likely that the investor would have power over the
investee.

Topic 10: Fund Manager & Sponsor Control (Ind AS 110)

Question 36

[Link]
ICAI Illustration

HTF Ltd. Was formed by T Ltd. To invest in technology start-up companies for capital
appreciation. T Ltd. Holds a 70 percent interest in HTF Ltd. And controls HTF Ltd. The other 30
percent ownership interest in HTF Ltd. Is owned by 10 unrelated investors. T Ltd. Holds
options to acquire investments held by HTF Ltd., at their fair value, which would be exercised
if the technology developed by the investees would benefit the operations of T Ltd. No plans
for exiting the investments have been identified by HTF Ltd. HTF Ltd. Is managed by an
investment adviser that acts as agent for the investors in HTF Ltd. Determine whether HTF
Ltd. Is an investment entity or not.

(Study material)

Answer

Even though HTF [Link] business purpose is investing for capital appreciation and it provides
investment management services to its investors, HTF Ltd. Is not an investment entity because
of the following arrangements and circumstances:

(a) T Ltd., the parent of HTF Ltd. Holds options to acquire investments in investees held by HTF
Ltd. If the assets developed by the investees would benefit the operations of T Ltd. This
provides a benefit in addition to capital appreciation or investment income; and

(b) the investment plans of HTF Ltd. Do not include exit strategies for its investments, which are
equity investments. The options held by T Ltd. Are not controlled by HTF Ltd. And do not
constitute an exit strategy.

[Link]
 Chapter 13 Unit-4

“Consolidation Procedure for Subsidiaries”

Topic 1 : Basic Concepts of Consolidation

Question 1

ICAI Illustration

A Limited acquires 80% of B Limited by paying cash consideration of Rs 120 crore. The fair
value of non-controlling interest on the date of acquisition is Rs 30 crore. The value of
subsidiaryRss identifiable net assets as per Ind AS 103 is Rs 130 crore. Determine the value of
goodwill and pass the journal entry.

(Study material)

Answer

The amount of non-controlling interest can be measured as per

i) Fair value method or

ii) Proportionate share method (i.e. proportionate share in the net identifiable assets of the
acquiree). The value of goodwill will be different under both the methods. The goodwill is
calculated as per both the methods below:

Fair value method Rs crore

Fair value of consideration transferred 120

[Link]
Fair value of non-controlling interest 30

150

Value of subsidiaryRss identifiable net assets as per Ind AS 103 (130)

Goodwill 20

Proportionate share method Rs crore

Fair value of consideration transferred 120

Proportional share of non-controlling interest in the net identifiable assets 26

of acquiree (130 x 20%)

146

Value of subsidiaryRss identifiable net assets as per Ind AS 103 (130)

Goodwill 16

Journal entries

Fair value method Rs crore Rs crore

Dr. Cr.

Net identifiable assets Dr. 130

Goodwill Dr. 20

To Cash 120

To Non-controlling interest 30

[Link]
Proportionate share method Rs crore Rs crore

Dr. Cr.

Net identifiable assets Dr. 130

Goodwill Dr. 16

To Cash 120

To Non-controlling interest 26

Question 2

ICAI Illustration

Ram Ltd. Acquires 60% of Raja Ltd. By paying cash consideration of Rs 750 lakh (including
control premium). The fair value of non-controlling interest on the date of acquisition is Rs
480 lakh. The value of subsidiaryRss identifiable net assets as per Ind AS 103 is Rs 1,000 lakh.
Determine the value of goodwill and pass the journal entry

(Study material)

Answer

The amount of non-controlling interest can be measures wither as per

i) Fair value method or

ii) Proportionate share method (i.e. proportionate share in the net identifiable assets of the
acquiree). The value of goodwill will be different under both the methods. The goodwill is
calculated as per both the methods below:

[Link]
Fair value method Rs lakh

Fair value of consideration transferred 750

Fair value of non-controlling interest 480

1,230

Value of subsidiaryRss identifiable net assets as per Ind AS 103 (1,000)

Goodwill 230

Proportionate share method Rs lakh

Fair value of consideration transferred 750

Proportional share of non-controlling interest in the net identifiable assets

of acquiree (1,000 x 40%) 400

1,150

Value of subsidiaryRss identifiable net assets as per Ind AS 103 (1,000)

Goodwill 150

Journal entries

Fair value method Rs lakh

Dr. Cr.

Net identifiable assets Dr. 1,000

Goodwill Dr. 230

[Link]
To Cash 750

To Non-controlling interest 480

Proportionate share method Rs lakh

Dr. Cr.

Net identifiable assets Dr. 1,000

Goodwill Dr. 150

To Cash 750

To Non-controlling interest 400

Question 3

ICAI Illustration

X Ltd. Acquires 80% of Y Ltd. By paying cash consideration of Rs 400 lakh. The fair value of
non- controlling interest on the date of acquisition is Rs 100 lakh. The value of subsidiaryRss
identifiable net assets as per Ind AS 103 is Rs 520 lakh. Determine the value of gain on
bargain purchase and pass the journal entry.

(Study material)

Answer

The amount of non-controlling interest can be measures wither as per

i) Fair value method or

[Link]
ii) Proportionate share method (i.e. proportionate share in the net identifiable assets of the
acquiree).

The value of gain on bargain purchase will be different under both the methods.

The gain is calculated as per both the methods below:

Fair value method Rs lakh

Fair value of consideration transferred 400

Fair value of non-controlling interest 100

Value of subsidiaryRss identifiable net assets as per Ind AS 103 500

Gain on bargain purchase (520)

(20)

Proportionate share method Rs lakh

Fair value of consideration transferred 400

Proportional share of non-controlling interest in the net identifiable assets of

acquiree (520 20%) 104

504

Value of subsidiaryRss identifiable net assets as per Ind AS 103 (520)

Gain on bargain purchase (16)

Journal entries

[Link]
Fair value method Rs lakh

Dr. Cr.

Net identifiable assets Dr. 520

To Cash 400

To Gain on bargain purchase* 20

To Non-controlling interest 100

Proportionate share method Rs lakh

Dr. Cr.

Net identifiable assets Dr. 520

To Cash 400

To Gain on bargain purchase* 16

To Non-controlling interest 104

* Gain on bargain purchase is either recognised in OCI or is recognised directly in equity as a

capital reserve.

Question 4

ICAI Illustration

M Ltd. Acquires 100% of N Ltd. By paying cash consideration of Rs 100 lakh. The value of
subsidiaryRss identifiable net assets as per Ind AS 103 is Rs 80 lakh. Determine the value of
goodwill

[Link]
 (Study material)

Answer

The value of goodwill is calculated as follows:

Determination of goodwill Rs lakh

Fair value of consideration transferred 100

Value of subsidiaryRss identifiable net assets as per Ind AS 103 (80)

Goodwill 20

Question 5

ICAI Illustration

RS Ltd. Holds 30% stake in PQ Ltd. This investment in PQ Ltd. Is accounted as an investment in
associate in accordance with Ind AS 28 and the carrying value of such investment in Rs 100
lakh. RS Ltd. Purchases the remaining 70% stake for a cash consideration of Rs 700 lakh. The
fair value of previously held 30% stake is measured to be Rs 300 lakh on the date of
acquisition of 70% stake. The value of PQ [Link] identifiable net assets as per Ind AS 103 on
that date is Rs 800 lakh. How should RS Ltd. Account for the business combination?

(Study material)

Answer

The amount of goodwill is calculated as follows:

Determination of goodwill Rs lakh

[Link]
Fair value of consideration transferred 700

Fair value of previously held equity interest 300

1,000

Value of subsidiaryRss identifiable net assets as per Ind AS 103 (800)

Goodwill 200

RS Ltd. Should record the difference between the fair value of previously held equity interest in
the subsidiary and the carrying value of that interest in the profit or loss i.e. Rs200 lakh (300 –
100) should be recognised in profit or loss.

Journal entries

Fair value method Rs lakh Rs lakh

Dr. Cr.

Net identifiable assets Dr. 800

Goodwill Dr. 200

To Cash 700

To Investment in associate 100

To Gain on fair valuation of previously held equity interest 200

Topic 2 : Non-controlling Interest (NCI)

[Link]
Question 6

ICAI Illustration

XYZ Ltd. Purchased 80% shares of ABC Ltd. On 1st April, 20X1 for Rs 1,40,000. The issued
capital of ABC Ltd., on 1st April, 20X1 was Rs 1,00,000 and the balance in the Statement of
Profit and Loss was Rs 60,000.

For the year ending on 31st March, 20X2 ABC Ltd. Has earned a profit of Rs 20,000 and later
on it declared and paid a dividend of Rs 30,000.

Assume, the fair value of non-controlling interest is same as the fair value on a per-share
basis of the purchased interest#. All net assets are identifiable net assets, there are no non-
identifiable assets. The fair value of identifiable net assets is Rs 1,50,000.

Show by an entry how the dividend should be recorded in the books of XYZ Ltd. Whenever it
is received after approval in the ensuing annual general meeting.

What is the amount of non-controlling interest as on 1st April, 20X1 (using Fair value Method)
and 31st March, 20X2? Also pass a journal entry on the acquisition date.

(#This assumption is only for illustration purpose. However, in practical

scenarios the fair value of NCI will be different than the fair value of the controlling interest.)

(Study material)

Answer

XYZ [Link] share of dividend Rs 30,000 x 80% = Rs 24,000.

Dr. Cr.

Bank Dr. 24,000

[Link]
To Profit & Loss A/c 24,000

Calculation of Non- controlling interest and Journal Entry

NCI on 1st April 20X1 = 20% of the fair value on a pre-share basis of the purchased interest.

= 20% Rs 1,75,000 (W.N.1) = Rs 35,000

The journal entry recorded on the acquisition date for the 80% interest acquired is as follows:

Rs Rs

Dr. Cr.

Identifiable net assets Dr. 1,50,000

Goodwill (Balancing Figure) Dr. 25,000

To Cash 1,40,000

To NCI 35,000

Working Note 1

Fair value on a per-share basis of the purchased interest / Fair Value of Identifiable net assets

= consideration transferred 100/80

= 1,40,000 100/80 = Rs 1,75,000

NCI on 31st March 20X2 = NCI on 31st March 20X1 + Share of NCI in Profits of 20X1- 20X2

= 35,000 + (20,000 20%) = Rs 39,000

Note: Dividend as per Ind AS will be recognized only when approval by the shareholder is
received in the annual general meeting.

[Link]
Question 7

ICAI Illustration

From the facts given in the above illustration, calculate the amount of noncontrolling interest
as on 1st April, 20X1 (Using NCIRss proportionate share method) and 31st March, 20X2. Also
pass a journal entry on the acquisition date.

(Study material)

Answer

NCI on 1st April 20X1 = 20% of the fair value on identifiable assets. = 20% x Rs 1,50,000 = Rs
30,000

The journal entry recorded on the acquisition date for the 80% interest acquired is as follows:

Dr. Cr.

Identifiable net assets Dr . 1,50,000

Goodwill (Balancing Figure) Dr . 20,000

To Cash 1,40,000

To NCI 30,000

NCI on 31st March 20X2 = NCI on 31st March 20X1 + Share of NCI in Profits of 20X1- 20X2 =
30,000 + (20,000 X 20%) = Rs 34,000

Note: Dividend as per Ind AS will be recognized only when approval by the shareholder is
received in the annual general meeting.

[Link]
Question 8

ICAI Illustration

The facts are same as in the above illustration except that the fair value of net identifiable
asset is Rs 1,60,000. Calculate NCI and Pass Journal Entry on the acquisition date

Note: Use fair value method for 31st March 20X1.

(Study material)

Answer

Calculation of Non- controlling interest and Journal Entry

NCI on 1st April 20X1 = 20% of the fair value on a pre-share basis of the purchased interest. =
20% x Rs 1,75,000 (W.N.1) = Rs 35,000

The journal entry recorded on the acquisition date for the 80% interest acquired is as follows:

Rs Rs

Dr. Cr.

Identifiable net assets Dr. 1,60,000

Goodwill (Balancing Figure) Dr. 15,000

To Cash 1,40,000

To NCI 35,000

Working Note 1

Fair value on a per-share basis of the purchased interest / Fair Value of Identifiable net assets

[Link]
= consideration transferred x 100/80 = 1,40,000 x 100/80 = Rs 1,75,000

NCI on 31st March 20X2 = NCI on 31st March 20X1 + Share of NCI in Profits of\ 20X1- 20X2

= 35,000 + (20,000 x 20%) = Rs 39,000

Note: Dividend as per Ind AS will be recognized only when approval by the shareholder is
received.

Question 9

ICAI Illustration

The facts are same as in the above illustration except that the fair value of net identifiable
asset is Rs 1,60,000. Calculate NCI and Pass Journal Entry on the acquisition date. Use NCIRss
proportionate share method for 31st March 20X1.

(Study material)

Answer

NCI on 1st April 20X1 = 20% of the fair value on identifiable assets.

= 20% x Rs 1,60,000 = Rs 32,000

The journal entry recorded on the acquisition date for the 80% interest acquired is as follows:

Rs Rs

Dr. Cr.

Identifiable net assets Dr. 1,60,000

Goodwill (Balancing Figure) Dr. 12,000

[Link]
To Cash 1,40,000

To NCI 32,000

NCI on 31st March 20X2 = NCI on 31st March 20X1 + Share of NCI in Profits of 20X1- 20X2

= 32,000 + (20,000 X 20%) = Rs 36,000

Note: Dividend as per Ind AS will be recognized only when approval by the shareholder is
received

Question 10

ICAI Illustration

A Ltd. Acquired 70% equity shares of B Ltd. On 1.4.20X1 at cost of Rs 10,00,000 when B Ltd.
Had an equity share capital of Rs 10,00,000 and other equity of Rs 80,000. In the four
consecutive years B Ltd. Fared badly and suffered losses of Rs 2,50,000, Rs 4,00,000, Rs
5,00,000 and Rs 1,20,000 respectively. Thereafter in 20X5-20X6, B Ltd. Experienced
turnaround and registered an annual profit of Rs 50,000. In the next two years i.e. 20X6-20X7
and 20X7-20X8, B Ltd. Recorded annual profits of Rs 1,00,000, and Rs 1,50,000 respectively.
Show the non- controlling interests and goodwill at the end of each year for the purpose of
consolidation. Assume that the assets are at fair value.

(Study material)

Answer

Year Profit / (Loss) Non-controlling Additional Goodwill

interest (30%) consolidate d
P&L (Dr.) / Cr.

[Link]
 At the time of 3,24,000 (W.N.) 2,44,000(W
acquisition in 20X1 .N.)

20X1-20X2 (2,50,000) (75,000) (1,75,000) 2,44,000

2,49,000

20X2-20X3 (4,00,000) (1,20,000) (2,80,000) 2,44,000

1,29,000

20X3-20X4 (5,00,00) (1,50,000) (3,50,000) 2,44,000

(21,000)

20X4-20X5 (1,20,000) (36,000) (84,000) 2,44,000

(57,000)

20X5-20X6 50,000 15,000 35,000 2,44,000

(42,000)

20X6-20X7 1,00,000 30,000 70,000 2,44,000

(12,000)

20X7-20X8 1,50,000 45,000 1,05,000 2,44,000

33,000

Working note:

Calculation of non-controlling interest: Rs

[Link]
Share capital 10,00,000

Other equity 80,000

Total 10,80,000

NCI (30% 10,80,000) 3,24,000

NCI is measured at NCIRss proportionate share of the acquireeRss identifiable net assets.
(Considering the carrying amount of share capital & other equity to be fair value)

Calculation of Goodwill: Rs

Consideration 10,00,000

Non-controlling interest 3,24,000

Less: Net Assets (10,80,000)

Goodwill 2,44,000

Question 11

ICAI Illustration

From the following data, determine in each case:

1) Non-controlling interest at the date of acquisition (using proportionate share method) and
at the date of consolidation

2) Goodwill or Gain on bargain purchase.

[Link]
3) Amount of holding companyRss share of profit in the consolidated Balance Sheet assuming
holding companyRss own retained earnings to be Rs 2,00,000 in each case

Case Subsidiary % of Cost Date of Acquisition Consolidation date

Company shares 1.04.20X1 31.03.20X2
owned

Share Retained Share Retained

Capital earnings Capital [C] earnings
[A] [B] [D]

Case 1 A 90% 1,40,000 1,00,000 50,000 1,00,000 70,000

Case 2 B 85% 1,04,000 1,00,000 30,000 1,00,000 20,000

Case 3 C 80% 56,000 50,000 20,000 50,000 20,000

Case 4 D 100% 1,00,000 50,000 40,000 50,000 56,000

The company has adopted an accounting policy to measure Non-controlling interest at NCIRss
proportionate share of the acquireeRss identifiable net assets. It may be assumed that the
fair value of acquireeRss net identifiable assets is equal to their book values.

(Study material)

Answer

(1) Non-controlling Interest = the equity in a subsidiary not attributable, directly or indirectly,
to a parent. Equity is the residual interest in the assets of an entity after deducting all its
liabilities i.e. in this given case Share Capital + Balance in Statement of Profit & Loss (Assuming it
to be the net aggregate value of identifiable assets in accordance with Ind AS)

% shares owned by Non-controlling Non-controlling interest

[Link]
 NCI [E] interest as at the date as at the date of
of acquisition [E] [A + consolidation [E] [C +
B] D]

Case 1 [100-90] 10% 15,000 17,000

Case 2 [100-85] 15% 19,500 18,000

Case 3 [100-80] 20% 14,000 14,000

Case 4 [100-100] Nil Nil Nil

(2) Calculation of Goodwill or Gain on bargain purchase

Consideration Non Net Goodwill G] Gain on bargain

controlling Identifiable + [H] – [I] Purchase [I]–
[G]
interest [H] Assets [A] + [G] – [H]
[B] = [I]

Case 1 1,40,000 15,000 1,50,000 5,000 -

Case 2 1,04,000 19,500 1,30,000 - 6,500

Case 3 56,000 14,000 70,000 Nil Nil

Case 4 1,00,000 0 90,000 10,000 -

(3) On 31.03.20X2 in each case the following amount shall be added or deducted from the
balance of holding [Link] Retained earnings.

Share Holding Retained Retained Retained Amount to be

earnings as on earnings as earnings post- added/(deducted)
[K]
31.03.20X1 On acquisition [N] from holdingRss

[Link]
 consolidation = [M] – [L] Retained earnings
[L]
Date [M] [O] = [K] X [N]

1 90% 50,000 70,000 20,000 18,000

2 85% 30,000 20,000 (10,000) (8,500)

3 80% 20,000 20,000 Nil Nil

4 100% 40,000 56,000 16,000 16,000

Question 12

ICAI Illustration

A Ltd. Acquired 10% additional shares of its 70% subsidiary. The following relevant
information is available in respect of the change in non-controlling interest on the basis of
Balance Sheet finalized as on 1.4.20X0:

Rs in thousand

Separate financial statements As on 31.3.20X0

Investment in subsidiary (70% interest) – at cost 14,000

Purchase price for additional 10% interest 2,600

Consolidated financial statements

Non-controlling interests (30%) 6,600

Consolidated profit & loss account balance 2,000

[Link]
Goodwill 600

The reporting date of the subsidiary and the parent is 31 March 20X0. Prepare note showing
adjustment for change of non-controlling interest. Should goodwill be adjusted for the
change?

(Study material)

Answer

The following accounting entry is passed:

Rs 000 Rs 000

Dr. Cr.

Non-controlling interest (6,600 ÷ 30 10) Dr. 2,200

Other Equity (Loss on acquisition of interest in subsidiary) Dr. 400

To Cash 2,600

As per para B96 of Ind AS 110, where proportion of the equity of NCI changes, then group shall
adjust controlling and non-controlling interest and any difference between amount by which
NCI (Rs 22,00,000) is adjusted and fair value of consideration received (Rs 26,00,000) to be
attributed to parent in other equity i.e. Rs 4,00,000. Consolidated goodwill is not adjusted.

Question 13

ICAI Illustration

[Link]
A Ltd. Acquired 70% shares of B Ltd. On 1.4.20X0 when the fair value of net assets of B Ltd.
WasRs 200 lakh. During 20X0-20X1, B Ltd. Made profit of Rs 100 lakh. Individual and
consolidated balance sheets as on 31.3.20X1 are as follows:

A B Group

Assets

Goodwill 10

PPE 627 200 827

Financial assets:

Investments 150

Cash 200 30 230

Other current assets 23 70 93

1,000 300 1160

Equity and liability

Share capital 200 100 200

Other equity 800 200 870

Non-controlling interest 90

1,000 300 1160

A Ltd. Acquired another 10% stake in B Ltd. On 1.4.20X1 at Rs 32 lakh. The proportionate
carrying amount of the non-controlling interest is Rs 30 lakh. Show the individual and

[Link]
consolidated balance sheet of the group immediately after the change in non-controlling
interest.

(Study material)

Answer

Rs Lakhs

A B Workings Group

Assets

Goodwill 10

PPE 627 200 827

Financial assets:

Investments (150+32) 182

Cash* (200-32) 168 30 (200+30)- 32) 198

Other current assets 23 70 93

1,000 300 1,128

Equity and liability

Share capital 200 100 200

Other equity 800 200 870-2 868

Non-controlling interest 90-30 60

1,000 300 1,128

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ash has been adjusted through Individual Balance Sheet.

Journal entry

Rs lakh Rs lakh

Dr. Cr.

Non-controlling interest (90 ÷ 30 10) Dr. 30

Other Equity (Loss on acquisition of interest in subsidiary) Dr. 2

To Cash 32

Question 14

ICAI Illustration

Amla Ltd. Purchased a 100% subsidiary for Rs 10,00,000 at the end of 20X1 when the fair
value of the subsidiary Lal [Link] net asset was Rs 8,00, 000. The parent sold 40% of its
investment in the subsidiary in March 20X4 to outside investors for Rs 9,00,000. The parent
still maintains a 60% controlling interest in the subsidiary. The carrying value of the
subsidiaryRss net assets is Rs 18,00,000 (including net assets of Rs 16,00,000 & goodwill of Rs
2,00,000). Calculate gain / loss on sale of interest in subsidiary as on 31st March 20X4.

(Study material)

Answer

As per Ind AS 110, a change in ownership that does not result in a loss of control is equity
transaction. The identifiable net assets (including goodwill) remain unchanged and any
difference between the amount by which the non-controlling interest is recorded (including the
non-controlling interest portion of goodwill) and a fair value of the consideration received is

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recognized directly in equity and attributed to the controlling interest. For disposals that do not
result in the loss of control, the change in the non-controlling interest is recorded at its
proportionate interest of the carrying value of the subsidiary.

Gain on the sale of the investment of Rs 5,00,000 in parentRss separate financial statements
calculated as follows:

RS000

Sale proceeds 900

Less: Cost of investment in subsidiary (10,00,000 40%) (400)

Gain on sale in the parentRss separate financial statements 500

As discussed above, the groupRss consolidated income statement for 31st March 20X4 would
show no gain on the sale of the interest in the subsidiary. Instead, the difference between the
fair value of the consideration received and the amount by which the noncontrolling interest is
recorded is recognized directly in equity.

Rs 000

Sale proceeds 900

Less: Recognition of non-controlling interest (18,00,000 40%) (720)

Credit to other equity 180

The entry recognized in the consolidated accounts under Ind AS 110 is:

Rs000 Rs000

Dr. Cr.

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Cash Dr. 900

To Non-controlling interest 720

To Other Equity (Gain on sale of interest in subsidiary) 180

The difference between the gain in the parentRss income statement and the increase reported
in the groupRss consolidated equity is Rs 3,20,000. This difference represents the share of post-
acquisition profits retained in the subsidiary Rs 3,20,000 [(that is, 18,00,000 – 10,00,000) x 40%]
that have been reported in the groupRss income statement up to the date of sale.

Question 15

ICAI Illustration

Entity A sells 30% interest in its wholly-owned subsidiary to outside investors in an arm Rss
length transaction for Rs 500 crore in cash and retains a 70% controlling interest in the
subsidiary. At the time of the sale, the carrying value of the subsidiaryRss net assets in the
consolidated financial statements of Entity A is Rs 1,300 crore, additionally, there is a
goodwill of Rs 200 crore that arose on the subsidiaryRss acquisition. Entity A initially
accounted for NCI representing present ownership interests in the subsidiary at fair value and
it recognises subsequent changes in NCI in the subsidiary at NCIRss proportionate share in
aggregate of net identifiable assets and associated goodwill. How should Entity A account for
the transaction?

(Study material)

Answer

As per paragraph 23 of Ind AS 110, changes in a parentRss ownership interest in a subsidiary

that do not result in the parent losing control of the subsidiary are equity transactions (i.e.

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transactions with owners in their capacity as owners). Thus, changes in ownership interest that
do not result in loss of control do not impact goodwill associated with the subsidiary or the
statement of profit and loss. Paragraph B96 of Ind AS 110 states that when the proportion of
the equity held by noncontrolling interests changes, an entity shall adjust the carrying amounts
of the controlling and non-controlling interests to reflect the changes in their relative interests
in the subsidiary. The entity shall recognise directly in equity any difference between the
amount by which the non-controlling interests are adjusted and the fair value of the
consideration paid or received, and attribute it to the owners of the parent. Thus, at the time of
sale of 30% of its equity interest, consolidated financial statements ,include an amount of Rs
1,500 crore in respect of the subsidiary. Accordingly, in the present case, the accounting entry
on the date of sale of the 30% interest would be as follows:

Rs in crore Rs in crore

Dr. Cr.

Cash Dr. 900

To Non-controlling interest (1,500 30%) 450

To Other Equity (Gain on sale of interest in subsidiary) 50

Question 16

ICAI Illustration

In March 20X1 a group had a 60% interest in subsidiary with share capital of 50,000 ordinary
shares. The carrying amount of goodwill is Rs 20,000 at March 20X1 calculated using the
partial goodwill method. On 31 March 20X1, an option held by the minority shareholders
exercised the option to subscribe for a further 25,000 ordinary shares in the subsidiary at Rs

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12 per share, raising Rs 3,00,000. The net assets of the subsidiary in the consolidated balance
sheet prior to the optionRss exercise were Rs 4,50,000, excluding goodwill.

Calculate gain or loss on loss of interest in subsidiary due to option exercised by minority
shareholder.

(Study material)

Answer

Shareholdings

Before After

No % No %

Group 30,000 60 30,000 40

Other party 20,000 40 45,000 60

50,000 100 75,000 100

Net assets Rs 000 % Rs000 %

GroupRss share 270 60 300 40

Other partyRss share 180 40 450 60

450 100 750 100

Calculation of group gain on deemed disposal Rs 000

Fair value of 40% interest retained (Rs 12 30,000) 360

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Less: Net assets derecognized (450)

Non-controlling interest derecognized 180

Goodwill (20)

Gain on deemed disposal 70

Note: For simplicity, it has been assumed the fair value per share is equal to the subscription
price. As control of the subsidiary is lost, the retained interest is recognized at its fair value at
the date control is lost. The resulting remeasurement gain is recognized in profit and loss.

Question 17

ICAI Illustration

A Limited ceased to be in investment entity from 1st April 20X1 on which date it was holding
80% of B Limited. The carrying value of such investment in B Limited (which was measured at
fair value through profit or loss) was Rs 4,00,000. The fair value of non-controlling interest on
the date of change in status was Rs 1,00,000. The value of subsidiaryRss identifiable net
assets as per Ind AS 103 was Rs 4,50,000 on the date of change in status. Determine the value
of goodwill and pass the journal entry on the date of change in status of investment entity.
(Assume that non- controlling interest is measured at fair value method)

(Study material)

Answer

Goodwill calculation: Rs

Deemed consideration (i.e. fair value of subsidiary on the date of change in 4,00,000

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status)

Fair value of non-controlling interest 1,00,000

5,00,000

Value of subsidiaryRss identifiable net assets as per Ind AS 103 (4,50,000)

Goodwill 50,000

Journal entry Rs Rs

Dr. Cr.

Net identifiable assets Dr. 4,50,000

Goodwill Dr. 50,000

To Investment in B Limited (on date of change in status) 4,00,000

To Non-controlling interest 1,00,000

Question 18

ICAI Illustration

CD Ltd. purchased a 100% subsidiary for Rs 20,00,000 on 31st March 20X1 when the fair value
of the net assets of KL Ltd. was Rs 16,00,000. Therefore, goodwill was Rs 4,00,000. CD Ltd.
becomes an investment entity on 31st March 20X3 when the carrying value of its investment
in KL Ltd. (measured at fair value through profit or loss) was Rs 25,00,000. At the date of
change in status, the carrying value of net assets of KL Ltd. excluding goodwill was Rs
19,00,000. Calculate gain or loss with respect to investment in KL Ltd. on the date of change
in investment entity status of CD Ltd.

[Link]
 (Study material)

Answer

The gain on the disposal will be calculated as follows:

Rs

Fair value of retained interest (100%) 25,00,000

Less: Net assets disposed, including goodwill (19,00,000 + 4,00,000) (23,00,000)

Gain on the date of change in investment entity status of CD Ltd. 2,00,000

Topic 3 : Change in Ownership / Equity Adjustment

Question 19

ICAI Illustration

Entity P sells a 20% interest in a wholly owned subsidiary to outside investors for Rs 100 lakh
in cash. The carrying value of the subsidiaryRss net assets is Rs 300 lakh, including goodwill of
Rs 65 lakh from the subsidiaryRss initial acquisition. Pass journal entries to record the
transaction.

(Study material)

Answer

The accounting entry recorded on the disposition date for the 20% interest sold as follows:

[Link]
 Rs lakh Rs lakh

Dr. Cr.

Cash Dr. 100

To Non-controlling interest (20% 300 lakh) 60

To Other Equity (Gain on sale of interest in subsidiary) 40

As per para B96 of Ind AS 110, where proportion of the equity of NCI changes, then group shall
adjust controlling and non-controlling interest and any difference between amount by which
NCI (60 Iakh) is adjusted and fair value of consideration received (100 lakh) to be attributed to
parent in other equity ie. 40 lakh.

Question 20

ICAI Illustration

Entity A acquired 60% of entity B two years ago for Rs 6,000. At that time, entity BRss fair
value was Rs 10,000. Lt had net assets with a fair value of Rs 6,000 (which is assumed same as
book value). Goodwill of Rs 2,400 was recorded (being Rs 6,000 – (60% x Rs 6,000). On 1
October 20X0, entity A acquires a further 20% interest in entity B, taking its holding to 80%.
At that time the fair value of entity B is Rs 20,000 and entity A pays Rs 4,000 for the 20%
interest. At the time of the purchase the fair value of entity BRss net assets is Rs 12,000 and
the carrying amount of the non- controlling interest is Rs 4,000. Pass journal entries to record
the transaction.

(Study material)

Answer

[Link]
The accounting entry recorded for the purpose of the non- controlling interest is as follows:

Rs Rs

Dr. Cr.

Non-controlling interest (4,000 ÷ 40 20) Dr. 2,000

Other Equity (Loss on acquisition of interest in Dr. 2,000

subsidiary)

To Cash 4,000

As per para B96 of Ind AS 110, where proportion of the equity of NCI changes, then group shall
adjust controlling and non-controlling interest and any difference between amount by which
NCI (Rs 2,000) is adjusted and fair value of consideration received (Rs 4,000) to be attributed to
parent in other equity i.e. Rs 2,000.

Note: This illustration mentions two types of fair values:

• Fair value of Entity B, and

• Fair value of net assets of Entity B

It should be borne in mind that the two fair values are different concepts. The former is used
only for the purpose of determining the consideration to be paid for purchase of equity
interests. It can be seen that for the initial stake purchase, Entity A paid 60% of the “fair value
of Entity B” i.e. 60% of Rs 10,000 = Rs 6,000. Further, for the second purchase transaction,
Entity A paid 20% of the “fair value of Entity B” i.e. 20% of Rs 20,000 = Rs 4,000.

The latter i.e. fair value of net assets of Entity B is used for the purpose of accounting. It can be
seen that the goodwill arising on acquisition of Entity B is determined as difference between
consideration paid i.e. Rs 6,000 and Entity ARss share in fair value of net assets of Entity B on

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date of acquisition i.e. 60% of Rs 6,000 = Rs 6,000 minus Rs 3,600 = Rs 2,400. The fair value of
net assets after the date of acquisition (i.e. Rs 12,000 in this illustration) is not relevant for
accounting purposes.

Question 21

ICAI Illustration

MN Ltd. was holding 80% stake in UV Ltd. Now, MN Ltd. has disposed of the entire stake in
UV Ltd. in two different transactions as follows:

➢ Transaction 1: Sale of 25% stake for a cash consideration of Rs 2,50,000

➢ Transaction 2: Sale of 55% stake for a cash consideration of Rs 5,50,000

Both the transactions have happened within a period of one month. In accordance with the
guidance given in Ind AS 110, both the transactions have to be accounted as a single
transaction.

The net assets of UV Ltd. and non-controlling interest on the date of both thetransactions
was Rs 9,00,000 and Rs 1,80,000 respectively (assuming there were noearnings between the
period of two transactions).

How MN Ltd. should account the transaction?

(Study material)

Answer

MN Ltd. will account for the transaction as follows:

Rs Rs

[Link]
Recognise:

Fair value of consideration (2,50,000 + 5,50,000) 8,00,000

Derecognise:

Net assets of UV Ltd. (9,00,000)

Non-controlling interest 1,80,000 (7,20,000)

Gain to be recorded in profit or loss 80,000

If MN Ltd. loses control over UV Ltd. on the date of transaction 1, then the above gain is
recorded on the date of transaction 1 and MN Ltd. will stop consolidating UV Ltd. from that
date. The consideration of Rs 5,50,000 receivable in transaction 2 will be shown as
consideration receivable. If MN Ltd. loses control over UV Ltd. on the date of transaction 2,
then the above gain is recorded on the date of transaction 2 and MN Ltd. will stop consolidating
UV Ltd. From that date. The consideration of Rs 2,50,000 received in transaction 1 will be
shown as advance consideration received.

Topic 4 : Intra-group Transactions & Eliminations

Question 22

ICAI Illustration

A parent owns 60% of a subsidiary. The subsidiary sells some inventory to the parent for Rs
35,000 and makes a profit of Rs 15,000 on the sale. The inventory is in the parentRss balance
sheet at the year end. Examine the treatment of intra-group transaction and pass the
necessary journal entry

[Link]
 (Study material)

Answer

The parent must eliminate 100% of the unrealized profit on consolidation. The inventory will,
therefore, be carried in the groupRss balance sheet at Rs20,000 (Rs35,000 -Rs15,000). The
consolidated income statement will show a corresponding reduction in profit of Rs 15,000.

Rs 000 Rs 000

Dr. Cr.

Consolidated revenue Dr. 35

To Cost of sales 20

To Inventory 15

The reduction of group profit of Rs 15,000 is allocated between the parent company and non-
controlling interest in the ratio of their interests 60% and 40%.

Question 23

ICAI Illustration

A Ltd, a parent company sold goods costing Rs Rs200 lakh to its 80% subsidiary B Ltd. At Rs
240 lakh. 50% of these goods are lying at its stock. B Ltd. Has measured this inventory at cost
i.e. at Rs 120 lakh. Show the necessary adjustment in the consolidated financial statements
(CFS). Assume 30% tax rate.

(Study material)

Answer

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A Ltd. shall reduce the inventories of Rs 120 lakh of B Ltd., by Rs 20 lakh in CFS. This will
increase expenses and reduce consolidated profit by Rs 20 lakh. Lt shall also create deferred tax
asset of Rs 6 lakh since accounting base of inventories (Rs 100 lakh) is lower than its tax base
(Rs 120 lakh).

Question 24

ICAI Illustration

Ram Ltd., a parent company purchased goods costing Rs 100 lakh from its 80% subsidiary
Shyam Ltd. At Rs 120 lakh. 50% of these goods are lying at the godown. Ram Ltd. Has
measured this inventory at cost i.e. at Rs 60 lakh. Show the necessary adjustment in the
consolidated financial statements (CFS). Assume 30% tax rate.

(Study material)

Answer

Ram Ltd. shall reduce the inventories of Rs 60 lakh of Shyam Ltd., by Rs 10 lakh in CFS This will
increase expenses and reduce consolidated profit by Rs 10 lakh. Lt shall also create deferred tax
asset of Rs 3 lakh since accounting base of inventories (Rs 50 lakh) is lower than its tax base (Rs
60 lakh).

Question 25

ICAI Illustration

A Ltd. (which is involved in the business of selling capital equipment) a parent company sold a
capital equipment costing Rs 100 lakh to its 80% subsidiary B Ltd. At Rs 120 lakh. The capital

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equipment is recorded as PPE by B Ltd. The useful life of the PPE on the date of transfer was
10 years. Show the necessary adjustment in the consolidated financial statements (CFS).

(Study material)

Answer

A Ltd. shall reduce the value of PPE of Rs 120 lakh of B Ltd., by Rs 20 lakh in CFS This will
increase expenses and reduce consolidated profit by Rs 20 lakh. Further, A Ltd. Should also
reduce the depreciation charge of B Ltd. to the extent of value of PPE reduced as above. Hence,
A Ltd. should reduce the depreciation by Rs 2 lakh (Rs 20 lakh ÷ 10 years). Further, the sales and
cost of goods sold recorded by parent A Ltd. shall also be eliminated.

The double entry on consolidation is as follows:

Rslakh Rslakh

Dr. Cr.

Consolidated revenue Dr. 120

To Cost of sales 100

To PPE 18

To Depreciation 2

Topic 5 : Loss of Control / Disposal of Subsidiary

Question 26

[Link]
ICAI Illustration

A parent purchased 80% interest in a subsidiary for Rs 1,60,000 on 1 April 20X1 when the fair
value of the subsidiaryRss net assets was Rs 1,75,000. Goodwill of Rs 20,000 arose on
consolidation under the partial goodwill method. An impairment of goodwill of Rs 8,000 was
charged in the consolidated financial statements for year ended 31 March 20X3. No other
impairment charges have been recorded. The parent sold its investment in the subsidiary on
31 March 20X4 for Rs 2,00,000. The book value of the subsidiaryRss net assets in the
consolidated financial statements on the date of the sale was Rs 2,25,000 (not including
goodwill of Rs 12,000). When the subsidiary met the criteria to be classified as held for sale
under Ind AS 105, no write off was required because the expected fair value less cost to sell
(of 100% of the subsidiary) was greater than the carrying value.

The parent carried the investment in the subsidiary in its separate financial statements at
cost, as permitted by Ind AS 27. Calculate gain or loss on disposal of subsidiary in parentRss
separate and consolidated financial statements as on 31st March 20X4.

(Study material)

Answer

The parentRss separate statement of profit and loss for 20X3-20X4 would show a gain on the
sale of investment of Rs 40,000 calculated as follow:

Rs 000

Sales proceeds 200

Less: Cost of investment in subsidiary (160)

Gain on sale in parentRss account 40

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However, the groupRss statement of profit & loss for 20X3-20X4 would show a gain on the sale
of subsidiary of Rs 8,000 calculated as follows:

Rs 000 Rs 000

Sales proceeds 200

Less: Share of net assets at date of disposal (Rs 2,25,000 80%) (180)

Goodwill on consolidation at date of sale (W.N.) (12) (192)

Gain on sale in groupRss account 8

Working note

The goodwill on consolidation (assuming partial goodwill method) is calculated as

follows:

Rs 000 Rs 000

Fair value of consideration at the date of acquisition 35 160

Non- controlling interest measured at proportionate share

of the

acquireeRss identifiable net assets (1,75,000 20%)

Less: Fair value of net assets of subsidiary at date of (175) (140)

acquisition

Goodwill arising on consolidation 20

Impairment at 31 March 20X3 (8)

Goodwill at 31 March 20X4 12

[Link]
Question 27

ICAI Illustration

AT Ltd. Purchased a 100% subsidiary for Rs 50,00,000 on 31st March 20X1 when the fair value
of the net assets of BT Ltd. Was Rs 40,00,000. Therefore, goodwill is Rs 10,00,000. AT Ltd. Sold
60% of its investment in BT Ltd. On 31st March 20X3 for Rs 67,50,000, leaving the AT Ltd.
With 40% and significant influence. At the date of disposal, the carrying value of net assets of
BT Ltd. Excluding goodwill is Rs 80,00,000. Assume the fair value of the investment in
associate BT Ltd. Retained is proportionate to the fair value of the 60% sold, that is Rs 45,00
000. Calculate gain or loss on sale of proportion of BT Ltd. In AT [Link] separate and
consolidated financial statements as on 31st March 20X3.

(Study material)

Answer

AT [Link] standalone statement for profit or loss of 20X2-20X3 would show a gain on thesale
of investment of a Rs 37,50,000 calculated as follows:

Rs lakh

Sales proceeds 67.5

Less: Cost of investment in subsidiary (Rs 50,00,000 * 60%) (30.0)

Gain on sale in parentRss account 37.5

In the consolidated financial statements, the group will calculate the gain or loss on disposal
differently. The carrying amount of all of the assets including goodwill is derecognized when
control is lost. This is compared to the proceeds received and the fair value of the investment
retained.

[Link]
The gain on the disposal will, therefore, be calculated as follows:

Rs lakh

Sales proceeds 67.5

Fair value of 40%interest retained 45.0

112.5

Less: Net assets disposed, including goodwill (80,00,000+ 10,00,000) (90.0)

Gain on sale in the groupRss financial statements 22.5

The gain on loss of control would be recorded in consolidated statement of profit and loss. The
gain or loss includes the gain of Rs 13,50,000 [Rs 67,50,000 – (Rs 90,00,000 60%)] on the
portion sold. However, it also includes a gain on remeasurement of the 40% retained interest of
Rs 9,00,000 (Rs 36,00,000* to Rs 45,00,000). The entity will need to disclose the portion of the
gain that is attributable to remeasuring any remaining interest to fair value, that is, Rs 9,00,000.
* 90,00,000 40%= 36,00,000

Question 28

ICAI Illustration

The facts of this illustration are same per the above Illustration, except the group AT Ltd.
Disposes of a 90% interest for Rs 85,50,000 leaving the AT Ltd. With a 10% investment. The
fair value of the remaining interest is Rs 9,50,000 (assumed for simplicity to be pro rata to the
fair value of the 90% sold) Calculate gain or loss on sale of proportion of BT Ltd. In AT [Link]
separate and consolidated financial statements as on 31st March 20X3.

(Study material)

[Link]
Answer

The parentRss AT Ltd. income statement in its separate financial statements for 20X2- 20X3
would show a gain on the sale of the investment of Rs 40,50,000 calculated as follows:

Rs lakh

Sales proceeds 85.5

Less: Cost of investment in subsidiary (Rs 50,00,000 * 90%) (45.0)

Gain on sale in parentRss account 40.5

In the consolidated financial statements, all of the assets, including goodwill are derecognized
when control is lost. This is compared to the proceeds received and the fair value of the
investment retained.

Rs lakh

Sales proceeds 85.5

Fair value of 10%interest retained 9.5

95.0

Less: Net assets disposed, including goodwill (80,00,000 + 10,00,000) (90.0)

Gain on sale in the groupRss financial statements 5.0

The gain on loss of control would be recorded in profit or loss. The gain or loss includes the gain
of Rs 4,50,000 related to the 90% portion sold [Rs85,50,000 – (Rs90,00,000 x 90%)] as well as Rs
50,000 related to the remeasurement of fair value of 10% retained interest (Rs 9,00,000 to Rs
9,50,000).

[Link]
Topic 6 : Accounting Policies & Presentation Issues

Question 29

ICAI Illustration

PQR Ltd. Is the subsidiary company of MNC Ltd. In the individual financial statements
prepared in accordance with Ind AS, PQR Ltd. Has adopted Straightline method (SLM) of
depreciation and MNC Ltd. Has adopted Written-down value method (WDV) for depreciating
its property, plant and equipment. As per Ind AS 110, Consolidated Financial Statements, a
parent shall prepare consolidated financial statements using uniform accounting policies for
like transactions and other events in similar circumstances.

How will these property, plant and equipment be depreciated in the consolidated financial
statements of MNC Ltd. Prepared as per lnd AS?

(Study material)

Answer

As per paragraph 60 and 61 of Ind AS 16, RsProperty, Plant and EquipmentRs, a change in the
method of depreciation shall be accounted for as a change in an accounting estimate as per lnd
AS 8 RsAccounting Policies, Changes in Accounting Estimates and ErrorsRs.

Therefore, the selection of the method of depreciation is an accounting estimate and not an
accounting policy.

The entity should select the method that most closely reflects the expected pattern of
consumption of the future economic benefits embodied in the asset. That method should be
applied consistently from period to period unless there is a change in the expected pattern of
consumption of those future economic benefits in separate financial statements as well as
consolidated financial statements.

[Link]
Therefore, there can be different methods of estimating depreciation for property, plant and
equipment, if their expected pattern of consumption is different. The method once selected in
the individual financial statements of the subsidiary should not be changed while preparing the
consolidated financial statements.

Accordingly, in the given case, the property, plant and equipment of PQR Ltd. (subsidiary
company) may be depreciated using straight line method and property, plant and equipment of
parent company (MNC Ltd.) may be depreciated using written down value method, if such
method closely reflects the expected pattern of consumption of future economic benefits
embodied in the respective assets.

Question 30

ICAI Illustration

H Limited has a subsidiary, S Limited and an associate, A Limited. The three companies are
engaged in different lines of business.

These companies are using the following cost formulas for their valuation in accordance with
Ind AS 2 RsInventoriesRs.

Name of the Company Cost formula used

H Limited FIFO

S Limited, A Limited Weighted average cost

Whether H Limited is required to value inventories of S Limited and A Limited also using FIFO
formula in preparing its consolidated financial statements?

(Study material)

[Link]
Answer

Paragraph 19 of Ind AS 110 states that a parent shall prepare consolidated financial statements
using uniform accounting policies for like transactions and other events in similar
circumstances.

Paragraph B87 of Ind AS 110 states that if a member of the group uses accounting policies other
than those adopted in the consolidated financial statements for like transactions and events in
similar circumstances, appropriate adjustments are made to that group memberRss financial
statements in preparing the consolidated financial statements to ensure conformity with the
groupRss accounting policies. Lt may be noted that the above mentioned paragraphs require an
entity to apply uniform accounting policies “for like transactions and events in similar
circumstances”. If any member of the group follows a different accounting policy for like
transactions and events in similar circumstances, appropriate adjustments are to be made in
preparing consolidated financial statements Paragraph 5 of Ind AS 8 defines accounting policies
as “the specific principles, bases, conventions, rules and practices applied by an entity in
preparing and presenting financial statements.”

Ind AS 2 requires inventories to be measured at the lower of cost and net realizable value.

Paragraph 25 of Ind AS 2 states that the cost of inventories shall be assigned by using FIFO or
weighted average cost formula. An entity shall use the same cost formula for all inventories
having a similar nature and use to the entity. For inventories with a different nature or use,
different cost formulas may be justified. Elaborating on the requirements of paragraph 25,
paragraph 26 of Ind AS 2 illustrates that inventories used in one operating segment may have a
use to the entity different from the same type of inventories used in another operating
segment.

However, a difference in geographical location of inventories (or in the respective tax rules), by
itself, is not sufficient to justify the use of different cost formulas.

[Link]
Paragraph 36(a) of Ind AS 2 requires disclosure of “the accounting policies adopted in
measuring inventories, including the cost formula used”. Thus, as per Ind AS 2, the cost formula
applied in valuing inventories is also an accounting policy. As mentioned earlier, as per Ind AS 2,
different cost formulas may be justified for inventories of a different nature or use. Thus, if
inventories of S Limited and A Limited differ in nature or use from inventories of H Limited,
then use of cost formula (weighted average cost) different from that applied in respect of
inventories of H Limited (FIFO) in consolidated financial statements may be justified. In other
words, in such a case, no adjustment needs to be made to align the cost formula applied by S
Limited and A Limited to cost formula applied by H Limited.

Question 31

ICAI Illustration

How should assets and liabilities be classified into current or non-current in consolidated
financial statements when parent and subsidiary have different reporting dates?

(Study material)

Answer

Paragraphs B92 and B93 of Ind AS 110 require subsidiaries with reporting period end different
from parent, to provide additional information or details of significant transactions or events if
it is impracticable to provide additional information to enable the parent entity to consolidate
such financial information at groupRss reporting period end.

The appropriate classification of the assets and liabilities as current or non-current in the
consolidated financial statements has to be determined by reference to the reporting period
end of the group. Accordingly, when a subsidiaryRss financial statements are for a different
reporting period end, it is necessary to review the subsidiaryRss balance sheet to ensure that

[Link]
items are correctly classified as current or non-current as at the end of the groupRss reporting
period.

Question 32

ICAI Illustration

A Limited, an Indian Company has a foreign subsidiary, B Inc. Subsidiary B Inc. has taken a
long term loan from a foreign bank, which is repayable after the year 20X9. However, during
the year ended 31st March, 20X2, it breached one of the conditions of the loan, as a
consequence of which the loan became repayable on demand on the reporting date.
Subsequent to year end but before the approval of the financial statements, B Inc. rectified
the breach and the bank agreed not to demand repayment and to let the loan run for its
remaining period to maturity as per the original loan terms. While preparing its standalone
financial statements as per IFRS, B Inc. has classified this loan as a current liability in
accordance with IAS 1 RsPresentation of Financial StatementsRs.

Whether A limited is required to classify such loan as current while preparing its consolidated
financial statement under Ind AS?

(Study material)

Answer

As per paragraph 74 of Ind AS 1, where there is a breach of a material provision of a long-term

loan arrangement on or before the end of the reporting period with the effect that the liability
becomes payable on demand on the reporting date, the entity does not classify the liability as
current, if the lender agreed, after the reporting period and before the approval of the financial
statements for issue, not to demand payment as a consequence of the breach.

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The above position under Ind AS 1 differs from the corresponding position under IAS 1. As per
paragraph 74 of IAS 1, when an entity breaches a provision of a long-term loan arrangement on
or before the end of the reporting period with the effect that the liability becomes payable on
demand, it classifies the liability as current, even if the lender agreed, after the reporting period
and before the recognized on of the financial statements for issue, not to demand payment as a
consequence of the breach. An entity classifies the liability as current because, at the end of the
reporting period, it does not have an unconditional right to defer its settlement for at least
twelve months after that date.

Accordingly, the loan liability recognized as current liability by B Inc. in its standalone financial
statements prepared as per IFRS, should be aligned as per Ind AS in the consolidated financial
statements of A Limited and should be classified as non-current in the consolidated financial
statements of A Limited in accordance with lnd AS 1.

Topic 7 : Comprehensive Case Study (Consolidated Balance Sheet)

Question 33

ICAI Illustration

Prepare the consolidated Balance Sheet as on 31st March, 20X2 of a group of companies
comprising P Limited, S Limited and SS Limited. Their balance sheets on that date are given
below:

P Ltd. S Ltd. SS Ltd.

Assets

Non-Current Assets

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Property, Plant and Equipment 320 360 300
Investment:

32 lakh shares in S Ltd. 340

24 lakh shares in SS Ltd. 280

Current Assets

Inventories 220 70 50

Financial Assets 260 100 220

Trade Receivables 72 - 30

Bills Receivables 228 40 40

Cash in hand and at Bank 1440 850 640

Equity and Liabilities

ShareholderRss Equity

Share Capital (Rs 10 per share) 600 400 320

Other Equity

Reserves 180 100 80

Retained earnings 160 50 60

Current Liabilities

Financial Liabilities

Trade Payables 470 230 180

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Bills Payable

P Ltd. 70

SS Ltd. 30 - -

1440 850 640

The following additional information is available:

(i) P Ltd. Holds 80% shares in S Ltd. And S Ltd. Holds 75% shares in SS Ltd. Their holdings were
acquired on 30th September, 20X1.

(ii) The business activities of all the companies are not seasonal in nature and therefore, it
can be assumed that profits are earned evenly throughout the year.

(iii) On 1st April, 20X1 the following balances stood in the books of S Ltd. And SS Ltd.

Rs in Lakhs

S Limited SS Limited

Reserves 80 60

Retained earnings 20 30

(iv) Rs 10 lakhs included in the inventory figure of S ltd, is inventory which has been
purchased from SS Ltd at cost plus 25%.

(v) The parent company has adopted an accounting policy to measure noncontrolling interest
at fair value (quoted market price) applying Ind AS 103.

Assume market prices of S Ltd and SS Ltd are the same as respective face values.

(Study material)

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Answer

Consolidated Balance Sheet of the Group as on 31st March, 20X2

Particulars Note Rs in lakh

No.

ASSETS

Non-current assets

Property, plant and equipment 1 980

Current assets

(a) Inventory 2 338

(b) Financial assets

Trade receivable 3 580

Bills receivable 4 2

Cash and cash equipment 5 308

Total assets 2,208

EQUITY & LIABILITIES

Equity attributable to owners of parent

Share Capital 600

Other Equity

Reserve (W.N.5) 194

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Retained Earnings (W.N.5) 179.8

Capital Reserve (W.N.3) 188

Non-controlling interests (W.N.4) 166.2

Total equity 1328

LIABILITIES

Non-current liabilities Nil

Current liabilities

(a) Financial Liabilities

(i) Trade payables 6 880

Total liabilities 880

Total equity and liabilities 2,208

Notes to Accounts

(Rs in lakh) (Rs in lakh)

1. Property Plant & Equipment

P Ltd. 320

S Ltd. 360

SS Ltd. 300 980

2. Inventories

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 P Ltd. 220

S Ltd. (70-2) 68

SS Ltd. 50 338

3. Trade Receivable

P Ltd. 260

S Ltd. 100

SS Ltd. 220 580

4. Bills Receivable

P Ltd. (72-70) 2

S Ltd. (30-30) - 2

5. Cash & Cash equivalents

P Ltd. 228

S Ltd. 40

SS Ltd. 40 308

6. Trade Payables

P Ltd. 470

S Ltd. 230

SS Ltd. 180 880

Working Notes:

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1. Analysis of Reserves and Surplus

(Rs in lakh) (Rs in lakh)

S Ltd. SS Ltd.

Reserves as on 31.3.20X1 80 60

Increase during the year 20X1-20X2 20 20

Increase for the half year till 30.9.20X1 10 10

Balance as on 30.9.20X1 (A) 90 70

Total balance as on 31.3.20X2 100 80

Post-acquisition balance 10 10

Retained Earnings as on 31.3.20X1 20 30

Increase during the year 20X1-20X2 30 30

Increase for the half year till 30.9.20X1 15 15

Balance as on 30.0.20X1 (B) 35 45

Total balance as on 31.3.20X2 50 60

Post-acquisition balance 15 15

Less: Unrealised Gain on inventories (10 ÷ - (2)

100 x 25)

Post-acquisition balance for CFS 15 13

Total balance on the acquisition date 125 115

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ie.30.9.20X1 (A+B)

1. Calculation of Effective Interest of P Ltd. in SS Ltd.

Acquisition by P Ltd. In S Ltd. = 80%

Acquisition by S Ltd. In SS Ltd. = 75% Acquisition by Group in SS

Ltd. (80% x 75%) = 60% Non-controlling Interest = 40%

2. Calculation of Goodwill / Capital Reserve on the acquisition

S Ltd. SS Ltd.

Investment or consideration 340 (280 80%) 224

Add: NCI at Fair value

(400 20%) 80

(320 40%) - 128

420 352

Less: Identifiable net assets (Share Capital + (400+125) (525) (320+115) (435)
Increase in the Reserves and Surplus till acquisition
date)

Capital Reserve 105 83

Total Capital Reserve (105 + 83) 188

3. Calculation of Non-Controlling Interest

S Ltd. SS Ltd.

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At Fair Value (See Note 3) 80 128

Add: Post Acquisition Reserves (See Note 1) (10 20%) 2 (10 40%) 4

Add: Post Acquisition Retained Earnings (See Note 1) (15 20%) 3 (13 40%) 5.2

Less: NCI share of investment in SS Ltd. (280 20%) (56)* -

29 137.2

Total (29 + 137.2) 166.2

*Note: The Non-controlling interest in S Ltd. Will take its proportion in SS Ltd. So they have to
bear their proportion in the investment by S Ltd. (in SS Ltd.) also.

4. Calculation of Consolidated Other Equity

Reserves Retained Earnings

P Ltd. 180 160

Add: Share in S Ltd. (10 80%) 8 (15 80%) 12

Add: Share in SS Ltd. (10 60%) 6 (13 60%) 7.8

194 179.8

Note: It is assumed date the sale of goods by SS Ltd. Is done after acquisition of shares by S Ltd.
Alternatively, it may be assumed that the sale has either been done before acquisition of shares
by S Ltd. In SS Ltd. Or sale has been throughout the year. Accordingly, the treatment for
unrealized gain may vary.

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 Chapter 13 Unit-5

Ind AS 111: “Joint Arrangements

Topic 1 : Definition and Identification of Joint Arrangement

Question 1

ICAI Illustration

ABC Ltd. and DEF Ltd. have entered into a contractual arrangement to manufacture a product
and sell that in retail market. As per the terms of the arrangement, decisions about the
relevant activities require consent of both the parties. The parties share the returns of the
arrangement equally amongst them. Whether the arrangement can be treated as joint
arrangement?

(Study material)

Answer

The arrangement is a joint arrangement since both the parties are bound by the contractual
arrangement and the decisions about relevant activities require unanimous consent of both the
parties.

Question 2

ICAI Illustration

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X Ltd. and Y Ltd. entered into a contractual arrangement to buy a piece of land to construct
residential units on the said land and sell to customers. As per the arrangement, the land will
be further divided into three equal parts. Out of the three parts, both the parties will be
responsible to construct residential units on one part each by taking decision about relevant
activities independently and they will entitled for the returns generated from their own part
of land. The third part of the land will be jointing managed by both the parties requiring
unanimous consent of both the parties for all the decision making. Determine whether the
arrangement is a joint arrangement or not.

(Study material)

Answer

The two parts of the land which are required to be managed by both the parties independently
on their own would not fall within the definition of a joint arrangement. However, the third
part of the land which is required to be managed by both the parties with unanimous decision
making would meet the definition of a joint arrangement.

Question 3

ICAI Illustration

P Ltd. and Q Ltd. are two construction entities and they have entered into a contractual
arrangement to jointly construct a metro rail project. The construction of metro rail project
involves various activities such as construction of infrastructure (like metro station, control
room, pillars at the centre of the road, etc.) for the metro, laying of the tracks, acquiring of
the coaches of the metro, etc. The total length of the metro line to be constructed is 50 kms.
As per the arrangement, both the parties are responsible to construct 25 kms each. Each
party is required to incur its own cost, use its own assets, incur the liability and has right to
the revenue from their own part of the work. Determine whether the arrangement is a joint
operation or not?

[Link]
 (Study material)

Answer

The arrangement is a joint operation since the arrangement is not structured through a
separate vehicle and each party has rights to the assets, and obligations for the liabilities
relating to their own part of work in the joint arrangement.

Question 4

ICAI Illustration

RS Ltd. and MN Ltd. entered into a contractual arrangement to run a business of providing
cars of hire. The cars will be owned by both the parties jointly. The expenses to run the car
(like driver salary, petrol, maintenance, insurance, etc.) and revenues from the business will
be shared between both the parties as agreed in the contractual arrangement. Determine
whether the arrangement is a joint operation or not?

(Study material)

Answer

The arrangement is a joint operation since the arrangement is not structured through a
separate vehicle.

Topic 2 : Joint Control – Voting Rights and Consent Requirements

Question 5

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ICAI Illustration

PQR Ltd. and XYZ Ltd. established an arrangement in which each has 50% of the voting rights
and the contractual arrangement between them specifies that at least 51% of the voting
rights are required to make decisions about the relevant activities. Whether the arrangement
can be treated as joint arrangement?

(Study material)

Answer

In this case, the parties have implicitly agreed that they have joint control of the arrangement
because decisions about the relevant activities cannot be made without both parties agreeing.

Question 6

ICAI Illustration

A Ltd., B Ltd. and C Ltd. established an arrangement whereby A Ltd. has 50% of the voting
rights in the arrangement, B Ltd. has 30% and C has 20%. The contractual arrangement
between A Ltd., B Ltd. and C Ltd. specifies that at least 75% of the voting rights are required
to make decisions about the relevant activities of the arrangement. Whether the
arrangement can be treated as joint arrangement?

(Study material)

Answer

In this case, even though A can block any decision, it does not control the arrangement because
it needs the agreement of B. The terms of their contractual arrangement requiring at least 75%
of the voting rights to make decisions about the relevant activities imply that A Ltd. and B Ltd.

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have joint control of the arrangement because decisions about the relevant activities of the
arrangement cannot be made without both A Ltd. And B Ltd. agreeing.

Question 7

ICAI Illustration

An arrangement has three parties: X Ltd. has 50% of the voting rights in the arrangement and
Y Ltd. and Z Ltd. each have 25%. The contractual arrangement between them specifies that at
least 75% of the voting rights are required to make decisions about the relevant activities of
the arrangement. Whether the arrangement can be treated as joint arrangement?

(Study material)

Answer

In this case, even though X Ltd. can block any decision, it does not control the arrangement
because it needs the agreement of either Y Ltd. or Z Ltd. In this question, X Ltd., Y Ltd. and Z Ltd.
collectively control the arrangement. However, there is more than one combination of parties
that can agree to reach 75% of the voting rights (i.e. either X Ltd. and Y Ltd. or X Ltd. and Z Ltd.).
In such a situation, to be a joint arrangement the contractual arrangement between the parties
would need to specify which combination of the parties is required to agree unanimously to
decisions about the relevant activities of the arrangement.

Question 8

ICAI Illustration

An arrangement has A Ltd. and B Ltd. each having 35% of the voting rights in the arrangement
with the remaining 30% being widely dispersed. Decisions about the relevant activities

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require approval by a majority of the voting rights. Whether the arrangement can be treated
as joint arrangement?

(Study material)

Answer

A Ltd. and B Ltd. have joint control of the arrangement only if the contractual arrangement
specifies that decisions about the relevant activities of the arrangement require both A Ltd. and
B Ltd. agreeing

Question 9

ICAI Illustration

Electronics Ltd. is established by two investors R Ltd. and S Ltd. The investors are holding 60%
and 40% of the voting power of the investee respectively. As per the articles of association of
Electronics Ltd., both the investors have right to appoint 2 directors each on the board of
Electronics Ltd. The directors appointed by each investor will act in accordance with the
directions of the investor who has appointed such director. Further, articles of association
provides that the decision about relevant activities of the entity will be taken by board of
directors through simple majority. Determine whether Electronics Ltd. is controlled by a
single investor or is jointly controlled by both the investors.

(Study material)

Answer

The decisions about relevant activities are required to be taken by majority of board of
directors. Hence, out of the 4 directors, at least 3 directors need to agree to pass any decision.
Accordingly, the directors appointed by any one investor cannot take the decisions
independently without the consent of at least one director appointed by other investor. Hence,

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Electronics Ltd. is jointly controlled by both the investors. R Ltd. Holding majority of the voting
rights is not relevant in this case since the voting rights do not given power over the relevant
activities of the investee.

Question 10

ICAI Illustration

MN Software Ltd. is established by two investors M Ltd. and N Ltd. Both the investors are
holding 50% of the voting power each of the investee. As per the articles of association of MN
Software Ltd., both the investors have right to appoint 2 directors each on the board of the
company. The directors appointed by each investor will act in accordance with the directions
of the investor who has appointed such director. The decision about relevant activities of the
entity will be taken by board of directors through simple majority. Articles of association also
provides that M Ltd. has right to appoint the chairman of the board who will have right of a
casting vote in case of a deadlock situation. Determine whether MN Software Ltd. is jointly
controlled by both the investors.

(Study material)

Answer

The decisions about relevant activities are required to be taken by majority of board of
directors. Hence, out of the 4 directors, at least 3 directors need to agree to pass any decision.
Accordingly, the directors appointed by any one investor cannot take the decisions
independently without the consent of at least one director appointed by other investor.
However, the chairman of the board has right for a casting vote in case of a deadlock in the
board. Hence, M Ltd. has the ability to take decisions related to relevant activities through 2
votes by directors and 1 casting vote by chairman of the board. Therefore, M Ltd. individually
has power over MN Software Ltd. and there is no joint control.

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Question 11

ICAI Illustration

ABC Ltd. is established by two investors AB Ltd. and BC Ltd. Each investor is holding 50% of
the voting power of the investee. As per the articles of association of ABC Ltd., AB Ltd. and BC
Ltd. have right to appoint 3 directors and 2 directors respectively on the board of ABC Ltd.
The directors appointed by each investor will act in accordance with the directions of the
investor who has appointed such director. Further, articles of association provides that the
decision about relevant activities of the entity will be taken by board of directors through
simple majority. Determine whether ABC Ltd. Is jointly controlled by both the investors.

(Study material)

Answer

The decisions about relevant activities are required to be taken by majority of board of
directors. Hence, out of the 5 directors, at least 3 directors need to agree to pass any decision.
Accordingly, the directors appointed by AB Ltd. can take the decisions independently without
the consent of any of the directors appointed by BC Ltd. Hence, ABC Ltd. is not jointly
controlled by both the investors. Equal voting rights held by both the investors is not relevant in
this case since the voting rights do not given power over the relevant activities of the investee.

Topic 3 : Legal Form vs Contractual Terms in Determining Joint Operation or

Joint Venture

Question 12

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ICAI Illustration

Entity X and Entity Y are engaged in the business of Engineering, Procurement and
Construction (EPC) for its customers. Both the parties have jointly won a contract from a
customer for executing an EPC contract and for that the parties have established a new entity
XY Ltd. The contract will be executed through XY Ltd. All the assets required for the execution
of the contract will be acquired and liabilities relating to the execution will be incurred by XY
Ltd. in its own name. Entity X and entity Y will have share in the net profits of XY Ltd. in the
ratio of their shareholding i.e. 50% each. Assuming that the arrangement meets the definition
of a joint arrangement, determine whether the joint arrangement is a joint operation or a
joint venture?

(Study material)

Answer

The legal form of the separate vehicle is a company. The legal form of the separate vehicle
causes the separate vehicle to be considered in its own right. Hence, it indicates that the
arrangement is a joint venture. In this case, the parties should further evaluate the terms of
contractual arrangements and other relevant facts and circumstance to conclude whether the
arrangement is a joint venture or a joint operation

Question 13

ICAI Illustration

Two entities have established a partnership firm with each party having 50% share in the net
profits of the firm. Assuming that the arrangement meets the definition of a joint
arrangement, determine whether the joint arrangement is a joint operation or a joint
venture?

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 (Study material)

Answer

In this case, the parties to the arrangement should evaluate whether the legal form creates
separation between the partners and the partnership firm. If the parties conclude that they
have rights in the assets and obligations for the liabilities relating to the partnership firm then
this would be a joint operation. If the assessment of legal form of the partnership firm indicates
that the firm is a joint operation then there is no need to evaluate any other factors and it is
concluded that the partnership firm is a joint operation.

Question 14

ICAI Illustration

Continuing with the illustration 16 above, assume that Entity X and Entity Y have entered into
a separate agreement whereby they have agreed that each party has an interest in the assets
of the XY Ltd. and each party is liable for the liabilities of XY Ltd. in a specified proportion.
Determine whether the joint arrangement is a joint operation or a joint venture?

(Study material)

Answer

In this case, the terms of the separate agreement may cause the arrangement to be a joint
operation.

Question 15

ICAI Illustration

Two parties structure a joint arrangement in an incorporated entity i.e. Entity A in which each
party has a 50% ownership interest. The purpose of the arrangement is to manufacture

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materials required by the parties for their own, individual manufacturing processes. The
arrangement ensures that the parties operate the facility that produces the materials to the
quantity and quality specifications of the parties. The legal form of Entity A (an incorporated
entity) through which the activities are conducted initially indicates that the assets and
liabilities held in Entity A are the assets and liabilities of Entity A. The contractual
arrangement between the parties does not specify that the parties have rights to the assets
or obligations for the liabilities of Entity A. There are following other relevant facts and
circumstances applicable in this case:

• The parties agreed to purchase all the output produced by Entity A in a ratio of 50:50. Entity

A cannot sell any of the output to third parties, unless this is approved by the two parties to
the arrangement. Because the purpose of the arrangement is to provide the parties with
output they require, such sales to third parties are expected to be uncommon and not
material.

• The price of the output sold to the parties is set by both parties at a level that is designed to
cover the costs of production and administrative expenses incurred by Entity A. On the basis
of this operating model, the arrangement is intended to operate at a break-even level.

Based on the above fact pattern, determine whether the arrangement is a joint operation or
a joint venture?

(Study material)

Answer

The legal form of Entity A and the terms of the contractual arrangement indicate that the
arrangement is a joint venture. However, the other relevant facts and circumstances mentioned
above indicates that:

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• the obligation of the parties to purchase all the output produced by Entity A reflects the
exclusive dependence of Entity A upon the parties for the generation of cash flows and, thus,
the parties have an obligation to fund the settlement of the liabilities of Entity A.

• the fact that the parties have rights to all the output produced by Entity A means that the
parties are consuming, and therefore have rights to, all the economic benefits of the assets of
Entity A.

These facts and circumstances indicate that the arrangement is a joint operation. The
conclusion about the classification of the joint arrangement in these circumstances would not
change if, instead of the parties using their share of the output themselves in a subsequent
manufacturing process, the parties sold their share of the output to third parties.

If the parties changed the terms of the contractual arrangement so that the arrangement was
able to sell output to third parties, this would result in Entity A assuming demand, inventory
and credit risks. In that scenario, such a change in the facts and circumstances would require
reassessment of the classification of the joint arrangement. Such facts and circumstances would
indicate that the arrangement is a joint venture

Question 16

ICAI Illustration

AB Ltd. and CD Ltd. have entered into a framework agreement to manufacture and distribute
a new product i.e. Product X. The two activities to be performed as per the framework
agreement are i) Manufacture of Product X and ii) Distribution of Product X. The
manufacturing of the product will not be done through a separate vehicle. The parties will
purchase the necessary machinery in their joint name. For the distribution of the product, the
parties have established a new entity ABCD Ltd. All the goods manufactured will be sold to
ABCD Ltd. as per price mutually agreed by the parties. Then ABCD Ltd. will do the marketing
and distribution of the product. Both the parties will have joint control over ABCD Ltd.

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The legal form of ABCD Ltd. causes it to be considered in its own right (ie the assets and
liabilities held in ACD Ltd. are the assets and liabilities of ABC Ltd. And not the assets and
liabilities of the parties). Further, the contractual arrangement and other relevant facts and
circumstances also do not indicate otherwise. Determine whether various arrangements
under the framework agreement are joint operation or joint venture?

(Study material)

Answer

The manufacturing of Product X is not done through a separate vehicle and the assets used to
manufacture the product are jointly owned by both the parties. Hence, the manufacturing
activity is a joint operation.

The distribution of Product X is done through a separate vehicle i.e. ABCD Ltd. Further, AB Ltd.
and CD Ltd. do not have rights to the assets, and obligations for the liabilities, relating to ABCD
Ltd. Hence ABCD Ltd. is a joint venture.

Topic 4 : Rights to Assets and Obligations for Liabilities

Question 17

ICAI Illustration

P and Q form a joint arrangement PQ using a separate vehicle. P and Q each own 50% of the
capital of PQ. However, the contractual terms of the joint arrangement states that P has the
rights to all of Machinery and the obligation to pay Bank Loan in PQ. P and Q have rights to all
other assets in PQ and obligations for all other liabilities in PQ in proportion to their share of
capital (i.e. 50% each).

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PQ’s balance sheet is as follows:

Balance sheet

Liabilities Rs Assets Rs

Capital 1,50,000 Machinery 2,50,000

Bank Loan 75,000 Cash 50,000

Other Loan 75,000

3,00,000 3,00,000

How should P record in its financial statements its rights and obligations in PQ?

(Study material)

Answer

Under Ind AS 111, P should record the following in its financial statements, to account for its
rights in the assets of PQ and its obligations for the liabilities of PQ.

Machinery 2,50,000

Cash 25,000

Capital 75,000

Bank Loan 75,000

Other Loan 37,500

Question 18

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ICAI Illustration

AB Ltd. and BC Ltd. have established a joint arrangement through a separate vehicle PQR. The
legal form of the separate vehicle does not confer separation between the parties and the
separate vehicle itself. Thus, both the parties have rights to the assets and obligations for the
liabilities of PQR. As neither the contractual terms nor the other facts and circumstances
indicate otherwise, it is concluded that the arrangement is a joint operation and not a joint
venture. Both the parties own 50% each of the equity interest in PQR. However, the
contractual terms of the joint arrangement state that AB Ltd. has the rights to all of Building
No. 1 owned by PQR and the obligation to pay all of the debt owned by PQR to a lender XYZ.
AB Ltd. and BC Ltd. have rights to all other assets of PQR and obligations for all other
liabilities of PQR in proportion of their equity interests (i.e. 50% each)

PQR’s balance sheet is as follows:

Liabilities Rs Assets Rs

Debt owed to XYZ 240 Cash 40

Employee benefit plan obligation 100 Building 1 240

Equity 140 Building 2 200

480 480

How should AB Ltd. record in its financial statements its rights and obligations in PQR?

(Study material)

Answer

Under Ind AS 111, AB Ltd. should record the following in its financial statements, to account for
its rights in the assets of PQR and its obligations for the liabilities of PQR.

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 Rs

Assets

Cash 20

Building 1 * 240

Building 2 100

Liabilities

Debt (third party) ^ 240

Employee benefit plan obligation 50

Equity 70

* Since AB Ltd. has the rights to all of Building No. 1, it records the amount in its entirety.

^ AB Ltd. has obligation for the debt owed by PQR to XYZ in its entirety

Question 19

A Ltd. and B Ltd. are companies registered under the Companies Act, 2013. A Ltd. is an Ind AS
compliant entity and follows year ended March as its financial reporting period.

On 1st April 20X1, they entered into an agreement to jointly engage in the hospitality
business. For this purpose, they formed a partnership firm with the name of M/s. Star Hotel
("the Firm"). Under the relevant laws, the partners and the Firm are not considered as
separate legal entities.

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To regulate the operations of the Firm, A Ltd. and B Ltd. entered into a partnership deed
whose relevant terms and conditions are as follows:

• A Ltd. and B Ltd. shall be the partners of the Firm.

• Consent of both partners shall be required for taking decisions on any matter which may
affect the returns of the business.

• The Firm shall operate a three-storied hotel as follows:

Floor Rights and obligations relating to the floor

Ground floor Both partners shall jointly and equally own the
legal and beneficial ownership of the ground floor
(Ground floor will comprise of reception,
including all of its assets and related liabilities.
lobby, restaurant, laundry division, and
general administration office) All the costs relating to the operation of the
ground floor shall be jointly and equally shared by
both the partners.

First floor A Ltd. shall have legal and beneficial ownership of

the first floor including all of its assets and related
(First floor will comprise of Indian
liabilities.
themed rooms for customers)
The net profit for the period attributable to the
renting of rooms of first floor shall accrue solely
to the account of A Ltd..

Second floor B Ltd. shall have legal and beneficial ownership of

the second floor including all of its assets and
(Second floor will comprise of Italian
related liabilities.
themed rooms for customers)
The net profit for the period attributable to the

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 renting of rooms of second floor shall accrue
solely to the account of B Ltd..

Third floor Both the partners shall jointly and equally own
legal and beneficial ownership of the third floor
(Third floor will comprise of a banquet
including all of its assets and related liabilities.
hall)
The net profit for the period attributable to the
renting of the banquet hall shall accrue equally to
the account of both the partners.

During the first year of operation of the hotel, A Ltd. many time doubted and objected to the
manner in which the guests were preferentially convinced by the reception desk to occupy
the Italian-themed rooms of the second floor.

To avoid the repetitive disputes, on 1st April 20X2, A Ltd. and B Ltd. converted the
partnership firm into a company named Star Hotel Pvt. Ltd. ("the Company"). Under the
relevant laws, the shareholders and the Company are considered as separate legal entities.

To regulate the operations of the Company, A Ltd. and B Ltd. entered into a shareholders’
agreement with the following relevant terms and conditions:

i. A Ltd. and B Ltd. shall transfer their individual rights regarding the respective floors of the
hotel in favour of the Company such that the Company becomes the legal and beneficial
owner thereof.

ii. The Company shall assume all the liabilities of A Ltd. and B Ltd. in relation to the hotel
business.

iii. In consideration of transfer of rights and obligations by A Ltd. and B Ltd. in favour of the
Company, A Ltd. and B Ltd. shall receive equity shares of the Company in equal proportion.

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iv. Each equity share shall entitle the holder thereof one vote in the general meetings of the
Company.

v. The Company's Board shall consist of·6 directors. All the matters in relation to the
operations of the Company, except certain reserved matters, shall be decided by the Board
by a vote of simple majority. In case of equality of votes in respect of any matter other than
the reserved matters, the chairman shall have a casting vote.

[Link] are the Reserved Matters in respect of which decisions shall be taken only by
unanimous consent of all the directors:

a. Approval of the operating plan for each financial year;

b. Capital expenditure exceeding Rs 20 crore in a year;

c. Entering into borrowing arrangements for an amount which is equal to or more than 30%
of the Company's net worth; and

d. Any matter which may affect the returns of the business.

vii. A Ltd. and B Ltd. shall have the right to nominate 3 directors each in the Board. A Ltd. and
B Ltd. shall have the right to replace the directors being nominated by them respectively with
any other directors of their choice. The chairman of the Board shall be nominated by A Ltd.

viii. The profits of the business may be distributed by the Company to the shareholders in the
form of dividends which shall be approved by a simple majority of votes in a general meeting
of the Company.

ix. Shareholders shall be entitled to dividends in the proportion of the share capital held by
them.

x. Upon liquidation of the Company, its net assets, after repayment of all of its liabilities, shall
be distributed to the shareholders in the proportion of share capital held by them.

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xi. During the period 1st April, 20X2 to 31st March, 20X7, A Ltd. shall have the right to sell all
the equity shares held in the Company to B Ltd. at a price which is 10% more than the fair
value determined by an independent valuer. If such right is exercised by A Ltd., B Ltd. shall be
under obligation to purchase the shares in accordance with this clause.

Required

How should the arrangement with B Ltd. be classified and recognised in the financial
statements of A Ltd. for the year ended 31st March, 20X2? Explain the basis of your
conclusion.

Additionally, describe the changes, if any, to the classification and recognition in the
consolidated financial statements of A Ltd. for the year ended 31st March, 20X3.

(MTP May ’25)

Answer 19

As per the terms and conditions of the partnership deed, the consent of both the partners shall
be required for taking decisions on any matter which may affect the returns of the business.
Here, both the partners have joint control over the business of the partnership firm as defined
under Ind AS 111. Therefore, we can conclude that the arrangement between A Ltd. and B Ltd.
is a joint arrangement under Ind AS 111.

Classification of the joint arrangement for the year ended 31st March, 20X2

Para B15 of Ind AS 111 states that the classification of joint arrangements requires the parties
to assess their rights and obligations arising from the arrangement. When making that
assessment, an entity shall consider the following:

(a) the structure of the joint arrangement.

(b) when the joint arrangement is structured through a separate vehicle:

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(i) the legal form of the separate vehicle;

(ii) the terms of the contractual arrangement; and

(iii) when relevant, other facts and circumstances.

Para B24 states that the assessment of the rights and obligations conferred upon the parties by
the legal form of the separate vehicle is sufficient to conclude that the arrangement is a joint
operation only if the parties conduct the joint arrangement in a separate vehicle whose legal
form does not confer separation between the parties and the separate vehicle (ie the assets
and liabilities held in the separate vehicle are the parties’ assets and liabilities).

As per para 15 of Ind AS 111, a joint operation is a joint arrangement whereby the parties that
have joint control of the arrangement have rights to the assets, and obligations for the
liabilities, relating to the arrangement. Those parties are called joint operators.

Accordingly, the joint arrangement is carried out through a separate vehicle M/s. Star Hotel
whose legal form does not confer separation between the parties and the separate vehicle (ie
the assets and liabilities held in vehicle M/s. Star Hotel are the parties’ assets and liabilities ie of
A Ltd. and B Ltd.). This is reinforced by the terms agreed by the parties in their contractual
arrangement, which state that A Ltd. and B Ltd. have rights to the assets, and obligations for the
liabilities relating to the arrangement that is conducted through vehicle M/s. Star Hotel. [As per
para B25 and B28 of Ind AS 111].

Hence, here the joint arrangement is a joint operation.

Recognition in the financial statements of A Ltd. for the year ended 31st March, 20X2

A Ltd. in its financial statements for the year ended 31st March, 20X2 will recognise its share of
the assets and its share of any liabilities resulting from the arrangement (eg-accounts payable
to third parties) on the basis of its agreed participation share. It will also recognise its share of
the revenue and expenses resulting from the hospitality services provided through M/s Star
Hotel.

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First floor that is controlled by A Ltd. shall be accounted for by A Ltd. in its financial statements.

For the two floors (Ground Floor and Third Floor) that are jointly controlled by A Ltd. and B Ltd.,
as per the contractual arrangement, both A Ltd. and B Ltd. will jointly and equally own the legal
and beneficial ownership of assets and related liabilities. Thus, A Ltd. will recognise its 50%
share of the revenue and expenses resulting from these floors.

With respect to second floor, A Ltd. should not account for any items of assets and liabilities,
revenue and expenses in its financial statements.

The assets, liabilities, revenue and expenses should be recognised on a line-by-line basis based
on nature and classification of the respective items and according to the principles of
recognition and measurement prescribed under the respective Ind AS applicable to such items.

Reclassification of the joint arrangement for the year ended 31st March, 20X3

As per para B23 of Ind AS 111, the joint arrangement is carried out through a separate vehicle
whose legal form causes the separate vehicle to be considered in its own right (ie the assets
and liabilities held in the separate vehicle are the assets and liabilities of the separate vehicle
and not the assets and liabilities of the parties).

Since the terms of the contractual arrangement in the formation of company Star Hotel Pvt.
Ltd. does not specify the parties have rights to the assets, or obligations for the liabilities,
relating to the arrangement. Instead, the terms of the contractual arrangement establish that
the parties have rights to the net assets of Star Hotel Pvt. Ltd.

The legal form of the company confers separation between the shareholders and the company.
Further, as per the shareholders’ agreement, the individual assets and liabilities of the business
are legally beneficial to the company rather than the shareholders. Upon liquidation of the
company, its net assets, after repayment of all its liabilities, shall be distributed to the
shareholders in the proportion of share capital held by them. It implies that the shareholders
have rights to the assets of the company. This is a key characteristic of a joint venture.

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The terms and conditions of the shareholders’ agreement do not modify or reverse the rights
and obligations conferred by the legal form of the company.

Therefore, on the basis of the description of terms and conditions of the shareholders’
agreement, there are no other facts and circumstances that indicate that the parties have rights
to substantially all the economic benefits of the assets relating to the arrangement, and that
the parties have an obligation for the liabilities relating to the arrangement.

Hence, the joint arrangement shall be reclassified from a joint operation to a joint venture in
the financial statements of A Ltd. for the financial year ended 31st March, 20X3.

Recognition in the consolidated financial statements of A Ltd. for the year ended 31st March,
20X3

As per Para 24 of Ind AS 111, a joint venturer shall recognise its interest in a joint venture as an
investment and shall account for that investment using the equity method in accordance with
Ind AS 28 ‘Investments in Associates and Joint Ventures’ unless the entity is exempted from
applying the equity method as specified in that standard.

Accordingly, A Ltd. shall recognise its right to the net assets of Star Hotel Pvt. Ltd. as investment
and account for it using the equity method assuming that the right to sell the shares to B Ltd. is
not substantive and will not have any implication on the assessment as it will not alter the joint
arrangement.

Note: Right to sell 50% shares by A Ltd. has been ignored, since the right to exercise the option
rest with A Ltd. and not B Ltd. Hence, B Ltd. is under obligation to buy but do not have potential
voting rights.

Topic 5 : Reclassification from Joint Operation to Joint Venture

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Question 20

ICAI Illustration

Entity R and entity S established a new entity RS Ltd. to construct a national highway and
operate the same for a period of 30 years as per the contract given by government
authorities. As per the articles of association of RS Ltd, the construction of the highway will
be done by entity R and all the decisions related to construction will be taken by entity R
independently. After the construction is over, entity S will operate the highway for the period
of 30 years and all the decisions related to operating of highway will be taken by entity S
independently. However, decisions related to funding and capital structure of RS Ltd. will be
taken by both the parties with unanimous consent. Determine whether RS Ltd. is a joint
arrangement between entity R and entity S?

(Study material)

Answer

In this case, the investors should evaluate which of the decisions about relevant activities can
most significantly affect the returns of RS Ltd. If the decisions related to construction of
highway or operating the highway can affect the returns of the RS Ltd. Most significantly then
the investor directing those decision has power over RS Ltd. and there is no joint arrangement.
However, if the decisions related to funding and capital structure can affect the returns of the
RS Ltd. most significantly then RS Ltd. is a joint arrangement between entity R and entity S.

Topic 6 : Special Cases – Informal Agreements, Protective Rights, Dispute

Resolution

Question 21

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ICAI Illustration

An entity has four investors A, B, C and D holding 10%, 20%, 30% and 40% voting power
respectively. The articles of association requires decisions about relevant activities to be
taken by majority voting rights. However, investor A, B and C have informally agreed to vote
together. This informal agreement has been effective in recent meetings of the investors to
take decisions about relevant activities. Whether A, B and C have joint control over the
entity?

(Study material)

Answer

In this case, three investors have informally agreed to make unanimous decisions. These three
investors together also have majority voting rights in the entity. Hence, investor A, B and C have
joint control over the entity. The agreement between investor A, B and C need not be formally
documented as long as there is evidence of its existence in recent meetings of the investors.

Question 22

ICAI Illustration

D Ltd., E Ltd. and F Ltd. have established a new entity DEF Ltd. As per the arrangement,
unanimous consent of all three parties is required only with respect to decisions related to
change of name of the entity, amendment to constitutional documents of the entity to enter
into a new business, change in the registered office of the entity, etc. Decisions about other
relevant activities require consent of only D Ltd. and E Ltd. Whether F Ltd. is a party with joint
control of the arrangement?

(Study material)

Answer

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Consent of F Ltd. is required only with respect to the fundamental changes in DEF Ltd. Hence
these are protective rights. The decisions about relevant activities are taken by D Ltd. and E Ltd.
Hence, F Ltd. is not a party with joint control of the arrangement.

Question 23

ICAI Illustration

Entity A and Entity B established a contractual arrangement whereby the decision related to
relevant activities are required to be taken by unanimous consent of both the parties.
However, in case of any dispute with any vendor or customer of the arrangement, entity A
has right to take necessary decisions for the resolution of disputes including decisions of
going for the arbitration or filing a suit in court of law. Whether the arrangement is a joint
arrangement?

(Study material)

Answer

The arrangement is a joint arrangement since the contractual arrangement requires decisions
about relevant activities to be taken by unanimous consent of both the parties. The right
available with entity A to take decisions for resolution of disputes will not prevent the
arrangement from being a joint arrangement.

Topic 7 : Transactions with Joint Arrangement (Profit/Loss Recognition)

Question 24

ICAI Illustration

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A Ltd. is one of the parties to a joint operation holding 60% interest in a joint operation and
the balance 40% interest is held by another joint operator. A Ltd. has contributed an asset
held by it to the joint operation for the activities to be conducted in joint operation. The
carrying value of the asset sold was Rs 100 and the asset was actually sold for Rs 80 i.e. at a
loss of Rs 20. How should A Ltd. account for the sale of asset to joint operation in its books?

(Study material)

Answer

A Ltd. should record the loss on the transaction only to the extent of other party’s interest in
the joint operation.

The total loss on the transaction is Rs 20. Hence, A Ltd. shall record loss on sale of asset to the
extent of Rs 8 (Rs 20 x 40%) which is the loss pertaining to the interest of other party to the
joint operation. The loss of Rs 12 (Rs 20 - Rs 8) shall not be recognised as that is unrealised loss.

Further, while accounting its interest in the joint operation, A Ltd. shall record its share in that
asset at value of Rs 60 [A Ltd. share of asset Rs 48 (Rs 80 x 60%) plus unrealised loss of Rs 12].

The journal entry for the transaction would be as follows:

Bank Dr. Rs 32

Loss on sale Dr. Rs 8

To Asset Rs40

Question 25

ICAI Illustration

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A Ltd. is one of the parties to a joint operation holding 60% interest in the joint operation and
the balance 40% interest is held by another joint operator. A Ltd. has purchased an asset from
the joint operation. The carrying value of the asset in the books of joint operation was Rs 100
and the asset was actually purchased for Rs 80 i.e. at a loss of Rs 20. How should A Ltd.
account for the purchase of asset from joint operation in its books?

(Study material)

Answer

A Ltd. should not record its share of the loss until the asset is resold to a third party. The joint
operation has sold the asset at Rs 80 by incurring a loss of Rs 20. Hence, A Ltd. shall record the
asset at Rs 92 [Purchase price Rs 80 + A Ltd.’s share in loss Rs 12 (Rs 20 60%)]. Further, while
accounting its interest in the joint operation, A Ltd. shall not record any share in the loss
incurred in sale transaction by the joint operation.

The journal entry for the transaction would be as follows:

Asset Dr. Rs 32

To Bank Rs 32

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 Chapter 13 Unit-6

Ind AS 28: “Investment in Associates & joint ventures”

Topic 1: Definition of Significant Influence

Question 1

ICAI Illustration

E Ltd. holds 25% of the voting power of an investee. The balance 75% of the voting power is
held by three other investors each holding 25%. The decisions about the financing and
operating policies of the investee are taken by investors holding majority of the voting
power. Since, the other three investors together hold majority voting power, they generally
take the decisions without taking the consent of E Ltd. Even if E Ltd. proposes any changes to
the financing and operating policies of the investee, the other three investors do not vote in
favour of those changes. So, in effect the suggestions of E Ltd. Are not considered while
taking decisions related to financing and operating policies. Determine whether E Ltd. has
significant influence over the investee?

(Study material)

Answer

Since E Ltd. is holding more than 20% of the voting power of the investee, it indicates that E Ltd.
might have significant over the investee. However, the other investors in the investee prevent E
Ltd. from participating in the financing and operating policy decisions of the investee. Hence, in
this case, E Ltd. is not in a position to have significant influence over the investee.

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Question 2

ICAI Illustration

M Ltd. holds 10% of the voting power an investee. The balance 90% voting power is held by
nine other investors each holding 10%.

The decisions about the relevant activities (except decision about taking borrowings) of the
investee are taken by the members holding majority of the voting power. The decisions about
taking borrowings are required to be taken by unanimous consent of all the investors.
Further, decisions about taking borrowing are not the decisions that most significantly affect
the returns of the investee. Determine whether M Ltd. has significant influence over the
investee?

(Study material)

Answer

In this case, though M Ltd. is holding less than 20% of the voting power of the investee, M Ltd.’s
consent is required to take decisions about taking borrowings which is one of the relevant
activities. Further, since the decisions about taking borrowing are not the decisions that most
significantly affect the returns of the investee, it cannot be said that all the investors have joint
control over the investee.

Hence, it can be said that M Ltd. has significant influence over the investee.

Topic 2: Factors for Determining Significant Influence

Question 3

ICAI Illustration

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Kuku Ltd. holds 12% of the voting shares in Boho Ltd. Boho Ltd.'s board comprise of eight
members and two of these members are appointed by Kuku Ltd. Each board member has one
vote at meeting. is Boho Ltd an associate of Kuku Ltd?

(Study material)

Answer

Boho Ltd is an associate of Kuku Ltd as significant influence is demonstrated by the presence of
directors on the board and the relative voting rights at meetings. It is presumed that entity has
significant influence where it holds 20% or more of the voting power of the investee, but it is
not necessary to have 20% representation on the board to demonstrate significant influence, as
this will depend on all the facts and circumstances. One board member may represent
significant influence even if that board member has less than 20% of the voting power. But for
significant influence to exist it would be necessary to show based on specific facts and
circumstances that this is the case, as significant influence would not be presumed..

Question 4

ICAI Illustration

RS Ltd. is an entity engaged in the business of pharmaceuticals. It has invested in the share
capital of an investee XY Ltd. and is holding 15% of XY Ltd.’s total voting power.

XY Ltd. is engaged in the business of producing packing materials for pharmaceutical entities.
One of the incentives for RS Ltd. to invest in XY Ltd. was the fact that XY Ltd. is engaged in the
business of producing packing materials which is also useful for RS Ltd. Since last many years,
XY Ltd.’s almost 90% of the output is procured by RS Ltd.

Determine whether RS Ltd. has significant influence over XY Ltd.?

(Study material)

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Answer

Since 90% of the output of XY Ltd. is procured by RS Ltd., XY Ltd. would be dependent on RS Ltd.
for the continuation of its business. Hence, even though RS Ltd. is holding only 15% of the
voting power of XY Ltd. it has significant influence over XY Ltd.

Question 5

ICAI Illustration

Entity X and entity Y operate in the same industry, but in different geographical regions.
Entity X acquires a 10% shareholding in entity Y as a part of a strategic agreement. A new
production process is key to serve a fundamental change in the strategic direction of entity Y.
The terms of agreement provide for entity Y to start a new production process under the
supervision of two managers from entity X. The managers seconded from entity X, one of
whom is on entity X's board, will oversee the selection and recruitment of new staff, the
purchase of new equipment, the training of the workforce and the negotiation of new
purchase contracts for raw materials. The two managers will report directly to entity Y's
board and as well as to entity X. Analyse.

(Study material)

Answer

The secondment of the board member and a senior manager from entity X to entity Y gives
entity X a range of power over a new production process and may evidence that entity X has
significant influence over entity Y. This assessment takes into the account what are the key
financial and operating policies of entity Y and the influence this gives entity X over those
policies.

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Question 6

ICAI Illustration

R Ltd. is a tyre manufacturing entity. The entity has entered into a technology transfer
agreement with another entity Y Ltd. which is also involved in the business of tyre
manufacturing. R Ltd. is an established entity in this business whereas Y Ltd. is a relatively
new entity. As per the agreement, R Ltd. has granted to Y Ltd. a license to use it’s the
technical information and know-how which are related to the processes for the manufacture
of tyres. Y Ltd. is dependent on the technical information and knowhow supplied by R Ltd.
because of its lack of expertise and experience in this business. Further, R Ltd. has also
invested in 10% of the equity share capital of Y Ltd. Determine whether R Ltd. has significant
influence over Y Ltd.?

(Study material)

Answer

Y Ltd. obtains essential technical information for the running of its business from R Ltd. Hence R
Ltd. has significant influence over Y Ltd. despite of holding only 10% of the equity share capital
of Y Ltd.

Topic 3: Equity Method Accounting

Question 7

ICAI Illustration

KL Ltd. has invested in 50% voting power of a joint venture MN Ltd. MN Ltd. Has also issued
10% cumulative preference shares to other investors worth Rs 10,00,000. During the year,

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MN Ltd. earned profit of Rs 4,00,000. Also, MN Ltd. has not declared any dividend on the
preference shares for current year. Calculate KL Ltd.’s share in the net profit of MN Ltd. for
the year.

(Study material)

Answer

If an associate or a joint venture has outstanding cumulative preference shares that are held by
parties other than the entity and are classified as equity, the entity should compute its share of
profit or loss after adjusting for dividend on such shares, whether or not the dividends have
been declared.

In current case, KL Ltd.’s share in net profit of MN Ltd. would be as follows

Rs

Profit of MN Ltd. for the year 4,00,000

Dividend on cumulative preference shares (10,00,000 x 10%) (1,00,000)

Net profit attributable to the holders of equity share 3,00,000

KL Ltd.’s 50% share in net profit of MN Ltd. 1,50,000

Topic 4: Unrealized Profits in Intercompany Transaction

Question 8

ICAI Illustration

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Scenario A

M Ltd. has invested in 40% share capital of N Ltd. and hence N Ltd. is an associate of M Ltd.
During the year, N Ltd. sold inventory to M Ltd. for a value of Rs 10,00,000. This included
profit of 10% on the transaction price i.e. profit of Rs 1,00,000. Out the above inventory, M
Ltd. sold inventory of Rs 6,00,000 to outside customers. Hence, the inventory of Rs 4,00,000
purchased from N Ltd. is still lying with M Ltd. Determine the unrealised profit to be
eliminated on above transaction.

Scenario B

Assume the same facts as per Scenario A except that the inventory is sold by M Ltd. to N Ltd.
instead of N Ltd. selling to M Ltd. Determine the unrealised profit to be eliminated on above
transaction.

(Study material)

Answer

Scenario A

Firstly, as part of its equity method accounting for investment in N Ltd., M Ltd. will pass this
journal entry:

Investment in N Ltd. Dr. 40,000

To Share in profit of N Ltd. 40,000

Out of the inventory of Rs 10,00,000, M Ltd. has sold inventory worth Rs 6,00,000 to outside
customers. Hence, the profit of Rs 60,000 (6,00,000 *10% profit margin) on such inventory is
realised. However, the inventory worth Rs 4,00,000 is still held by M Ltd. which consists profit
of Rs 40,000 (4,00,000*10%). Hence, M Ltd.’s share in such profit i.e. Rs 16,000 (40,000*40%) is
considered as unrealised.

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Accordingly, after recording of share in total profit of N Ltd., M Ltd. should pass following
adjustment entry to reverse the unrealised profit margin:

Share in profit of N Ltd. Dr. 16,000

To Inventory 16,000

In subsequent period, when this inventory of Rs 4,00,000 is sold by N Ltd. to an outside

customer then the above profit margin of Rs 16,000 will be treated as realised and hence the
above entry will be reversed in that period.

[Note: in the separate financial statements of M Ltd., inventory is carried at Rs 4,00,000

whereas in its consolidated financial statements, inventory is carried at Rs 3,84,000 (due to
elimination entry above in respect of unrealized profit). In the subsequent period, when the
inventory is sold, Inventory Account is credited by Rs 4,00,000 whereas for the purpose of
consolidated financial statements, it should have been credited by only Rs 3,84,000. The
difference is adjusted by debiting back Rs 16,000 to the Inventory Account and a corresponding
recognition of share in profit of associate.]

Scenario B

Out of the inventory of Rs 10,00,000, N Ltd. has sold inventory worth Rs 6,00,000 to outside
customers. Hence, the profit of Rs60,000 (6,00,000 x 10% profit margin) on such inventory is
realised. However, the inventory worth Rs 4,00,000 is still held by N Ltd. which consists profit of
Rs 40,000 (4,00,000*10%). Out of this profit of Rs 40,000, profit to the extent of other investor’s
interest in the investee is treated as realised profit i.e. Rs 24,000 (40,000*60%) is treated as
realised profit. Balance profit of Rs 16,000 (40,000*40%) is considered as unrealised. Hence, M
Ltd. should pass following adjustment entry to reverse the unrealised profit:

Sales Dr. 160,000

To Cost of material consumed 144,000

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To Investment in N Ltd. 16,000

In subsequent period, when this inventory of Rs4,00,000 is sold by N Ltd. to an outside

customer then the above profit margin of Rs 16,000 will be treated as realised and hence the
above entry will be reversed in that period.

Question 9

ICAI Illustration

Scenario A

X Ltd. has invested in a joint venture Y Ltd. by holding 50% of its equity share capital. During
the year, X Ltd. sold an asset to Y Ltd. at its market value of Rs 8,00,000. The asset’s carrying
value in X Ltd.’s books was Rs 10,00,000. Determine how should X Ltd. account for the sale
transaction in its books.

Scenario B

Assume the same facts as per Scenario A except that the asset is sold by Y Ltd. to X Ltd.
instead of X Ltd. selling to Y Ltd. Determine how should X Ltd. account for the above
transaction in its books.

(Study material)

Answer

Scenario A

X Ltd. should record full loss of Rs 2,00,000 (10,00,000 – 8,00,000) in its books as that would
represent the impairment loss because the market value has actually declined. This loss would
have been recorded even if X Ltd. would have first impaired the asset and then sold to Y Ltd. at
zero profit / loss. Following entry should be passed in the books of X Ltd.

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Bank A/c Dr. 8,00,000

Loss on sale of asset Dr. 2,00,000

To Asset 10,00,000

Scenario B

X Ltd. should record loss to the extent of its share in Y Ltd. Hence, X Ltd.’s share in loss i.e. Rs
1,00,000 [(10,00,000 – 8,00,000) x 50%] should be recorded by X Ltd. in its books. The loss
should be recorded since the market value of the asset has actually declined and this would
represent impairment. This loss would have been recorded even if Y Ltd. Would have first
recorded an impairment loss of Rs 2,00,000 and then sold to X Ltd. at zero profit / loss.
Following entry should be passed in the books of X Ltd.

Asset Dr. 8,00,000

Share in loss of Y Ltd. Dr. 1,00,000

To Bank 8,00,000

To Investment in Y Ltd. 1,00,000

Topic 5: Disposal of Part of Investment in Associate / JV

Question 10

ICAI Illustration

CD Ltd. held 50% of the voting power of RS Ltd. which is a joint venture of CD Ltd. The
carrying value of the investment in RS Ltd. is Rs 1,00,000. Now out of the 50% stake, CD Ltd.

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has sold 20% stake in RS Ltd. to a third party for a consideration of Rs 80,000. The fair value of
the retained 30% interest is Rs 1,20,000. Determine how much gain / loss should be recorded
in profit or loss of CD Ltd.

(Study material)

Answer

CD Ltd. Shall record in profit or loss difference between below:

➢ the fair value of any retained interest (i.e. Rs1,20,000) and any proceeds from disposing of a
part interest in the joint venture (i.e. Rs 80,000); and

➢ the carrying amount of the investment at the date the equity method was discontinued (i.e.
Rs 1,00,000).

Hence, CD Ltd. Shall record gain of 1,00,000 in profit or loss.

Question 11

ICAI Illustration

Ram Ltd. holds 50% of the equity share capital of Shyam Ltd. The balance 50% equity share
capital is held by another investor. Ram Ltd. has joint control over Shyam Ltd. and it is a joint
venture of Ram Ltd., accounted using equity method. Now Ram Ltd. is planning to sell 10% of
the equity share capital of Shyam Ltd. to a third party. Such 10% investment meets the
criteria of an asset held for sale and has been measured and disclosed accordingly. Now
determine how should Ram Ltd. account 40% interest retained in Shyam Ltd.

(Study material)

Answer

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Till the time 10% stake is sold, Ram Ltd. shall account for the retained interest of 40% as per
equity method. After the sale of 10% investment, if Ram Ltd. still has joint control over Shyam
Ltd. (e.g. through contractual arrangement) then it shall continue to measure that investment
using equity method. However, if Ram Ltd. is not going to have joint control over Shyam Ltd.
post the disposal of 10% investment then retained investment of 40% shall be accounted as per
Ind AS 109.

Topic 6: Multiple Types of Investments in an Associate

Question 12

ICAI Illustration

MNO Ltd. holds 15% of the voting power of DEF Ltd. PQR Mutual Fund (which is a subsidiary
of MNO Ltd.) also holds 10% voting power of DEF Ltd. Hence, MNO Ltd. holds total 25% voting
power of DEF Ltd. (15% held by own and 10% held by subsidiary) and accordingly has
significant influence over DEF Ltd. How should MNO Ltd. account for investment in DEF Ltd. in
its consolidated financial statements?

(Study material)

Answer

The 15% interest which is held directly by MNO Ltd. should be measured as per equity method
of accounting. However, with respect to the 10% interest which is held through a mutual fund,
MNO Ltd. can avail the exemption from applying the equity method to that 10% interest and
instead measure that investment at fair value through profit or loss. To summarise, the total
interest of 25% in DEF Ltd. should be measured as follows:

➢ 15% interest held directly by MNO Ltd.: Measure as per equity method of accounting

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➢ 10% interest held indirectly through a mutual fund:

Measure as per equity method of accounting or at fair value thorough profit or loss as per Ind
AS 109

Question 13

ICAI Illustration

Entity A holds a 20% equity interest in Entity B (as associate) that in turn has a 100% equity
interest in Entity C. Entity B recognised net assets relating to Entity C of Rs 1,000 in its
consolidated financial statements. Entity B sells 20% of its interest in Entity C to a third party
(a non-controlling shareholder) for Rs 300 and recognises this transaction as an equity
transaction in accordance with paragraph 23 of Ind AS 110, resulting in a credit in Entity B’s
equity of Rs 100. The financial statements of Entity A and Entity B are summarised as follows
before and after the transaction:

Before

A’s consolidated financial statements

Assets Rs Liabilities Rs

Investment in B 200 Equity 200

Total 200 Total 200

B’s consolidated financial statements

Assets Rs Liabilities Rs

Assets (from C) 1,000 Equity 1,000

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Total Total

The financial statements of B after the transaction are summarised below

After

B’s consolidated financial statements

Assets Rs Liabilities Rs

Assets (from C) 1,000 Equity 1,000

Cash 300 Equity transaction with non- 100

controlling interest

Equity attributable to 1,100

owners

Non-controlling interest 200

Total 1,300 Total 1,300

Although Entity A did not participate in the transaction, Entity A's share of net assets in Entity
B increased as a result of the sale of B's 20% interest in C. Effectively, A's share in B's net
assets is now Rs 220 (20% of Rs 1,100) i.e. Rs 20 in addition to its previous share. How is an
equity transaction that is recognised in the financial statements of Entity B reflected in the
consolidated financial statements of Entity A that uses the equity method to account for its
investment in Entity B?

(Study material)

Answer

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The change of interest in the net assets / equity of the associate as a result of the investee's
equity transaction is reflected in the investor's financial statements as 'share of other changes
in equity of investee' (in the statement of changes in equity) instead of gain in Statement of
profit and loss, since it reflects the post-acquisition change in the net assets of the investee and
also faithfully reflects the investor's share of the associate's transaction as presented in the
associate's consolidated financial statements. Thus, in the given case, Entity A recognises Rs 20
as change in other equity instead of in statement of profit and loss and maintains the same
classification as of its associate, Entity B, i.e., a direct credit to equity as in its consolidated
financial statements.

Question 14

ICAI Illustration

An entity has following three type interests in an associate:

• Equity shares: 25% of the equity shares to which equity method of accounting is applied

• Preference shares: Non-cumulative preference shares that form part of net investment in
the associate. Such preference shares are measured at fair value as per Ind AS 109.

• Long-term loan: The loan carrying interest of 10% p.a. The interest income is received at the
end of each year. The long-term loan is accounted as per amortised cost as per Ind AS 109.
This loan also forms part of net investment in the associate.

At the start of year 1, the carrying value of each of the above interests is as follows:

• Equity shares – Rs 10,00,000

• Preference shares – Rs 5,00,000

• Long-term loan – Rs 3,00,000

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Following table summarises the changes in the fair value of preference shares as per Ind AS
109, impairment loss on long-term loan as per Ind AS 109 and entity’s share in profit / loss of
associate for year [Link]

End of Increase / (Decrease) in fair Impairment loss / Entity’s share in profit

Year value of preference shares (reversal) on long-term / (loss) of associate
as per Ind AS 109 loan as per Ind AS 109

1 (50,000) (50,000) (16,00,000)

2 (50,000) - (2,00,000)

3 1,00,000 50,000 -

4 50,000 - 10,00,000

5 30,000 - 10,00,000

Throughout year 1 to 5, there has been no objective evidence of impairment in the net
investment in the associate. The entity does not have any legal or constructive obligation to
share the losses of the associate beyond its interest in the associate. Based on above,
determine the closing balance of each of the above interests at the end of each year.

(Study material)

Answer

Year 1

Below table summarises the closing balance of each of the interest at the end of year 1: Rs

Type of Opening Adjustme Balance after Share in Closing

interest balance at applying Ind
nt as per Ind profit / (loss) balance at

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 the start of AS 109 AS 109 of associate the end of
the year the year

(A) (B) I = (A+B) (D) I = (C+D)

Equity shares 10,00,000 NA 10,00,000 (10,00,00 0) -

Preference 5,00,000 (50,000) 4,50,000 (4,50,000) -

shares

Long-term 3,00,000 (50,000) 2,50,000 (1,50,000) 1,00,000

loan

Total 18,00,000 (1,00,00 0) 17,00,000 (16,00,00 0) 1,00,000

The entire loss of Rs 16,00,000 is recognised. Hence, there is no unrecognised loss at nthe end
of year 1.

Year 2

Below table summarises the closing balance of each of the interest at the end of year 2:

Type of Opening Adjustment Balance Share in Closing

interest balance at as per Ind AS after profit / (loss) balance at
the start of 109 applying Ind of associate the end of
the year AS 109 the year

(A) (B) I = (A+B) (D) I = (C+D)

Equity shares - NA - - -

Preference - (50,000) (50,000) 50,000 * -

shares

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Long-term loan 1,00,000 - 1,00,000 (1,00,000) -

Total 1,00,000 (1,00,000) 17,00,000 (50,000) -

* Recognition of changes in fair value as per Ind AS 109 has resulted in the carrying amount of
Preference shares being negative Rs 50,000. Consequently, the entity shall reverse a portion of
the associate’s losses previously allocated to Preference shares. Out of the total loss of Rs
2,00,000 for the year, loss of only Rs 50,000 is recognized. Hence, there is recognized loss to the
extent of Rs 1,50,000 at the end of year 2.

Year 3

Below table summaries the closing balance of each of the interest at the end of year 3:

Type of Opening Adjustmen t Balance Share in Closing

interest balance at as per Ind AS after profit / (loss) balance at
the start of 109 applying Ind of associate the end of
the year AS 109 the year

(A) (B) I = (A+B) (D) I = (C+D)

Equity shares - NA - - -

Preference - 1,00,000 1,00,000 (1,00,000) -

shares

Long-term loan - 50,000 50,000 (50,000) -

Total - 1,50,000 1,50,000 (1,50,000) -

The share in profit / loss for the year is nil. However, there was previously unrecognised loss of
Rs 1,50,000 which is allocated in current year. After recognising the above loss, there is no
unrecognised loss at the end of year 3.

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Year 4

Below table summarises the closing balance of each of the interest at the end of year 4:

Type of Opening Adjustme nt Balance Share in Closing

interest balance at as per Ind AS after profit / balance at
the start of 109 applying Ind (loss) of the end of
the year AS 109 associat e the year

(A) (B) I = (A+B) (D) I = (C+D)

Equity shares - NA - 2,00,000 2,00,000

Preference - 50,000 50,000 5,00,000 5,50,000

shares

Long-term loan - - - 3,00,000 3,00,000

Total - 50,000 50,000 10,00,000 10,50,000

The entity’s share in profit of associate for the year is Rs 10,00,000. The entity shall allocate
such profit to each of the instruments in order of their seniority in liquidation. The entity should
limit the amount of profit to be allocated to preference shares and long-term loan to the extent
of losses previously allocated to them. Hence, the entity has allocated Rs 5,00,000 to
preference shares and Rs 3,00,000 to long-term debt. There is no unrecognised loss at the end
of year 4.

Year 5

Below table summarises the closing balance of each of the interest at the end of year 5:

Type of interest Opening Adjustment as Balance Share in Closing

balance at per Ind AS 109 after profit / balance at

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 the start of applying Ind (loss) of the end of
the year AS 109 associate the year

(A) (B) I = (A+B) (D) I = (C+D)

Equity shares 2,00,000 NA 2,00,000 10,00,0 00 12,00,000

Preference 5,50,000 30,000 5,80,000 - 5,80,000

shares

Long-term loan 3,00,000 - 3,00,000 - 3,00,000

Total 10,50,000 30,000 10,80,000 10,00,0 00 20,80,000

The entity’s share in profit of associate for the year is Rs 10,00,000. The entire profit is allocated
to equity shares since there is no loss previously allocated to either preference shares or long-
term loan.

There is no recognized loss at the end of year 5.

Year 1 to 5

The interest accrual on long-term loan would be done in each year at 10% p.a. This will be done
without taking into account any adjustment done in the carrying value of long-term loan as per
Ind AS 28. Hence, the entity will accrue interest of Rs 30,000 (3,00,000 x 10%) in each year.

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 Chapter 13 Unit-7

Ind AS 27: “Separate Financial Statements”

Topic 1 : Ind AS 27 – Separate Financial Statements

Question 1

ICAI Illustration

Following is the existing and proposed group structure of an original parent A Ltd.

Existing structure.

Proposed structure

As per the above structure, the Owners of Company A will transfer all their shareholding in
Company A to New Co. In exchange of such shares, New Co. will issue its equity shares to the
Owners. New Co. will issue the shares to the owners in the same ratio of their existing

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holding in Company A so that they have same absolute and relative interests in the net assets
of the group immediately before and after the reorganisation. The assets and liabilities of the
group immediately before the and after the proposed restructuring will also be the same. The
cost of the investment in Company A in the books of the Owners is Rs 10 lakh. Total equity of
Company A (i.e. equity share capital and other equity attributable to the owners) as per its
separate financial statements on the date of proposed restructuring is Rs 15 lakh.

After the proposed restructuring, New Co. wants to record its investment in Company A at
cost. Determine how it should measure the cost of investment in Company A?

(Study material)

Answer

In current case, New Co. should measure the cost of investment in Company A at the carrying
amount of its share of the equity items shown in the separate financial statements of Company
A at the date of the restructuring because:

a) New Co. obtains control of Company A by issuing equity instruments to the Owners in
exchange for their existing equity instruments of Company A;

b) the assets and liabilities of the group immediately before and the proposed restructuring will
be same; and

c) the Owners will have the same absolute and relative interests in the net assets of the group
immediately before and after the proposed restructuring.

Hence, New Co. will measure the cost of investment in Company A at Rs 15 lakh.

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 Chapter 14

Ind AS 101: “First –time Adoption of Indian Accounting Standards”

Topic 1 : Introduction to Ind AS 101

Question 1

ICAI Illustration

X Ltd. is required to adopt Ind AS from April 1, 20X1, with comparatives for one year, i.e., for
20X0-20X1. What will be its date of transition?

(Study material)

Answer

The date of transition for X Ltd. will be April 1, 20X0 being the beginning of the earliest
comparative period presented. To explain it further, X Ltd. is required to adopt an Ind AS from
April 1, 20X1 (i.e. year 20X1-20X2), and it will give comparatives as per Ind AS for 20X0-20X1.
Accordingly, the beginning of the comparative period will be April 1, 20X0 which will be
considered as date of transition.

Question 2

ICAI Illustration

E Ltd. is required to first time adopt Indian Accounting Standards (Ind AS) from 1 April 20X1.
The management of E Ltd. has prepared its financial statements in accordance with Ind AS

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and an explicit and unreserved statement of compliance with Ind AS has been given by the
management. However, the there is a disagreement on application of one Ind AS between
the management and the auditor. Can such financial statements of E Ltd. be treated as first
Ind AS financial statements?

(Study material)

Answer

Ind AS 101 defines first Ind AS financial statements as “The first annual financial statements in
which an entity adopts Indian Accounting Standards (Ind AS), by an explicit and unreserved
statement of compliance with Ind AS.” In accordance with the above definition, if an explicit
and unreserved statement of compliance with Ind AS has been given in the financial
statements, even if the auditor’s report contains a qualification because of disagreement on
application of Indian Accounting Standard(s), it would be considered that E Ltd. has done the
first time adoption of Ind AS. In such a case, exemptions given under Ind AS 101 cannot be
availed again. If, however, the unreserved statement of compliance with Ind AS is not given in
the financial statements, such financial statements would not be considered to be first Ind AS
financial statements.

Topic 2 : Initial Recognition & Reclassification

Question 3

While preparing an opening balance sheet on the date of transition, an entity is required to:

(a) recognise all assets and liabilities whose recognition is required by Ind AS;

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(b) reclassify items that it recognised in accordance with previous GAAP as one type of asset,
liability or component of equity, but are a different type of asset, liability or component of
equity in accordance with Ind AS; and

(c) apply Ind AS in measuring all recognised assets and liabilities.

Give 2 examples for each of the above categories.

( MTP Sep ’22, RTP Nov ’21)

Answer 3

The examples of the items that an entity may need to recognise, derecognise, remeasure,
reclassify on the date of transition are as under:

(a) recognise all assets and liabilities whose recognition is required by Ind AS:

(i) customer related intangible assets if an entity elects to restate business combinations

(ii) share-based payment transactions with non-employees

(b) reclassify items that it recognised in accordance with previous GAAP as one type of asset,
liability or component of equity, but is a different type of asset, liability or component of equity
in accordance with Ind AS:

(i) redeemable preference shares that would have earlier been classified as equity;

(ii) non-controlling interests which would have been earlier classified outside equity; and

(c) apply Ind ASs in measuring all recognised assets and liabilities:

(i) discounting of long-term provisions

(ii) measurement of deferred income taxes for all temporary differences instead of timing
differences.

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Question 4

Government of India provides loans to MSMEs at a below-market rate of interest to fund the
set-up of a new manufacturing facility. Sukshma Limited's date of transition to Ind AS is 1st
April 2020. In financial year 2014-2015, the Company had received a loan of Rs 2.0 crore at a
below - market rate of interest from the government. Under Indian GAAP, the Company had
accounted for the loan as equity and the carrying amount was Rs 2.0 crore at the date of
transition. The amount repayable on 31st March 2024 will be Rs 2.50 crore. The Company has
been advised to recognize the difference of Rs 0.50 crores in equity by correspondingly
increasing the value of various assets under property, plant & equipment by an equivalent
amount on proportionate basis. Further, on 31st March 2024 when the loan has to be repaid,
Rs 2.50 crore should be presented as a deduction from property, plant & equipment. Discuss
the above treatment and share your views as per applicable Ind AS.

(PYP July 21, MTP Apr’23)

Answer 4

Requirement as per Ind AS:

A first-time adopter shall classify all government loans received as a financial liability or an
equity instrument in accordance with Ind AS 32. A first-time adopter shall apply the
requirements in Ind AS 109 and Ind AS 20, prospectively to government loans existing at the
date of transition to Ind AS and shall not recognise the corresponding benefit of the
government loan at a below-market rate of interest as a government grant.

Treatment to be done:

Consequently, if a first-time adopter did not, under its previous GAAP, recognise and measure a
government loan at a below-market rate of interest on a basis consistent with Ind AS
requirements, it shall use its previous GAAP carrying amount of the loan at the date of

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transition to Ind AS as the carrying amount of the loan in the opening Ind AS Balance Sheet. An
entity shall apply Ind AS 109 to the measurement of such loans after the date of transition to
Ind AS. In the instant case, the loan meets the definition of a financial liability in accordance
with Ind AS 32. Company therefore reclassifies it from equity to liability. It also uses the
previous GAAP carrying amount of the loan at the date of transition as the carrying amount of
the loan in the opening Ind AS balance sheet.

It calculates the annual effective interest rate (EIR) starting 1st April 2020 as below:

EIR = Amount / Principal(1/t) i.e. 2.50/2(1/4) i.e. 5.74%. approx.

At this rate, Rs 2 crore will accrete to Rs 2.50 crore as at 31st March 2024. During the next 4
years, the interest expense charged to statement of profit and loss shall be:

Year ended Opening amortised Interest expense for Closing amortised cost
cost (Rs) the year (Rs) @ 5.74% (Rs)
p.a. approx.

31st March 2021 2,00,00,000 11,48,000 2,11,48,000

31st March 2022 2,11,48,000 12,13,895 2,23,61,895

31st March 2023 2,23,61,895 12,83,573 2,36,45,468

31st March 2024 2,36,45,468 13,54,532 2,50,00,000

An entity may apply the requirements in Ind AS 109 and Ind AS 20 retrospectively to any
government loan originated before the date of transition to Ind AS, provided that the
information needed to do so had been obtained at the time of initially accounting for that loan.
The accounting treatment is to be done as per above guidance and the advice which the
company has been provided is not in line with the requirements of Ind AS 101 .

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Question 5

On April 1, 20X1, Sigma Ltd. issued 30,000 6% convertible debentures of face value of Rs. 100
per debenture at par. The debentures are redeemable at a premium of 10% on March 31,
20X5 or these may be converted into ordinary shares at the option of the holder. The interest
rate for equivalent debentures without conversion rights would have been 10%. The date of
transition to Ind AS is April 1, 20X3. Suggest how should Sigma Ltd. account for this
compound financial instrument on the date of transition.

The present value of Re. 1 receivable at the end of each year based on discount rates of 6%
and 10% can be taken as:

End of year 6% 10%

1 0.94 0.91

2 0.89 0.83

3 0.84 0.75

4 0.79 0.68

(RTP May ‘20)

Answer 5

‘Financial Instruments: Presentation’, requires an entity to split a compound financial

instrument at inception into separate liability and equity components. If the liability component
is no longer outstanding, retrospective application of Ind AS 32 would involve separating two
portions of equity. The first portion is recognised in retained earnings and represents the
cumulative interest accreted on the liability component. The other portion represents the
original equity component. However, in accordance with Ind AS 101, a first- time adopter need

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not separate these two portions if the liability component is no longer outstanding at the date
of transition to Ind AS.

In the present case, since the liability is outstanding on the date of transition, Sigma Ltd. will
need to split the convertible debentures into debt and equity portion on the date of transition.
Accordingly, we will first measure the liability component by discounting the contractually
determined stream of future cash flows (interest and principal) to present value by using the
discount rate of 10% p.a. (being the market interest rate for similar debentures with no
conversion option).

Rs.

Interest payments p.a. on each debenture 6

Present Value (PV) of interest payment on each debenture for years 1 to 4 (6 19.02
3.17) (Note 1)

PV of principal repayment on each debenture (including premium) 110 0.68 74.80

(Note 2)

Total liability component on each debenture (A) 93.82

Total equity component per debenture (Balancing figure) (B) = (C) – (A) 6.18

Face value per debenture (C) 100.00

Equity component per debenture 6.18

Total equity component for 30,000 debentures 1,85,400

Total debt amount (30,000 93.82) 28,14,600

Thus, on the date of transition, the amount of Rs. 30,00,000 being the amount of debentures
will be split as under:

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Debt Rs. 28,14,600

Equity Rs. 1,85,400

Notes:

1. 3.17 is annuity factor of present value of Re. 1 at a discount rate of 10% for 4 years.

2. On maturity, Rs. 110 will be paid (Rs. 100 as principal payments + Rs. 10 as premium)

Topic 3 : Deemed Cost Exemption & Fair Value Adjustments

Question 6

Company A intends to restate its past business combinations with effect from 30 June 20X0
(being a date prior to the transition date). If business combinations are restated, whether
certain other exemptions, such as the deemed cost exemption for property, plant and
equipment (PPE), can be adopted?

(Study material)

Answer 6

Ind-AS 101 prescribes that an entity may elect to use one or more of the exemptions of the
Standard. As such, an entity may choose to adopt a combination of optional\ exemptions in
relation to the underlying account balances. When the past business combinations after a
particular date (30 June 20X0 in the given case) are restated, it requires retrospective
adjustments to the carrying amounts of acquiree’s assets and liabilities on account of initial
acquisition accounting of the acquiree’s net assets, the effects of subsequent measurement of

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those net assets (including amortisation of non-current assets that were recognised at its fair
value), goodwill on consolidation and the consolidation adjustments.

Therefore, the goodwill and equity (including non-controlling interest (NCI)) cannot be
computed by considering the deemed cost exemption for PPE. However, the entity may adopt
the deemed cost exemption for its property, plant and equipment other than those acquired
through business combinations.

Question 7

X Ltd. was using cost model for its property, plant and equipment till March 31, 20X2 under
previous GAAP. The Ind AS become applicable to the company for financial year beginning
April 1, 20X2. On April 1, 20X1, i.e., the date of its transition to Ind AS, it used fair value as the
deemed cost in respect of its property, plant and equipment. X Ltd. wants to follow
revaluation model as its accounting policy in respect of its property, plant and equipment for
the first annual Ind AS financial statements. Whether use of fair values as deemed cost on the
date of transition and use of revaluation model in the first annual Ind AS financial statements
would amount to a change in accounting policy?

(Study material)

Answer 7

In the instant case, X Ltd. is using revaluation model for property, plant and equipment for the
first annual Ind AS financial statements and using fair value of property, plant and equipment
on the date of the transition, as deemed cost. Since the entity is using fair value at the
transition date as well as in the first Ind AS financial statements, there is no change in
accounting policy and mere use of the term ‘deemed cost’ would not mean that there is a
change in accounting policy.

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Question 8

ICAI Illustration

For the purpose of deemed cost on the date of transition, an entity has the option of using
the carrying value as the deemed cost. In this context, suggest which carrying value is to be
considered as deemed cost: original cost or net book value? Also examine whether this would
have any impact on future depreciation charge?

(Study material)

Answer

For the purpose of deemed cost on the date of transition, if an entity uses the carrying value as
the deemed cost, then it should consider the net book value on the date of transition as the
deemed cost and not the original cost because carrying value here means net book value. The
future depreciation charge will be based on the net book value and the remaining useful life on
the date of transition. Further, as per the requirements of Ind AS 16, the depreciation method,
residual value and useful life need to be reviewed atleast annually. As a result of this, the
depreciation charge may or may not be the same as the depreciation charge under the previous
GAAP.

Question 9

ICAI Illustration

Is it possible for an entity to allocate cost as per the previous GAAP to a component based on
its fair value on the date of transition even when it does not have the component-wise
historical cost?

(Study material)

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Answer

Yes, an entity can allocate cost to a component based on its fair value on the date of transition.
This is permissible even when the entity does not have component-wise historical cost.

Question 10

ICAI Illustration

Revaluation under previous GAAP can be considered as deemed cost if the revaluation was,
at the date of the revaluation, broadly comparable to fair value or cost or depreciated cost of
assets in accordance with Ind AS, adjusted to reflect, e.g., changes in a general or specific
price index. What is the acceptable time gap of such revaluation from the date of transition?
Can adjustments be made to take effects of events subsequent to revaluation?

(Study material)

Answer

There are no specific guidelines in Ind AS 101 to indicate the acceptable time gap of such
revaluation from the date of transition. The management of an entity needs to exercise
judgement in this regard. However, generally, a period of 2–3 years may be treated as an
acceptable time gap of such revaluation from the date of transition. In any case, adjustments
should be made to reflect the effect of material events subsequent to revaluation.

Topic 4 : Business Combinations & Consolidation Adjustments

Question 11

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ABC Ltd., a public limited company, is in the business of exploration and production of oil and
gas and other hydrocarbon related activities outside India. It operates overseas projects
directly and/or through subsidiaries, by participation in various joint arrangements and
investment in associates. The company was following Accounting Standards as notified under
the Companies (Accounting Standards) Rules until 31st March, 20X1. However, it has adopted
Indian Accounting Standards (Ind AS) with effect from 1st April, 20X1. The goodwill
recognised in accordance with AS 21 and AS 27 was due to corporate structure and the line-
by-line consolidation of subsidiaries’/proportionate consolidation of jointly controlled
entities’ financial statements which was prepared on historical costs convention. ABC Ltd. has
not taken into consideration the valuation of underlying oil and gas reserves for which excess
amount (i.e. goodwill calculated as per the relevant AS requirements) has been paid by the
company at the time of acquisition. The company further considered that in oil and gas
companies, the goodwill generated on acquisition of mineral rights either through jointly
controlled entities or subsidiaries, inherently derives its value from the underlying mineral
rights and, accordingly, value of such goodwill depletes as the underlying mineral resources
are extracted.

Therefore, taking a prudent approach and considering the above substance, the company
amortised the goodwill in respect of its subsidiaries / jointly controlled assets over the life of
the underlying mineral rights using Unit of Production method. This allowed the company to
utilise the value of goodwill over the life of mineral rights and completely charging off the
goodwill over the life of the reserves.

For financial year 20X0-20X1, the company has availed transition exemption under Ind AS 101
and has not applied the principles of Ind AS 103 .

ABC Ltd. considering the substance over form of the goodwill to be in the nature of
'acquisition costs' intends to continue amortisation of the goodwill recognised under AS in
respect of its subsidiaries / joint ventures (jointly controlled entities under AS) over the life
of the underlying mineral rights using Unit of Production method, under Ind AS also post
transition date. Comment on appropriateness of the accounting treatment, under Ind AS, for

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amortisation of the goodwill by the company and state whether the accounting treatment in
respect of amortisation of goodwill is correct or not.

(RTP May ’23)

Answer 11

Point (g) of para C4 of Ind AS 101 states that the carrying amount of goodwill or capital reserve
in the opening Ind AS Balance Sheet shall be its carrying amount in accordance with previous
GAAP at the date of transition to Ind AS after the two adjustments. One of the adjustment
states that the standard requires the first –time adopter to recognise an intangible asset that
was subsumed in recognised goodwill or capital reserve in accordance with previous GAAP, the
first-time adopter shall decrease the carrying amount of goodwill or increase the carrying
amount of capital reserve accordingly (and, if applicable, adjust deferred tax and non-
controlling interests)

As per the facts given, the entity paid excess amount to avail the rights to use the underlying oil
and gas reserves. However, since the rights was not recorded in the books at that time, the
value of goodwill subsumed the value of that intangible asset which should be separately
identified in the books. Hence, value of goodwill will be reduced accordingly and intangible
asset for rights for using mine should be recognised.

Further, regardless of whether there is any indication that the goodwill may be impaired, the
first-time adopter shall apply Ind AS 36 in testing the goodwill for impairment at the date of
transition to Ind AS and in recognising any resultingimpairment loss in retained earnings (or, if
so required by Ind AS 36, in revaluation surplus). The impairment test shall be based on
conditions at the date of transition to Ind AS. No other adjustments (eg- previous amortisation
of goodwill) shall be made to the carrying amount of goodwill / capital reserve at the date of
transition to Ind AS.

However, once goodwill is recognised in the opening transition date balance sheet, the entity
has to follow the provisions of Ind AS, which states that goodwill is not amortised but rather

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tested for impairment annually. Accordingly, the amortization of goodwill based on ‘Unit of
Production’ method is not correct after implementation of Ind AS.

Question 12

X Ltd. has a subsidiary Y Ltd. On first time adoption of Ind AS by Y Ltd., it availed the optional
exemption of not restating its past business combinations. However, X Ltd. in its consolidated
financial statements has decided to restate all its past business combinations.

Whether the amounts recorded by subsidiary need to be adjusted while preparing the
consolidated financial statements of X Ltd. considering that X Ltd. does not avail the business
combination exemption? Will the answer be different if X Ltd. adopts Ind AS after Y Ltd?

(MTP April ‘18)

Answer 12

As per para C1 of Appendix C of Ind AS 101, a first-time adopter may elect not to apply Ind AS
103 retrospectively to past business combinations (business combinations that occurred before
the date of transition to Ind AS). However, if a first-time adopter restates any business
combination to comply with Ind AS 103, it shall restate all later business combinations and shall
also apply Ind AS 110 from that same date.

Based on the above, if X Ltd. restates past business combinations, it would have to be applied
to all business combinations of the group including those by subsidiary Y Ltd. for the purpose of
Consolidated Financial Statements.

Para D17 of Appendix D of Ind AS 101 states that if an entity becomes a first –time adopter later
than its subsidiary the entity shall, in its consolidated financial statements, measure the assets
and liabilities of the subsidiary at the same carrying amounts as in the financial statements of
the subsidiary, after adjusting for consolidation and equity accounting adjustments and for the

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effects of the business combination in which the entity acquired the subsidiary. Thus, in case
where the parent adopts Ind AS later than the subsidiary then it does not change the amounts
already recognized by the subsidiary.

Question 13

ICAI Illustration

A Ltd. had made certain investments in B Ltd.’s convertible debt instruments. The conversion
rights are substantive rights and would provide A Ltd. with a control over B Ltd. A Ltd. has
evaluated that B Ltd. would be treated as its subsidiary under Ind AS and, hence, would
require consolidation in its Ind AS consolidated financial statements. B Ltd. was not
considered as a subsidiary, associate or a joint venture under previous GAAP. How should B
Ltd. be consolidated on transition to Ind AS assuming that A Ltd. has opted to avail the
exemption from retrospective restatement of past business combinations?

(Study material)

Answer

Ind AS 101 prescribes an optional exemption from retrospective restatement in relation to past
business combinations. Ind AS 101 prescribes that when the past business combinations are not
restated and a parent entity had not consolidated an entity as a subsidiary in accordance with
its previous GAAP (either because it was not regarded as a subsidiary or no consolidated
financial statements were required under previous GAAP), then the subsidiary’s assets and
liabilities would be included in the parent’s opening consolidated financial statements at such
values as would appear in the subsidiary’s separate financial statements if the subsidiary were
to adopt the Ind AS as at the parent’s date of transition. For this purpose, the subsidiary’s
separate financial statements would be prepared as if it was a firsttime adopter of Ind AS i.e.
after applying the relevant first- time adoption mandatory exceptions and voluntary

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exemptions. In other words, the parent will adjust the carrying amount of the subsidiary’s
assets and liabilities to the amounts that Ind AS would require in the subsidiary’s balance sheet.

The deemed cost of goodwill equals the difference at the date of transition between:

(a) the parent’s interest in those adjusted carrying amounts; and

(b) the cost in the parent’s separate financial statements of its investment in the subsidiary.

The measurement of non-controlling interest and deferred tax follows from the measurement
of other assets and liabilities.

It may be noted here that the above exemption is available only under those circumstances
where the parent, in accordance with the previous GAAP, has not presented consolidated
financial statements for the previous year; or where the consolidated financial statements were
prepared in accordance with the previous GAAP but the entity was not treated as a subsidiary,
associate or joint venture under the previous GAAP.

Question 14

ICAI Illustration

A Ltd. has a subsidiary B Ltd. On first time adoption of Ind AS by B Ltd., it availed the optional
exemption of not restating its past business combinations. However, A Ltd. in its consolidated
financial statements has decided to restate all its past business combinations. Whether the
amounts recorded by subsidiary need to be adjusted while preparing the consolidated
financial statements of A Ltd. considering that A Ltd. does not avail the business combination
exemption? Will the answer be different if A Ltd. adopts Ind AS after B Ltd?

(Study material)

Answer

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As per Ind AS 101: “A first-time adopter may elect not to apply Ind AS 103 retrospectively to
past business combinations (business combinations that occurred before the date of transition
to Ind AS). However, if a first-time adopter restates any business combination to comply with
Ind AS 103, it shall restate all later business combinations and shall also apply Ind AS 110 from
that same date.

For example, if a first-time adopter elects to restate a business combination that occurred on
30 June 20X0, it shall restate all business combinations that occurred between 30 June 20X0
and the date of transition to Ind AS, and it shall also apply Ind AS 110 from 30 June 20X0.”
Based on the above, if A Ltd. restates past business combinations, it would have to be applied
to all business combinations of the group including those by subsidiary B Ltd. for the purpose of
Consolidated Financial Statements. Ind AS 101 states, “However, if an entity becomes a first-
time adopter later than its subsidiary (or associate or joint venture) the entity shall, in its
consolidated financial statements, measure the assets and liabilities of the subsidiary (or
associate or joint venture) at the same carrying amounts as in the financial statements of the
subsidiary (or associate or joint venture), after adjusting for consolidation and equity
accounting adjustments and for the effects of the business combination in which the entity
acquired the subsidiary.” Thus, in case where the parent adopts Ind AS later than the subsidiary
(for example, if the parent is a non-banking financial company and the subsidiary is a trading or
manufacturing company) then it does not change the amounts already recognised by the
subsidiary.

Question 15

ICAI Illustration

A Ltd. acquired B Ltd. in a business combination transaction. A Ltd. agreed to pay certain
contingent consideration (liability classified) to B Ltd. As part of its investment in its separate
financial statements, A Ltd. did not recognise the said contingent consideration (since it was
not considered probable). A Ltd. considered the previous GAAP carrying amounts of

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investment as its deemed cost on first-time adoption. In that case, does the carrying amount
of investment required to be adjusted for this transaction?

(Study material)

Answer

In accordance with Ind AS 101, an entity has an option to treat the previous GAAP carrying
values, as at the date of transition, of investments in subsidiaries, associates and joint ventures
as its deemed cost on transition to Ind AS. If such an exemption is adopted, then the carrying
values of such investments are not adjusted. Accordingly, any adjustments in relation to
recognition of contingent consideration on first time adoption shall be made in the statement
of profit and loss.

Topic 5 : Equity Adjustments & Opening Balance Sheet

Question 16

XYZ Pvt. Ltd. is a company registered under the Companies Act, 2013 following Accounting
Standards notified under Companies (Accounting Standards) Rules, 2006. The Company has
decided to voluntary adopt Ind AS w.e.f 1st April, 2018 with a transition date of 1st April,
2017.

The Company has one Wholly Owned Subsidiary and one Joint Venture which are into
manufacturing of automobile spare parts.

The -consolidated financial statements of the Company under Indian GAAP are as under :

Consolidated Financial Statements

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 (in Lakhs) (in Lakhs)

Particulars 31.03.2018 31.03.2017

Shareholder's Funds Share Capital Reserves & Surplus 7,953 7,953

Non-Current Liabilities

Long Term Borrowings 16,547 16,597

Long Term Provisions 1,000 1,000

Other Long-Term Liabilities 1,101 691

5,202 5,904

Additional Information:

The Company has entered into a joint arrangement by acquiring 50% of the equity shares of
ABC Pvt. Ltd. Presently, the same has been accounted as per the proportionate consolidated
method. The proportionate share of assets and liabilities of ABC Pvt. Ltd. included in the
consolidated financial statement of XYZ Pvt. Ltd. is as under:

Particulars 31.03.2018 31.03.2017

Shareholder's Funds Share Capital 7,953 7,953

Reserves & Surplus 16,547 16,597

Non-Current Liabilities

Long Term Borrowings 1,000 1,000

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Long Term Provisions 1,101 691

Other Long-Term Liabilities 5,202 5,904

Current Liabilities

Trade Payables 9,905 8,455

Short Term Provisions 500 475

Total 42,208 41,075

Non-Current Assets

Property Plant & Equipment 21,488 22,288

Goodwill on Consolidation of subsidiary and JV 1,507 1,507

Investment Property 5,245 5,245

Long Term Loans & Advances 6,350 6,350

Current Assets

Trade Receivables 4,801 1,818

Investments 1,263 3,763

Other Current Assets 1,554 104

Total 42,208 41,075

The Investment is in the nature of Joint Venture as per Ind AS 111. The Company has
approached you to advice and suggest the accounting adjustments which are required to be
made in the opening Balance Sheet as on 1st April, 2017.

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 (RTP May 2019)

Answer 16

As per paras D31AA and D31AB of Ind AS 101, when changing from proportionate consolidation
to the equity method, an entity shall recognize its investment in the joint venture at transition
date to Ind AS. That initial investment shall be measured as the aggregate of the carrying
amounts of the assets and liabilities that the entity had previously proportionately
consolidated, including any goodwill arising from acquisition. If the goodwill previously
belonged to a larger cash-generating unit, or to a group of cash-generating units, the entity
shall allocate goodwill to the joint venture on the basis of the relative carrying amounts of the
joint venture and the cash-generating unit or group of cash-generating units to which it
belonged. The balance of the investment in joint venture at the date of transition to Ind AS,
determined in accordance with paragraph D31AA above is regarded as the deemed cost of the
investment at initial recognition

MAY, 2019 Accordingly, the deemed cost of the investment will be

Property, Plant & Equipment 1,200

Goodwill (Refer Note below) 119

Long Term Loans & Advances 405

Trade Receivables 280

Other Current Assets 50

Total Assets 2054

Less: Trade Payables 75

Short Term Provisions 35

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Deemed cost of the investment in JV 1944

Calculation of proportionate goodwill share of Joint Venture i.e. ABC Pvt. Ltd.

Property, Plant & Equipment 22,288

Goodwill 1,507

Long Term Loans & Advances 6,350

Trade Receivables 1,818

Other Current Assets 104

Total Assets 32,067

Less: Trade Payables 8,455

Short Term Provisions 475

23,137

Proportionate Goodwill of Joint Venture

= [(Goodwill on consolidation of subsidiary and JV/Total relative net asset) Net asset of JV] =
(1507 / 23,137) 1825 = 119 (approx.)

Accordingly, the proportional share of assets and liabilities of Joint Venture will be removed
from the respective values assets and liabilities appearing in the balance sheet on 31.3.2017
and Investment in JV will appear under non-current asset in the transition date balance sheet as
on 1.4.2017.

Adjustments made in I GAAP balance sheet to arrive at Transition date Ind AS Balance Sheet

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Particulars 31.3.2017 Ind AS Transition date
Adjustment Balance Sheet
as per Ind AS

Non-Current Assets

Property Plant & Equipment 22,288 (1,200) 21,088

Intangible assets - Goodwill on 1,507 (119) 1,388

Consolidation

Investment Property 5,245 - 5,245

Long Term Loans & Advances 6,350 (405) 5,945

Non- current investment in JV - 1,944 1,944

Current Assets -

Trade Receivables 1,818 (280) 1,538

Investments · 3,763 - 3,763

Other Current Assets 104 (50) 54

Total 41,075 (110) 40,965

Shareholder's Funds

Share Capital 7,953 - 7,953

Reserves & Surplus 16,597 - 16,597

Non-Current Liabilities

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Long Term Borrowings 1,000 1,000

Long Term Provisions 691 691

Other Long-Term Liabilities 5,904 5,904

Current Liabilities

Trade Payables 8,455 (75) 8,380

Short Term Provisions 475 (35) 440

Total 41,075 (110) 40,965

Question 17

H Ltd. has the following assets and liabilities as at March 31, 20X1, prepared in accordance
with previous GAAP:

Particulars Notes Amount (Rs.)

Property, Plant and Equipment 1 1,34,50,000

Investments in S. Ltd. 2 48,00,000

Debtors 2,00,000

Advances for purchase of inventory 50,00,000

Inventory 8,00,000

Cash 49,000

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Total assets 2,42,99,000

Deferral loan 3 60,00,000

Creditors 30,00,000

Short term borrowing 8,00,000

Provisions 12,00,000

Total liabilities 1,10,00,000

Share capital 1,30,00,000

Reserves: 2,99,000

Cumulative translation difference 4 1,00,000

ESOP reserve 4 20,000

Retained earnings 1,79,000

Total equity 1,32,99,000

Total equity and liabilities 2,42,99,000

The following GAAP differences were identified by the Company on firsttime adoption of Ind
AS with effect from April 1, 20X1:

1. In relation to property, plant and equipment, the following adjustments were identified:

• Property, plant and equipment comprise land held for capital appreciation purposes costing
Rs. 4,50,000 and was classified as investment property as per Ind AS 40.

• Exchange differences of Rs. 1,00,000 were capitalised to depreciable property, plant and
equipment on which accumulated depreciation of Rs. 40,000 was recognised.

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• There were no asset retirement obligations.

• The management intends to adopt deemed cost exemption for using the previous GAAP
carrying values as deemed cost as at the date of transition for PPE and investment property.

2. The Company had made an investment in S Ltd. (subsidiary of H Ltd.) for Rs. 48,00,000 that
carried a fair value of Rs. 68,00,000 as at the transition date. The Company intends to
recognise the investment at its fair value as at the date of transition.

3. Financial instruments:

• Deferral loan Rs. 60,00,000:

The deferral loan of Rs. 60,00,000 was obtained on March 31, 20X1, for setting up a business
in a backward region with a condition to create certain defined targets for employment of
local population of that region. The loan does not carry any interest and is repayable in full at
the end of 5 years. In accordance with Ind AS 109, the discount factor on the loan is to be
taken as 10%, being the incremental borrowing rate. Accordingly, the fair value of the loan as
at March 31, 20X1, is Rs. 37,25,528. The entity chooses to exercise the option given in
paragraph B11 of Ind AS 101, i.e., the entity chooses to apply the requirements of Ind AS 109,
Financial Instruments and Ind AS 20, Accounting for Government Grants and Disclosure of
Government Assistance, retrospectively as required information had been obtained at the
time of initially accounting for deferral loan.

4. The retained earnings of the Company contained the following:

• ESOP reserve of Rs. 20,000:

The Company had granted 1,000 options to employees out of which 800 have already vested.
The Company followed an intrinsic value method for options and Rs. 8,000 over a period of
time as ESOP charge and a corresponding reserve. If fair value method had been followed in
accordance with Ind AS 102, the corresponding charge would have been Rs. 15,000 and Rs.
9,000 for the vested and unvested shares respectively.

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The Company intends to avail the Ind AS 101 exemption for share-based payments for not
restating the ESOP charge as per previous GAAP for vested options.

• Cumulative translation difference :

Rs. 1,00,000 The Company had a non-integral foreign branch in accordance with AS 11 and
had recognised a balance of Rs. 1,00,000 as part of reserves. On first- time adoption of Ind AS,
the Company intends to avail Ind AS 101 exemption of resetting the cumulative translation
difference to zero.

(MTP Oct 19)

Answer 17

1. Property, plant and equipment:

As the land held for capital appreciation purposes qualifies as investment property, such
investment property should be reclassified from property, plant and equipment (PPE) to
investment property and presented separately. As the Company has adopted the previous
GAAP carrying values as deemed cost, all items of PPE and investment property should be
carried at its previous GAAP carrying values. As such, the past capitalized exchange differences
require no adjustment in this case.

2. Investment in subsidiary:

On first time adoption of Ind AS, a parent company has an option to carry its investment in
subsidiary at fair value as at the date of transition in its separate financial statements. As such,
the company can recognise such investment at a value of Rs. 68,00,000.

3. Financial instruments:

As the deferral loan is a financial liability under Ind AS 109, that liability should be recognised at
its present value discounted at an appropriate discounting factor. Consequently, the deferral

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loan should be recognised at Rs. 37,25,528 and the remaining Rs. 22,74,472 would be
recognised as deferred government grant.

4. ESOPs:

Ind AS 101 provides an exemption of not restating the accounting as per the previous GAAP in
accordance with Ind AS 102 for all options that have vested by the transition date. Accordingly,
out of 1000 ESOPs granted, the first-tim e adoption exemption is available on 800 options that
have already vested. As such, its accounting need not be restated. However, the 200 options
that are not vested as at the transition date, need to be restated in accordance with Ind AS 102.
As such, the additional impact of Rs. 1,000 (i.e., 9,000 less 8,000) would be recognised in the
opening Ind AS balance sheet.

5. Cumulative translation difference:

As per paragraph D12 of Ind AS 101, the first- time adopter can avail an exemption regarding
requirements of Ind AS 21 in context of cumulative translation differences. If a first-time
adopter uses this exemption the cumulative translation differences for all foreign operation are
deemed to be zero as at the transition date. In that case, the balance is transferred to retained
earnings. As such, the balance of Rs. 1,00,000 should be transferred to retained earnings.

Retained earnings should be increased by Rs. 20,99,000 on account of the following:

Rs

Increase in fair value of investment in subsidiary (note 2) 20,00,000

Additional ESOP charge on unvested options (note 4) (1,000)

Transfer of cumulative translation difference balance to retained earnings 1,00,000

(note 5)

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After the above adjustments, the carrying values of assets and liabilities for the purpose of
opening Ind AS balance sheet of Company H should be as under:

Particular Notes Previous Adjustments Ind AS GAAP

Non-Current Assets

Property, plant and equipment 1 1,34,50,000 (4,50,000) 1,30,00,000

Investment property 1 0 4,50,000 4,50,000

Investment in S Ltd. 2 48,00,000 20,00,000 68,00,000

Advances for purchase of inventory 50,00,000 50,00,000

Current Assets

Debtors 2,00,000 2,00,000

Inventory 8,00,000 8,00,000

Cash 49,000 49,000

Total assets 2,42,99,000 20,00,000 2,62,99,000

Non-current Liabilities

Deferral loan 3 60,00,000 (22,74,472) 37,25,528

Deferred government grant 3 0 22,74,472 22,74,472

Current Liabilities

Creditors 30,00,000 30,00,000

Short term borrowing 8,00,000 8,00,000

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Provisions 12,00,000 12,00,000

Total liabilities 1,10,00,000 1,10,00,000

Share capital 1,30,00,000 1,30,00,000

Reserves:

Cumulative translation difference 5 1,00,000 (1,00,000) 0

ESOP reserve 4 20,000 1,000 21,000

Other reserves 6 1,79,000 20,99,000 22,78,000

Total equity 1,32,99,000 20,00,000 1,52,99,000

Total equity and liabilities 2,42,99,000 20,00,000 2,62,99,000

Question 18

Shaurya Limited is the company having its registered and corporate office at New Delhi. 60%
of the Shaurya Limited’s shares are held by the Government of India and rest by other
investors.

This is the first time that Shaurya limited would be applying Ind AS for the preparation of its
financials for the current financial year 2019-2020.

Following balance sheet is prepared as per earlier GAAP as at the beginning of the preceding
period along with the additional information:

Balance Sheet as at 31 March 2018

(All figures are in ’000, unless otherwise specified)

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Particulars Amount

EQUITY AND LIABILITIES

(1) Shareholders’ Funds

(a) Share Capital 10,00,000

(b) Reserves & Surplus 25,00,000

(2) Non-Current Liabilities

(a) Long Term Borrowings 4,50,000

(b) Long Term Provisions 3,50,000

(c) Deferred tax liabilities 3,50,000

(3) Current Liabilities

(a) Trade Payables 22,00,000

(b) Other Current Liabilities 4,50,000

(c) Short Term Provisions 12,00,000

TOTAL 85,00,000

ASSETS

(1) Non-Current Assets

(a) Property, Plant & Equipment (net) 20,00,000

(b) Intangible assets 2,00,000

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(c) Goodwill 1,00,000

(d) Non-current Investments 5,00,000

(e) Long Term Loans and Advances 1,50,000

(f) Other Non-Current Assets 2,00,000

(2) Current Assets

(a) Current Investments 18,00,000

(b) Inventories 12,50,000

(c) Trade Receivables 9,00,000

(d) Cash and Bank Balances 10,00,000

(e) Other Current Assets 4,00,000

TOTAL 85,00,000

Additional Information (All figures are in ’000) :

1. Other current liabilities include Rs. 3,90,000 liabilities to be paid in cash such as expense
payable, salary payable etc. and Rs. 60,000 are statutory government dues.

2. Long term loans and advances include Rs. 40,000 loan and the remaining amount consists
Advance to staff of Rs. 1,10,000.

3. Other non-current assets of Rs. 2,00,000 consists Capital advances to suppliers.

4. Other current assets include Rs. 3,50,000 current assets receivable in cash and Prepaid
expenses of Rs. 50,000.

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5. Short term provisions include Dividend payable of Rs. 2,00,000. The dividend payable had
been as a result of board meeting wherein the declaration of dividend for financial year 2017
-2018 was made. However, it is subject to approval of shareholders in the annual general
meeting.

Chief financial officer of Shaurya Limited has also presented the following information against
corresponding relevant items in the balance sheet:

a) Property, Plant & Equipment consists a class of assets as office buildings whose carrying
amount is Rs. 10,00,000. However, the fair value of said office building as on the date of
transition is estimated to be Rs. 15,00,000. Company wants to follow revaluation model as its
accounting policy in respect of its property, plant and equipment for the first annual Ind AS
financial statements.

b) The fair value of Intangible assets as on the date of transition is estimated to be Rs.
2,50,000. However, the management is reluctant to incorporate the fair value changes in
books of account .

c) Shaurya Ltd. had acquired 80% shares in a company, Excel private limited few years ago
thereby acquiring the control upon it at that time. Shaurya Ltd. recognised goodwill as per
erstwhile accounting standards by accounting the excess of consideration paid over the net
assets acquired at the date of acquisition. Fair value exercise was not done at the time of
acquisition.

d) Trade receivables include an amount of Rs. 20,000 as provision for doubtful debts
measured in accordance with previous GAAP. Now as per latest estimates, the provision
needs to be revised to Rs. 25,000.

e) Company had given a loan of Rs.1,00,000 to an entity for the term of 10 years six years ago.
Transaction costs were incurred separately for this loan. The loan carries an interest rate of
7%. The principal amount is to be repaid in equal installments over the period of ten years at
the year end. Interest is also payable at each year end. The fair value of loan as on the date of

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transition is Rs. 50,000 as against the carrying amount of loan which at present amounts to
Rs. 40,000. However, Ind AS 109 mandates to charge the interest expense as per effective
interest method after the adjustment of transaction costs. Management says it is tedious task
in the given case to apply the effective interest rate changes with retrospective effect and
hence is reluctant to apply the same retrospectively in its first time adoption.

f) In the long term borrowings, Rs. 4,50,000 of component is due towards the State
Government. Interest is payable on the government loan at 4%, however the prevailing rate
in the market at present is 8%. The fair market value of loan stands at Rs. 4,20,000 as on the
relevant date.

g) Under Previous GAAP, the mutual funds were measured at cost or market value, whichever
is lower. Under Ind AS, the Company has designated theseinvestments at fair value through
profit or loss. The value of mutual funds as per previous GAAP is Rs. 2,00,000 as included in
‘current investment’. However, the fair value of mutual funds as on the date of transition is
Rs. 2,30,000.

h) Ignore separate calculation of deferred tax on above adjustments. Assume the net
deferred tax income to be Rs. 50,000 on account of Ind AS transition adjustments.

Requirements:

- Prepare transition date balance sheet of Shaurya Limited as per Indian Accounting
Standards

- Show necessary explanation for each of the items presented by chief financial officer in the
form of notes, which may or may not require the adjustment as on the date of transition.

(MTP Oct’20)

Answer 18

Transition date (opening) IND-AS BALANCE SHEET of SHAURYA LIMITED As at 1 April 2018

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(All figures are in ’000, unless otherwise specified)

Particulars Previous GAAP Transitional Ind Opening Ind AS

AS adjustments Balance sheet

ASSETS

Non-current assets

Property, plant and equipment (Note 20,00,000 5,00,000 25,00,000

1)

Goodwill (Note 2) 1,00,000 - 1,00,000

Other Intangible assets (Note 3) 2,00,000 - 2,00,000

Financial assets:

Investment 5,00,000 - 5,00,000

Loans (Note 4) 40,000 10,000 50,000

Other financial assets 1,10,000 - 1,10,000

Other non-current assets 2,00,000 - 2,00,000

Current assets

Inventories 12,50,000 - 12,50,000

Financial assets

Investment (Note 5) 18,00,000 30,000 18,30,000

Trade receivables (Note 6) 9,00,000 - 9,00,000

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Cash and cash equivalents/Bank 10,00,000 - 10,00,000

Other financial assets 3,50,000 - 3,50,000

Other current assets 50,000 - 50,000

TOTAL ASSETS 85,00,000 5,40,000 90,40,000

EQUITY AND LIABILITIES

Equity

Equity share capital 10,00,000 - 10,00,000

Other equity 25,00,000 7,90,000 32,90,000

Non-current liabilities

Financial liabilities

Borrowings (Note-7) 4,50,000 - 4,50,000

Provisions 3,50,000 - 3,50,000

Deferred tax liabilities (Net) 3,50,000 (50,000) 3,00,000

Current liabilities

Financial liabilities

Trade payables 22,00,000 - 22,00,000

Other financial liabilities 3,90,000 - 3,90,000

Other current liabilities 60,000 - 60,000

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Provisions (Note-8) 12,00,000 (2,00,000) 10,00,000

TOTAL EQUITY AND LIABILITIES 85,00,000 5,40,000 90,40,000

OTHER EQUITY

Retained Earnings (Rs.) Fair value reserve Total

As at 31 March, 2018 27,90,000 (W.N.1) 5,00,000 32,90,000

Working Note 1:

Retained earnings balance:

Balance as per Earlier GAAP 25,00,000

Transitional adjustment due to loan’s fair value 10,000

Transitional adjustment due to increase in mutual fund’s fair value 30,000

Transitional adjustment due to decrease in deferred tax liability 50,000

Transitional adjustment due to decrease in provisions (dividend) 2,00,000

Total 27,90,000

Disclosure forming part of financial statements:

Proposed dividend on equity shares is subject to the approval of the shareholders of the
company at the annual general meeting and should not recognized as liability as at the Balance
Sheet date.

Note 1: Property, plant & Equipment:

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As per para D5 of Ind AS 101,an entity may elect to measure an item of property, plant and
equipment at the date of transition to Ind AS at its fair value and use that fair value as its
deemed cost at that date.

Note 2: Goodwill:

Ind AS 103 mandatorily requires measuring the assets and liabilities of the acquiree at its fair
value as on the date of acquisition. However, a first time adopter may elect to not apply the
provisions of Ind AS 103 with retrospective effect that occurred prior to the date of transition to
Ind AS. Hence company can continue to carry the goodwill in its books of account as per the
previous GAAP.

Note 3: Intangible assets:

Para D7 read with D6 of Ind AS 101 states that a first-time adopter may elect to use a previous
GAAP revaluation at, or before, the date of transition to Ind AS as deemed cost at the date of
the revaluation, if the revaluation was, at the date of the revaluation, broadly comparable to:

(a) Fair value; or

(b) Cost or depreciated cost in accordance with Ind AS, adjusted to reflect, for example,
changes in a general or specific price index.

However, there is a requirement that Intangible assets must meet the definition and
recognition criteria as per Ind AS 38. Hence, company can avail the exemption given in Ind AS
101 as on the date of transition to use the carrying value as per previous GAAP.

Note 4: Loan:

Para B8C of Ind AS 101 states that if it is impracticable (as defined in Ind AS 8) for an entity to
apply retrospectively the effective interest method in Ind AS 109, the fair value of the financial
asset or the financial liability at the date of transition to Ind ASs shall be the new gross carrying
amount of that financial asset or the new amortised cost of that financial liability at the date of

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transition to Ind AS. Accordingly, Rs. 50,000 would be the gross carrying amount of loan and
difference of Rs. 10,000 (Rs. 50,000 – Rs. 40,000) would be adjusted to retained earnings.

Note 5: Mutual Funds:

Para 29 of Ind AS 101 states that an entity is permitted to designate a previously reco gnised
financial asset as a financial asset measured at fair value through profit or loss in accordance
with paragraph D19A. The entity shall disclose the fair value of financial assets so designated at
the date of designation and their classification and carrying amount in the previous financial
statements.

D19A states that an entity may designate a financial asset as measured at fair value through
profit or loss in accordance with Ind AS 109 on the basis of the facts and circumstances that
exist at the date of transition to Ind AS.

Note 6: Trade receivables:

Para 14 of Ind AS 101 states that an entity’s estimates in accordance with Ind Ass at the date of
transition to Ind AS shall be consistent with estimates made for the same date in accordance
with previous GAAP (after adjustments to reflect any difference in accounting policies), unless
there is objective evidence that those estimates were in error. Para 15 of Ind AS 101 further
states that an entity may receive information after the date of transition to Ind ASs about
estimates that it had made under previous GAAP. In accordance with paragraph 14, an entity
shall treat the receipt of that information in the same way as non -adjusting events after the
reporting period in accordance with Ind AS 10, Events after the Reporting Period. The entity
shall not reflect that new information in its opening Ind AS Balance Sheet (unless the estimates
need adjustment for any differences in accounting policies or there is objective evidence that
the estimates were in error). Instead, the entity shall reflect that new information in profit or
loss (or, if appropriate, other comprehensive income) for the year ended 31 March 2019.

Note 7: Government Grant:

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Para 10A of Ind AS 20 states that the benefit of a government loan at a belowmarket rate of
interest is treated as a government grant. The loan shall be recognised and measured in
accordance with Ind AS 109, Financial Instruments. The benefit of the below-market rate of
interest shall be measured as the difference between the initial carrying value of the loan
determined in accordance with Ind AS 109, and the proceeds received. The benefit is accounted
for in accordance with this Standard.

However, Para B10 of Ind AS 101 states, a first-time adopter shall classify all government loans
received as a financial liability or an equity instrument in accordance with Ind AS 32, Financial
Instruments: Presentation. Except as permitted by paragraph B11, a first-time adopter shall
apply the requirements in Ind AS 109, Financial Instruments, and Ind AS 20, Accounting for
Government Grants and Disclosure of Government Assistance, prospectively to government
loans existing at the date of transition to Ind ASs and shall not recognise the corresponding
benefit of the governme nt loan at a below-market rate of interest as a government grant.
Consequently, if a first -time adopter did not, under its previous GAAP, recognise and measure
a government loan at a below-market rate of interest on a basis consistent with Ind AS
requirements, it shall use its previous GAAP carrying amount of the loan at the date of
transition to Ind AS as the carrying amount of the loan in the opening Ind AS Balance Sheet. An
entity shall apply Ind AS 109 to the measurement of such loans after the date of transition to
Ind AS.

Note 8: Dividend

Dividend should be deducted from retained earnings during the year when it has been declared
and approved. Accordingly, the provision declared for preceding year should be reversed (to
rectify the wrong entry). Retained earnings would increase proportionately due to such
adjustment.

Question 19

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Mathur India Private Limited has to present its first financials under Ind AS for the year ended
31st March, 20X3. The transition date is 1st April, 20X1.

The following adjustments were made upon transition to Ind AS:

(a) The Company opted to fair value its land as on the date on transition. The fair value of the
land as on 1st April, 20X1 was Rs. 10 crores. The carrying amount as on 1st April, 20X1 under
the existing GAAP was Rs. 4.5 crores.

(b) The Company has recognised a provision for proposed dividend of Rs. 60 lacs and related
dividend distribution tax of Rs. 18 lacs during the year ended 31st March, 20X1. It was written
back as on opening balance sheet date.

(c) The Company fair values its investments in equity shares on the date of transition. The
increase on account of fair valuation of shares is Rs. 75 lacs.

(d) The Company has an Equity Share Capital of Rs. 80 crores and Redeemable Preference
Share Capital of Rs. 25 crores.

(e) The reserves and surplus as on 1st April, 20X1 before transition to Ind AS was Rs. 95 crores
representing Rs. 40 crores of general reserve and Rs. 5 crores of capital reserve acquired out
of business combination and balance is surplus in the Retained Earnings.

(f) The company identified that the preference shares were in nature of financial liabilities.

What is the balance of total equity (Equity and other equity) as on 1st April, 20X1 after
transition to Ind AS? Show reconciliation between total equity as per AS (Accounting
Standards) and as per Ind AS to be presented in the opening balance sheet as on 1st April,
20X1. Ignore deferred tax impact.

(RTP Nov ’19) (MTP Sep ‘23)(MTP May ’25)

Answer 19

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Computation of balance total equity as on 1st April, 20X1 after transition to Ind AS

Rs. in crore

Share capital- Equity share Capital 80

Other Equity

General Reserve 40

Capital Reserve 5

Retained Earnings (95-5-40) 50

Add: Increase in value of land (10-4.5) 5.5

Add: De recognition of proposed dividend (0.6 + 0.18) 0.78

Add: Increase in value of Investment 0.75 57.03 102.03

Balance total equity as on 1st April, 20X1 after transition 182.03

to Ind AS

Reconciliation between Total Equity as per AS and Ind AS to be presented in the opening
balance sheet as on 1st April, 20X1

Rs. in crore

Equity share capital 80

Redeemable Preference share capital 25

105

Reserves and Surplus 95

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Total Equity as per AS 200

Adjustment due to reclassification

Preference share capital classified as financial liability (25)

Adjustment due to derecognition

Proposed Dividend not considered as liability as on 1st April 20X1 0.78

Adjustment due to remeasurement

Increase in the value of Land due to remeasurement at fair value 5.5

Increase in the value of investment due to remeasurement at fair 0.75 6.25

value

Equity as on 1st April, 20X1 after transition to Ind AS 182.03

Question 20

Rainy Pvt Ltd. is a company registered under the Companies Act, 2013 following Accounting
Standards notified under the Companies (Accounting Standards) Rules, 2006. The company
has decided to present its first financials under Ind AS for the year ended 31st March, 2021.
The transition date is 1st April, 2019.

The following adjustments were made upon transition to Ind AS:

(i) The company opted to fair value its land as on the date on transition. The fair value of the
land as on 1st April, 2019 was Rs 95 lakh. The carrying amount as on 1st April, 2019 under the
existing GAAP was Rs 42.75 lakh.

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(ii) The company has recognised a provision for proposed dividend of Rs 5.7 lakh and related
dividend distribution tax of Rs 1.65 lakh during the year ended 31st March, 2019. It was
written back as on opening balance sheet date.

(iii) The company had a non-integral foreign branch in accordance with AS 11 and had
recognised a balance of Rs 2 lakh as part of reserves. On first time adoption of Ind AS, the
company intends to avail Ind AS exemption of resetting the cumulative translation difference
to zero.

(iv) The company had made an investment in subsidiary for Rs 18.62 lakh that carried a fair
value of Rs 25.75 lakh as at the transition date. The company intends to recognise the
investment at its fair value as at the date of transition.

(v) The company has an Equity Share Capital of Rs 760 lakh and Redeemable Preference Share
Capital of Rs 180 lakh. The company identified that the preference shares were in nature of
financial liabilities.

(vi) The Reserves and Surplus as on 1st April, 2019 before transition to lnd AS was Rs 910 lakh
representing Rs 380 lakh of general reserve and Rs 40 lakh of Capital Reserve acquired out of
business combination and balance is surplus in the Retained Earnings.

What is the balance of total equity (Equity and other equity) as on 1 st April, 2019 after
transition to Ind AS? Show reconciliation between Total Equity as per AS (Accounting
Standards) and as per lnd AS to be presented in the opening balance sheet as on 1st April,
2019. Ignore deferred tax impact.

(PYP Dec ‘21)

Answer 20

Computation of balance total equity as on 1st April, 2019 after transition to Ind AS

Rs in lakh

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Share capital- Equity share Capital 760.00

Other Equity

General Reserve 380.00

Capital Reserve 40.00

Retained Earnings (910.00 – 380.00 – 40.00) 490.00

Add: Increase in value of land (95.00 – 42.75) 52.25

Add: Derecognition of proposed dividend (5.70 + 7.35

1.65)

Add: Transfer of cumulative translation difference 2.00

balance to retained earnings

Add: Increase in value of Investment (25.75 – 7.13 558.7 3 978.73

18.62)

Balance total equity as on 1st April, 2019 after 1,738.73

transition to Ind AS

Reconciliation between Total Equity as per AS and Ind AS to be presented in the opening
balance sheet as on 1st April, 2019

Rs in lakh

Equity share capital 760.00

Redeemable Preference share capital 180.00

940.00

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Reserves and Surplus 910.00

Total Equity as per AS 1,850.00

Adjustment due to reclassification

Preference share capital classified as financial liability (180.00)

Adjustment due to de-recognition:

Proposed dividend not considered as liability as on 1st April, 2019 7.35

Adjustment due to re-measurement:

Increase in the value of Land due to re-measurement at fair value 52.25

Resetting of cumulative translation difference balance to zero in 2.00

Ind AS Transition date Balance Sheet

Increase in the value of investment due to re-measurement at fair 7.13 61.38

value

Equity as on 1st April, 2019 after transition to Ind AS 1,738.73

Topic 6 : Foreign Currency Transactions

Question 21

Y Ltd. is a first time adopter of Ind AS. The date of transition is April 1, 20X5. On April 1, 20X0,
it obtained a 7 year US $ 1,00,000 loan. It has been exercising the option provided in
Paragraph 46/46A of AS 11 and has been amortising the exchange differences in respect of

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this loan over the balance period of such loan. On the date of transition to Ind AS, Y Ltd.
wants to discontinue the accounting policy as per the previous GAAP and follow the
requirements of Ind AS 21 with respect to recognition of foreign exchange differences.
Whether the Company is permitted to do so?

(Study material)

Answer 21

Ind AS 101 provides that a first-time adopter may continue the policy adopted for accounting
for exchange differences arising from translation of long-term foreign currency monetary items
recognised in the financial statements for the period ending immediately before the beginning
of the first Ind AS financial reporting period as per the previous GAAP. Ind AS 101 gives an
option to continue the existing accounting policy. Hence, Y Ltd. may opt for discontinuation of
accounting policy as per previous GAAP and follow the requirements of Ind AS 21. The
cumulative amount lying in the Foreign Currency Monetary Item Translation Difference Account
(FCMITDA) as per AS 11 should be derecognised by an adjustment against retained earnings on
the date of transition.

Question 22

A company has chosen to elect the deemed cost exemption in accordance with Ind AS 101.
However, it does not wish to continue with its existing policy of capitalising exchange
fluctuation on long term foreign currency monetary items to property, plant and equipment
i.e. it does not want to elect the exemption available as per Ind AS 101. In such a case, how
would the company be required to adjust the foreign exchange fluctuation already capitalised
to the cost of property, plant and equipment under previous GAAP?

(Study material)

Answer 22

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1. Ind AS 101 permits to continue with the carrying value for all of its property, plant and
equipment as per the previous GAAP and use that as deemed cost for the purposes of first time
adoption of Ind AS. Accordingly, the carrying value of property, plant and equipment as per
previous GAAP as at the date of transition need not be adjusted for the exchange fluctuations
capitalized to property, plant and equipment. Separately, it allows a company

2. to continue with its existing policy for accounting for exchange differences arising from
translation of long term foreign currency monetary items recognised in the financial statements
for the period ending immediately before the beginning of the first Ind AS financial reporting
period as per the previous GAAP. Accordingly, given that Ind AS 101 provides these two choices
independent of each other, it may be possible for an entity to choose the deemed cost
exemption for all of its property, plant and equipment and not elect the exemption of
continuing the previous GAAP policy of capitalising exchange fluctuation to property, plant and
equipment. In such a case, in the given case, a harmonious interpretation of the two
exemptions would require the company to recognise the property, plant and equipment at the
transition date at the previous GAAP carrying value (without any adjustment for the exchanges
differences capitalized under previous GAAP) but for the purposes of the first (and all
subsequent) Ind AS financial statements, foreign exchange fluctuation on all long term foreign
currency borrowings that arose after the transition date would be recognised in the statement
of profit and loss.

Question 23

ICAI Illustration

Y Ltd. is a first time adopter of Ind AS. The date of transition is April 1, 20X1. On the date of
transition, there is a long- term foreign currency monetary liability of Rs 60 crores (US $ 10
million converted at an exchange rate of US $ 1 = Rs 21 60). The accumulated exchange
difference on the date of transition is nil since Y Ltd. was following AS 11 notified under the
Companies (Accounting Standards) Rules, 2006 and has not exercised the option provided in

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paragraph 46/46A of AS 11. The Company wants to avail the option under paragraph 46A of
AS 11 prospectively or retrospectively on the date of transition to Ind AS. How should it
account for the translation differences in respect of this item under Ind AS 101?

(Study material)

Answer

Ind AS 101 provides that a first-time adopter may continue the policy adopted for accounting
for exchange differences arising from translation of long-term foreign currency monetary items
recognised in the financial statements for the period ending immediately before the beginning
of the first Ind AS financial reporting period as per the previous GAAP.

If the Company wants to avail the option prospectively

The Company cannot avail the exemption given in Ind AS 101 and cannot exercise option under
paragraph 46/46A of AS 11, prospectively, on the date of transition to Ind AS in respect of Long
term foreign currency monetary liability existing on the date of transition as the company has
not availed the option under paragraph 46/46A earlier. Therefore, the Company need to
recognise the exchange differences in accordance with the requirements of Ind AS 21, The
Effects of Changes in Foreign Exchange Rates which requires all foreign exchange differences to
be recognised in profit or loss, except such foreign exchange differences which are accounted
for as an adjustment to borrowing costs in accordance with Ind AS 23.

If the Company wants to avail the option retrospectively

The Company cannot avail the exemption given in Ind AS 101 and cannot exercise the option
under paragraph 46/46A of AS 11 retrospectively on the date of transition to Ind AS in respect
of long term foreign currency monetary liability that existed on the date of transition since the
option is available only if it is in continuation of the accounting policy followed in accordance
with the previous GAAP. Y Ltd. has not been using the option provided in Para 46/ 46A of AS 11,
hence, it will not be permitted to use the option given in Ind AS 101 retrospectively.

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Question 24

ICAI Illustration

Y Ltd. is a first time adopter of Ind AS. The date of transition is April 1, 20X5. On April 1, 20X1,
it obtained a 7 year US$ 1,00,000 loan. It has been exercising the option provided in
Paragraph 46/46A of AS 11 and has been amortising the exchange differences in respect of
this loan over the balance period of such loan. On the date of transition, the company wants
to continue the same accounting policy with regard to amortising of exchange differences.
Whether the Company is permitted to do so?

(Study material)

Answer

Ind AS 101 provides that a first-time adopter may continue the policy adopted for accounting
for exchange differences arising from translation of long-term foreign currency monetary items
recognised in the financial statements for the period ending immediately before the beginning
of the first Ind AS financial reporting period as per the previous GAAP. In view of the above, the
Company can continue to follow the existing accounting policy of amortising the exchange
differences in respect of this loan over the balance period of such long term liability.

Topic 7 : Non-Controlling Interest (NCI)

Question 25

ICAI Illustration

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Ind AS requires allocation of losses to the non-controlling interest, which may ultimately lead
to a debit balance in non-controlling interests, even if there is no contract with the non-
controlling interest holders to contribute assets to the Company to fund the losses. Whether
this adjustment is required or permitted to be made retrospectively?

(Study material)

Answer

In case an entity elects not to restate past business combinations, Ind AS 101 requires the
measurement of non-controlling interests (NCI) to follow from the measurement of other
assets and liabilities on transition to Ind AS. However, Ind AS 101 contains a mandatory
exception that prohibits retrospective allocation of accumulated profits between the owners of
the parent and the NCI. In case an entity elects not to restate past business combinations, the
previous GAAP carrying value of NCI is not changed other than for adjustments made
(remeasurement of the assets and liabilities subsequent to the business combination) as part of
the transition to Ind AS. As such, the carrying value of NCI in the opening Ind AS balance sheet
cannot have a deficit balance on account of recognition of the losses attributable to the non-
controlling interest, which was not recognised under the previous GAAP as part of NCI in the
absence of contract to contribute assets to fund such a deficit. However, the NCI could have a
deficit balance due to remeasurement of the assets and liabilities subsequent to the business
combination as part of the transition to Ind AS. In case an entity restates past business
combination, Ind AS 101 requires that the balance in NCI as at the date of transition shall be
determined retrospectively in accordance with Ind AS, taking into account the impact of other
elections made as part of the adoption of Ind AS.

As such, the NCI could have a deficit balance on account of losses attributable to the NCI, even
if there is no obligation on the holders of NCI to contribute assets to fund such a deficit.

Topic 8 : Special Case

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Question 26

ICAI Illustration

X Ltd. is a first time adopter of Ind AS. The date of transition is April 1, 20X1. It has given 200
stock options to its employees. Out of these, 75 options have vested on November 30, 20X0
and the remaining 125 will vest on November 30, 20X1. What are the options available to X
Ltd. at the date of transition?

(Study material)

Answer

Ind AS 101 provides that a first-time adopter is encouraged, but not required, to apply Ind AS
102 on ‘Share-based Payment’ to equity instruments that vested before the date of transition
to Ind AS. However, if a first time adopter elects to apply Ind AS 102 to such equity instruments,
it may do so only if the entity has disclosed publicly the fair value of those equity instruments,
determined at the measurement date, as defined in Ind AS 102.

Having regard to the above, X Ltd. has the following options:

• For 75 options that vested before the date of transition:

(a) To apply Ind AS 102 and account for the same accordingly, provided it has disclosed publicly
the fair value of those equity instruments, determined at the measurement date, as defined in
Ind AS 102.

(b) Not to apply Ind AS 102.

However, for all grants of equity instruments to which Ind AS 102 has not been applied, i.e.,
equity instruments vested but not settled before date of transition to Ind AS, X Ltd. would still
need to disclose the information.

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• For 125 options that will vest after the date of transition: X Ltd. will need to account for the
same as per Ind AS 102.

Question 27

ICAI Illustration

X Ltd. is the holding company of Y Ltd. X Ltd. is required to adopt Ind AS from April 1, 20X1. X
Ltd. wants to avail the optional exemption of using the previous GAAP carrying values in
respect of its property, plant and equipment whereas Y Ltd. wants to use fair value of its
property, plant and equipment as its deemed cost on the date of transition. Examine whether
X Ltd. can do so for its consolidated financial statements. Also, examine whether different
entities in a group can use different basis for arriving at deemed cost for property, plant and
equipment in their respective standalone financial statements.

(Study material)

Answer

Where there is no change in its functional currency on the date of transition to Ind AS, a first-
time adopter to Ind AS may elect to continue with the carrying value of all of its property, plant
and equipment as at the date of transition measured as per the previous GAAP and use that as
its deemed cost at the date of transition after making necessary adjustments. If a first time
adopter chooses this option then the option of applying this on selective basis to some of the
items of property, plant and equipment and using fair value for others is not available. Nothing
prevents different entities within a group to choose different basis for arriving at deemed cost
for the standalone financial statements. However, in Consolidated Financial Statements, the
entire group should be treated as one reporting entity. Accordingly, it will not be permissible to
use different basis for arriving at the deemed cost of property, plant and equipment on the
date of transition by different entities of the group for the purpose of preparing Consolidated
Financial Statements.

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Question 28

GG Ltd., a listed company, prepares its first Ind AS financial statements for the year ending
31st March, 20X3. The date of transition is 1st April, 20X1. The functional and presentation
currency is Rupee. The financial statements as at and for the year ended 31st March, 20X3
contain an explicit and unreserved statement of compliance with Ind AS. Previously it was
using Indian GAAP (AS) as base. It has already published its first interim results of quarter 1,
quarter 2 and quarter 3 of 20X2- 20X3 in accordance with Ind AS 34 and Ind AS 101. The
interim financial report included the reconciliations both of total comprehensive income and
of equity that are required by Ind AS 101. Since issuing the interim financial report, its
management has concluded that one of accounting policy choices applied at the interim
should be changed for the full year. How should GG Ltd. deal with the change in accounting
policy under Ind AS framework?

(RTP May ’22)

Answer 28

The first annual Ind AS financial statements are prepared in accordance with the specific
requirements of Ind AS 101. Subject to certain specified exemptions and exceptions, paragraph
7 of Ind AS 101 requires the entity to use the same accounting policies in its opening Ind AS
balance sheet and throughout all periods presented. This override Ind AS 8’s requirements for
disclosures about changes in accounting policies do not apply in an entity’s first Ind AS financial
statements. GG Ltd. should include an explanation of the change in policy that it has made since
the interim financial report, in the notes to the annual financial statements, in accordance with
paragraph 27A of Ind AS 101. The disclosure note is likely to include information , similar to
what Ind AS 8 would otherwise require, to help users of the financial statements to understand
the changes that have been made. The entity should also ensure that the reconciliations of
total comprehensive income and of equity, presented in the first Ind AS financial statements in

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accordance with paragraph 24 of Ind AS 101 are updated from those included in the interim
financial report to reflect the amended accounting policy.

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 Chapter 15

“Analysis of Financial Statements”

Topic 1 : Impairment of Assets (Ind AS 36)

Question 1

On April 1, 20X1, Pluto Ltd. has advance a loan for Rs. 10 lakhs to one of its employees for an
interest rate at 4% per annum (market rate 10%) which is repayable in 5 equal annual
installments along with interest at each year end. Employee is not required to give any
specific performance against this benefit. The accountant of the company has recognised the
staff loan in the balance sheet equivalent to the amount disbursed i.e. Rs. 10 lakhs. The
interest income for the period is recognised at the contracted rate in the Statement of Profit
and Loss by the company i.e. Rs. 40,000 (Rs. 10 lakhs 4%).

Analyse whether the above accounting treatment made by the accountant is in compliance
with the Ind AS. If not, advise the correct treatment alongwith working for the same.

(MTP Mar ‘19)

Answer 1

The above treatment needs to be examined in the light of the provisions given in Ind AS 32 and
Ind AS 109 on Financial Instruments’ and Ind AS 19 ‘Employee Benefits’.

Para 11 (c) (i) of Ind AS 32 ‘Financial Instruments: Presentation’ states that:

“A financial asset is any asset that is:

(c) a contractual right:

(i) to receive cash or…..”

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Further, paragraph 5.1.1 of Ind AS 109 states that:

“at initial recognition, an entity shall measure a financial asset or financial liability at its fair
value”.

Further, paragraph 5.1.1 of Appendix B to Ind AS 109 states that:

“The fair value of a financial instrument at initial recognition is normally the transaction price
(i.e. the fair value of the consideration given or received. However, if part of the consideration
given or received is for something other than the financial instrument, an entity shall measure
the fair value of the financial instrument. For example, the fair value of a long term loan or
receivable that carries no interest can be measured as the present value of all future cash
receipts discounted using the prevailing market(s) of interest rate of similar instrument with a
similar credit rating. Any additional amount lent is an expense or reduction of income unless it
qualifies for recognition as some other type of asset”.

Further, paragraph 5.2.1 of Ind AS 109 states that:

“After initial recognition, an entity shall measure a financial asset at:

(a) amortised cost;

(b) fair value through other comprehensive income; or

(c) fair value through profit or loss.

Further, paragraph 5.4.1 of Ind AS 109 states that:

“Interest revenue shall be calculated by using the effective interest method. This shall be
calculated by applying the effective interest rate to the gross carrying amount of a financial
asset”

Paragraph 8 of Ind AS 19 states that:

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“Employee Benefits are all forms of consideration given by an entity in exchange for service
rendered by employees or for the termination of employment”.

The Accountant of Pluto Ltd. has recognised the staff loan in the balance sheet at Rs. 10 lakhs
being the amount disbursed and Rs. 40,000 as interest income for the period is recognised at
the contracted rate in the statement of profit and loss which is not correct and not in
accordance with Ind AS 19, Ind AS 32 and Ind AS 109.

Accordingly, the staff advance being a financial asset shall be initially measured at the fair value
and subsequently at the amortised cost. The interest income is calculated by using the effective
interest method. The difference between the amount lent and fair value is charged as
Employee benefit expense in statement of profit and loss.

a) Calculation of Fair Value of the Loan

Year Cash Inflow Discounting Factor Present Value

(10%)

1 2,40,000 0.909 2,18,160

2 2,32,000 0.826 1,91,632

3 2,24,000 0.751 1,68,224

4 2,16,000 0.683 1,47,528

5 2,08,000 0.621 1,29,168

Total 8,54,712

Staff loan should be initially recorded at Rs. 8,54,712.

b) Employee Benefit Expense

Loan Amount – Fair Value of the loan = Rs. 10,00,000 – Rs. 8,54,712 = Rs. 1,45,288

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Rs. 1,45,288 shall be charged as Employee Benefit expense in Statement

of Profit and Loss for the year ended 31.03.20X2.

Amortisation table:

Year Opening balance Interest (10%) Repayment Closing balance

of Staff Advance of Staff Advance
(b)= (a 10%) (c)
(a) (d) = a + b - c

1 8,54,712 85,471 2,40,000 7,00,183

2 7,00,183 70,018 2,32,000 5,38,201

3 5,38,201 53,820 2,24,000 3,68,021

4 3,68,021 36,802 2,16,000 1,88,823

5 1,88,823 19,177 (b.f.) 2,08,000 Nil

Balance Sheet extracts showing the presentation of staff loan as at 31st March 20X2

Ind AS compliant Division II of Sch III needs to be referred for presentation requirement in
Balance Sheet on Ind AS.

Assets

Non-Current Assets

Financial Assets

(i) Loan 5,38,201

Current Assets

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Financial Assets

(i) Loans (7,00,183 - 5,38,201) 1,61,982

Question 2

ICAI Illustration

Mumbai Challengers Ltd., a listed entity, is a sports organization owning several cricket and
hockey teams. The issues below pertain to the reporting period ending 31 March 20X2.

(a) Owing to the proposed schedules of Indian Hockey League as well as Cricket Premier
Tournament, Mumbai Challengers Ltd. needs a new stadium to host the sporting events. This
stadium will form a part of the Property, Plant and Equipment of the company. Mumbai
Challengers Ltd. began the construction of the stadium on 1 December, 20X1. The
construction of the stadium was completed in 20X2-20X3. Costs directly related to the
construction amounted to Rs 140 crores in December 20X1. Thereafter, Rs 350 crores have
been incurred per month until the end of the financial year. The company has not taken any
specific borrowings to finance the construction of the stadium, although it has incurred
finance costs on its regular overdraft during the period, which were avoidable had the
stadium not been constructed. Mumbai Challengers Ltd. has calculated that the weighted
average cost of the borrowings for the period 1 December 20X1 to 31 March 20X2 amounted
to 15% per annum on an annualized basis.

The company seeks advice on the treatment of borrowing costs in its financial statements for
the year ending 31 March 20X2.

(b) Mumbai Challengers Ltd. acquires and sells players’ registrations on a regular basis. For a
player to play for its team, Mumbai Challengers Ltd. must purchase registrations for that
player. These player registrations are contractual obligations between the player and the

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company. The costs of acquiring player registrations include transfer fees, league levy fees,
and player agents’ fees incurred by the club.

At the end of each season, which happens to also be the reporting period end for Mumbai
Challengers Ltd., the club reviews its contracts with the players and makes decisions as to
whether they wish to sell/transfer any players’ registrations. The company actively markets
these registrations by circulating with other clubs a list of players’ registrations and their
estimated selling price. Players’ registrations are also sold during the season, often with
performance conditions attached. In some cases, it becomes clear that a player will not play
for the club again because of, for example, a player sustaining a career threatening injury or
being permanently removed from the playing squad for any other reason. The playing
registrations of certain players were sold after the year end, for total proceeds, net of
associated costs, of Rs 175 crores.

These registrations had a net book value of Rs 49 crores.

Mumbai Challengers Ltd. seeks your advice on the treatment of the acquisition, extension,
review and sale of players’ registrations in the circumstances outlined above.

(c) Mumbai Challengers Ltd. measures its stadiums in accordance with the revaluation model.
An airline company has approached the directors offering Rs 700 crores for the property
naming rights of all the stadiums for five years.

Three directors are on the management boards of both Mumbai Challengers Ltd. and the
airline. Additionally, statutory legislations regulate the financing of both the cricket and
hockey clubs. These regulations prevent contributions to the capital from a related party
which ‘increases equity without repayment in return’. Failure to adhere to these legislations
could lead to imposition of fines and withholding of prize money.

Mumbai Challengers Ltd. wants to know how to take account of the naming rights in the
valuations of the stadium and the potential implications of the financial regulations imposed
by the legislations

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 (Study material)

Answer

(a) Borrowing Costs

As per Ind AS 23 Borrowing Costs, an entity shall capitalize borrowing costs that are directly
attributable to the acquisition, construction or production of a qualifying asset (i.e. an asset
that necessarily takes a substantial period of time to get ready for its intended use or sale) as
part of the cost of that asset. The borrowing costs that are directly attributable to the
acquisition, construction or production of a qualifying asset are those borrowing costs that
would have been avoided if the expenditure on the qualifying asset had not been made. To the
extent that an entity borrows funds generally and uses them for the purpose of obtaining a
qualifying asset, the entity shall determine the amount of borrowing costs eligible for
capitalization by applying a capitalization rate to the expenditures on that asset. The
capitalization rate shall be the weighted average of the borrowing costs applicable to all
borrowings of the entity that are outstanding during the period.

The capitalization rate of the borrowings of Mumbai Challengers Ltd. during the period of
construction is 15% per annum (as given in the question), and therefore, the total amount of
borrowing costs to be capitalized is the expenditures incurred on the asset multiplied by the
capitalization rate, which is as under:

Particulars Rs in crores

Costs incurred in December 20X1: (Rs 140 crores 15% 4/12) 7.000

Costs incurred in January 20X2: (Rs 350 crores 15% 3/12) 13.125

Costs incurred in February 20X2: (Rs 350 crores 15% 2/12) 8.750

Costs incurred in March 20X2: (Rs 350 crores 15% 1/12) 4.375

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Borrowing Costs to be capitalized in 20X1-X2 33.250

OR

Weighted average carrying amount of the stadium during 20X1-X2 is: Rs (140 + 490 + 840 +
1,190) crores/4 = Rs 665 crores

Applying the weighted average rate of borrowings of 15% per annum, the borrowing cost to be
capitalized is computed as:

Rs 665 crores (15% 4/12) = Rs 33.25 crores

(b) Players’ Registrations

Acquisition

As per Ind AS 38 Intangible Assets, an entity should recognize an intangible asset where it is
probable that the expected future economic benefits that are attributable to the asset will flow
to the entity and the cost of the asset can be measured reliably. Accordingly, the costs
associated with the acquisition of players’ registrations would need to be capitalized which
would be the amount of cash or cash equivalent paid or the fair value of other consideration
given to acquire such registrations. In line with Ind AS 38 Intangible Assets, costs would include
transfer fees, league levy fees, and player agents’ fees incurred by the club, along with other
directly attributable costs, if any. Amounts capitalized would be fully amortized over the period
covered by the player’s contract. Sale of registrations Player registrations would be classified as
assets held for sale under Ind AS 105 Non- Current Assets Held for Sale and Discontinued
Operations when their carrying amount is expected to be recovered principally through a sale
transaction and a sale is considered to be highly probable. To consider a sale to be ‘highly
probable’, the assets (in this case, player registrations) should be actively marketed for sale at a
price that is reasonable in relation to its current fair value. In the given case, it would appear
that the management is committed to a plan to sell the registration, that the asset is available
for immediate sale and that an active plan to locate a buyer is already in place by circulating

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clubs. Ind AS 105 stipulates that it should be unlikely that the plan to sell the registrations
would be significantly changed or withdrawn. To fulfil this requirement, it would be prudent if
only those registrations are classified as held for sale where unconditional offers have been
received prior to the reporting date.

Once the conditions for classifying assets as held for sale in accordance with Ind AS 105 have
been fulfilled, the player registrations would be stated at lower of carrying amount and fair
value less costs to sell, with the carrying amount stated in accordance with Ind AS 38 prior to
application of Ind AS 105, subjected to impairment, if any.

Profits and losses on sale of players’ registrations would be computed by deducting the carrying
amount of the players’ registrations from the fair value of the consideration receivable, net of
transactions costs. In case a portion of the consideration is receivable on the occurrence of a
future performance condition (i.e. contingent consideration), this amount would be recognized
in the Statement of Profit and Loss only when the conditions are met.

The players registrations disposed of, subsequent to the year end, for Rs 175 crores, having a
corresponding book value of Rs 49 crores would be disclosed as a non-adjusting event in
accordance with Ind AS 10 Events after the Reporting Period. Impairment review Ind AS 36
Impairment of Assets requires companies to annually test their assets for impairment. An asset
is said to be impaired if the carrying amount of the asset exceeds its recoverable amount. The
recoverable amount is higher of the asset’s fair value less costs to sell and its value in use
(which is the present value of future cash flows expected to arise from the use of the asset). In
the given scenario, it is not easy to determine the value in use of any player in isolation as that
player cannot generate cash flows on his/her own unless via a sale transaction or an insurance
recovery. Whilst any individual player cannot really be separated from the single cash-
generating unit (CGU), being a cricket team or a hockey team in the instant case, there may be
certain instances where a player is taken out of the CGU when it becomes clear that he/she will
not play for the club again. If such circumstances arise, the carrying amount of the player
should be assessed against the best estimate of the player’s fair value less any costs to sell

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and an impairment charge should be recognized in the profit or loss, which reflects any loss
arising.

(c) Valuation of stadiums

In terms of Ind AS 113 Fair Value Measurement, stadiums would be valued at the price which
would be received to sell the asset in an orderly transaction between market participants at the
measurement date (i.e. exit price). The price would be the one which maximizes the value of
the asset or the group of assets using the principle of the highest and best use. The price would
essentially use Level 2 inputs which are inputs other than quoted market prices included within
Level 1 which are observable for the asset or liability, either directly or indirectly. Property
naming rights present complications when valuing property. The status of the property
indicates its suitability for inviting sponsorship attached to its name. It has nothing to do with
the property itself but this can be worth a significant amount. Therefore, Mumbai Challengers
Ltd. could include the property naming rights in the valuation of the stadium and write it off
over three years. Ind AS 24 Related Party Disclosures lists the criteria for two entities to be
treated as related parties. Such criteria include being members of the same group or where a
person or a close member of that person’s family is related to a reporting entity if that person
has control or joint control over the reporting entity. Ind AS 24 deems that parties are not
related simply because they have a director or a key manager in common. In this case, there are
three directors in common and in the absence of any information to the contrary, it appears as
though the entities are not related. However, the regulator will need to establish whether the
sponsorship deal is a related party transaction for the purpose of the financial control
provisions. There would need to be demonstrated that the airline may be expected to
influence, or be influenced by, the club or a related party of the club. If the deal is deemed to
be a related party transaction, the regulator will evaluate whether the sponsorship is at fair
value or not.

Question 3

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During 20X4-X5, Cheery Limited discovered that some products that had been sold during
20X3-X4 were incorrectly included in inventory at 31st,March, 20X4 at Rs. 6,500.

Cheery Limited’s accounting records for 20X4-X5 show sales of Rs. 104,000, cost of goods sold
of Rs. 86,500 (including Rs. 6,500 for the error in opening inventory), and income taxes of Rs.
5,250. In 20X3-X4, Cheery Limited reported:

Rs.

Sales 73,500

Cost of goods sold (53,500)

Profit before income taxes 20,000

Income taxes (6,000)

Profit 14,000

Basic and diluted EPS 2.8

The 20X3-X4 opening retained earnings was Rs. 20,000 and closing retained earnings was Rs.
34,000. Cheery Limited’s income tax rate was 30% for 20X4- X5 and 20X3-X4. It had no other
income or expenses.

Cheery Limited had Rs. 50,000 (5,000 shares of Rs. 10 each) of share capital throughout, and
no other components of equity except for retained earnings. State how the above will be
treated /accounted in Cheery Limited’s Statement of profit and loss, statement of changes in
equity and in notes wherever required for current period and earlier period(s) as per relevant
Ind AS.

(MTP March ‘21)

Answer 3

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Cheery Limited Extract from the Statement of profit and loss

(Restated)

20X4-X5 20X3-X4

Rs. Rs.

Sales 1,04,000 73,500

Cost of goods sold (80,000) (60,000)

Profit before income taxes 24,000 13,500

Income taxes (7,200) (4,050)

Profit 16,800 9,450

Basic and diluted EPS 3.36 1.89

Cheery Limited Statement of Changes in Equity

Share capital Retained earnings Total

Balance at 31st March, 20X3 50,000 20,000 70,000

Profit for the year ended 31st March, 9,450 9,450

20X4 as restated

Balance at 31st March, 20X4 50,000 29,450 79,450

Profit for the year ended 31st March, 16,800 16,800

20X5

Balance at 31st March, 20X5 50,000 46,250 96,250

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Extract from the Notes

Some products that had been sold in 20X3-X4 were incorrectly included in inventory at 31st
March, 20X4 at Rs. 6,500. The financial statements of 20X3-X4 have been restated to correct
this error. The effect of the restatement on those financial statements is summarized below:

Effect on 20X3- X4

(Increase) in cost of goods sold (6,500)

Decrease in income tax expenses 1,950

(Decrease) in profit (4,550)

(Decrease) in basic and diluted EPS (0.91)

(Decrease) in inventory (6,500)

Decrease in income tax payable 1,950

(Decrease) in equity (4,550)

There is no effect on the balance sheet at the beginning of the preceding period i.e. 1st April,
20X3.

Question 4

Mercury Ltd. is an entity engaged in plantation and farming on a large scale diversified across
India. On 1st April, 20X1, the company has received a government grant for Rs 10 lakhs
subject to a condition that it will continue to engage in plantation of eucalyptus tree for a
coming period of five years. Eucalyptus trees are not considered as bearer plant in this case.
The management has a reasonable assurance that the entity will comply with condition of
engaging in the plantation of eucalyptus tree for specified period of five years and accordingly

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it recognises proportionate grant for Rs 2 lakhs in Statement of Profit and Loss as income
following the principles laid down under Ind AS 20 Accounting for Government Grants and
Disclosure of Government Assistance.

Analyse whether the above accounting treatment made by the management is in compliance
of the Ind AS. If not, advise the correct treatment alongwith working for the same.

(Study material)

Answer 4

As per given facts, the company is engaged in plantation and farming. Hence Ind AS 41
Agriculture shall be applicable to this company.

The above facts need to be examined in the light of the provisions given in Ind AS 20
‘Accounting for Government Grants and Disclosure of Government Assistance’ and Ind AS 41
‘Agriculture’.

Para 2(d) of Ind AS 20 ‘Accounting for Government Grants and Disclosure of Government
Assistance’ states:

“This Standard does not deal with government grants covered by Ind AS 41, Agriculture”.

Further, paragraph 1 (c) of Ind AS 41 ‘Agriculture’, states:

“This Standard shall be applied to account for the government grants covered by paragraphs 34
and 35 when they relate to agricultural activity”.

Further, paragraph 1 (c) of Ind AS 41 ‘Agriculture’, states:

“If a government grant related to a biological asset measured at its fair value less costs to sell is
conditional, including when a government grant requires an entity not to engage in specified
agricultural activity, an entity shall recognise the government grant in profit or loss when, and
only when, the conditions attaching to the government grant are met”.

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Understanding of the given facts, The Company has recognised the proportionate grant for Rs 2
lakhs in Statement of Profit and Loss before the conditions attaching to government grant are
met which is not correct and nor in accordance with provision of Ind AS 41 ‘Agriculture’.

Accordingly, the accounting treatment of government grant received by the Mercury Ltd. is
governed by the provision of Ind AS 41 ‘Agriculture’ rather Ind AS 20 ‘Accounting for
Government Grants and Disclosure of Government Assistance’. Government grant for Rs 10
lakhs shall be recognised in profit or loss when, and only when, the conditions attaching to the
government grant are met i.e. after the expiry of specified period of five years of continuing
engagement in the plantation of eucalyptus tree.

Balance Sheet extracts showing the presentation of Government Grant as on 31st March,
20X2

Liabilities

Non-Current liabilities

Other Non-Current Liabilities Government Grants 10,00,000

Topic 2 : Events After Reporting Period (Ind AS 10)

Question 5

On 5th ApriI, 20X2, fire damaged a consignment of inventory at one of the Jupiter’s Ltd.’s
warehouse. This inventory had been manufactured prior to 31" March 20X2 costing Rs. 8
lakhs. The net realizable value of the inventory prior to the damage was estimated at Rs. 9.60
lakhs. Because of the damage caused to the consignment of inventory, the company was
required to spend an additional amount of Rs. 2 lakhs on repairing and re- packaging of the

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inventory. The inventory was sold on 15* May, 20X2 for proceeds of Rs. 9 lakhs. The
accountant of Jupiter Ltd. treats this event as an adjusting event and adjusted this event of
causing the damage to the inventory in its financial statement and accordingly re-measures
the inventories as follows: Rs. Lakhs

Cos 8.00

Net realizable value (9.6 -2) 7.60

Inventories (lower of cost and net realizable clue) 7.60

AnaIyse whether the above accounting treatment made by the accountant in

regard to financial par ending on 31.0.20X2 is in compliance of the Ind AS. If not, advise the
correct treatment along with working for the same.

(MTP April ’19)

Answer 5

The above treatment needs to be examined in the light of the provisions given in Ind AS 10
’Events after the Reporting Period’ and Ind AS 2 ‘Inventories'. Para 3 of Ind AS 10 ‘Events after
the Reporting Period' demes “Events after the reporting period are those events, favorable and
unfavorable, that occur between the end of the reporting period and the date when the
financial statements are approved by the Board of Directors in case of a company, and, by the
corresponding approving authority in case of any other entity for issue. Two types of events can
be identified:

(a) those that provide evidence of conditions that existed at the end of the reporting period
(adjusting events after the reporting period); and

(b) those that are indicative of conditions that arose after the reporting period (non- adjusting
events after the reporting period).

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Further, paragraph 10 of Ind AS 10 states that:

“An entity shall not adjust the amounts recognized in its financial statements to reject non-
adjusting events after the reporting period”.

Further, paragraph 6 of Ind AS 2 defines:

"Net realizable clue 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".

Further, paragraph 9 of Ind AS 2 states that:

’Inventories shall be measured at the lower of cost and net realizable value".

Accountant of Jupiter Ltd. has re-measured be inventories after adjusting the event in its
financial statement which is not correct and nor in accordance with provision of Ind AS 2 and
Ind AS 10. Accordingly, be event causing the damage to the inventory occurred after the
reposing date and as per the principles laid down under Ind AS 10 ‘Events Alter the Reporting
Date’ is a non-adjusting event as it does not affect conditions at the reporting date. Non-
adjusting events are not recognized in the financial statement5, but are disclosed where their
effect is material. Therefore, as per the provisions of Ind AS 2 and Ind AS 10, the consignment of
inventories shall be recorded in the Balance Sheet at a clue of Rs. 8 lakhs calculated below:

Rs. In Lakhs

Cost 8.00

Net realizable value 9.60

Inventories (lower of cost and net realizable clue) 8.00

Question 6

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On 1st April, 20X1, Star Limited has advanced a housing loan of Rs 15 lakh to one of its
employees at an interest rate of 6% per annum which is repayable in 5 equal annual
installments along with interest at each year end. Employee is not required to give any
specific performance against this benefit. The market rate of similar loan for housing finance
by banks is 10% per annum. The accountant of the company has recognized the staff loan in
the balance sheet equivalent to the amount of housing loan disbursed i.e. Rs 15 lakh. The
interest income for the year is recognized at the contracted rate in the Statement of Profit
and Loss by the company i.e. Rs 90,000 (6% of Rs 15 lakh). Analyze whether the above
accounting treatment made by the accountant is in compliance with the relevant Ind AS. If
not, advise the correct treatment of housing loan, interest and other expenses in the financial
statements of Star Limited for the year 20X1 -20X2 along with workings and applicable Ind
AS. You are required to explain how the housing loan should be reflected in the Ind AS
compliant Balance Sheet of Star Limited on 31st March, 20X2. Ignore defer tax impact

(April 22, PYP Nov ’20)

Answer 6

The accounting treatment made by the accountant is not in compliance with Ind AS 109
‘Financial Instruments’. As per Ind AS 109, at initial recognition, an entity shall measure a
financial asset or financial liability at its fair value. The fair value of a financial instrument at
initial recognition is normally the transaction price i.e. the fair value of the consideration given
or received. After initial recognition, an entity shall measure a financial asset either at
amortised mcost or at fair value through profit and loss or fair value through other
comprehensive income.

Here, the loan given to employee is not at market rate. Hence, the fair value of the loan will not
be equal to its initial loan proceeds. As per Ind AS 109, a financial instrument is initially
measured and recorded in the books at its fair value. Further, interest income to be recognised
in the Statement of Profit and Loss will be the finance income recognised at effective rate of
interest i.e. @ 10% and not the rate of interest charged by the company i.e. @ 6%. The correct

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accounting treatment as per Ind AS 109 will be as under: For measuring the fair value or
present value of the loan at initial recognition, market rate of interest of similar loan is
considered (level 1 observable input) ie @ 10%, to discount the cash outflows.

The fair value of the loan shall be as follows:

Date Outstanding Principal Interest Total Discount PV

loan income @ inflow factor @
6% 10%

31st March 15,00,000 3,00,000 90,000 3,90,000 0.909 3,54,510

20X2

31st March 12,00,000 3,00,000 72,000 3,72,000 0.826 3,07,272

20X3

31st March 9,00,000 3,00,000 54,000 3,54,000 0.751 2,65,854

20X4

31st March 6,00,000 3,00,000 36,000 3,36,000 0.683 2,29,488

20X5

31st March 3,00,000 3,00,000 18,000 3,18,000 0.621 1,97,478

20X6

Fair value of the loan 13,54,602

As per Ind AS 19, employee benefits are all forms of consideration given by an entity in
exchange for services rendered by employees or for termination of employment Difference of
loan proceeds and present value of the loan (fair value) will be treated as prepaid employee
cost irrespective of the fact that employee is not required to give any specific performanc e
against this benefit. This is because employee is required to be in service of the company to
continue availing the benefits of concessional rate of interest on housing loan. Practically, once

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the employee leaves the organisation, they have to repay the outstanding loan because the
company provides the loan at concessional rate of interest only to its employees. Hence, it is an
employee benefit given by the company to its employees. This deemed employee cost of Rs
1,45,398 (15,00,000 – 13,54,602) will be deferred and amortised over the period of loan on
straight line basis.

Calculation of amortised cost of loan to employees

Financial year Amortised cost Interest to be Repayment Amortise d cost

ending on 31st (opening recognised @ (including (closing balance)
March balance) 10% interest)

20X2 13,54,602 1,35,460 3,90,00 0 11,00,06 2

20X3 11,00,062 1,10,006 3,72,000 8,38,068

20X4 8,38,068 83,807 3,54,000 5,67,875

20X5 5,67,875 56,788 3,36,000 2,88,663

20X6 2,88,663 29,337* 3,18,000 -

* 2,88,663 x 10% = Rs 28,866. Difference of Rs 471 (29,337 – 28,866) is due to approximation in

computation.

Journal Entries to be recorded at every period end

1. On 1st April, 20X1

Particulars Dr. Amount (Rs) Cr. Amount (Rs)

Loan to employee A/c Dr. 13,54,602

Prepaid employee cost A/c Dr. 1,45,398

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To Bank A/c 15,00,000

(Being loan asset recorded at initial fair value)

2. On 31st March, 20X2

Particulars Dr. Amount (Rs) Cr. Amount (Rs)

Bank A/c Dr. 3,90,000

To Finance income A/c (profit and loss) @10% 1,35,460

To Loan to employee A/c 2,54,540

(Being first instalment of repayment of loan accounted

for using the amortised cost and effective interest rate
@ 10%)

Employee benefit cost (profit and loss) A/c D r. 29,080

To Prepaid employee cost A/c (1,45,398/5) 29,080

(Being amortization of pre-paid employee cost charged

to profit and loss as employee benefit cost)

The following housing loan balances should appear in the financial statements:

Extracts of Balance Sheet of Star Ltd. as at 31st March, 20X2

Non-current asset

Financial asset

Loan to employee (11,00,062 – 3,72,000 + 1,10,006) 8,38,068

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Other non-current asset

Prepaid employee cost 87,238

Current asset

Financial asset

Loan to employee (3,72,000-1,10,006) 2,61,994

Other current asset

Prepaid employee cost 29,080

Topic 3 : Presentation of Financial Statements (Ind AS 1)

Question 7

Master Creator Private Limited (a subsidiary of listed company) is an Indian company to

whom Ind AS are applicable. Following draft balance sheet is prepared by the accountant for
year ending 31st March 20X2. Balance Sheet of Master Creator Private Limited as at 31st
March, 20X2

Particulars Rs.

ASSETS

Non-current assets

Property, plant and equipment 85,37,500

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Financial assets

dsOther financial assets (Security deposits) 4,62,500

Other non-current assets (capital advances) 17,33,480

Deferred tax assets 2,54,150

Current assets

Trade receivables 7,25,000

Inventories 5,98,050

Financial assets

Investments 55,000

Other financial assets 2,17,370

Cash and cash equivalents 1,16,950

TOTAL ASSETS 1,27,00,000

EQUITY AND LIABILITIES

Equity share capital 10,00,000

Non-current liabilities

Other Equity 25,00,150

Deferred tax liability 4,74,850

Borrowings 64,00,000

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Long term provisions 5,24,436

Current liabilities

Financial liabilities

Other financial liabilities 2,00,564

Trade payables 6,69,180

Current tax liabilities 9,30,820

TOTAL EQUITY AND LIABILITIES 1,27,00,000

Additional Information:

1. On 1st April 20X1, 8% convertible loan with a nominal value of Rs. 64,00,000 was issued by
the entity. It is redeemable on 31st March 20X5 also at par. Alternatively, it may be
converted into equity shares on the basis of 100 new shares for each Rs. 200 worth of loan.

An equivalent loan without the conversion option would have carried interest at 10%.
Interest of Rs. 5,12,000 has already been paid and included as a finance cost. Present Value
(PV) rates are as follows:

Year End @ 8% @ 10%

1 0.93 0.91

2 0.86 0.83

3 0.79 0.75

4 0.73 0.68

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2. After the reporting period, the board of directors have recommended dividend of Rs.
50,000 for the year ending 31st March, 20X1. However, the same has not been yet accounted
by the company in its financials.

3. ‘Other current financial liabilities’ consists of the following:

Particulars Amount (Rs.)

Wages payable 21,890

Salary payable 61,845

TDS payable 81,265

Interest accrued on trade payables 35,564

4. Property, Plant and Equipment consists following items:

Particulars Amount (Rs.) Remarks

Building 37,50,250 It is held for administration purposes

Land 15,48,150 It is held for capital appreciation

Vehicles 12,37,500 These are used as the conveyance for employees

Factory premises 20,01,600 The construction was started on 31st March 20X2
and consequently no depreciation has been charged
on it. The construction activities will continue to
happen, and it will take 2 years to complete and be
available for use.

5. The composition of ‘other current financial assets’ is as follows:

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Particulars Amount (Rs.)

Interest accrued on bank deposits 57,720

Prepaid expenses 90,000

Royalty receivable from dealers 69,650

6. Current Investments consist of securities held for trading which are carried at fair value
through profit & loss. Investments were purchased on 1st January,20X2 at Rs. 55,000 and
accordingly are shown at cost as at 31st March 20X2. The fair value of said investments as on
31st March 20X2 is Rs. 60,000.

7. Trade payables and Trade receivables are due within 12 months.

8. There has been no changes in equity share capital during the year.

9. Entity has the intention to set off a deferred tax asset against a deferred tax liability as
they relate to income taxes levied by the same taxation authority and the entity has a legally
enforceable right to set off taxes.

10. Other Equity consists retained earnings only. The opening balance of retained earnings
was Rs.21,25,975 as at 1st April 20X1.

11. No dividend has been actually paid by company during the year.

12. Assume that the deferred tax impact, if any on account of above adjustments is correctly
calculated in financials.

Being Finance & Accounts manager, you are required to identify the errors and
misstatements if any in the balance sheet of Master Creator Private Limited and prepare
corrected balance sheet with details on the face of the balance sheet i.e. no need to prepare
notes to accounts, after considering the additional information. Provide necessary
explanations/workings for the treated items, wherever necessary.

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 (MTP April ’21, MTP Apr’23)

Answer 7

Balance Sheet of Master Creator Private Limited as at 31st March, 20X2

Particulars Working/ Note reference (Rs.)

ASSETS

Non-current assets

Property, plant and equipment 1 49,87,750

Capital work-in-progress 2 20,01,600

investment Property 3 15,48,150

Financial assets 4,62,500

Other financial assets (Security deposits) 17,33,480

Other non-current assets (capital advances) 4 5,98,050

Current assets 60,000

Inventories 7,25,000

Financial assets 1,16,950

Investments (55,000 + 5,000) 5 1,27,370

Trade receivables 6 90,000

Cash and cash equivalents 7 49,87,750

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Other financial assets 8 20,01,600

Other current assets (Prepaid expenses) 8 15,48,150

TOTAL ASSETS 1,24,50,8 50

EQUITY AND LIABILITIES

Equity

Equity share capital A 10,00,000

Other equity B 28,44,606

Non-current liabilities

Financial liabilities

8% Convertible loan 11 60,60,544

Long term provisions 5,24,436

Deferred tax liability 12 2,20,700

Current liabilities

Financial liabilities

Trade payables 13 6,69,180

Other financial liabilities 14 1,19,299

Other current liabilities (TDS payable) 15 81,265

Current tax liabilities 9,30,820

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TOTAL EQUITY AND LIABILITIES 1,24,50,8 50

Statement of changes in equity For the year ended 31st March, 20X2

A. Equity Share Capital

Balance (Rs.)

As at 31st March, 20X1 10,00,000

Changes in equity share capital during the year -

As at 31st March, 20X2 10,00,000

B. Other Equity

Retained Earnings Equity componen t of Total (Rs.)

(Rs.) Compoun d Financial
Instrument (Rs.)

As at 31st March, 20X1 21,25,975 - 21,25,975

Total comprehensive
income for the year

(25,00,150 + 5,000 - 2,93,671 - 2,93,671

85,504- 21,25,975)

Issue of compound
financial instrument

during the year - 4,24,960 4,24,960

As at 31st March, 20X2 24,19,646 4,24,960 28,44,606

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Disclosure forming part of Financial Statements:

Proposed dividend on equity shares is subject to the approval of the shareholders of the
company at the annual general meeting and not recognized as liability as at the Balance Sheet
date. (Note 9) Notes/ Workings: (for adjustments/ explanations)

1. Property, plant and equipment are tangible items that: (a) are held for use in the production
or supply of goods or services, for rental to others, or for administrative purposes; and (b) are
expected to be used during more than one period. Therefore, the items of PPE are Buildings
(Rs. 37,50,250) and Vehicles (Rs. 12,37,500), since those assets are held for administrative
purposes.

2. Property, plant and equipment which are not ready for intended use as on the date of
Balance Sheet are disclosed as “Capital work-inprogress”.

It would be classified from PPE to Capital work-in-progress.

3. Investment property is property (land or a building—or part of a building—or both) held (by
the owner or by the lessee as a right-of-use asset) to earn rentals or for capital appreciation or
both, rather than for:

(a) use in the production or supply of goods or services or for administrative purposes; or

(b) sale in the ordinary course of business.

Therefore, Land held for capital appreciation should be classified as Investment property rather
than PPE.

4. Assets for which the future economic benefit is the receipt of goods or services, rather than
the right to receive cash or another financial asset, are not financial assets.

5. Current investments here are held for the purpose of trading. Hence, it is a financial asset
classified as FVTPL. Any gain in its fair value will be recognised through profit or loss. Hence, Rs.

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5,000 (60,000 – 55,000) increase in fair value of financial asset will be recognized in profit and
loss.

6. A contractual right to receive cash or another financial asset from another entity is a financial
asset. Trade receivables is a financial asset in this case and hence should be reclassified.

7. Cash is a financial asset. Hence it should be reclassified.

8. Other current financial assets:

Particulars Amount (Rs.)

Interest accrued on bank deposits 57,720

Royalty receivable from dealers 69,650

Total 1,27,370

Prepaid expenses does not result into receipt of any cash or financial asset. However, it results
into future goods or services. Hence, it is not a financial asset.

9. As per Ind AS 10, ‘Events after the Reporting Period’, If dividends are declared after the
reporting period but before the financial statements are approved for issue, the dividends are
not recognized as a liability at the end of the reporting period because no obligation exists at
that time.

Such dividends are disclosed in the notes in accordance with Ind AS 1 , Presentation of Financial
Statements.

10. ‘Other Equity’ cannot be shown under ‘Non-current liabilities’.

Accordingly, it is reclassified under ‘Equity’.

11. There are both ‘equity’ and ‘debt’ features in the instrument. An obligation to pay cash i.e.
interest at 8% per annum and a redemption amount will be treated as ‘financial liability’ while

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option to convert the loan into equity shares is the equity element in the instrument.
Therefore, convertible loan is a compound financial instrument.

Calculation of debt and equity component and amount to be recognised in the books:

Year 1 20X2 5,12,000 0.91 4,65,920

Year 2 20X3 5,12,000 0.83 4,24,960

Year 3 20X4 5,12,000 0.75 3,84,000

Year 4 20X5 69,12,000 0.68 47,00,160

Amount to be recognized as a 59,75,040

liability

Initial proceeds (64,00,000)

Amount to be recognized as 4,24,960

equity

* In year 4, the loan note will be redeemed; therefore, the cash outflow would be Rs. 69,12,000
(Rs. 64,00,000 + Rs. 5,12,000).

Presentation in the Financial Statements:

In Statement of Profit and Loss for the year ended on 31 March 20X2

Finance cost to be recognized in the Statement of Profit and Loss (59,75,040 Rs. 5,97,504
10%)

Less: Already charged to the Statement of Profit and Loss (Rs.5,12,000)

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Additional finance charge required to be recognised in the Statement

of Profit and Loss Rs. 85,504

In Balance Sheet as at 31 March 20X2

Equity and Liabilities

Equity

Other Equity (8% convertible loan) 4,24,960

Non-current liability

Financial liability [8% convertible loan – [(59,75,040+ 5,97,504– 5,12,000)] 60,60,544

12. Since entity has the intention to set off deferred tax asset against deferred tax liability and
the entity has a legally enforceable right to set off taxes, hence their balance on net basis
should be shown as:

Particulars Amount (Rs.)

Deferred tax liability 4,74,850

Deferred tax asset (2,54,150)

Deferred tax liability (net) 2,20,700

13. A liability that is a contractual obligation to deliver cash or another financial asset to
another entity is a financial liability. Trade payables is a financial liability in this case.

14. ‘Other current financial liabilities’:

Particulars Amount (Rs.)

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Wages payable 21,890

Salary payable 61,845

Interest accrued on trade payables 35,564

Total 1,19,299

15. Liabilities for which there is no contractual obligation to deliver cash or other financial asset
to another entity, are not financial liabilities.

Hence, TDS payable should be reclassified from ‘Other current financial liabilities’ to ‘Other
current liabilities’ since it is not a contractual obligation.

Question 8

(Includes concepts of Chp 7.2 Property Plant & Equipment, Ind AS 40 Investment Property)

A Ltd. owns three properties which are shown in its financial statements as ‘Property, Plant
and Equipment’. All three properties were purchased on April 1, 20X1. The details of purchase
price and market values of the properties are given as follows:

Particulars Property 1 Property 2 Property 3

Factory Building Factory Building Let-out Building

Purchase price 500 200 300

Market value as on 550 220 330

31.03.20X2

Useful Life 10 Years 10 Years 10 Years

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Subsequent Measurement Cost Model Revaluation Model Revaluation Model

Property 1 and 2 are used by A Ltd. as factory building whilst property 3 is letout to a non-
related party at a market rent. A Ltd. does not depreciate any of the properties on the basis
that the fair values are exceeding their carrying amount and recognize the difference
between purchase price and fair value in Statement of Profit and Loss. Evaluate whether the
accounting policies adopted by A Ltd. in relation to these properties, on various accounting
aspects, are in accordance with Ind AS or not. If not, advise the correct treatment along with
the workings for the same in all the cases.

(MTP March ‘18)(PYP May ’18)

Answer 8

(i) For classification of assets

Para 6 of Ind AS 16 ‘Property, Plant and Equipment’ inter alia, states that Property, plant and
equipment are tangible items are held for use in the production or supply of goods or services,
for rental to others, or for administrative purposes.

As per para 6 of Ind AS 40 ‘Investment property’, Investment property is property held to earn
rentals or for capital appreciation or both, rather than for use in the production or supply of
goods or services or for administrative purposes; or sale in the ordinary course of business.

According, to the facts given in the questions, since Property 1 and 2 are used as factory
buildings, their classification as PPE is correct. However, Property 3 is held to earn rentals;
hence, it should be classified as Investment Property. Thus, its classification as PPE is not
correct. Property ‘3’ shall be presented as separate line item as Investment Property as per Ind
AS 1.

(ii) For valuation of assets

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Paragraph 29 of Ind AS 16 states that an entity shall choose either the cost model or the
revaluation model as its accounting policy and shall apply that policy to an entire class of
property, plant and equipment. Also, paragraph 36 of Ind AS 16 states that If an item of
property, plant and equipment is revalued, the entire class of property, plant and equipment to
which that asset belongs shall be revalued.

However, for investment property, paragraph 30 of Ind AS 40 states that an entity shall adopt
as its accounting policy the cost model to all of its investment property”.

Also, paragraph 79 (e) of Ind AS 40 inter alia requires that an entity shall disclose the fair value
of investment property. Since property 1 and 2 is used as factory building, they should be
classified under same category or class i.e. ‘factory building’. Therefore, both the properties
should be valued either at cost model or revaluation model. Hence, the valuation model
adopted by A Ltd. is not consistent and correct as per Ind AS 16. In respect to property ‘3’ being
classified as Investment Property, there is no alternative of revaluation model i.e. only cost
model is permitted for subsequent measurement. However, A Ltd. is required to disclose the
fair value of the investment property in the Notes to Accounts.

(iii) For changes in value on account of revaluation and treatment thereof

Paragraph 39 of Ind AS 16 states that if an asset’s carrying amount is increased as a result of a

revaluation, the increase shall be recognized in other comprehensive income and accumulated
in equity under the heading ‘revaluation surplus’. However, the increase shall be recognized in
profit or loss to the extent that it reverses a revaluation decrease of the same asset previously
recognized in profit or loss. Accordingly, the revaluation gain shall be recognized in other
comprehensive income and accumulated in equity under the heading of revaluation surplus.

(iv) For treatment of depreciation

Paragraph 52 of Ind AS 16 states that Depreciation is recognized even if the fair value of the
asset exceeds its carrying amount, as long as the asset’s residual value does not exceed its

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carrying amount. Accordingly, A Ltd. is required to depreciate these properties irrespective of
that their fair value exceeds the carrying amount.

(v) Rectified presentation in the balance sheet

As per the provisions of Ind AS 1, Ind AS 16 and Ind AS 40, the presentation of these three
properties in the balance sheet should be as follows:

Case 1: If A Ltd. has applied the Cost Model to an entire class of property, plant and equipment.

Balance Sheet extracts as at 31st March 20X2

INR in lakhs

Assets

Non-Current Assets

Property, Plant and Equipment

Property ‘1’ 450

Property ‘2’ 180 630

Investment Property

Property ‘3’ (Fair value being 330 lakhs) (Cost = 300-30) 270

Case 2: If A Ltd. has applied the Revaluation Model to an entire class of property, plant and
equipment.

Balance Sheet extracts as at 31st March 20X2

INR in lakhs

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Assets

Non-Current Assets

Property, Plant and Equipment

Property ‘1’ 550

Property ‘2’ 220 770

Investment Properties

Property ‘3’ (Fair value being 330 lakhs) (Cost = 300-30) 270

Equity and Liabilities

Other Equity

Revaluation Reserve*

Property ‘1’ (550-450) 100

Property ‘2’ (220-180) 40 140

*The revaluation reserve should be routed through Other Comprehensive Income (OCI)
(subsequently not reclassified to Profit and Loss) in the Statement of Profit and Loss and shown
as a separate column in Statement of Changes in Equity.

Question 9

On 1st April, 20X1, Sun Ltd. has acquired 100% shares of Earth Ltd. for Rs 30 lakh. Sun Ltd. has
3 cash-generating units A, B and C with fair value of Rs 12 lakh, Rs 8 lakh and Rs 4 lakh
respectively. The company recognizes goodwill of Rs 6 lakh that relates to CGU ‘C’ only.

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During the financial year 20X2-20X3, the CFO of the company has a view that there is no
requirement of any impairment testing for any CGU since their recoverable amount is
comparatively higher than the carrying amount and believes there is no indicator of
impairment. Analyse whether the view adopted by the CFO of Sun Ltd. is in compliance with
the Ind AS. If not, advise the correct treatment in accordance with relevant Ind AS.

(MTP April 22)

Answer 9

Para 9 of Ind AS 36 ‘Impairment of Assets’ states that an entity shall assess at the Mend of each
reporting period whether there is any indication that an asset may be impaired. If any such
indication exists, the entity shall estimate the recoverable amount of the asset.

Further, paragraph 10(b) of Ind AS 36 states that irrespective of whether there is any indication
of impairment, an entity shall also test goodwill acquired in a business combination for
impairment annually.

Sun Ltd. has not tested any CGU on account of not having any indication of impairment is
partially correct i.e. in respect of CGU A and B but not for CGU C.

Hence, the treatment made by the Company is not in accordance with Ind AS 36. Impairment
testing in respect of CGU A and B are not required s ince there are no indications of
impairment. However, Sun Ltd shall test CGU C irrespective of any indication of impairment
annually as the goodwill acquired on business combination is fully allocated to CGU ‘C’.

Question 10

ICAI Illustration

(a) Neelanchal Gas Refinery Ltd. (hereinafter referred to as Neelanchal), a listed company, is
involved in the production and trading of natural gas and oil. Neelanchal jointly owns an

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underground storage facility with another entity, Seemanchal Refineries Ltd. (hereinafter
referred to as Seemanchal). Both the companies are engaged in extraction of gas from
offshore gas fields, which they own and operate independently of each other. Neelanchal
owns 60% of the underground facility and Seemanchal owns 40%. Both the companies have
agreed to share services and costs accordingly, with decisions relating to the storage facility
requiring unanimous agreement of the parties. The underground facility is pressurised so that
the gas is pushed out when extracted. When the gas pressure is reduced to a certain level,
the remaining gas is irrecoverable and remains in the underground storage facility until it is
decommissioned. As per the laws in force, the storage facility should be decommissioned at
the end of its useful life. Neelanchal seeks your advice on the treatment of the agreement
with Seemanchal as well as the accounting for the irrecoverable gas.

(b) Neelanchal has entered into a ten-year contract with Uttaranchal Refineries Pvt. Ltd.
(hereinafter referred to as Uttaranchal) for purchase of natural gas. Neelanchal has paid an
advance to Uttaranchal equivalent to the total quantity of gas contracted for ten years based
on the forecasted price of gas. This advanced amount carries interest at the rate of 12.5% per
annum, which is settled by Uttaranchal way of supply of extra gas. The contract requires fixed
quantities of gas to be supplied each month. Additionally, there is a price adjustment
mechanism in the contract whereby the difference between the forecasted price of gas and
the prevailing market price is settled in cash on a quarterly basis. If Uttaranchal does not
deliver the gas as agreed, Neelanchal has the right to claim compensation computed at the
current market price of the gas. Neelanchal wants to account for the contract with
Uttaranchal in accordance with Ind AS 109 Financial Instruments and seeks your inputs in this
regard

(Study material)

Answer

(a) Joint Arrangement

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As per Ind AS 111 Joint Arrangements, a joint arrangement is an arrangement of which two or
more parties have joint control. Joint control is the contractually agreed sharing of control of an
arrangement, which exists only when decisions about the relevant activities require the
unanimous consent of the parties sharing control.

The structure and form of the arrangement determines the nature of the relationship.
However, irrespective of the purpose, structure or form of the arrangement, the classification
of joint arrangements depends upon the parties’ rights and obligations arising from the
arrangement. Accordingly, a joint arrangement could be classified as a joint operation or as a
joint venture. A joint arrangement which is NOT structured through a separate vehicle is a joint
operation. In such cases, the contractual arrangement establishes the parties’ rights and
obligations. A joint operator accounts for the assets, liabilities, revenues and expenses relating
to its involvement in a joint operation in accordance with the relevant Ind AS. Based on the
information provided, the arrangement with Seemanchal Refineries Ltd. is a joint operation as
no separate vehicle is formed and the companies have agreed to share services and costs with
decisions regarding the storage facility requiring unanimous agreement of the parties.
Neelanchal Gas Refinery Ltd. should recognize its share of the asset as Property, Plant and
Equipment.

As per Para 16 of Ind AS 16 Property, Plant and Equipment, the cost of an item of property,
plant and equipment comprises the initial estimate of the costs of dismantling and removing
the item and restoring the site on which it is located.

Ind AS 37 Provisions, Contingent Liabilities and Contingent Assets provides guidance on

measuring decommissioning, restoration and similar liabilities. Para 45 of Ind AS 37 provides
that where the effect of the time value of money is material, the amount of a provision shall be
the present value of the expenditures expected to be required to settle the obligation. Thus,
costs incurred by an entity in respect of obligations for dismantling, removing and restoring the
site on which an item of property, plant and equipment is situated are recognized and
measured in accordance with Ind AS 16 and Ind AS 37, with the journal entry being as under:

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Property, Plant and Equipment Dr. xxx

To Provision for Dismantling, Removal and Restoration xxx

Neelanchal Gas Refinery Ltd. should recognize 60% of the cost of decommissioning of the
underground storage facility. However, in line Para 29 of Ind AS 37 where an entity is jointly and
severally liable for an obligation, the part of the obligation that is expected to be met by other
parties is treated as a contingent liability. Accordingly, Neelanchal Gas Refinery Ltd. should also
disclose 40% of the cost of decommissioning of the underground facility as a contingent
liability, should there arise future events that prevent Seemanchal Refineries Ltd. from fulfilling
its obligations under the arrangement.

As per Ind AS 16, Property, Plant and Equipment are tangible items that:

(a) are held for use in the production or supply of goods or services, for rental to others, or for
administrative purposes; and

(b) are expected to be used during more than one period.

Thus, Neelanchal Gas Refinery Ltd. should classify and account for its share of irrecoverable gas
as property, plant and equipment, as the irrecoverable gas is necessary for the storage facility
to perform its function. Therefore, the irrecoverable gas, being a part of the storage facility,
should be capitalized as a component of the storage facility asset, and should be depreciated to

its residual value over the life of the storage facility. However, if the gas is recoverable in full
upon decommissioning of the storage facility, then depreciation against the irrecoverable gas
component will be recorded only if the estimated residual value of the gas decreases below
cost during the life of the facility. Upon decommissioning of the storage facility, when the
cushion gas is extracted and sold, the sale of irrecoverable gas is accounted as a disposal of an
item of property, plant and equipment in accordance with Ind AS 16 and the resulting gain or
loss is recognized in the Statement of Profit and Loss. The natural gas in excess of the
irrecoverable gas which is injected into the facility would be treated as inventory in accordance
with Ind AS 2 Inventories.

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(b) Contract with Uttaranchal Refineries Pvt. Ltd.

As per para 2.4 of Ind AS 109 Financial Instruments, this standard applies to those contracts to
buy or sell a non-financial item that can be settled net in cash or another financial instrument,
or by exchanging financial instruments, as if the contracts were financial instruments, with the
exception of contracts that were entered into and continue to be held for the purpose of the
receipt or delivery of a non-financial item in accordance with the entity’s expected purchase,
sale or usage requirements (i.e. own use contracts). This contract will result in physical delivery
of the commodity i.e. extra gas.

Para 2.5 of Ind AS 109 further provides that a contract to buy or sell a nonfinancial item that
can be settled net in cash or another financial instrument, or by exchanging financial
instruments, as if the contract was a financial instrument, may be irrevocably designated as
measured at fair value through profit or loss even if it was entered into for the purpose of the
receipt or delivery of a nonfinancial item in accordance with the entity’s expected purchase,
sale or usage requirements. This designation is available only at inception of the contract and
only if it eliminates or significantly reduces a recognition inconsistency recognising that contract
because it is excluded from the scope of this Standard.

There are various ways in which a contract to buy or sell a non-financial item can be settled net
in cash or another financial instrument or by exchanging financial instruments. These include:

(a) when the terms of the contract permit either party to settle it net in cash or another
financial instrument or by exchanging financial instruments;

(b) when the ability to settle net in cash or another financial instrument, or by exchanging
financial instruments, is not explicit in the terms of the contract, but the entity has a practice of
settling similar contracts net in cash or another financial instrument or by exchanging financial
instruments (whether with the counterparty, by entering into offsetting contracts or by selling
the contract before its exercise or lapse);

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(c) when, for similar contracts, the entity has a practice of taking delivery of the underlying and
selling it within a short period after delivery for the purpose of generating a profit from short-
term fluctuations in price or dealer’s margin; and

(d) when the non-financial item that is the subject of the contract is readily convertible to cash.

A written option to buy or sell a non-financial item, such as a commodity, that can be settled
net in cash or another financial instrument, or by exchanging financial instruments, is within the
scope of Ind AS 109. Such a contract is accounted as a derivative. Such a contract cannot be
entered into for the purpose of the receipt or delivery of the non- financial item in accordance
with the entity’s expected purchase, sale or usage requirements.

Judgment would be required in this area as net settlements caused by unique events beyond
management’s control may not necessarily prevent the entity from applying the ‘own use’
exemption to all similar contracts.

In the given case, the contract with Uttaranchal Refineries Pvt. Ltd. will result in physical
delivery of extra gas (which is a commodity and not cash, or a financial instrument) for the use
of Neelanchal Gas Refinery Ltd. Accordingly, it appears that this contract would be an own use
contract falling outside the scope of Ind AS 109 and therefore, would be treated as an
executory contract.

However, arguments could be placed that the contract is net settled due to the penalty
mechanism requiring Uttaranchal Refineries Pvt. Ltd. to compensate Neelanchal Gas Refinery
Ltd. at the current prevailing market price. Further, if natural gas is readily convertible into cash
at the location of delivery, the contract could be considered net settled. Additionally, if there is
volume flexibility, the contract could be regarded as a written option which falls within the
scope of Ind AS 109.

However, the contract will probably continue to be regarded as ‘own use’ as long as it has been
entered into and continues to be held for expected counterparties’ sale / usage requirements.

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Additionally, the entity has not irrevocably designated the contract as measured at fair value
through profit or loss, thus emphasizing the ‘own use’ designation

Topic 4 : PPE & Investment Property (Ind AS 16 & 40)

Question 11

Following are the Financial Statements of Abraham Ltd.: Balance Sheet

Particulars Note No. As at 31st March,

2019 (Rs. in lakh)

EQUITY AND LIABILITIES:

Shareholders’ funds

Share capital (shares of Rs. 10 1,000

Reserves and surplus 1 2,400

Non-current liabilities

Long term borrowings 2 5,700

Deferred tax liabilities 3 400

Current liabilities

Trade payables 300

Short-term provisions 300

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Other current liabilities 4 200

Total 10,300

ASSETS

Non-current assets

Fixed assets 5,000

Deferred tax assets 3 700

Current assets

Inventories 1,500

Trade receivables 5 1,100

Cash and bank balances 2,000

Total 10,300

Statement of Profit & Loss

Particular Note No. Year ended 31st

March, 2019 (Rs. in
lakh)

Revenue from operations 6,000

Expenses:

Employee benefit expense 1,200

Operating costs 3,199

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Depreciation 450

Total expenses 4,849

Profit before tax 1,151

Tax expense 201

Profit after tax 950

Notes to Accounts:

Note 1: Reserves and surplus (Rs. in lakh)

Capital reserve 500

Surplus from P & L

Opening balance 550

Additions 950 1,500

Reserve for foreseeable loss 400

Total 2,400

Note 2: Long-term borrowings

loan from bank 5,700

Total 5,700

Note 3: Deferred tax

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Deferred tax asset 700

Deferred tax liability 400

Total 300

Note 4: Other current liabilities

Unclaimed dividends 10

Billing in advance 150

Other current liabilities 40

Total 200

Note 5: Trade Receivables

Considered good (outstanding within 6 months) 1,065

Considered doubtful (due from past 1 year) 40

Provision for doubtful debts (5)

Total 1,100

Additional information:

(i) Share capital comprises of 100 lakh shares of Rs. 10 each.

(ii) Term Loan from bank for Rs. 5,700 lakh also includes interest accrued and due of Rs. 700
lakh as on the reporting date.

(iii) Reserve for foreseeable loss is created against a service contract due within 6 months.

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(iv) Inventory should be valued at cost Rs. 1,500 lakh, NRV as on date is Rs. 1,200 lakh.

(v) A dividend of 10 % was declared by the Board of directors of the company.

(vi) Accrued Interest income of Rs. 300 lakh is not booked in the books of the company.

(vii) Deferred taxes related to taxes on income are levied by the same governing tax laws.

Identify and report the errors and misstatements in the above extracts and prepare corrected
Balance Sheet and Statement of Profit & Loss and where required the relevant notes to the
accounts with explanations thereof.

(PYP , Nov’19, MTP Oct ’20)

Answer 11

Following adjustments / rectifications are required to be done

1. Reserve for foreseeable loss for Rs. 400 lakh, due within 6 months, should be a part of
provisions. Hence it needs to be regrouped. If it was also part of previous year’s comparatives, a
note should be added in the notes to account on the regrouping done this year.

2. Interest accrued and due of Rs. 700 lakh on term loan will be a part of current liabilities.

Thus, it should be shown under the heading “Other Current Liabilities”.

3. As per Ind AS 2, inventories are measured at the lower of cost and net realizable value. The
amount of any write down of inventories to net realisable value is recognised as an expense in
the period the write-down occurs. Hence, the inventories should be valued at Rs. 1,200 lakh
and write down of Rs. 300 lakh (Rs. 1,500 lakh – Rs. 1,200 lakh) will be added to the operating
cost of the entity.

4. In the absence of the declaration date of dividend in the question, it is presumed that the
dividend is declared after the reporting date. Hence, no adjustment for the same is made in the

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financial year 2018-2019. However, a note will be given separately in this regard (not forming
part of item of financial statements).

5. Accrued income will be shown in the Statement of Profit and Loss as ‘Other Income’ and as
‘Other Current Asset’ in the Balance Sheet.

6. Since the deferred tax liabilities and deferred tax assets relate to taxes on income levied by
the same governing taxation laws, these shall be set off, in accordance with Ind AS 12. The net
DTA of Rs. 300 lakh will be shown in the balance sheet.

7. As per Division II of Schedule III to the Companies Act, 2013, the Statement of

Profit and Loss should present the Earnings per Equity Share.

8. In Ind AS, Assets are not presented in the Balance sheet as ‘Fixed Asset’, rather they are
classified under various categories of Non-current assets. Here, it is assumed as ‘Property, Plant
and Equipment’.

9. The presentation of the notes to ‘Trade Receivables’ will be modified as per the requirements
of Division II of Schedule III.

Balance Sheet of Abraham Ltd. For the year ended 31st March, 2019

Note No. (Rs. in lakh)

ASSETS

Non-current assets

Property, plant and equipment 5,000

Deferred tax assets 1 300

Current assets

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Inventories 1,200

Financial assets

Trade receivables 2 1,100

Cash and cash equivalents 2,000

Others financial asset (accrued interest) 300

TOTAL 9,900

EQUITY AND LIABILITIES

Equity

Equity share capital 3 1,000

Other equity 4 2,000

Non-current liabilities

Financial liabilities

Long-term borrowings 5 5,000

Current liabilities

Financial liabilities

Trade payables 300

Others 6 710

Short-term provisions (300 + 400) 7 700

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Other current liabilities 8 190

TOTAL 9,900

Statement of Profit and Loss of Abraham Ltd. For the year ended 31st March, 2019

Note No. (Rs. in lakh)

Revenue from operations 6,000

Other income 300

Total income 6,300

Expenses

Operating costs 3,199

Change in inventories cost 9 300

Employee benefits expense 1,200

Depreciation 450

Total expenses 5,149

Profit before tax 1,151

Tax expense (201)

Profit for the period 950

Earnings per equity share

Basic 9.5

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Diluted 9.5

Number of equity shares (face value of Rs. 10 each) 100 lakh

Statement of Changes in Equity of Abraham Ltd. For the year ended 31st March, 2019

3. Equity Share Capital (Rs. in lakh)

Balance at the beginning of the Changes in Equity share Balance at the end of the
reporting period capital during the year reporting period

1,000 0 1,000

4. Other Equity (Rs. in lakh)

Particulars Reserves & Surplus Total

Capital reserve Retained

Earnings

Balance at the beginning of the year 500 * 550 1,050

Total comprehensive income for the year 950 950

*Note: Capital reserve given in the Note 1 of the question is assumed to be brought forward
from the previous year. However, alternatively, if it may be assumed as created during the year.

Balance at the end of the year 500 1,500 2,000

1. Deferred Tax (Rs. in lakh)

(Rs in Lakhs)

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Deferred Tax Asset 700

Deferred Tax Liability 400

300

2. Trade Receivables (Rs. in lakh)

(Rs in Lakhs)

Trade receivables considered good 1,065

Trade receivables which have significant increase in credit risk 40

Less: Provision for doubtful debts (5) 35

Total 1,100

3. Long Term Borrowings (Rs. in lakh)

(Rs in Lakhs)

Term Loan from Bank (5,700 - 700) 5,000

Total 5,000

4. Other Financial Liabilities

(Rs in Lakhs)

Unclaimed dividends 10

Interest on term loan 700

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Total 710

5. Short-term provisions

(Rs in Lakhs)

Provisions 300

Foreseeable loss against a service contract 400

Total 700

6. Other Current Liabilities

(Rs in Lakhs)

Billing in Advance 150

Other 40

Total 190

7. Dividends not recognised at the end of the reporting period At year end, the directors have
recommended the payment of dividend of 10% i.e. Rs. 1 per equity share. This proposed
dividend is subject to the approval of shareholders in the ensuing annual general meeting.

Question 12

Venus Ltd. is a multinational entity that owns three properties. All three properties were
purchased on 1st April, 20X1. The details of purchase price and market values of the
properties are given as follows:

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Particulars Property 1 Property 2 Property 3

Factory Factory Let-Out

Purchase price 15,000 10,000 12,000

Market value 16,000 11,000 13,500

31.03.20X2

Life 10 Years 10 Years 10 Years

Subsequent Cost Model Revaluation Model Revaluation Model

Measurement

Property 1 and 2 are used by Venus Ltd. as factory building whilst property 3 is let-out to a
non-related party at a market rent. The management presents all three properties in balance
sheet as ‘property, plant and equipment’.

The Company does not depreciate any of the properties on the basis that the fair values are
exceeding their carrying amount and recognise the difference between purchase price and
fair value in Statement of Profit and Loss.

Required:

Analyse whether the accounting policies adopted by the Venus Ltd. in relation to these
properties is in accordance with Ind AS. If not, advise the correct treatment alongwith
working for the same.

(Study material)

Answer 12

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The above issue needs to be examined in the umbrella of the provisions given in Ind AS 1
‘Presentation of Financial Statements’, Ind AS 16 ‘Property, Plant and Equipment’ in relation to
property ‘1’ and ‘2’ and Ind AS 40 ‘Investment Property’ in relation to property ‘3’.

Property ‘1’ and ‘2’

Para 6 of Ind AS 16 ‘Property, Plant and Equipment’ defines:

“Property, plant and equipment are tangible items that:

(a) are held for use in the production or supply of goods or services, for rental to others, or for
administrative purposes; and

(b) are expected to be used during more than one period.”

Paragraph 29 of Ind AS 16 states that:

“An entity shall choose either the cost model or the revaluation model as its accounting policy
and shall apply that policy to an entire class of property, plant and equipment”.

Further, paragraph 36 of Ind AS 16 states that:

“If an item of property, plant and equipment is revalued, the entire class of property, plant and
equipment to which that asset belongs shall be revalued”.

Further, paragraph 39 of Ind AS 16 states that:

“If an asset’s carrying amount is increased as a result of a revaluation, the increase shall be
recognised in other comprehensive income and accumulated in equity under the heading of
revaluation surplus. However, the increase shall be recognised in profit or loss to the extent
that it reverses a revaluation decrease of the same asset previously recognised in profit or loss”.

Further, paragraph 52 of Ind AS 16 states that:

“Depreciation is recognised even if the fair value of the asset exceeds its carrying

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amount, as long as the asset’s residual value does not exceed its carrying amount”.

Property ‘3’

Para 6 of Ind AS 40 ‘Investment property’ defines:

“Investment property is property (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 capital appreciation or
both, rather than for:

(a) use in the production or supply of goods or services or for administrative purposes;

or

(b) sale in the ordinary course of business”.

Further, paragraph 30 of Ind AS 40 states that:

“An entity shall adopt as its accounting policy the cost model to all of its investment property”.

Further, paragraph 79 (e) of Ind AS 40 requires that:

“An entity shall disclose the fair value of investment property”.

Further, paragraph 54 (2) of Ind AS 1 ‘Presentation of Financial Statements’ requires that:

“As a minimum, the balance sheet shall include line items that present the

following amounts:

(a) property, plant and equipment;

(b) investment property;

As per the facts given in the question, Venus Ltd. has

(a) presented all three properties in balance sheet as ‘property, plant and equipment’;

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(b) applied different accounting policies to Property ‘1’ and ‘2’;

(c) revaluation is charged in statement of profit and loss as profit; and

(d) applied revaluation model to Property ‘3’ being classified as Investment Property.

These accounting treatment is neither correct nor in accordance with provision of Ind AS 1, Ind
AS 16 and Ind AS 40.

Accordingly, Venus Ltd. shall apply the same accounting policy (i.e. either revaluation or cost
model) to entire class of property being property ‘1’ and ‘2”. It also required to depreciate
these properties irrespective of that, their fair value exceeds the carrying amount. The
revaluation gain shall be recognised in other comprehensive income and accumulated in equity
under the heading of revaluation surplus.

There is no alternative of revaluation model in respect to property ‘3’ being classified as

Investment Property and only cost model is permitted for subsequent measurement. However,
Venus ltd. is required to disclose the fair value of the property in the Notes to Accounts. Also
the property ‘3’ shall be presented as separate line item as Investment Property.

Therefore, as per the provisions of Ind AS 1, Ind AS 16 and Ind AS 40, the presentation of these
three properties in the balance sheet is as follows:

Case 1: Venus Ltd. has applied the Cost Model to an entire class of property, plant and
equipment.

Balance Sheet extracts as at 31st March, 20X2 Rs

Rs

Assets

Non-Current Assets

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Property, Plant and Equipment

Property ‘1’ 13,500

Property ‘2’ 9,000 22,500

Investment Properties

Property ‘3’ 10,800

Case 2: Venus Ltd. has applied the Revaluation Model to an entire class of property, plant and
equipment.

Balance Sheet extracts as at 31st March, 20X2 Rs

Assets

Non-Current Assets

Property, Plant and Equipment

Property ‘1’ 16,000

Property ‘2’ 11,000 27,000

Investment Properties

Property ‘3’ 10,800

Equity and Liabilities

Other Equity

Revaluation Reserve

Property ‘1’ 2,500

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Property ‘2’ 2,000 4,500

The revaluation reserve should be routed through Other Comprehensive Income (subsequently
not reclassified to Profit and Loss) in Statement of Profit and Loss and Shown as a separate
column in Statement of Changes in Equity.

Question 13

On 1st January, 20X2, Sun Ltd. was notified that a customer was taking legal action against
the company in respect of a financial losses incurred by the customer. Customer alleged that
the financial losses were caused due to supply of faulty products on 30th September, 20X1 by
the Company. Sun Ltd. defended the case but considered, based on the progress of the case
up to 31st March, 20X2, that there was a 75% probability they would have to pay damages of
Rs 10 lakhs to the customer. However, the accountant of Sun Ltd. has not recorded this
transaction in its financial statement as the case is not yet finally settled. The case was
ultimately settled against the company resulting in to payment of damages of Rs 12 lakhs to
the customer on 15 th May, 20X2. The financials have been authorized by the Board of
Directors in its meeting held on 18th May, 20X2. Analyse whether the above accounting
treatment made by the accountant is in compliance of the Ind AS. If not, advise the correct
treatment along with working for the same.

(Study material)

Answer 13

The above treatment needs to be examined in the light of the provisions given in Ind AS 37
‘Provisions, Contingent Liabilities and Contingent Assets’ and Ind AS 10 ‘Events After the
Reporting Period’.

Para 10 of Ind AS 37 ‘Provisions, Contingent Liabilities and Contingent Assets’ defines:

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“Provision is a liability of uncertain timing or amount.

Liability is a present obligation of the entity arising from past events, the settlement of which is
expected to result in an outflow from the entity of resources embodying economic benefits”.

Further, paragraph 14 of Ind AS 37, states:

“A provision shall be recognised when:

(a) an entity has a present obligation (legal or constructive) as a result of a past event;

(b) it is probable that an outflow of resources embodying economic benefits will be required to
settle the obligation; and

(c) a reliable estimate can be made of the amount of the obligation”.

Further, paragraph 36 of Ind AS 37, states:

“The amount recognised as a provision shall be the best estimate of the expenditure required
to settle the present obligation at the end of the reporting period”.

Further, paragraph 3 of Ind AS 10 ‘Events after the Reporting Period’ defines:

“Events after the reporting period are those events, favourable and unfavourable, that occur
between the end of the reporting period and the date when the financial statements are
approved by the Board of Directors in case of a company, and, by the corresponding approving
authority in case of any other entity for issue. Two types of events can be identified:

(a) those that provide evidence of conditions that existed at the end of the reporting period
(adjusting events after the reporting period); and

(b) those that are indicative of conditions that arose after the reporting period (nonadjusting
events after the reporting period).

Further, paragraph 8 of Ind AS 10 states that:

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“An entity shall adjust the amounts recognised in its financial statements to reflect adjusting
events after the reporting period.”

The Accountant of Sun Ltd. has not recognised the provision and accordingly not adjusted the
amounts recognised in its financial statements to reflect adjusting events after the reporting
period is not correct and nor in accordance with provision of Ind AS 37 and Ind AS 10.

As per given facts, the potential payment of damages to the customer is an obligation arising
out of a past event which can be reliably estimated. Therefore,

following the provision of Ind AS 37 ‘Provisions, Contingent Liabilities and Contingent Assets’ –
a provision is required. The provision should be for the best estimate of the expenditure
required to settle the obligation at 31st March, 20X2 which comes to Rs 7.5 lakhs (Rs 10
lakhs 75%).

Further, following the principles of Ind AS 10 ‘Events After the Reporting Period’ evidence of
the settlement amount is an adjusting event. Therefore, the amount of provision created shall
be increased to Rs 12 lakhs and accordingly be recognised as a current liability.

Topic 5 : Financial Instruments & Loans (Ind AS 109)

Question 14

Arun Ltd. is an entity engaged in plantation and farming on a large scale and diversified
across India. On 1st April, 2018, the company has received a government grant for Rs. 20 lakh
subject· to a condition that it will continue to engage in plantation of eucalyptus tree for a
coming period of five years. The management has a reasonable assurance that the entity will
comply with condition of engaging in the plantation of eucalyptus trees for specified period
of five years and accordingly it recognizes proportionate grant for Rs. 4 lakh in Statement of

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Profit and Loss as income following the principles laid down under Ind AS 20 Accounting for
Government Grants and Disclosure of Government Assistance.

Required:

Evaluate whether the above accounting treatment made by the management is in compliance
with the applicable Ind AS. If not, advise the correct treatment.

(PYP, Nov 19)

Answer 14

Arun Ltd. is engaged in plantation and farming on a large scale. This implies that it has
agriculture business. Hence, Ind AS 41 will be applicable.

Further, the government grant has been given subject to a condition that it will continue to
engage in plantation of eucalyptus tree for a coming period of five years. This implies that it is a
conditional grant.

In the absence of the measurement base of biological asset, it is assumed that “Arun Ltd
measures its Biological Asset at fair value less cost to sell”:

(i) As per Ind AS 41, the government grant should be recognised in profit or loss when, and only
when, the conditions attaching to the government grant are met ie continuous plantation of
eucalyptus tree for coming period of 5 years. In this case, the grant shall not be recognised in
profit or loss until the five years have passed.

The entity has recognised the grant in profit and loss on proportionate basis, which is incorrect.

(ii) However, if the terms of the grant allow part of it to be retained according to the time
elapsed, the entity recognises that part in profit or loss as time passes. Accordingly, the entity
can recognise the proportionate grant for Rs. 4 lakh in the statement ofn Profit and Loss based
on the terms of the grant.

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Alternatively, it may be assumed that Arun Ltd. measures its Biological Asset at its cost less any
accumulated depreciation and any accumulated impairment losses (as per para 30 of Ind AS
41):

In such a situation, principles of Ind AS 20 (with respect to conditional grant will apply).
According to Ind AS 20, the conditional grant should be recognised in the Statement of Profit
and Loss over the periods and in the proportions in which depreciation expense on those assets
is recognised. Hence the proportionate recognition of grant Rs. 4 lakh (20 lakh / 5) as income is
correct since the entity has reasonable assurance that the entity will comply with the conditions
attached to the grant.

Note: In case eucalyptus tree is considered as bearer plant by Arun Ltd., then Ind AS 20 will be
applicable and not Ind AS 41.

Question 15

H Limited having net worth of Rs 250 crores is required to adopt Ind AS from 1st April, 20X2 in
accordance with the Companies (Indian Accounting Standard) Rules 2015.

Mr. R, the senior manager, of H Ltd. has identified following issues which need specific
attention of CFO so that opening Ind AS balance sheet as on the date mof transition can be
prep ared:

Issue 1: As part of Property, Plant and Equipment, Company has elected to measure land at
its fair value and want to use this fair value as deemed cost on the date of transition. The
carrying value of land as on the date of transition was Rs 5,00,000. The land was acquired for
a consideration of Rs 5,00,000.

However, the fair value of land as on the date of transition was Rs 8,00,000.

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Issue 2: Under Ind AS, the Company has designated mutual funds as investments at fair value
through profit or loss. The value of mutual funds as per previous GAAP was Rs 4,00,000 (at
cost). However, the fair value of mutual funds as on the date of transition was Rs 5,00,000.

Issue 3: Company had taken a loan from another entity. The loan carries an interest rate of
7% and it had incurred certain transaction costs while obtaining the same. It was carried at
cost on its initial recognition. The principal amount is to be repaid in equal instalments over
the period of loan. Interest is also payable at each year end. The fair value of loan as on the
date of transition is Rs 1,80,000 as against the carrying amount of loan which at present
equals Rs 2,00,000.

Issue 4: The company has declared dividend of Rs 30,000 for last financial year. On the date of
transition, the declared dividend has already been deducted by the accountant from the
company’s ‘Reserves & Surplus’ and the dividend payable has been grouped under
‘Provisions’. The dividend was only declared by board of directors at that time, and it was not
approved in the annual general meeting of shareholders. However, subsequently when the
meeting was held it was ratified by the shareholders.

Issue 5: The company had acquired intangible assets as t rademarks amounting to Rs

2,50,000. The company assumes to have indefinite life of these assets. The fair value of the
intangible assets as on the date of transition was Rs 3,00,000. However, the company wants
to carry the intangible assets at Rs 2,50,000 only.

Issue 6: After consideration of possible effects as per Ind AS, the deferred tax impact is
computed as Rs 25,000. This amount will further increase the portion of deferred tax liability.
There is no requirement to carry out the separate calculation of deferred tax on account of
Ind AS adjustments. Management wants to know the impact of Ind AS in the financial
statements of company for its general understanding. Prepare Ind AS Impact Analysis Report
(Extract) for H Limited for presentation to the management wherein you are required to
discuss the corresponding differences between Earlier IGAAP (AS) and Ind AS against each

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identified issue and its impact there upon for preparation of transition date balance sheet.
Also pass journal entry for each of the issues mentioned above.

(MTP March ’22, Sep’22, RTP May’21)

Answer 15

Assessment of Preliminary Impact Assessment of Transition to Ind AS on H Limited’s Financial

Statements

Issue 1: Fair value as deemed cost for property plant and equipment:

Accounting Standard s Ind AS Impact on Company’s financial

(Erstwhile IGAAP) statements

As per AS 10, Property, Plant Ind AS 101 allows entity to The company has decided to
and Equipment is recognised elect to measure Property, adopt fair value as deemed cost
at cost less depreciation. Plant and Equipment on the in this case. Since fair value
transition date at its fair value exceeds book value, so the
or previous GAAP carrying book value should be brought
value (book value) as up to fair value. The resulting
deemed cost. impact of fair valuation of land
Rs 3,00,000 should be adjusted
in other equity (revaluation
reserve).

Journal Entry on the date of transition

Particulars Debit (Rs) Credit (Rs)

Property Plant and Equipment (Land) Dr. 3,00,000

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To Revaluation Surplus (OCI- Other Equity) 3,00,000

Issue 2: Fair valuation of Financial Assets:

Accounting Standards Ind AS Impact on Company’s

(Erstwhile IGAAP) financial statements

As per Accounting Standard, On transition, financial assets All financial assets (other than
investments are measured at includin g investments are Investment in subsidiaries,
lower of cost and fair value. measured at fair values associates and JVs’ which are
except for investments in recorded at cost) are initially
subsidiaries, associates and recognized at fair value.
JVs' which are recorded at
The subsequent
cost.
measurement of such assets
are based on its
categorization either Fair
Value through Profit & Loss
(FVTPL) or Fair Value through
Other Comprehensive Income
(FVTOCI) or at Amortised Cost
based on business model
assessment and contractual
cash flow characteristics.

Since investment in mutual

fund are designated at FVTPL,
increase of Rs 1,00,000 in
mutual funds fair value would
increase the value of

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 investments with
corresponding increase to
Retained Earnings.

Journal Entry on the date of transition

Particulars Debit (Rs) Credit (Rs)

Investment in mutual funds Dr. 1,00,000

To Retained earnings 1,00,000

Issue 3: Borrowings - Processing fees/transaction cost:

Accounting Standards Ind AS Impact on Company’s

(Erstwhile IGAAP) financial statements

As per AS, such expenditure is As per Ind AS, such Fair value as on the date of
charged to Profit and loss expenditure is amortised over transition is Rs 1,80,000 as
account or capitalised as the the period of the loan. Ind AS against its book value of Rs
case may be 101 states that if it is 2,00,000. Accordingly, the
impracticable for an entity to difference of Rs 20,000 is
apply retrospectively the adjusted throu gh Retained
effective interest method in Earnings.
Ind AS 109, the fair value of
the financial asset or the
financial liability at the date of

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 transition to Ind AS shall be
the new gross carrying
amount of that financial asset
or the new amortised cost of
that financial liability.

Journal Entry on the date of transition

Particulars Debit (Rs) Credit (Rs)

Borrowings / Loan payable Dr. 20,000

To Retained earnings 20,000

Issue 4: Proposed dividend:

Accounting Standar ds Ind AS Impact on Company’s

(Erstwhile IGAAP) financial statements

As per AS, provision for As per Ind AS, liability for Since dividend should be
proposed divided is made in proposed dividend is deducted from retained
the year when it has been recognized in the year in earnings during the year when
declared and approved. which it has been declared it has been declared and
and approved. approved. Therefore, the
provision declared for
preceding year should be
reversed (to rectify the wrong
entry). Retained earnings
would increase
proportionately due to such
adjustment.

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Journal Entry on the date of transition

Debit (Rs) Credit (Rs)

Provisions Dr. 30,000

To Retained earnings 30,000

Issue 5 : Intangible assets:

Accounting Standards Ind AS Impact on Company’s

(Erstwhile IGAAP) financial statements

The useful life of an intangible The useful life of an intangible Consequently, there would be
asset cannot be indefinite asset like brand/trademark no impact as on the date of
under IGAAP principles. The can be indefinite. Not transition since company
Company amortised required to be amortised and intends to use the carrying
brand/trademark on a straight only tested for impairment. amount instead of book value
line basis over maximum of 10 Company can avail the at the date of transition.
years as per AS 26. exemption given in Ind AS 101
as on the date of transition to
use the carrying value as per
previous GAAP.

Issue 6: Deferred tax

Accounting Standar ds Ind AS Impact on Company’s

(Erstwhile IGAAP) financial statements

As per AS, deferred taxes are As per Ind AS, deferred taxes On date of transition to Ind

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accounted as per income are accounted as per balance AS, deferred tax liability
statement approach. sheet approach. would be increased by Rs
25,000.

Journal Entry on the date of transition

Particulars Debit (Rs) Credit (Rs)

Retained earnings Dr. 25,000

To Deferred tax liability 25,000

Question 16

Deepak started a new company Softbharti Pvt. Ltd. with Iktara Ltd. Wherein investment of
55% is done by Iktara Ltd. and rest by Deepak. Voting powers are to be given as per the
proportionate share of capital contribution. The new company formed was the subsidiary of
Iktara Ltd. with two directors, and Deepak eventually becomes one of the directors of
company. A consultant was hired and he charged Rs 30,000 for the incorporation of company
and to do other necessary statuary registrations. Rs 30,000 is to be charged as an expense in
the books after incorporation of company. The company, Softbharti Pvt. Ltd. was
incorporated on 1st April 20X1. The financials of Iktara Ltd. are prepared as per Ind AS. An
accountant who was hired at the time of company’s incorporation, has prepared the draft
financials of Softbharti Pvt. Ltd. for the year ending 31st March, 20X2 as follows:

Statement of Profit and Loss

Particulars Amount (Rs)

Revenue from operations 10,00,000

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Other Income 1,00,000

Total Revenue (a) 11,00,000

Expenses:

Purchase of stock in trade 5,00,000

(Increase)/Decrease in stock in trade (50,000)

Employee benefits expense 1,75,000

Depreciation 30,000

Other expenses 90,000

Total Expenses (b) 7,45,000

Profit before tax (c) = (a)-(b) 3,55,000

Current tax 1,06,500

Deferred tax 6,000

Total tax expense (d) 1,12,500

Profit for the year (e) = (c) – (d) 2,42,500

Balance Sheet

Particulars Amount (Rs)

(a) Share Capital 1,00,000

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(b) Reserves & Surplus 2,27,500

(2) Non-Current Liabilities

(a) Long Term Provisions 25,000

(b) Deferred tax liabilities 6,000

(3) Current Liabilities

(a) Trade Payables 11,000

(b) Other Current Liabilities 45,000

(c) Short Term Provisions 1,06,500

TOTAL 5,21,000

ASSETS

(1) Non Current Assets

(a) Property, plant and equipment (net) 1,00,000

(b) Long-term Loans and Advances 40,000

(c) Other Non Current Assets 50,000

(2) Current Assets

(a) Current Investment 30,000

(b) Inventories 80,000

(c) Trade Receivables 55,000

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(d) Cash and Bank Balances 1,15,000

(e) Other Current Assets 51,000

TOTAL 5,21,000

Additional information of Softbharti Pvt Ltd.:

i. Deferred tax liability of Rs 6,000 is created due to following temporary difference:

Difference in depreciation amount as per Income tax and Accounting profit

ii. There is only one property, plant and equipment in the company, whose closing balance as
at 31st March, 20X2 is as follows:

Asset description As per Books As per Income tax

Property, plant and equipment Rs 1,00,000 Rs 80,000

iii. Pre incorporation expenses are deductible on straight line basis over the period of five
years as per Income tax. However, the same are immediately expensed off in the books.

iv. Current tax is calculated at 30% on PBT - Rs 3,55,000 without doing any adjustments
related to Income tax. The correct current tax after doing necessary adjustments of
allowances / disallowances related to Income tax comes to Rs 1,25,700.

v. After the reporting period, the directors have recommended dividend of Rs 15,000 for the
year ending 31st March, 20X2 which has been deducted from reserves and surplus. Dividend
payable of Rs 15,000 has been grouped under ‘other current liabilities’ alongwith other
financial liabilities.

vi. There are ‘Government statuary dues’ amounting to Rs 15,000 which are grouped under
‘other current liabilities’.

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vii. The capital advances amounting to Rs 50,000 are grouped under ‘Other non-current
assets’.

viii. Other current assets of Rs 51,000 comprise Interest receivable from trade receivables.

ix. Current investment of Rs 30,000 is in shares of a company which was done with the
purpose of trading; current investment has been carried at cost in the financial statements.
The fair value of current investment in this case is Rs 50,000 as at 31st March, 20X2.

x. Actuarial gain on employee benefit measurements of Rs 1,000 has been omitted in the
financials of Softbharti private limited for the year ending 31st March, 20X2.

The financial statements for financial year 20X1-20X2 have not been yet approved.

You are required to ascertain that whether the financial statements of Softbharti Pvt. Ltd. are
correctly presented as per the applicable financial reporting framework. If not, prepare the
revised financial statements of Softbharti Pvt. Ltd. after the careful analysis of mentioned
facts and information.

(MTP Nov 21, RTP Nov 20)(MTP Sep ’23)

Answer 16

If Ind AS is applicable to any company, then Ind AS shall automatically be made applicable to all
the subsidiaries, holding companies, associated companies, and joint ventures of that company,
irrespective of individual qualification of set of standards on such companies.

In the given case it has been mentioned that the financials of Iktara Ltd. are prepared as per Ind
AS. Accordingly, the results of its subsidiary Softbharti Pvt. Ltd. Should also have been prepared
as per Ind AS. However, the financials of Softbharti Pvt. Ltd. have been presented as per
accounting standards (AS).

Hence, it is necessary to revise the financial statements of Softbharti Pvt. Ltd. as per Ind AS
after the incorporation of necessary adjustments mentioned in the question.

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The revised financial statements of Softbharti Pvt. Ltd. as per Ind AS and Division II to Schedule
III of the Companies Act, 2013 are as follows:

STATEMENT OF PROFIT AND LOSS

for the year ended 31st March, 20X2

Particulars Amount (Rs)

Revenue from operations 10,00,000

Other Income (1,00,000 + 20,000) (refer note -1) 1,20,000

Total Revenue 11,20,000

Expenses:

Purchase of stock in trade 5,00,000

(Increase) / Decrease in stock in trade (50,000)

Employee benefits expense 1,75,000

Depreciation 30,000

Other expenses 90,000

Total Expenses 7,45,000

Profit before tax 3,75,000

Current tax 1,25,700

Deferred tax (W.N.1) 4,800

Total tax expense 1,30,500

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Profit for the year (A) 2,44,500

OTHER COMPREHENSIVE INCOME

Items that will not be reclassified to Profit or Loss:

Remeasurements of net defined benefit plans 1,000

Tax liabilities relating to items that will not be reclassified to Profit or Loss

Remeasurements of net defined benefit plans (tax) [1000 30%] (300)

Other Comprehensive Income for the period (B) 700

Total Comprehensive Income for the period (A+B) 2,45,200

BALANCE SHEET

as at 31st March, 20X2

Particulars (Rs)

ASSETS

Non-current assets

Property, plant and equipment 1,00,000

Financial assets

Other financial assets (Long-term loans and advances) 40,000

Other non-current assets (capital advances) (refer note-2) 50,000

Current assets

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Inventories 80,000

Financial assets

Investments (30,000 + 20,000) (refer note -1) 50,000

Trade receivables 55,000

Cash and cash equivalents/Bank 1,15,000

Other financial assets (Interest receivable from trade receivables) 51,000

TOTAL ASSETS 5,41,000

EQUITY AND LIABILITIES

Equity

Equity share capital 1,00,000

Other equity 2,45,200

Non-current liabilities

Provision (25,000 – 1,000) 24,000

Deferred tax liabilities (4,800 + 300) 5,100

Current liabilities

Financial liabilities

Trade payables 11,000

Other financial liabilities (Refer note 5) 15,000

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Other current liabilities (Govt. statuary dues) (Refer note 3) 15,000

Current tax liabilities 1,25,700

TOTAL EQUITY AND LIABILITIES 5,41,000

STATEMENT OF CHANGES IN EQUITY For the year ended 31st March, 20X2

A. EQUITY SHARE CAPITAL

Balance (Rs)

As at 31st March, 20X1 -

Changes in equity share capital during the year 1,00,000

As at 31st March, 20X2 1,00,000

B. OTHER EQUITY

Reserves &
Surplus

Retained
Earnings (Rs)

As at 31st March, 20X1 -

Profit for the year 2,44,500

Other comprehensive income for the year 700

Total comprehensive income for the year 2,45,200

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Less: Dividend on equity shares (refer note – 4) -

As at 31st March, 20X2 2,45,200

DISCLOSURE FORMING PART OF FINANCIAL STATEMENTS:

Proposed dividend on equity shares is subject to the approval of the shareholders of the
company at the annual general meeting and not recognized as liability as at the Balance Sheet
date. (refer note 4)

Notes:

1. Current investment are held for the purpose of trading. Hence, it is a financial asset classified
as FVTPL. Any gain in its fair value will be recognised through profit or loss. Hence, Rs 20,000 (Rs
50,000 – Rs 30,000) increase in fair value of financial asset will be recognised in profit and loss.
However, it will attract deferred tax liability on increased value (Refer W.N).

2. Assets for which the future economic benefit is the receipt of goods or services, rather than
the right to receive cash or another financial asset, are not financial assets.

3. Liabilities for which there is no contractual obligation to deliver cash or other financial asset
to another entity, are not financial liabilities.

4. As per Ind AS 10, ‘Events after the Reporting Period’, If dividends are declared after the
reporting period but before the financial statements are approved for issue, the dividends are
not recognized as a liability at the end of the reporting period because no obligation exists at
that time. Such dividends are disclosed in the notes in accordance with Ind AS 1, Presentation
of Financial Statements.

5. Other current financial liabilities:

(Rs)

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Balance of other current liabilities as per financial statements 45,000

Less: Dividend declared for FY 20X1 – 20X2 (Note – 4) (15,000)

Reclassification of government statuary dues payable to ‘other current (15,000)

liabilities’

Closing balance 15,000

Working Note:

Calculation of deferred tax on temporary differences as per Ind AS 12 for financial year 20X1 –
20X2

Item Carrying amount Tax base (Rs) Difference (Rs) DTA / DTL @
(Rs) 30% (Rs)

Property, Plant and 1,00,000 80,000 20,000 6,000-DTL

Equipment

Pre-incorporation Nil 24,000 24,000 7,200-DTA

expenses

Current Investment 50,000 30,000 20,000 6,000-DTL

Net DTL 4,800-DTL

Topic 6 : Balance Sheet Corrections & Notes

Question 17

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On 1st April, 2021, Mohan Ltd. has sold goods to Hari Ltd. at a consideration of Rs 7,50,000.
The receipt of this is receivable in three equal instalments of Rs 2,50,000 each over a two-
year period (receipts on 1st April, 2021; 31st March 2022 and 31st March 2023).

The company is offering a discount of 5% (i.e. Rs 37,500), if payment is made in full at the
time of sale. The sale agreement reflects an implicit interest rate of 5.358% p.a.

The total consideration to be received from such sale is at Rs 7,50,000 and hence, the
management has recognized the revenue from sale of goods for Rs 7,50,000. You are required
to analyse whether the above accounting treatment made by the accountant is in compliance
of Ind AS. If not, advise the correct treatment along with journal entries and extracts of
Statement of Profit & Loss and Balance Sheet.

(PYP Nov 22)

Answer 17

The revenue from sale of goods shall be recognised at the fair value of the consideration
received or receivable. The fair value of the consideration is determined by discounting all
future receipts using an imputed rate of interest where the receipt is deferred beyond normal
credit terms. The difference between the fair value and the nominal amount of the
consideration is recognised as interest revenue. Hence, the accounting treatment of recognizing
revenue of 𝑠 7,50,000 by the accountant is not correct. The fair value of consideration (cash
price equivalent) of the sale of goods to be recognised on the date of sale should be calculated
as follows:

Period Consideration Present value factor Present value of

(Installment) consideration

Rs Rs

Time of sale 2,50,000 - 2,50,000

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End of 1st year 2,50,000 0.949 2,37,250

End of 2nd year 2,50,000 0.901 2,25,250

7,50,000 7,12,500

Mohan Ltd. will recognise the revenue from sale of goods and finance income as follows:

Cash / Bank A/c Dr. 2,50,000

Trade Receivable A/c Dr. 4,62,500

To Sale A/c 7,12,500

Recognition of interest expense and receipt of second

installment

Cash / Bank A/c Dr. 2,50,000

To Interest Income A/c (4,62,500 x 5.358%) 24,781

To Trade Receivable A/c 2,25,219

Recognition of interest expense and payment of final

installment

Cash / Bank A/c Dr. 2,50,000

To Interest Income A/c (Balancing figure) 12,719

To Trade Receivable A/c (4,62,500 – 2,25,319) 2,37,281

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Statement of Profit and Loss (Extracts) for the year ended 31st March, 2022 and 31st March,
2023

As at 31st March, 2022 As at 31st March, 2023

Rs Rs

Income

Sale of Goods 7,12,500 -

Other Income (Finance income) 24,781 12,719

Balance Sheet (extracts) as at 31st March, 2022 and 31st March,2023

As at 31st March, 2022 As at 31st March, 2023

Rs Rs

Assets

Current Assets

Financial Assets

Trade Receivables 2,37,281 XXX

Question 18

A Ltd. is an entity who prepares its financial statements based on Accounting Standards.
Following is the draft financial statement for the year ended on 31st March, 20X1:

(Note all figures are Rs. in million)

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Balance Sheet

Particulars Note As at March 31, 20X1

EQUITY AND LIABILITIES

Shareholders’ funds

Share capital (shares of Rs. 10 each) 2,000

Reserves and surplus 1 4,000

Non-current liabilities

Long-term borrowings 2 11,110

Deferred tax liabilities 3 400

Current liabilities

Trade payables 600

Short-term provisions 500

Other current liabilities 4 300

TOTAL 18,910

ASSETS

Non - current assets

Fixed Assets 11,310

Deferred Tax Assets 3 1,000

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Current assets

Inventories 2,000

Trade receivables 5 2,200

Cash and bank balances 2,400

TOTAL 18,910

Note 1: The Company has achieved a major breakthrough in its consultancy services in South
Asia following which it has entered into a contract of rendering services with Floral Inc. for Rs.
12 Billion during the year. The termination clause of the contract is equivalent to Rs. 14
Million and is payable in case transition time schedule is missed from 15th December 20X5.
The management however is of the view that the liability cannot be treated as onerous.

Note 2: The Company is not able to assess the final liability for a particular tax assessment
pertaining to the assessment year 20X1-20X2 wherein it has received a demand notice of Rs.
12 Million. However, the company is contesting the same with CIT (Appeals) as on the
reporting date.

Statement of Profit & Loss

Particulars Note Year ended March

31, 20X1

Revenue from operations 11,000

Expenses

Employee Benefit Expense 2,400

Operating Costs 4,400

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Depreciation 1,998

Total Expenses 8,798

Profit before tax 2,202

Tax Expense (300)

Profit after tax 1,902

Notes to Accounts:

Note 1: Reserves and Surplus (INR in millions)

Capital Reserve 1,000

Surplus from P & L

Opening Balance 98

Additions 1,902 2,000

Reserve for foreseeable loss 1,000

Total 4,000

Note 2: Long Term Borrowings

Term Loan from Bank 11,110

Total 11,110

Note 3: Deferred Tax

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Deferred Tax Asset 1,000

Deferred Tax Liability (400)

Total 600

Note 4: Other Current Liabilities

Unclaimed dividends 6

Billing in Advance 294

Total 300

Note 5: Trade Receivables

Considered good (outstanding within 6 months) 2,130

Considered doubtful (due from past 1 year) 80

Provision for doubtful debts (10)

Total 2,200

(a) Share capital comprises of 200 million shares of Rs. 10 each

(b) Term Loan from bank for Rs. 11,110 million also includes interest accrued and due of Rs.
11,110 million as on the reporting date.

(c) Reserve for foreseeable loss is created against a service contract due within 6 months.

Required:

(i) Evaluate and report the errors and misstatements in the above extracts; and,

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(ii) Prepare the corrected Balance Sheet & Statement of Profit and Loss.

(RTP May’18)

Answer 18

(a) On evaluation of the financial statements, following was observed:

1. For foreseeable loss provision is made and not reserves. Hence, reserve for foreseeable loss
for INR 1000 million, (due within 6 months), should be a part of provision. Therefore, it needs to
be regrouped. If it was also a part of previous year’s comparatives, then a note should be added
in the notes to account for regrouping done this year.

2. Interest accrued and due of INR 1,110 million on term loan will be a part of current liabilities
since it is supposed to be paid within 12 months from the reporting date. Hence, it should be
shown under the heading “Other Current Liabilities”.

3. It can be inferred from Note 3, that the deferred tax liabilities and deferred tax assets relate
to taxes on income levied by the same governing taxation laws.

Hence, these shall be set off, in accordance with AS 22. The net DTA of INR 600 million shall be
shown in the balance sheet.

4. The note to trade receivables was incorrectly presented. The rectified note would be as
follows:

Trade receivables (Unsecured) INR in million

(a) Over six months from the date they were due for payment

i. Considered good 0

ii. Considered doubtful 80

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Less: Provision for doubtful debts (10)

(A) 70

(b) Others

i. Considered good 2,130

ii. Considered doubtful 0

Less: Provision for doubtful debts 0

(B) 2,130

Total (A + B) 2,200

It is common to have a termination clause in service contracts. Just by having a termination

clause, a company cannot create a liability. Para 14 of AS 29 inter alia states that a provision will
be recognized when an enterprise has a present obligation as a result of a past event.

Since there is nothing to show that there is a present obligation, no provision will be made.

As per para 27 of AS 29, a contingent liability is recognized only where the possibility of an
outflow of resources embodying economic benefits is not remote. Since there is no onerous
liability as on the reporting date, the possibility of an outflow becomes remote. Therefore, no
contingent liability will arise. In fact, the management has wrongly worded it as ‘onerous
liability’ in its notes to accounts. Onerous liability arises only when the unavoidable costs of
meeting the obligation under the contract exceeds the economic benefits expected to be
received from

it. This note should be eliminated.

The demand notice from the tax department (that is under litigation) is a clear instance of a
‘contingent liability’. Accordingly, the note should be revised as – ‘Contingent Liability:

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There is a demand notice INR 12 Million, which is under CIT (Appeals) as onthe reporting date.

The Statement to Profit and Loss needs to represent earnings per share, as per AS 20.

(b) Revised extracts of the financial statements

Balance Sheet (INR in Million)

Note No. As at March

31, 20X1

EQUITY AND LIABILITIES

Shareholders’ funds

Share capital 2,000

Reserves and surplus 1 3,000

Non-current liabilities

Long-term borrowings 2 10,000

Current liabilities

Trade payables 600

Short-term provisions 1,500

Other current liabilities 4 1,410

TOTAL 18,510

ASSETS

Non - current assets

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Property Plant & Equipment 11,310

Deferred Tax Assets 3 600

Current assets

Inventories 2,000

Trade receivables 5 2,200

Cash and Cash Equivalents 2,400

TOTAL 18,510

Statement of Profit and Loss (INR in Million)

Particular Note No. Year ended

March 31,
20X1

Revenue from operations 11,000

Expenses

Operating Costs 4,400

Employee Benefit Expense 2,400

Depreciation 1,998

Total Expenses 8,798

Profit Before Tax 2,202

Tax Expense 300

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Profit for the period 1,902

Earnings Per Equity Share

Basic 9.51

Diluted 9.51

Number of equity shares (face value of Rs. 10 each) 200 million

Revised Notes (wherever applicable):

Note on Reserves and Surplus

(INR in Million)

Capital Reserve 1,000

Surplus from P & L

Opening Bal 98

Additions 1,902 2,000

Total 3,000

Note on Long Term Borrowings

Term Loan from Bank 10,000

Total 10,000

Note on Other Current Liabilities

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Unclaimed dividends 6

Interest on Term Loan 1,110

Billing in Advance 294

Total 1,410

Topic 7 : Held for Sale Assets (Ind AS 105)

Question 19

PB Limited purchased a plastic bottle manufacturing plant for Rs. 24 lakh on 1 st April, 2015.
The useful life of the plant is 8 years. On 30th September, 2017, PB Limited temporarily stops
using the manufacturing plant because demand has declined. However, the plant is
maintained in a workable condition and it will be used in future when demand picks up.

The accountant of PB Limited decided to treat the plant as held for sale until the demand
picks up and accordingly measures the plant at lower of carrying amount and fair value less
cost to sell. The accountant has also stopped charging depreciation for rest of the period
considering the plant as held for sale. The fair value less cost to sell on 30th September, 2017
and 31st March, 2018 was Rs. 13.5 lakh and Rs. 12 lakh respectively.

The accountant has made the following working:

Carrying amount on initial classification as held for Rs. Rs.

sale

Purchase price of Plant 24,00,000

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Less: Accumulated Depreciation [(Rs. 7,50,000 16,50,000
24,00,000/8) 2.5 years]

Fair value less cost to sell as on 31st March, 2017 12,00,000

The value lower of the above two 12,00,000

Balance Sheet extracts as on 31st March, 2018

Particulars Rs.

Assets

Current Assets

Other Current Assets

Assets classified as held for sale 12,00,000

Required:

Analyze whether the above accounting treatment is in compliance with the Ind AS. If not,
advise the correct treatment showing necessary workings.

(PYP Nov’18)

Answer 19

As per Ind AS 105 ‘Non-current Assets Held for Sale and Discontinued Operations’, an entity
shall classify a non-current asset as held for sale if its carrying amount will be recovered
principally through a sale transaction rather than through continuing use. For asset to be
classified as held for sale, it must be available for immediate sale in its present condition
subject only to terms that are usual and customary for sales of such assets and its sale must be

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highly probable. In such a situation, an asset cannot be classified as a non-current asset held for
sale, if the entity intends to sell it in a distant future.

For the sale to be highly probable, the appropriate level of management must be committed to
a plan to sell the asset, and an active programme to locate a buyer and complete the plan must
have been initiated. Further, the asset must be actively marketed for sale at a price that is
reasonable in relation to its current fair value. In addition, the sale should be expected to
qualify for recognition as a completed sale within one year from the date of classification and
actions required to complete the plan should indicate that it is unlikely that significant changes
to the plan will be made or that the plan will be withdrawn.

Further Ind AS 105 also states that an entity shall not classify as held for sale a noncurrent asset
that is to be abandoned. This is because its carrying amount will be recovered principally
through continuing use. An entity shall not account for a non-current asset that has been
temporarily taken out of use as if it had been abandoned. In addition to Ind AS 105, Ind AS 16
states that depreciation does not cease when the asset becomes idle or is retired from active
use unless the asset is fully depreciated.

The Accountant of PB Ltd. has treated the plant as held for sale and measured it at the fair
value less cost to sell. Also, the depreciation has not been charged thereon since the\ date of
classification as held for sale which is not correct and not in accordance with Ind AS 105 and Ind
AS 16.

Accordingly, the manufacturing plant should neither be treated as abandoned asset nor as held
for sale because its carrying amount will be principally recovered through continuous use. PB
Ltd. shall not stop charging depreciation or treat the plant as held for sale because its carrying
amount will be recovered principally through continuing use to the end of their economic life.

The working of the same for presenting in the balance sheet will be as follows:

Calculation of carrying amount as on 31stMarch, 2018 Rs.

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Purchase Price of Plant 24,00,000

Less: Accumulated depreciation (24,00,000/ 8 years) 3 years (9,00,000)

Carrying amount before impairment 15,00,000

Less: Impairment loss (Refer Working Note) (3,00,000)

Revised carrying amount after impairment 12,00,000

Balance Sheet extracts as on 31stMarch 2018

Assets Rs.

Non-Current Assets

Property, Plant and Equipment 12,00,000

Working Note:

Fair value less cost to sell of the Plant = Rs. 12,00,000

Value in Use (not given) or = Nil (since plant has temporarily not been used for manufacturing
due to decline in demand)

Recoverable amount = higher of above i.e. Rs. 12,00,000

Impairment loss = Carrying amount – Recoverable amount Impairment loss = Rs. 15,00,000 - Rs.
12,00,000 = Rs. 3,00,000.

Topic 8 : Provisions & Contingencies

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Question 20

Pluto Ltd. has purchased a manufacturing plant for Rs 6 lakhs on 1st April, 20X1. The useful
life of the plant is 10 years. On 30th September, 20X3, Pluto temporarily stops using the
manufacturing plant because demand has declined. However, the plant is maintained in a
workable condition and it will be used in future when demand picks up.

The accountant of Pluto ltd. decided to treat the plant as held for sale until the demands
picks up and accordingly measures the plant at lower of carrying amount and fair value less
cost to sell.

Also, the accountant has also stopped charging the depreciation for the rest of period
considering the plant as held for sale. The fair value less cost to sell on 30th September, 20X3
and 31st March, 20X4 was Rs 4 lakhs and Rs 3.5 lakhs respectively.

The accountant has performed the following working:

Carrying amount on initial classification as held for sale

Purchase Price of Plant 6,00,000

Less: Accumulated dep (6,00,000/ 10 Years) 2.5 years (1,50,000) 4,50,000

Fair Value less cost to sell as on 30th September, 20X3 4,00,000

The value will be lower of the above two 4,00,000

Balance Sheet extracts as on 31st March, 20X4

Assets

Current Assets

Other Current Assets

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Assets classified as held for sale 3,50,000

Analyse whether the above accounting treatment made by the accountant is in compliance
with the Ind AS. If not, advise the correct treatment alongwith the necessary workings.

(Study material)

Answer 20

The above treatment needs to be examined in the light of the provisions given in Ind AS 16
‘Property, Plant and Equipment’ and Ind AS 105 ‘Non-current Assets Held for Sale and
Discontinued Operations’.

Para 6 of Ind AS 105 ‘Non-current Assets Held for Sale and Discontinued Operations’ states that:

“An entity shall classify a non-current asset (or disposal group) as held for sale if its carrying
amount will be recovered principally through a sale transaction rather than through continuing
use”.

Paragraph 7 of Ind AS 105 states that:

“For this to be the case, the asset (or disposal group) must be available for immediate sale in its
present condition subject only to terms that are usual and customary for sales of such assets (or
disposal groups) and its sale must be highly probable. Thus, an asset (or disposal group) cannot
be classified as a non-current asset (or disposal group) held for sale, if the entity intends to sell
it in a distant future”.

Further, paragraph 8 of Ind AS 105 states that:

“For the sale to be highly probable, the appropriate level of management must be committed
to a plan to sell the asset (or disposal group), and an active programme to locate a buyer and
complete the plan must have been initiated. Further, the asset (or disposal group) must be
actively marketed for sale at a price that is reasonable in relation to its current fair value. In

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addition, the sale should be expected to qualify for recognition as a completed sale within one
year from the date of classification and actions required to complete the plan should indicate
that it is unlikely that significant changes to the plan will be made or that the plan will be
withdrawn.”

Paragraph 13 of Ind AS 105 states that:

“An entity shall not classify as held for sale a non-current asset (or disposal group) that is to be
abandoned. This is because its carrying amount will be recovered principally through continuing
use.”

Paragraph 14 of Ind AS 105 states that:

“An entity shall not account for a non-current asset that has been temporarily taken out of use
as if it had been abandoned.”

Paragraph 55 of Ind AS 16 states that:

“Depreciation does not cease when the asset becomes idle or is retired from active use unless
the asset is fully depreciated.”

Going by the guidance given above,

The Accountant of Pluto Ltd. has treated the plant as held for sale and measured it at the fair
value less cost to sell. Also, the depreciation has not been charged thereon since the date of
classification as held for sale which is not correct and not in accordance with Ind AS 105 and Ind
AS 16.

Accordingly, the manufacturing plant should neither be treated as abandoned asset nor as held
for sale because its carrying amount will be principally recovered through continuous use. Pluto
Ltd. shall not stop charging depreciation or treat the plant as held for sale because its carrying
amount will be recovered principally through continuing use to the end of their economic life.

The working of the same for presenting in the balance sheet is given as below:

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Calculation of carrying amount as on 31st March, 20X4

Purchase Price of Plant 6,00,000

Less: Accumulated depreciation (6,00,000/ 10 Years) 3 Years (1,80,000)

4,20,000

Less: Impairment loss (70,000)

3,50,000

Balance Sheet extracts as on 31st March, 20X4

Assets

Non-Current Assets

Property, Plant and Equipment 3,50,000

Working Note:

Fair value less cost to sell of the Plant = Rs 3,50,000

Value in Use (not given) or = Nil (since plant has temporarily not been used for manufacturing
due to decline in demand)

Recoverable amount = higher of above i.e. Rs 3,50,000

Impairment loss = Carrying amount – Recoverable amount

Impairment loss = Rs 4,20,000 - Rs 3,50,000 = Rs 70,000.

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