University of New South Wales School of Accounting ACCT 3563 Issues in Financial Reporting and Analysis

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University of
New South Wales

School of
Accounting

ACCT 3563 Issues in Financial
Reporting and Analysis ACCT 3573 Issues in Financial Reporting and Analysis
(Honours)

Final
Examination With Answers

Session 1, 2011
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Time
allowed: 3
hours writing time
10 minutes
reading time
Total
number of questions: 21

All
studentsmust
answer the 15 multiple choice questions in part A and Questions16 to 24
in Part B; ACCT 3563 students answer question 25; ACCT 3573 (honours) students
answer question 26.

The
20 multiple choice questions must be answered on the Generalised Answer Sheet
provided. There is no negative marking for questions 1-20. For each question
choose the best answer from the alternatives given.

Questions
1 to 20 are not of equal marks but are worth a total of 30. Questions 21 to 26
are worth 70 marks total, and they are NOT of equal marks.

Answers to
questions 21-26 must be written in ink. Pencils should be used for answering
questions 1-20, and may be used for drawing, sketching or graphical work.

Narrations are
not required for journal entries.

This paper may
be retained by the candidate.

.

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Part A
Multiple Choice Questions (Questions are not of equal marks)

Question
1 (2 marks). Covers
topic no longer taught in Course

The
following data applies to questions 2 and 3 – Cover topic no longer taught in
Course

The
following data applies to questions 4 and 5 Cover topic before in-class test
cut-off

Question
6 (2 marks)

Which
of the following shall be recognised as provisions in accordance with AASB 137 Provisions,
Contingent liabilities, and Contingent Assets?

I.
Raschella Limited was
awaiting the final details of a court case for damages awarded in its favour.
The amount and possible receipt of damages is unknown and will not be decided
until the court sits again in several months time.

II.
A company announced that
it will make a donation to a natural disaster. It has a record of honouring its
donation announcement.

III.
Purcell Limited is a
manufacturer of swimming pools and provides its customers with warranties at
the time of sale. The warranty applies for three years from the date of sale.
Past experience shows that there will be some claims under the warranties.

A.
I and II

B.
I and III

C.
II and III (answer)

D.
III only

E.
None of the above
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Question
7 (2 marks)

Which
of the following is TRUE in accordance with AASB 137 Provisions, Contingent
Liabilities, and Contingent Assets?

I.
An entity shall not recognise a
contingent liability in the balance sheet

II.
Provisions shall be
reviewed at each reporting date and adjusted to reflect the current best
estimate.

III.
Provision can be provided for future
operating losses

IV. A contingent liability does not
include a genuine liability which does not satisfy the

recognition
tests of probable occurrence and reliable measurement.

V.
Provisions that were previously created
cannot be reversed to increase profit.

A.
II ONLY

B.
II, III, IV

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C.
I, IV, V

D.
II, IV, V

E.
I and II
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The following
data applies to questions 8 and 9 Topic not covered in 2014 Course

The following
data applies to questions 10 and 11

Rebecca B works for
Friday Ltd. Her annual salary is $104,000. Rebecca B is entitled to 4 weeks of
accumulating and non-vesting sick leave per year. As at 30 June 2009, Rebecca B
has fully used up all her sick leave and no sick leave is carried forward to
the next year. As at 30 June 2010, Rebecca B has taken no sick leave and she is
expected to take 7 weeks sick leave next year.

Question 10 (2
marks)

In accordance with AASB
119 Employee Benefits, Friday Ltd must recognise a sick leave expense and
provision for sick leave expense during the financial year 2010 equal to:

Sick
leave expense

Provision
for sick leave

A.

$ 0

$
14,000

B.

$ 0

$
6,000

C.

$
6,000

$
6,000

D.

$
6,000

$
8,000

E.

$
8,000

$
8,000

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Question 11 (2
marks)

If the sick leave is
accumulating and vesting and Rebecca B has one week sick leave carried forward
from 2009 to 2010, what is the sick leave expense and provision for sick leave
that Friday Ltd must recognise during the financial year 2010?

Sick
leave expense

Provision
for sick leave

A.

$4,000

$
4,000

B.

$ 0

$
6,000

C.

$
6,000

$
6,000

D.

$
6,000

$
8,000

E.

$
8,000

$
8,000

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Question
12 (1 mark)

According to AASB 132 Financial
Instruments: Presentation, which of the following items would be regarded
as a financial liability?

(a)
ordinary shares held in another entity;

(b)
a contract that is a
non-derivative for which the entity is obliged to deliver a variable number of
its own equity instruments;

(c)
a contractual right to
exchange under potentially favourable conditions, an option to purchase shares
below the market price;

(d)
the right of a depositor
to obtain cash from a financial institution with which it has deposited cash;

(e)
b and c.

Question
13 (1 mark)

AASB 139 Financial Instruments:
Recognition and Measurement, requires that ‘Held-to-maturity’ investments
be initially measured at:

(a)
fair value;
(b)
discounted future cash outflows;
(c)
discounted future net cash flows;
(d)
fair value plus transaction costs;
(e)
none of the above.

Question
14 (1 mark)

Which
of the following statements in relation to functional currency is correct?

(a)
the economic
relationship between the parent and subsidiary has no effect on the extent to
which a change in exchange rate affects the parent.

(b)
where a foreign
subsidiary is merely a conduit for transforming foreign currency cash flows
into dollar cash flows monetary gains and losses must be recorded immediately
in profit or loss as they affect the parent directly.

(c)
where a foreign
subsidiary is acting as a free standing unit foreign currency gains and losses
must be recorded immediately in profit or loss.

(d)
where a foreign subsidiary is
interdependent on the parent foreign currency gains and
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losses must be
recorded in equity;

(c) all of the above.

Question
15 (1 mark)

When translating from functional
currency into the presentation currency the translation difference is
recognised:

(a)
in profit or loss

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(b)
as a separate component of equity
(c)
in retained earnings
(d)
as an asset or liability, depending on
whether it is a debit or credit balance;
(e)
a and c.

Question 16 (2
marks)

On
1 March 2011, Ethan Hunt buys a diversified portfolio of shares for $2,550,000.
At the time the All Ordinaries Share Price Index was 3400. Ethan is concerned
that the share market will fall during the next few months so he enters the
futures market and takes out sufficient June SPI futures “sell” contracts at a
price of 3400 to cover his share portfolio. The value of the contracts is shown
in the table. Ethan Hunt pays a deposit of $100,000 to the Sydney Futures
Exchange (SFE) on 1 March 2011.

Relevant June
SPI futures prices:

Date

June
SPI Futures

Value
of Futures

Price

contracts

1
March 2011

3400

$2,550,000

00

31

March
2011

3200

$2,400,000

+150,000

30

April
2011

3500

$2,625,000

-225,000

31

May
2011

3400

$2,550,000

+75,000

30

June
2011

3360

$2,520,000

+30,000

Ethan Hunt
closes out his futures contracts on 30 June, 2011.

Assume
that margin calls are paid when futures contracts move into overall
loss and are refunded when that loss is reversed.

Accounting for
the SPI futures contract will show: (2 marks)

31 March

30 April

31 May

30 June

a)

Margin
call

paid

Gain $225,000

Loss $75,000

Loss $30,000

$150,000

b)

Loss $150,000

Gain $225,000

Loss $75,000

Loss $30,000

Margin call

paid

Margin
call refunded

Margin call

paid

Margin call
paid

$150,000

$150,000

$75,000

$30,000

c)

Gain $150,000

Loss $225,000

Gain $75,000

Gain $30,000

Margin

call

paid

$225,000

d)

Gain $150,000

Loss $225,000

Gain $75,000

Gain $30,000

Margin

call

paid

Margin

call

$75,000

refunded $75,000

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e)

Gain
$150,000

Loss
$225,000

Gain
$75,000

Loss
$30,000

Margin call

paid

Margin

call

Margin call
paid

$75,000

refunded
$75,000

$30,000

Question 17 (2
marks)

Fred
Optional purchased 100,000 shares in ABC Ltd on 1 July 2008 for $5.00 per
share. Fred mustkeep these shares for three years. Concerned that the
share market is likely to fall sharplyin that time, Fred Optional also
purchased 100,000 put options in ABC Ltd at 50cents per option on 1 July 2008.
The options have an exercise price of $3.00 per share and a life of 3 years –
they expire on 30 June 2011. Prices of ABC Ltd shares and put options each 30
June over the period to 30 June 2011 are shown below:

Date

Share price

Option price

30
June 2009

$4.00

20
cents

30
June 2010

$3.00

30
cents

30
June 2011

$2.00

$1.00

Fred Optional
revalues all his financial instruments to their fair value each 30 June balance
date.

Fred exercises
his put options on 30 June 2011.

A. The
total gain or loss on the shares and options from 1 July 2008 to 30 June 2011
is $200,000 loss

B. The
total gain or loss on the shares and options from 1 July 2008 to 30 June 2011
is $250,000 loss

C. If
Fred had not purchased the options, and had sold the shares on 30 June 2011,
his total loss would have been $300,000

D.
A and C

E.
B and C

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Part B: Written
Questions. The questions are NOT of equal marks

Question
18 (4 marks)

Rebecca B’s annual
salary is $110,000. She is entitled to 13 weeks long service leave provided she
worked for the company for 10 years. At 30 June 2010, Rebecca B has worked with
Friday Ltd for 6 years and there is an 80% probability that she will stay with
Friday Ltd for 10 years.

Expected inflation for
the foreseeable future is 3% per year and wages are expected to keep pace with
inflation. The corporate bond rate with 4 years to maturity is 6% and with 6
years to maturity is 8%. The government bond rate with 4 years to maturity is
5% and with 6 years to maturity is 7%. The market Friday Ltd operates in does
NOT have a deep market for corporate bonds.

At
30 June 2009, the balance of provision for long service leave for Friday Ltd
was $6,000.

In accordance with AASB
119 Employee Benefits, what is the long service leave expense that
Friday Ltd must recognise for the year ended 30 June 2010? Show workings.
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*(1+3%)4*(6/10)*(13/52)*(1+5%)-4*0.8 – 6,000 = 6222.62

½

½

½

½

½

½

½

½

marks

Future
Value (FV) and Present Value (PV) Factors

Years

FV of $1 @

FV
of $1 @

FV
of $1 @

FV
of $1

FV
of $1

4%

5%

6%

7%

8%

4

1.1699

1.2155

1.2625

1.3108

1.3605

6

1.2653

1.3401

1.4184

1.5007

1.5869

Years

PV
of $1 @

PV of $1 @

PV of $1 @

PV
of $1 @

PV
of $1

4%

5%

6%

7%

8%

4

.8548

.8227

0.7921

.7629

.7350

6

.7903

.7462

0.7050

.6663

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Question
19 (10 marks)

On 1 July 2008,
the Mizone Corporation grants 50 share options to each of its 100 employees,
conditional on the employee remaining in the employ of Mizone Corporation for
the next two years. The fair value of the options on grant date is $15.
On the basis of a weighted average probability, the Mizone Corporation
estimates that 15% of its employees will leave during the vesting period. The
following table summarises the actual employee departures and revised estimates
of employee departures across the vesting period.

Actual
Employee Departure

Revised
Estimate of Departure

30
June 2009

6

A
further 8

30
June 2010

9

N/A

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By the end of 31st
December 2008 (i.e., six months after the issuance of the option), the
Mizone corporation’s share price has dropped, and it decides to reprice the
share options. It estimates that the fair value of the original share options
is $7 and the fair value of the repriced share options is $10.

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REQUIRED

In accordance with AASB 2 Share-based
Payment, calculate the expense that would be recognised for the year ended
30 June 2009 and 30 June 2010. Show workings.

Question
20 [6 Marks]

On
5 July 2009 Sydney Ltd provides some consulting services to New York Inc. (US)
for an agreed fee of US$2 million. The amount is paid into the US bank account
of Sydney Ltd on 5 July 2009. Sydney Ltd decides to leave the amount in the US
bank account, which pays interest each 30 June at the rate of 10 per cent per
annum. The relevant exchange rates are:

5
July 2009 A$1.00 = US$0.98

30
June 2010 A$1.00 = US$0.95

Required:

Provide
the journal entries that would need to be made in the books of Sydney Ltd to
account for the above transactions for the year ending 30 June 2010.
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Question
21 [5 Marks]

Company P issues 500 000
$2 redeemable convertible notes. The notes pay interest at 6%. The notes are
redeemable after five years at the option of the issuer for cash or for a
variable number of shares (calculated according to a formula). If after five
years the notes have not been redeemed or converted, they continue to carry
interest at a new market rate to be determined at the expiration of the five
years.

Required

Determine whether this
financial instrument should be classified as a financial liability or equity
instrument of company P. Give reasons for your answer.
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Question 22 (15
marks)

Darwin
Ltd, an Australian company, acquired all the issued shares of LA Corp., a US
company, on 1 January 2010. At that date, the net assets of LA Corp. are shown
below:

US$__

Cash

20,000

Inventory

40,000

Accounts Receivable

20,000

Property,
Plant and Equipment

310,000

Less:
Accumulated depreciation

60,000

250,000

Total Assets

330,000

10

Accounts
Payable

30,000

Net Assets

300,000

The trial
balance of LA Ltd at 31 December 2010 was:

US$

US$

___Dr___

___Cr___

Sales

180,000

Cost of sales

60,000

Depreciation –
PP&E

30,000

Other expenses

60,000

Share capital

200,000

Retained
earnings

100,000

Accounts
payable

84,000

Property,
plant and equipment

310,000

Accumulated
depreciation – PP&E

90,000

Accounts
receivable

80,000

Inventory

90,000

Cash

24,000

_______

654,000

654,000

Additional
information

1.

Exchange rates
were (A$1 = US$):

1
January 2010

US$
0.82

31 December
2010

US$ 0.90

Average for
2010

US$ 0.86

2.

No additional property, plant and equipment were acquired in the 2010
period.

3.

All sales and
expenses were incurred evenly throughout the period.

4.

The functional
currency for LA Ltd is the US dollar.

5.

Round all
conversions to the nearest dollar.

Required:

a)
Prepare the Income
Statement and Balance Sheet of LA Ltd at 31 December 2010 in the presentation
currency of Australian dollars [12 Marks]

b)
Verify the translation adjustment [3
Marks]

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Question 23 (15
marks)

Recent
corporate failures illustrate shortcomings in financial reporting and in
ethical behaviour of key corporate executives:

(a) Identify
any three ethical shortcomings of key corporate executives in the failure of
Enron and/or in the Global Financial Crisis. (6 marks)

(b) How
did ethical shortcomings of key corporate executives in the failure of Enron
and/or in the Global Financial Crisis result in problems with fair value
accounting (also called mark-to-market accounting)? Ignore other accounting
issues. (6 marks)

(c) Have
accounting standards been changed to remedy the problems in fair value
accounting that you identified in part (b)? (3 marks)

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Question 24 (15
marks) To be answered by ACCT 3563 students only

On 1 March 2011 Kangaroo
Ltd, an Australian entity, places an order for Euro 10 million of inventory
with Napoleon Corporation, a French supplier. The goods will be purchased FOB
Marseilles. The goods are shipped on 1 June 2011 and paid for on 1 August 2011.
A decision is made to take out a foreign exchange forward contract for Euro 10
million on 1 March 2011 with Aussie Bank in which Aussie Bank agrees to supply
Kangaroo Ltd with Euro 10 million on 1 August 2010.

Exchange
rate – 1

March 2011

A$1.00 = €0.55

Forward
rate for the hedge contract

A$1.00 = €0.51

Exchange
rate – 1

June 2011

A$1.00 = €0.52

Exchange
rate – 30 June 2011

A$1.00 = £0.50

Exchange
rate – 1

August 2011

A$1.00 = €0.53

Fair Values of
the forward rate agreement are as follows (brackets indicate credit balances):

1

March 2011

$Nil

1

June 2011

($500,000)

30
June 2011

$200,000

1

August 2011

($739,918)

Required:

Assuming that the
hedging arrangement satisfies the requirements for hedge accounting as
stipulated in AASB 139, provide the necessary journal entries for Kangaroo Ltd
from 1 March 2011 to 1 August 2011.

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