GRAP 3 - Pages. GRAP/02...GRAP 3 on Accounting Policies, Changes in Accounting Estimates and Errors...

ACCOUNTING GUIDELINE

GRAP 3

Accounting Policies,

Changes in Accounting

Estimates and Errors

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Note that this document is not part of the GRAP standard. The GRAP takes precedence while this guideline is used mainly to provide further

explanations on the concepts already in the GRAP.

GRAP 3 on Accounting Policies, Changes in Accounting Estimates and Errors

Issued February 2020 of 39

Contents

1. Introduction .................................................................................................................. 4

2. Scope .......................................................................................................................... 5

3. Accounting Policies ...................................................................................................... 5

3.1 Initial setting of an accounting policy ................................................................... 5

3.2 No standard of GRAP available to apply to a transaction, event or circumstance 7

3.3 Materiality ........................................................................................................... 9

3.4 Consistent application of accounting policies .................................................... 10

3.5 Subsequent change in accounting policy .......................................................... 11

3.6 Instances that will not result in a change in accounting policy ........................... 13

3.7 Applying changes in accounting policies ........................................................... 14

3.8 Impracticability and application of hindsight ...................................................... 18

3.9 Disclosure ......................................................................................................... 24

4. Accounting Estimates ................................................................................................ 26

4.1 Applying a change in an accounting policy ........................................................ 28

4.2 Disclosure ......................................................................................................... 31

5. Errors ......................................................................................................................... 33

5.1 Correction of errors ........................................................................................... 33

5.2 Disclosure ......................................................................................................... 34

6. Useful links and references ........................................................................................ 38



1. Introduction

This document provides guidance on the bases for the presentation of financial statements.

The contents should be read in conjunction with GRAP 3.

For purposes of this guide, “entities” refer to the following bodies to which the standard of

GRAP relate to, unless specifically stated otherwise:

• Public entities

• Constitutional institutions

• Municipalities and all other entities under their control

• Trading entities and government components applying the standards of GRAP

• Parliament and the provincial legislatures

• TVET and CET colleges

Explanation of images used in manual:

Definition

Take note

Management process and decision making

Example



2. Scope

GRAP 3 is applicable to all entities preparing their financial statements on the accrual basis of

accounting.

Changes in accounting policies, changes in accounting estimates and corrections of prior period errors relating to taxation, where applicable, must be accounted for in accordance with IAS 12® Standard on Income Taxes.

Entities will comply with GRAP 3 for all changes in accounting policies, changes in accounting

estimates and errors where no other specific standard or directive provides guidance and/or

transitional provisions, e.g. where a specific standard or directive provides transitional

provisions on adopting of a new standard of GRAP or applying amendments to a standard of

GRAP, the provisions in that standard should be followed and not GRAP 3.

3. Accounting Policies

Accounting policies are specific principles, bases, conventions, rules and practices applied by an entity in preparing and presenting its financial statements.

Accounting policies describe the manner in which an entity has elected to account for similar

types of transactions in the preparation and presentation of its financial statements.

3.1 Initial setting of an accounting policy

Where a “Standard of GRAP” applies to a material transaction, other event or circumstances,

an entity should determine the accounting policy or policies to be applied by reference to the

requirements of that Standard.

“Standard of GRAP” include the Standards of GRAP, Interpretations of the Standards of GRAP and any Directives issued by the ASB. Guidelines explain the application of the principles included in the Standards and/or Interpretations to specific transactions, events or circumstances. The authority of Guidelines is set out in each Guideline or in Directives issued by the Board.

To this end, the accounting policies embedded in the Standards will result in financial

statements that contain relevant and reliable information about the transactions, other events



and circumstances to which they apply. Accordingly an accounting policy must always be in

line with the applicable Standard of GRAP.

Example : Accounting policy extract – Property, plant and equipment

“Items of [include types of property, plant and equipment] are recognised as assets on acquisition date and are initially recorded at cost. The cost of such items is the purchase price and other costs attributable to bring the asset to the location and condition necessary for it to be capable of operating in the manner intended by the entity.……”

Where an accounting standard permits an entity to adopt one of two alternative accounting

treatments, it is important that the entity clearly indicates the alternative that has been adopted

(and which should apply consistently, unless a standard permits otherwise).

What should be included in accounting policies

Ensure that the following basic principles are addressed as a minimum when developing the policies, i.e.:

• Initial recognition, initial measurement, subsequent measurement, impairment, derecognition and presentation (where relevant).

Take note that not all of these principles will necessarily be applicable to all items in the financial statements.

A review of the accounting policies is necessary if the applicable standard of GRAP changes.

In many instances, the standard of GRAP will provide for transitional provisions which will be

used to apply the new requirements. The accounting policy therefore also needs to be

changed to be in line with the relevant accounting standard to which it relates and any

applicable transitional provisions.

How does an entity decide which accounting policies should be included in its financial

statements?

An entity includes accounting policies in its financial statements for those material transactions

or events included in the entity’s financial statements for the current or prior years (either

recognised or included in a specific component of the financial statements, e.g. the statement

of financial position or the comparison of budget and actual information, or disclosed in the

notes to the financial statements).

An entity would not include accounting policies in its financial statement that are not relevant

to the transactions and events undertaken for the current or prior years. For example, an

entity would not include an accounting policy in its financial statements for internally generated

intangible assets it is has not undertaken such transactions in the current or prior years.



When an accounting policy is selected, any other relevant interpretations issued by the

Accounting Standards Board (ASB) need to be considered. A very important source of

information to consider is Directive 5 on Determining the GRAP Reporting Framework issued

by the ASB.

What versions of the Standards of GRAP should be applied on first time adoption?

An entity that adopts the Standards of GRAP for the first time should apply the versions of the

Standards effective for the first GRAP reporting period. The versions of the Standards that

are applicable can be determined with reference to the annexure to Directive 5 on Determining

the GRAP Reporting Framework and by reference to the ASB’s website.

An entity should use the same accounting policies, based on the versions of the Standards of

GRAP effective at the end of the entity’s first GRAP reporting period, for both the current and

comparative information presented.

Example : Applying the correct version of a Standard of GRAP

The end of Entity A’s first GRAP reporting period is 31 March 20X8. Entity A presents comparative information in those financial statements. Therefore, its date of transition to the Standards of GRAP is 1 April 20X6. Entity A is required to apply the Standards in Directive 5 effective for the 31 March 20X8 period in preparing and presenting its:

a) Statement of financial position, statement of financial performance, statement of changes in net assets, statement of cash flows and notes for 31 March 20X8 (including comparative information for 31 March 20X7); and

b) A comparison of budget an actual amounts and notes for the year 31 March 20X8.

The transitional provisions in other Standards of GRAP apply to changes in accounting policies made by an entity that already applies the Standards of GRAP.

3.2 No standard of GRAP available to apply to a transaction, event or circumstance

In cases where no standard of GRAP is available to initially develop an accounting policy,

management must use their judgement when determining the accounting policy in line with

the hierarchy provided in GRAP 3.



The following key principles need to be considered:

Directive 5 provides guidance on which standards to apply. Where no guidance is available,

a very strict hierarchy must be followed to determine a specific accounting policy. While

considering the above key principles, the following hierarchy is used to determine which

standard or guidance to follow:

When an entity uses pronouncements of, for example other standard-setting bodies, it should

ensure that it is not in conflict with similar standards of GRAP or the GRAP Framework. For

6th

5th

4th

3rd

2nd

1st Requirements of Standards of GRAP or Interpretations dealing with similar / related issues

The Framework for the Preparation and Presentation of Financial Statements (definitions, recognition criteria and measurement

criteria)

Pronouncements of the International Public Sector Accounting Standards Board (IPSAS)

The International Accounting Standards Board (IASB)

The International Financial Reporting Interpretations Committee (IFRIC) or the former Standing Interpretations Committee of the IASB

Financial Reporting Standards Council



example an entity is not allowed to use IAS 20® Standard on Government Grants issued by

the IASB to development its accounting policy for revenue from non-exchange transactions

as the standard is in conflict with the existing standard, GRAP 23 on Revenue from Non-

exchange Transactions.

3.3 Materiality

GRAP 3 notes that policies need not be applied where the effect of applying them is

immaterial. This compliments GRAP 1 which states that disclosures required by GRAP need

not be made if the information is immaterial.

Material omissions or misstatement of items are material if they could, individually or collectively, influence the decisions or assessments of users made on the basis of the financial statements. Materiality depends on the nature or size of the omission or misstatement judged in the surrounding circumstances. The nature or size of the information item, or a combination of both, could be the determining factor.

In applying the definition of materiality, an entity should consider the characteristics of the

users of the financial statements and how the decisions of such users would reasonably be

expected to be influenced.

Also in relation to materiality, GRAP 3 notes that it is inappropriate to make or leave

uncorrected, immaterial departures from GRAP to achieve a particular presentation of an

entity’s financial position, financial performance or cash flows. This statement implies that a

departure that achieves a particular presentation may be immaterial. However, if that

particular presentation is different from the presentation that would be achieved through

compliance with the Standard, it may be likely to influence the decisions of the user and hence

be material. An example of such departure would include a situation where a small

uncorrected error could trigger a breach of borrowing covenants. Accordingly, even

departures that appear to be relatively immaterial because of its size should be considered

carefully.

Arguments that it is impracticable to apply a standard, or parts thereof, or that amounts cannot be determined, are rarely reasons for considering the effect to be immaterial, because in the absence of quantification it is generally not possible to judge materiality.



3.4 Consistent application of accounting policies

Users of financial statements should be able to compare the current period presented to

previous periods. It is therefore crucial that the accounting policies are consistent from period

to period. Accounting policies must also be applied consistently for similar transactions. The

only exception is if a standard of GRAP specifically requires or permits items to be split into

categories and a separate accounting policy is applicable for each category.

Example: Accounting policies for different categories of inventory

Different categories of inventory may be accounted for using different accounting policies, for example:

• Finished goods – first-in-first-out method

• Raw materials – weighted average method

GRAP 17 on Property, Plant and Equipment is another excellent example. Each class of

property, plant and equipment must be categorised and a different accounting policy may be

applicable for each class of property, plant and equipment.

Categories vs. Classes

Categories are predetermined in the standards of GRAP and are fixed, for example categories of financial instruments, whilst classes are determined by management. The standards may provide examples of different classes, but it is up to management to decide which classes will be used in the financial statements. An example is items of property, plant and equipment, where a class may be office furniture, computer equipment, etc.

In addition management of an entity may elect to have different classes of motor vehicles for example, those which are used for staff/admin purposes and motor vehicles used to do inspections (like to roads or rural areas) each with differing useful lives.

The following is an extract from the accounting policy for property, plant and equipment found

in the annual financial statements of a public entity (only for illustration purposes):

Example: Accounting policy extract – Property, plant and equipment

Asset class Model Depreciation method Useful life

Office equipment Cost Straight line over useful life 5 years

Machinery and equipment

Cost Straight line over useful life 7 years

Motor vehicles Cost 20 % diminishing balance method

5 years

IT equipment Cost Straight line over useful life 3 years

Land Revaluation Not depreciable Indefinite

Buildings Revaluation Straight line over useful life 20 years



As illustrated in the above extract, each class of property, plant and equipment has its own

accounting model and depreciation method, in other words, accounting policy for recognition

and measurement.

3.5 Subsequent change in accounting policy

After the initial accounting policy has been set, using a specific standard or judgement where

no specific standard exists, GRAP 3 will be applied. The accounting policy must ensure the

quality and reliability of all information presented in the financial statements as envisaged by

the qualitative characteristics of financial reporting in the Framework for the Preparation and

Presentation of Financial Statements. These are:

Information is relevant if it is capable of making a difference in achieving the objectives of financial reporting, i.e. when it has confirmatory value, predictive value or both. It may be capable of making a difference, and thus be relevant, even if some users choose not to take advantage of it or are already aware of it.

Understandability is the quality of information that enables users to comprehend its meaning. Financial statement should present information in a manner that responds to the needs and knowledge base of users, and to the nature of the information presented. Understandability is enhanced when information is classified, characterised, and presented clearly and concisely.

Timeliness means having information available for users before it loses its capacity to be useful for accountability and decision-making purposes. Having relevant information sooner can enhance its usefulness as input to assessments of accountability and its capacity to inform and influence decisions that need to be made. A lack of timeliness can render information less useful.

Relevance Understandability Timeliness Comparability Verifiability



Comparability is the quality of information that enables users to identify similarities in, and differences between, two sets of phenomena. Comparability is not a quality of an individual item of information, but rather a quality of the relationship between two or more items of information.

Verifiability is the quality of information that helps assure users that information in the financial statements faithfully represents the economic and other phenomena that it purports to present.

An accounting policy may change in accordance with GRAP 3 when it no longer conforms to

the above characteristics. GRAP 3 states that it will be necessary to change an accounting

policy only if:

• A change is required by a standard of GRAP; or

• A change in the current accounting policy will result in more reliable and relevant

information about the impact of transactions and events on the entity’s financial

statements.

The above two prerequisites are the only reasons when a change in accounting policy can be

justified. A change in the recognition, measurement and presentation of a transaction, event

or condition will be a change in accounting policy.

An entity should not consistently keep changing its accounting policies as this will negatively

impact the comparability of the entity’s results from one period to another. It will also limit the

ability of the user of the financial statements to establish trends in an entity’s financial position,

financial performance and cash flows.

Apart from these reasons it is also a costly and time consuming exercise.

Example : What may constitute a change in accounting policy

• An entity accounts for its property, plant and equipment on the cost basis, but decides to adopt the revaluation method in accounting for these items due to a decision on how it will manage the assets.

• An entity that previously accounted for its investments in joint ventures using the equity method decides to rather adopt the proportionate method, as management is of the view that this method provides more relevant information about the effects of the transactions.



A change from one basis of accounting to another basis of accounting is a change in accounting policy, therefore if a department moves from the modified cash basis to the accrual basis of accounting, it will be a change in accounting policy and GRAP 3 should be applied.

3.6 Instances that will not result in a change in accounting policy

Certain events or transactions do not qualify as a change in accounting policy, namely:

Example: Application of an accounting policy to a transaction that differs in substance from the previous transaction

An entity leases equipment which, after taking substance over form into account, qualifies as an operating lease. The lease contract expires and management decides to change the contract with the lessor. After considering the substance of the new lease contract, the lease now qualifies as a finance lease. The transaction is consequently different in substance, from the previous transaction and the accounting policy for finance leases will now be applied. This will not result in a change in accounting policy.

•Another existing accounting policy will be used applicable to the specific type of transaction or substance of the transaciton

The application of an accounting policy for events or transactions or conditions that differ in substance from those previoulsy occurring

•This would represent a new accounting policy being applied to a new type of transaction or event

The application of a new accounting policy for transactions, other events or conditions that did not occur perviously or that were immaterial

•A change to the cost model when a reliable measure of fair value is not available is not a change in accounting policy in terms of this Standard, and should be accounted for prospectively (refer also to Directive 11 on Changes in Measruement Bases Following the Initial Adoption of Standards of GRAP)

A change to the cost model when a reliable measure of fair value is not available (or visa versa) for an asset that a Standard of GRAP would otherwise permit to be measured at fair value



Example: Application of a new accounting policy

An entity acquires a building in the current period which qualifies as an investment property. The entity previously never had investment property. Other land and buildings owned by the entity, qualifies as owner-occupied property, and therefore the accounting policy for property, plant and equipment is used. No accounting policy existed for investment property; therefore this situation qualifies as an adoption of a new accounting policy, not a change in accounting policy.

3.7 Applying changes in accounting policies

GRAP 3 outlines the following important aspects:

A voluntary change in accounting policy will occur when the entity has applied an accounting

policy from other standard-setters in the absence of a standard of GRAP for a specific

transaction or event and the standard on which the accounting policy was based has been

amended.

If a standard is not yet effective, but the effective date has been determined by the Minister of

Finance, i.e. it has been issued and approved, an entity may want to early adopt the specific

standard. This decision will not be a voluntary change in accounting policy. The change in

accounting policy will be accounted for in accordance with the transitional provisions of that

particular standard.

The main objective of retrospective application is to adjust the financial statements as if the

entity had always been applying the accounting policy as in the current year. Therefore, the

change must be reflected not only in the current period, but also in the comparative periods'

figures shown in the statement of financial position, statement of financial performance,

statement of changes in net assets, cash flow statement and notes to the financial statements.



Example: Change in accounting policy

An example of an entity’s statement of financial position (20X6 has only been included for illustrative purposes):

Extract from Statement of Financial Position

Note 20X8

20X7

20X6

Current Assets

Cash and cash equivalents 4 9,000 5,000 2,500

Deposits 5 200 1,500 1,000

Accounts receivable 6 8,400 5,700 4,800

In the above example the retrospective adjustment will be applied to ‘Accounts receivable’.

The first step in applying retrospective adjustment is to start from the earliest year presented, thus, 20X7s opening balance (thus the closing balance for 20X6). After adjusting 20X7’s opening balance, the next step will be to adjust 20X7 closing balance and then the closing balance for the current year. For each year presented the period specific adjustment must be made and the cumulative effect in each year’s closing balance must be accounted for.

The steps discussed in the above example can be illustrated as follows:

Let’s further consider the example of ‘Accounts receivable’:

Closing balance in 20X6 4,800

Plus: movement in 20X7 900

Equals: closing balance in 20X8 5,700

Plus: movement in 20X8 2,700

Equals: closing balance in 20X8 8,400

As can be seen from above, the closing balance of the previous period affects the opening balance of the current period, i.e. it has a cumulative effect, and the closing balance for 20X6 plus movements in 20X7 equals the opening balance for 20X7. Consequently if you are applying a change in accounting policy retrospectively, the opening balance for the earliest period presented, which is the closing balance for the period before that, i.e. 20X6 must be adjusted with the cumulative effect on all prior periods (20X6 and back) and then every other



opening and closing balance thereafter must be adjusted with the cumulative effect, i.e. 20X7 and 20X8.

In addition to adjusting the opening and closing balances with the cumulative effect, the period specific adjustments, i.e. movement for the period, must also be adjusted, which will be the effect on the surplus or deficit or assets or liabilities. Remember that an adjustment to prior periods affecting surplus or deficit will always be made to accumulated surplus or deficit.

This is best illustrated by showing the journal entries. Refer to the example below.

If we take the same information as in the example above and assume the following:

Previously shown:

Should be: Adjustment:

Closing balance in 20X6 4,800 5,000 200

Plus: movement in 20X7 900 1,000 100

Equals: closing balance in 20X7 5,700 6,000 300

Plus: movement in 20X8 2,700 2,500

Equals: closing balance in 20X8 8,400 8,500

The journal entries to adjust the accounts receivable balance will be as follows:

20X7 Debit Credit

R R

Accounts receivable 200

Accumulated surplus/deficit (opening balance) 200

Adjust the opening balance for 20X7

20X7 Debit Credit

R R

Accounts receivable 100

Revenue (against surplus/deficit) 100

Account for the movement in 20X7

20X8 Debit Credit

R R

Accounts receivable 2,500

Revenue (against surplus/deficit) 2,500

Account for movement in 20X8



As can be seen, any adjustments that affect surplus or deficit should be made against accumulated surplus or deficit (see first journal entry in 20X8). In 20X8, the total movement for the period is journalised as it is the current reporting period.

The diagram below summarises the application of a change in accounting policy:

Specific transitional provisions contained

in relevant GRAP Standard?

Apply specific transitional

provisions

Apply change

retrospectively

YES NO

Does the standard require

retrospective application?

Apply change prospectively

YES

NO

Impracticable?

• Adjust opening balance of each

affected component of net assets for

earliest period presented

• Adjust comparative amounts disclosed

for each prior period presented as if

the new policy had always applied

Practicable?

Impracticable to

determine period-specific

effect

Impracticable to

determine cumulative

effect of changes

• Apply new accounting policy to carrying

amount of assets and liabilities as at the

beginning of the earliest period for which

the retrospective application is possible

• Make a corresponding adjustment to the

opening balance of each of the affected

components of net assets

• Adjust comparative

information to apply

new accounting policy

prospectively from the

earliest date possible



3.8 Impracticability and application of hindsight

As highlighted in the figure above, full retrospective application can be impracticable. To this

end, full retrospective application of a new policy is not required.

Applying a requirement is impracticable when the entity cannot apply it after making every reasonable effort to do so. For a particular period, it is impracticable to apply a change in an accounting policy retrospectively or to make a retrospective restatement to correct an error if:

a) the effects of the retrospective application or retrospective restatement are not determinable;

b) the retrospective application or retrospective restatement requires assumptions about what management’s intent would have been in that period;

c) the retrospective application or retrospective restatement requires significant estimates of amounts and it is impossible to distinguish objectively information about those estimates that:

i. provides evidence of circumstances that existed on the date(s) as at which those amounts are to be recognised, measured or disclosed; and

ii. would have been available when the financial statements for that prior period were authorised for issue from other information.

One circumstance that might give rise to impracticability is where data may not have been

collected in the prior period in a way that enables retrospective application of a new accounting

policy and where it may not be practicable to create, or recreate, the information.

Significant estimates are often required when adjusting comparative information for prior

periods. When making these estimates the basis of the estimation should reflect the

circumstances that existed in the prior period. However, it is recognised that with the passage

of time, it becomes increasingly difficult to define those circumstances.

In addition, with the passage of time, the estimates are increasingly likely to be unduly

influenced by knowledge of events and circumstances that have arisen since that prior period.

However, the basis of making estimates related to prior periods remains the same as for that

for the current period i.e. the estimates reflect the circumstances that existed when the

transaction, other event or condition occurred.



The definition of impracticable requires information to

a) have been available at the time of issue of the prior period’s financial statements; and

b) that gives evidence of circumstances that existed at the time when the transaction, other event or condition existed.

Such information should be capable of being distinguished from other information, such as information that only became available after the financial statements for that period had been issued.

Use of hindsight is not permitted when applying a new accounting policy, either to second

guess management’s intentions in the earlier period or in estimating amounts recognised,

measured or disclosed in the prior period.

Where full retrospective application is impracticable, an entity would account for the

retrospective application as follows:

An accounting policy may be changed even if it is impracticable to apply it retrospectively (i.e. to adjust figures) for any prior period. It would, however, be rare that an entity would voluntarily adopt an accounting policy that could it could not apply retrospectively because the lack of comparability would make the information less relevant. Accordingly, the conditions for a change in accounting policy are not met.

Impracticable to determine the period-specific effects of the change on

comparative information for one or more periods presented in the financial

statements

Impracticable to determine the cumulative effect of retrospective application to all

prior periods

The new policy is applied retrospectively from the beginning of the earliest reported period for which it is possible to do so (this may be one of the reported prior periods or

the current period)

Adjust the comparative information from the earliest practical date (the portion of the

cumulative adjustment before that date is disregarded).



Example: Change in accounting policy (with retrospective application)

An entity decided to change its accounting policy for valuing inventory from weighted average to first-in-first-out (FIFO). Management is of the opinion that changing to the FIFO method will provide more reliable information for users of financial statements.

The entity kept full history of all inventory purchased and issued to other departments and sales to the public, therefore, it is able to determine the effect of the change in accounting policy on prior periods.

The change was made at the end of the 20X8 financial period (31 March 20X8). The effect of the change in accounting policy on the two comparative periods presented (only for illustration purposes) was determined and the value of inventories on the different bases is as follows:

30 June 20X8

Inventory closing balance - Weighted average method 4,750

Inventory closing balance - FIFO method 4,900

Surplus from operating activities using FIFO method 101,200

30 June 20X7



Surplus from operating activities using Weighted average method 90,500

30 June 20X6




30 June 20X5




Opening accumulated surplus/deficit 250,000

Note that inventory was first purchased in 20X5



Extract from Statement of Financial Performance

Restated

Note 20X8 20X7 20X6

R R R

Surplus for the period 1 101,050 90,600 88,350

(90,500-200+300) (88,400-250+200)

Note that the applicable expense line item will also be affected, for this example, only the effect on surplus has been shown

Notes on the calculation of the adjustments to be made to the applicable expense line item and ultimately surplus:

20X6: R

Surplus for the period (previously reported in 20X6) 88,400

Deduct difference between weighted average and FIFO – opening balance of inventory in 20X6

R1,900 – R2,150 (250)1

Add difference between weighted average and FIFO – closing balance of inventory in 20X6

R2,100 – R2,300 2002

1Opening balance of inventory increased due to change from weighted average to FIFO, the effect on surplus will be a decrease

2Closing balance of inventory increased due to change from weighted average to FIFO, the effect on surplus will be an increase

20X7: R

Surplus for the period (previously reported in 20X7) 90,500

Deduct difference between weighted average and FIFO – opening balance of inventory in 20X7

R2,100 – R2,300 (200)1

Deduct difference between weighted average and FIFO – closing balance of inventory in 20X7

R3,500 – R3,800 3002

1Opening balance of inventory increased due to change from weighted average to FIFO, the effect on surplus will be a decrease

2Closing balance of inventory increased due to change from weighted average to FIFO, the effect on surplus will be an increase

In order to know what the effect on surplus will be due to an increase or decrease in inventory, one needs to understand how the amount for the expense line item in the statement of financial performance is calculated. The following formula is used:

Opening balance (inventory) + purchases – closing balance (inventory) = cost of sales (the expense line item in the statement of financial performance)

Therefore an increase in the closing balance of inventory will increase the surplus, or reduce the deficit, as the amount for the expense will be lower.



Similarly, a decrease in the closing balance of inventory will decrease the surplus, or increase the deficit, as the amount for the expense will be higher.

The opposite will be happen for an increase or decrease in the opening balance of inventory.

Extract from Statement of Financial Position

Restated

Note 20X8 20X7 20X6

R R R

Current assets

Inventory 4,900 3,800 2,300

(closing balance using the FIFO method)

Extract from Statement of Changes in Net assets

Restated

Note 20X8 20X7 20X6

R R R

Opening accumulated surpluses as previously reported

510,500 (420,000+90,500)

420,000 (331,600+88,400)

331,600 (250,000+81,600)

Change in accounting policy with respect to the measurement of inventory

1 300 (3,800-3,500)

200 (2,300-2,100)

250 (2,150-1,900)

Opening accumulated surpluses as restated

510,800 420,200 331,850

Surplus for the period 101,200 90,600 88,350

Closing accumulated surpluses 612,000 510,800 420,200

Extract from Notes to the Financial Statements

Change in accounting policy

Management decided to voluntarily change the method of valuation of inventory during the period from weighted average cost to first-in-first-out method as the latter method provides a more reliable estimate of the valuation of inventory. The change in accounting policy was applied retrospectively and the corresponding comparative figures were restated.



The effect of the individual line items on the financial statements is as follows:

20X8 20X7 20X6

R R R

Increase / (Decrease) in cost of sales 150 (100) 50

Increase / (Decrease) in surplus for the period (150) 100 (50)

Increase inventory – opening balance 300 200 250

Increase in inventory – closing balance 150 300 200

Increase in accumulated surplus (250) 150 (50)

Example: Change in accounting policy (retrospective application impracticable)

A public entity owned land previously recognised at cost. The entity decided in 20X8 to change the accounting policy to revalue the land as it will provide a more reliable value for the land at year end. After various attempts, management could not obtain enough information to establish the revaluation amounts for the previous periods. Therefore, retrospective application is impracticable. The following information applies:

31 March 20X7

Land at cost R100,000

Land at revaluation R500,000

The difference in the cost as previously measured and the revaluation is R400,000. The application of the new accounting policy should be applied in the earliest period possible, which is the beginning of 20X8 financial period. According to GRAP 17 on Property, Plant and equipment the increase in the value of land carried at revaluation will be recognised in the statement of changes in net assets.

Therefore, in the 20X8 financial period, a revaluation reserve of R400,000 will be created on 1 April 20X7. No retrospective adjustments will be done in the previous period as it is not practicable.


Change in accounting policy

From the start of 20X8, the entity changed its accounting policy for land from the cost model to the revaluation model. Management takes the view that this policy provides more reliable and relevant information, because it is based on up-to-date values. The policy has been applied prospectively from the start of 20X8, as it was not practicable to estimate the effects of applying the policy either retrospectively or prospectively from any earlier date.

The adoption of the new policy has no effect on prior periods. The effect on the current period is to increase the carrying amount of property, plant and equipment at the beginning of the period by R400,000 and to create a revaluation reserve at the beginning of the period of R400,000.



3.9 Disclosure

Disclosures relating to accounting policies is divided into three basic groups:

Below are examples illustrating the disclosure required relating to accounting policies for the three basic groups as indicated above (refer to the standard for detail):

Example: Initial adoption of a Standard of GRAP


1) New standards

Standards effective and adopted in the current period

In the current period the entity has adopted the following standards that are effective for the current period:

GRAP x

Insert nature of new standard or change, for example, the standard prescribes the accounting treatment, recognition measurement and disclosure requirements for employee benefits.

Insert impact of standard adopted, for example, the adoption of the standard has had no material impact on the results of the entity, but has resulted in increased disclosure.

Insert reference to the note where the effect is disclosed, if the adoption of the standard had an impact of the results of the entity, for example, refer to note x for the effect on the current and prior periods on initial adoption of the standard.

The effect on the current and prior periods are disclosed below:

20X1 R

20X0 R

Statement of Financial Position

Asset XX XX

Liability XX XX

Statement of Financial Performance

Revenue XX XX

Expense XX XX

Statement of Changes in Net Assets

Opening accumulated surplus/deficit XX

Initial adoption of a Standard of GRAP

Voluntary change in accounting policy

New Standard of GRAP that has been issued but

is not effective

Would have an effect or may have an effect on current

and prior periods

No effect on current and prior periods



Example: Voluntary change in accounting policy


1) Change in accounting policy

Insert nature of change, for example, the entity has changed its accounting policy on xxx with regards to the measurement of xxx as management is of the view that it will provide reliable and more relevant information; the reason being xxx.

The effect on the current and prior period is shown below.

The effect on the current and prior period are disclosed below:

20X1 R

20X0 R

Statement of Financial Position

Asset XX XX

Liability XX XX

Statement of Financial Performance

Revenue XX XX

Expense XX XX

Example: standards of GRAP issued, but not yet effective


1) New standards

Standards issued, but not yet effective

The entity has not early adopted the following standards of GRAP for which an effective date has been determined and/or has not yet applied the following standards of GRAP due to the fact that the Minister of Finance has not yet determined the effective dates thereof:

GRAP x

Insert nature of impending change, for example, the standard prescribes the accounting treatment, recognition measurement and disclosure requirements for financial instruments.

Insert possible impact on the entity’s financial statements on application of the standard once it will be adopted initially, for example, the adoption of the standard will result in financial instruments to be recognised, measured and disclosed differently than currently required.

The standard has been approved by the Accounting Standards Board, but its effective date has not yet been determined by the Minister of Finance.

The entity expects to adopt the standard once an effective date has been determined.

OR

The effective date of the standard is for financial periods beginning on or after xxx.

The entity expects to adopt the standard in the xxx financial period.



A change in accounting policy must be disclosed in the period the change occurred. The financial statements for subsequent periods need not repeat the required disclosure relating to changes in accounting policies.

4. Accounting Estimates

The use of accounting estimates is an essential part in the preparation of financial statements.

They arise as a result of uncertainties inherent in delivering goods, services and conducting

operating activities.

The use of estimates does not undermine the reliability of the information presented as the

estimate should be made using the latest available and most reliable information.

As and when the information on which the estimate is based changes, it also becomes

necessary to revise the previous estimate. By nature, the revision of an estimate does not

have an effect on prior periods and is therefore not a correction of a prior period error. A

revision of an accounting estimate won’t be seen to be a correction of an error provided the

estimate was based on the latest and most reliable information available at the time that the

estimate was made. An example of a change in accounting estimate will be the reassessment

of the prior period impairment loss based on new information available in the current financial

period.

The diagram below illustrates the distinction between a change in accounting estimate and

correction of an error:

When the estimate was

originally made, was it based

on information that was only

available at that point in time?

Was the information used

reliable and accurate?Is the change in estimate as a result of information

that can reasonably be expected to have been

available at the time when the estimate was made?

YES NO

Change in

accounting

estimate, apply

prospectively

Consider error,

apply

retrospectively

YES NO

YES Change in

accounting

estimate, apply

prospectively

NO



Other examples of estimations, especially at period end, can include:

• Estimation of the amount of inventory to be written off due to obsolescence (GRAP 12 on

Inventories);

• The fair value of accounts receivable and accounts payable (GRAP 104 on Financial

Instruments);

• Useful lives and residual values of property, plant and equipment (GRAP 17 on Property,

Plant and Equipment);

• Estimation of the amount for provisions such as provision for rehabilitation of landfill sites

(GRAP 19 on Provisions, Contingent Liabilities and Contingent Assets);

• The percentage of completion for construction contracts (GRAP 11 on Construction

Contracts).

Most standards of GRAP requiring estimations lay out certain conditions on how and when

estimates need to be reviewed. For example, according to GRAP 31 on Intangible Assets,

the value of an intangible asset with an indefinite useful life, must be reviewed in every financial

period for possible impairment. To review the balance, estimates are necessary to evaluate

if impairment occurred. These estimates will be made every period and reviewed in

subsequent periods for possible changes based on conditions and other relevant factors that

exist at the date of subsequent review.

Revision of estimates will also in most instances be made at the same time in each period, for

example management can decide to have a policy to review useful lives and residual values

of property, plant and equipment at the end of each financial period. The revision will then

take place for each period at the end of the financial period.

Remember that a change in a measurement basis is not a change in accounting estimate. This is rather a change in accounting policy as in the previous section. A change in accounting estimate results from a change in the underlying, e.g. assumptions/judgements used to determine the amount. If the measurement basis for buildings changes from cost to revaluation, this represents a change in accounting policy. Where the useful life for buildings changes from 20 years to 15 years, this will represent a change in accounting estimate.

A change in the depreciation method from, for example, the straight-line method to the reducing balance method, will also represent a change in accounting estimate as the change in the method of depreciation is often rooted in a change in an asset’s estimated future cash flows.



4.1 Applying a change in an accounting policy

A change in accounting estimate will be accounted for in the current period and in the future

periods if it affects the future periods. The effect of the change in estimate would be accounted

for in surplus or deficit or against the asset or liability, where applicable, in the specific period

in which the change occurs. The other side of the accounting entry will be the applicable asset

or liability in the period of change.

Example: Change in accounting estimate affecting only the current financial period

“Allowance for impairment” is the same as “provision for bad debt”

The illustration above demonstrates how a change in estimate only affects the current period in which the specific event or transaction occurred. The journal entries for the above will be as follows:

20X6 Debit Credit

R R

Impairment loss on debtors (statement of financial performance) 1,000

Allowance for impairment (statement of financial position) 1,000

20X7 Debit Credit

R R

Impairment loss on debtors (statement of financial performance) 500

Allowance for impairment (statement of financial position) 500

20X8 Debit Credit

R R

Impairment loss on debtors (statement of financial performance) 300

Allowance for impairment (statement of financial position) 300



Note that the amounts for the change in estimate in this example only refers to the change in

the underlying information on which the estimate was based; therefore it does not include

changes due to amounts reversed and/or amounts written off.

Note that the change in the amount for the provision recognised is not accounted for retrospectively, i.e. the balance for 20X6 for example is not restated in the 20X7 financial period due to the change in estimate, only the 20X7 balance will be adjusted in the 20X7 financial period and the corresponding expense debited or credited with the increase or decrease in the provision, therefore prospectively.

Example: Change in accounting estimate affecting current and future financial periods

20X6 20X7 20X8

• Cost of IT equipment at the beginning of the year: R60,000

• Useful life at acquisition: 6yrs

• Depreciation pa: R10,000

• Carrying amount at end of 20X6: R50,000


• Remaining useful life: 4


• New estimate of useful life at end of 20X8: 1 year

• Therefore change in estimate from 4 years to 2 years (at beginning of 20X8)

From the second illustration it is clear that the change in accounting estimate in 20X8 had an effect on the carrying amount in the future period, i.e. 20X9.

A change in accounting estimate will always be made at the beginning of the period and the depreciation for that period onwards will be based on the revised estimate, i.e. over the remaining useful life. Change in estimate was made at the end of 20X9, therefore the effect will be calculated based on the carrying amount at the end of 20X7 (beginning of 20X8) divided by the revised remaining useful life (remaining useful life at the end of 20X8 plus one year).

The calculation will be as follows:

Depreciation for 20X6 R60,000 / 6 R10,000

Depreciation for 20X7 R60,000 / 6 R10,000

Carrying amount end of 20X7 R60,000 – R20,000 R40,000

Remaining useful life assessed to be 2 years and not 4 years at the beginning of 20X8

New depreciation for 20X8 R40,000 / 2 R20,000

The depreciation for 20X8 based on original estimate R60,000 / 6 R10,000

Change in estimate R20,000 – R10,000 R10,000



The journal entries for the above will be as follows:

20X6 Debit Credit

R R

Depreciation (statement of financial performance) 10,000

Accumulated depreciation (statement of financial position) 10,000

20X7 Debit Credit

R R



20X8 Debit Credit

R R



20X9 Debit Credit

R R



The following will be disclosed in the financial statements:


Change in accounting estimate

The useful life of IT equipment was estimated in 20X6 to be 6 years. At the beginning of the current period management has revised their estimate from 4 years to 2 years. The effect of this revision has increased the depreciation charge for the current and the future period by R10,000.



4.2 Disclosure

Below is an illustration of disclosure required relating to a change in accounting estimates

(refer to the standard for detail).



Insert the nature and amount of the change in accounting estimate for current and future periods (if applicable), for example, the entity has reassessed the useful lives and residual values of property, plant and equipment which resulted in certain infrastructure assets’ remaining useful lives to change from x to x years on average. The effect of the change in accounting estimate has resulted in an increase in depreciation amounting to Rx for the current period. The effect on future periods could not reasonably be determined (only if the effect on future periods cannot reasonably be determined should this be disclosed).

A change in accounting estimate must be disclosed in the period that the change occurred. The financial statements for subsequent periods need not repeat the above disclosure.

Further take note that GRAP 1 on Presentation of Financial Statements also requires disclosure on key sources of estimation uncertainty, i.e. the natures of the assumption or other estimation uncertainty used in determining estimates as part of the accounting policies or in the relevant note (refer to the Accounting Guideline on GRAP 1 for detail).



Example: Change in an accounting estimate – prospective application

The management of a public entity realised, during their annual assessment of useful lives and residual values, in the beginning of 20X8 financial period that the pattern of service potential derived from depreciable assets has changed from that in previous periods. These depreciable assets are currently depreciated using the straight line method over a useful life of 10 years. As a result, management decided to change the remaining useful life of the depreciable assets to 5 years.

The following information regarding the depreciable assets is available:

Carrying amount at the beginning of the 20X8 financial period R80,000

Original cost price (purchased beginning of 20X6) R100,000

Depreciation per year R10,000

Changing the remaining useful life of the asset from 8 to 5 years, will affect the current period, i.e. 20X8, as well as future periods in the following way:

Depreciation for 20X8 period based on 5 years’ remaining useful life (R80,000 / 5)

R16,000

Carrying amount at the end of 20X8 R64,000

Depreciation for future periods R16,000

The 20X8 financial statements will reflect the new depreciation expense. No adjustment will be made to prior periods as this represents a change in accounting estimate which is applied prospectively.



Depreciable assets’ original remaining useful life of 8 years has been changed to 5 years in the beginning of the current period to reflect the actual pattern of service potential derived from the assets.

The effect on the current and future periods will be an increase in the depreciation charge of R6,000 in the current period and an equal decrease in the depreciation charge of R6,000 over the next 4 periods.



5. Errors

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:

• was available when financial statements for those periods were authorised for issue; and

• could reasonably be expected to have been obtained and taken into account in the preparation and presentation of those financial statements.

Errors can be made in the recognition, measurement, presentation and disclosure of

information in the entity’s financial statements. Errors in the current period can be corrected

before the financial statements are issued; therefore they are not relevant in this case.

It is important to keep in mind that an omission or misstatement is an error only if the

information was available at the time the particular transaction or event occurred, but not used

at all, or used incorrectly.

Financial statements do not comply with GRAP when:

• material errors exist; or

• immaterial errors exist, which were made intentionally to achieve a specific presentation

of the entity’s financial position, performance and cash flow situation.

In determining whether or not an error is material; management should assess the error in the

context of the affected entity’s financial statements.

Example: Examples of what may constitute an error

• omission of amounts from the financial statements e.g. revenue or expenditure items are not included in the financial statements;

• calculation errors e.g. incorrect casting of a note; or

• incorrect application of an accounting policy.

5.1 Correction of errors

All errors must be corrected in the financial statements of the entity. Retrospective application

will be applied for all errors discovered in subsequent periods. These errors will be corrected

by:

• Restating the comparative amounts for the prior period(s) presented in which the error

occurred; or



• If the error occurred before the earliest period presented, restate the opening balances of

the earliest period’s assets, liabilities and net assets.

The diagram below summarises the correction of an error:

Error

Correct financial

statements prior to

authorisation for issue

Current period

Material Immaterial

Prior period

Do not adjust

financial statementsRetrospective restatement

Impracticable Practicable

Correct financial

statements prior to

authorisation for issue

Impracticable to determine

period-specific effect

Impracticable to determine

cumulative effect of changes

Restate opening balances of

assets, liabilities and net

assets for the earliest period

for which retrospective

restatement is practicable

(this may be the current

period)

Restate comparative

information to correct the

error prospectively from the

earliest date possible

5.2 Disclosure

The disclosure of a prior period error is very similar to the disclosure required for a change in

accounting policy as both will result in retrospective adjustment of financial figures, unless

impracticable. Refer to the disclosure section of change in accounting policy for an example.

The only difference is that there will be no disclosure in the current period column as is the

case with a change in accounting policy.

The results from the correction of an error must be disclosed in the period in which the financial

statements were restated. The financial statements for subsequent periods need not repeat

the required disclosure.



Example: Correction of error – retrospective restatement

A municipality discovered in 20X8 that the revenue from property rates recognised in the prior period has been incorrectly calculated and recognised. An amount of R6,200,000 was not recognised as revenue due to an error in the calculation.

The municipality’s accounting records before adjustment of the error for 20X7 and 20X8 are as follows:


Before restatement

20X8 20X7

R R

Revenue from property rates 50,000,000 40,500,000

Other operating revenue 20,100,000 18,000,000

Total revenue 70,100,000 58,500,000

Expenses (55,000,000) (45,000,000)

Surplus 15,100,000 13,500,000


Restated

Note 20X8 20X7

R R

Revenue from property rates 50,000,000 46,700,000 (40,500+6,200)

Other operating revenue 20,100,000 18,000,000

Total revenue 70,000,000 64,700,000

Expenses (55,000,000) (45,000,000)

Net surplus for the period 15,100,000 19,700,000




Before restatement

Note 20X8 20X7

R R

Opening accumulated surpluses 103,500,000 90,000,000

Surplus for the period 15,100,000 13,500,000

Closing accumulated surpluses 118,600,000 103,500,000


Restated

Note 20X8 20X7

R R

Opening accumulated surpluses as previously reported

103,500,000 90,000,000

Correction of error 1 6,200,000 -

Opening accumulated surpluses as restated 109,700,000 90,000,000

Surplus for the period 15,100,000 19,700,000

Closing accumulated surpluses 124,800,000 109,700,000


Errors

During the 20X8 financial period the municipality’s management realised that property rates amounting to R6,200,000 was not recognised in 20X7 in the statement of financial performance due to a calculation error. The prior period was adjusted retrospectively.

The effect of the error on the individual line items in the financial statements is as follows:

20X8 20X7

R R

Increase in revenue from property rates - 6,200,000

Increase in surplus for the period - 6,200,000

Note that for a prior period error, only the effect on the prior period is disclosed. As the current period has not been reported on yet, it will not be necessary to disclose the effect on the current period as well as the correction was made in the prior period.



Example: Correction of errors - retrospective restatement (to the extent practical)

A municipality realised only in the current period (20X8) that they have not complied with the provisions of GRAP 17 on Property, Plant and Equipment relating to componentisation of property, plant and equipment. The municipality needs to correct its financial statements to comply with the standard. The effect on the prior periods’ (effect on opening balance of 20X7) carrying amounts of property; plant and equipment cannot be established as no records are available to enable calculations for componentisation purposes. Therefore the effect on surplus or deficit for 20X7 cannot be determined. Detail information of the property, plant and equipment were destroyed in a fire in the previous financial period.

Management determined that it is not practicable to determine the effect of the error for the prior periods and there are no other realistic alternatives available to determine the effect of the restatement. The earliest period the effect can be determined is the closing balance for the 20X7 financial period.

Property, plant and equipment’s carrying amount at the beginning of 20X7 financial period using the componentisation approach:

Carrying amount at the beginning of 20X8:

Old basis R120,000

New basis R115,000

Depreciation expense for 20X8:

Old basis R25,000

New basis R27,000

The effect on prior periods (opening balance for 20X7) cannot be determined, therefore only the current period is adjusted, resulting in the opening balance for 20X8 to be recorded based on the new carrying amount (R115,000) and the closing balance for the prior period will still be recorded based on the old carrying amount (R120,000).


Errors

The entity has corrected its financial statements to comply with the requirement of GRAP 17 on Property, Plant and Equipment regarding the componentisation of assets; this has resulted in a prior period error due to non-compliance with the standard. It is not possible to fully account for the correction of this error retrospectively as the annual effect on 20X6 and 20X7 cannot be determined. Consequently the error has been corrected retrospectively from the beginning of the 20X8 financial period with an adjustment of R5,000 against the opening balance of accumulated surplus.

Note that for a prior period error only the effect on the prior periods are disclosed and not on the current period as well. As comparatives were not restated, there is no disclosure apart from the adjustment against opening accumulated surplus.



6. Useful links and references

Reference Location of reference

Frequently Asked Questions (FAQs)

on the Standards of GRAP

ASB website:

http://www.asb.co.za/frequently-asked-questions/

IGRAP 2 on Changes in Existing

Decommissioning, Restoration and

Similar Liabilities

ASB website:

http://www.asb.co.za/interpretations-approved-

and-effective/

IGRAP 3 on Determining Whether

an Arrangement Contains a Lease

IGRAP 4 on Rights to Interests

Arising from Decommissioning,

Restoration and Environmental

Rehabilitation Funds

IGRAP 6 on Loyalty Programmes

IGRAP 7 on The Limit on a Defined

Benefit Asset, Minimum Funding

Requirements and their Interaction

IGRAP 8 on Agreements for the

Construction of Assets from

Exchange Transactions

IGRAP 10 on Assets Received from

Customers

IGRAP 11 on Consolidation –

Special Purpose Entities

IGRAP 12 on Jointly Controlled

Entities -Non-Monetary Contributions

IGRAP 13 on Operating Leases –

Incentives

IGRAP 14 on Evaluating the

Substance of Transactions Involving

the Legal Form of a Lease

IGRAP 15 on Revenue - Barter

Transactions Involving Advertising

Services

IGRAP 19 on Liabilities to Pay

Levies

Directive 11 on Changes in

Measurement Basis Following the

ASB website:

http://www.asb.co.za/directives/



Reference Location of reference

Initial Adoption of Standards of

GRAP

Guideline on The Application of

Materiality to Financial Statements

ASB website:

http://www.asb.co.za/guidelines/

Standard Chart of Accounts for Local

Government (mSCOA)

National Treasury website:

http://mfma.treasury.gov.za

(mSCOA – Municipal Standard Chart of Accounts)

Illustrative Financial Statements for

local government

National Treasury website:

http://mfma.treasury.gov.za

(mSCOA – Municipal Standard Chart of Accounts)

GRAP 3 - Pages. GRAP/02...GRAP 3 on Accounting Policies, Changes in Accounting Estimates and Errors...

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