Topic 4 financial statements

TOPIC 4 :

Financial Statements

Learning OutcomeStudent will be able to understand :

1. Companies Act 19562. Financial Reporting Act 19973. Listing Requirement4. Annual Report5. The framework for preparation and presentation

of financial statement6. FRS 101 and financial statement7. Illustration and preparation of financial

statement

COMPANIES ACT 1965• Sets out the requirements as to records to be

maintained, returns to be submitted and financial statements to be presented and other matters governing share capital.

• The requirements sets out by the CA 1965 are as follows :a) Accounting and other recordsb) Capital contributedc) Borrowingsd) Financial information

COMPANIES ACT 1965Accounting and Other Records• Section 167 – Every co. and its directors and

managers shall kept accounting and other records as it will explain the transactions and financial position and enable the preparation of fin. statements and documents to be prepared from time to time which will be true and fair.

• All accounting and transactions should be recorded within 60 days of occurrence of the transactions and co. should retain the records for 7 years.

COMPANIES ACT 1965Accounting and Other Records• Co. are also required to maintain other important

books and registers. • Some of the registers which are required to be

kept in the office of the co. are :-a) Register of Membersb) Register of Substantial Shareholdersc) Register of Directors’ Shareholdingd) Register of Debenture Holders and copies of the Trust Deed.

COMPANIES ACT 1965Capital Contributed• Capital contributed by the shareholders and the

other changes to the shareholder’s equity arising from trading and non-trading activities be recorded separately.

Borrowings• Only public co. can borrow from the public by

issuing loan stocks and debentures/bonds.

COMPANIES ACT 1965Financial Information• Financial info. that co. are required to disclose are

mainly through the directors’ report and financial statements.a) Directors’ Report – Section 169 set out the information to be disclosed in the directors’ report and financial statements presented to the shareholders. b) Other Matters – The directors have to attach to

the statement of comprehensive income and statement of fin. position a statement signed by 2 directors on behalf of the directors stating in their opinion as to whether the both statement are drawn up to give a true and fair view.

COMPANIES ACT 1965Financial Information

c) Financial Statements – CA 1965 requires the audited fin. Statements to be prepared every calendar year, at intervals of not more than 15 months, and to lay before the co. at its AGM the statement of comprehensive income and the statement of fin. Position made up to a date not more than 6 months before the date of the meeting.

- Minimum information to be disclosed are :- i) Statement of comprehensive income ii) Statement of financial position iii) Statement of changes in financial

position

FINANCIAL REPORTING ACT 1997• Under FRA 1997, the Malaysian Accounting

Standards Board (MASB) was set up to issue accounting standards as approved standards, among other functions. It also reviews, revises or adopts as approved existing accounting standards.

• MASB issued a number of accounting standards called Malaysian Financial Reporting Standards (MFRS) which are similar to the International Financial Reporting Standards (IFRS) and some of the Malaysian Standards.

• MFRS – Public Entities• Private Entity Reporting Standards (PERS) – Private Entities

BURSA MALAYSIA SECURITIES BERHAD (KUALA LUMPUR STOCK EXCHANGE)

REQUIREMENTS

•Co. are required to make a preliminary statement of results within 6 months following the end of the financial year.

•The listed co. are also required to issue half-yearly reports regarding their performance within the 3 months following the end of the half-year.

ANNUAL REPORT• The annual report is a compilation of the

reports and financial statements required by law or otherwise to be sent to the shareholders 14 days before the AGM.

• The annual report may comprise :a) The chairman’s statementb) Corporate governance statementc) The audit committee reportd) Statement on internal controle) Social responsibility statementf) Financial statements

THE FRAMEWORK FOR THE PREPARATION & PRESENTATION

OF FINANCIAL STATEMENTS• The frameworks covers :-

Qualitative characteristics of

financial information

Objective of financial

statements

Elements of financial

statements

Recognition and measurement of the elements of

financial statements

FRS 101 & FINANCIAL STATEMENT

• FRS 101 Presentation of Financial Statements deals with the presentation of general purpose financial statements.

• The following comprise a complete set of financial statements:a) Statement of financial position at the end of the periodb) Statement of comprehensive income for the periodc) Statement of changes in equityd) Statement of cash flowse) Notes, comprising a summary of significant accounting policies and other explanatory notes

PREPARATION OF FINANCIAL STATEMENTS

•For the statement of comprehensive income, the following are to be considered :-a) Profit or loss for the periodb) Exceptional itemsc) Taxationd) Deferred taxatione) Other Comprehensive Incomef) Tax Effects

Profit or Loss for the Period

Profit or Loss for

the Period

Revenue (Turnover /

Sales)

Cost of Sales

Other operating

income

Operating expenses

Finance cost

Investment income

Exceptional Items• FRS 108 requires separate disclosure for such

items and include :-a) the write-down of stock in trade to net realisable, non-current assets to recoverable amounts.b) restructuring costsc) disposal of non-current assets and long-term investmentsd) discontinued operationse) litigation settlementsf) other reversals of provisions

Taxation• Income tax rate for co. at present is 25%.• Income tax is paid in the year the income is earned.

Therefore, at the beginning of the period co. estimate the amount of tax they will be liable to pay.

• Usually monthly or half year co. needs to review amount tax payable.

• When adjusting finalised co. may compare the amount that was paid during the period and the amount they actually needs to pay.

• If tax needs to pay more than amount paid, then a current liability, TAX PAYABLE will be accounted for.

• If tax needs to pay less than amount paid, then a current asset, TAX RECOVERABLE.

Deferred Taxation (DT)• DT arises because tax payable as calculated in

current year according to tax rules is different from tax payable calculated according to accounting rules.

• Among the reasons :-a) Certain income and expenses recognised in the current year in co’s account may only be recognised for tax purposes at a different amount at the earlier or later date.

Eg: co. uses accrual concept and accrues interest expenses but the tax authorities will allow interest expenses as an allowable deduction on cash basis, in this case the taxable and accounting profit will be different.

Deferred Taxation (DT)b) Amount allowed as expenses for certain expenses by taxes rules might differ from the amount charged in the accounting of company. Eg: company may depreciate it plant and machinery over 10 years while the tax rules disallow depreciation charge but provide capital allowance of 20%. These are called temporary differences.

• Under FRS 112 Income Taxes, full provision is made for all timing differences using the statement of financial position (SOFP) approach, where the amount of DT liability to be disclosed in the year end SOFP is calculated.

• The difference between opening and closing balances of DT will be disclosed in the statement of comprehensive income either as “addition” or “deduction” to the tax payable.

Example 1 (pg 136)

A Sdn Bhd purchased a plant costing RM 100,000

in Year 1 and depreciates it over 5 years. Tax payable for 3 years was RM 60,000, RM 65,000 and RM 67,000 respectively.

Tax rate = 25 % Capital allowance = 50%

Required : Calculate the deferred tax liability that will disclosed in the statement of financial position.

Accounting Rule Tax Rule

Plant value = RM 100,000Depreciation = 5 years = 100,000 / 5 = RM 20,000Carrying amount= 100,000 – 20,000= 80,000

Plant value = RM 100,000Capital allowance = 50 % = 50% x 100,000 = 50,000Tax base= 100,000 – 50,000= 50,000

The difference between the carrying amount and tax base is called taxable timing difference.

Taxable timing difference = 80,000 – 50,000 = 30,000

Deferred tax = 30,000 x 25% = RM 7,500

Journal entriesRM RM

Years 1-2 (Being increase in deferred liability)

Dr SOCI 7,500 Cr Deferred tax liability 7,500

Years 3-5 (Being reduction of deferred liability)

Dr Deferred tax liability 5,000 Cr SOCI 5,000

Extract of the Statement of Comprehensive

Income for Year 1 and Year 5

Example 2 (pg 138)Deer Bhd has a reported profit before tax of RM 4,500,000. During the year x3, the co.

had paid income tax of RM 1,500,000. The tax

consultant has calculated the tax expense to be RM

1,750,000 inclusive of increase in deferred tax liability

of RM 100,000.

Assume that the deferred tax liability bf is RM

460,000.

Required : Show the SOCI and ledger

Extract of the Statement of Comprehensive Income

RM ‘000

Profit before tax 4,500

Income tax expense (1,750)

Profit after tax from ordinary activities 2,750

Tax expense of RM 1,750,000 consists of 2 components :

Deer already paid RM 1,500,000, so it has a liability of

RM 150,000 (1,650,000 – 1,500,000).

Deferred tax = RM

100,000

Tax payable (bal) = RM 1,650,000

Statement of Changes in Equity

• Disclosed all components of equity showing in detail the:a) Opening balanceb) Increase and decrease in closing balance.

• Equity comprises share capital and reserves such as:a) Share capital (equity)b) Share premiumc) Revaluation reserved) Translation reserve of foreign operationse) Available-for-sale financial asset reservef) Non-controlling interest


• Increases & decreases to retained profit not disclosed in the other comprehensive income include :a) Prior year adjustmentsb) Dividendsc) Transfers between reserves

Prior Year Adjustments•Retained profits from the previous period

may be adjusted for material errors & change in accounting policies.

•A co. is required to adjust retained profits b/f as well as to adjust its prior year’s profits when it changes its accounting policy.

•The adjustment should reflect the tax effect.

IllustrationWhen the accounts of Reed Bhd. Were being finalised for the year x4, it was discovered

that the closing inventory for year x3 was understated

by RM 400,000. The retained earnings b/f were RM

3 mil. Tax rate is 25%.

Required : Show the extract of the retained earnings.

Extract of the Retained Earnings in the Statement of Changes in Equity

RM ‘000

Retained earnings b/f 3,000Prior year adjustment (net of tax) 300(75% x 400,000)Adjusted 3,300Net profit for the year 5,000Profit available for distribution 8,300

The overall effect is that the retained profit b/f will increase by RM 300,000.

Dividends• Dividends are the distribution of profit to the

shareholders.• Not all retained profit is distributed.• Paid based on nominal value of shares.• Dividends can be in cash, bonus shares or non-

cash assets.• Became payable when it declared.• Article allowed declares interim dividend

(dividend paid in the middle of year)• Final dividend is dividend paid in the end of the

year, the amount recommended by directors and endorsed by shareholder at the AGM.

• The amount dividend paid should not exceed amount recommended by directors, the amount of dividend paid is the discretion of directors.

• For preference dividends, co. not compulsory to declare/ pay preference dividends.a) Directors need to declare first before payable.b) Dividend is limited to rate prescribed.

• For redeemable preference shares, dividends paid / payable are accrued and disclosed as finance cost and are not distribution of profits. This is because redeemable preference shares are liability.

Proposed dividends•Dividends declared after the financial

year-end are not to be accrued.•For e.g:If the accounts for year x7 are

finalised in March year x8 and subsequently the directors propose to pay dividend, this dividend will not be shown as a current liability.

•Proposed dividend shows in notes to FS.

Transfer to/from reserves• Recognise in other comprehensive income

and disclosed separately as reserve:• Transfer from reserves to retained profits

or SOCI is required when it recognised as income or gain.

• Revaluation surplus on depreciable non-current asset is recognised in other comprehensive income and credited to the revaluation reserve.

• If the asset were to be sold before it was fully depreciated, the remaining balance on the revaluation reserve is transferred to retained earnings.

Example

Beginning 20x6 – co. bought asset RM100,000. Useful life is 5 Years. On 1 Jan 20x8 revalued to RM120,000. It is expected useful life remain unchanged – 3 yrs to 2010.

Show account for revaluation.

Answer1 Jan 20x8Dr Asset value 60,000

Cr Revaluation surplus 60,000(100,000/5 = 20,000 x 3 remaining years = 60,000)

Depreciation after revalue Original depreciation120,000/3 = 40,000 100,000/5 = 20,000

1 Jan 20x8Dr Revaluation surplus 20,000 (40,000 – 20,000)

Cr Revaluation reserve 20,000

Inventories

•Inventories are required to be stated at the lower of cost and net realisable value (NRV).

•NRV – estimated selling price less the estimated cost of completion & the estimated costs necessary to make the sale.

•Any write-down to NRV should be recognised as an expenses.

Earnings Per Share (EPS)• Co. requires to disclose the basic EPS.• EPS is to be calculated for :

a) continuing operations. (if presented separately)b) the parent for a group entity.

• Formulaprofit after tax less preference dividends = xx sen weighted average for no. of ordinary shares

• Earnings: The earnings attributable to equity share = the net profit after tax less preference dividends

Partly Paid-up Shares• If OS in issue are not fully paid up, the

calculation of EPS is based on the rights to receive dividends.

ExampleCo. has in issue 100,000 OS of RM 1 each paid up

to 75 sen only. AOA specify that dividends be paid on

paid-up capital only.

Number of shares ranking for dividends = 75% x 100,000

= 75,000

Example 7 (pg 173)The following is the Statement of Changes in

Equity for the year ended 31 December x2 :OS of RM1

7.2% Cumulative PS

Retained Earnings

Total

RM RM RM RM1.1.x2 500,000 400,000 250,000 1,150,000

Profit for the year 200,000 200,000Interim dividends

Preference (14,400) (14,400)Ordinary (36,000) (36,000)

500,000 400,000 399,600 1,299,600

The co. has in issue 10% convertible debentures of RM 100,000 which may be convertible beginning x9 into 100,000 OS.Required :Calculate the EPS

If the preference shares were cumulative, the EPS

will be := RM 200,000 – RM 28,800 500,000 shares= 34 sen per share

If the preference shares were non-cumulative, the EPS

will be := RM 200,000 – RM 14,400 500,000 shares= 37 sen per share

14,400 + 14,400 = 28,800

If the co. has issued bonus shares, the bonus shares should be included in the calculation of EPS.

Example 8Facts are as in Example 7, except that the co.

declared a bonus issue of 100,000 OS on 1.12.x2.

AnswerThe bonus issue increases the issued OS to 600,000 (500,000 + 100,000).

The EPS will be = 200,000 – 28,800 600,000

= 28.53 sen per share

Where OS are issued for cash or other consideration at market price during the year (not right issue), the EPS

is calculated on the WEIGHTED AVERAGE number of shares in issue ranking for dividends.

EXAMPLE 9Facts are as in Example 7, except that the co. issued 100,000 OS at RM 2.00 per share on 1.10.x2.

AnswerShares in issue:1.1.x2 – 30.9.x2 500,000 x 9/12 375,0001.10.x2 – 31.12.x2 600,000 x 3/12

150,000Weighted average no. of shares 525,000

The EPS will be = 200,000 – 28,800525,000


Adjustments to the EarningsThe earnings are adjusted for interest saved (less tax effect) if there are convertible debentures and preference dividends that need not be paid if there are redeemable PS.

Example 10 (pg 175)Facts are as Example 7 above.Assume that all debentures will be converted at the earliest date at the given rate of conversion. If conversion takes place, the co. will not incur

interest expenses on the debentures.

Answer

Interest on debentures = 10% x 100,000= RM 10,000

Interest saved = 10,000 less tax of 25%

= RM 7,500.OS = 500,000 + 100,000 (convertible)

= 600,000 shares

EPS = 171,200 + 7,500 600,000


FRS 137 – Provisions, Contingent Liabilities and Contingent Assets

Provisions

• A provision is to be recognised, and only if a present obligation has arisen as a result of a past event, payment is probable and the amount can be estimated reliably.

• A possible obligation is disclosed but not accrued. However, disclosure is not required if payment is remote.

Measurement

• The amount recognised as a provision should be the best estimate of the expenditure required to settle the present obligation.

• Provisions for restructuring, environmental clean-up, settlement of a lawsuit and other one-off events are measured at the most likely amount.

• Provisions for large items such as warranties and customer refunds are measured at a probability-weighted expected value.

Reimbursement

• Recognised as a reduction of the required provision when, and only when, it is virtually certain that reimbursement will be received.

Contingent Liabilities

• Contingent liabilities that are probable and the amount can be measured reliably are accrued.

Contingent Assets

• Contingent assets that are virtually certain are assets and should be recognised as such.

• Possible ones are to be disclosed in the notes and remote ones ignored.

Example 3 (pg 144)Debit Credit

RM'000 RM'000

Sales 4,000

Cost of Sales 1,000

Inventory 200

Administrative expenses 800

Distribution expenses 600

Dividends received 50

Interest expenses 40

Tax paid 440

10% debentures (secured on land) 300

Short-term loans 100

Cash at bank 35

Trade receivables 150

Trade payables 140

Land (cost) 1,000

Property (cost) 2,000

Plant and machinery (cost) 500

Equipment (cost) 400

Accumulated depreciation 31 December Year 2

Property 400

Plant and machinery 300

Equipment 100

Intangibles 100

Ordinary shares of RM 1 each 1,000

7.2% preference shares of RM1 each 600

Share premium 100

Retained profit 1 January Year 2 1,482.60

Investment in quoted equity shares (available-for-sale) at cost 1,250

Interim dividends

Preference 21.6

Ordinary 36

8,572.6 8,572.6

Additional information:a) Administration and distribution expenses include:

RM’000Directors’ remuneration 200Audit fees 100Depreciation

Property 50Plant

100Equipment 50

b) Interest expenses are made up of:Debenture interest 30Interest on short-term loans 10

c) Tax expense for the year is RM 510,000.

d) The directors declared the final dividends on 15.2 Year 3 of:PreferenceOrdinary 7.2%The financial statements were approved for issue on 15.3 Year 3.

e) On 31.12 Year 2, land was revalued to RM 3,000,000. The directors want to incorporate this value in the accounts.

f) The market value of the quoted shares at 31.12 Year 2 was RM 1,500,000.

Required:Prepare the statement of comprehensive income for the

year ended 31.12 Year 2 and the statement of financial position

as at 31.12 Year 2.

RM'000 RM'000

Sales 4,000

Cost of sales (1,000)

Gross profit 3,000

Administrative expenses 800

Distribution expenses 600 (1,400)

Operating profit 1,600

Finance cost (40)

Dividend income 50


Taxation (510)

Profit after tax 1,100

Other comprehensive income

Surplus on revaluation of land (3,000 - 1,000) 2,000

Fair value gain on investments (1,500 - 1,250) 250

Other comprehensive income for the year 2,250

Total comprehensive income for the year 3,350

Basic earnings per share (sen) 108

(1,100 - 21.6) / 1,000

Mountain Bhd

Statement of Comprehensive Income

For the year ended 31 December Year 2

Share capital

Share premium

Revaluation Reserve

Investment reserve

Retained earnings

Total

RM'000 RM'000 RM'000 RM'000 RM'000 RM'000

Bal b/ d 1,600 100 Nil 1,482.60 3,182.60Profit for the year 1,100 1,100


2,000 250

Dividends paid :

Preference (21.6) (21.6)

Ordinary (36) (36)

Bal c/ d 1,600 100 2,000 250 2,525 6,475

Mountain Bhd.


For the year ended 31 December Year 2

RM'000 RM'000

Non-current assets

Land 3,000

Property (2,000 - 350 - 50) 1,600

Plant (500 - 200 - 100) 200

Equipment (400 - 50 - 50) 300

Intangibles 100

Investment 1,500

6,700

Current assets

Inventory 200


Bank 35

385

7,085

Mountain Bhd.

Statement of Financial Position as at 31 December Year 2

Capital and Reserves

Share capital

Ordinary shares of RM 1.00 each 1,000

7.2% preference shares of RM 1.00 each 600

Share premium 100

Revaluation reserve (3,000 - 1,000) 2,000

Investment reserve (1,500 - 1,250) 250

Retained earnings 2,525

6,475

Non-current liabilities

10% debentures 300

Current liabilities

Trade payables 140

Tax payable (510 - 440) 70

Short-term loans 100

310

7,085

Example 4 (150)

Distribution Administrative Finance

RM'000 RM'000 RM'000

As per trial balance 750 1050

Auditors' fees 50

Retirement benefits 10

Interest paid on debentures 100

Preference dividend 144

(7.2% x 2,000)

750 1,110 244

RM'000 RM'000

Sales 7,000

Cost of sales (4,200 - 200) (4,000)

Gross profit 3,000

Distribution expenses 750

Administrative expenses 1,110

Operating profit (1,860)

Finance cost (244)

Interest income 30

Dividend income 200


Taxation (360)

Profit after tax 766


Available-for-sale investments (240 - 170) + (800 - 550) 320

Gain on revaluation of land (14,000 - 11,000) 3,000

Total comprehensive income 4,086

EPS (766 / 10,000) RM0.077

Pleated Rosed Bhd.

Statement of Comprehensive Income

For the year ended 31 December x8

Ordinary shares

Share Premium

Revaluation Reserve

AFS Reserve

Retained Profits

Total

RM '000 RM'000 RM'000 RM'000 RM'000 RM'000

Bal b/ d 10,000 150 nil nil 1,039 11,189

Prior year adjustment

(200) (200)

Bal as adjusted 10,000 150 nil nil 839 10,989

Profit after tax 766 766


3,000 320

Dividends paid (144) (144)

10,000 150 3,000 320 1,461 14,931

Pleated Roses Bhd.


For the year ended 31 December x8

RM'000 RM'000

Non-current assets

Land 14,000

Building (2,500 - 500) 2,000

Plant and machinery (1,000 - 300) 700

Investment (240 + 800 + 130) 1,170

17,870

Current assets

Inventory 200


Bank 139

789

18,659

Pleated Roses Bhd.

Statement of Financial Position

As at 31 December x8

Share capital

Ordinary shares of RM 1 each 10,000

Share premium 150

Revaluation reserve 3,000

AFS reserve 320

Retained profits 1,461

14,931

Non-current liabilities

7.2% redeemable preference shares 2,000

10% debentures 950

Retirement benefits (200 +10) 210

Deferred taxation (100 + 30) 130

3,290

Current liabilities

Trade payables and accrual (186 + 50) 236

Tax payable (330 - 250) 80

Preference dividend payable (144 - 72) 72

10% debentures 50

438

18,659

Topic 4 financial statements

Business

Transcript of Topic 4 financial statements