(a) An important aspect of the International Accounting Standards Board’s Framework for the preparation and presentation of fi nancial statements is that transactions should be recorded on the basis of their substance over their form.
Required:
Explain why it is important that fi nancial statements should refl ect the substance of the underlying transactions and describe the features that may indicate that the substance of a transaction may be different from its legal form. (5 marks)
(b) Wardle’s activities include the production of maturing products which take a long time before they are ready to retail. Details of one such product are that on 1 April 2009 it had a cost of $5 million and a fair value of $7 million. The product would not be ready for retail sale until 31 March 2012.
On 1 April 2009 Wardle entered into an agreement to sell the product to Easyfi nance for $6 million. The agreement gave Wardle the right to repurchase the product at any time up to 31 March 2012 at a fi xed price of $7,986,000, at which date Wardle expected the product to retail for $10 million. The compound interest Wardle would have to pay on a three-year loan of $6 million would be:
This interest is equivalent to the return required by Easyfi nance.
Required:
Assuming the above fi gures prove to be accurate, prepare extracts from the income statement of Wardle for the three years to 31 March 2012 in respect of the above transaction:
(i) Refl ecting the legal form. of the transaction;
(ii) Refl ecting the substance of the transaction.
Note: statement of fi nancial position extracts are NOT required.
The following mark allocation is provided as guidance for this requirement:
(i) 2 marks
(ii) 3 marks (5 marks)
(c) Comment on the effect the two treatments have on the income statements and the statements of fi nancial position and how this may affect an assessment of Wardle’s performance. (5 marks)