Category: Osmania University B.com Notes

Financial Reporting involves the disclosure of financial information to the various stakeholders about the financial performance and financial position of the organization over a specified period of time. These stakeholders include; investors, creditors, public, debt providers, governments & government agencies.

The Objectives & Purposes of financial reporting:

• Providing information to investors, promoters, debt provider and creditors which is used to enable them to male rational and prudent decisions regarding investment, credit etc.
• Providing information to the management of an organization which is used for the purpose of planning, analysis, benchmarking and decision making.
• Providing information to shareholders & public at large in case of listed companies about various aspects of an organization.
• Providing information as to how an organization is procuring & using various resources.
• Providing information about the economic resources of an organization, claims to those resources (liabilities & owner’s equity) and how these resources and claims have undergone change over a period of time.
• Providing information to various stakeholders regarding performance management of an organization as to how diligently & ethically they are discharging their fiduciary duties & responsibilities.
• Enhancing social welfare by looking into the interest of employees, trade union & Government.
• Providing information to the statutory auditors which in turn facilitates audit.

Primary objectives of financial reporting:

(a) Investment Decision-making.

(b) Management Accountability.

(a) Investment Decision-Making:

The basic objective of financial reporting is to provide information useful to investors, creditors and other users in making sound investment decisions. These decisions concern the efficient allocation of investment funds and the selection among investment opportunities.

(b) Management Accountability:

A second basic objective of financial reporting is to provide information on management accountability to judge management’s effectiveness in utilizing the resources and running the enterprise.

Management of an enterprise is periodically accountable to the owners not only for the custody and sale-keeping of enterprise resources, but also for their efficient and profitable use and for protecting them to the extent possible from unfavorable economic impacts of factors in the economy such as technological changes, inflation or deflations.

Enable the Analysis of the Assets, the Liabilities, and the Owner’s Equity

By monitoring the assets, the liabilities and the owner’s equity, and any changes in them using the financial reporting by the company, one can know that what it can expect in the future and should be changed now for the future. It also shows the availability of resources by the company for future growth.

Track the Cash Flow in the Business

With the help of financial reporting, different stakeholders of the company can know that from where the cash in the business is coming, where the money is going, whether there is sufficient liquidity in the business or not to meet its obligations, whether the company can cover their debts, etc.

It shows the details about the cash transactions by adjusting the non-cash transactions, thereby determining whether cash in the business is enough all the time or not.

Information About the Accounting Policies Used

There are different types of accounting policies, and various companies can use different policies as per their particular requirements and applicability. Financial reporting provides information about the accounting policies used by the company. This information helps the investors and the other stakeholders in knowing about the policies used in the company for the different aspects.

It also helps to know whether the proper comparison between the two companies is possible or not. Two companies within the same industry can also use two different policies, so the person making the comparison should consider this fact in mind at the time of making the comparison.

Provide Information to the Investors and the Potential Investors

Investors of the company who have invested their funds in any business want to know that how much return they are getting from their investment, how efficiently their capital investment is being used, and how the company is reinvesting the cash.

Also, the potential investors want to know how the company is performing in the past where they are planning to invest their funds and whether it is worth investing.

Financial reporting by the company helps the investors and the potential investors in deciding whether the business is worth for their cash or not.

The True-blood Committee stated that “The basic objective of financial statements is to provide information useful for making economic decisions.” Recently, the FASB (USA) in its Concept No. 1 also concluded that financial reporting should provide information that is useful to present and potential investors and creditors and other users in making rational investment, credit and similar decisions.

It is essential to have an understanding of the investment decision process applied by external users in order to provide useful information to them. The investors seek such investment which will provide the greatest total return with an acceptable range of risk. Investment return is comprised of future interest or dividends and capital appreciation (or loss).

To develop objectives of financial statements, a Study Group was appointed in 1971 by American Institute of Certified Public Accountants under the Chairmanship of Robert M. Trueblood. The Study Group solicited the views of more than 5000 corporations, professional firms, unions, public interest groups, national and international accounting organisations and financial publications.

The Study Group conducted more than 50 interviews with executives from all sectors of the business and from government. To elicit the widest possible range of views, 35 meetings were held with institutional and professional groups representing major segments of the US economy.

The objectives developed in the Study Group Report are as follows:

• An objective of financial statements is to serve, primarily, those users who have limited authority, ability, or resources to obtain information and who rely on financial statements as their principal source of information about an enterprise’s economic activities.
• The basic objective of financial statements is to provide information useful for making economic decisions.
• An objective of financial statements is to provide information useful to investors and creditors for predicting, comparing and evaluating potential cash flows to them in terms of amount, timing and related uncertainty.
• An objective of financial statements is to supply information useful in judging management’s ability to utilise enterprise resources effectively in achieving the primary enterprise goal.
• An objective of financial statements is to provide users with information for predicting, comparing, and evaluating enterprise earning power.
• An objective of financial statements is to provide factual and interpretative information about transactions and other events which is useful for predicting, comparing and evaluating enterprise earning power. Basic underlying assumptions with respect to matters subject to interpretation, evaluation, prediction, or estimation should be disclosed.
• An objective is to provide a statement of periodic earnings useful for predicting, comparing and evaluating enterprise earning power. The net result of completed earning cycles and enterprise activities resulting in recognisable progress towards completion of incomplete cycles should be reported. Changes in values reflected in successive statements of financial position should also be reported, but separately, since they differ in terms of their certainty realisation.
• An objective is to provide a statement of financial position useful for predicting, comparing and evaluating enterprise earning power. This statement should provide information concerning enterprise transactions and other events that are part of incomplete earning cycles. Current values should also be reported when they differ significantly from historical costs. Assets and liabilities should be grouped or segregated by the relative uncertainty of the amount and timing of prospective realisation of liquidation.
• An objective is to provide a statement of financial activities useful for predicting, comparing, and evaluating enterprise earning power. This statement should report mainly on factual aspects of enterprise transactions having or expected to have significant cash consequences. This statement should report data that require minimal judgement and interpretation by the compiler.
• An objective of financial statements for governmental and non-profit organizations is to provide information useful for evaluating the effectiveness of management of resources in achieving the organisation’s goals. Performance measures should be qualified in terms of identified goals.
• An objective of financial statements is to report on those activities of the enterprise affecting society which can be determined and described or measured and which are important to the role of the enterprise in its social environment.
• An objective of financial statements is to provide information useful for the predictive process. Financial forecasts should be provided when they will enhance the reliability of users’ predictions.

The Accounting Standards Steering Committee of the Institute of Chartered Accountants in England and Wales Published ‘The Corporate Report’ in 1976 as a discussion paper covering the scope and aims of published financial reports, public accountability of economic entities, working concepts as a basis for financial reporting, and most suitable means of measuring and reporting the economic position, performance and prospects of undertakings.

The Corporate Report’s main findings are as follows:

1. The basic philosophy and starting point of The Corporate Report is that financial statements should be appropriate to their expected use by potential users. In others words, they should attempt to satisfy the information needs of their users.
2. The report assigned responsibility for reporting to the ‘economic entity’ having an impact on society through its activities. The economic entities are itemized as limited companies, listed and unlisted; pension schemes, charitable and other trusts, and not-for-profit organisation; non-commercially oriented Central Government departments and agencies, partnerships and other forms of un-incorporate business enterprises; trade unions and trade and professional association; local authorities, and nationalized industries and other commercially oriented public sector bodies.
3. The report defined users as those having a reasonable right to information and whose information needs should be recognised by corporate reports. The users are identified as the equity investor group, the loan creditor group, the employee group, the analyst-adviser group, the business contact group, the government, and the public.
4. To satisfy the fundamental objectives of annual reports set by the basic philosophy, seven desirable characteristics are cited, namely, that the corporate report be relevant, understandable, reliable, complete, objective, timely, and comparable.
5. After documenting the limitations of current reporting practices, the report suggests the need for the following additional statements:

• An employment report, showing the-size and composition of the work force relying on the enterprise for its livelihood, the work contribution of employees, and the benefits earned.
• A statement of value added, showing how the benefits of the efforts of an enterprise are shared among employees, providers of capital, the state and reinvestment.
• A statement of money exchange with government, showing the financial relationship between the enterprise and the state.
• A statement of future prospects, showing likely future profit, employment, and investment levels.
• A statement of corporate objectives showing management policy and medium-term strategic targets.
• A statement of transactions in foreign currency, showing the direct cash dealing, between the United Kingdom and other countries.

Finally, after assessing six measurement bases (historical cost, purchasing power, replacement cost, net realisation value, value to the firm, and net present value) against three criteria (theoretical acceptability, utility, and practicality) the report rejected the use of historical cost in favour of current values accompanied by ;he use of general index adjustment.

Fundamental Characteristics distinguish useful financial reporting information from that is not useful or misleading.

The two fundamental Qualitative characteristics are:

• Relevance
• Faithful Representation

Materiality: Information is material if omitting it, or misstating it could influence decisions that users make on the basis of financial information about a specific reporting entity.

Materiality is an aspect of relevance which is entity-specific. It means that what is material to one entity may not be material to another. It is relative. Information is material if it is significant enough to influence the decision of users. Materiality is affected by the nature and magnitude (or size) of the item.

Faithful Representation

The Financial reports represent economic phenomena in words and numbers. The financial information in the financial reports should represent what it purports to represent. Meaning, it should show what really are present (Example: Position of Assets and Liabilities) and what really happened (Example: Position of Income and expenditure), as the case may be. 

Timeliness:

All the information in the financial statements must be provided within a relevant span of time. The disclosures must not be excessively late or delayed so that while making their economic decisions the users of these statements possess all the relevant and up-to-date knowledge. Although this characteristic may take more resources but still it is a vital characteristic as delayed information makes any corrective reactions irrelevant.

Reliability:

The information provided in the financial statements must be reliable and true. The information extracted to prepare these financial statements must be from reliable and trustworthy sources. The financial statements must depict the true and fair picture of the status of the company affairs. This means that the information provided must not have any significant errors or material misstatements. The transactions shown must be based on the concepts of prudence and must represent the true nature of company’s transactions and operations. The areas that are judgmental and subjective in nature must be presented with due care and keen competence.

Comparability:

The financial statements must be prepared in such a way that they are comparable with prior year financial statements. This characteristic of financial statements is very important to maintain, as it makes sure that the performance of the company could be monitored and compared. This characteristic is maintained by adopting accounting policies and standards that are applied are consistent from period to period and between different jurisdictions. This enables the users of the financial statements to identify and plot trends and patterns in the data provided, which makes their decision making easier.

Understandability:

The financial statements are published to address the shareholders of the company. So, it is important that these statements must be prepared in such a way that is easy to understand and interpret for the shareholders. The information provided in these statements must be clear and legible. For the sake of understandability, the management must consider not only the statutory data and information but also the voluntary information disclosures which would make financial statements easier to understand. The directors must elaborate the information provided in the statements where necessary.

Ind AS 103 “Business Combinations” deals with the accounting for business combinations in standalone as well as consolidated financial statements. A set of assets acquired and liabilities assumed are typically regarded as a business if they can together run independently as a going concern (i.e. it consists of inputs and processes applied to those inputs, which has the ability to create an output). If they do not constitute business, the same shall be accounted as an asset acquisition.

It is a transaction or event where an acquirer obtains control of one or more business. ‘A business combination may be structured in a variety of ways for legal, taxation or other reasons, which include but are not limited to:

(a) One or more businesses become subsidiaries of an acquirer or the net assets of one or more businesses are legally merged into the acquirer.

(b) One combining entity transfers its net assets, or its owners transfer their equity interests, to another combining entity or its owners.

(c) All of the combining entities transfer their net assets, or the owners of those entities transfer their equity interests, to a newly formed entity (sometimes referred to as a roll-up or put-together transaction).

(d) A group of former owners of one of the combining entities obtains control of the combined entity’(Appendix B B6)

One of the most essential elements covered in this Standard is the manner of accounting in a common control transaction. Before we discuss the accounting procedure, it is crucial to understand the meaning of terms “control” and “common control”.

Ind AS 103 has defined common control business combination as a business combination in which all the combining entities or business are ultimately controlled by the same person/ persons both before and after the combination and such control is not transitory in nature. It further states that a company may be said to be under the control of another entity or an individual or a group of them where they exercise the right to govern its financial statements and operating policies arising out of contractual agreements so as to obtain benefits from its activities.

Interestingly, Ind AS 103 does not prescribe any threshold limit from a shareholding perspective to determine control in the entity. Instead, it has laid down few aspects such as decision-making powers, board composition and contractual rights to determine control. Therefore, this brings in an element of subjectivity in determining where control lies.

Ind AS 110 Consolidated Financial Statements states that where an entity (say, “A”) has power over the other entity (say, “B”), has the rights to variable returns from its involvement with B and the ability to use its power to affect the returns of B, then it may be said that Entity A controls Entity B.

Accounting treatment under common control transactions under Ind AS 103

Ind AS 103 prescribes application of pooling of interest method to account for common control business combinations. Under this method:

• All identified assets and liabilities will be accounted at their carrying amounts, i.e. no adjustment would be made to reflect their fair values unlike in case of non-common control business combinations.
• Balance of retained earnings in the books of acquiree entity shall be merged with that of the acquirer entity, and identity of the reserves shall be preserved.
• Any difference, whether positive or negative, shall be adjusted against the capital reserves (or “Amalgamation Adjustment Deficit Account” in some cases).
• Hence, no goodwill can be recorded in books under common control transactions under Ind AS 103.

Applying the acquisition method comprises four steps that are:

• Determining the acquisition date.
• Identifying the acquirer.
• Recognising and measuring identifiable assets acquired, liabilities assumed and any non-controlling interest in the acquire.
• Recognising and measuring excess or shortfall paid as relative to fair value of assets.
• Recognise and measure the consideration transferred for the acquire.

Initial Accounting of BC:

If initial accounting of BC could be done only on provisional measurement at the end of the reporting period, adjustments to provisional measurement based on new information as to facts and circumstances that existed at the acquisition date are allowed within one year of the acquisition date retrospectively as if the adjustments have been made at the acquisition date except to correct error under Ind.AS 8.

BC achieved in stages:

If the acquirer enhances the equity interest in the acquiree to achieve control, the previous previously held is re-measured at acquisition date fair value any resultant gain or loss is recognised in Profit and loss.

Date of acquisition is the date on which acquirer obtains control of the acquired entity

Acquisition related costs are accounted as expenses in the period they are incurred and related services received such as follows:

• Cost of internal staff who work on the deal.
• Cost of maintaining an acquisitions department.
• Cost of investigation.
• Issue costs for debt or equity.
• Incentives to of potential targets employees to remain with company post acquisition.
• Direct costs related to acquisition like consultant fees, rating fee etc.

Indian Accounting Standard (Ind AS) 112, Disclosure of Interest in Other Entities requires the entity to provide users with information that enables them to evaluate the nature of, and risks associated with, its interests in other entities and the effects of those interests on its financial position, financial performance and cash flows.

This Ind AS shall be applied by an entity that has an interest in any of the following:

• Joint arrangements (i.e. joint operations or joint ventures),
• Associates
• Unconsolidated structured entities.
• Subsidiaries

Significant Judgements and Assumptions

Ind AS 112 requires that an entity shall disclose information about significant judgements and assumptions it has made (and changes to those judgements and assumptions) in determining:

• That it has control of another entity;
• That it has joint control of an arrangement or significant influence over another entity; and
• The type of joint arrangement (i.e., joint operation or joint venture)  when the arrangement has been structured through  a  separate

All requirements of this Ind AS (except with respect to disclosure of summarised financial information) would also apply to subsidiaries, joint arrangements, associates and unconsolidated structured entities that are classified (or included in a disposal group that is classified) as held for sale or discontinued operations in accordance with Ind AS 105, Non-current Assets Held for Sale and Discontinued Operations.

Investment entity status under Ind AS 112

When a parent determines that it is an investment entity in accordance with Ind AS 110, the investment entity shall disclose information about significant judgements and assumptions it has made in determining that it is an

investment entity. If the investment entity does not have one or more of the typical characteristics of an investment entity, it shall disclose its reasons for concluding that it is nevertheless an investment entity.

When an entity becomes, or ceases to be, an investment entity, it shall disclose the change of investment entity status and the reasons for the change. In addition, an entity that becomes an investment entity shall disclose the effect of the change of status on the financial statements for the period presented, including:

• The total fair value, as of the date of change of status, of the subsidiaries that cease to be consolidated;
• The total gain or loss, if any, calculated in accordance with ind as 110; and
• The line item(s) in profit or loss in which the gain or loss is recognised  (if not presented separately).

If an entity has consolidated subsidiaries, then it provides information in its consolidated financial statements that helps users to understand the composition of the group and the interests of Non-Controlling Interests (NCI) in the group’s activities and cash flows. This includes:

• The nature and extent of significant restrictions on the entity’s ability to access or use assets or settle liabilities of the group,
• Specific information on any subsidiaries with material NCI, such as financial information for the subsidiary and information about the proportion of NCI and accumulated NCI.
• The consequences of changes in its ownership in a subsidiary and of losing control.
• The nature of and any changes in the risk associated with the interests in consolidated structured entities.

Interest in Subsidiaries

Ind AS 112 requires that an entity should disclose information that enables users of its consolidated financial statements:

To understand:

• The composition of the group; and
• The interest that non-controlling interests have in the group’s activities and cash flows; and

To evaluate:

• The nature of, and changes in, the risks associated with its interests in consolidated structured entities.
• The nature and extent of significant restrictions on its ability to access or use assets, and settle liabilities, of the group.
• The consequences of losing control of a subsidiary during the reporting.
• The consequences of changes in its ownership interest in a subsidiary that do not result in a loss of control.

Interest in joint arrangements and associates

Ind AS 112 requires that an entity should disclose information that enables users of its financial statements to evaluate:

• The nature of, and changes in, the risks associated with its interests in joint ventures.
• The nature, extent and financial effects of its interests in joint arrangements and associates, including the nature and effects of its contractual relationship with the other investors with joint control of, or significant influence over, joint arrangements and associates.

Interests in unconsolidated structured entities

Ind AS 112 also requires that an entity should disclose information that enables users of its financial statements:

• to understand the nature and extent of its interests in unconsolidated structured entities.
• to evaluate the nature of, and changes in, the risks associated with its interests in unconsolidated structured.

The Standard shall be applied in accounting for construction contracts in the financial statements of contractors. A construction contract is a contract specifically negotiated for the construction of an asset or a combination of assets that are closely interrelated or interdependent in terms of their design, technology and function or their ultimate purpose or use.

The requirements of this Standard are usually applied separately to each construction contract. However, in certain circumstances, it is necessary to apply the Standard to the

separately identifiable components of a single contract or to a group of contracts together in order to reflect the substance of a contract or a group of contracts.

Contract revenue shall comprise:

(a) The initial amount of revenue agreed in the contract.

(b) variations in contract work, claims and incentive

Payments:

(i) To the extent that it is probable that they will result in revenue.

(ii) They are capable of being reliably measured. Contract revenue is measured at the fair value of the consideration received or receivable.

Contract costs shall comprise:

(a) Costs that relate directly to the specific contract

(b) Costs that are attributable to contract activity in general and can be allocated to the contract

(c) Such other costs as are specifically chargeable to the customer under the terms of the contract.

The Indian Accounting Standard 11 prescribes the accounting treatment of the revenues and costs associated with construction contracts. One of the primary assumptions of accounting is the matching concept. Under this concept, the revenues are matched with the costs in the period in which they are incurred. However, construction contracts are long-term in nature and hence, the revenue and costs are carried over from one accounting period to another. Hence, the need for this standard arose. This standard clearly explains the recognition of contract revenue and its expenses.

The standard defines the following:

Contract Revenue: Contract revenue comprises the initial amount of revenue agreed in the contract; and variations in contract work, claims, and incentive payments, to the extent that they may result in revenue. These need to be capable of being reliably measured.

Construction contract: A construction contract is a contract specifically negotiated for the construction of an asset or a combination of assets that are closely interrelated or interdependent in terms of their design, technology, and function or their ultimate purpose or use. It also includes agreements of real estate development to provide services together with construction material in order to perform the contractual obligation to deliver the real estate to the buyer. Construction of a specific asset as stated in the definition can be the building of a bridge, dam, pipeline, and much more. Construction of closely interrelated assets can be the construction of refineries.

Contract costs Contract costs shall consist of:

• Costs that are attributable to contract activity in general and can be allocated to the contract.
• Costs that relate directly to the specific contract.
• Such other costs as are specifically chargeable to the customer under the terms of the contract.

The outcome of a fixed price contract can be estimated reliably when:

• It is probable that the economic benefits associated with the contract will flow to the entity.
• Total contract revenue can be measured reliably.
• The contract costs attributable to the contract can be clearly identified and measured reliably so that actual contract costs incurred can be compared with prior estimates.
• The contract costs to complete the contract and the stage of contract completion at the end of the reporting period can be measured reliably.

Once the outcome of the contract can be estimated reliably the contract costs and revenue will be recognised as revenue and expenses by reference to the stage of completion of the contracting activity at the end of the reporting period. This method is called the percentage of completion method. The stage of completion can be determined by either of the following:

• By the completion of a physical proportion of the contract work.
• The proportion of the contract costs incurred till date to the estimated total contract costs Surveys.

When the outcome of a construction contract cannot be estimated reliably:

• Contract costs shall be recognised as an expense in the period in which they are incurred.
• Revenue shall be recognised only to the extent of contract costs incurred, which are probable and recoverable.

Recognition of expected losses

When it is probable that total contract costs will exceed total contract revenue, the expected loss shall be recognised as an expense immediately.

An entity shall disclose the amount recognised as contract revenue in the period, the method used to determine the contract revenue recognised and stage of completion of contracts in progress.

For the contracts in progress at the end of the period, an entity shall disclose the aggregate costs incurred and recognised profits to date, the amounts of retentions and advances received.

Appendix A of Ind AS 11 gives guidance on accounting by operators for public-to-private service concession arrangements. It sets out principles for recognition and measurement of the obligations and related rights in service concession arrangements. The Appendix prescribes that an operator shall not recognise the public service infrastructure (within the scope of this appendix) as its Property, Plant and Equipment because the contractual service arrangement does not convey the right to control the use of the infrastructure. It only gives operator the access to operate the infrastructure to provide public service on behalf of the grantor.

Recognition of contract revenue and expenses

When the outcome of a construction contract can be estimated reliably, contract revenue and contract costs associated with the construction contract shall be recognised as revenue and expenses respectively by reference to the stage of completion of the contract activity at the end of the reporting period.

When the outcome of a construction contract cannot be estimated reliably:

(a) Revenue shall be recognised only to the extent of contract costs incurred that it is probable will be recoverable.

(b) Contract costs shall be recognised as an expense in the period in which they are incurred.

IAS 18 Revenue outlines the accounting requirements for when to recognise revenue from the sale of goods, rendering of services, and for interest, royalties and dividends. Revenue is measured at the fair value of the consideration received or receivable and recognised when prescribed conditions are met, which depend on the nature of the revenue.

The primary issue in accounting for revenue is determining when to recognise revenue. Revenue is recognised when it is probable that future economic benefits will flow to the entity and these benefits can be measured reliably. This Standard identifies the circumstances in which these criteria will be met and, therefore, revenue will be recognised. It also provides practical guidance on the application of these criteria.

Revenue is the gross inflow of economic benefits during the period arising in the course of the ordinary activities of an entity when those inflows result in increases in equity, other than increases relating to contributions from equity participants.

Recognition of revenue

Recognition, as defined in the IASB Framework, means incorporating an item that meets the definition of revenue (above) in the income statement when it meets the following criteria:

• The amount of revenue can be measured with reliability.
• It is probable that any future economic benefit associated with the item of revenue will flow to the entity.

Measurement of revenue

Revenue should be measured at the fair value of the consideration received or receivable. [IAS 18.9] An exchange for goods or services of a similar nature and value is not regarded as a transaction that generates revenue. However, exchanges for dissimilar items are regarded as generating revenue. [IAS 18.12]

If the inflow of cash or cash equivalents is deferred, the fair value of the consideration receivable is less than the nominal amount of cash and cash equivalents to be received, and discounting is appropriate. This would occur, for instance, if the seller is providing interest-free credit to the buyer or is charging a below-market rate of interest. Interest must be imputed based on market rates. [IAS 18.11]

Sale of goods

Revenue arising from the sale of goods should be recognised when all of the following criteria have been satisfied: [IAS 18.14]

• The seller retains neither continuing managerial involvement to the degree usually associated with ownership nor effective control over the goods sold.
• The seller has transferred to the buyer the significant risks and rewards of ownership.
• It is probable that the economic benefits associated with the transaction will flow to the seller.
• The costs incurred or to be incurred in respect of the transaction can be measured reliably.
• The amount of revenue can be measured reliably.

Rendering of services

For revenue arising from the rendering of services, provided that all of the following criteria are met, revenue should be recognised by reference to the stage of completion of the transaction at the balance sheet data (the percentage-of-completion method): [IAS 18.20]

When the outcome of a transaction involving the rendering of services can be estimated reliably, revenue associated with the transaction shall be recognised by reference to the stage of completion of the transaction at the end of the reporting period. The outcome of a transaction can be estimated reliably when all the following conditions are satisfied:

(a) The amount of revenue can be measured reliably.

(b) It is probable that the economic benefits associated with the transaction will flow to the entity.

(c) The stage of completion of the transaction at the end of the reporting period can be measured reliably; and (d) the costs incurred for the transaction and the costs to complete the transaction can be measured reliably.

• It is probable that the economic benefits will flow to the seller.
• The amount of revenue can be measured reliably.
• The costs incurred, or to be incurred, in respect of the transaction can be measured reliably.
• The stage of completion at the balance sheet date can be measured reliably.

Interest, Royalties, and Dividends

Revenue arising from the use by others of entity assets yielding interest and royalties shall be recognised when:

(a) The amount of the revenue can be measured reliably.

(b) It is probable that the economic benefits associated with the transaction will flow to the entity.

For interest, royalties and dividends, provided that it is probable that the economic benefits will flow to the enterprise and the amount of revenue can be measured reliably, revenue should be recognised as follows: [IAS 18.29-30]

• Royalties: on an accrual’s basis in accordance with the substance of the relevant agreement.
• Interest: using the effective interest method as set out in ias 39
• Dividends: when the shareholder’s right to receive payment is established.

Disclosure [IAS 18.35]

Accounting policy for recognising revenue amount of each of the following types of revenue:

• Sale of goods
• Rendering of services
• Interest
• Royalties
• Dividends
• Within each of the above categories, the amount of revenue from exchanges of goods or services

Government grants are assistance by government in the form of transfers of resources to an entity in return for past or future compliance with certain conditions relating to the operating activities of the entity. They exclude those forms of government assistance which cannot reasonably have a value placed upon them and transactions with government which cannot be distinguished from the normal trading transactions of the entity.

Government assistance is action by government designed to provide an economic benefit specific to an entity or range of entities qualifying under certain criteria. Government assistance for the purpose of this Standard does not include benefits provided only indirectly through action affecting general trading conditions, such as the provision of infrastructure in development areas or the imposition of trading constraints on competitors.

Objective of IAS 20

The objective of IAS 20 is to prescribe the accounting for, and disclosure of, government grants and other forms of government assistance.

Scope

IAS 20 applies to all government grants and other forms of government assistance. [IAS 20.1] However, it does not cover government assistance that is provided in the form of benefits in determining taxable income. It does not cover government grants covered by IAS 41 Agriculture, either. [IAS 20.2] The benefit of a government loan at a below-market rate of interest is treated as a government grant. [IAS 20.10A]

Accounting for grants

A government grant is recognised only when there is reasonable assurance that (a) the entity will comply with any conditions attached to the grant and (b) the grant will be received. [IAS 20.7]

The grant is recognised as income over the period necessary to match them with the related costs, for which they are intended to compensate, on a systematic basis. [IAS 20.12]

Non-monetary grants, such as land or other resources, are usually accounted for at fair value, although recording both the asset and the grant at a nominal amount is also permitted. [IAS 20.23]

Even if there are no conditions attached to the assistance specifically relating to the operating activities of the entity (other than the requirement to operate in certain regions or industry sectors), such grants should not be credited to equity. [SIC-10]

A grant receivable as compensation for costs already incurred or for immediate financial support, with no future related costs, should be recognised as income in the period in which it is receivable. [IAS 20.20]

A grant relating to assets may be presented in one of two ways: [IAS 20.24]

• As deferred income
• By deducting the grant from the asset’s carrying amount.

A government grant that becomes receivable as compensation for expenses or losses already incurred or for the purpose of giving immediate financial support to the entity  with no future related costs shall  be recognised in profit  or loss of the period in which it becomes receivable.

Grants related to assets are government grants whose primary condition is that an entity qualifying for them should purchase, construct or otherwise acquire long-term assets. Subsidiary conditions may also be attached restricting the type or location of the assets or the periods during which they  are to be acquired or held.

Government grants related to assets, including non-monetary grants at fair value, shall be presented in the balance sheet by setting up the grant as deferred income.

Grants related to income are government grants other than those related to assets. Grants related to income are presented as part of profit or loss, either separately or under a general heading such as ‘Other income’; alternatively, they are deducted in reporting the related expenses.

A government grant that becomes repayable shall be accounted for as a change in accounting estimate (Ind AS 8 Accounting Policies, Changes in Accounting Estimates and Errors). Repayment of a grant related to income shall be applied first against any unamortised deferred credi t recognised in respect of the grant. To the extent that the repayment exceeds any such deferred credit, or when no deferred credit exists, the repayment shall be recognised immediately in profit or loss. Repayment of a grant related to an asset shall be recognised by reducing the deferred income balance by the amount repayable.

The following matters shall be disclosed:

• The nature and extent of government grants recognised in the financial statements and an indication of other forms of government assistance from which the entity has directly benefited.
• The accounting policy adopted for government grants, including the methods of presentation adopted in the financial statements.
• Unfulfilled conditions and other contingencies attaching to government assistance that has been

The treatment of such borrowing cost is prescribed under Ind AS 23, AS 16 under IGAAP, and IAS 23 under IFRS. The objective of this article is to prescribe the treatment of borrowing cost as prescribed under Ind AS 23 along with highlighting the differences between AS 16 and IAS 23.

Core Principle

• Borrowing costs that are directly attributable to the acquisition, construction or production of a qualifying asset form part of the cost of that asset.
• Other borrowing costs are recognised as an expense

⇑ Borrowing costs that are directly attributable to the acquisition, construction or production of a qualifying asset form part of the cost of that asset.

⇓ Other borrowing costs are recognised as an expense.

Borrowing Cost

Borrowing costs are defined as interest and other costs that an entity incurs in connection with the borrowing of funds.

Borrowing costs may include:

• Finance charges in respect of finance leases recognised in accordance with Ind AS 17 Leases.
• Interest expense calculated using the effective interest method as described in Ind AS 39 Financial Instruments.
• Exchange differences arising from foreign currency borrowings to the extent that they are regarded as an adjustment to interest costs.

Need and Objective

Entities has to borrow funds in order to acquire, build and install PPE and these assets take time to make them usable or saleable, therefore the entity incur the interest (cost on borrowings) to acquire and build these assets .The objective of this standard is to prescribe the treatment of borrowing cost (interest +other cost) in accounting, whether the cost of borrowing should be included in the cost of assets or not. Borrowing costs that are directly attributable to the acquisition, construction or production of a qualifying asset form part of the cost of that asset. Other borrowing costs are recognized as an expense.

Scope

• This standard is applied in accounting for borrowing cost.
• It does not deal with the actual or imputed cost of equity, including preferred capital not classified as a liability. For example: Dividend paid on equity shares, cost of issuance of equity, cost on Irredeemable preference share capital will not be included as borrowing cost within the purview of this standard.
• This standard is not required to apply on borrowing cost directly attributable to the acquisition, construction or production of:
• Qualifying asset measured at fair value {For example: A biological asset Ind AS 41}.
• Inventories that are manufactured, or otherwise produced, in large quantities on a repetitive basis.

Borrowing costs are interest and other costs that an entity incurs in connection with the borrowing of funds. It may include:

• Interest expense calculated using the effective interest method as described in Ind AS 109, Financial Instruments.
• Interest in respect of lease liabilities recognised in accordance with Ind AS 116, Leases.
• Exchange differences arising from foreign currency borrowings to the extent that they are regarded as an adjustment to interest costs.

Borrowing costs

Borrowing costs are interest and other costs that an entity incurs in connection with the borrowing of funds

Qualifying asset

It is an asset that necessarily takes a substantial period of time to get ready for its intended use or sale, Examples:

• Manufacturing plants
• Inventories
• Power generation facilities
• Investment properties
• Intangible assets

Treatment of Borrowing Cost

1) If the borrowing cost incurred is directly attributable to the acquisition, construction or production of qualifying asset, then it should be capitalised as part of the cost of the asset.

2) Otherwise, it should be expensed in the profit or loss.

3) Note: In case of hyperinflationary economy, part of borrowing cost which compensates for the inflation during the same period should be expensed in profit of loss.

Substantial Period of Time

It is based on facts and circumstances of each case. Ordinarily Substantial period =A Period of 12 months.

Borrowing cost eligible for capitalisation

Borrowing cost which is directly attributable to the acquisition, construction or production of a qualifying asset is capitalised. A borrowing cost is said to be directly attributable if it can be avoided when the expenditure on qualifying asset is not made.

Specific borrowing

When an entity borrows funds specifically for the purpose of obtaining a particular qualifying asset, the borrowing costs that directly relate to that qualifying asset can be readily identified.

The amount of borrowing costs eligible for capitalization is the actual borrowing costs incurred on those funds during the period reduced by any investment income earned on the temporary investment of idle funds.

General borrowing

In case of general borrowings, it may be difficult to identify a direct relationship between particular borrowings and a qualifying asset and to determine the borrowings that could otherwise have been avoided.

Rate of Capitalisation

Total general borrowing cost for the period / Weighted average total general borrowings

Expenditure to which the capitalisation rate is applied:

Cessation of capitalisation

• Borrowing cost is not being incurred.
• Substantially all the activities necessary to prepare the qualifying asset for its intended use or sale are complete.

Measurement

It depends on the following

1. Funds Borrowed Specifically
2. Funds Borrowed Generally.

Funds Borrowed Specifically

Amount of Borrowing Cost eligible for Capitalization =Actual interest plus related expenses Incurred less Investment Income from Excess idle Borrowings.

Funds Borrowed Generally

• Amount of Borrowing cost eligible for Capitalization =Amount of Qualifying Asset × Weighted Average Capitalization Rate
• Weighted Average Capitalization Rate=Total borrowing Cost/Total average outstanding ×100.
• Amount of Borrowing cost capitalized cannot exceed the amount of borrowing cost incurred during that period.