- 14 Marks
FR – Nov 2015 – L2 – Q4b and c- Financial Reporting Standards and Their Applications
This question involves recalculating profit and financial position based on a change in the method for determining contract completion and explaining the difference between accounting estimates and policies.
Question
LB Ltd is a construction contract company involved in building commercial properties. Its current policy for determining the percentage of completion of its contracts is based on the proportion of cost incurred to date compared to the total expected cost of the contract.
One of LB Ltd’s contracts has an agreed price of GHS 500 million and estimated total costs of GHS 400 million. The cumulative progress of this contract is:
| Year ended | 30 September 2011 | 30 September 2012 |
|---|---|---|
| Costs incurred | 160 | 290 |
| Work certified and billed | 150 | 320 |
| Billing received | 140 | 300 |
Based on the above, LB Ltd prepared and published its financial statements for the year ended 30 September 2011. Relevant extracts are:
STATEMENT OF PROFIT OR LOSS
| Description | GHSm |
|---|---|
| Revenue | 200 |
| Cost of sales | (160) |
| Profit ((100 x 160/400)) | 40 |
STATEMENT OF FINANCIAL POSITION
| Description | GHSm |
|---|---|
| Current assets: Amounts due from customers | |
| Contract costs to date | 160 |
| Profit recognised | 40 |
| Total assets | 200 |
| Progress billings | (150) |
| Net assets | 50 |
| Contract receivables (150-140) | 10 |
LB Ltd has received some adverse publicity in the financial press for taking its profit too early in the contract process, leading to disappointing profits in the later stages of contracts. Most of LB Ltd’s competitors take profit based on the percentage of completion as determined by the work certified compared to the contract price.
Required:
(i) Assuming LB Ltd changes its method of determining the percentage of completion of contracts to that used by its competitors, and that this would represent a change in an accounting estimate, calculate equivalent extracts of profit or loss and statement of financial position for the year ended 30 September 2012. (7 marks)
(ii) Explain why the above represents a change in accounting estimate rather than a change in accounting policy. (2 marks)
c)
LB Ltd also sells building materials to other contractors from its warehouse and is considering setting up another retail branch in a different part of the country.
The directors have been told that the branch can be run directly through the head office or set up as a separate entity, but are not sure how the accounting will work.
Required:
Explain to the directors how this transaction should be treated in the books of LB Ltd.
(5 marks)
Find Related Questions by Tags, levels, etc.