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FIFTEENTH EDITION Barry Elliott and Jamie Elliott Financial Times Prentice Hall is an imprint of Harlow, England London New York Boston San Francisco Toronto Sydney Singapore Hong Kong Tokyo Seoul Taipei New Delhi Cape Town Madrid Mexico City Amsterdam Munich Paris Milan
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Page 1: Barry Elliott and Jamie Elliott - GBV

FIFTEENTH EDITION

Barry Elliott and Jamie Elliott

Financial TimesPrentice Hallis an imprint of

Harlow, England • London • New York • Boston • San Francisco • Toronto • Sydney • Singapore • Hong KongTokyo • Seoul • Taipei • New Delhi • Cape Town • Madrid • Mexico City • Amsterdam • Munich • Paris • Milan

Page 2: Barry Elliott and Jamie Elliott - GBV

Full contents

Preface and acknowledgements xxGuided tour of MyAccountingLab xxv

Fart I©F FSNANCBAL STATEMENTS D

1 Accounting and report ing on a cash f low basis 31.1 Introduction 31.2 Shareholders 31.3 What skills does an accountant require in respect of external reports? 41.4 Managers 41.5 What skills does an accountant require in respect of internal reports? 51.6 Procedural steps when reporting to internal users 51.7 Agency costs . 81.8 Illustration of periodic financial statements prepared under the cash

flow concept to disclose realised operating cash flows 81.9 Illustration of preparation of statement of financial position 121.10 Treatment of non-current assets in the cash flow model 141. 11 What are the characteristics of these data that make them reliable? 151.12 Reports to external users 16

Summary 17Review questions 18Exercises 18References 20

2 Accounting and report ing on an accrual accounting basis 212.1 Introduction 212.2 Historical cost convention 222.3 Accrual basis of accounting 232.4 Mechanics of accrual accounting - adjusting cash receipts and

payments 232.5 Subjective judgements required in accrual accounting - adjusting

cash payments in accordance with the matching principle 242.6 Mechanics of accrual accounting - the statement of financial position 24

' 2.7 Reformatting the statement of financial position 252.8 Accounting for the sacrifice of non-current assets 25

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viii ° Full contents

2.9 Reconciliation of cash flow and accrual accounting data 29Summary 31Review questions 31Exercises 32References 33

3 Preparat ion of financial statements 353.1 Introduction 353.2 Preparing an internal statement of income from a trial balance 363.3 The format of statements of income for publication 373.4 Other comprehensive income 413.5 Accounting for current tax 423.6 Presentation using IAS I Alternative method (Format 2) 443.7 The statement of financial position 453.8 Statement of changes in equity 463.9 The accounting rules for asset valuation 473.10 The explanatory notes that accompany a statement of financial

position 483.11 Has prescribing the formats meant that identical transactions

are reported identically? 503.12 What does an investor need in addition to the financial

statements to make decisions? 533.13 ASB review of narrative reporting 583.14 What is meant by a fair view? 59

Summary 61Review questions 62Exercises 63References 74

4 Annual Report: additional financial statements 754.1 Introduction 754.2 The value added by segment reports 754.3 Detailed review and evaluation of IRFS 8 - Operating Segments 764.4 IFRS 5 - meaning of 'held for sale' 844.5 IFRS 5 - implications of classification as held for sale 844.6 Meaning and disclosure of 'discontinued operations' 854.7 IAS 10 - events after the reporting period 874.8 Related party disclosures 88

Summary 93Review questions 93Exercises 94References 104

5 Statements of cash flows 1055.1 Introduction 1055.2 Development of statements of cash flows 1055.3 Applying IAS 7 (revised) Statements of Cash Flows 1075.4 Step approach to preparation of a statement of cash flows -

indirect method I 105.5 Statement of cash flows - direct method I 12

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5.65.75.85.9

Full contents

Additional notes required by IAS 7Analysing statements of cash flowsCritique of cash flow accountingSummary proposal for change in presentation of the financialstatementsSummaryReview questionsExercisesReferences

• IX

113114118

119121122123131

I M C O M E A M D A S S E T V A L U E M E A S U R E M E N T SYSTEMS

6 Income and asset value measurement: an economist'sapproach 1356.1 Introduction 1356.2 Role and objective of income measurement 1356.3 Accountant's view of income, capital and value 1386.4 Critical comment on the accountant's measure 1416.5 Economist's view of income, capital and value 1426.6 Critical comment on the economist's measure 1486.7 Income, capital and changing price levels 148

Summary 150Review questions 150Exercises 151References 152Bibliography 153

7 Accounting for price-level changes 1547.1 Introduction / 1547.2 Review of the problems of historical cost accounting (HCA) 1547.3 Inflation accounting 1557.4 The concepts in principle 1557.5 The four models illustrated for a company with cash purchases

and sales 1567.6 Critique of each model 1607.7 Operating capital maintenance - a comprehensive example 1637.8 Critique of CCA statements 1747.9 The ASB approach 1767.10 The IASC/IASB approach 1787.11 Future developments 179

Summary " 181Review questions 182Exercises 182References 191

. Bibliography 191

8 Revenue recognition 1928.1 Introduction 1928.2 The issues 193

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8.3 The challenge 1938.4 Revenue defined -IAS 18 Revenue 1948.5 Proposed IFRS 196

Summary 202Review questions 203Exercises 204References 207

ULATOIfW FKAMEWOIRK - AIM ATTEMPT T1EVE UNDF©[rlMITY

9 Financial reporting - evolution of global standards 2119.1 Introduction 2119.2 Why do we need financial reporting standards? 21 I9.3 Why do we need standards to be mandatory? 2129.4 Arguments in support of standards 2139.5 Arguments against standards 2149.6 Standard setting and enforcement in the UK under the Financial

Reporting Council (FRC) 2149.7 The Accounting Standards Board (ASB) 2159.8 The Financial Reporting Review Panel (FRRP) 2169.9 Standard setting and enforcement in the US 2179.10 Why have there been differences in financial reporting? 2199.11 Efforts to standardise financial reports 2239.12 What is the impact of changing to IFRS? 2269.13 Progress towards adoption by the USA of international standards 2279.14 Advantages and disadvantages of global standards for publicly

accountable entities 2289.15 How do reporting requirements differ for non-publicly

accountable entities? 2299.16 Does the need for standards and effective enforcement still

exist in the 21 st century? 2339.17 Move towards a conceptual framework 233

Summary 234Review questions 234Exercises 235References 236

10 Concepts - evolution of a global conceptual f r a m e w o r k 23810.1 Introduction 23810.2 Historical overview of the evolution of financial accounting

theory 23910.3 FASB Concepts Statements 24310.4 IASC Framework for the Presentation and Preparation of Financial

Statements 24610.5 ASB Statement of Principles 1999 24710.6 Conceptual framework developments 255

Summary 257Review questions 259

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Exercises 259References 261

I I Ethical behaviour and implications for accountants 262I I. I Introduction 262I 1.2 The meaning of ethical behaviour 26211.3 The accounting standard setting process and ethics 26311.4 The IFAC Code of Ethics for Professional Accountants 264I 1.5 Implications of ethical values for the principles versus rules-based

approaches to accounting standards 267I 1.6 Ethics in the accountants' work environment research report 270I 1.7 Implications of unethical behaviour for stakeholders using the

financial reports 27111.8 The increasing role of whistle blowing 27611.9 The role of financial reporting authorities 27811.10 Why should students learn ethics? 280

Summary 282Review questions 282Exercises 284References 286

Part 4STATEMENT ©F FGMANC1AL POSITION - EQUBTY,LIAHQUTY AND ASSET MEASUREMENT ANDDISCLOSURE ' 289

12 Share capital, distributable profits and reduction of capital 29112.1 Introduction 29112.2 Common themes : 29112.3 Total owners' equity: an overview 29212.4 Total shareholders' funds: more detailed explanation 29312.5 Accounting entries on issue of shares 29612.6 Creditor protection: capital maintenance concept 29712.7 Creditor protection: why capital maintenance rules are necessary 29812.8 Creditor protection: how to quantify the amounts available to meet

creditors' claim 29812.9 Issued share capital: minimum share capital 29912.10 Distributable profits: general considerations 29912.1 I Distributable profits: how to arrive at the amount using relevant

accounts 30112.12 When may capital be reduced? 30112.13 Writing off part of capital which has already been lost and is not

represented by assets 30212.14 Repayment of part of paid-in capital to shareholders or cancellation

of unpaid share capital 30712.15 Purchase of own shares 308

Summary 311Review questions 311Exercises 31 IReferences 316

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13 Liabilities 31713.1 Introduction 31713.2 Provisions - their impact on the statement of financial position 31813.3 ED IAS 37 Non-financial liabilities 32613.4 ED/2010/1 Measurement of Liabilities in IAS 37 333

Summary 333Review questions 334Exercises 335References 338

14 Financial instruments 33914.1 Introduction 33914.2 Financial instruments - t h e lASB's problem child 33914.3 IAS 32 Financial Instruments: Disclosure and Presentation 34014.4 IAS 39 Financial Instruments: Recognition and Measurement 34814.5 IFRS 7 Financial Statement Disclosures 35814.6 Financial instruments developments 362

Summary 365Review questions 366Exercises 366References 373

15 Employee benefits 37415.1 Introduction 37415.2 Greater employee interest in pensions 37515.3 Financial reporting implications 37515.4 Types of scheme 37515.5 Defined contribution pension schemes 37815.6 Defined benefit pension schemes 37815.7 I AS 19 (revised) Employee Benefits 37915.8 The liability for pension and other post-retirement costs 37915.9 The statement of comprehensive income 38215.10 Comprehensive illustration 38215.11 Plan curtailments and settlements 38515.12 Multi-employer plans 38515.13 Disclosures 38615.14 Other long-service benefits . 38615.15 Short-term benefits 38715.16 Termination benefits 38815.17 Exposure draft of amendments to IAS 19 38815.18 IFRS 2 Share-Based Payment 38915.19 Scope of IFRS 2 39015.20 Recognition and measurement 39115.21 Equity-settled share-based payments 39115.22 Cash-settled share-based payments 39415.23 Transactions which may be settled in cash or shares 39515.24 IAS 26 Accounting and Reporting by Retirement Benefit Plans 395

Summary 398Review questions 399Exercises 399References 405

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16 Taxation in company accounts 40616.1 Introduction 40616.2 Corporation tax 40616.3 Corporation tax systems - the theoretical background 40716.4 Corporation tax systems - avoidance and evasion 40816.5 Corporation tax - the system from 6 April 1999 41 I16.6 IFRS and taxation 41216.7 IAS 12 - accounting for current taxation 41316.8 Deferred tax 41516.9 FRS 19 (the UKltandard on deferred taxation) 42316.10 A critique of deferred taxation 42416.1 I Examples of companies following IAS 12 42716.12 Value added tax (VAT) 427

Summary 429Review questions 429Exercises 430References 432

17 Property, plant and equipment (PPE) 43417.1 Introduction 43417.2 PPE - concepts and the relevant lASs and IFRSs 43417.3 What is PPE? (IAS 16) 43517.4 How is the cost of PPE determined? 43617.5 What is depreciation? 43817.6 What are the constituents in the depreciation formula? 44117.7 How is the useful life of an asset determined? 44117.8 Residual value 44217.9 Calculation of depreciation 44217.10 Measurement subsequent to initial recognition 44717.11 IAS 36 Impairment of Assets 44917.12 IFRS 5 Non-Current Assets Held for Sale and Discontinued

Operations 45417.13 Disclosure requirements 45517.14 Government grants towards the cost of PPE (IAS 20) 45617.15 Investment properties 45817.16 Effect of accounting policy for PPE on the interpretation of the

financial statements 459Summary 461Review questions 462Exercises 462References 471

18 Leasing 47218.1 Introduction 47218.2 Background to leasing 47218.3 Why was the IAS 17 approach so controversial? 47418.4 IAS 17 - classification of a lease ' 47518.5 Accounting requirements for operating leases 47618.6 Accounting requirements for finance leases 47718.7 Example allocating the finance charge using the sum of the

digits method 478

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18.8 Accounting for the lease of land and buildings 48218.9 Leasing - a form of off balance sheet financing 48318.10 Accounting for leases - a new approach 48418.11 Accounting for leases by lessors 487

Summary 488Review questions 488Exercises 489References 492

19 R & D ; goodwill; intangible assets and brands 49319.1 Introduction 49319.2 Accounting treatment for research and development 49319.3 Research and development (IAS 38) 49319.4 Why is research expenditure not capitalised? 49419.5 Capitalising development costs 49519.6 The judgements to be made when deciding whether to capitalise

development costs 49619.7 Disclosure of R&D 49719.8 IFRS for SMEs 49819.9 Goodwill 49819.10 The accounting treatment of goodwill 49919.11 Critical comment on the various methods that have been

used to account for goodwill 50019.12 Negative goodwill 50219.13 Intangible assets 50319.14 Brand accounting 50619.15 Justifications for reporting all brands as assets 50719.16 Accounting for acquired brands 50919.17 Emissions trading 51019.18 Intellectual property 51219.19 Review of implementation of IFRS 3 514

Summary 516Review questions 517Exercises 519References 527

20 Inventories 52920.1 Introduction 52920.2 Inventory defined 52920.3 The controversy 53020.4 IAS 2 Inventories 53120.5 Inventory valuation 53220.6 Work-in-progress 53820.7 Inventory control 54020.8 Creative accounting 54120.9 Audit of the year-end physical inventory count 54320.10 Published accounts . 54520.1 I Agricultural activity 546

Summary 549Review questions 550

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Exercises 551References 555

21 Construction contracts 55621.1 Introduction 55621.2 The need to replace IAS 11 Construction Contracts 55621.3 Identification of contract revenue 55821.4 Identification of contract costs 55821.5 Proposed new accounting rules 56021.6 Approach when a contract can be separated into components 56121.7 Accounting for a contract 56121.8 Illustrated - profitable contract using step approach 56221.9 Illustrated - loss-making contract using step approach 56521.10 Developments in accounting for revenue 56621.11 Public-private partnerships (PPPs) 567

Summary 573Review questions 574Exercises 575References 581

sOLBDATED A C C O U N T S • SS3

22 Accounting for groups at the date of acquisition 58522.1 Introduction 58522.2 The definition of a group 58522.3 Consolidated accounts and some reasons for their preparation 58522.4 The definition of control 58722.5 Alternative methods of preparing consolidated accounts 58822.6 The treatment of positive goodwill 59022.7. The treatment of negative goodwill 59022.8 The comparison between an acquisition by cash and an exchange

of shares 59122.9 Non-controlling interests 59122.10 The treatment of differences between a subsidiary's fair value

and book value 59422.11 How to calculate fair values 59522.12 IFRS 10 - summary of significant revisions 596

Summary 597Review questions 597Exercises 598References , 604

23 Preparation of consolidated statements of financialposition after the date of acquisition 60523.1 Introduction 60523.2 Pre- and post-acquisition profits/losses 60523.3 Inter-company balances 60823.4 Unrealised profit on inter-company sales 60923.5 Provision for unrealised profit affecting a non-controlling interest 614

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23.6 Uniform accounting policies and reporting dates 61423.7 How is the investment in subsidiaries reported in the parent's own

statement of financial position? 615Summary 615Review questions 615Exercises 615References 619

24 Preparation of consolidated statements of comprehensiveincome, changes in equity and cash flows 62024.1 Introduction 62024.2 Preparation of a consolidated statement of comprehensive

income - the Ante Group 62024.3 The statement of changes in equity (SOCE) 62324.4 Other consolidation adjustments 62324.5 Dividends or interest paid by the subsidiary out of pre-acquisition

profits 62424.6 A subsidiary acquired part of the way through the year 62524.7 Published format statement of comprehensive income 62724.8 Consolidated statements of cash flows 628

Summary , 629Review questions 630Exercises 630References 639

25 Accounting for associates and joint ventures 64025.1 Introduction 64025.2 Definitions of associates and of significant influence 64025.3 The treatment of associated companies in consolidated accounts 64125.4 The Brill Group - the equity method illustrated 64125.5 The treatment of provisions for unrealised profits . 64325.6 The acquisition of an associate part-way through the year 64325.7 Joint arrangements 645

Summary 647Review questions 648Exercises 648References , 659

26 Accounting for the effects of changes in foreignexchange rates under IAS 21 66026.1 Introduction 66026.2 The difference between conversion and translation and

the definition of a foreign currency transaction 66026.3 The functional currency 66126.4 The presentation currency 66126.5 Monetary and non-monetary items 66126.6 The rules on the recording of foreign currency transactions

carried out directly by the reporting entity 66226.7 The treatment of exchange differences on foreign currency

transactions 662

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26.8 Foreign exchange transactions in the individual accounts ofcompanies illustrated — Boil pic 662

26.9 The translation of the accounts of foreign operations wherethe functional currency is the same as that of the parent 664

26.10 The use of a presentation currency other than the functionalcurrency 664

26.11 Granby Ltd illustration 66526.12 Granby Ltd illustration continued 66626.13 Implications of IAS 21 66926.14 Critique of use of presentation currency 669

Summary 670Review questions 670Exercises 670References 675

27 Earnings per share 67927.1 Introduction 67927.2 Why is the earnings per share figure important? 67927.3 How is the EPS figure calculated? 68027.4 The use to shareholders of the EPS 68127.5 Illustration of the basic EPS calculation 68227.6 Adjusting the number of shares used in the basic EPS calculation 68327.7 Rights issues 68527.8 Adjusting the earnings and number of shares used in the diluted

EPS calculation 69027.9 Procedure where there are several potential dilutions 69227.10 Exercise of conversion rights during financial year 69427.1 I Disclosure requirements of IAS 33 69427.12 The Improvement Project 69727.13 Convergence project 697

Summary 697Review questions 698Exercises 699References 705

28 Review of financial rat io analysis 70628.1 Introduction 70628.2 Initial impressions 70628.3 What are accounting ratios? 70828.4 Revision of key ratios 70828.5 Key ratios for JD Wetherspoon 71028.6 Comment on the current ratio 71328.7 Interpreting the key rat ios-JD Wetherspoon 71428.8 Description of subsidiary ratios ' 71528.9 Limitations of ratio analysis 72628.10 Earnings before interest, tax, depreciation and amortisation

(EBITDA) used for management control purposes 729

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Summary 730Review questions 731Exercises 732References 739

29 Analytical analysis - selective use of ratios 74029.1 Introduction 74029.2 Improvement of information for shareholders 74029.3 Disclosure of risks and focus on relevant ratios 74229.4 Shariah compliant companies - why ratios are important 74929.5 Ratios set by lenders in debt covenants 75129.6 Predicting corporate failure 75329.7 Performance related remuneration - shareholder returns 75929.8 Valuing shares of an unquoted company - quantitative process 76429.9 Professional risk assessors 768

Summary 770Review questions 771Exercises 772References 784

30 A n introduction to financial report ing on the In ternet . 78630.1 Introduction 78630.2 The reason for the development of a business reporting language 78630.3 Reports and the flow of information pre-XBRL 78730.4 What are HTML, XML and XBRL? 78830.5 Reports and the flow of information post-XBRL 78930.6 XBRL and the IASB 79030.7 Why should companies adopt XBRL? 79030.8 What is needed to use XBRL for outputting information? 79130.9 What is needed when receiving XBRL output information? 79330.10 Progress of XBRL development for internal accounting 79830.11 Further study 798

Summary . 799Review questions 799Exercises 800References 800Bibliography , 801

31 Corpora te governance 80531.1 Introduction 80531.2 The concept 80531.3 Corporate governance effect on corporate behaviour 80631.4 Pressures on good governance behaviour vary over time 80731.5 Types of past unethical behaviour 80831.6 Different jurisdictions have different governance priorities 80831.7 The effect on capital markets of good corporate governance 80931.8 The role of accounting in corporate governance 810

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31.9 External audits in corporate governance 81231.10 Corporate governance in relation to the board of directors 81631.11 Executive remuneration 81731.12 Market forces and corporate governance 82031.13 Risk management 82131.14 Corporate governance, legislation and codes 82331.15 Corporate governance - the UK experience 825

Summary 836Review questions 836Exercises 838References 840

32 Sustainability - environmental and social report ing 84232.1 Introduction 84232.2 How financial reporting has evolved to embrace sustainability

reporting 84232.3 The Triple Bottom Line (TBL) 84332.4 The Connected Reporting Framework 84432.5 IFAC Sustainability Framework 84632.6 The accountant's role in a capitalist industrial society 84732.7 The accountant's changing role 84832.8 Sustainability - environmental reporting 84832.9 Environmental information in the annual accounts 84932.10 Background to companies' reporting practices 84932.11 European Commission's recommendations for disclosures in

annual accounts 85032.12 Evolution of stand-alone environmental reports 85232.13 International charters and guidelines 85432.14 Self-regulation schemes 85532.15 Economic consequences of environmental reporting 85732.16 Summary on environmental reporting 85832.17 Environmental auditing: international initiatives 85832.18 The activities involved in an environmental audit 85932.19 Concept of social accounting 86032.20 Background to social accounting 86232.21 Corporate social responsibility reporting 86432.22 Need for comparative data . 86432.23 International initiatives towards Triple Bottom Line reporting 866

Summary 869Review questions 869Exercises 870References 876Bibliography 877

Index 879


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