ADM 1340 Lecture Notes - Lecture 2: Current Liability, Financial Statement, Retained Earnings
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Case 10-1
Swisscom AG, the principal provider of telecommunications inSwitzerland, prepares consolidated financial statements inaccordance with IFRS. Until 2007, Swisscom also reconciled its netincome and stockholdersâ equity to US GAAP. Swisscom consolidatedfinancial statements from a recent annual report are presented intheir original format in Column 1 of the following worksheet. Note27, Differences between IFRS and GAAP, which includes Swisscomâs USGAAP reconciliation, also is provided.
Required
Use the information in Note 27 to restate Swisscomâsconsolidated financial statements in accordance with US GAAP. Beginby constructing debit/credit entries for each reconciliation item,and then post these entries to columns 2 and 3 in the worksheetsprovided.
Calculate each of the following ratios under both IFRS and GAAPand determine the percentage differences between them, using IFRSratios as the base:
Net income/net revenue
Operating income/net revenues
Operating income/total assets
Net income/shareholdersâ equity
Operating income/total shareholdersâ equity
Current assets/current liabilities
Total liabilities/total shareholdersâ equity
Which of these ratios is most (least) affected by the accountingstandards used?
Worksheet for theRestatement of Swisscom's Financial Statements from IFRS to USGAAP | ||||
Reconciling | Adjustment | |||
IFRS | DR | CR | US GAAP | |
Consolidated Statement of Operations | ||||
Net revenue | 9,842 | |||
Capitalized cost and changes ininventory | 277 | |||
Total | 10,119 | |||
Goods and services purchased | 1,666 | |||
Personnel expenses | 2,584 | |||
Other operating expenses | 2,090 | |||
Depreciation and amortization | 1,739 | |||
Restructuring charges | 1,726 | |||
Total operating expenses | 9,805 | |||
Operating income | 314 | |||
Interest expense | (428) | |||
Financial income | 25 | |||
Income(loss) before incometaxes and equity in net loss of affiliated companies | (89) | |||
Income tax expense | 1 | |||
Income(loss) before equity innet loss of affiliated companies | (90) | |||
Equity in net loss of affiliatedcompanies | (325) | |||
Net income(loss) | (415) | |||
Consolidated Retained EarningsStatement | ||||
Retained earnings, 1/1 | (151) | |||
Net loss | (415) | |||
Profit distribution declared | (1,282) | |||
Conversion of loan payable to equity | 3,200 | |||
Retained earnings, 12/31 | 1,352 | |||
Assets | ||||
Current assets | ||||
Cash and equivalents | 256 | |||
Securities available for sale | 51 | |||
Trade accounts receivable | 2,052 | |||
Inventories | 169 | |||
Other current assets | 34 | |||
Total current assets | 2,562 | |||
Noncurrent assets | ||||
Property, plant and equipment | 11,453 | |||
Investments | 1,238 | |||
Other noncurrent assets | 220 | |||
Total noncurrent assets | 12,911 | |||
Total assets | 15,473 | |||
Current liabilities | ||||
Short-term debt | 1,178 | |||
Trade accounts payable | 889 | |||
Accrued pension cost | 789 | |||
Other current liabilities | 2,213 | |||
Total current liabilities | 5,069 | |||
Long-term liabilities | ||||
Long-term debt | 6,200 | |||
Finance lease obligation | 439 | |||
Accrued pension cost | 1,488 | |||
Accrued liabilities | 709 | |||
Other long-term liabilities | 338 | |||
Total long-term liabilities | 9,174 | |||
Total liabilities | 14,243 | |||
Shareholders' equity | ||||
Retained earnings | 1,352 | |||
Unrealized market valueadjustment on securities available for sale | 39 | |||
Cumulative translation adjustment | (161) | |||
Total shareholders' equity | 1,230 | |||
Total liabilities and shareholders'equity | 15,473 |
27. Differences between IFRS and GAAP
The consolidated financial statements of Swisscom have beenprepared in accordance with IFRS, which differ in certain respectsfrom GAAP in the US. Application of US GAAP would have affected thebalance sheet and net income (loss) to the extent described below.A description of the material differences between IFRS and GAAP asthey relate to Swisscom are discussed in further detail below.
Reconciliation of net income (loss) from IFRS toGAAP
The following schedule illustrates the significant adjustmentsto reconcile net income (loss) in accordance with US GAAP to theamounts determined under IFRS, for the current year ended December31.
(CHF in millions) | ||
Net income (loss) according toIFRS | (415) | |
US GAAP adjustments: | ||
Capitalization of interest cost | 8 | |
Restructuring charges | 205 | |
Depreciation expense | -5 | |
Capitalization of software | 182 | |
Restructuring charges byaffiliates | 50 | |
Net income according to GAAP | 25 |
Reconciliation of shareholdersâ equity from IFRS toGAAP
The following is a reconciliation of the significant adjustmentsnecessary to reconcile shareholdersâ equity in accordance with USGAAP to the amounts determined under IFRS as at December 31 of thecurrent year.
(CHF in millions) | ||
Shareholders' equity accordingto IFRS | 1230 | |
US GAAP adjustments: | ||
Capitalization of interest cost | 54 | |
Restructuring charges | 205 | |
Depreciation expense | -5 | |
Capitalization of software | 475 | |
Restructuring charges byaffiliates | 50 | |
Shareholders' equity accordingto GAAP | 2009 |
Capitalization of interest cost
Swisscom expenses all interest costs as incurred. US GAAPrequires interest costs incurred during the construction ofproperty, plant and equipment to be capitalized. Under US GAAP,Swisscom would have capitalized CHF 13 million and amortized CHF 5million for the current year.
Restructuring charges
During the current year, Swisscom recognized under IFRSrestructuring charges totaling CHF 1726 million. The followingschedule illustrates adjustments necessary to reconcile thesecharges to amounts determined under US GAAP.
Restructuringcharges in accordance with IFRS | ||
Personnel restructuringcharges | 1326 | |
Write-down of long-livedassets | 316 | |
Misc. restructuring charges | 84 | |
Total in accordance with IFRS | 1726 | |
Adjustments to restructuringcharges to accord with GAAP | (205) | |
Restructuring charges inaccordance with GAAP | 1521 |
Reconciliation of restructuring charges | ||
Restructuring chargesaccording to US GAAP consist of the following: | ||
Personnel restructuringcharges | 1228 | |
Write-down of long-livedassets | 209 | |
Misc. restructuring charges | 84 | |
Restructuring charges inaccordance with GAAP | 1521 |
Depreciation expense
Due to the difference in carrying value of long-lived assetsafter write-downs describe in (b), there is a difference in theamount of depreciation expense taken under IFRS and GAAP. Anadjustment is made for the current year to record an additional CHF5 million of depreciation under US GAAP.
Capitalization of software
Swisscom has expensed software costs as incurred. For US GAAPpurposes, external consultant costs incurred I the development ofsoftware for internal use has been capitalized. These costs arebeing amortized over a 3 year period. The capitalization ofsoftware costs accords with common practice in the UStelecommunications industry.
Swisscom has capitalized, as disclosed in the reconciliation ofnet income (loss) and shareholdersâ equity to US GAAP, CHF 220million and amortized CHF 37 million in the previous year andcapitalized CHF 370 million and amortized CHF 188 million in thecurrent year.
Restructuring charges of affiliates
During the current year, Swisscomâs share of personnel and otherrestructuring charges recorded by affiliates amounted to CHF 50million. These restructuring charges do not meet all therecognition criteria contained in EITF 94-3 and therefore cannot beexpensed in the current year, under US GAAP.
You have obtained the following information:
STATEMENT OF COMPREHENSIVE INCOME FOR THE YEAR TO 31 DECEMBER
20X8 | 20X7 | |||
Note | Draft ($m) | Actual ($m) | ||
Revenue | (1) | 645.5 | 606.5 | |
Other income | (2) | 15.6 | 14.4 | |
Changes in inventories | 3.8 | (16.4) | ||
Cost of materials | (334.1) | (286.8) | ||
Employee benefits expense | (91.0) | (83.9) | ||
Depreciation | (3) | (29.8) | (23.6) | |
Other expenses | (4) | (116.3) | (100.6) | |
Interest income, net | (5) | 12.3 | (20.9) | |
Profit before tax | 106.0 | 130.5 | ||
Income tax expense | (44.4) | (47.7) | ||
Profit for the year | 61.6 | 82.8 |
STATEMENT OF FINANCIAL POSITION AT 31 DECEMBER
20X8 | 20X7 | |||
Note | Draft ($m) | Actual ($m) | ||
Assets | ||||
Non-current assets | ||||
Intangible assets | (6) | 47.8 | 40.5 | |
Property, plant and equipment | (7) | 124.5 | 102.5 | |
172.3 | 143.0 | |||
Current assets | ||||
Inventories | (8) | 30.3 | 27.9 | |
Trade receivables | 73.1 | 50.3 | ||
Cash and cash equivalents | 111.4 | 86.0 | ||
Total assets | 387.1 | 307.2 | ||
Equity and liabilities | ||||
Equity | 5.8 | 5.8 | ||
Share capital | 15.3 | 15.3 | ||
Share premium | 112.1 | 80.1 | ||
Retained earnings | 133.2 | 101.2 | ||
Non-current liabilities | ||||
Provisions | (9) | 160.1 | 121.4 | |
Current liabilities | ||||
Trade payables | 33.5 | 31.8 | ||
Tax | 50.4 | 44.3 | ||
Other liabilities | 9.9 | 8.5 | ||
Total equity and liabilities | 387.1 | 307.2 |
Notes
(1) Revenue from business activities:
Revenue from business activities | ||
20X8 ($M) | 20X7 ($M) | |
Vehicles | 588.0 | 526.0 |
Parts and accessories | 39.6 | 36.8 |
Other | 17.9 | 43.7 |
645.5 | 606.5 |
Other income includes gains on the disposals of tangible assets and income from the reversal of provisions.
Average number of employees:
20X8 (Draft) | 20X7 (Actual) | |
Wage earners | 484 | 499 |
Salaried employees | 483 | 477 |
Apprentices and trainees | 36 | 37 |
1,003 | 1,013 |
Other expenses include costs for warranties, administration and distribution, maintenance and insurance.
Interest income, net:
20X8 (Draft ($m) | 20X7 (Actual $m) | |
Interest and similar income | 16.8 | 25.1 |
Interest and similar expenses | (4.5) | (4.2) |
12.3 | 20.9 |
Intangible assets include development costs, also franchises and industrial rights and licenses. During the year, $12.7 million (20X7 - $6.3 million) was spent on developing a new sports model, the Fox.
Property, plant and equipment:
Land and Buildings | Equipment | Assets under construction | Total | |
$m | $m | $m | $m | |
Cost | ||||
1 January 20X8 | 61.8 | 212.1 | 19.0 | 292.9 |
Additions | 5.0 | 28.9 | 9.4 | 43.3 |
Disposals | 0.0 | (4.5) | 0.0 | (4.5) |
Reclassification | 3.0 | 8.9 | (11.9) | 0.0 |
31 December 20X8 | 69.8 | 245.4 | 16.5 | 331.7 |
Depreciation | ||||
Current year | 1.9 | 18.4 | 0.0 | 20.3 |
Accumulated | 28.7 | 178.5 | 0.0 | 207.2 |
Net book value | ||||
31 December 20X8 | 41.1 | 66.9 | 16.5 | 124.5 |
31 December 20X7 | 34.9 | 48.6 | 19.0 | 102.5 |
(8) Inventories comprise:
20X8 (Draft $m) | 20X7 (Draft $m) | |
Raw materials, consumables and supplies | 8.3 | 7.3 |
Work-in-progress | 6.8 | 4.8 |
Finished goods | 15.2 | 15.8 |
30.3 | 27.9 |
(9) Provisions mainly cover manufacturing warranty, product liability and litigation risks. Also, provisions have been established for deferred maintenance and IT reorganization.
The following additional information is available:
(i) Pavia has achieved record sales in 20X8 with the delivery of 10,153 vehicles (20X7 â 7,642 vehicles).
(ii) Although some sales are direct to individual customers the majority are ordered through dealers who take new vehicles on consignment.
(iii) Since 1 January 20X8 Pavia has offered 0% finance for three years on new vehicle sales in its most competitive markets.
(iv) The launch of the Fox has been postponed from late 20X8 to early 20X9 as internal trials have revealed that the doors are not sufficiently secure at high speeds.
(v) A car part required for the Cipeta model is bought-in exclusively from an overseas manufacturer. Deliveries of supplies have been unpredictable in 20X7 causing disruption to the Cipeta model assembly schedules.
1. Evaluate how you might use analytical procedures to provide audit evidence and reduce the level of detailed substantive procedures.
N.B these are pointers are for this question:
Analytical Procedures - Examples: o Receivables - Receivables - Compare gross margin % with previous years (by product line). (Possible misstatement â Over/understatement of sales and accounts receivable). This analytics will reduce the detailed substantive procedure because we have identified that there may be a possible over/understatement of sales so now we need to perform additional audit procedures on sales/revenue. For example by selecting a sample of invoices generated throughout the year and comparing to the General Ledger to ensure completeness and accuracy. Note: Use the information in the case to calculate the analytical procedures you have identified. Also, explain how the analytical procedures will provide audit evidence and help to reduce the level of detailed substantive procedures.