As mentioned in the comments the other day, if you’re coming off of SOA, you might be finding that it’s a little more difficult to score high in PMR issues on the UFE. The reason is often that you need a higher level of ‘depth’ in your discussion on the UFE.
You might be a little confused, what does it mean to get more depth in your discussion?
It essentially means you are looking more comprehensively at the issue, and where applicable, exploring alternatives and recommending the most appropriate treatment. Here is a rough framework of how you might look at an accounting issue.
1. Identify the Issue – Of course it’s paramount to find the issue itself.
2. Consider whether the accounting treatment was correct
- If No / Maybe -> Support why this is the case using case facts and make mention of handbook/conceptual framework/definitions where appropriate
3. Are there valid alternative treatments?
- Yes -> Present alternative treatments with backup from the Handbook when possible. Otherwise use definition/conceptual framework reasons.
- No -> Discuss the appropriate treatment with reference to the Handbook when possible. Otherwise to definition/conceptual framework reasons. Consider if criteria are met in this case and whether it has been accounted for correctly. Do not discuss alternatives where there are no valid ones!
- You want to consider the impact on both sides of the financial statements and quantify when possible. At minimum mention the impact (i.e. will increase liabilities resulting in a weaker balance sheet which will negatively affect the loan covenant). Remember you are discussing the issue for a client (I assume) and you need to discuss the issue with respect to how it makes a difference in their situation.
- If further information is required, mention it.
4. Recommend and/or Conclude
- Choose the alternative that is best in this situation (it should be allowed of course)
- Consider user needs or reporting objectives
- What other areas does this impact? Audit? F/S? Covenants?
Now let’s see how this can be done on a very good response. Keep in mind this is a modified version of a honour roll response so yours might not be quite as great but we’re just illustrating the point here. Also remember that this is not required for every accounting issue, only those that require more depth. Other times your analysis would take the simpler path through this framework. My comments are added in bold italics.
1) Research and Development Costs (id of issue – Clearly marked which issue we are discussing)
• Currently XYZ Corp. is capitalizing all of the costs related to the Radio Tech Project (id of issue – what they are doing now + considering if it’s correct)
• Need to assess if this is appropriate based on IFRS criteria which is as follows: (If yes/maybe -> explore issue)
Analysis: (Alternatives -> In this case it is whether criteria has been met, Do not discuss if there are no alternatives)
1) technical feasibility – unclear if this criteria is met as Bob says that “I think they have all the knowledge they need” but does not demonstrate any concrete evidence of this being the case and the third party feasibility study has yet to be completed (Go through identifying criteria using case facts)
2) Measurability – so far the costs appear to be measurable as spending has been quantified as $5.7 million in 2012
3) availability of necessary resources including financial resources – XYZ Corp. may not have the financial resources needed as it is currently asking for $21 million more in resources from ParentCo and has not been given approval that it will receive the funding
4) demonstrated future economic benefit – the future economic benefit is the 5% decrease for all products and services due to more efficient distribution
5) management intention to complete the project – management declared its intention to complete thus this criteria is met
6) ability to use or sell the technology – plan is to use in distribution to increase efficiency; it appears that it will be used thus this criteria is likely met but should be considered in conjunction with the FEB because there is no guarantee that if it is used efficiency will increase (Look how every criteria has support using case facts!)
• The above criteria indicates that several of the criteria have not been met (all are required for capitalization under IFRS)
• The technical feasibility will not be proven until the third party is completed which isn’t expected for another 60 days
• Also it is unclear whether the necessary resources have been obtained since XYZ Corp. is requesting further $21 million financing that hasn’t been approved from the EC and Bob is not sure if SableTel has the “brain power”
• Also given that the future economic benefit is dependent on increased efficiency it appears this benefit also has not been proven as it would be difficult to demonstrate these increases until the technology is complete
Conclusion: (Important – conclude in the end!)
Based on the assessment above, XYZ Corp. has not met the criteria required by IFRS in order to capitalize its research and development costs relating to the Radio Technology Project.
The $5.7 million in spending needs to be expensed for fiscal 2012 and thus assets will be reduced and expenses increased for the fiscal year. (Mention F/S Impact)
Further, the reversal of the $3.458 million was in inappropriate as IFRS does not allow that expenses which are originally expensed to be capitalized. Expenditures can only be capitalized once the criteria has been met as assessed above and then capitalization is done on a prospective basis.
The $3.5M capitalized in 2012 must be reversed again such that it remains expensed in 2011 as was originally recorded. (Looking at all areas of the F/S)
Since we’re having so much fun, let’s do one more.
There are several components of revenue that ABC will have to account for separately.
Non-Refundable Fee upon Start of Membership – This revenue must meet the following criteria in order to be recognized as revenue: (ID the issue)
(Discuss under which conditions the treatment is correct)
– Performance of the transaction has been achieved – This is achieved when persuasive evidence of an arrangement exists (the membership agreement upon the start of the membership would qualify), when the price is fixed or determinable (price is fixed at $500), and when services have been rendered. The services that this fee is expected to cover relate to operating costs of running the club over the full five year membership. As such, the revenue and services relate to the full five years of the membership and performance of the transaction is achieved partially each year until the membership expires.
– Ultimate collection is reasonably assured – as the amount is due immediately, it will likely be received immediately or shortly thereafter, as such, collection will be assured upon start of the membership. In addition, the fee is non-refundable so once collected, it will not be returned to the customer.
(Quick look at the alternatives)
The policy options are to recognize the full fee in revenue upon receipt at the beginning of the membership, defer the full fee until the membership expires, or recognize one-fifth of the fee in revenue each year of the membership. Based on the above, the last option appropriately matches the revenue to the services rendered over the life of the membership and therefore, that is my recommended option. This would result in $100 in revenue earned each year. (Recommend + Quantify impact on FS)