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This paper consists of FOUR written test questions (100 marks).

Ensure your candidate details are on the front of your answer booklet.


Answer each question in black ball point pen only.


Answers to each written test question must begin on a new page and must be clearly
numbered. Use both sides of the paper in your answer booklet.


The examiner will take account of the way in which material is presented.

The questions in this paper have been prepared on the assumption that candidates do
not have a detailed knowledge of the types of organisations to which they relate. No
additional credit will be given to candidates displaying such knowledge.
Interest tables are provided with this examination paper.

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Copyright @ ICAEW 2013. All rights reserved.





Page 2 of 15

Bauhaus plc is an AIM-listed company that manufactures bicycles and cycling accessories.
The company is planning to obtain a full listing on the London Stock Exchange in early 2014,
following significant growth in recent years.
You are Maida Cheema, an accountant working on a short-term contract at Bauhaus, and
you receive the following email from the Bauhaus finance director, Carl McCoy.

From: Carl.McCoy@Bauhaus.com
22 July 2013
Subject: Year end 31 May 2013 financial reporting adjustments
Maida, I have a meeting with the board in the next few days and I want to be able to give
them an indication of financial performance for the year ended 31 May 2013, including
earnings per share (EPS). The consolidated financial statements are not yet finalised.
I am concerned that Andrea Eldritch, who was responsible for drafting the Bauhaus
consolidated financial statements, is inexperienced and is not familiar with IFRS. At my
request, Andrea has prepared: a file note showing outstanding issues (Exhibit 1); a draft
consolidated statement of changes in equity (Exhibit 2); and her EPS calculation (Exhibit 3).
I would like you to draft a memorandum in which you:

Explain the correct financial reporting treatment of the items in Exhibit 1 and prepare
journal entries for any adjustments you propose;

Prepare a revised consolidated statement of changes in equity for the year ended 31
May 2013; and

Determine basic and diluted EPS figures for the Bauhaus Group for the year ended 31
May 2013.

Ignore tax and deferred tax on any adjustments.

Draft the memorandum requested by Carl McCoy.
(24 marks)

Exhibits 1 3 overleaf


Page 3 of 15

Exhibit 1 File note: outstanding issues - prepared by Andrea Eldritch

Change in Bauhaus shareholding in Mission Mouldings Ltd (MM)
MM produces alloy mouldings which are used extensively in our bicycle manufacturing
On 1 January 2009, Bauhaus acquired 375,000 of the ordinary shares of MM for 32 each.
At this date MM had a share capital of 500,000 50p shares issued at par, and reserves of
2.75 million. On 1 January 2009, the net assets of MM had a fair value which was equal to
their carrying amount, with the exception of non-depreciable land, which had a fair value
400,000 higher than its carrying amount. Bauhaus has accounted for MM as a subsidiary
since 1 January 2009.
Bauhaus decided to use the fair value method to measure the non-controlling interest in MM.
The fair value of the non-controlling interest at 1 January 2009 was estimated at 25 per
There have been no goodwill impairments since acquisition, and revenue and costs accrue
evenly over the year.
On 1 March 2013, Bauhaus sold 200,000 ordinary shares in MM for 100 each. I was unsure
what to do here so I credited the sales proceeds to a suspense account. According to a file
note dated 1 March 2013, the remaining shares in MM held by Bauhaus, were valued at 80
each after the disposal. Bauhaus still appoints one director to the board of MM.
MM had reserves of 12.75 million at 1 June 2012 and made a post-tax profit of 7.2 million
in the year ended 31 May 2013. At 31 May 2013, MM had a share capital of 500,000 50p
shares. I have consolidated MMs results for the whole year and attributed 1.8 million to the
non-controlling interest, being 25% of MMs after-tax profit for the year ended 31 May 2013.
Team Bauhaus
On 1 June 2011, Bauhaus employed twelve elite cyclists as part of the creation of Team
Bauhaus to race Bauhaus bicycles in international cycling events.
Also, on 1 June 2011 Bauhaus granted each cyclist 20,000 share options. Each option
entitles the holder to subscribe for one ordinary share in Bauhaus on 31 May 2015 at the
market price on the grant date of 210. The options are exercisable subject to the cyclist
remaining with Team Bauhaus until 31 May 2015. The fair value of each option was 24 at
1 June 2011; 30 at 31 May 2012; and 28 at 31 May 2013. The average market price per
Bauhaus share during the year ended 31 May 2013 was 230.
All the cyclists were still employed on 1 June 2012 and, at that time, they were all anticipated
to remain in employment with Bauhaus until at least June 2015. However, four cyclists
unexpectedly resigned in April 2013, and left in June 2013 to join a rival team. The Team
Bauhaus manager does not expect any further departures before the vesting date.
For the year ended 31 May 2013, I have debited 6.96 million to retained earnings
(12 x 20,000 x 29 (the average fair value for the year)) in the statement of changes in
equity, and credited the same amount to the share option reserve.


Page 4 of 15

New York Wheels (NYW)

On 1 June 2012, Bauhaus bought 100% of NYWs 2 million, $1 ordinary shares for $6 each.
NYW is a bicycle distribution company in the USA. At that date 1 = $1.60.
I have debited investments and credited cash with 7.5 million.
NYW had net assets with a fair value of $8 million at 1 June 2012 and made a profit after tax
of $3 million for the year ended 31 May 2013.
I have consolidated NYW in the group income statement using the exchange rate at 1 June
2012. NYW has therefore contributed 1.875 million to group profit after tax. I have also
added this amount to the cost of the investment in NYW, making a total cost for this
investment of 9.375 million in the consolidated statement of financial position.
I understand that the average exchange rate for the year ended 31 May 2013 was 1= $1.50,
and the exchange rate at 31 May 2013 was 1= $1.45, but I dont know if these rates are of
any assistance.

Exhibit 2 Draft consolidated statement of changes in equity at 31 May 2013 prepared by Andrea Eldritch

At 31 May 2012
Profit for the year
Share option
Ordinary dividend
At 31 May 2013

Equity share






















Exhibit 3 EPS calculation for year ended 31 May 2013 - prepared by Andrea Eldritch
The consolidated profit for the year ended 31 May 2013 is 31.6 million.
The weighted average number of 10 ordinary shares for the year is 8 million.
Therefore EPS is 3.95 pence per share.


Page 5 of 15

You work in the finance department of Kare Ltd as a newly-appointed assistant to the finance
director, Jon Kildare. Kare has various activities in the private healthcare industry.
Background information
Kare is a UK-resident company incorporated in 2002 by the following consortium of corporate
% shareholding in

Country of

Trading profit for

tax purposes for
the year ended
31 March 2013

SGF Inc.



Branmoor Ltd



MYR 5.2 million

(= 1.1 million)

Branmoor has no associated companies. MYR is the currency of Malaysia.

Kare owns 80% of the ordinary shares in ResHomes Ltd, 55% of the ordinary shares in
MedServ Ltd and 95% of the ordinary shares in HGH Ltd. All the non-controlling interests in
these companies are held by a large number of individuals. ResHomes acquired 100% of
Goodhealth Ltd on 1 July 2012. All these companies have a 31 March year end.
Jon Kildare gives you the following briefing: I have left information about the tax trading
results and other related issues for Kare and its subsidiaries on your desk (Exhibit 1) and
also some tax planning and compliance proposals made by your predecessor in his handover
notes (Exhibit 2). I need to understand the group structure from a tax perspective.
Please complete the following tasks.

Explain the ways in which the tax losses for the year ended 31 March 2013 (Exhibit 1)
can be used within the current group structure.
In return for losses surrendered by Kare, its subsidiaries and shareholders have agreed
to pay to Kare an amount of cash equal to the additional tax they would otherwise have
paid. Calculate:
the maximum loss relief available to Kares subsidiaries and to the consortium
shareholders; and
the amount of cash that would be paid to Kare by the subsidiaries and
shareholders in respect of losses surrendered to them.
The Kare board considers cash flow to be an important objective. However, it would also
like to reduce tax compliance time and costs. In light of these objectives, evaluate,
making appropriate recommendations, the proposals set out by your predecessor in his
handover notes (Exhibit 2).

Prepare a working paper responding to the briefing from Jon Kildare.
(25 marks)
NOTE: Assume the RPI for January 2013 is 245.8


Page 6 of 15

Exhibit 1 Kare and subsidiaries tax trading results and related issues for the year
ended 31 March 2013
profit / (loss)



Property income


Profits from
establishment in

Kare provides general services and rents accommodation to elderly residents. All supplies
made by Kare in the UK are standard rated for VAT purposes.
Kare also operates residential homes in Ruritan, an overseas tax jurisdiction, through a
permanent establishment. The tax rate on trading profits of permanent establishments in
Ruritan is 15%. The overseas permanent establishment was set up in February 2010 and is
controlled from the UK by Kare. There is no tax treaty between the UK and Ruritan and no
election has been made to exempt the profits of the permanent establishment. The business
in Ruritan is outside the scope of VAT in the UK.
MedServ provides medical services and its supplies are entirely exempt for VAT purposes.
ResHomes operates residential care homes for the elderly. ResHomes is a partially-exempt
business for VAT purposes. ResHomes sold a residential home for 745,600 in January
2013 which had cost 400,000 in February 2006.
Goodhealth imports a range of herbal medicines and sells goods from high street stores. It
has made losses for a number of years and has significant tax losses brought forward at
1 April 2012. Management expects to return Goodhealth to profit within two years. Its
supplies are all standard rated for VAT purposes.
On 1 December 2012, Goodhealth sold a warehouse for 390,000 which was surplus to its
requirements. The warehouse cost 480,000 in February 2004.
HGH supplies goods to residential care homes. It makes mostly zero rated supplies, but also
some standard rated supplies.

Exhibit 2 overleaf


Page 7 of 15

Exhibit 2 Handover notes prepared by predecessor

Tax planning and compliance proposals
1. Kare has experienced a difficult trading period. However, following the refurbishment
of its properties, tax trading profits are expected in the year ending 31 March 2014. To
keep the administration simple, I propose that the most effective use of Kares trading
loss would be to carry it forward to set off against future trading profits.
2. Kares permanent establishment in Ruritan has made a profit for the first time in the
year ended 31 March 2013 and tax rates in Ruritan are rumoured to be decreasing. I
propose that Kare applies for an exemption from UK taxation for the profit of its
permanent establishment in Ruritan for the year ending 31 March 2014.
I also propose that Kare should then incorporate the permanent establishment on
1 April 2014. The newly incorporated Ruritanian subsidiary would raise a local
currency loan from a Ruritanian bank equivalent to 600,000. The subsidiary would
then pay Kare 600,000 for the trade and assets of its permanent establishment.
3. Goodhealth is expected to make a tax loss in the year ending 31 March 2014. The
Goodhealth board is considering closing its high street shops and selling direct to the
public online. I propose that the companys server is located overseas and goods are
delivered direct from the manufacturer in China to the UK customers. I believe that
Goodhealth will not need to charge VAT to its customers and therefore a larger profit
margin would be achieved.
4. Finally, you will find the preparation of the quarterly VAT returns very time-consuming.
I was asked to simplify tax compliance administration and I propose that Kare and all
its subsidiaries apply to be members of the same VAT group.


Page 8 of 15

You are Cary Maynard, an audit senior working for Gerrards LLP, a firm of ICAEW chartered
accountants and registered auditors. Gerrards has recently been appointed as auditor of
UniSel Ltd, following an introduction by Mary Flack, the finance director of another Gerrards
audit client, East Coast University (ECU). Gerrards first audit of UniSel is for the year ended
31 May 2013.
Your audit manager calls to give you some background information on UniSel and to explain
what he needs you to do:
Hi Cary,
I really need your help with the UniSel audit. We started our audit fieldwork last week but
Harry Lewis, who was leading our team, has broken his leg and will not be back at work for
some time.
UniSel was incorporated on 1 June 2011 by ECU and two other universities, South
University and North University, to exploit commercial opportunities arising from university
research. Each of the universities owns one-third of UniSels issued ordinary shares. The
company is too small to require an audit, but the shareholder agreement states that any
shareholder can request one. That request was made by ECU in June 2012 when Mary Flack
became concerned that the amounts invoiced by UniSel to ECU were consistently higher
than those invoiced to the other two university shareholders.
UniSel is managed on a day-to-day basis by an executive team led by Marco Nylor, chief
executive officer. Marco joined the company on its incorporation, from his previous post as
lead researcher at Smyth Laboratories (where he still retains the role of non-executive
director). He is a director of UniSel and is joined on the board by three other directors, each
representing a university shareholder. Marco has the casting vote in the event that any board
decision is tied. The UniSel director representing ECU has commented to Mary that Marco
appears to have a lot of influence in board decisions, as the directors from the other
universities tend to go along with his view.
As well as a basic salary, Marco will be awarded a bonus of 50,000 if UniSel exceeds its
budgeted revenue of 6 million. Based on the unaudited results for the year ended 31 May
2013, he can expect to receive this bonus. No provision has been made for this bonus as the
audit is not yet complete.
Just before his accident, Harry told me that progress on the audit was slow. The part-time
bookkeeper, Beatrice Bond, is helpful but she is inexperienced and knows little about the
companys operations. Marco has not been available much to answer our questions. Im
meeting Mary Flack this Friday to plan our audit of ECU and she has requested an update on
the UniSel audit. It is therefore important that as much of the audit as possible is completed
before Friday.
I have reviewed the audit working papers completed to date and have identified revenue as
one of the key outstanding areas, but I am also concerned about other financial reporting
issues. Im sending you Harrys memo on revenue (Exhibit 1), together with UniSels
summary financial statements (Exhibit 2).
Planning materiality for the audit has been set at 30,000.


Page 9 of 15

As time is short, Im keen to meet you later today to determine what we need to do to
complete the UniSel audit. For this meeting, please prepare:

A document which explains the specific audit risks and potential financial reporting
issues you have identified;
In respect of revenue only, a summary of the audit procedures that you believe we
should perform in order to obtain sufficient assurance for the year ended 31 May 2013;
Notes assessing the ethical issues arising from the audit of UniSel and which explain
how we should respond to Marys request for an update on the progress of the UniSel

Prepare the information requested by your audit manager.
(28 marks)

Exhibit 1 UniSel - Memo on revenue prepared by Harry Lewis

UniSels revenue for the year ended 31 May 2013 can be analysed as follows:
Year ended 31 May
Income from shareholder universities:
- South University
- North University
Licence and royalty income from third parties
Other income








Background and preliminary analytical procedures

Income from shareholder universities
Income from shareholder universities arises from charges made for work done by UniSel to
assist university researchers to develop commercial propositions from the outcome of their
research. This work is invoiced monthly at a daily rate of 400.
Each month the universities submit their current commercial propositions for review by
UniSels development committee. This committee is chaired by Marco Nylor and comprises
one director (currently the board representative elected by South University) and 2 senior
managers from within Marcos team. The committee determines whether each proposition
has reached the point where it can be marketed to third parties.


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At this point, UniSel enters into a licence agreement with the university from whose research
the idea has been developed. Each licence agreement transfers to UniSel the right to exploit
the intellectual property (IP) concerned in return for a licence fee payable to the originating
university. This comprises 85% of all third-party cash received arising from that IP. Once a
licence agreement has been signed, UniSel bears any costs of further development, along
with all costs of marketing and administration. Thereafter, UniSel no longer charges time to
the university at a daily rate.
Marco Nylor has indicated that UniSels income from ECU is higher than that from the other
two shareholder universities, as ECUs researchers require more assistance in progressing
commercial propositions to the point where UniSels development committee is prepared to
enter into a licence agreement.
Licence and royalty income from third parties
Licence and royalty income from third parties represents the income generated from the IP
that UniSel has licensed. This can be in the form of licence fees or royalties.
Income from third parties has increased due to royalties from contracts entered into in the
prior year and a number of new contracts. Included in revenue for the year ended 31 May
2013 are:
- an upfront licence fee of 1 million in respect of a five-year contract with Hickman
Research for the licence of Galtonin (an innovative pain relief drug) signed on 1 June
2012. Should annual revenue from sales of Galtonin exceed 5 million in any of the
5 years to 31 May 2017, royalties of 4% on the excess sales will be payable to UniSel.
No such royalty income has been recognised in the year ended 31 May 2013.
- royalties of 650,000 from a contract signed in December 2011 with OZ Inc, a US
company, under which royalties are payable based on its sales of the licensed product
for each calendar year. Of the 650,000 recognised as revenue in the year ended
31 May 2013, 300,000 relates to the calendar year ended 31 December 2012. It was
received and recognised as revenue by UniSel in February 2013. The remaining
350,000 has been recognised as accrued income, based on projected sales figures
for the five months to 31 May 2013, supplied by OZ in January 2013.
Other income
Other income represents a new income stream for UniSel and comprises fees earned from
the provision of consultancy and support services to research institutions. Income is invoiced
monthly in arrears and is recognised when it is invoiced.
The other income recognised in the year ended 31 May 2013 includes:
- 200,000 from Hickman Research for time spent by Marco Nylor and other UniSel
staff working on Galtonin.
- 350,000 from Smyth Laboratories, for consultancy work performed by UniSel staff at
a daily rate of 300.
Exhibit 2 overleaf


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Exhibit 2 UniSel - Summary financial statements for the year ended 31 May 2013
Statement of comprehensive income

Year ended 31 May


- Royalties payable to shareholder universities
under licensing agreements
- Staff costs
- Other costs





Profit before tax


Non-current assets
- Property, plant and equipment



Current assets
- Trade and other receivables
- Accrued income
- Cash and bank balances





Current liabilities
- Trade and other payables
- Deferred revenue
- Amounts due to shareholder universities



- Share capital ordinary 1 shares
- Retained earnings





Statement of financial position

Total assets

Total liabilities and equity


Page 12 of 15

Stoghopper plc manufactures machine tools for use by companies operating in the
construction and mining industries. You are a senior working for Trot, Canter and Gallop LLP
(TCG), a firm of ICAEW chartered accountants and registered auditors.
TCG is currently engaged in the audit of Stoghopper for the financial year ended
30 June 2013. Whilst not initially allocated to the Stoghopper audit, you and some colleagues
were reassigned to this client last week to replace a number of the original audit staff, who
were injured in a road traffic accident.
Engagement managers briefing
The engagement manager called you to a meeting: I realise that you have only just joined
the Stoghopper audit, so I have provided some background notes about the company
(Exhibit 1). Stoghopper has begun to establish overseas operations in Thailand in the past
year. Nancy Noonan was carrying out the audit procedures relating to this new activity, but
unfortunately she was in the car accident, so we cannot speak to her. I will, however, make
her working papers available to you (Exhibit 2).
For each of the three issues raised by Nancy (Exhibit 2), I would like you to:

set out and explain the appropriate financial reporting treatment in the financial
statements of Stoghopper for the year ended 30 June 2013; and
prepare notes describing the audit risks and related audit procedures. I do not want
general audit risks, so please focus on each of the three issues.

Do not worry about tax or deferred tax issues at this stage.

Respond to the instructions of the engagement manager.
(23 marks)

Exhibits 1 and 2 overleaf


Page 13 of 15

Exhibit 1 Company background

Stoghopper was established in 1948 as a manufacturer of high-value, high-quality machine
tools for use in the global construction and mining industries. The company has grown
steadily since incorporation, obtaining a listing on the London Stock Exchange in 1989.
In recent years, an increasing proportion of new business has come from exports. In the year
to 30 June 2012, Stoghoppers exports from the UK amounted to about one-third of its annual
revenue of 300 million. About half of these exports were to East Asia.
Stoghoppers main manufacturing site is located in southern England. However, overseas
customers, in East Asia in particular, were becoming intolerant of long lead times and
increasing delivery costs.
As a consequence, Stoghopper decided to set up a production site in Thailand, from where
exports to East Asian countries can be made more quickly and reliably than from the UK. A
factory in Thailand was completed in June 2012 and production of deep mine drilling
instruments began on 1 July 2012 (Exhibit 2 Issue 3).
Revenue for the year ended 30 June 2013 from the new Thai division amounted to 50
The factory in Thailand is an operating division with local management, but it is not a
separate subsidiary. Although day-to-day operations in Thailand are managed locally, most
of the key decisions are taken by Stoghoppers main UK board.
The divisions main bank account (the Number 1 account) is denominated in baht, the Thai
currency. All payments for Thai operating costs are made from this bank account. Receipts
from sales denominated in other currencies are paid into separate bank accounts for each
currency, but it is company policy to convert into baht by daily transfer of all balances into the
Number 1 account. No amounts have yet been remitted to the UK or converted into sterling.
Exchange rates were:
At 1 July 2012
At 31 December 2012
At 20 June 2013
At 30 June 2013
At 5 July 2013
Average for year to 30 June 2013



baht = 1
baht = 1
baht = 1
baht = 1
baht = 1
baht = 1

Page 14 of 15

Exhibit 2 Audit working paper prepared by Nancy Noonan

I have reviewed the activities of Stoghoppers Thai division and the following issues arose. I
have not yet carried out any audit procedures in respect of these matters.
Issue 1 Bank accounts
The Thai divisions management maintains a positive balance in its Number 1 bank account.
The cash balance per the bank statement at 30 June 2013 was 440 million baht.
Originally, I was told that the Number 1 account was the only bank account with a non-zero
balance at the year end. However, an amount of 2 million yuan was received into the
divisions Chinese currency (yuan) bank account from a Chinese customer on 20 June 2013.
This was not recognised in the accounting records or converted to baht until it was
transferred into the Number 1 account on 5 July 2013. The delay in conversion appears to be
an oversight.
Exchange rates were:
20 June 2013
30 June 2013
5 July 2013

5.0 baht = 1 yuan

5.1 baht = 1 yuan
5.2 baht = 1 yuan

Issue 2 Loan to supplier

On 1 July 2012, an interest-free loan of 400 million baht was made by Stoghopper to one of
its Thai suppliers, The Rangoon Company (Rangoon), in order to enable Rangoon to
purchase new and more advanced equipment to enhance the quality of its output. The loan is
repayable at par on 30 June 2014. Loans of equivalent risk in the marketplace have an
annual effective interest rate of 6%.
Issue 3 Deep mine drilling production line
On 1 July 2012, the new production facility was set up in Thailand at a cost of 600 million
baht. It produces Stoghoppers deep mine drilling instruments. The production facility had an
estimated useful life of 6 years at 1 July 2012, with a zero residual value.
In April 2013, a competitor company to Stoghopper patented a more efficient production
method to manufacture deep mine drilling instruments. The Stoghopper finance director
recognised this development as an impairment indicator and carried out an impairment test at
30 June 2013.
As a consequence of this exercise, the production facility was determined to have a value in
use of 520 million baht and a fair value less cost to sell of 470 million baht at 30 June 2013.
The finance director therefore concluded that no impairment charge would be required and
the normal depreciation charge should be made for the year.


Page 15 of 15