Chapter 5 - Accounting Policies, Changes in Accounting Estimates and Errors (Compatibility Mode)

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CHAPTER 5
ACCOUNTING POLICIES,
CHANGES IN ACCOUNTING
ESTIMATES AND ERRORS
MA. Nguyen Quoc Nhat
Connolly – International Financial Accounting and Reporting – 4th Edition
5.1 INTRODUCTION
• Conceptual Framework for Financial Reporting 2010

(See Chapter 1, Section 1.3)
• IAS 1 Presentation of Financial Statements (See

Chapter 2)
5.2 IAS 8 ACCOUNTING POLICIES, CHANGES IN

ACCOUNTING ESTIMATES AND ERRORS
Objective:
• To prescribe the criteria for selecting and changing
accounting policies, together with the accounting treatment
and disclosure of changes in accounting policies, changes in
accounting estimates and correction of errors
Scope:
• All financial statements prepared in accordance with
IASs/IFRSs
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Key definitions
• Accounting Polices
The specific principles, bases, conventions, rules and
practices applied by an entity in preparing and presenting FS
• Prior Period Errors
Omissions from, and misstatements in, the entity’s FS for
one or more prior periods arising from a failure to use, or
misuse of, reliable information that:
 was available when FS for those periods were authorised
for issue; and
 could reasonably be expected to have been obtained and
taken into account in the preparation and presentation of
those FS.
Such errors include the effects of mathematical mistakes,
mistakes in applying accounting policies, oversights or
misinterpretations of facts, and fraud.
Accounting policies
• Select in accordance with IAS/IFRS or interpretation, or

judgement if none available
• APs normally kept the same to ensure comparability of FS
over time.
• Change when
Required by an IFRS – therefore follow transitional
arrangements if provided, otherwise apply change
retrospectively
Voluntarily, i.e. results in better quality financial statements
– therefore apply change retrospectively
Retrospective changes in accounting policies

 Adjust the opening balance of each effected component
and any other relevant comparative amounts as if the new
accounting policy had always been applied. This means
that there will be a PPA to the balance of retained earnings
b/f in the statement of changes in equity
 Comparative information should be restated unless
impracticable to do so
 When a change in AP has a material effect on the current
period or any prior period presented, or may have a
material effect in subsequent periods, the following
disclosures should be made:
o Reasons for change;
o Amount of adjustment recognised in the current period;
o Amount of adjustment included in each period prior to
those included in the FS.
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Example 5.1: Retrospective change in accounting policy

Raven Limited has traditionally valued its inventory using the weighted
average method of valuation. During the year ended 31 December 2012, the
directors of Raven Limitd decided to change the method of inventory
valuation to the FIFO method in order to give a fairer presentation of the
company’s results and financial position.
The reported retained earnings of Raven Limited at 31 December 2010 were

€/€2,500,000 and extracts from the company’s financial statements for each
of the last three year, on the basis of inventory being valued on a weighted
average basis, are provided below are:
Year End 2010 (€) 2011 (€) 2012 (€)
Cost of sales 830,000 904,000 968,000
Profit after tax 50,000 80,000 105,000
Inventory valuation:
Weighted Average 275,000 257,000 304,000
FIFO 296,000 294,000 365,000
Example 5.1: Retrospective change in accounting policy
Cont’d
Requirement
Based on the information provided, show how the change in
inventory valuation method will be reflected in the financial
statements of Raven Limited for the year ended 31 December
2012.
Example 5.3: Change in presentation

The directors of Texas have decided to include the depreciation
charge for the year ended 31 December 2012 in cost of sales
rather than administrative expenses, as was previously the
policy.
Requirement
Outline the impact of this change, if any on the presentation of
the financial statements for the year ended 31 December 2012.
Solution:
In the 2012 FS, while no changes are required to the figures,
additional disclosures are required. For example, comparative
information (2011) should be re-stated (unless it is impractical
to do so), together with an explanation as to why the new policy
will provide reliable and more relevant information
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Accounting estimates
• Estimates may be required for:
 bad debts;
 warranty obligations;
 inventory obsolescence; and
 useful lives of depreciable assets etc.
• Changes in estimates result from new information or new
developments relating to assets and liabilities. Accordingly, they are
not corrections of errors.
i.e. if changes occur in the circumstances on which the estimate was
based or as a result of new information. This does not relate to prior
periods and is not the correction of an error.
The effect of a change in estimate should be recognised
prospectively in the SPLOCI in the period of the change and/or future
periods (e.g. bad debts, RUEL of PPE).
If the effect of the change is material, its nature and amount must be
disclosed.
See Chapter 21, Examples 21.4-21.6
Example 5.4: Change in accounting estimate (1)
Previously, Blackbird Limited depreciated plant and equipment

using the reducing balance method at 20% per annum.
The company is proposing to depreciate plant and equipment
using the straight line method over five years.
Requirement
Explain the appropriate accounting treatment in accordance
with IAS 8 and IAS 16.
Solution:
This decision involves a change in estimate (not accounting
policy) as the policy is still to write off the cost of the plant and
equipment over its EUEL. The change is made prospectively.
Example 5.5: Change in accounting estimate (2)

Apple Limited reviews its depreciation policy annually. At the
most recent review for the year ended 31 December 2012, the
directors decided that the remaining useful life of the machine
at 1 January 2012 was three years. Additional information in
relation to machinery is as follows:
Machinery - cost at the date of acquisition 1-1-09
€3,600,000
Estimated useful life at 1-1-09 10 years
Estimated residual value as at 1-1-09 Nil
Requirement
Explain how to account for this change in the useful economic
life of machinery in the financial statements of Apple Limited for
the year ended 31 December 2012.
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Correction of prior period errors

• Errors are material omissions from or misstatements in FS
e.g. mathematical mistakes, mistakes in applying accounting policies,
oversights or misinterpretation of facts and fraud
• Current period errors are corrected before the FS are issued
• Sometimes material errors are not discovered until a later period. These
should be corrected retrospectively in the first set of FS issued after
their discovery by:
 restating the opening balance of assets, liabilities and equity as if the
error had never occurred, and presenting the necessary adjustment,
to the opening balance of accumulated profits in the statement of
changes in equity; and
 restating the comparative figures, as if the error had never occurred.
• Disclosure:
 nature of the PPE;
 amount of correction to each FS line item presented for the prior
periods; and
 amount of correction at the beginning of the earliest prior period
presented.
Example 1
Honda Limited made a provision for corporation tax of €500,000
for the year ended 31 December 2013. In March 2014 this
provision was agreed by the Revenue and paid at €540,000.
Requirement
Explain how this should be accounted for in Honda Limited’s
financial statements.
Example 1
Solution
This is the correction of an accounting estimate and not
an error. The correction will be made by increasing the
tax charge for the year ended 31 December 2014 by
€40,000. The effect of the correction on the 2014 profits
needs to be disclosed.
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Example 5.7: Prior period error

Angel plc has a retained profit of €32,781 for the year ended 31
December 2012 and its balance on retained earnings stood at
€709,311 on 1 January 2012. It has been discovered, while
producing the 2012 financial statements, that the closing
inventory figure as at 31 December 2011 was overstated by
€48,099, thus overstating the profit for the year ended 31
December 2011 by €48,099 (the retained profit figure for the
year ended 31 December 2012 has been determined by using
the correct inventory figure as at 1 January 2012). The retained
profit for the year ended 31 December 2011 was originally
stated at €90,342, using the incorrect closing inventory
figure.
21.3 DISCLOSURES
1. Changes in Accounting Policies (see Example 21.1 and Example 21.2)
(a) reason for change;
(b) amount of the adjustment on the current period and for each period
presented; and
(c) the fact that comparative figures have been restated or that it was not
practicable to do so.
2. Correction of Errors (see Example 21.7)

(a) the nature of the prior period error;
(b) the amount of the correction for each period presented;
(c) the amount of the correction at the start of the earlier prior period presented;
and
(d) if retrospective correction is not practicable, a description of how and when
the error was corrected.
3. Changes in Accounting Estimates (see Example 21.4 and Example 21.5)

(a) the nature of the change;
(b) the effect on the current periods financial statements; and
(c) the effect in future periods if this is practicable.
SUMMARY
Current Prior Period

Period Adjustment
Adjustment
Change in 
accounting policy
Correction of 
material errors
Change in 
accounting estimate

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17/01/2018

Connolly – International Financial Accounting and Reporting – 4th Edition

• Conceptual Framework for Financial Reporting 2010

• IAS 1 Presentation of Financial Statements (See

Connolly – International Financial Accounting and Reporting – 4th Edition

5.2 IAS 8 ACCOUNTING POLICIES, CHANGES IN

Connolly – International Financial Accounting and Reporting – 4th Edition

Connolly – International Financial Accounting and Reporting – 4th Edition

• Select in accordance with IAS/IFRS or interpretation, or

Connolly – International Financial Accounting and Reporting – 4th Edition

Retrospective changes in accounting policies

Example 5.1: Retrospective change in accounting policy

The reported retained earnings of Raven Limited at 31 December 2010 were

Connolly – International Financial Accounting and Reporting – 4th Edition

Example 5.1: Retrospective change in accounting policy

Connolly – International Financial Accounting and Reporting – 4th Edition

Example 5.3: Change in presentation

Connolly – International Financial Accounting and Reporting – 4th Edition

Connolly – International Financial Accounting and Reporting – 4th Edition

Example 5.4: Change in accounting estimate (1)

Previously, Blackbird Limited depreciated plant and equipment

Connolly – International Financial Accounting and Reporting – 4th Edition

Example 5.5: Change in accounting estimate (2)

Correction of prior period errors

Connolly – International Financial Accounting and Reporting – 4th Edition

Connolly – International Financial Accounting and Reporting – 4th Edition

Connolly – International Financial Accounting and Reporting – 4th Edition

Example 5.7: Prior period error

Connolly – International Financial Accounting and Reporting – 4th Edition

2. Correction of Errors (see Example 21.7)

3. Changes in Accounting Estimates (see Example 21.4 and Example 21.5)

Connolly – International Financial Accounting and Reporting – 4th Edition

Current Prior Period

Connolly – International Financial Accounting and Reporting – 4th Edition

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