CA Final – Financial Reporting Test Series

CA Final - Financial Reporting

(Test on FINANCIAL INSTRUMENTS)
(FRWITHAK)

Total – 50 Marks
Time Allotted – 1 Hr 30 Mins

Important Points:
1. There is no use of just referring the question paper to check whether it is manageable.
Everything feels manageable until you solve it

2. Try to Complete the Question Paper within the given time limit

3. Read the question carefully and see what is asked in the question. Give Reference of IND AS
& Concept wherever you feel necessary

4. You are not required to match your answer word to word with ICAI. You can answer in your
own words alongwith keywords and appropriate working.

5. Don’t refer the solution of any question until you have completed the paper

6. Its fine if you are not able to recall few points. Solve how much you can & after test is over do
self evaluation and mark the areas which you were not able to recall.

BEST OF LUCK GUYS

#FRwithAK

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 CA Final – Financial Reporting Test Series
Case Study Based MCQs

Case Study 1
ABC Company issued 10,000 compulsory cumulative convertible preference shares (CCCPS) as on 1 April
20X1 @ Rs 150 each. The rate of dividend is 10% payable every year. The preference shares are
convertible into 5,000 equity shares of the company at the end of 5th year from the date of allotment. When
the CCCPS are issued, the prevailing market interest rate for similar debt without conversion options is
15% per annum. Transaction cost on the date of issuance is 2% of the value of the proceeds.
Key terms:

Date of Allotment 01-Apr-20X1

Date of Conversion 01-Apr-20X6
Number of Preference Shares 10,000
Face Value of Preference Shares 150
Total Proceeds 15,00,000
Rate of dividend 10%
Market Rate for Similar Instrument 15%
Transaction Cost 30,000
Face value of equity share after conversion 10
Number of equity shares to be issued 5,000
Effective interest rate 15.86%

(4 MCQs x 2 Marks Each)

1. How Much Transaction Cost will be allocated to Financial Liability?

A. 90056
B. 19944
C. 10056
D. 30000

2. How Much Transaction Cost will be allocated to Equity Component?

A. 90056
B. 19944
C. 10056
D. 30000

3. What is the Amount of Interest to be booked for the year ended 31/03/X5?
A. 66,758
B. 53,556
C. 38,260
D. 20,506

4. What is the amount that will be transferred to Securities Premium at the time of Conversion of CCCPS
into Equity Shares?

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 CA Final – Financial Reporting Test Series
A. 977,233
B. 50,000
C. 927,233
D. 972,233

Answer Key: 1. C 2. B 3. C 4. C

Calculation of Above Answer Jey

This is a compound financial instrument with two components – liability representing present value of future
cash outflows and balance represents equity component.
i) Computation of Liability & Equity Component

Date Particulars Cash Flow Discount Factor Net present

Value
01-Apr-20X1 0 1 0.00
31-Mar-20X2 Dividend 150,000 0.869565 130,434.75
31-Mar-20X3 Dividend 150,000 0.756144 113,421.6
31-Mar-20X4 Dividend 150,000 0.657516 98,627.4
31-Mar-20X5 Dividend 150,000 0.571753 85,762.95
31-Mar-20X6 Dividend 150,000 0.497177 74,576.55
Total Liability Component 502,823.25

Total Proceeds 1,500,000.00

Total Equity Component (Bal fig) 997,176.75

ii) Allocation of transaction costs

Particulars Amount Allocation Net Amount

Liability Component 502,823 10,056 492,767
Equity Component 997,177 19,944 977,233
Total Proceeds 1,500,000 30,000 1,470,000

iii) Accounting for liability at amortised cost:

- Initial accounting = Present value of cash outflows less transaction costs
- Subsequent accounting = At amortised cost, ie, initial fair value adjusted for interest and repayments
of the liability.
Assume the effective interest rate is 15.86%

Opening Financial Liability Interest Cash Flow Closing Financial Liability

A B C A+B-C
01-Apr-20X1 492,767 - - 4,92,767
31-Mar-20X2 492,767 78,153 150,000 4,20,920
31-Mar-20X3 420,920 66,758 150,000 3,37,678
31-Mar-20X4 337,678 53,556 150,000 2,41,234
31-Mar-20X5 241,234 38,260 150,000 1,29,494
31-Mar-20X6 129,494 20,506 150,000 -

iv) Journal Entries to be recorded for entire term of arrangement are as follows:

Date Particulars Debit Credit

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01-Apr-20X1 Bank A/c Dr. 1,470,000
To Preference Shares A/c 492,767
To Equity Component of Preference shares A/c 977,233
(Being compulsorily convertible preference shares issued. The
same are divided into equity component and liability component
as per the calculation)
31-Mar-20X2 Preference shares A/c Dr. 150,000
To Bank A/c 150,000
(Being Dividend at the coupon rate of 10% paid to the
shareholders)
31-Mar-20X2 Finance cost A/c Dr. 78,153
To Preference Shares A/c 78,153
(Being interest as per EIR method recorded)
31-Mar-20X3 Preference shares A/c Dr. 150,000
To Bank A/c 150,000
(Being Dividend at the coupon rate of 10% paid to the
shareholders)
31-Mar-20X3 Finance cost A/c Dr. 66,758
To Preference Shares A/c 66,758
(Being interest as per EIR method recorded)
31-Mar-20X4 Preference shares A/c Dr. 150,000
To Bank A/c 150,000
(Being Dividend at the coupon rate of 10% paid to the
shareholders)
31-Mar-20X4 Finance cost A/c Dr. 53,556
To Preference Shares A/c 53,556
(Being interest as per EIR method recorded)
31-Mar-20X5 Preference shares A/c Dr. 150,000
To Bank A/c 150,000
(Being Dividend at the coupon rate of 10% paid to the
shareholders)
31-Mar-20X5 Finance cost A/c Dr. 38,260
To Preference Shares A/c 38,260
(Being interest as per EIR method recorded)
31-Mar-20X6 Preference shares A/c Dr. 150,000
To Bank A/c 150,000
(Being Dividend at the coupon rate of 10% paid to the
shareholders)
31-Mar-20X6 Finance cost A/c Dr. 20,506
To Preference Shares A/c 20,506
(Being interest as per EIR method recorded)
31-Mar-20X6 Equity Component of Preference shares A/c Dr. 977,233
To Equity Share Capital A/c 50,000
To Securities Premium A/c 927,233
(Being Preference shares converted in equity shares and
remaining equity component is recognised as securities
premium)

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 CA Final – Financial Reporting Test Series

Case Study 2
Company Z is engaged in the business of importing oil seeds for further processing as well as trading
purposes. It enters into the following types of contracts as on 1 October 20X1:

Particulars Contract 1 Contract 2 Contract 3

Nature of Contract Import of oil seeds from a Purchase of oil seeds from a Contract to sell oil seeds
foreign supplier domestic producer / on the
supplier commodity exchange
100 MT at USD 400 per 50 MT at ₹ 30,000 per MT to 50 MT at USD 450 per
Quantity and rate MT to be delivered as be delivered as on 31 January MT, maturing as on 15
on 31 March 20X2 20X2 January 20X2
Net settlement
clause included in Yes Yes Yes
the contract
There have also been Yes – company Z has net Yes – these contracts are
several instances of the oil settled some of the domestic required to be net settled
seeds being sold prior to purchase contracts. with the exchange on the
or shortly after However, these instances maturity date.
taking delivery. constitute only 1 per cent of Company Z enters into
Net settlement in These instances of net the total domestic these types of derivative
practice for settlement constitute purchase contracts in value. contracts to hedge the
similar contracts approximately 30 per cent The remaining contracts are risks on its domestic oil
of the value of settled by taking delivery of oil seeds purchase contracts
total import contracts. seeds which are used for
further processing.

(2 MCQs x 2 Marks Each)

MCQ 1: Which of the Contracts is Outside the scope of IND AS 109
A : Contract 1
B : Contract 2
C : Contract 3
D : None of the Above

MCQ 2: How will the Contract which are covered under the scope of IND AS 109 be accounted for?

A : Amortised cost
B : FVOCI without recycling
C : FVTPL
D : FVOCI with recycling

Answer Key

MCQ 1 – B, MCQ 2 - C

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 CA Final – Financial Reporting Test Series
Descriptive Questions

Question 1 (8 Marks)
A Ltd. issued redeemable preference shares to a Holding Company – Z Ltd. The terms of the instrument
have been summarized below. Pass Journal Entries in the books of Z Ltd for 1 st and Last Year.

Nature Non-cumulative redeemable preference shares

Repayment: Redeemable after 5 years
Date of Allotment: 1-Apr-20X1
Date of repayment: 31-Mar-20X6
Total period: 5.00 years
Value of preference shares issued: 100,000,000
Dividend rate 0.0001%
Market rate of interest 12% per annum
Present value factor 0.56743

Solution:
Applying the guidance in Ind AS 109, a ‘financial asset’ shall be recorded at its fair value upon initial
recognition. Fair value is normally the transaction price. However, sometimes certain type of instruments
may be exchanged at off market terms (ie, different from market terms for a similar instrument if exchanged
between market participants).
For example, a long-term loan or receivable that carries no interest while similar instruments if exchanged
between market participants carry interest, then fair value for such loan receivable will be lower from its
transaction price owing to the loss of interest that the holder bears. In such cases where part of the
consideration given or received is for something other than the financial instrument, an entity shall measure
the fair value of the financial instrument.
In the above case, since A Ltd has issued preference shares to its Holding Company – Z Ltd, the
relationship between the parties indicates that the difference in transaction price and fair value is akin to
investment made by Z Ltd. in its subsidiary.
Following is the table summarising the computations on initial recognition:

Market rate of interest 12%

Present value factor 0.56743
Present value 56,742,686
Loan component 56,742,686
Investment in subsidiary 43,257,314

Subsequently, such preference shares shall be carried at amortised cost at each reporting date. The
computation of amortised cost at each reporting date has been done as follows:

Year Date Opening Asset Days Interest @ 12% Closing balance

1-Apr-20X1 56,742,686
1 31-Mar-20X2 56,742,686 365 6,809,122 63,551,808
2 31-Mar-20X3 63,533,153 365 76,26,217 71,178,025
3 31-Mar-20X4 71,157,131 365 85,41,363 79,719,388
4 31-Mar-20X5 79,695,987 365 95,66,327 89,285,707
5 31-Mar-20X6 89,285,707 365 10,714,285 100,000,000

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 CA Final – Financial Reporting Test Series
JOURNAL ENTRIES TO BE DONE AT EVERY REPORTING DATE

Particulars Amount Amount

Date of transaction
Investment - Equity portion Dr. 43,257,314
Loan receivable Dr. 56,742,686
To Bank 100,000,000
Interest income - March 31, 20X2
Loan receivable Dr. 6,809,122
To Interest income 6,809,122

Interest income - March 31, 20X6

Loan receivable Dr. 10,714,285
To Interest income 10,714,285
Settlement of transaction
Bank Dr. 100,000,000
To Loan receivable 100,000,000

Question 2 (8 Marks)
Entity A (an INR functional currency entity) enters into a USD 1,000,000 sale contract on 1 January 20X1
with Entity B (an INR functional currency entity) to sell equipment on 30 June 20X1.

Spot rate on 1st January 20X1: INR/USD 45

Spot rate on 31 March 20X1: INR/USD 57
Three-month forward rate on 31 March 20X1: INR/USD 45
Six-month forward rate on 1 January 20X1: INR/USD 55
Spot rate on 30 June 20X1: INR/USD 60
Assume that this contract has an embedded derivative that is not closely related and requires separation.
Please provide detailed journal entries in the books of Entity A for accounting of such embedded derivative
until sale is actually made.
Solution:
The contract should be separated using the 6 month USD/INR forward exchange rate, as at the date of the
contract (INR/USD = 55). The two components of the contract are therefore:
• A sale contract for INR 55 Million
• A six-month currency forward to purchase USD 1 Million at 55
• This gives rise to a gain or loss on the derivative, and a corresponding derivative asset or liability.
On delivery
1. Entity A records the sales at the amount of the host contract = INR 55 Million
2. The embedded derivative is considered to expire.
3. The derivative asset or liability (i.e. the cumulative gain or loss) is settled by becoming part of the
financial asset on delivery.
4. In this case the carrying value of the currency forward at 30 June 20X1 on maturity is = INR (1,000,000
x 60 – 55 x 1,000,000) = ₹ 5,000,000 (profit/asset)
The table summarising the computation of gain/ loss to be recorded at every period end –

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 CA Final – Financial Reporting Test Series
Date Transaction Sales Debtors Derivative (Profit) Loss
Asset
(Liability)
INR INR INR INR
1-Jan- 20X1 Embedded Derivative Nil Value
31-Mar- Change in Fair Value of (10,000,000) 10,000,000
20X1 Embedded Derivatives
MTM (55-45) x 1 Million
30-Jun- Change in Fair Value of 15,000,000 (15,000,000)
20X1 Embedded Derivatives (60-
45) x 1 Million
30-Jun- Recording sales at (55,000,000) 55,000,000
20X1 forward rate

30-Jun- Embedded derivative- 5,000,000 (5,000,000)

20X1 settled against debtors

Journal Entries to be recorded at every period end

a. 01 January 20X1 – No entry to be made
b. 31 March 20X1 –

Particulars Dr. Amount (₹) Cr. Amount (₹)

Profit and loss A/c Dr. 10,000,000
To Derivative financial liability A/c 10,000,000
(being loss on mark to market of embedded derivative booked)

c. 30 June 20X1 –

Particulars Dr. Amount (₹) Cr. Amount (₹)

Derivative financial asset A/c Dr. 5,000,000
Derivative financial liability A/c Dr. 10,000,000
To Profit and loss A/c 15,000,000
(being gain on embedded derivative based on spot rate at the date of
settlement booked)

d. 30 June 20X1 –

Particulars Dr. Amount (₹) Cr. Amount (₹)

Trade receivable A/c Dr. 55,000,000
To Sales A/c 55,000,000
(being sale booked at forward rate on the date of transaction)

e. 30 June 20X1 –

Particulars Dr. Amount (₹) Cr. Amount (₹)

Trade receivable A/c Dr 5,000,000
To Derivative financial asset A/c 5,000,000
(being derivative asset re-classified as a part of trade receivables,
bringing it to spot rate on the date of sale)

Question 3 (14 Marks)

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 CA Final – Financial Reporting Test Series
Wheel Co. Limited has a policy of providing subsidized loans to its employees for the purpose of buying or
building houses. Mr. X, who’s executive assistant to the CEO of Wheel Co. Limited, took a loan from the
Company on the following terms:
• Principal amount: 1,000,000
• Interest rate: 4% for the first 400,000 and 7% for the next 600,000
• Start date: 1 January 20X1
• Tenure: 5 years
• Pre-payment: Full or partial pre-payment at the option of the employee
• The principal amount of loan shall be recovered in 5 equal annual instalments and will be first
applied to 7% interest bearing principal
• The accrued interest shall be paid on an annual basis
• Mr. X must remain in service till the term of the loan ends
The market rate of a comparable loan available to Mr. X, is 12% per annum.
Following table shows the contractually expected cash flows from the loan given to Mr. X:
(amount in ₹)

Inflows
Date Outflows Principal Interest Interest income Principal
income 7% 4% outstanding
1-Jan-20X1 (1,000,000) 1,000,000
31-Dec-20X1 200,000 42,000 16,000 800,000
31-Dec-20X2 200,000 28,000 16,000 600,000
31-Dec-20X3 200,000 14,000 16,000 400,000
31-Dec-20X4 200,000 - 16,000 200,000
31-Dec-20X5 200,000 - 8,000 -
Mr. S, pre-pays ₹200,000 on 31 December 20X2, reducing the outstanding principal as at that date to
₹400,000.
Following table shows the actual cash flows from the loan given to Mr. X, considering the pre-payment
event on 31 December 20X2: (amount in ₹)

Inflows
Date Outflows Principal Interest Interest income Principal
income 7% 4% outstanding
1-Jan-20X1 (1,000,000) 1,000,000
31-Dec-20X1 200,000 42,000 16,000 800,000
31-Dec-20X2 400,000 28,000 16,000 400,000
31-Dec-20X3 200,000 - 16,000 200,000
31-Dec-20X4 200,000 - 8,000 -
31-Dec-20X5 - - - -
Record journal entries in the books of Wheel Co. Limited considering the requirements of Ind AS 109.
Solution:

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 CA Final – Financial Reporting Test Series
As per requirement of Ind AS 109, a financial instrument is initially measured and recorded at its fair
value. Therefore, considering the market rate of interest of similar loan available to Mr. X is 12%, the fair
value of the contractual cash flows shall be as follows:

Inflows Discount
Date Principal Interest income Interest income factor @12% PV
7% 4%
31-Dec-20X1 200,000 42,000 16,000 0.8929 2,30,357
31-Dec-20X2 200,000 28,000 16,000 0.7972 1,94,515
31-Dec-20X3 200,000 14,000 16,000 0.7118 1,63,709
31-Dec-20X4 200,000 - 16,000 0.6355 1,37,272
31-Dec-20X5 200,000 - 8,000 0.5674 1,18,025
Total (fair value) 8,43,878
Benefit to Mr. X, to be considered a part of employee cost for Wheel Co. ₹ 1,56,121
The deemed employee cost is to be amortised over the period of loan i.e. the minimum period that Mr. X
must remain in service.
The amortization schedule of the ₹ 843,878 loan is shown in the following table:

Date Loan outstanding Total cash inflows (principal repayment + Interest @ 12%
interest
1-Jan-20X1 843,878
31-Dec-20X1 687,143 258,000 101,265
31-Dec-20X2 525,600 244,000 82,457
31-Dec-20X3 358,672 230,000 63,072
31-Dec-20X4 185,713 216,000 43,041
31-Dec-20X5 (0) 208,000 22,287*
* Difference is due to approximation.
Journal Entries to be recorded at every period end:
i) 1 January 20X1 –

Particulars Dr. Amount Cr. Amount

(₹) (₹)
Loan to employee A/c Dr. 843,879
Pre-paid employee cost A/c Dr 156,121
To Cash A/c 1,000,000
(Being loan asset recorded at initial fair value)

ii) 31 December 20X1 –

Particulars Dr. Amount Cr. Amount
(₹) (₹)
Cash A/c Dr. 258,000
To Interest income (profit and loss) @12% A/c 101,265
To loan to employee A/c 156,735
(Being first instalment of repayment of loan accounted for using the
amortised cost and effective interest rate of 12%)

Employee benefit (profit and loss) A/c Dr. 31,224

To Pre-paid employee cost A/c 31,224
(Being amortization of pre-paid employee cost charged to profit and
loss as employee benefit cost)
On 31 December 20X2, due to pre-payment of a part of loan by Mr. X, the carrying value of the loan shall
be re-computed by discounting the future remaining cash flows by the original effective interest rate.

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There shall be two sets of accounting entries on 31 December 20X2, first the realisation of the contractual
cash flow as shown in (c) below and then the accounting for the pre- payment of ₹ 200,000 included in (d)
below:

iii) 31 December 20X2 –

Particulars Dr. Amount Cr. Amount

(₹) (₹)
Cash A/c Dr. 244,000
To Interest income (profit and loss) @12% A/c 82,457
To loan to employee A/c 161,543
(Being second instalment of repayment of loan accounted for using
the amortised cost and effective
interest rate of 12%)

Employee benefit (profit and loss) A/c Dr 31,224

To Pre-paid employee cost A/c 31,224
(Being amortization of pre-paid employee cost
charged to profit and loss as employee benefit cost)

Computation of new carrying value of loan to employee:

Inflows Discount
factor @12%
Date Principal Interest income Interest income PV
7% 4%
31-Dec-20X3 200,000 - 16,000 0.8929 192,857
31-Dec-20X4 200,000 - 8,000 0.7972 165,816
Total (revised carrying value) 358,673
Less: Current carrying value 525,601
Adjustment required 166,928
The difference between the amount of pre-payment and adjustment to loan shall be considered a gain,
though will be recorded as an adjustment to pre-paid employee cost, which shall be amortised over the
remaining tenure of the loan.

iv) 31 December 20X2 prepayment–

Particulars Dr. Amount Cr. Amount

(₹) (₹)
Cash A/c Dr. 200,000
To Pre-paid employee cost A/c 33,072
To loan to employee A/c 166,928
(Being gain to Wheel Co. Limited recorded as an adjustment to pre-
paid employee cost)

The amortisation schedule of the new carrying amount of loan shall be as follows:

Date Loan outstanding Total cash inflows (principal Interest @ 12%

repayment +
interest
31-Dec-20X2 358,673
31-Dec-20X3 185,714 216,000 43,041
31-Dec-20X4 - 208,000 22,286

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Amortisation of employee benefit cost shall be as follows:

Date Balance Amortised to P&L Adjustment

1-Jan-20X1 156,121
31-Dec-20X1 124,897 31,224
31-Dec-20X2 60,601 31,224 33,072
31-Dec-20X3 30,300 30,300
31-Dec-20X4 - 30,300

v) 31 December 20X3 –

Particulars Dr. Amount Cr. Amount

(₹) (₹)
Cash A/c Dr. 216,000
To Interest income (profit and loss) @12% A/c 43,041
To loan to employee A/c 172,959
(Being third instalment of repayment of loan accounted for using the
amortised cost and effective interest rate of 12%)

Employee benefit (profit and loss) A/c Dr 30,300

To Pre-paid employee cost A/c 30,300
(Being amortization of pre-paid employee cost charged to profit and
loss as employee benefit cost)

vi) 31 December 20X4 –

Particulars Dr. Amount Cr. Amount

(₹) (₹)

Cash A/c Dr 208,000

To Interest income (profit and loss) @12% A/c 22,286
To loan to employee A/c 185,714
(Being last instalment of repayment of loan accounted for using the
amortised cost and effective interest rate of 12%)

Employee benefit (profit and loss) A/c Dr 30,300

To Pre-paid employee cost A/c 30,300
(Being amortization of pre-paid employee cost charged to profit and loss as
employee benefit cost)

Question 4 (8 Marks)
On 1st April, 20X1, a bank provides an entity with a four-year loan of ₹ 5,000 on normal market terms,
including charging interest at a fixed rate of 8% per year. Interest is payable at the end of each year. The
figure of 8% is the market rate for similar four - year fixed-interest loans with interest paid annually in
arrears. Transaction cost of ₹ 100 is incurred on originating the loan. Effective interest rate in this case is
8.612%.
In 20X1-20X2, the entity experienced financial difficulties. On 31st March, 20X2, the bank agreed to modify
the terms of the loan. Under the new terms, the interest payments in 20X2-20X3 to 20X4-20X5 will be
reduced from 8% to 5%. The entity paid the bank a fee of ₹ 50 for paperwork relating to the modification.
Analyse whether the modification of the loan terms constitutes an extinguishment of the original financial
liability or not.
Solution:

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Since the interest was initially set at the market rate, on 1st April, 20X1 the entity on initial recognition will
measure the loan at the transaction price, less transaction costs i.e. at ₹ 4,900.
The following is the original amortised cost calculation at 1st April, 20X1:

Time Carrying amount Effective Interest Cash outflow Carrying amount

at 1st April @ 8.612% at 31st March
(a) (b=ax8.612%) (c=5000x8%) (d = a + b - c)
20X1-20X2 4,900.00 421.99 (400.00) 4,921.99
20X2-20X3 4,921.99 423.88 (400.00) 4,945.87
20X3-20X4 4,945.87 425.94 (400.00) 4,971.81
20X4-20X5 4,971.81 428.19 (5,400.00) –
At 31st March, 20X2:
1. The present value of the remaining cash flows of the original financial liability is ₹ 4,921.99 discounted
at the original effective interest rate of 8.612%.
2. The present value of the cash flows under the new terms discounted using the original effective
interest rate is ₹ 4,537.25 (Refer W.N.). Including the ₹ 50 fee, the present value of the total cash flows
is ₹ 4,587.25.
3. The difference between ₹ 4,921.99 and ₹ 4,587.25 is ₹ 334.74 which is only 6.8% (₹ 334.74 ÷ ₹
4,921.99) of the present value of the remaining cash flows of the original financial liability.
The entity applies its judgement to decide whether the terms of the instruments exchanged are
substantially different. Since the difference of the discounted present value of the cash flows under the new
terms, including any fees paid net of any fees received and discounted using the original effective interest
rate, is less than 10% of the present value of the remaining cash flows of the original financial liability, this
modification should not be considered a substantial modification of the terms of the existing loan.
Therefore, the modification would not be accounted for as an extinguishment of the original financial
liability.
Working Note:
The calculation of the present value of the cash flows under the new terms discounted using the original
effective interest rate is as follows:
Time Cash outflow Discounting factor @ Present value at 31st
8.612% March
31st March, 20X3 250.00 0.921 230.25
31st March, 20X4 250.00 0.848 212.00
31st March, 20X5 5,250.00 0.780 4,095.00
Total present value 4,537.25

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