FAR222 Financial Accounting and Reporting

Assessment 2

Pre-release scenario

Happy Entertainment Limited (HEL)

Happy Entertainment Limited (HEL) is an unlisted Australian company. HEL was established twenty years ago by the Abadi family and has since experienced consistent growth. HEL is engaged directly by television networks to produce television shows for broadcast in Australia and New Zealand. HEL enters into a separate contract for each season of a television series that it produces, and it usually has multiple concurrently occurring contracts.

HEL holds a 75% shareholding in Ping Podcasts Limited (Ping) and a 100% interest in Studio Overload Limited (SOL). HEL, Ping and SOL form the HEL Group, and they share a common board of directors. The HEL Group prepares consolidated financial statements.

Ping is a podcast production company that records, edits and publishes podcasts.

SOL operates several state-of-the-art recording studios across Australia and New Zealand that specialise in sound recording, mixing, and audio production of instrumental or vocal musical performances and advertisements.

The HEL Group is currently experiencing significant growth. Net profit before tax has doubled over the last five years.

You are a senior accountant at Beyond Bean Counting Chartered Accountants (BBC). BBC has been engaged on an advisory basis by HEL for the past seven years.

Assessment 2: Part 2A

In Assessment 2, Part 2A, you will focus on HEL’s subsidiaries, Ping and SOL.

Review the information and complete Task 1 and Task 2 before starting the Assessment 2, Part 2A online quiz. The quiz questions are based on your solutions to these two tasks.

Information for ‘Part 2A: Task 1 – Ping’

Review transactions 1–5 and then complete Task 1 – Ping, below.

Transaction 1

On 1 July 20X0 Ping entered into a lease for retail premises. The details of the lease are as follows:

* Additional to the fixed annual lease payment is another payment equal to 2.5% of earnings before interest and tax (EBIT) of Ping for the same financial year. Details of Ping’s EBIT over the term of the lease is as follows:

These additional lease payments are made on 30 September of the following year – ie the payment for the year ended 30 June 20X1 will be made on 30 September 20X1.

Transaction 2

On 1 July 20X0, Ping loaned $500,000 to Belvedere Limited, a start-up podcast streaming business. The details of the loan are as follows:

Ping incurred legal fees of $6,000 to draw up the loan agreement.

At 30 June of 20X1 and 20X2, Ping was confident that the loan would be repaid in full on 30 June 20X5. However, during the year ended 30 June 20X3, Ping learned that Belvedere was having trading difficulties and determined that there was an increased likelihood of Belvedere defaulting on the payment of the principal owing on 30 June 20X5.

These trading difficulties continued into the year ended 30 June 20X5.

The likelihood of an expected credit loss (ie a 100% default) by Belvedere has been assessed as follows:

Despite the trading difficulties experienced, Belvedere repaid the $500,000 in full on 30 June 20X5.

Transaction 3

The directors of Ping decided to implement a share option scheme to incentivise its key employees.

On 1 July 20X1, 50,000 share options each were granted to Jason Keegan (CEO) and Brandy Shay (CFO) under the share option scheme. The vesting of the share options is conditional on Jason and Brandy meeting a three-year service condition, and on the share price of Ping’s shares increasing from $6.50 on 1 July 20X1 to $10 or more by 30 June 20X4.

After applying an option pricing model based on the probability of the share price increasing to $10 by 30 June 20X4, Ping determined that the fair value of the share options on 1 July 20X1 is $3 per option.

Due to tough trading conditions in the year ended 30 June 20X2, Ping’s share price fell from $6.50 to $4.80, and the fair value of the share options granted to Jason and Brandy fell to $2.50 per option at 30 June 20X2.

On 1 July 20X2, in response to the fall in the share price, Ping reduced the share option scheme target share price to

$8. The reduction in the target share price subsequently changed the fair value of the share options to $4.50 at 1 July 20X2.

Both Jason and Brandy were still employed by Ping at 30 June 20X4, thereby meeting the service condition. However, the share price did not reach the $8 target.

Transaction 4

On 1 July 20X2, Ping purchased an item of recording equipment at a cost of $300,000. The estimated residual value of the recording equipment was nil, and it is being depreciated on a straight-line basis over eight years. The equipment is accounted for under the cost model under IAS 16 Property, Plant and Equipment.

Due to an economic downturn, the equipment was not operating at full capacity at the reporting date of 30 June 20X3, indicating impairment. The recoverable amount of the recording equipment at that date was determined to be $210,000.

At 30 June 20X4, due to an economic upswing, the recording equipment is now operating at full capacity. The recoverable amount of the machine is now determined to be $230,000.

Transaction 5

On 1 October 20X0, Ping entered into a contract with Juliet Zhang, an independent podcaster. Juliet contracted Ping to produce a twelve-episode season of VanLife, a podcast based on Juliet’s 12-month driving trip around Australia in a converted delivery van. Each episode will be 30 minutes long and will be delivered monthly, commencing January 20X1.

Ping offers a selection of production packages. As part of the contract, Juliet selected the Production Plus package, one of Ping’s most popular podcast packages. The Production Plus package includes the following:

• Set up and registration of the podcast with Apple Podcasts and Spotify
• Creation of a trailer episode
• Podcast artwork package
• Promotional audiogram
• Producer support
• Podcast

For this package, Juliet agreed to pay an upfront fee of $2,750 on 1 November 20X0, followed by twelve monthly payments of $450 per month, commencing 1 January 20X1.

Details of the standalone selling prices for each element of the Production Plus package and delivery dates are as follows:

By 30 June 20X1, six episodes of VanLife had been produced and Juliet had made all payments to date on time.

Information for ‘Part 2A: Task 2 – SOL’

The draft financial statements for SOL for the year ending 30 June 20X1, including notes to the financial statements, are provided below. This information is final; however, the tax calculations have not been prepared.

Review the financial statements and then complete Task 2 – SOL, below.

Draft financial statements

Notes

1. On 1 January 20X1, SOL received a government grant for a government program aimed at further developing the local recording The grant is not assessable for tax purposes.
2. On 1 July 20W9, SOL purchased a 5-year debenture investment for $4,875,000, which management intends to hold to maturity. Transaction costs of $13,750 were paid. The debenture has an effective rate of 3.4927% and a coupon rate of 3%. Interest of $150,000 is received annually on 30 June each year. Interest revenue is included within ‘Other income’.

For tax purposes, interest revenue is not assessable, but the interest received is assessable. Gains/losses due to movements in fair value are assessable on the sale or maturity of the debenture. Any transaction costs are immediately deductible for tax purposes.

3. Property, plant and equipment (PPE) is depreciated for accounting purposes over its useful life in accordance with IAS 16 Property, Plant and Equipment. For tax purposes, PPE is depreciated in accordance with schedule of rates as issued by the Taxation Authority.

All classes of PPE are measured at cost.

The movement in PPE for accounting purposes for the year ended 30 June 20X1 is detailed as follows:

Plant was sold for proceeds of $100,000. This plant had a tax base of $120,000. The accounting loss on sale is included within ‘Other expenses’.

The opening tax written down value at 1 July 20X0 of the PPE was $12,760,000, and the tax depreciation for the year ended 30 June 20X1 is $3,600,000.

4. The allowance for expected credit losses as recognised in the Statement of Financial Position is as follows:

A deduction for bad debts is allowed for tax purposes when the amount (receivable) has previously been brought to account as income and the debt has been specifically written off. The impairment expense recognised in the SPLOCI (and included in other expenses) for the year ended 30 June 20X1 was $500,000.

5. The balance of ‘Other assets’ relates to prepayments which consists entirely of prepaid insurance. The insurance expense recognised in the SPLOCI for the year ended 30 June 20X1 was $800,000. A deduction is allowed for tax purposes when the payment is
6. On 1 July 20W4, SOL purchased a 15% interest in RecordMe for $4,500,000. This investment is a strategic investment that management has elected to classify at fair value through other comprehensive income. No dividends were received in respect of this investment during the year ended 30 June 20X1.

The balance in the reserves account in the statement of financial position relates to the investment in RecordMe. For tax purposes, gains/losses due to movements in fair value are assessable on the sale of the investment.

7. The following represents the movement in the ROU asset account balance during the current year:

The following represents in the movement in the lease liability account balance during the current year:

The depreciation, impairment loss and interest expense are not deductible for tax purposes. Lease payments are deductible for tax purposes.

8. The provision for employee entitlements relates to annual leave, long service leave, and sick leave recognised for employees, in accordance with national and state legislation under IAS 19 Employee Benefits.

The expenses reflected as part of employee benefits expenses in the SPLOCI in relation to these provisions for the year ended 30 June 20X1 was $900,000.

A tax deduction is available for each of these provisions when payment is made.

9. 2,500,000 additional shares were issued during the year, raising an additional $2,500,000. Costs of $50,000 were incurred in issuing these shares. The share issue costs are deductible for tax purposes at the time of
10. A dividend of $3,500,000 was paid during the

All other items not discussed above are treated the same for both accounting and tax purposes.

Assessment 2: Part 2B

In Assessment 2, Part 2B, you will be required to complete a file note for HEL Group’s Chief Financial Officer (CFO), Tiggy Swan, about the revenue recognition, ethical considerations and accounting policy note disclosure for HEL for the year ended 30 June 20X1.

Review the scenario information below and then complete the task. Complete your answer in the template provided online in the Assessment 2 pre-release scenario page and submit it online via the Assessment 2, Part 2B submission box.

HEL and TNNZ

On 1 April 20X0, HEL signed a contract with Twelve Network New Zealand (TNNZ) to produce the second season of the television show “Dancing on the Spectrum” (“DoTS”). The program follows six adults, who have been diagnosed with autism spectrum disorder (ASD), undertaking dancing lessons with an experienced dance partner in order to increase their self-confidence and comfort with social participation.

Season two is to consist of ten episodes – episode one is an introduction to the contestants, episodes two to nine follow the contestants’ progress, and the series culminates in a dance competition in the final episode.

The contract between HEL and TNNZ includes a clause that requires the production of season two of DoTS to be fully delivered by 31 December 20X1.

The schedules for contract payments and episode delivery dates are as follows:

The contract imposes penalties to the total contract value for late delivery of episodes.

For the application of penalties, the contract with TNNZ defines ‘late delivery’ as more than 72 hours after the end of the relevant date. All penalties are applicable to the total contract value.

Penalty amounts are recovered by TNNZ through an adjustment to the final two contract payments, as per the following table:

As at 30 June 20X0, pre-production activities were progressing ahead of schedule. HEL had received all instalment payments as per the schedule and did not foresee late delivery of any episodes. However, in May 20X1, an increase in local COVID-19 cases caused concern for the safety of the contestants and production staff. Production of season two of DoTS was affected by COVID-19 in the following ways:

• On 15 May 20X1, production on the show was shut down. At this time, HEL had met all milestones to date as per the contract payment schedule and was set to deliver all episodes on time. Initially, the shutdown was expected to last only a few weeks so no major delays were
• In mid-June 20X1, it was determined that health and safety was still a major concern. The production shutdown was extended until 15 August 20X1. As a result, HEL anticipated that, despite being able to employ additional staff once production resumed, it would not be able to deliver any episodes until mid-September
• From 30 September 20X1 (episode 5) and onwards, HEL was expected to be able to return to the delivery

HEL recognises revenue for its television productions using the percentages from the contract payment schedule, since HEL considers that payment progress depicts the value to the customer of the performance completed to date.

HEL and Fluffy Media

In August 20X1, due to HEL’s consistent growth, the Abadi family were approached by Fluffy Media, an international television production company. Fluffy Media expressed interest in purchasing a 49% stake in HEL. As part of the negotiations, Fluffy Media has requested draft financial statements for HEL for the 20X1 financial year by 31 August 20X1.

Tiggy Swan, HEL’s CFO, is an experienced Chartered Accountant. Tiggy prepares HEL’s annual financial statements and approaches your accounting firm, BBC, for advice and for a final review of the financial statements before they are submitted to the auditor.

Tiggy has emailed you to ask for help with preparing the revenue section of the financial statements for the year ended 30 June 20X1:

Current Revenue Recognition Policy Note

HEL recognises revenue in an amount that reflects the consideration HEL expects in exchange for satisfying performance obligations to transfer the goods or services promised in contracts with customers. This is in accordance with the following steps:

• Step 1: Identify the contract with a customer
• Step 2: Identify the performance obligations in the contract
• Step 3: Determine the transaction price
• Step 4: Allocate the transaction price to the performance obligations in the contract
• Step 5: Recognise revenue when (or as) HEL satisfies a performance obligation

IFRS 15 requires the determination of the number of performance obligations and whether each performance obligation is satisfied at a point in time or over time – at which point the right to consideration becomes unconditional, as only the passage of time is required before payment is made.

In respect of its television productions, HEL has determined that each series of a program represents a single performance obligation which contains specified, agreed milestones under the contract. HEL has determined that the performance obligation is satisfied over time, based on the fulfilment of milestones, consistent with the manner and timing as stated in the contract and recognises revenue over time on this basis.

The transaction price, being the consideration to which HEL expects to be entitled and has rights to under the contract, is allocated to the identified performance obligations. The transaction price also includes an estimate of any variable consideration included in the contract. As HEL has determined that each contract related to the production of a television series consists of a single performance obligation, the transaction price is allocated and recognised across the full contract.

For contracts that include a penalty clause for late delivery, revenue is recognised net of any expected penalty amount. This variable consideration is estimated based on the most likely outcome and requires judgment, which can impact the timing of recognising revenues. This amount is estimated upon contract inception, and then HEL updates its assessment and estimates of this likelihood at each reporting period. Upon this reassessment, if there is an adjustment to be made to the amount of revenue to be recognised, these adjustments are made in the current reporting period, in accordance with IAS 8.

A contract liability is recorded when consideration is received from a customer prior to fully satisfying a milestone obligation in a contract. HEL’s contract liabilities primarily consist of cash received in relation to a contract where a penalty is expected to be incurred. These contract liabilities will be recognised as revenue once future milestones are achieved. Contract liabilities are included on the Balance Sheet as “Unearned Revenue”.