FRS 3

1. FRS 3 REPORTING FINANCIAL PERFORMANCE Copyright: Pru Marriott University of Glamorgan

2. Introduction • FRS 3 attempts to improve the quality of financial information provided to shareholders. It is applied in conjunction with CA. • The standard addresses the following issues: • New structure to the profit and loss account; • Extraordinary items; • Statement of total recognised gains and losses; • Other disclosure requirements: • A note of historical cost profits and losses; • A reconciliation of movements in shareholders’ funds; • Earnings per share; • Covers prior period adjustments. Copyright: Pru Marriott University of Glamorgan

3. New Structure to the P&L A/c Number of important components of financial performance highlighted: i. results of continuing operations; ii. results of acquisitions during the year; iii. results of discontinued operations*; iv. certain exceptional items#: v. extraordinary items@ Copyright: Pru Marriott University of Glamorgan

4. * Discontinued Operations Operations sold or terminated satisfying all the following: Completed in period or before maximum of 3 months’ into following period (or date directors sign the accounts if earlier); Activities ceased permanently; Material effect; Clearly distinguishable. Copyright: Pru Marriott University of Glamorgan

5. # Exceptional Items Abnormal write-offs: Stock and Bad debts Abnormal provisions for losses on Long-term contracts Settlement of insurance claims Sale or termination of an operation Fundamental reorganisation or restructuring Disposal of fixed asset Material Within the ordinary activities Identified because of size or incidence Items requiring Separate disclosure Items NOT requiring Separate disclosure Super Exceptionals Shown after Operating profit Allocate to appropriate statutory format headings & attributed to continuing or discontinued operations as appropriate. If sufficiently material show on face of P&L Copyright: Pru Marriott University of Glamorgan

6. @ Extraordinary Items Material High degree of abnormality Fall outside ordinary activities Not expected to recur This would be exceptional. That would be extraordinary. Copyright: Pru Marriott University of Glamorgan

7. @ Extraordinary Itemsif they occurred: Shown on the face of the profit and loss account before dividends (tax on extraordinary item shown separately): Profit or ordinary activities after tax xxx Extraordinary item (gross) xxx Tax on extraordinary item (xxx) xxx Copyright: Pru Marriott University of Glamorgan

8. Example 1 – Mop and Bucket 2005 2004 Turnover: Continuing operations Acquisition Discontinued operations Cost of sales Gross Profit Distribution costs Administrative expenses Operating profit Provision for loss on operations to be discontinued Profit on sale of fixed asset Major reorganisation costs Loss on sale of discontinued operations 385,000 285,000 15,000 . 500 – 100 – 15 = 385 360 – 75 = 285 400,000 285,000 100,000 75,000 500,000 360,000 (160,000) (180,000) 340,000 180,000 ( 50,000) ( 40,000) ( 75,300) ( 75,000) 100 – 15 – 10 + 0.3 = 75.3 214,700 65,000 75 Continuing operations Acquisitions Discontinued 229.7 5 - ( 20) (10) ( 20,000) 300 ( 15,000) ( 10,000) . Copyright: Pru Marriott University of Glamorgan 170,000 65,000

9. Statement of Total Recognised Gains and Losses Prior Year Adjustments MATERIAL adjustments applicable to prior periods arising from: Changes in accounting policy Correction of fundamental errors They do not include normal recurring adjustments or corrections of accounting estimates made in prior periods. Primary financial statement It includes profit and loss for the period, together with all other movements on reserves reflecting recognised gains and losses attributable to shareholders. Unrealised surplus or deficit on revaluation of fixed assets Unrealised surplus or deficit on revaluation of investment properties Prior year adjustments Copyright: Pru Marriott University of Glamorgan

10. Statement of Total Recognised Gains and Losses £ Profit and loss for the year XXX Items taken directly to reserves: Surplus on revaluation of fixed assets XXX Surplus/deficit on revaluation of investment properties XXX XXX Total recognised gains and losses XXX Prior period adjustments XXX Total gains and losses recognised since last statement XXX Copyright: Pru Marriott University of Glamorgan

11. Reconciliation of Movements in Shareholders’ Funds This reconciliation is included in the accounts as a note intended to bring together the financial performance of the entity as reflected in: Profit and loss account; STRGL; All other changes in shareholders funds not recognised above. Copyright: Pru Marriott University of Glamorgan

12. Reconciliation of Movements in Shareholders’ Funds £ Profit for the financial year XXX Dividends* (XXX) XXX Other recognised gains and losses (from STRGL) XXX New share capital* XXX Net addition to shareholders’ funds XXX Opening shareholders’ funds XXX Closing shareholders’ funds XXX * Items not included in the STRGL Copyright: Pru Marriott University of Glamorgan

13. EXAMPLE 2 Extracts from Dustpan Ltd’s profit and loss account for the year ended 31 December, 2004 were as follows: £000 Profit after tax 1,024 Dividend ( 240) Retained profit 784 During the year the following events took place: (a) Assets were revalued upwards by £190,000. (b) £450,000 share capital was issued during the year. (c) Certain stock items relating to 2004 had been overvalued by £80,000. This overvaluation has been taken into account in the opening stock of 2005 but not in the closing stock of 2004. (d) The company’s investment properties previously revalued by £181,000 were written down by £181,000. (e) Shareholders funds on 1 January 2005 amounted to £1,700,000. REQUIRED: Show how the above events for the year would be recorded in the Statement of Total Recognised Gains and Losses and the Reconciliation of Movements in Shareholders’ Funds. Copyright: Pru Marriott University of Glamorgan

14. Dustpan LtdStatement of Total Recognised Gains and Losses period ending 31 December 2004 £ Profit and loss for the year Items taken directly to reserves: Surplus on revaluation of fixed assets Deficit on the revaluation of investment properties Total recognised gains and losses Prior period adjustments Total gains and losses recognised since last statement 1,024 190 ( 181) 1,033 ( 80) 953 Copyright: Pru Marriott University of Glamorgan

15. Dustpan Ltd Reconciliation of Movements in Shareholders’ Funds period ending 31 December 2004 £ £ Profit for the financial year Dividends 784 Other recognised gains and losses (from STRGL) New share capital Net addition to shareholders’ funds Opening shareholders’ funds Closing shareholders’ funds 1,024 ( 240) 784 ( 71) 450 1,163 1,700 2,863 Copyright: Pru Marriott University of Glamorgan

16. Note of Historical Cost Profits and Losses Memorandum item only. It presents an abbreviated profit and loss account which adjusts profit or loss for the: realisation of revaluation gains arising from previous periods (i.e. difference between the profit on disposal of a revalued fixed asset and that which would have been recorded had the asset not been revalued); difference between historical cost annual depreciation charge and the depreciation charge calculated on the revalued amount. Copyright: Pru Marriott University of Glamorgan

17. Note of Historical Cost Profits and Losses £ Reported profit before tax XXX Realisation of revaluation gains arising from previous periods XXX Difference between historic cost depreciation and depreciation based on the revalued amount XXX XXX Copyright: Pru Marriott University of Glamorgan

18. ILLUSTRATION • An asset purchased five years ago at a cost of £10,000 has an estimated life of ten years and an even pattern of usage with no estimated residual value. Two years ago the asset was revalued to £14,000. It is now sold for £9,000. • (a) Calculate the realisation of revaluation gains arising from the sale of the revalued fixed asset. • (b) Reconcile the figure calculated in part (a). To do this you need to calculate: • The accumulated depreciation figure based on (1) historic cost • and (2) revalued amount. • The profit or loss on sale of the asset at (1) historic cost and (2) revalued amount. Copyright: Pru Marriott University of Glamorgan

19. Realisation of property revaluation gain: Revalued amount Historical NBV @ date of revaluation Realisation of Revaluation Gains 14,000 7,000 7,000 Accumulated Depreciation: 10,000 / 10 x 3 = 3,000 Net Book Value at date of revaluation 10,000 – 3,000 = 7,000 Copyright: Pru Marriott University of Glamorgan

20. Depreciation pa based on historic cost: 10,000 / 10 = 1,000 Depreciation pa based on revalued amount: 14,000 / 7 = 2,000 Copyright: Pru Marriott University of Glamorgan

21. The profit or loss on sale of the asset at historic cost Historical cost Accum Dep’n Net carrying value Proceeds from sale PROFIT ON SALE The profit or loss on sale of the asset at revalued amount Revalued amount Accum Dep’n Net carrying value Proceeds from sale LOSS ON SALE 10,000 5,000 10,000 / 10 x 5 = 5,000 5,000 9,000 4,000 14,000 4,000 14,000 / 7 x 2 = 4,000 10,000 9,000 1,000 Copyright: Pru Marriott University of Glamorgan

22. The realisation gain calculated in part (a) can now be reconciled as follows: Profit on historic cost Loss on revalued amount Difference Add: Additional depreciation charged on revalued amount over 2 years 4,000 (1,000) 5,000 2,000 7,000 7,000 – 5,000 = 2,000 Copyright: Pru Marriott University of Glamorgan

23. EXAMPLE 3 • Brush Ltd. reported a profit before tax of £268,000 for the year ended 31 December 2004. During the year the following transactions in fixed assets took place. • (a) An asset with a book value of £80,000 was revalued to £120,000. The remaining useful life is estimated to be five years. • (b) An asset (with a five year useful life at the date of revaluation) that was revalued by £50,000 (book value £40,000) was sold one year after revaluation for £78,000. • REQUIRED: • Show the reconciliation of profit to historical cost profit for the year ended 31 December, 2004. Copyright: Pru Marriott University of Glamorgan

24. Realisation of property revaluation gain: Revalued amount Historical NBV @ date of revaluation Realisation of Revaluation Gains 90,000 40,000 50,000 Copyright: Pru Marriott University of Glamorgan

25. Accumulated depreciation figure based on historic cost: 40,000 / 5 = 8,000 x 1 = 8,000 Accumulated depreciation figure based on revalued amount: 90,000 / 5 = 18,000 x 1 = 18,000 Copyright: Pru Marriott University of Glamorgan

26. The profit or loss on sale of the asset at historic cost Historical cost Accum Dep’n Net carrying value Proceeds from sale PROFIT ON SALE The profit or loss on sale of the asset at revalued amount Revalued amount Accum Dep’n Net carrying value Proceeds from sale PROFIT ON SALE 40,000 8,000 40,000 / 5 x 1 = 8,000 32,000 78,000 46,000 90,000 18,000 90,000 / 5 x 1 = 18,000 72,000 78,000 6,000 Copyright: Pru Marriott University of Glamorgan

27. The realisation gain calculated in part (a) can now be reconciled as follows: Profit on historic cost Profit on revalued amount Difference Add: Additional depreciation charged on revalued amount for 1 year 46,000 6,000 40,000 10,000 50,000 18,000 – 8,000 = 10,000 Copyright: Pru Marriott University of Glamorgan

28. Brush Ltd Note of Historical Cost Profits and Losses £ Reported profit before tax Realisation of revaluation gains arising from previous periods Difference between historic cost depreciation and depreciation based on the revalued amount 268,000 50,000 8,000 326,000 120,000 – 80,000 / 5 = 8,000 Copyright: Pru Marriott University of Glamorgan