STUDY MATERIAL FIVE

Accounting and Reporting Policy

Introduction
Policies used by an organization is very germane in determining the internal process and
procedures of the organization. In this study session, we will be talking essentials of
accounting policies and prior period error

Learning Outcome for Study Session 5

At the end of this session, you should be able to:

5.1 Explain the essentials of accounting policies

5.2 Define the term ‘prior period error”

5.1 Accounting Polices

According to IAS8, accounting policies is defined as ‘the specific principles, bases,
conventions, rules and practices applied by an entity in preparing and presenting financial
statements”. The use of the word “policies” suggests that entities are allowed to choose
between alternative accounting treatments.
Accounting policies are required to be disclosed in the notes which form part of the financial
statements by the International Accounting Standard 1 (IAS 1).
Selection of accounting Policies
Guidance on the selection of accounting policies is given in IAS 8 as follow:
a) Where an international standard specifically applies to an item or transaction, the
relevant standard should determine the accounting policy that applies to the item.
b) Where there is no international standard or interpretation which specifically applies to
the item concerned, management should use its judgment in selecting an accounting
policy that results in relevant and reliable information.
c) In making this judgment above, management should refer to:
i. The guidance provided by international standards and interpretations which
deal with similar and related issues
ii. The definitions, recognition criteria and measurement concepts for assets,
liabilities, income and expenses given in the IASB Conceptual Framework.

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 d) Having selected an accounting policy in relation to an item, that policy should be
applied consistently to all similar items.
Changes in accounting policies
Any of the accounting policies of an entity can be changed only if the change:
a) Is required by an international standard or interpretation; or
b) Results in the financial statements providing reliable and more relevant information
than would be the case if the accounting policy were not changed.
The must be consistency in the use of accounting policies in order for users of financial
statements to be able to compare an entity’s financial statements from one accounting period
to another. Accounting policies should therefore not be changed except the conditions above
are satisfied.
Accounting for a change in accounting policy
i. Where an accounting policy is changed as a result of the initial application of an
international standard, the change should he accounted for in accordance with the
transitional provisions (if any) which are provided in that standard.
ii. Where there are no transitional provisions or if the change in policy was made
voluntarily so as to improve the relevance of the financial statements, IAS 8 requires
that the change should be accounted for retrospectively.
iii. Retrospective application means that comparative figures for the previous period (or
previous periods if comparatives are provided for more than one period) must be
adjusted and presented as if the new accounting policy had always been applied.
Retrospective application maintains comparability between accounting periods and
this approach must usually he adopted unless it is impracticable to do so.
iv. Exception to the retrospective application arises in the case of Property, Plant and
Equipment (IAS 16) and Intangible Assets (IAS 38) when an entity changes from the
cost model to the revaluation model. The relevant standards in these cases require that
the change is accounted for prospectively rather than retrospectively. By prospective
application, companies need not recast opening balances to show the effect of the
change in policy but show the effect in the current and possibly future balances.
Accounting estimates
i. An accounting estimate can be defined as an approximation of the amount of an item
or transaction for which there is no precise means of value or measurement. Estimates
are usually made to anticipate events that have not yet occurred, but which are
considered to be probable of occurring.

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 ii. According to IAS8 “many items in financial statements cannot be measured with
precision but can only be estimated”. Such items include bad and doubtful
receivables, the useful lives of depreciable non-current assets, the net realisable value
of inventories, etc.
iii. IAS8 also states that “the use of reasonable estimates is an essential part of the
preparation of financial statements and does not undermine their reliability”.
iv. Since estimates are an approximation, they cannot be precise. Therefore an estimate
made in the past may need to be revised if changes occur to the conditions on which
the original estimate was based or if new information becomes available. For instance,
if new information is received concerning the solvency of a customer, a trade
receivable which was previously estimated to be 50% collectible might now be
estimated as being of higher value.
v. IAS8 requires an entity which changes an accounting estimate to account for the
change prospectively, not retrospectively. This means that the effect of the change
should be dealt with in the entity’s financial statements for the current period and (if
applicable) future periods. But the standard does not require the restatement of
comparative figures for prior periods.
vi. The above requirement is totally different from the treatment of changes in accounting
policy. If it is difficult to distinguish a change in an accounting policy from a change
in an accounting estimate, IAS8 requires that the change concerned should be treated
as a change in an accounting estimate.
Disclosure of changes in accounting estimates
The following disclosures are required by IAS8:
i. Disclosure of the nature and amount of a change in an accounting estimate which has
an effect in the current period or is expected to have an effect in future periods.
ii. The requirement above is however subject to the materiality rule in IAS1. This rule
states that a specific disclosure required by a standard or interpretation need not be
provided “if the information is not material”

5.2 Prior Period Error

i. According to IAS8 prior period errors are omissions from, and misstatements in, the
entity’s financial statements for one or more prior periods arising from a failure to
use, or misuse of, reliable information that:

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 a) Was available when financial statements for those periods were authorised for issue:
and
b) Could reasonably be expected to have been obtained and taken into account in the
preparation and presentation of those financial statements.
ii. Such errors could be caused by mathematical mistakes, mistakes in applying
accounting policies, oversights or misinterpretations of facts or by fraud.
iii. Prior period errors are material errors of a previous accounting period that are
undetected until subsequent period.
Correction of prior period errors
i. IAS8 requires that prior period errors that are material should be corrected
retrospectively
ii. This involves the following approach:
a) Restating comparative figures for the prior period(s) in which the error occurred, or
b) If the error occurred before the earliest prior period for which comparatives are
presented, restating the opening balances of assets, liabilities and equity for the
earliest prior period presented.
iii. An entity which corrects a prior period error retrospectively must present a statement
of financial position as at the beginning of the previous period.
Disclosure for prior period errors
The following disclosures are required in the notes to the financial statements by IAS 8 when
an entity corrects a material prior period error:
a) The nature of the prior period error
b) For each prior period presented, the amount of the correction to each affected line
item in the financial statements and, if applicable, the amount of any correction to the
entity’s earnings per share
c) The amount of the correction at the beginning of the earliest prior period presented
d) If retrospective restatement is impracticable for a particular prior period, a
description of the circumstances that have led to this condition and a description of
how (and from when) the error has been corrected.
Case Study 1
Daybim Ventures Ltd prepares its annual financial statements to 31 December. For the year
ended in 2014, it was discovered that the inventory was overstated by ₦25m. This amount
was material and resulted from calculation error between the store and production. The error
was discovered when the 2015 was being finalized.

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Extract from the draft statement of comprehensive income is as follow:
2015 2014
₦’m ₦’m
Revenue 470 395
Cost of Goods sold 375 270
Gross Profit 95 125
Other expenses 60 55
Profit before taxation 35 70
Taxation 10.5 21
Profit after taxation 24.5 49

The following information is related to the draft report:

a) No dividends were paid in the last five years
b) Company tax rate is 30%
Required: Make necessary adjustments and prepare an extract statement of comprehensive
income for 2015 and the restated comparative figures for 2014.

Solution
2015 2014
₦’m ₦’m
Revenue 470 395
Cost of Goods sold 350 295
Gross Profit 120 100
Other Expenses 60 55
Profit before taxation 60 45
Taxation 18 13.5
Profit after taxation 42 31.5

Summary
i. IAS8 deals with accounting policies, changes in accounting estimates and the
correction of prior period errors.
ii. Accounting policies are the specific principles, bases. conventions, rules and
practices applied by an entity in preparing and presenting its financial statements.
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 iii. IFRSs issued by the IASB do not generally permit any choice of accounting
treatment but some of the IASs which were adopted by the IASB on its inception
do offer a choice. Therefore an entity’s accounting policies will usually be a
mixture of policies required by standards and policies chosen by the entity.
iv. IAS8 provides guidance on the selection of accounting policies.
v. Accounting policies should be applied consistently and should be changed only if
the change is required by an international standard or an interpretation, or lilt
results in fellable and more relevant information.
vi. A change in accounting policy should be accounted for retrospectively. This
involves restating comparative figures for each prior period presented. Details of
the change must be disclosed in the notes to the financial statements.
vii. A change in an accounting estimate should be accounted for prospectively and (if
material) disclosed in the notes to the financial statements.
viii. Material prior period errors should be accounted for retrospectively and
disclosed in the notes to the financial statements.

In-Text Question (ITQs) 5.2

1. What are the approach in correcting prior period errors in IASB 8?

In-Text Answer (ITAs) 5.2

a) Restating comparative figures for the prior period(s) in which the error occurred, or
b) If the error occurred before the earliest prior period for which comparatives are
presented, restating the opening balances of assets, liabilities and equity for the earliest prior
period presented.

Summary of Study Session 5

In Study Session 5, you have learned the following;
1. According to IAS8, accounting policies is defined as ‘the specific principles, bases,
conventions, rules and practices applied by an entity in preparing and presenting financial
statements”. The use of the word “policies” suggests that entities are allowed to choose
between alternative accounting treatments.
Accounting policies are required to be disclosed in the notes which form part of the financial
statements by the International Accounting Standard 1 (IAS 1).

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Selection of accounting policies
Guidance on the selection of accounting policies is given in IAS 8 as follow:
a) Where an international standard specifically applies to an item or transaction, the
relevant standard should determine the accounting policy that applies to the item.
b) Where there is no international standard or interpretation which specifically applies to
the item concerned, management should use its judgment in selecting an accounting
policy that results in relevant and reliable information.
c) In making this judgment above, management should refer to:
i. The guidance provided by international standards and interpretations which
deal with similar and related issues
ii. The definitions, recognition criteria and measurement concepts for assets,
liabilities, income and expenses given in the IASB Conceptual Framework.
d) Having selected an accounting policy in relation to an item, that policy should be
applied consistently to all similar items.
2. According to IAS8 prior period errors are omissions from, and misstatements in, the
entity’s financial statements for one or more prior periods arising from a failure to use, or
misuse of, reliable information that:
c) Was available when financial statements for those periods were authorized for issue:
and
d) Could reasonably be expected to have been obtained and taken into account in the
preparation and presentation of those financial statements.
Such errors could be caused by mathematical mistakes, mistakes in applying
accounting policies, oversights or misinterpretations of facts or by fraud.
iv. Prior period errors are material errors of a previous accounting period that are
undetected until subsequent period.
Glossary of Terms
Policies: a course or principle of action adopted or proposed by an organization or individual.

Period: a length or portion of time.

Errors: the state or condition of being wrong in conduct or judgment.

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